UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2006
Commission file number: 0-16960
________________
THE GENLYTE GROUP INCORPORATED
10350 ORMSBY PARK PLACE, SUITE 601
LOUISVILLE, KY 40223
(502) 420-9500
| Incorporated in Delaware | | I.R.S. Employer |
| | | Identification No. 22-2584333 |
Securities registered pursuant to Section 12(b) of the Act:
| Title of each class | Name of each exchange on which registered |
Common Stock, par value $.01 per share | NASDAQ National Market System |
| Preferred Stock Purchase Rights | NASDAQ National Market System |
Securities registered pursuant to Section 12(g) of the Act: None
| Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. | x Yes o No |
| Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. | o Yes x No |
| Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. | x Yes o No |
| Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. | o |
| Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. | |
Large accelerated filer x Accelerated filer o Non-accelerated filer o | |
| Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act). | o Yes x No |
Aggregate market value of common stock held by non-affiliates on July 1, 2006: $2,041,094,131.
Number of shares of common stock outstanding as of February 24, 2007: 28,403,916.
| DOCUMENTS INCORPORATED BY REFERENCE: |
| | | |
| Document | | Part of Form 10-K |
Portions of the Proxy Statement for the Annual Meeting of Stockholders to be held April 19, 2007. | | Part III |
2006 FORM 10-K
TABLE OF CONTENTS
| | | PAGE |
| | | |
| Item 1. | | 1 |
| Item 1A. | | 4 |
| Item 1B. | | 5 |
| Item 2. | | 6 |
| Item 3. | | 6 |
| Item 4. | | 6 |
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| | | |
| Item 5. | | 7 |
| Item 6. | | 9 |
| Item 7. | | 10 |
| Item 7A. | | 25 |
| Item 8. | | 27 |
| Item 9. | | 63 |
| Item 9A. | | 63 |
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| Item 10. | | 64 |
| Item 11. | | 65 |
| Item 12. | | 65 |
| Item 13. | | 65 |
| Item 14. | | 65 |
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| Item 15. | | 66 |
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| 67 |
| 68 |
The Genlyte Group Incorporated (“Genlyte”) was incorporated in the State of Delaware in 1985 as a wholly-owned subsidiary of Bairnco Corporation. In 1988 Genlyte was spun off from Bairnco Corporation and became an independent public company.
On August 30, 1998, Genlyte and Thomas Industries Inc. (“Thomas”) completed the combination of the business of Genlyte with the lighting business of Thomas (“Thomas Lighting”), in the form of a limited liability company named Genlyte Thomas Group LLC (“GTG”). Genlyte contributed substantially all of its assets and liabilities to GTG and received a 68% interest in GTG. Thomas contributed substantially all of the assets and certain related liabilities of Thomas Lighting and received a 32% interest in GTG. For more information regarding the formation of GTG, see note (1) in the “Notes to Consolidated Financial Statements” section of Item 8 “Financial Statements and Supplementary Data.”
As of the close of business on July 31, 2004, Genlyte, through its wholly-owned subsidiaries, acquired the 32% minority interest owned by Thomas in GTG. The transaction was structured as an asset purchase of various interests owned by Thomas and certain of its subsidiary entities. The purchase price was determined through arm’s length negotiations between Genlyte and Thomas. For more information regarding the acquisition of the 32% minority interest in GTG, see note (3) in the “Notes to Consolidated Financial Statements” section of Item 8 “Financial Statements and Supplementary Data.”
Throughout this report on Form 10-K, the term “Company” as used herein refers to The Genlyte Group Incorporated, including the consolidation of Genlyte, GTG, and all subsidiaries.
The Company designs, manufactures, markets, and sells lighting fixtures, controls, and related products for a wide variety of applications in the commercial, residential, and industrial markets primarily in North America. The Company operates in these three segments through the following divisions: Capri/Omega, Chloride Systems, Controls, Day-Brite, Gardco, Hadco, JJI, Lightolier, Shakespeare Composite Structures, Strand, Supply, Thomas Residential, and Wide-Lite in the United States, and Canlyte, Ledalite, Lumec, and Thomas Lighting Canada in Canada. The Company’s JJI and Strand divisions, which were acquired during 2006, also have operations in Germany and Hong Kong, respectively. The Company markets its products under the following brand names:
| Alkco, Allscape, Ardee, Bronzelite, Canlyte, Capri, Carsonite, Chloride Systems, Crescent, D’ac, Day-Brite, Emco, Entertainment Technology, ExceLine, Forecast, Gardco, Guth, Hadco, Hanover Lantern, High-Lites, Hoffmeister, Horizon, Lam, Ledalite, Lightolier, Lightolier Controls, Lite-energy, Lumec, McPhilben, Metrolux, Morlite, Nessen, Omega, Quality, Shakespeare Composite Structures, Specialty, Stonco, Strand, Thomas Lighting, Thomas Lighting Canada, Translite Sonoma, USS Manufacturing, Vari-Lite, Vista, and Wide-Lite. |
The Company’s products primarily utilize incandescent, fluorescent, light emitting diodes (“LED”), and high-intensity discharge (“HID”) light sources and are marketed primarily to distributors who resell the products for use in new commercial, residential, and industrial construction as well as in remodeling existing structures.
Because the Company does not principally sell directly to the end-user of its products, management cannot determine precisely the percentage of its revenues derived from the sale of products installed in each type of building or the percentage of its products sold for new construction versus remodeling. The Company’s sales, like those of the lighting fixture industry in general, depend significantly on the level of activity in new construction and remodeling.
Part of the Company’s strategy is to strengthen its product lines and profitably grow sales through the acquisition of other lighting companies. A description of recent acquisitions is contained in note (3) in the “Notes to Consolidated Financial Statements” section of Item 8 “Financial Statements and Supplementary Data.”
Financial Information About Industry Segments
Financial information about the Company’s industry segments for the last three fiscal years is set forth in note (20) in the “Notes to Consolidated Financial Statements” section of Item 8 “Financial Statements and Supplementary Data.”
Products and Distribution
The Company designs, manufactures, markets, and sells the following types of products:
| Incandescent, fluorescent, LED, and HID lighting fixtures; lighting controls; poles; and accessories for commercial, residential, industrial, institutional, medical, entertainment, hospitality, theatrical and sports markets, and task lighting for all markets. |
The Company’s products are marketed by independent sales representatives and Company direct sales personnel who sell to distributors, electrical wholesalers, mass merchandisers, and national accounts. In addition, the Company’s products are promoted through architects, engineers, contractors, and building owners. The products are sold principally throughout the United States, Canada, and Mexico. However, our recent acquisitions of JJI and Strand included operations in Germany and Hong Kong, respectively.
Raw Materials Sources and Availability
The Company purchases large quantities of raw materials and components -- mainly steel, aluminum, ballasts, sockets, wire, plastic, lenses, glass, and corrugated cartons -- from multiple sources. No significant supply problems have been encountered in recent years. Relationships with vendors have been satisfactory. Even though the industry has experienced significant cost increases relating to raw materials, the Company successfully procured adequate supplies of raw materials and initiated price increases for its products which more than offset the increased costs.
Patents and Trademarks
The Company has over 500 United States and foreign mechanical patents, design patents, and registered trademarks. The Company maintains such protections by periodic renewal of trademarks and payments of maintenance fees for issued patents. The Company vigorously enforces its intellectual property rights. The Company does not believe that a loss or expiration of any presently held patent or trademark is likely to materially impact its business.
Seasonal Effects on Business
There are no predictable significant seasonal effects on the Company’s results of operations.
Working Capital
The Company’s terms of collection vary but are generally consistent with lighting industry practices, including programs to extend terms beyond 30 days. The Company attempts to keep inventory levels at the minimum required to satisfy customer requirements. The Residential segment, as well as the commodity-type products in the Commercial and Industrial and Other segments, generally require substantial quantities of finished goods to satisfy quick shipment of customer orders. Other products that are made to order require less finished goods but more raw material and component inventories.
Backlog
Backlog was $131,160,000 as of December 31, 2006; $95,373,000 as of December 31, 2005; and $87,540,000 as of December 31, 2004. The Company expects to ship substantially the entire backlog at December 31, 2006 in 2007.
Competition
The Company estimates the U.S. and Canadian lighting market to consist of approximately $8.9 billion of annual revenues. The industry is very mature, and although it contains a few large companies, no single company is truly dominant. The Company believes its sales make it one of the two highest-selling lighting fixture manufacturers in North America, along with the lighting equipment segment of Acuity Brands, Inc.. However, the lighting industry is highly fragmented, with markets served by many international, national, and regional companies.
The Company’s products span major market segments in the lighting industry and therefore compete in a number of different markets with numerous competitors for each type of fixture. The principal measures of competition in indoor and outdoor fixtures are price, service (delivery), design, innovation, and product quality and performance. Certain commodity-type products compete primarily on price, delivery, and quality. More differentiated products compete on design, innovation, and product performance, including energy efficiency. The Company strives to compete in all of these measures of competition and seeks to differentiate itself through innovation and energy efficiency.
Research and Development
The Company continues to develop new innovative lighting solutions to meet the needs of its customers. Costs incurred for research and development activities, as determined in accordance with accounting principles generally accepted in the United States, were $15,280,000, $11,459,000, and $11,497,000 during 2006, 2005, and 2004, respectively.
Environmental Regulations
The Company’s operations are subject to Federal, state, local, and foreign laws and regulations enacted to regulate the discharge of materials into the environment or otherwise relating to the protection of the environment. The Company establishes reserves for known environmental claims when the costs associated with the claims become probable and can be reasonably estimated. The Company had reserves of $3,920,000 and $3,257,000 at December 31, 2006 and 2005, respectively, related to estimated environmental remediation plans at several company facilities. Management believes these reserves to be sufficient to cover the Company’s estimated environmental liabilities at that time; however, management continually evaluates the adequacy of those reserves, and they could change. Management does not anticipate that compliance with current environmental laws and regulations will materially affect the Company’s capital expenditures, results of operations, or competitive position in 2007.
Employees
At December 31, 2006, the Company employed 3,891 union and nonunion production workers and 2,495 engineering, administrative, and sales personnel, for a total of 6,386 employees. Several of the collective bargaining agreements, covering 619 employees, which are 21.8% of the union employees and 15.9% of total production employees, expire in 2007. Relationships with unions are satisfactory. Expiration and re-negotiation of collective bargaining agreements is not expected to significantly impact 2007 production or results of operations.
International Operations
The Company has international operations in Canada, Mexico, Germany, and Hong Kong. Financial information about the Company’s operations by geographical area for the last three fiscal years is set forth in note (21) in the “Notes to Consolidated Financial Statements” section of Item 8 “Financial Statements and Supplementary Data.” Management generally believes there are no substantial differences in business risks with these international operations compared with domestic operations, except the Company is subject to different economic uncertainties in its foreign operations and is subject to foreign currency exchange rate fluctuations.
Disclosure Regarding Forward-Looking Statements
The Private Securities Litigation Reform Act of 1995 provides a “safe harbor” for forward-looking statements. Certain information in Items 1, 2, 3, 5, 7 and 8 of this report on Form 10-K includes information that is forward-looking. The matters referred to in such information could be affected by the risks and uncertainties involved in the Company’s business. Such factors include, but are not limited to, the following: the highly competitive nature of the lighting business; the overall strength or weakness of the economy, construction activity, and the commercial, residential, and industrial lighting markets; terrorist activities or war and the effects they may have on the Company or the overall economy; the ability to maintain or increase prices; customer acceptance of new product offerings; ability to sell to targeted markets; the performance of the Company’s specialty and niche businesses; availability and cost of steel, aluminum, copper, zinc coatings, corrugated packaging, ballasts, and other raw materials; work interruption or stoppage by union employees; increases in energy and freight costs; workers’ compensation, casualty and group health insurance costs; the costs and outcomes of various legal proceedings; increases in interest costs arising from an increase in rates; the operating results of recent acquisitions; future acquisitions; the loss of key management personnel; foreign currency exchange rates; changes in tax rates or laws; market response to the Energy Policy Act of 2005; and changes in accounting standards. The Company will not undertake and specifically declines any obligation to update or correct any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events.
Available Information
The Company makes available free of charge through its Internet web site its annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, any amendments to those reports, and proxy statements for its annual meeting of stockholders as soon as reasonably practicable after this material has been electronically filed with, or furnished to, the Securities and Exchange Commission (“SEC”). This material may be accessed by visiting the Investor Relations section of the Company’s web site at http://www.Genlyte.com.
The public may read and copy any materials the Company files with the SEC at the SEC’s Public Reference Room at 450 Fifth Street, M.W., Washington, D.C. 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. In addition, since the Company is an electronic filer, reports, proxy, information statements, and other statements regarding the Company can be obtained on the SEC’s website at http://www.sec.gov.
The Company’s business, financial condition, operating results and cash flows can be impacted by a number of factors, including, but not limited to those set forth below, any one of which could cause the Company’s actual results to vary materially from recent results or from anticipated future results.
The Highly Competitive Nature of the Lighting Business
The Company’s products span major market segments in the lighting industry, competing in a number of different markets with numerous competitors for each type of fixture. The principal measures of competition in indoor and outdoor fixtures are price, service (delivery), design, innovation, and product quality and performance. Certain commodity-type products compete primarily on price, delivery, and quality. More differentiated products compete on design, innovation, and product performance, including energy efficiency. Some of the Company's competitors may drive down industry prices if the competitors' costs are significantly lower. In addition, some of the Company's competitors' financial, technological and other resources may be greater than Genlyte's resources, and such competitors may be better able to withstand changes in market conditions. The Company's competitors may respond more quickly to new or emerging technologies and changes in customer requirements. Further, consolidation of the Company's competitors in any of the markets in which it competes may result in reduced demand for the Company's products. In addition, in some of the Company’s businesses, new competitors could emerge by modifying existing production facilities to manufacture products that directly compete with the Company's products. The occurrence of any of these events could significantly impact results of operations.
The Overall Strength or Weakness of Construction Activity, and the Commercial, Residential, and Industrial Lighting Markets
The Company’s sales, like those of the lighting fixture industry in general, depend significantly on the level of activity in new construction and remodeling. Because the Company does not principally sell directly to the end-user of its products, management cannot determine precisely the percentage of revenues derived from the sale of products installed in each type of building or the percentage of products sold for new construction versus remodeling. However, a significant fluctuation in commercial, residential, or industrial construction activity could significantly impact results of operations.
The commercial market is sensitive to changes in office vacancy rates, interest rates, as well as overall demand for retail, healthcare, school, hospitality, and entertainment facilities. The residential market is sensitive to changes in economic conditions such as the level of employment, consumer confidence, consumer income, consumer price index, housing starts, availability of financing and interest rate levels. The industrial market is sensitive to changes in gross domestic product, capacity utilization rates, factory operating rates, producer price index and available warehouse space. Adverse changes in any of these conditions generally, or in the market regions where the Company operates, could significantly impact results of operations.
Customer Acceptance of New Product Offerings
The Company is committed to product innovation, with a goal to generate 30% of annual sales from new products released within the past three years. The Company estimates that approximately 26% of its net sales for 2006 were from new products released within the past three years and finds that it’s most profitable divisions achieve or come very close to the 30% goal.
Development of new products for targeted markets requires the Company to develop or otherwise leverage leading technologies in a cost-effective and timely manner. Failure to meet these changing demands could result in a loss of competitive position and seriously impact future revenues. Products or technologies developed by others may render the Company’s products or technologies obsolete or noncompetitive. A fundamental shift in technologies in key product markets could have a material adverse effect on the Company’s competitive position within the industry.
The Availability and Cost of Raw Materials and the Ability to Maintain or Increase Prices
The Company purchases large quantities of raw materials and components -- mainly steel, aluminum, ballasts, sockets, wire, plastic, lenses, glass, and corrugated cartons. Materials comprise the largest component of costs, representing over 70% of the cost of sales in 2006. Further increases in the price of these items could further increase the Company’s operating costs and materially adversely affect margins. Although the Company attempts to pass along increased costs in the form of price increases, the Company may be unsuccessful due to competitive pressures, and even when successful, the timing of such price increases may lag significantly behind the incurrence of higher costs.
The Costs and Outcomes of Various Legal Proceedings
The Company’s results may be affected by the outcome of legal proceedings and other contingencies that cannot be predicted. As required by accounting principles generally accepted in the U.S. (GAAP), the Company estimates loss contingencies and establishes reserves based on its assessment of contingencies where liability is deemed probable and reasonably estimable in light of the facts and circumstances known at a particular point in time. Subsequent developments in legal proceedings may affect the Company’s assessment and estimates of the loss contingency recorded as a liability or as a reserve against assets in the financial statements and could result in an adverse effect on results of operations in the period in which a liability would be recognized or cash flows for the period in which damages would be paid. For a further description of legal proceedings, see Item 3 “Legal Proceedings.”
Integrating Future Acquisitions into Existing Operations
The Company seeks to grow through strategic acquisitions. In the past several years, the Company made various acquisitions and entered into joint venture arrangements intended to complement and expand its businesses, and may continue to do so in the future. The success of these transactions depends on the Company’s successful integration of assets and personnel, application of its internal controls processes, and cooperation with its strategic partners. The Company may encounter difficulties in integrating acquisitions with its operations, and in managing strategic investments. Furthermore, the Company may not realize the degree, or timing, of anticipated benefits when entering into a transaction. Any of the foregoing could adversely affect the Company’s business and results of operations.
The Loss of Key Personnel
The Company’s future success depends on the ability to attract and retain highly skilled design, engineering, technical, managerial, marketing, sales and finance personnel, and, to a significant extent, upon the efforts and abilities of senior management. The Company’s management philosophy of cost-control results in a very lean workforce, and the commitment to decentralized operations (discussed further below) also places greater emphasis on the strength of local management. Future success of the Company will depend on, among other factors, the ability to attract and retain qualified personnel, particularly management, engineers and technical sales professionals. The loss of key employees or the failure to attract or retain other qualified personnel, domestically or abroad, could have a material adverse effect on the Company’s results of operations.
Decentralized Operations
The Company is relatively decentralized in comparison with its peers. While management believes this practice has catalyzed growth and enabled the Company to remain responsive to opportunities and to customers’ needs, it necessarily places significant control and decision-making powers in the hands of local management. This means that “company-wide” business initiatives are often more challenging to implement than they would be in a more centralized environment. Depending on the nature of the initiative in question, such failure could adversely affect financial condition or results of operations.
Significant Union Workforce
The Company has received no written comments regarding its periodic or current reports from the staff of the Securities and Exchange Commission that were issued 180 days or more preceding the end of its 2006 fiscal year and that remain unresolved.
The leased corporate office of the Company is located in Louisville, Kentucky. Because of the large number of individual locations and the diverse nature of the operating facilities, specific description of each property owned and leased by the Company is neither practical nor meaningful to an understanding of the Company’s business. All of the buildings are of steel, masonry, or concrete construction, are maintained and generally in good working condition, and generally provide adequate and suitable space for the operations of each location. A summary of the Company’s property follows:
| Number of Facilities | | | 30 Owned Facilities | | | 73 Leased Facilities | | | 103 Combined Facilities | |
| | | | Total Square Feet | | | Total Square Feet | | | Total Square Feet | |
| Manufacturing Plants | | | 2,581,550 | | | 727,521 | | | 3,309,071 | |
| Warehouses | | | 1,044,470 | | | 790,780 | | | 1,835,250 | |
| Administrative Offices | | | 341,773 | | | 230,573 | | | 572,346 | |
| Sales Offices | | | 162,700 | | | 145,552 | | | 308,252 | |
| Other | | | 142,608 | | | 71,122 | | | 213,730 | |
| Total square feet | | | 4,273,101 | | | 1,965,548 | | | 6,238,649 | |
While management believes the Company’s facilities are generally adequate, the Company is currently, and will continue, reorganizing manufacturing and distribution facilities to more efficiently utilize capacity. The Company has additional capacity available at some of its manufacturing facilities, and consolidating activities have and will continue to occur. For example, in 2005 the Company consolidated its San Leandro, California and San Marcos, Texas manufacturing facilities into a newly constructed HID manufacturing facility in San Marcos. The overall strategy is to focus each facility on its core competency.
In the normal course of business, the Company is a plaintiff in various lawsuits and is also subject to various legal claims arising in the normal course of business, as a defendant and/or a potentially responsible party in patent, trademark, product liability, environmental and contract claims and litigation. Based on information currently available, it is the opinion of management that the ultimate resolution of all pending and threatened claims against the Company will not have a material adverse effect on the financial condition or results of operations of the Company.
The Company records liabilities and establishes reserves for legal claims against it when the costs or exposures associated with the claims become probable and can be reasonably estimated. Because the ultimate outcome of legal claims and litigation is uncertain, the actual costs of resolving legal claims and litigation may be substantially higher than the amounts reserved for such claims. In the event of unexpected future developments, it is possible that the ultimate resolution of such matters, if unfavorable, could have a material adverse effect on results of operations of the Company in future periods.
No matters were submitted to a vote of the stockholders during the fourth quarter of 2006.
| (a) | Genlyte’s common stock is traded on the NASDAQ National Market System under the symbol “GLYT.” Data regarding market prices of Genlyte’s common stock are included in note (22) in the “Notes to Consolidated Financial Statements” section of Item 8 “Financial Statements and Supplementary Data.” |
| | | |
| (b) | The number of common equity security holders is as follows: | |
| | Title of Class | Number of Holders of Record as of Year-end 2006 |
| | Common Stock, par value $.0l per share | 20,652 |
| | | |
| (c) | The Company has never paid a cash dividend on its common stock and does not expect to pay cash dividends on its common stock in the foreseeable future. This is not because of dividend restrictions, but because management believes the stockholders are better served if all of the Company’s earnings are retained for expansion of the business. The Company did not repurchase any of the shares of its common stock during its fiscal year ended December 31, 2006. Information concerning Preferred Stock Purchase Rights is included in note (18) in the “Notes to Consolidated Financial Statements” section of Item 8 “Financial Statements and Supplementary Data.” |
| | | |
| (d) | The following table gives information as of December 31, 2006 about equity awards under the Company’s stock option plans. |
| Plan Category | | Number of Securities to be Issued Upon Exercise of Outstanding Options, Warrants and Rights | | Weighted-Average Exercise Price of Outstanding Options, Warrants and Rights | | Number of Securities Remaining Available for Future Issuance Under Equity Compensation Plans (Excluding those Currently Outstanding) | |
| Equity compensation plans approved by security holders | | | 1,752,750 | | $ | 33.77 | | | 2,578,300 | |
| Equity compensation plans not approved by security holders | | | N/A | | | N/A | | | N/A | |
| Total | | | 1,752,750 | | $ | 33.77 | | | 2,578,300 | |
The Company’s only equity compensation plans are its 1998 and 2003 stock option plans, both of which were approved by the security holders.
| (e) | Comparative Stock Performance |
The graph below compares the cumulative total return on the Common Stock of Genlyte with the cumulative total return on the NASDAQ Stock Market Index (U.S. companies) and the Electric Lighting & Wiring Equipment Index (SIC Group 364) from December 31, 2001. The graph assumes the investment of $100 in Genlyte Common Stock, the NASDAQ stock Market Index, and the Electric Lighting & Wiring Equipment Index on January 1, 2002.
The information set forth below should be read in conjunction with Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Item 8 “Financial Statements and Supplementary Data.” (Dollars in thousands, except per share data.)
| | | 2006 | | 2005 | | 2004 | | 2003 | | 2002 | |
Summary of Operations | | | | | | | | | | | | | | | | |
| Net sales | | $ | 1,484,833 | | | 1,252,194 | | | 1,179,069 | | | 1,033,899 | | | 970,304 | |
| Gross profit | | $ | 588,806 | | | 466,221 | | | 418,131 | | | 362,577 | | | 339,871 | |
| Operating profit | | $ | 208,334 | | | 149,342 | | | 116,818 | | | 108,252 | | | 96,418 | |
| Interest expense (income), net | | $ | 7,474 | | | 8,024 | | | 3,937 | | | (324 | ) | | 213 | |
| Minority interest (1) | | $ | - | | | 91 | | | 18,354 | | | 32,594 | | | 29,245 | |
| Income before income taxes (3) | | $ | 208,044 | | | 141,227 | | | 94,527 | | | 75,982 | | | 66,960 | |
| Income tax provision (2) | | $ | 53,563 | | | 56,383 | | | 36,274 | | | 29,633 | | | 25,840 | |
| Net income (2,3) | | $ | 154,481 | | | 84,844 | | | 58,253 | | | 46,349 | | | 41,120 | |
| Return on: | | | | | | | | | | | | | | | | |
| Net sales | | | 10.4 | % | | 6.8 | % | | 4.9 | % | | 4.5 | % | | 4.2 | % |
| Average stockholders’ equity | | | 24.7 | % | | 17.2 | % | | 14.6 | % | | 14.2 | % | | 14.8 | % |
| Average capital employed | | | 19.7 | % | | 12.1 | % | | 11.0 | % | | 13.2 | % | | 13.0 | % |
| | | | | | | | | | | | | | | | | |
Year-End Position | | | | | | | | | | | | | | | | |
| Working capital (7) | | $ | 171,749 | | | 151,266 | | | 100,749 | | | 293,192 | | | 241,563 | |
| Net property, plant and equipment | | $ | 179,516 | | | 166,077 | | | 153,474 | | | 111,624 | | | 107,576 | |
| Total assets | | $ | 1,186,185 | | | 989,906 | | | 948,064 | | | 755,520 | | | 674,207 | |
| Long-term debt | | $ | 61,570 | | | 86,232 | | | 151,231 | | | 11,474 | | | 37,128 | |
| Stockholders’ equity | | $ | 705,768 | | | 545,612 | | | 442,988 | | | 357,368 | | | 293,985 | |
| Total capital employed (8) | | $ | 853,704 | | | 711,984 | | | 686,708 | | | 368,842 | | | 331,113 | |
| | | | | | | | | | | | | | | | | |
Per Share Data | | | | | | | | | | | | | | | | |
| Net income: | | | | | | | | | | | | | | | | |
| Basic (2,3,6) | | $ | 5.49 | | | 3.06 | | | 2.14 | | | 1.72 | | | 1.52 | |
| Diluted (2,3,6) | | $ | 5.37 | | | 2.99 | | | 2.10 | | | 1.70 | | | 1.50 | |
| Stockholders’ equity per average | | | | | | | | | | | | | | | | |
| diluted share outstanding (6,9) | | $ | 24.51 | | | 19.23 | | | 15.95 | | | 13.14 | | | 10.75 | |
| Market range: | | | | | | | | | | | | | | | | |
| High (6) | | $ | 85.65 | | | 56.16 | | | 43.63 | | | 30.28 | | | 22.50 | |
| Low (6) | | $ | 53.71 | | | 39.38 | | | 25.51 | | | 13.48 | | | 14.31 | |
| | | | | | | | | | | | | | | | | |
Other Data | | | | | | | | | | | | | | | | |
| Orders on hand | | $ | 131,160 | | | 95,373 | | | 87,540 | | | 87,304 | | | 88,451 | |
| Depreciation and amortization | | $ | 31,686 | | | 29,166 | | | 28,069 | | | 24,207 | | | 23,169 | |
| Capital expenditures | | $ | 27,019 | | | 39,423 | | | 26,620 | | | 17,559 | | | 18,912 | |
| Average diluted shares outstanding (4,6) | | | 28,790 | | | 28,366 | | | 27,769 | | | 27,194 | | | 27,336 | |
| Current ratio (10) | | | 1.5 | | | 1.5 | | | 1.3 | | | 2.7 | | | 2.5 | |
| Interest coverage ratio (5) | | | 22.9 | | | 14.8 | | | 18.2 | | | 83.3 | | | 46.4 | |
| Debt to total capital employed | | | 17.3 | % | | 23.4 | % | | 35.5 | % | | 3.1 | % | | 11.2 | % |
| Average number of employees | | | 6,047 | | | 5,495 | | | 5,445 | | | 5,119 | | | 5,018 | |
| Average sales per employee | | $ | 246 | | | 228 | | | 217 | | | 202 | | | 193 | |
(1) Minority interest expense was fully eliminated in 2006. The Company acquired Thomas’ 32% minority interest in GTG at the close of business on July 31, 2004 and the 49.5% minority
interest of Lumec-Schreder on January 1, 2006.
(2) The income tax provision, net income, and earnings per share in 2006 include a one-time tax provision benefit of $24,715 ($0.86 per diluted share) related to the change in corporate
structuring of GTG from partnership status to corporate status for income tax reporting purposes.
(3) Income before income taxes, net income, and earnings per share for 2006 include the $7,184 or $4,447 after-tax ($0.15 per diluted share) foreign currency exchange gain related to the
return of capital from Canada.
(4) Amounts are in thousands, including incremental common shares issuable under stock option plans.
(5) Interest coverage ratio is defined as income before income taxes and interest expense, divided by actual interest expense for the year.
(6) Common shares were adjusted for the two-for-one stock split which was payable on May 23, 2005 to stockholders of record at the close of business on May 9, 2005. This affects all
per share calculations.
(7) Working capital is defined as current assets minus current liabilities.
(8) Total capital employed is defined as total debt plus total stockholders’ equity.
(9) Stockholder’s equity per average diluted share outstanding is defined as total stockholders’ equity divided by average diluted shares outstanding.
(10) Current ratio is defined as current assets divided by current liabilities.
Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is designed to provide a reader of our financial statements with a narrative on our results of operations, financial condition, liquidity, outlook for the future, and critical accounting policies. We believe it is useful to read our MD&A in conjunction with Item 8 “Financial Statements and Supplementary Data,” as well as our reports on Forms 10-Q and 8-K and other publicly available information.
Overview
We consider ourselves the second largest manufacturer of lighting fixtures in the world, and the largest company in the world devoted exclusively to selling lighting fixtures, controls, and related products. We estimate that our share of the $8.9 billion United States and Canadian lighting markets grew during 2006. We participate primarily in the commercial market, but also have a considerable position in the residential and industrial markets.
We sell products under 45 widely recognized and respected brand names. Part of our strategy is to take advantage of brand name recognition and focus our brands on specific markets, market channels or product competencies. Our goal is to be one of the top two lighting companies in each of our major markets. We sell primarily through wholesale electrical distributors - mostly independent distributors and selective relationships with national accounts - using multiple sales forces of direct sales employees and independent sales representatives to maximize market coverage.
We consider ourselves the industry leader in product innovation, with a focus on energy efficiency. Our goal is to generate 30% of annual sales from new products released within the past three years. We estimate that approximately 26% of our net sales for 2006 were from new products released within the past three years and find that our most profitable divisions achieve or come very close to the 30% goal. During 2006, we released over 20,000 new products, over 380 new product families, and released 80 new customer catalogs and brochures. In addition, we are committed to growth through market share penetration and strategic acquisitions. We seek to grow our business at least 10% each year - 5% through internal growth (current and new products and markets) and 5% through strategic acquisitions. Since the formation of GTG in 1998, we have acquired eleven companies, in addition to Thomas’ 32% minority interest in GTG.
We operate primarily in the commercial lighting markets, with 74.7% of our 2006 net sales coming from the Commercial segment. Our commercial indoor and outdoor lighting business activity accelerated during 2006 and exceeded our expectations, while our Industrial and Other segment continued its relatively strong business pattern. The Residential segment, which has been relatively strong during the past few years and during the first half of 2006, significantly weakened during the fourth quarter of 2006 primarily due to an increase in interest rates and other market influences, which resulted in a decrease in new home construction. Our total net sales in 2006 grew by 18.6% compared to 2005. All three of our segments enjoyed sales growth, with increases of 21.3% in the Commercial segment, 2.6% in the Residential segment, and 21.1% in the Industrial and Other segment.
Even though the cost of steel has leveled off, we continue to see year-over-year cost increases related to aluminum, copper, ballasts, zinc coatings, corrugated packaging and energy. These increases began to impact our product costs in the second half of 2004, continued to have a significant impact through 2006, and are expected to continue to impact results in 2007. We will continue to diligently improve cost control and production efficiency, while attempting to improve margins by optimizing product mix with higher value-added products and constantly evaluating our pricing strategies.
In response to realized and potential cost increases, we announced incremental price increases effective with May 2004, November 2004, June 2005, and June 2006 orders. We are encouraged by the success of our new product and pricing strategies, which help protect our margins. Specifically, our ongoing industry leadership in product development and excellence in the order and quotation process further boosts the success of our price increases. As a result, our 2006 gross profit margin increased to 39.7% compared to 37.2% last year and the operating profit margin increased during 2006 to 14.0% from 11.9% last year. We continued to experience a year-over-year benefit from the price increases and estimate that approximately 5% of the sales increase during 2006 was due to price. We did not necessarily expect to attain the full amount of the announced price increases due to competitive pressures, but we believe that holding a significant portion of the price increases contributed to our successful year in 2006. In order to maintain these net sales and margin improvements going forward, many of our divisions have announced price increases effective during the first quarter of 2007.
Cost containment actions such as the recent consolidation of our San Leandro, California and San Marcos, Texas manufacturing facilities into an entirely new manufacturing facility in San Marcos will enable continuous cost and quality improvements. The new facility is now fully operational with significant sales and earnings improvements compared to last year when we recorded relocation expenses and experienced start-up inefficiencies. We also completed automation and expansion projects in the last few years at our facilities in Massachusetts, Mississippi, South Carolina, and Ontario. We elected to reinforce our efficient North American production capabilities, which include 35 vertically integrated factories accounting for over 80% of our total production, because of our dedication to superior customer service for our make-to-order specification business.
Some of the commercial and industrial construction market sectors remained relatively soft over the last few years, while the recovery we expected continued to stretch out. However, the traditional commercial construction market significantly improved during 2006, primarily due to the acceleration of post-hurricane Katrina construction activity combined with unseasonably warm weather in the first quarter of 2006. In addition, the industrial market sector improved primarily from increased volume, which was driven by tax incentives offered under the Energy Policy Act of 2005 to install energy-efficient interior lighting systems.
While the residential market began to weaken in 2006, we continued to experience relatively healthy results during the first part of the year, primarily due to lighting’s place as one of the last building materials to be installed in most construction projects. However, the residential market was significantly weaker during the fourth quarter of 2006 and our Residential segment sales declined, as we started to realize the downturn in residential construction. As a result of the declining residential market, we expect 2007 sales to be lower than the 2006 levels; thus, we plan to focus our efforts on new product development and developing new markets and opportunities for growth.
Genlyte’s acquisitions of JJI Lighting Group (“JJI”), which was effective on May 22, 2006, Strand Lighting (“Strand”), which was effective on July 11, 2006, and Carsonite International (“Carsonite”), which was effective on September 26, 2006, had a significant impact on Genlyte’s financial condition, results of operations, and liquidity. The financing of acquisitions decreased cash and short-term investments approximately $58.2 million, increased debt approximately $77.5 million, and resulted in increased values for most of the balance sheet captions. The acquisitions significantly impacted net income during 2006 and we expect 2007 results will have a more significant impact on net income as JJI, Strand, and Carsonite report full year 2007.
The results for 2006 were significantly impacted by some notable items. We recognized a $24.7 million ($0.86 per diluted share) tax provision benefit related to an election by GTG changing from partnership to corporate status for income tax reporting purposes. Deferred taxes accumulated on the outside basis of GTG, in excess of the deferred taxes on GTG’s inside basis, were recognized through the provision into net income. This tax benefit was partially offset by $2.1 million of additional tax expense for a dividend of foreign subsidiary earnings. In addition, we recognized a $7.2 million or $4.4 million after tax ($0.15 per diluted share) foreign currency exchange gain related to the return of capital from Canada that was used to assist in funding the acquisition of JJI. Also, net income during the fourth quarter of 2006 was negatively impacted by $354 thousand of strike related cost at our Ledalite division in Canada, which began and ended during December 2006.
On April 28, 2005, Genlyte’s Board of Directors authorized a two-for-one stock split in the form of a 100% stock dividend, payable on May 23, 2005 to stockholders of record at the close of business on May 9, 2005. In order to facilitate the stock split, Genlyte filed with the Delaware Secretary of State a Certificate of Amendment to its Restated Certificate of Incorporation (“the Restated Certificate”), amending Article “Fourth” of the Restated Certificate, increasing the authorized shares of Genlyte’s common stock (par value $.01) from 30,000,000 to 100,000,000, with such amendment effective as of April 28, 2005. All per share amounts were adjusted for the 100% stock dividend.
Results of Operations
Year Ended December 31, 2006 Compared to Year Ended December 31, 2005
Net sales for 2006 were $1,484.8 million, increasing by $232.6 million, or 18.6% from 2005 net sales of $1,252.2 million. Net sales for the Commercial segment increased by 21.3%; net sales for the Residential segment increased by 2.6%; and net sales for the Industrial and Other segment increased by 21.1%. The combination of a sales mix of higher quality products, the realization of previously announced price increases, acquisitions of JJI, Strand and Carsonite, and favorable overall construction activity helped us achieve these increases. Net sales for comparable operations, excluding the effect of the acquisitions, increased 10.1% during 2006 compared to 2005. Net sales were also positively impacted by our new San Marcos, Texas facility, which is now fully operational with significant sales improvements over prior year when we experienced start-up inefficiencies.
We initiated price increases ranging from 5% to 15% effective for orders released for shipment after June 2006. Overall, we believe that approximately 5% of the net sales increase during 2006 was related to price increases, with acquisitions, volume and product mix accounting for the remaining increase. The traditional volume and price sales analysis in the lighting industry is very difficult to calculate due to product mix which includes thousands of different products and multiple variations on most products. Any conclusions related to the effect of volume versus price are mixed across segments, divisions, product lines, geographic base, and customer profiles.
Net sales for U.S. operations increased 18.0%, while net sales for the Canadian operations increased 10.3% compared to 2005. Without recent acquisitions, which primarily consist of U.S. operations but also includes small operations in Germany and Hong Kong, net sales for U.S. operations increased 10.1% compared to 2005. The increases were primarily due to a combination of price increases, new product offerings, improvement in our commercial market, and continued strength in our HID and outdoor lighting businesses. The stronger Canadian dollar during 2006 compared to 2005 increased U.S. dollar sales of Canadian operations by $15.8 million. If the exchange rate had remained constant, net sales of Canadian operations would have increased $7.2 million, or 3.2%. Net sales for Canadian operations increased compared to the prior year due to a combination of price increases, new product offerings, and continued strength in our HID and outdoor lighting businesses.
We operate primarily in the commercial lighting markets, with 74.7% of our 2006 net sales coming from the Commercial segment. This percentage is slightly up from 73.1% in 2005. Net sales of $1,109.6 million for the Commercial segment in 2006 increased 21.3% from 2005 net sales of $915.1 million. The majority of the 2006 acquisitions are in the Commercial segment. The 2006 net sales for comparable operations, excluding these acquisitions, increased 12.7% over prior year. Since the average Canadian exchange rate increased during the year, the Commercial segment net sales received a slight benefit from currency translation. Excluding both acquisitions and the foreign currency translation benefit, net sales would have increased 11.3%. The recovery in the commercial market is continuing, led by strength in the institutional and healthcare construction businesses. In addition, the Energy Policy Act of 2005, which provides tax incentives to install energy-efficient interior lighting systems, also contributed to the volume increase in the Commercial segment.
Residential segment net sales of $183.5 million in 2006 (12.4% of total Company net sales) compared to $178.8 million in 2005 (14.3% of total Company net sales), grew 2.6% during 2006. However, excluding the impact of recent acquisitions, the Residential segment net sales actually decreased by 2.2%. In addition, excluding both the impact of acquisitions and the foreign currency translation benefit, net sales for the Residential segment decreased by 2.7%. The residential construction market is significantly weaker than prior year primarily due to the increase in interest rates, which resulted in a decrease in new home construction.
The Industrial and Other segment accounts for all remaining net sales and increased as a percentage of total Company net sales: 12.9% in 2006 versus 12.6% in 2005. Net sales of $191.8 million for the Industrial and Other segment in 2006 increased 21.1% from 2005 net sales of $158.3 million. The Industrial and Other segment also realized a significant benefit from 2006 acquisitions. The 2006 net sales for comparable operations, excluding these acquisitions, increased 8.5% over prior year. Excluding both acquisitions and the foreign currency translation benefit, net sales would have increased 7.7%. The industrial market sector improved primarily from increased volume, which was assisted by tax incentives offered under the Energy Policy Act of 2005.
Cost of sales during 2006 was 60.3% of net sales, compared to 62.8% during 2005. Even though the market has experienced significant increases in the cost of copper, aluminum, zinc coatings, ballasts, inbound freight, energy, and group health insurance, we improved our gross profit margin percentage to 39.7% during 2006, compared to 37.2% during 2005. The increased gross profit margin is primarily attributed to the price increases previously discussed. In addition, the product mix of higher value-added products, increased sales volume (which results in higher absorption of manufacturing overhead expenses), and our de-emphasis of lower margin business helped overall margins. In order to maintain the gross profit margin improvements, we implemented a 5%
to 15% price increase on most product lines; effective with orders released for shipment after June 2006, and announced additional price increases that become effective during the first quarter of 2007.
Selling and administrative expenses were 25.3% of net sales during 2006 compared to 25.1% during 2005. Currency transaction losses of $87 thousand and $1.6 million during 2006 and 2005, respectively, are included in selling and administrative expenses. In a period of a strengthening Canadian dollar, net assets denominated in U.S. dollars at the Canadian divisions result in currency transaction losses. The opposite would occur in a period of a weakening Canadian dollar. Further, we recognized operating expenses related to the San Marcos employee relocation, plant consolidation, and severance of $181 thousand and $1.2 million in 2006 and 2005, respectively. Excluding these two items from both years, selling and administrative expenses as a percentage of net sales would have been 25.3% and 24.9% during 2006 and 2005, respectively. The selling and administrative expenses as a percentage of net sales increased from prior year primarily due to higher accrued expenses for employee incentive compensation, increased commission rate, stock compensation expense (which was not required in 2005), a higher provision for doubtful accounts receivable, and the acquisition of JJI (which has higher selling and administrative expenses as a percentage of sales than the rest of the company).
The strength of the Canadian dollar during 2006 compared to the prior year resulted in a $2.6 million pre-tax benefit, or a positive net income impact of $1.8 million after income taxes, from translating operating income of Canadian operations at a higher exchange rate than in 2005. In addition, the strengthening Canadian dollar resulted in a $435 thousand foreign currency translation adjustment (“CTA”) gain. However, CTA actually decreased accumulated other comprehensive income during 2006 by $6.7 million, due to the $7.2 million reduction in foreign currency translation adjustment related to the foreign currency exchange gain on the return of capital from Canada. During 2005, the strengthening Canadian dollar resulted in a $5.7 million foreign currency translation adjustment gain, increasing accumulated other comprehensive income. Other comprehensive income is reflected in stockholders’ equity in the balance sheet and is not reflected in results of operations in the statement of income.
During 2006, interest expense was $8.9 million and interest income was $1.9 million. In addition, we recorded net expense of $502 thousand during 2006 due to ineffective interest rate swaps, for total net interest expense of $7.5 million. During 2005, interest expense was $10.2 million, interest income was $1.7 million, and we recorded net interest income of $502 thousand due to ineffective interest rate swaps (net interest expense of $8.0 million). Since average cash, cash equivalents, and short-term investment balances were higher during 2006 compared to 2005 and interest rates increased, we recognized higher interest income during 2006. Further, interest expense was lower during 2006 compared to 2005 since a significant amount of debt was repaid over the past year, even though we recently borrowed $77.5 million of new debt to finance the May 22, 2006 acquisition of JJI. To reduce our exposure to interest rate risk, on May 22, 2006, we entered into additional interest rate swap contracts to provide fixed rate interest of approximately 5.7% (which includes interest rate spreads of 40 basis points) on $25 million for three years and 5.7% (which includes interest rate spreads of 40 basis points) on $25 million for four years.
Minority interest during 2005 represented the 49.5% ownership share of Lumec-Schreder’s results by Schreder SA, a Belgian holding corporation of the Schreder Group. However, on January 1, 2006 we acquired the 49.5% minority interest in Lumec-Schreder for a cash price of approximately $1.0 million, increasing our interest to 100%.
The effective tax rate was 25.7% for 2006 compared to 39.9% for 2005. The effective tax rate for 2006 was significantly lower, primarily due to the $24.7 million ($0.86 per diluted share) one-time tax provision benefit (recognized in the first quarter) related to the change in corporate structuring of GTG from partnership status to corporate status for income tax reporting purposes. As a result of the election, deferred taxes accumulated on the outside basis of GTG in excess of the deferred taxes on GTG’s inside basis were recognized through the provision into net income. This tax benefit was partially offset by the $2.1 million of additional income tax expense, net of foreign tax credits, for the foreign earnings repatriation of $35.9 million. In addition, the effective tax rate for 2005 was higher than normal due to the recognition of a $2.8 million income tax expense last year for a foreign earnings repatriation of $60.0 million. The American Jobs Creation Act of 2004 created a temporary incentive for U.S. corporations to repatriate accumulated income earned abroad by providing an 85% dividends received deduction for certain dividends from controlled foreign corporations. According to Accounting Principles Board (“APB”) No. 23 “Accounting for Income Taxes - Special Areas,” deferred taxes are to be immediately recorded upon the determination of repatriating undistributed earnings of non-U.S. subsidiaries. Excluding the items above, the effective tax rates for 2006 and 2005 would have been 36.6% and 37.9%, respectively. The adjusted effective tax rate was slightly lower in 2006 compared to 2005 primarily due to larger deductions for the Section 199 domestic manufacturing deduction and extraterritorial income. Going forward we expect the effective tax rate to be approximately 37%.
Net income for 2006 was $154.5 million ($5.37 per diluted share), an increase of 82.1% over 2005 net income of $84.8 million ($2.99 per diluted share). Net income for 2006 benefited significantly from the $24.7 million ($0.86 per diluted share) one-time tax provision benefit mentioned above, in addition to the $7.2 million or $4.4 million after-tax ($0.15 per diluted share) foreign currency exchange gain related to the return of capital from Canada that was used to assist in funding the acquisition of JJI. Excluding the one-time tax provision benefit and the foreign currency exchange gain, net income would
have increased 47.7% over 2005. Net income in 2006 also benefited from the May 22, 2006 acquisition of JJI, the July 11, 2006 acquisition of Strand, and the September 26, 2006 acquisition of Carsonite. Excluding acquisitions and the unusual items above, net income would be $118.6 million, an increase of 39.7% over 2005 net income. The combination of adding new products, maintaining previously announced price increases, the level of construction activity, cost containment strategies, and production efficiency improvements by our San Marcos, Texas facility helped us achieve higher net income for 2006.
Year Ended December 31, 2005 Compared to Year Ended December 31, 2004
Net sales for 2005 were $1,252.2 million, increasing by $73.1 million, or 6.2% from 2004 net sales of $1,179.1 million. The realization of previously announced price increases and the continued strength of the residential market contributed to this increase. The year-over-year improvement during 2005 was negatively impacted by the surge of volume during 2004, when sales increased 14.0% over prior year, in anticipation of the announced May and November 2004 price increases. Net sales for the Commercial segment increased by 5.1%, the Residential segment increased by 8.2%, and the Industrial and Other segment increased by 10.5%. Acquisitions did not impact the 2005 sales improvements.
We initiated price increases ranging by product from 5% to 8% effective with May 2004 orders, ranging from 6% to 10% effective with November 2004 orders, and additional price increases ranging from 6% to 10% effective with June 2005 orders. Overall, we believe the majority of the 6.2% net sales increase during 2005 was related to the price increases, with volume remaining relatively flat. The traditional volume and price sales analysis in the lighting industry is very difficult to calculate due to product mix which includes thousands of different products and multiple variations on most products. Any conclusions related to the effect of volume versus price are mixed across segments, divisions, product lines, geographic base, and customer profiles.
Our residential, industrial, and entertainment lighting product sales were relatively strong during 2005; however, certain parts of our business such as the commercial indoor fluorescent remain relatively soft. Pricing for the indoor fluorescent products remains very competitive. We announced a 10% price increase in November 2004 and June 2005 covering fluorescent products. Although we did not achieve the full 10% price increase, the pricing in the indoor fluorescent business improved by approximately 5%, which covered our cost increases. Clearly our operating profit during 2005 would have suffered had we not refused to participate in lower margin business such as on-line auctions and multi-year bid projects with price reductions.
Net sales for Canadian operations increased 14.3%, while net sales for U.S. operations increased 4.6% compared to 2004. The increases in Canada were primarily due to a combination of price increases, new product offerings, and the strength of the Canadian economy. The stronger Canadian dollar during 2005 compared to 2004 increased U.S. dollar sales of Canadian operations by $14.3 million, or 7.3%. If the exchange rate had remained constant, net sales of Canadian operations would have increased 7.0%. The increase for U.S. operations was primarily due to a combination of the price increases, new product offerings, and the continued strength of our residential lighting products. However, net sales for 2005 were negatively impacted by start-up inefficiencies at our Gardco and Wide-Lite divisions, which recently relocated into a new manufacturing facility in San Marcos, Texas.
We operate primarily in the commercial lighting markets, with 73.1% of our 2005 net sales coming from the Commercial segment. However, this percentage is slightly down from 73.8% in 2004 mostly attributable to the start-up inefficiencies at our Gardco division and lost volume on commodity fluorescent products due to our refusal to participate in low margin business. Net sales of $915.1 million for the Commercial segment in 2005 increased 5.1% from 2004 net sales of $870.5 million. If the Canadian exchange rate had remained constant, and Commercial segment net sales had received no benefit from currency translation, net sales would have only increased $32.8 million, or 3.8%.
Residential segment net sales of $178.8 million in 2005 represented 14.3% of total Company net sales compared to $165.2 million in 2004, or 14.0% of total Company net sales. The segment’s strategy has been to reduce emphasis in the do-it-yourself business and concentrate on higher margin business. Since the residential construction market has remained one of the stronger areas of the U.S. economy, net sales in this segment increased 8.2% from 2004. If the Canadian exchange rate had remained constant, and Residential segment net sales had received no benefit from currency translation, net sales would have increased 7.6%.
The Industrial and Other segment accounts for all remaining net sales and increased as a percentage of total Company net sales: 12.6% in 2005 versus 12.2% in 2004. Net sales of $158.3 million for the Industrial and Other segment in 2005 increased 10.5% from 2004 net sales of $143.3 million. If the Canadian exchange rate had remained constant and Industrial and Other segment net sales had received no benefit from currency translation, net sales would have increased 9.4%. The sales improvement in the Industrial and Other segment came primarily from our Canadian divisions, which experienced an increase in manufacturing and warehouse construction and renovation projects.
Cost of sales during 2005 was 62.8% of net sales, compared to 64.5% during 2004. Even though the market has experienced significant increases in the cost of aluminum, copper, and energy, we have successfully improved our gross margin percentage to 37.2% during 2005, compared to 35.5% during 2004. The increase in gross margin is primarily attributed to the price increases previously discussed. In addition, the product mix of higher value-added products and our de-emphasis of lower margin business strengthened overall margins. In order to maintain the gross margin improvements going into 2006, additional price increases are under consideration.
Selling and administrative expenses during 2005 were 25.1% of net sales, compared to 25.2% during 2004. During 2005 we recognized operating expenses related to the San Marcos, Texas employee relocation, plant consolidation, and severance of $1.2 million. Legal expenses were $3.6 million during 2005 compared to the $10.5 million for 2004. The large legal expenses in 2004 were a result of our unsuccessful pursuit of a patent infringement lawsuit that went to trial in 2004. Further, currency transaction losses of $1.6 million and $2.3 million during 2005 and 2004, respectively, are included in selling and administrative expenses. Gains and (losses) on sales or disposals of property, plant, and equipment, which were $(705) thousand and $1.8 million during 2005 and 2004, respectively, are also included therein. Excluding these four items from both years, selling and administrative expenses as a percentage of net sales would have been 24.5% and 24.3% during 2005 and 2004, respectively.
As mentioned above, during 2005, we recorded a $1.6 million net loss in selling and administrative expenses, or $1.1 million after income taxes, related to foreign currency transaction gains and losses primarily on Canadian division cash, accounts receivable, and accounts payable balances denominated in U.S. dollars. In a period of a strengthening Canadian dollar, net assets denominated in U.S. dollars at the Canadian divisions result in currency transaction losses. The opposite would occur in a period of a weakening Canadian dollar. During 2005, because our Canadian operations have net assets denominated in U.S. dollars, and the Canadian dollar strengthened, we recorded a net loss. During 2004, we recorded a net loss of $2.3 million, or $1.3 million after minority interest and income taxes. We do not hedge this activity with derivative financial instruments and therefore are exposed to future gains or losses based on levels of cash, accounts receivable and accounts payable denominated in U.S. dollars at Canadian operations and the fluctuation of the Canadian dollar exchange rates.
While we recorded a $1.6 million net loss because of the Canadian dollar strengthening during 2005, the strength of the Canadian dollar compared to last year also resulted in a $2.2 million pre-tax benefit, or a positive net income impact of $1.4 million after income taxes, from translating operating income of Canadian operations at a higher exchange rate than 2004. In addition, the strengthening Canadian dollar resulted in a $5.7 million foreign currency translation adjustment gain, which increased accumulated other comprehensive income during 2005. During 2004, the strengthening Canadian dollar resulted in a $12.3 million foreign currency translation adjustment gain, increasing accumulated other comprehensive income. Other comprehensive income is reflected in stockholders’ equity in the balance sheets and is not reflected in results of operations in the statements of income.
During 2005, interest expense was $10.2 million and interest income was $2.2 million (net interest expense of $8.0 million). During 2004, interest expense was $5.5 million and interest income was $1.6 million (net interest expense of $3.9 million). Interest expense exceeded interest income in both 2005 and 2004 due to the additional debt incurred to finance the acquisition of Thomas’ 32% minority interest in GTG, although a significant portion of this debt has been repaid since the acquisition. Since the acquisition occurred at the close of business on July 31, 2004, and 2004 only included five months of the additional debt, interest expense was higher in 2005. Interest expense is expected to continue, but at reduced levels as the debt is repaid. In addition, interest income was higher in 2005 compared to 2004 primarily due to gains of $502 thousand recognized on interest rate swaps.
Minority interest during 2005 represented the 49.5% ownership share of Lumec-Schreder’s results by Schreder SA, a Belgian holding corporation of the Schreder Group. However, on January 1, 2006 we acquired the 49.5% minority interest owned by Schreder SA for a cash price of approximately $1.0 million, increasing our interest to 100%. Minority interest for 2004 primarily represented the 32% ownership share of GTG income by Thomas, which we acquired at the close of business on July 31, 2004.
The effective tax rate was 39.9% during 2005 compared to 38.4% during 2004. The effective tax rate is significantly higher than last year primarily due to a $2.8 million income tax expense for a foreign earnings repatriation of $60 million. The American Jobs Creation Act of 2004 created a temporary incentive for U.S. corporations to repatriate accumulated income earned abroad by providing an 85% dividends received deduction for certain dividends from controlled foreign corporations.
Net income during 2005 was $84.8 million ($2.99 per diluted share), an increase of 45.6% over 2004 net income of $58.3 million ($2.10 per diluted share). Comparability of net income between years is impacted by two major events - the acquisition of Thomas’ 32% minority interest in GTG in 2004 and additional income tax expense incurred due to the repatriation of $60 million in cash from Canada. Column (1) in the non-GAAP table on the following page presents the operating results during 2005 on a more comparable basis assuming the cash repatriation did not occur. Column (2) in the non-GAAP table on the following page presents the operating results during 2004 on an ongoing basis.
| (Dollars in thousands) | | Twelve Months Ended | |
| | | December 31, 2005 | | December 31, 2004 | |
| | | Adjusted (1) | | Adjusted (2) | |
| Reported operating profit | | $ | 149,342 | | $ | 116,818 | |
| 32% minority interest purchase accounting: | | | | | | | |
| One-time inventory and backlog step-up amortization | | | | | | 5,314 | |
| Step-up PP&E depreciation and intangibles amortization - 7 months | | | | | | (2,605 | ) |
| Adjusted operating profit | | | 149,342 | | | 119,527 | |
| Reported net interest expense | | | (8,024 | ) | | (3,937 | ) |
| Interest adjustments for seven months of additional expense | | | | | | (6,198 | ) |
| Reported minority interest | | | (91 | ) | | (18,354 | ) |
| Minority interest adjustment to add back seven months of GTG | | | | | | 18,354 | |
| Adjusted income before income taxes | | | 141,227 | | | 109,392 | |
| Reported income tax provision | | | (56,383 | ) | | (36,274 | ) |
| Income tax provision adjustments: | | | | | | | |
| (2004 at 38.1% after adjustments) | | | | | | (5,404 | ) |
| Add back additional tax due from cash repatriation | | | 2,799 | | | | |
| Adjusted net income | | $ | 87,643 | | $ | 67,714 | |
| | | | | | | | |
| Impact of adjustments on diluted earnings per share | | $ | 0.10 | | $ | 0.34 | |
| | | | | | | | |
| Reported net income | | $ | 84,844 | | $ | 58,253 | |
| | | | | | | | |
| Reported diluted earnings per share | | $ | 2.99 | | $ | 2.10 | |
Columns (1) and (2) in the table above present the operating results for 2005 on a more comparable basis with the operating results for 2004 by adjusting for one-time events. Specifically, the expense recorded in the third quarter of 2005 related to the Foreign Earnings Repatriation Provision within the American Jobs Creation Act of 2004 is added back to adjusted income before income taxes. All of the adjustments to the 2004 operating results relate to the acquisition of Thomas' 32% minority interest in GTG, which was effective at the close of business on July 31, 2004. Specifically, the one-time amortization of inventory and profit in backlog is added back to operating profit and the additional ongoing depreciation and amortization for the PP&E and intangible asset step-up is deducted from operating profit. In addition, the actual minority interest related to GTG is added back to operating profit. Because of the timing of the acquisition noted above, the estimated additional net interest expense due to the increased debt and reduced cash and short-term investments is deducted from income. Further, the income tax provisions are adjusted at the effective tax rate for the years based on the adjusted income before income taxes.
Non-GAAP Financial Information: To supplement the consolidated financial statements presented in accordance with accounting principles generally accepted in the United States (GAAP), we have presented above a table of adjusted operating results which includes non-GAAP financial information. This non-GAAP financial information is provided to enhance the user’s overall understanding of our current financial performance and prospects for the future. Specifically, we believe the non-GAAP financial information provides useful information to investors by excluding or adjusting certain items of operating results that were unusual and not indicative of our core operating results. This non-GAAP financial information should be considered in addition to, and not as a substitute for, or superior to, results prepared in accordance with GAAP. The non-GAAP financial information included above has been reconciled to the nearest GAAP measure.
Outlook for the Future
While the smaller commercial construction projects, such as strip shopping malls, small hotels, restaurants, banks, etc., have been relatively healthy over the last three years, the traditional commercial construction market, which was relatively soft in 2004 and 2005, started to show significant improvement during the first quarter of 2006. The recovery continued throughout the remainder of 2006 and forecasts remain generally optimistic. Office vacancy rates and hospitality occupancy rates are improving; however, the overall cost of building materials seems to be dampening some of the momentum. Our outlook for the overall commercial construction market is continued growth over the next two years, subject to seasonal fluctuations. The non-residential construction market in Canada has not experienced the same growth of U.S. markets, but is expected to grow in 2007. In addition, residential lighting sales remained relatively strong during the first half of 2006 even as residential construction began to slow, primarily due to lighting’s place as one of the last building materials to be installed in most construction projects. However, the residential market was significantly weaker during the fourth quarter of 2006, as we started to realize the downturn in residential construction. We expect it to further soften during 2007.
Even though the cost of steel has leveled off, we are expecting steel to increase going into 2007 and we continue to see year-over-year cost increases related to aluminum, copper, zinc coatings, ballasts, corrugated packaging and energy. These increases began to impact our product costs in 2004 and are expected to continue to impact results through 2007. We will continue to diligently improve cost control and production efficiency, while attempting to improve margins through a better product mix with higher value-added products and periodic evaluation of our pricing strategies.
In response to realized and potential cost increases, we announced price increases ranging from 6% to 10% effective with June 2005 orders and price increases ranging from 5% to 15% effective with orders released for shipment after June 2006. Price increases are always subject to competitive pressure, and we did not necessarily expect to attain the full amount of the announced increases, but we believe we attained enough of the price increases to more than offset the cost increases. In order to maintain net sales and margin improvements going forward, many of our divisions have announced price increases effective during the first quarter of 2007.
Genlyte’s acquisitions of JJI, which was effective on May 22, 2006, Strand, which was effective on July 11, 2006, and Carsonite, which was effective on September 26, 2006, will have a more significant impact on net income during 2007 as these businesses report full year 2007.
Foreign currency exchange rates are unpredictable, and we are exposed to foreign currency transaction gains and losses because of our net assets in Canada that are denominated in U.S. dollars. If the Canadian dollar exchange rate strengthens versus the U.S. dollar, we will realize foreign currency transaction losses, which impact net income. Conversely, we would realize the benefit of translating sales and income of Canadian operations at higher exchange rates compared to the corresponding period of the preceding year. In addition, we will record foreign currency translation gains in accumulated other comprehensive income. If the Canadian dollar weakens, we would realize foreign currency transaction gains.
The ‘Energy Policy Act of 2005,’ which provides tax benefits for energy-efficient interior lighting systems and was recently extended through 2008, will hopefully continue to spur demand for our new energy-efficient products and enable us to help our country deal with increasing energy costs. We have seen some benefit from this legislation in our Industrial segment during 2006, and we believe this energy legislation will continue to have a positive impact on retrofit lighting business in the U.S., and may provide additional business opportunities through 2008.
Financial Condition
Liquidity and Capital Resources
We focus on our net cash or debt (cash, cash equivalents, and short-term investments minus total debt) and working capital (current assets minus current liabilities) as our most important measures of short-term liquidity. For long-term liquidity, we consider our ratio of total debt to total capital employed (total debt plus total stockholders’ equity) and trends in net cash or debt and cash provided by operating activities to be the most important measures.
We were in a net debt position (total debt exceeded cash, cash equivalents, and short-term investments by $71.2 million) at December 31, 2006, compared to net debt of $70.7 million at December 31, 2005. Total debt decreased to $147.9 million at December 31, 2006, compared to $166.4 million at December 31, 2005, while cash, cash equivalents, and short-term investments decreased to $76.7 million at December 31, 2006 compared to $95.7 million at December 31, 2005. Due to our strong cash flow from operations during 2006, we were able to reduce total debt from prior year, even though we borrowed $77.5 million to finance the May 2006 acquisition of JJI. The decrease in cash, cash equivalents, and short-term investments primarily resulted from repayment of debt and the financing of the JJI, Strand, and Carsonite acquisitions.
Working capital at December 31, 2006 was $171.7 million, compared to $151.3 million at December 31, 2005. The recent acquisitions of JJI, Strand, and Carsonite added $26.3 million to working capital at December 31, 2006. Excluding these acquisitions, working capital would have been $5.9 million lower at December 31, 2006 compared to prior year. The current ratio (current assets divided by current liabilities) was 1.50 at December 31, 2006, compared to 1.51 at December 31, 2005.
The ratio of total debt to total capital employed at December 31, 2006 was 17.3%, compared to 23.4% at December 31, 2005. Because of our expected strong cash flow, we believe this level of debt is manageable.
Summary of Cash Flows
| (Dollars in thousands) | | 2006 | | 2005 | | 2004 | |
| Cash provided by operating activities | | $ | 145,874 | | $ | 130,938 | | $ | 105,285 | |
| Cash used in investing activities | | | (144,710 | ) | | (38,315 | ) | | (373,942 | ) |
| Cash (used in) provided by financing activities | | | (2,840 | ) | | (73,403 | ) | | 239,087 | |
| Effect of exchange rate changes | | | 324 | | | 2,589 | | | 3,667 | |
| Net (decrease) increase in cash and cash equivalents | | $ | (1,352 | ) | $ | 21,809 | | $ | (25,903 | ) |
Cash provided by operating activities in 2006 was $14.9 million higher than the cash provided by operating activities in 2005, which was $25.7 million higher than 2004. Although net income increased $69.6 million from 2005 to 2006, cash flow from operations was reduced in 2006 primarily due to non-cash items, such as the tax provision benefit related to the change in tax status for GTG and the one-time foreign currency exchange gain from returning capital from Canada. Cash flow from operations in 2006 was also negatively impacted by the buildup of inventory associated with increased sales activity in 2006 and decreases in accrued expenses primarily related to payments in the fourth quarter to terminate pension plans. Net income increased $26.6 million from 2004 to 2005 and the other elements of cash flow from operations netted out.
Cash used in investing activities during 2006 was $144.7 million, primarily due to the $135.7 million acquisitions of JJI, Strand, and Carsonite (net of cash received). We did not acquire any new companies in 2005; however, in 2004, we paid $402.1 million to acquire Thomas’ 32% minority interest in GTG and $3.1 million to purchase USS Manufacturing. Cash used in investing activities also includes the proceeds from sales of short-term investments less purchases of short-term investments and purchases of property, plant and equipment. During 2006, 2005, and 2004, proceeds from sales of short-term investments exceeded purchases of short-term investments as these investment balances were reduced to fund the acquisitions in 2006, pay down debt in 2005, and fund the acquisition of Thomas’ 32% minority interest in GTG in 2004. Purchases of plant and equipment during 2006 of $27.0 million were $12.4 million lower than during 2005, which were $12.8 million higher than 2004. The higher capital spending in 2005 related to the plant expansion at our Cornwall, Ontario facility and spending on the HID (high intensity discharge) manufacturing plant in San Marcos, Texas. While sales of property, plant, and equipment were insignificant in 2006 and 2005, proceeds from sales of property, plant and equipment in 2004 were $4.6 million, primarily from the sale of land and building in Barrington, New Jersey; the sale of land and building in Garland, Texas; and a right-of-way at the plant in San Marcos, Texas.
As mentioned above, in 2005 we invested approximately $23.6 million to build and relocate into a new 250,000 square foot HID fixture manufacturing plant in San Marcos, Texas. The facility provides world class manufacturing capability with objectives of reduced manufacturing costs, increased inventory turnover, improved on-time delivery, and reduced lead time. In the fourth quarter of 2005 we completed the relocation of our Gardco and Wide-Lite divisions into the new facility. We substantially completed the restructuring activities related to the relocation in the second quarter of 2006 and do not expect to incur additional operating expenses or start-up inefficiencies.
Cash used in financing activities during 2006 was $2.8 million, with $220.6 million in repayments of short-term and long-term debt offset by $198.7 million in proceeds of short-term and long-term debt. Also, $15.0 million was provided by cash and tax benefits from the exercise of stock options and there was a $4.0 million increase in disbursements outstanding. Cash used in financing activities during 2005 was $73.4 million, with $169.5 million and $42.5 million in repayments of long-term and short-term debt, respectively, less $104.5 and $30.1 of proceeds from long-term and short-term debt, respectively. In addition, $5.8 million was provided from the exercise of stock options and $1.8 million used for disbursements outstanding. Cash provided by financing activities during 2004 was $239.1 million, with $200.0 million from long-term debt and $113.1 million of short-term debt provided for the acquisition of Thomas’ 32% minority interest in GTG. Subsequent to the acquisition, $60.0 million of the long-term debt and $20.6 of the short-term debt was repaid. In addition $5.2 million was provided from the exercise of stock options and $1.5 million for disbursements outstanding.
On January 1, 2006, we adopted the modified prospective method of Statement of Financial Accounting Standards (“SFAS”) 123R (Revised 2004), “Accounting for Stock-Based Compensation” (“SFAS No. 123R”), which requires excess tax benefits from the exercise of stock options to be reported as a financing activity. The excess tax benefits from the exercise of stock options in 2005 and 2004 remains in operating activities, as required under prior guidance, and SFAS 123R does not require retroactive treatment.
Even with current debt levels, we are confident that currently available cash, combined with internally generated funds, will be sufficient to fund capital expenditures as well as any increase in working capital required to accommodate business needs in the next year. We continue to seek opportunities to acquire businesses that fit our strategic growth plans. We believe adequate financing for any such investments will be available through cash on hand, future borrowings, or equity offerings.
Debt and Other Contractual Obligations
On December 9, 2005, Genlyte and its subsidiaries amended and restated the former credit agreement entered into on August 2, 2004, which previously consisted of five-year U.S. and Canadian credit facilities and a $100.0 million U.S. term loan, to reduce borrowing fees and to provide additional borrowing capacity. The amended facilities now consist of a $260.0 million U.S. revolving credit facility and a $27.0 million (in Canadian dollars) Canadian revolving credit facility with the same syndicate of eleven banks maturing on October 31, 2010. According to this agreement, 65% of the capital stock of certain foreign subsidiaries is pledged.
Our long-term debt at December 31, 2006 consisted of $50.0 million outstanding from the $260.0 million U.S. revolving credit facility. We borrowed $50.0 million under the U.S. credit facility and $12.5 million under the Canadian credit facility to finance the May 2006 acquisition of JJI; however all of the Canadian credit facility borrowings were subsequently repaid. Other long-term debt at December 31, 2006 includes $11.0 million in industrial revenue bonds and $570 thousand in capital leases and other. The revolving credit facilities are unsecured. At December 31, 2006, we had $21.1 million in outstanding letters of credit under the U.S. revolving credit facility. The letters of credit reduce the amount available to borrow and guarantee the industrial revenue bonds as well as insurance reserves. We are in compliance with all of our debt covenants as of December 31, 2006.
Our short-term debt at December 31, 2006 consisted of a U.S. asset backed securitization (“ABS”) agreement for $100 million “on balance sheet” financing, entered into by Genlyte and its wholly owned subsidiary, Genlyte Receivables Corporation, which matures on July 31, 2007. GTG trade accounts receivable are sold to Genlyte Receivables Corporation, a bankruptcy-remote entity which pledges the accounts receivable as collateral. As of December 31, 2006, our short-term debt consisted of $82.2 million outstanding under the ABS agreement (of which $15.0 million was borrowed to fund the acquisition of JJI). Net trade accounts receivable pledged as collateral for this loan were $167.4 million at December 31, 2006. In addition, we also had $4.2 million of other short-term debt at December 31, 2006.
To reduce our exposure to uncertain future cash flows resulting from fluctuations in market interest rates, we entered into cash flow hedges during 2004 and 2006 in the form of interest rate swaps to provide a fixed rate of interest. As of December 31, 2006 and 2005 we had the following interest rate swap contracts (in thousands):
| Effective Date | | 2006 Fair Value | | 2005 Fair Value | | Notional Amount | | Hedged Item | | Fixed Interest Rate | | Year of Expiration | |
| 8/2/2004 | | $ | - | | $ | 695 | | $ | 50,000 | | | Credit Line | | | 3.0 | % | | 7/31/2006 | |
| 8/2/2004 | | | - | | | 591 | | | 50,000 | | | Credit Line | | | 3.0 | % | | 7/31/2006 | |
| 8/2/2004 | | | 865 | | | 1,584 | | | 80,000 | | | ABS | | | 3.4 | % | | 7/31/2007 | |
| 5/22/2006 | | | (155 | ) | | - | | | 25,000 | | | Credit Line | | | 5.7 | % | | 5/22/2009 | |
| 5/22/2006 | | | (267 | ) | | - | | | 25,000 | | | Credit Line | | | 5.7 | % | | 5/24/2010 | |
| | | $ | 443 | | $ | 2,870 | | | | | | | | | | | | | |
We receive a LIBOR-based variable interest rate and pay a fixed interest rate on our interest rate swap contracts, which are designated as cash flow hedges. We recorded fair value changes totaling $(1.2) million after tax for the year ended December 31, 2006 in accumulated other comprehensive income (loss). Of the $164 thousand in accumulated other comprehensive income (loss) at December 31, 2006, we estimate that only the portion related to the $80.0 million swap that expires in July 2007 will be reclassified to income in the next twelve months.
The following table summarizes our contractual obligations at December 31, 2006, excluding current liabilities except for the current maturities of long-term debt, and the effect such obligations are expected to have on cash flows and liquidity in future periods (in thousands):
| | | | | Payments due by period | |
| | | Total | | 2007 | | 2008-2009 | | 2010-2011 | | After 2011 | |
| Long-term debt (a) | | $ | 61,570 | | $ | 257 | | $ | 1,312 | | $ | 55,001 | | $ | 5,000 | |
| Non-cancelable operating leases (b) | | | 34,167 | | | 10,512 | | | 13,070 | | | 6,072 | | | 4,513 | |
| Purchase obligations (c) | | | 98,519 | | | 97,378 | | | 1,108 | | | 33 | | | - | |
| Pension benefit obligations (d) | | | 8,500 | | | 8,500 | | | - | | | - | | | - | |
| Postretirement benefit obligations (e) | | | 5,297 | | | 512 | | | 1,045 | | | 1,076 | | | 2,664 | |
| Total contractual obligations | | $ | 208,053 | | $ | 117,159 | | $ | 16,535 | | $ | 62,182 | | $ | 12,177 | |
| | (a) | Long-term debt is included in the consolidated balance sheet in Item 1. Also see note (12) in Item 8. |
| | (b) | Operating lease commitments are described in note (15) in Item 8. |
| | (c) | Purchase obligations represent non-cancelable commitments to purchase inventory. |
(d) Pension benefit obligations reflect our estimates of contributions that will at least meet current law minimum funding requirements. Amounts beyond one year have not been
provided because they are not determinable. Also see note (14) in Item 8.
(e) Postretirement benefit obligations are included in the consolidated balance sheet in Item 8. Also see note (14) in Item 8.
Other
In 2006, 2005, and 2004, 18.3%, 17.9%, and 16.6%, respectively, of our net sales were generated from foreign operations, which are primarily in Canada. International operations are subject to fluctuations in currency exchange rates. We monitor our currency exposure in each country, but do not actively hedge or use derivative financial instruments to manage exchange rate risk. We cannot predict future foreign currency fluctuations, which have and will continue to affect our balance sheet and statement of income. The cumulative effect of foreign currency translation adjustments, included in accumulated other comprehensive income, a component of stockholders’ equity, was an $18.8 million gain as of December 31, 2006. Such adjustments were gains of $435 thousand in 2006, $5.7 million in 2005, and $12.3 million in 2004. However, the foreign currency translation adjustment actually decreased accumulated other comprehensive income during 2006 by $6.8 million due to the $7.2 million reductions in foreign currency translation adjustment related to the foreign currency exchange gain on the return of capital from Canada. Pre-tax losses from translation of foreign currency transactions, which are recorded in selling and administrative expenses, were $87 thousand in 2006, $1.6 million for 2005, and $2.3 million for 2004.
New Accounting Policies
In June 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation (“FIN”) No. 48, “Accounting for Uncertainty in Income Taxes - an Interpretation of FASB Statement No. 109” (“FIN No. 48”). FIN No. 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with SFAS No. 109, “Accounting for Income Taxes.” This Interpretation prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. This Interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. FIN No. 48 will become effective for Genlyte as of January 1, 2007. At this stage, we do not believe the adoption of FIN No. 48 will have a material effect on our financial condition or results of operations. However, we continue to evaluate the effects of adopting this standard.
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS No. 157”). This new standard provides guidance for using fair value to measure assets and liabilities. The FASB believes SFAS No. 157 also responds to investors' requests for expanded information about the extent to which companies measure assets and liabilities at fair value, the information used to measure fair value, and the effect of fair value measurements on earnings. SFAS No. 157 applies whenever other standards require (or permit) assets or liabilities to be measured at fair value but does not expand the use of fair value in any new circumstances. SFAS No. 157 will become effective for Genlyte as of January 1, 2008. We are continuing to evaluate the provisions of this standard and are not certain of the potential impact at this time.
In September 2006, the FASB issued SFAS No. 158, “Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans -- An Amendment of FASB Statements No. 87, 88, 106, and 132R” (“SFAS No. 158”). This new standard requires an employer to: (a) recognize in its balance sheet an asset for a plan's overfunded status or a liability for a
plan's underfunded status; (b) recognize changes in the funded status of a plan through accumulated other comprehensive income in the year in which the changes occur; (c) measure a plan's assets and its obligations that determine its funded status as of the end of the employer's fiscal year (with limited exceptions); and (d) disclose in the notes to financial statements additional information about certain effects on net periodic benefit cost for the next fiscal year that arise from delayed recognition of the gains or losses, prior service costs or credits, and transition asset or obligation. The requirement to recognize the funded status of a benefit plan and the disclosure requirements became effective for Genlyte as of the current year-end. For more information, see note (14) “Pension and Other Postretirement Plans” in the “Notes to the Consolidated Financial Statements” section of Item 8 “Financial Statements and Supplementary Data.” The requirement to measure plan assets and benefit obligations as of the date of the employer's fiscal year-end balance sheet is effective for Genlyte in 2008.
Critical Accounting Policies
“Management’s Discussion and Analysis of Financial Condition and Results of Operations” is based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenues and expenses during the reporting periods.
On an on-going basis, we evaluate our estimates and assumptions, including those related to sales returns and allowances, doubtful accounts receivable, slow moving and obsolete inventory, income taxes, impairment of long-lived assets including goodwill and other intangible assets, medical and casualty insurance reserves, warranty reserves, pensions and other post-retirement benefits, contingencies, environmental matters, and litigation. We base our estimates and assumptions on our substantial historical experience and other relevant factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Reported results would differ under different assumptions or conditions. Actual results will inevitably differ from our estimates, and such differences could be material to the consolidated financial statements.
We believe the following critical accounting policies affect our more significant estimates and assumptions used in the preparation of our consolidated financial statements:
Revenue Recognition
We manufacture and sell our products pursuant to purchase orders received from customers and recognize sales revenue when products are shipped, which is when legal title passes to the customer and the risks and rewards of ownership have transferred.
We have three types of post-shipment obligations to our customers: incentive rebates, sales returns, and warranty obligations. We recognize incentive rebates as sales deductions, and they are accrued as earned by the customer based on a systematic allocation of the total estimated rebates to be paid to the underlying sales that result in progress toward earning the rebate. In addition, we provide for limited product return rights for certain products for select customers, which also are recorded as sales deductions and are accrued based on estimated returns. The amount of future returns can be reasonably estimated based on historical experience, specific notification of pending returns, and estimated lag times for processing credit memos. Further, we record warranty liabilities to cover the estimated future costs for repair or replacement of defective returned products, as well as products that need repair or replacement in the field after installation. We calculate our liability for warranty claims by applying a lag factor to our historical warranty expense to estimate unknown claims, as well as estimating the total amount to be incurred for known warranty issues. We periodically assess the adequacy of our recorded warranty liabilities and adjust the amounts as necessary.
Allowance for Doubtful Accounts Receivable and Sales Returns and Allowances
We maintain allowances for doubtful accounts receivable for estimated uncollectible invoices related to customer defaults due to bankruptcy, out of business, etc., which result in “bad debt” write-offs. Our estimated allowances are based on the aging of invoices, historical collections, and customers’ financial status. In addition, we also maintain allowances for customer refusals to pay due to returned products, billing errors, disputed amounts, etc., which result in credit memos charged to net sales. Management’s estimated allowances are based on the amounts returned and disputed by customers and estimated lag times for processing credit memos. In our opinion, these allowances are adequately established and sufficient to cover future collection problems. However, should business conditions deteriorate and more customers have financial problems, these allowances may be increased, which would negatively impact our results of operations.
Reserve for Slow Moving and Obsolete Inventory
We record inventory at the lower of cost (generally LIFO) or market. Due to stable or increasing selling prices in recent years, and the level of gross profit margins on most products, we have not made any material adjustments to write down inventory to market. However, we do reserve for excess quantities of slow moving or obsolete inventory. These reserves are primarily based upon our assessment of the salability of the inventory, historical usage of raw materials and historical demand for finished goods, and estimated future usage and demand. An improper assessment of salability or improper estimate of future usage or demand, or significant changes in usage or demand could result in significant changes in the reserves and a positive or a negative impact on our results of operations in the period the change occurs.
Impairment of Goodwill, Other Intangible Assets, and Long-Lived Assets
According to SFAS No. 142, “Goodwill and Other Intangible Assets” (“SFAS No. 142”), goodwill and indefinite-lived intangible assets are subject to an assessment for impairment on a reporting unit basis by applying a fair-value-based test annually and more frequently if circumstances indicate a possible impairment. All other long-lived and intangible assets are reviewed for impairment whenever events or circumstances indicate that the carrying amount of the asset may not be recoverable. If a reporting unit’s carrying value exceeds its fair value, and the reporting unit’s carrying value of goodwill and indefinite-lived intangible assets exceed the implied fair value of that goodwill and indefinite-lived intangible assets, an impairment loss is recognized in an amount equal to that excess.
The evaluation of goodwill and indefinite-lived intangible assets for impairment requires us to use significant estimates and assumptions including, but not limited to, projecting future revenue, operating results, and cash flow of each of our reporting units. Although we believe the estimates and assumptions used in the evaluation of these intangible assets are reasonable, differences between actual and projected revenue, operating results, and cash flow could cause some impairment of these intangible assets. If this were to occur, we would be required to write down the intangible assets, which could have a material negative impact on our results of operations and financial condition.
Retirement Plans
Assets and liabilities of our defined benefit plans are determined on an actuarial basis and are affected by the estimated market value of plan assets, estimates of the expected return on plan assets, estimated rates of compensation increase, and discount rates. Actual changes in the fair market value of plan assets and differences between the actual and expected return on plan assets, as well as differences between the actual and estimated rates of compensation increase and changes in the discount rate, will affect the amount of pension expense recognized, impacting our results of operations.
The key assumptions used in developing 2006 and 2005 benefit obligations are as follows:
| | | U.S. Pension Plans | Foreign Pension Plans | | Other Postretirement Benefit Plans | |
Weighted Average Assumptions | | 2006 | | 2005 | | 2006 | | 2005 | | 2006 | | 2005 | |
For benefit obligations: | | | | | | | | | | | | | |
| Discount rate | | | 5.75 | % | | 5.43 | % | | 5.25 | % | | 5.43 | % | | 5.63 | % | | 5.43 | % |
| Rate of compensation increase | | | 3.00 | % | | 3.00 | % | | 3.00 | % | | 3.00 | % | | N/A | | | N/A | |
| Expected return on plan assets | | | 8.50 | % | | 8.50 | % | | 7.00 | % | | 7.04 | % | | N/A | | | N/A | |
For net periodic benefit cost: | | | | | | | | | | | | | | | | | | | |
| Discount rate | | | 5.43 | % | | 5.43 | % | | 5.33 | % | | 5.43 | % | | 5.43 | % | | 5.43 | % |
| Rate of compensation increase | | | 3.00 | % | | 3.00 | % | | 3.00 | % | | 3.00 | % | | N/A | | | N/A | |
| Expected return on plan assets | | | 8.50 | % | | 8.50 | % | | 7.00 | % | | 7.04 | % | | N/A | | | N/A | |
We have historically used the Moody’s Aa annualized long-term discount rate published as of the measurement date. However, during 2006 we selected a discount rate based on the published Citigroup Spot Rates for U.S pension plans and other postretirement plans and the published rates from Scotia Capital Markets for foreign plans, rounded to the nearest basis point (.01%) for the expected cash stream of each plan. Our actuarial consultants have agreed that the average plan duration is long-term, and could range between 20 and 60 years. In addition, to develop the expected long-term rate of return on plan assets assumptions, we considered the historical returns and the future expectations for returns for each asset class, as well as the target asset allocation of the pension portfolios.
The key assumptions used in developing the net periodic benefit costs are the same assumptions used to determine the prior year benefit obligations, with the exception of the foreign plans which differ due to the 2006 acquisition of JJI.
We expect to contribute approximately $6.6 million to our U.S. defined benefit plans, $1.9 million to our foreign defined benefit plans, and $500 thousand to our other postretirement benefit plans during 2007. Contributions are expected to at least meet the current law minimum funding requirements.
Self-Insurance for Workers’ Compensation and Other Casualty and Medical Claims
We are insured for workers’ compensation and other casualty claims, but the deductible, $250 thousand prior to August 2002 and $500 thousand afterwards, exceeds the vast majority of claims. We estimate losses and reserve requirements for each open claim and record provisions for workers’ compensation claims based on consultation from the insurance provider and administrator. We also provide reserves for estimated losses for claims incurred but not reported and the future development of reported claims, based on actuarial and claims trend analysis performed by our casualty consultant. Our insurance providers use significant judgment and assumptions to estimate the losses and reserve requirements, and although we believe the current estimates are reasonable, significant differences related to the factors used in making those estimates could materially affect our workers’ compensation and other casualty liabilities and expense, impacting financial condition and results of operations.
We are self-insured for the medical benefit plans covering most of our employees. However, we also have stop-loss insurance coverage for claims that exceed $250 thousand. We estimate our liability for claims incurred by applying a lag factor to our historical claims and administrative cost experience. The validity of the lag factor is evaluated periodically and revised if necessary. Although we believe the current estimated liabilities for medical claims are reasonable, changes in the lag in reporting claims, changes in claims experience, unusually large claims, and other factors could materially affect the recorded liabilities and expense, impacting financial condition and results of operations.
Stock-Based Compensation Costs
Effective January 1, 2006, we adopted SFAS No. 123R, which establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services. SFAS No. 123R eliminates the alternative to use the intrinsic value method of Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”), as permitted under SFAS No. 123, “Accounting for Stock-Based Compensation” and SFAS No. 148, “Accounting for Stock-Based Compensation - Transition and Disclosure - an Amendment of Financial Accounting Standards Board (“FASB”) Statement No. 123.” SFAS No. 123R requires entities to recognize the cost of employee services received in exchange for awards of equity instruments based on the grant-date fair value of those awards (with limited exceptions). That cost is recognized over the period during which an employee is required to provide service in exchange for the award or the vesting period. No compensation cost is recognized for equity instruments for which employees do not render the requisite service. Changes in fair value during the requisite service period will be recognized as compensation cost over that period. We adopted SFAS No. 123R using the modified prospective method and have applied it to the accounting for Genlyte’s stock options. Under the modified prospective method, share-based expense is recognized for all awards granted subsequent to December 31, 2005, based on the grant-date fair value estimated in accordance with the provisions of SFAS No. 123R. Since all Genlyte stock options granted prior to December 31, 2005 were for prior service, share-based expense is not recognized for awards granted prior to, but not yet vested, as of January 1, 2006, except for awards that may be subsequently modified or repurchased.
Note (17) “Stock Options” in the “Notes to Consolidated Financial Statements” section of Item 8 “Financial Statements and Supplementary Data” includes the disclosure requirements of SFAS No. 123R, including the stock-based compensation cost for the stock options granted during the year. The fair value of each stock option award is estimated on the date of grant using the Black-Scholes-Merton option valuation model. Expected volatility was based on historical volatility of Genlyte stock over the preceding number of years equal to the expected life of the options. The expected term of options granted was determined based on historical exercise behavior of similar employee groups. The risk-free interest rate was based on the U.S. Treasury yield for terms equal to the expected life of the options at the time of grant. All inputs into the Black-Scholes-Merton model are estimates made at the time of grant. Future actual results could materially differ from these estimates, though without impact to future reported net income.
Income Taxes
Significant judgment is required in developing our income tax provision, including the determination of deferred tax assets and liabilities and any valuation allowances that might be required against deferred tax assets. We operate in multiple taxing jurisdictions and are subject to audit in those jurisdictions. Because of the complex issues involved, any assessments can take an extended period of time to resolve. In our opinion, adequate income tax provisions have been made and adequate tax reserves exist to cover probable risks. However, results of Internal Revenue Service or other jurisdictional audits, statute closings on prior tax returns, and future tax law changes could have a material impact on our future tax liabilities and provisions, impacting financial condition and results of operations.
Purchase Method of Accounting Related to Acquisitions
Because of the magnitude and materiality of Genlyte’s 2006 acquisitions, the purchase method of accounting is a critical accounting policy. Management accounts for all business acquisitions in accordance with SFAS No. 141, “Business Combinations” and SFAS No. 142, “Goodwill and Other Intangible Assets.” Application of these standards requires considerable judgment in determining the fair values of tangible and intangible assets and liabilities and the depreciable and amortizable lives of tangible and intangible assets. With respect to the 2006 acquisitions, the total purchase price of $137.3 million was allocated to net tangible and identifiable intangible assets based on estimated fair values as of the dates of the acquisitions. A preliminary allocation of the purchase prices to the net assets acquired is disclosed in note (3) “Acquisitions” in the “Notes to Consolidated Financial Statements” section of Item 8 “Financial Statements and Supplementary Data.” Management determined the fair values and lives of net assets using various estimates, assumptions, and judgments. By applying different estimates, assumptions, and judgments, management could have allocated the purchase prices differently, and the differences could be material to the consolidated balance sheet. Different fair values and lives could also result in materially different depreciation and amortization expense.
NON-GAAP FINANCIAL INFORMATION
To supplement the consolidated financial statements presented in accordance with accounting principles generally accepted in the United States (GAAP), we have presented adjusted operating results which include non-GAAP financial information (such as adjusted net income, working capital, current ratio, net debt, and total debt to total capital employed). This non-GAAP financial information is provided to enhance the user’s overall understanding of our current financial performance and prospects for the future. Specifically, management believes the non-GAAP financial information provides useful information to investors by excluding or adjusting certain items of operating results that were unusual and not indicative of our core operating results. This non-GAAP financial information should be considered in addition to, and not as a substitute for, or superior to, results prepared in accordance with GAAP. The non-GAAP financial information included herein has been reconciled to the nearest GAAP measure.
FORWARD-LOOKING STATEMENTS
Certain statements in this Management’s Discussion and Analysis of Financial Condition and Results of Operations, including without limitation expectations as to future sales and operating results, constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 (the “Reform Act”). Words such as “expects,” “anticipates,” “believes,” “plans,” “intends,” “estimates,” “projects,” “forecasts,” “outlook,” and similar expressions are intended to identify such forward-looking statements. The statements involve known and unknown risks, uncertainties, and other factors which may cause our actual results, performance, or achievements to be materially different from any future results, performance, or achievements expressed or implied by such forward-looking statements. Such factors include, but are not limited to, the following: the highly competitive nature of the lighting business; the overall strength or weakness of the economy, construction activity, and the commercial, residential, and industrial lighting markets; terrorist activities or war and the effects they may have on us or the overall economy; the ability to maintain or increase prices; customer acceptance of new product offerings; ability to sell to targeted markets; the performance of our specialty and niche businesses; demand spurred by the Energy Policy Act of 2005, availability and cost of steel, aluminum, copper, zinc coatings, corrugated packaging, ballasts, and other raw materials; work interruption or stoppage by union employees; increases in energy and freight costs; workers’ compensation, casualty and group health insurance costs; the costs and outcomes of various legal proceedings; increases in interest costs arising from an increase in rates; the operating results of recent acquisitions; future acquisitions; the loss of key management personnel; foreign currency exchange rates; changes in tax rates or laws, and changes in accounting standards. We will not undertake and specifically decline any obligation to update or correct any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events.
| QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
The Company is exposed to market risk from changes in variable interest rates, changes in prices of raw materials and component parts, and fluctuations in foreign currency exchange rates in the operation of its business. Each of these risks is discussed below.
Interest Rate Risk
The Company earns interest income on its cash, cash equivalents, and short-term investments and pays interest expense on its debt. Because of variable interest rates, the Company is exposed to risk of interest rate fluctuations, which impact interest income, interest expense, and cash flows. To reduce exposure to uncertain future cash flows resulting from fluctuations in market interest rates, the Company entered into cash flow hedges during 2004 and 2006 in the form of interest rate swaps to provide a fixed rate of interest.
As of December 31, 2006 and 2005 we had the following interest rate swap contracts (in thousands):
| Effective Date | | 2006 Fair Value | | 2005 Fair Value | | Notional Amount | | Hedged Item | | Fixed Interest Rate | | Year of Expiration | |
| 8/2/2004 | | $ | - | | $ | 695 | | $ | 50,000 | | | Credit Line | | | 3.0 | % | | 7/31/2006 | |
| 8/2/2004 | | | - | | | 591 | | | 50,000 | | | Credit Line | | | 3.0 | % | | 7/31/2006 | |
| 8/2/2004 | | | 865 | | | 1,584 | | | 80,000 | | | ABS | | | 3.4 | % | | 7/31/2007 | |
| 5/22/2006 | | | (155 | ) | | - | | | 25,000 | | | Credit Line | | | 5.7 | % | | 5/22/2009 | |
| 5/22/2006 | | | (267 | ) | | - | | | 25,000 | | | Credit Line | | | 5.7 | % | | 5/24/2010 | |
| | | $ | 443 | | $ | 2,870 | | | | | | | | | | | | | |
The Company receives a LIBOR-based variable interest rate and pays a fixed interest rate on the interest rate swap contracts, which are designated as cash flow hedges. The Company recorded fair value changes totaling $(1.2) million after tax for the year ended December 31, 2006 in accumulated other comprehensive income (loss). Of the $164 thousand in accumulated other comprehensive income (loss) at December 31, 2006, management estimates that only the portion related to the $80.0 million swap that expires in July 2007 will be reclassified to income in the next twelve months.
As of December 31, 2006, $130.0 million of the Company’s total debt of $147.9 million was subject to fixed interest rates and thus, would not be significantly impacted by fluctuations in interest rates. Management does not feel that a potential increase in interest rates will have a significant impact since any increase in interest expense on the remaining variable rate debt would be offset by additional interest income from cash, cash equivalent, and short-term investment balances.
Raw Material Price Risk
The Company purchases large quantities of raw materials and components -- mainly steel, aluminum, ballasts, sockets, wire, plastic, lenses, glass, and corrugated cartons. The Company’s operating results could be affected by the availability and price fluctuations of these materials. The Company uses multiple suppliers, has alternate suppliers for most materials, and has no significant dependence on any single supplier. No consequential supply problems have been encountered in recent years. Price risk for these materials is related to increases in commodity items that affect all users of the materials, including the Company’s competitors. For the year ended December 31, 2006, the raw material component of cost of goods sold subject to price risk was $645.3 million. The Company does not actively hedge or use derivative instruments to manage its risk in this area. The Company does, however, seek new vendors, negotiate with existing vendors, and at times commit to minimum volume levels to mitigate price increases. The Company negotiates supply agreements with certain vendors to lock in prices over a negotiated period of time. During the second half of 2004 and through the end of 2006, prices for steel, aluminum, copper, zinc coatings, ballasts, and corrugated cartons rose sharply. In response to realized and potential cost increases, the Company announced incremental price increases effective with May 2004, November 2004, June 2005, and June 2006 orders. Management believes these price increases have fully offset the raw material cost increases for the same period. However, because of continued raw material cost increases, the Company has announced additional price increases effective during the first quarter of 2007.
Foreign Currency Exchange Rate Risk
In 2006, 18.3% of the Company’s net sales were generated from foreign operations, primarily in Canada. A significant amount of these products were manufactured in Canada and sold to U.S. customers. The Company’s Canadian operations also purchase materials from U.S. vendors. As a result, Canadian operations have cash, cash equivalents, accounts receivable, and accounts payable denominated in U.S. dollars. Translation of these balances to the operations’ functional currency, the Canadian dollar, results in foreign currency transaction gains and losses, which are recorded in selling and administrative
expenses. When Canadian assets denominated in U.S. dollars exceed Canadian liabilities denominated in U.S. dollars (the Company’s current situation) and the Canadian dollar strengthens versus the U.S. dollar, the Company recognizes foreign currency transaction losses. When the Canadian dollar weakens versus the U.S. dollar, the Company recognizes foreign currency transaction gains. If the Company’s Canadian liabilities denominated in U.S. dollars exceeded Canadian assets denominated in U.S. dollars, the opposite would occur. In addition, the Company’s 2006 acquisitions of JJI and Strand included a German and Hong Kong operation, respectively, which are also subject to foreign currency transaction gains and losses, but to a lesser extent. Net losses resulting from foreign currency transactions were $87 thousand ($61 thousand after income taxes) during the twelve months ended December 31, 2006. However, these transaction losses were completely offset by the translation of sales and earnings of the Company’s Canadian divisions at the stronger Canadian dollar rate for the year, which contributed $1.8 million to net income in 2006. The Company does not actively hedge or use derivative instruments to manage risk in these areas.
As of December 31, 2006, a significant amount of the Company’s net assets were at Canadian operations. The Company also had a minimal amount of net assets at Mexican, German, and Hong Kong operations. The translation of these net assets from the operations’ functional currency, the Canadian dollar, Mexican peso, euro, or Hong Kong dollar, to the Company’s reporting currency, U.S. dollars, results in foreign currency translation adjustments, which are recorded in the accumulated other comprehensive income component of stockholders’ equity and do not affect net income. The Company’s foreign currency translation adjustment was a gain of $435 thousand for the twelve months ended December 31, 2006. However, the foreign currency translation adjustment actually decreased accumulated other comprehensive income during 2006 by $6.7 million due to the $7.2 million reduction in foreign currency translation adjustment related to the foreign currency exchange gain on the return of capital from Canada. The Company does not use derivative instruments to hedge its foreign currency risk of net investments in foreign operations.
INDEX TO FINANCIAL STATEMENTS AND SCHEDULE
| | PAGE |
Financial Statements | |
| 28 |
| 30 |
| 31 |
| 32 |
| 33 |
| 34 |
All schedules are omitted because they are not applicable or the required information is shown in the consolidated financial statements or notes thereto.
To the Board of Directors and the Stockholders of The Genlyte Group Incorporated:
We have completed integrated audits of The Genlyte Group Incorporated’s consolidated financial statements and of its internal control over financial reporting as of December 31, 2006, in accordance with the standards of the Public Company Accounting Oversight Board (United States). Our opinions, based on our audits, are presented below.
Consolidated financial statements
In our opinion, the consolidated financial statements listed in the accompanying index present fairly, in all material respects, the financial position of The Genlyte Group Incorporated and its subsidiaries at December 31, 2006 and 2005, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2006 in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit of financial statements includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
As discussed in note (2) to the consolidated financial statements, the Company changed the manner in which it accounts for stock-based compensation and defined benefit pension and other postretirement plans in 2006.
Internal control over financial reporting
Also, in our opinion, management’s assessment, included in Management's Report on Internal Control Over Financial Reporting appearing under Item 9A, that the Company maintained effective internal control over financial reporting as of December 31, 2006 based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), is fairly stated, in all material respects, based on those criteria. Furthermore, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control - Integrated Framework issued by the COSO. The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express opinions on management’s assessment and on the effectiveness of the Company’s internal control over financial reporting based on our audit. We conducted our audit of internal control over financial reporting in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. An audit of internal control over financial reporting includes obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we consider necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinions.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
As described in Management's Report on Internal Control Over Financial Reporting appearing under Item 9A, management has excluded JJI Lighting Group, Strand Lighting, and Carsonite International Corporation from its assessment of internal control over financial reporting as of December 31, 2006 because these companies were acquired by the Company in purchase business combinations during 2006. We have also excluded JJI Lighting Group, Strand Lighting, and Carsonite International Corporation from our audit of internal control over financial reporting. JJI Lighting Group, Strand Lighting, and Carsonite International Corporation are wholly-owned subsidiaries whose total assets and net sales represent 16% and 7%, respectively, of the related consolidated financial statement amounts as of and for the year ended December 31, 2006.
/s/ PricewaterhouseCoopers LLP
Louisville, Kentucky
February 28, 2007
|
| CONSOLIDATED STATEMENTS OF INCOME |
| (Amounts in thousands, except earnings per share data) |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | For the years ended December 31, | |
| | | 2006 | | 2005 | | 2004 | |
| Net sales | | $ | 1,484,833 | | $ | 1,252,194 | | $ | 1,179,069 | |
| Cost of sales | | | 896,027 | | | 785,973 | | | 760,938 | |
| Gross profit | | | 588,806 | | | 466,221 | | | 418,131 | |
| Selling and administrative expenses | | | 376,074 | | | 314,471 | | | 297,033 | |
| Amortization of intangible assets | | | 4,398 | | | 2,408 | | | 4,280 | |
| Operating profit | | | 208,334 | | | 149,342 | | | 116,818 | |
| Interest expense, net | | | 7,474 | | | 8,024 | | | 3,937 | |
| Foreign currency exchange gain on investment | | | (7,184 | ) | | - | | | - | |
| Minority interest | | | - | | | 91 | | | 18,354 | |
| Income before income taxes | | | 208,044 | | | 141,227 | | | 94,527 | |
| Income tax provision | | | 53,563 | | | 56,383 | | | 36,274 | |
| Net income | | $ | 154,481 | | $ | 84,844 | | $ | 58,253 | |
| | | | | | | | | | | |
| Earnings per share: | | | | | | | | | | |
| Basic | | $ | 5.49 | | $ | 3.06 | | $ | 2.14 | |
| Diluted | | $ | 5.37 | | $ | 2.99 | | $ | 2.10 | |
| | | | | | | | | | | |
| Weighted average number of shares outstanding: | | | | | | | | | | |
| Basic | | | 28,119 | | | 27,749 | | | 27,261 | |
| Diluted | | | 28,790 | | | 28,366 | | | 27,769 | |
| | | | | | | | | | | |
| | | | | | | | | | | |
| The accompanying notes are an integral part of these consolidated financial statements. | | | | | | | | | | |
|
| CONSOLIDATED BALANCE SHEETS |
| (Amounts in thousands, except share data) |
| | | | | | |
| | | | | | |
| | | As of December 31, | |
| | | 2006 | | 2005 | |
Assets: | | | | | | | |
Current Assets: | | | | | | | |
| Cash and cash equivalents | | $ | 76,690 | | $ | 78,042 | |
| Short-term investments | | | - | | | 17,667 | |
| Accounts receivable, less allowances for doubtful accounts of | | | | | | | |
| $7,019 and $6,017, as of December 31, 2006 and 2005, respectively | | | 202,116 | | | 186,691 | |
| Inventories | | | 194,773 | | | 152,573 | |
| Deferred income taxes and other current assets | | | 39,467 | | | 13,459 | |
| Total current assets | | | 513,046 | | | 448,432 | |
| Property, plant and equipment, at cost: | | | | | | | |
| Land and land improvements | | | 19,815 | | | 19,157 | |
| Buildings and leasehold improvements | | | 131,823 | | | 127,942 | |
| Machinery and equipment | | | 326,972 | | | 299,137 | |
| Total property, plant and equipment | | | 478,610 | | | 446,236 | |
| Less: accumulated depreciation and amortization | | | 299,094 | | | 280,159 | |
| Net property, plant and equipment | | | 179,516 | | | 166,077 | |
| Goodwill | | | 345,203 | | | 257,233 | |
| Trademarks and trade names | | | 105,483 | | | 77,704 | |
| Other intangible assets, net of accumulated amortization | | | 39,444 | | | 34,935 | |
| Other assets | | | 3,493 | | | 5,525 | |
Total Assets | | $ | 1,186,185 | | $ | 989,906 | |
| | | | | | | | |
Liabilities & Stockholders' Equity: | | | | | | | |
Current Liabilities: | | | | | | | |
| Short-term debt | | $ | 86,366 | | $ | 80,140 | |
| Current maturities of long-term debt | | | 257 | | | 156 | |
| Accounts payable | | | 136,146 | | | 115,678 | |
| Accrued expenses | | | 118,528 | | | 101,192 | |
| Total current liabilities | | | 341,297 | | | 297,166 | |
| Long-term debt | | | 61,313 | | | 86,076 | |
| Deferred income taxes | | | 38,935 | | | 35,016 | |
| Accrued pension | | | 26,526 | | | 14,123 | |
| Other long-term liabilities | | | 12,346 | | | 11,913 | |
| Total liabilities | | | 480,417 | | | 444,294 | |
| Commitments and contingencies (See notes (15) and (16)) | | | | | | | |
Stockholders' Equity: | | | | | | | |
| Common stock ($.01 par value, 100,000,000 shares authorized: | | | | | | | |
| 30,195,582 and 29,761,192 shares issued as of December 31, 2006 and 2005; | | | | | | | |
| 28,379,666 and 27,945,266 shares outstanding as of December 31, 2006 and 2005) | | | 284 | | | 280 | |
| Additional paid-in capital | | | 80,220 | | | 64,207 | |
| Retained earnings | | | 611,998 | | | 457,517 | |
| Accumulated other comprehensive income | | | 13,266 | | | 23,608 | |
| Total stockholders' equity | | | 705,768 | | | 545,612 | |
Total Liabilities & Stockholders' Equity | | $ | 1,186,185 | | $ | 989,906 | |
| | | | | | | | |
| The accompanying notes are an integral part of these consolidated financial statements. | | | | | | | |
| |
| CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY | |
| (Amounts in thousands) |
| | | | | | | | | | | | | | |
| | | | | | | | | | | Accumulated | | | |
| | Common Stock | | | | | | Other | | Total | |
| | Number | | | | Additional | | Retained | | Comprehensive | | Stockholders' | |
| | of Shares | | Amount | | Paid-in Capital | | Earnings | | Income | | Equity | |
| Balance, December 31, 2003 | | | 27,146 | | $ | 136 | | $ | 46,793 | | $ | 314,420 | | $ | (3,981 | ) | $ | 357,368 | |
| Net income | | | - | | | - | | | - | | | 58,253 | | | - | | | 58,253 | |
| Decrease in minimum pension liability, before tax | | | - | | | - | | | - | | | - | | | 11,995 | | | 11,995 | |
| Related tax effect | | | - | | | - | | | - | | | - | | | (4,608 | ) | | (4,608 | ) |
| Decrease in minimum pension liability, after tax | | | - | | | - | | | - | | | - | | | 7,387 | | | 7,387 | |
| Increase in fair market value of interest rate swaps, before tax | | | - | | | - | | | - | | | - | | | 432 | | | 432 | |
| Related tax effect | | | - | | | - | | | - | | | - | | | (151 | ) | | (151 | ) |
| Increase in fair market value of interest rate swaps, after tax | | | - | | | - | | | - | | | - | | | 281 | | | 281 | |
| Foreign currency translation adjustments | | | - | | | - | | | - | | | - | | | 12,342 | | | 12,342 | |
| Total comprehensive income | | | | | | | | | | | | | | | | | | 78,263 | |
| Exercise of stock options | | | 384 | | | 2 | | | 5,194 | | | - | | | - | | | 5,196 | |
| Income tax benefit from exercise of stock options | | | - | | | - | | | 2,161 | | | - | | | - | | | 2,161 | |
| Balance, December 31, 2004 | | | 27,530 | | $ | 138 | | $ | 54,148 | | $ | 372,673 | | $ | 16,029 | | $ | 442,988 | |
| Net income | | | - | | | - | | | - | | | 84,844 | | | - | | | 84,844 | |
| Decrease in minimum pension liability, before tax | | | - | | | - | | | - | | | - | | | 1,432 | | | 1,432 | |
| Related tax effect | | | - | | | - | | | - | | | - | | | (572 | ) | | (572 | ) |
| Decrease in minimum pension liability, after tax | | | - | | | - | | | - | | | - | | | 860 | | | 860 | |
| Increase in fair market value of interest rate swaps, before tax | | | - | | | - | | | - | | | - | | | 1,756 | | | 1,756 | |
| Related tax effect | | | - | | | - | | | - | | | - | | | (689 | ) | | (689 | ) |
| Increase in fair market value of interest rate swaps, after tax | | | - | | | - | | | - | | | - | | | 1,067 | | | 1,067 | |
| Foreign currency translation adjustments | | | - | | | - | | | - | | | - | | | 5,652 | | | 5,652 | |
| Total comprehensive income | | | | | | | | | | | | | | | | | | 92,423 | |
| Stock Split | | | - | | | 139 | | | (139 | ) | | - | | | - | | | - | |
| Exercise of stock options | | | 415 | | | 3 | | | 5,767 | | | - | | | - | | | 5,770 | |
| Income tax benefit from exercise of stock options | | | - | | | - | | | 4,431 | | | - | | | - | | | 4,431 | |
| Balance, December 31, 2005 | | | 27,945 | | $ | 280 | | $ | 64,207 | | $ | 457,517 | | $ | 23,608 | | $ | 545,612 | |
| Net income | | | - | | | - | | | - | | | 154,481 | | | - | | | 154,481 | |
| Decrease in minimum pension liability, before tax | | | - | | | - | | | - | | | - | | | 2,115 | | | 2,115 | |
| Related tax effect | | | - | | | - | | | - | | | - | | | (937 | ) | | (937 | ) |
| Decrease in minimum pension liability, after tax | | | - | | | - | | | - | | | - | | | 1,178 | | | 1,178 | |
| Decrease in fair market value of interest rate swaps, before tax | | | - | | | - | | | - | | | - | | | (1,925 | ) | | (1,925 | ) |
| Related tax effect | | | - | | | - | | | - | | | - | | | 741 | | | 741 | |
| Decrease in fair market value of interest rate swaps, after tax | | | - | | | - | | | - | | | - | | | (1,184 | ) | | (1,184 | ) |
| One-time foreign currency gain recognized as income | | | | | | | | | | | | | | | (7,184 | ) | | (7,184 | ) |
| Foreign currency translation adjustments | | | - | | | - | | | - | | | - | | | 435 | | | 435 | |
| Total comprehensive income | | | | | | | | | | | | | | | | | | 147,726 | |
| Incremental effect of adopting SFAS No. 158, before tax | | | - | | | - | | | - | | | - | | | (5,729 | ) | | (5,729 | ) |
| Related tax effect | | | - | | | - | | | - | | | - | | | 2,142 | | | 2,142 | |
| Incremental effect of adopting SFAS No. 158, after tax | | | - | | | - | | | - | | | - | | | (3,587 | ) | | (3,587 | ) |
| Stock compensation expense | | | - | | | - | | | 969 | | | - | | | - | | | 969 | |
| Exercise of stock options | | | 435 | | | 4 | | | 6,969 | | | - | | | - | | | 6,973 | |
| Income tax benefit from exercise of stock options | | | - | | | - | | | 8,075 | | | - | | | - | | | 8,075 | |
| Balance, December 31, 2006 | | | 28,380 | | $ | 284 | | $ | 80,220 | | $ | 611,998 | | $ | 13,266 | | $ | 705,768 | |
| | | | | | | | | | | | | | | | | | | | |
| The accompanying notes are an integral part of these consolidated financial statements. | | | | | | | | | | | | |
|
| CONSOLIDATED STATEMENTS OF CASH FLOWS | |
| (Amounts in thousands) |
| | | | | | | | |
| | | For the years ended December 31, | |
| | | 2006 | | 2005 | | 2004 | |
Cash Flows From Operating Activities: | | | | | | | | | | |
| Net income | | $ | 154,481 | | $ | 84,844 | | $ | 58,253 | |
| Adjustments to reconcile net income to net cash provided | | | | | | | | | | |
| by operating activities: | | | | | | | | | | |
| Depreciation and amortization | | | 31,686 | | | 29,166 | | | 28,069 | |
| Net loss (gain) from disposals of property, plant and equipment | | | 570 | | | 705 | | | (1,790 | ) |
| (Benefit) provision for deferred income taxes | | | (22,347 | ) | | 9,420 | | | 652 | |
| Foreign currency exchange gain on investment | | | (7,184 | ) | | - | | | - | |
| Minority interest | | | (1,058 | ) | | 88 | | | 13,238 | |
| Stock-based compensation expense | | | 969 | | | - | | | - | |
| Changes in assets and liabilities, net of effect of acquisitions: | | | | | | | | �� | | |
| (Increase) decrease in: | | | | | | | | | | |
| Accounts receivable | | | 5,041 | | | (2,554 | ) | | (20,740 | ) |
| Inventories | | | (9,925 | ) | | (1,720 | ) | | (1,579 | ) |
| Deferred income taxes and other current assets | | | (1,915 | ) | | 897 | | | (3,987 | ) |
| Intangible and other assets | | | 2,771 | | | (2,748 | ) | | 4,807 | |
| Increase (decrease) in: | | | | | | | | | | |
| Accounts payable | | | (3,195 | ) | | 1,846 | | | 13,636 | |
| Accrued expenses | | | (12,294 | ) | | 7,249 | | | 16,806 | |
| Deferred income taxes, long-term | | | 1,174 | | | 2,641 | | | 1,905 | |
| Accrued pension and other long-term liabilities | | | 7,100 | | | (3,637 | ) | | (6,564 | ) |
| All other, net | | | - | | | 4,741 | | | 2,579 | |
| Net cash provided by operating activities | | | 145,874 | | | 130,938 | | | 105,285 | |
Cash Flows From Investing Activities: | | | | | | | | | | |
| Acquisitions of businesses, net of cash received | | | (135,685 | ) | | - | | | (405,187 | ) |
| Purchases of property, plant and equipment | | | (27,019 | ) | | (39,423 | ) | | (26,620 | ) |
| Proceeds from sales of property, plant and equipment | | | 144 | | | 13 | | | 4,607 | |
| Purchases of short-term investments | | | - | | | (18,254 | ) | | (60,467 | ) |
| Proceeds from sales of short-term investments | | | 17,850 | | | 19,349 | | | 113,725 | |
| Net cash used in investing activities | | | (144,710 | ) | | (38,315 | ) | | (373,942 | ) |
Cash Flows From Financing Activities: | | | | | | | | | | |
| Proceeds from short-term debt | | | 27,797 | | | 30,116 | | | 100,000 | |
| Repayments of short-term debt | | | (24,527 | ) | | (42,465 | ) | | (7,511 | ) |
| Proceeds from long-term debt | | | 170,926 | | | 104,530 | | | 200,000 | |
| Repayments of long-term debt | | | (196,111 | ) | | (169,528 | ) | | (60,068 | ) |
| Net increase (decrease) in disbursements outstanding | | | 4,027 | | | (1,826 | ) | | 1,470 | |
| Exercise of stock options | | | 6,973 | | | 5,770 | | | 5,196 | |
| Excess tax benefits from exercise of stock options | | | 8,075 | | | - | | | - | |
| Net cash (used in) provided by financing activities | | | (2,840 | ) | | (73,403 | ) | | 239,087 | |
| Effect of exchange rate changes on cash and cash equivalents | | | 324 | | | 2,589 | | | 3,667 | |
| Net (decrease) increase in cash and cash equivalents | | | (1,352 | ) | | 21,809 | | | (25,903 | ) |
| Cash and cash equivalents at beginning of year | | | 78,042 | | | 56,233 | | | 82,136 | |
| Cash and cash equivalents at end of year | | $ | 76,690 | | $ | 78,042 | | $ | 56,233 | |
| | | | | | | | | | | |
Supplemental Disclosure of Cash Flow Information: | | | | | | | | | | |
| Cash paid during the year for: | | | | | | | | | | |
| Interest paid, net | | $ | 7,309 | | $ | 7,916 | | $ | 4,061 | |
| Income taxes, net of refunds of $896, $1,486, and $2,168, respectively | | $ | 64,174 | | $ | 45,150 | | $ | 28,674 | |
| | | | | | | | | | | |
| The accompanying notes are an integral part of these consolidated financial statements. | | | | | | | | | | |
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except per share data)
Note: Throughout these notes, the term “Company” as used herein refers to The Genlyte Group Incorporated, including the consolidated results of The Genlyte Group Incorporated and all subsidiaries.
(1) | Description of Business |
The Genlyte Group Incorporated (“Genlyte”), a Delaware corporation, is a United States based multinational corporation. The Company designs, manufactures, markets, and sells lighting fixtures, controls, and related products for a wide variety of applications in the commercial, residential, and industrial markets primarily in North America. The Company operates in these three segments through the following divisions: Capri/Omega, Chloride Systems, Controls, Day-Brite, Gardco, Hadco, JJI Lighting, Lightolier, Shakespeare Composite Structures, Strand, Supply, Thomas Residential, and Wide-Lite in the United States; Canlyte, Ledalite, Lumec, and Thomas Lighting Canada in Canada; and Hoffmeister in Germany. The Company markets its products under 45 widely recognized and respected brand names. Part of the Company’s strategy is to take advantage of brand name recognition and focus its brands on specific markets, market channels or product competencies.
On August 30, 1998, Genlyte and Thomas Industries Inc. (“Thomas”) completed the combination of the business of Genlyte with the lighting business of Thomas (“Thomas Lighting”), in the form of a limited liability company named Genlyte Thomas Group LLC (“GTG”). GTG manufactures, sells, markets, and distributes commercial, residential, and industrial lighting fixtures and controls. Genlyte contributed substantially all of its assets and liabilities to GTG and received a 68% interest in GTG. Thomas contributed substantially all of the assets and certain related liabilities of Thomas Lighting and received a 32% interest in GTG. The percentage interests in GTG issued to Genlyte and Thomas were based on arms-length negotiations between the parties with the assistance of their financial advisers. As described in note (3) “Acquisitions,” Genlyte acquired Thomas’ 32% minority interest in GTG in July 2004.
The Company’s products primarily utilize incandescent, fluorescent, light emitting diodes (“LED”), and high-intensity discharge (“HID”) light sources and are marketed primarily to distributors who resell the products for use in new commercial, residential, and industrial construction as well as in remodeling existing structures.
(2) Summary of Significant Accounting Policies
Principles of Consolidation: The accompanying consolidated financial statements are presented in U.S. dollars and include the accounts of Genlyte and all subsidiaries, after elimination of intercompany accounts and transactions.
Use of Estimates: 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 assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual amounts could differ from the estimates.
Reclassifications: Certain prior year amounts have been reclassified to conform to the current year presentation. These changes did not have a material impact on the Company’s results of operations, financial position, or liquidity.
Revenue Recognition: The Company manufactures and sells its products pursuant to purchase orders received from customers and recognizes sales revenue when products are shipped, which is when legal title passes to the customer and the risks and rewards of ownership have transferred.
Genlyte has three types of post-shipment obligations to its customers: incentive rebates, sales returns, and warranty obligations. The Company recognizes incentive rebates as sales deductions, and they are accrued as earned by the customer based on a systematic allocation of the total estimated rebates to be paid to the underlying sales that result in progress toward earning the rebate. In addition, the Company provides for limited product return rights for certain products for select customers, which also are recorded as sales deductions and are accrued based on estimated returns. The amount of future returns can be reasonably estimated based on historical experience and specific notification of pending returns. Further, the Company records warranty liabilities, which are not revenue deductions, to cover the estimated future costs for repair or replacement of defective returned products as well as products that need repair or replacement in the field after installation.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
The Company calculates its liability for warranty claims by applying a lag factor to the Company’s historical warranty expense to estimate unknown claims, as well as estimating the total amount to be incurred for known warranty issues. The Company periodically assesses the adequacy of its recorded warranty liabilities and adjusts the amounts as necessary.
Shipping and Handling Fees and Costs: Shipping and handling costs associated with storage and handling of finished goods and handling of shipments to customers are included in cost of sales. Outbound freight for shipments to customers is included in selling and administrative expenses and amounted to $68,938 in 2006, $58,592 in 2005, and $57,969 in 2004. Sometimes outbound freight is billed to the customer. Such fees are included in net sales and amounted to $13,207 in 2006, $9,857 in 2005, and $8,738 in 2004.
Stock-Based Compensation Costs: At December 31, 2006, the Company had two stock-based compensation (stock option) plans, which are described more fully in note (17) “Stock Options.” Effective January 1, 2006, the Company adopted Statement of Financial Accounting Standards (“SFAS”) No. 123R (Revised 2004), “Accounting for Stock-Based Compensation” (“SFAS No. 123R”). SFAS No. 123R establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services. SFAS No. 123R eliminates the alternative to use the intrinsic value method of Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”), as permitted under SFAS No. 123, “Accounting for Stock-Based Compensation” and SFAS No. 148, “Accounting for Stock-Based Compensation - Transition and Disclosure - an Amendment of FASB Statement No. 123.” SFAS No. 123R requires entities to recognize the cost of employee services received in exchange for awards of equity instruments based on the grant-date fair value of those awards (with limited exceptions). That cost will be recognized over the period during which an employee is required to provide service in exchange for the award or the vesting period. No compensation cost is recognized for equity instruments for which employees do not render the requisite service. Changes in fair value during the requisite service period will be recognized as compensation cost over that period. The Company has adopted SFAS No. 123R using the modified prospective method and has applied it to the accounting for Genlyte’s stock options. Under the modified prospective method, share-based expense is recognized for all awards granted subsequent to December 31, 2005, based on the grant-date fair value estimated in accordance with the provisions of SFAS No. 123R. Since all Genlyte stock options granted prior to December 31, 2005 were for prior service, share-based expense will not be recognized for awards granted prior to, but not yet vested, as of January 1, 2006, except to the extent awards may be subsequently modified or repurchased.
The Company has elected to adopt the alternative transition method permissible under FASB Staff Position No. FAS 123R-3, “Transition Election Related to Accounting for Tax Effects of Share-Based Payment Awards.” The alternative transition method simplifies establishment of the beginning balance of the additional paid-in capital pool related to the tax effects of employee stock-based compensation. SFAS No. 123R requires that the benefit of tax deductions in excess of recognized compensation cost be reported as a financing cash flow rather than as an operating cash flow as required under prior guidance.
Advertising Costs: The Company expenses advertising costs principally as incurred. Total advertising expenses, classified as selling and administrative expenses, were $12,459 in 2006, $12,793 in 2005, and $12,614 in 2004. However, certain catalog, literature, and display costs of $3,597 and $2,680 are amortized over their useful lives (from 4 to 36 months) as of December 31, 2006 and 2005, respectively.
Research and Development Costs: Research and development costs, which primarily consist of salaries, contractor fees, administrative expenses, depreciation, and cost of material, are expensed as incurred. These expenses, classified as selling and administrative expenses, were $15,280 in 2006, $11,459 in 2005, and $11,497 in 2004.
Derivative Instruments: The Company has entered into interest rate swap contracts to hedge exposure to uncertain future cash flows resulting from interest rate fluctuations on most of the Company’s variable rate debt. The Company accounts for its interest rate swap contracts in accordance with SFAS No. 133 (As Amended), “Accounting for Derivative Instruments and Hedging Activities” (“SFAS No. 133”). The Company has designated its interest rate swap contracts as cash flow hedges and records the changes in fair value in accumulated other comprehensive income (loss) with an offset in assets or liabilities in the consolidated balance sheet. Net amounts due related to interest rate swap agreements are recorded as adjustments to interest expense in the consolidated statements of income when earned or payable. The Company does not currently use, and during the past three years has not used, derivative instruments to manage or hedge changes in prices of raw materials and component parts or fluctuations in foreign currency exchange rates. The Company does not use any type of derivative instruments for speculative or trading purposes.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
Interest Expense (Income), Net: Interest expense (income), net is comprised primarily of interest expense on long-term and short-term debt, partially offset by interest income on cash, cash equivalents, and short-term investments and additional expense (income) from changes in fair value of swaps that are no longer effective according to SFAS 133.
The following table summarizes the components of interest expense (income), net for the years ended December 31:
| | | 2006 | | 2005 | | 2004 | |
| Interest expense | | $ | 8,896 | | $ | 10,186 | | $ | 5,495 | |
| Interest (income) | | | (1,924 | ) | | (1,660 | ) | | (1,558 | ) |
| Expense (income) from change in fair value of swaps | | | 502 | | | (502 | ) | | - | |
| Interest expense, net | | $ | 7,474 | | $ | 8,024 | | $ | 3,937 | |
Income Taxes: The Company provides for income taxes and recognizes deferred tax liabilities and assets for the expected future tax consequences of temporary differences between the financial statement carrying amounts and the tax basis of assets and liabilities. In addition, the Company treats investment tax credits as a reduction of income taxes for the year in which the credit arises.
Cash Equivalents: The Company considers all highly liquid investments with an original maturity of three months or less from the date of purchase to be cash equivalents.
Short-Term Investments: Short-term investments are classified as available-for-sale securities and are carried on the balance sheet at fair market value, which is equivalent to cost. The Company did not have any short-term investments at December 31, 2006. Short-term investments at December 31, 2005 consisted of commercial paper with a maturity of 120 days and tax advantaged debt securities with original maturities ranging from four to 32 years. However, these securities were callable at par value (cost) based on seven to 35 days notification to the bondholders and normally were held for less than one year. Current period adjustments to the carrying value of available-for-sale securities would be included in accumulated other comprehensive income within stockholders’ equity. Because of the nature of all of these investments, cost does not differ from fair market value, so there were no such adjustments to the carrying value.
Accounts Receivable and Allowance for Doubtful Accounts Receivable: All accounts receivable are trade related, are recorded at the invoiced amount and do not bear interest. The Company’s terms of collection vary but are generally consistent with lighting industry practices, including programs to extend terms beyond 30 days. The Company maintains allowances for doubtful accounts receivable for estimated uncollectible invoices related to customer defaults due to bankruptcy, out of business, etc., which result in “bad debts” write-offs. Management’s estimated allowances are based on the aging of the invoices, historical collections, and customers’ financial status. Amounts deemed uncollectible are charged against the allowance for doubtful accounts when management determines it is probable a receivable will not be recovered.
Concentration of Credit Risk: Assets that potentially subject the Company to concentration of credit risk are cash and cash equivalents, short-term investments, and accounts receivable. The Company invests its cash equivalents primarily in high-quality institutional money market funds with maturities of less than three months and limits the amount of credit exposure to any one financial institution. Investment policies have been implemented that limit short-term investments to investment grade securities in multiple funds with multiple financial institutions, which limits the Company’s exposure. The Company provides credit to most of its customers in the ordinary course of business, and collateral or other security may be required in certain infrequent situations. The Company conducts ongoing credit evaluations of its customers and maintains allowances for potential credit losses. Concentration of credit risk with respect to accounts receivable is limited due to the wide variety of customers and markets to which the Company sells. No single customer accounts for more than 10% of annual sales. The Company uses multiple suppliers, has alternate suppliers for most materials, and has no significant dependence on any single supplier. No consequential supply problems have been encountered in recent years. As of December 31, 2006, management does not consider the Company to have any significant concentration of credit risk.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
Inventories: Inventories are stated at the lower of cost or market and include materials, labor, and overhead. Inventories at December 31 consisted of the following:
| | | 2006 | | 2005 | |
| Raw materials | | $ | 87,807 | | $ | 65,233 | |
| Work in process | | | 22,913 | | | 17,750 | |
| Finished goods | | | 84,053 | | | 69,590 | |
| Total inventories | | $ | 194,773 | | $ | 152,573 | |
Inventories are valued and cost is relieved primarily using the last-in, first-out (“LIFO”) method, which represented approximately 75% of total inventories at December 31, 2006 and 76% at December 31, 2005. Inventories not valued at LIFO (primarily inventories of foreign operations) are valued using the first-in, first-out (“FIFO”) method. On a FIFO basis, which approximates current cost, inventories would have been $8,982 higher than reported at December 31, 2006 and $3,724 higher than reported at December 31, 2005. During each of the last three years, certain inventory quantity reductions caused partial liquidations of LIFO inventory layers (in some cases including the base), the effects of which decreased net income by $1,205 in 2006, $393 in 2005, and $1,178 in 2004.
Property, Plant and Equipment: The Company provides for depreciation of property, plant and equipment, which also includes amortization of assets recorded under capital leases, on a straight-line basis over the estimated useful lives of the assets. Useful lives vary among the items in each classification, but generally fall within the following ranges:
| Land improvements | | | 10 - 25 years | |
| Buildings and leasehold improvements | | | 10 - 40 years | |
| Machinery and equipment | | | 3 - 10 years | |
Leasehold improvements are amortized over the terms of the respective leases, or over their estimated useful lives, whichever is shorter. Depreciation of property, plant and equipment, including assets recorded under capital leases, was $27,288 in 2006, $26,758 in 2005, and $23,789 in 2004. Accelerated methods of depreciation are used for income tax purposes, and appropriate provisions are made for the related deferred income taxes.
When the Company sells or otherwise disposes of property, plant and equipment, the asset cost and accumulated depreciation are removed from the accounts, and any resulting gain or loss is recorded in selling and administrative expenses in the consolidated statements of income. At December 31, 2006, there were no events or changes in circumstances that would indicate the carrying amounts of any long-lived assets would not be recoverable.
Maintenance and repairs are expensed as incurred. Renewals and improvements that extend the useful life of an asset are capitalized and depreciated or amortized over the remaining useful lives of the respective assets.
Goodwill: Goodwill is the excess cost of an acquired entity over the amounts assigned to assets acquired and liabilities assumed in a business combination. Goodwill is not amortized. Goodwill is tested for impairment annually, and will be tested for impairment between annual tests if an event occurs or circumstances change that would indicate the carrying amount may be impaired. Impairment testing for goodwill is done at a reporting unit level. Reporting units are one level below the business segment level, but can be combined within the same segment when reporting units have similar economic characteristics. An impairment loss generally would be recognized when the carrying amount of the reporting unit’s net assets exceeds the estimated fair value of the reporting unit. The estimated fair value of a reporting unit is determined using a discounted cash flow analysis. The Company completed its annual goodwill impairment test in the fourth quarter of 2006 and determined that no goodwill was impaired.
Other Intangible Assets: Other intangible assets, which include patents, trademarks, trade names, license agreements, non-competition agreements, customer relationships, profit in backlog and other intangible assets acquired from an independent party, were $144,927 and $112,639 as of December 31, 2006 and 2005, respectively. Intangible assets with an indefinite life, namely certain trademarks, trade names, and license agreements, are not amortized. Intangible assets with a definite life are amortized on a straight-line basis, with estimated useful lives ranging from five to 20 years. Indefinite-lived intangible assets are tested for impairment annually, and will be tested for impairment between annual tests if an event occurs or circumstances change that would indicate that the carrying amount may be impaired. Intangible assets with a definite life are tested for impairment whenever events or circumstances indicate that a carrying amount of an asset (asset group) may not be
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
recoverable. An impairment loss is recognized when the carrying amount of an asset exceeds the estimated undiscounted cash flows used in determining the fair value of the asset. The amount of the impairment loss to be recorded is calculated by the excess of the asset’s carrying value over its fair value. Fair value is generally determined using a discounted cash flow analysis. The Company has determined that no impairments existed as of December 31, 2006. Costs related to internally developed intangible assets are expensed as incurred.
Translation of Foreign Currencies: A significant amount of the Company’s products are manufactured in Canada and sold to U.S. customers. The Company’s Canadian operations also purchase materials from U.S. vendors. As a result, Canadian operations have cash, cash equivalents, accounts receivable, and accounts payable denominated in U.S. dollars. Translation of these balances to the operations’ functional currency, the Canadian dollar, results in foreign currency transaction gains and losses, which are recorded in selling and administrative expenses. When Canadian assets denominated in U.S. dollars exceed Canadian liabilities denominated in U.S. dollars and the Canadian dollar strengthens versus the U.S. dollar, the Company recognizes foreign currency transaction losses. When the Canadian dollar weakens versus the U.S. dollar, the Company recognizes foreign currency transaction gains. If the Company’s Canadian liabilities denominated in U.S. dollars exceeded Canadian assets denominated in U.S. dollars, the opposite would occur. In addition, the Company’s 2006 acquisitions of JJI and Strand included a German and Hong Kong operation, respectively, that are also subject to foreign currency transaction gains and losses, but to a lesser extent. Net losses resulting from foreign currency transactions were $87 in 2006, $1,636 in 2005, and $2,318 in 2004. The Company does not actively hedge or use derivative instruments to manage risk in these areas.
In addition, a significant amount of the Company’s net assets are at Canadian operations. The Company also has a minimal amount of net assets at Mexican, German, and Hong Kong operations. The translation of these net assets from the operations’ functional currency, the Canadian dollar, Mexican peso, euro, or Hong Kong dollar, to the Company’s reporting currency, U.S. dollars, results in foreign currency translation adjustments, which are recorded in the accumulated other comprehensive income component of stockholders’ equity and do not affect net income. The Company’s foreign currency translation adjustments were gains of $435, $5,652, and $12,342 for the twelve months ended December 31, 2006, 2005, and 2004, respectively. However, the foreign currency translation adjustment actually decreased accumulated other comprehensive income during 2006 by $6,749 due to the $7,184 reduction in foreign currency translation adjustment related to the foreign currency exchange gain on the return of capital from Canada. Tax provisions have not been recorded for translation adjustments since the undistributed earnings of non-U.S. subsidiaries and joint venture companies have been, and are intended to be, indefinitely reinvested in foreign operations. The Company does not use derivative instruments to hedge its foreign currency risk of net investments in foreign operations.
Fair Value of Financial Instruments: The carrying amounts of cash equivalents, short-term investments, short-term debt, long-term debt, and derivatives approximate fair value because of their short-term maturity and/or variable market-driven interest rates.
Self-Insurance for Workers’ Compensation and Medical Claims: The Company is insured for workers’ compensation and other casualty claims, but the deductible, $250 prior to August 2002 and $500 afterwards, exceeds the vast majority of claims. The Company estimates losses and reserve requirements for each open claim and records provisions for workers’ compensation claims based on consultation from the insurance provider and administrator. The Company also provides reserves for estimated losses for claims incurred but not reported and the future development of reported claims, based on actuarial and claims trend analysis performed by the Company’s casualty consultant.
The Company is self-insured for the medical benefit plans covering most of its employees. However, the Company also has stop-loss insurance coverage for claims that exceed $250. The Company estimates its liability for claims incurred by applying a lag factor to the Company’s historical claims and administrative cost experience. The validity of the lag factor is evaluated periodically and revised if necessary.
Collective Bargaining Agreements: As of December 31, 2006, the Company was a party to various collective bargaining agreements. Several of these collective bargaining agreements will expire in 2007. Management does not expect the expiration and renegotiation of these agreements to have a significant impact on 2007 production or results of operations.
Other New Accounting Standards: In June 2006, the FASB issued FASB Interpretation (“FIN”) No. 48, “Accounting for Uncertainty in Income Taxes - an Interpretation of FASB Statement No. 109” (“FIN No. 48”). FIN No. 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with SFAS No. 109, “Accounting for Income Taxes.” This Interpretation prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. This
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
Interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. FIN No. 48 will become effective for the Company as of January 1, 2007. At this stage, the Company does not believe the adoption of FIN No. 48 will have a material effect on its financial condition or results of operations. However, the Company continues to evaluate the effects of adopting this standard.
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS No. 157”). This new standard provides guidance for using fair value to measure assets and liabilities. The FASB believes SFAS No. 157 also responds to investors' requests for expanded information about the extent to which companies measure assets and liabilities at fair value, the information used to measure fair value, and the effect of fair value measurements on earnings. SFAS No. 157 applies whenever other standards require (or permit) assets or liabilities to be measured at fair value but does not expand the use of fair value in any new circumstances. SFAS No. 157 will become effective for the Company as of January 1, 2008. The Company is continuing to evaluate the provisions of this standard and is not certain of the potential impact at this time.
In September 2006, the FASB issued SFAS No. 158, “Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans -- An Amendment of FASB Statements No. 87, 88, 106, and 132R” (“SFAS No. 158”). This new standard requires an employer to: (a) recognize in its balance sheet an asset for a plan's overfunded status or a liability for a plan's underfunded status; (b) recognize changes in the funded status of a plan through accumulated other comprehensive income in the year in which the changes occur; (c) measure a plan's assets and its obligations that determine its funded status as of the end of the employer's fiscal year (with limited exceptions); and (d) disclose in the notes to financial statements additional information about certain effects on net periodic benefit cost for the next fiscal year that arise from delayed recognition of the gains or losses, prior service costs or credits, and transition asset or obligation. The requirement to recognize the funded status of a benefit plan and the disclosure requirements became effective for the Company as of the current year-end. For more information, see note (14) “Pension and Other Postretirement Plans.” The requirement to measure plan assets and benefit obligations as of the date of the employer's fiscal year-end balance sheet is effective for the Company in 2008.
(3) Acquisitions
JJI Lighting Group in 2006: On May 22, 2006, the Company acquired the JJI Lighting Group (“JJI”), which is headquartered in Greenwich, CT and has manufacturing operations in Franklin Park, IL; Mamaroneck, NY; Shelby, NC; Santa Ana, CA; Waterbury, CT; Erie, PA; and Ludenscheid, Germany. JJI was one of the largest privately held lighting fixture companies in the United States, prior to the acquisition, and has a group of recognized niche lighting brands that complements the Company’s current product offerings. The preliminary purchase price of $123,141 (including acquisition costs of $2,070) was financed with $45,615 of the Company’s available cash and short-term investment balances plus $77,526 borrowed from the Company’s existing revolving credit facilities and asset backed securitization agreement. See note (12) “Long-term and Short-term Debt” for a more detailed description of the Company’s debt.
In accordance with the purchase method of accounting, the total purchase price is allocated to the tangible and identifiable intangible assets and the liabilities of JJI based on their estimated fair values as of May 22, 2006. The excess of the purchase price over the fair value of acquired assets and liabilities is allocated to goodwill.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
The preliminary allocation of the purchase price follows:
| Cash | | $ | 741 | |
| Accounts receivable | | | 15,805 | |
| Inventories | | | 25,805 | |
| Other current assets | | | 2,357 | |
| Property, plant and equipment | | | 11,314 | |
| Goodwill | | | 83,445 | |
| Other intangible assets | | | 28,500 | |
| Profit in backlog | | | 1,807 | |
| Other long-term assets | | | 12,561 | |
| Short-term debt | | | (2,956 | ) |
| Accounts payable | | | (11,979 | ) |
| Accrued expenses * | | | (26,126 | ) |
| Deferred income taxes | | | (12,853 | ) |
| Pension liabilities | | | (5,280 | ) |
| Preliminary purchase price | | $ | 123,141 | |
* Accrued expenses include $7,590 of additional pension liability to terminate the defined benefit plans related to domestic employees and $1,132 recorded under SFAS No. 5, “Accounting for Contingencies” to withdraw from multiemployer plans.
The purchase price allocation above changed from the allocation reported as of the third quarter of 2006 as additional information regarding the fair values of the assets and liabilities acquired became available. Specifically, goodwill increased by $5,339 primarily due to a $3,926 increase in the purchase price related to working capital adjustments. The purchase price and the allocation are subject to further change since stipulations in the purchase agreement, such as the working capital adjustments, are not yet finalized.
The Company’s statement of income reflects the sales and earnings of JJI, as well as decreased interest income, increased interest expense, and depreciation and amortization expenses resulting from the acquisition since the date of the acquisition. On an unaudited pro forma basis, assuming that the acquisition had occurred at the beginning of each period presented, the Company’s results for the twelve months ended December 31, would have been as follows:
| | | 2006 | | 2005 | | 2004 | |
| Net sales | | $ | 1,538,660 | | $ | 1,392,144 | | $ | 1,319,019 | |
| Net income | | $ | 157,975 | | $ | 93,175 | | $ | 67,060 | |
| Earnings per share (diluted) | | $ | 5.49 | | $ | 3.28 | | $ | 2.41 | |
These pro forma amounts do not purport to show the exact results that would have actually been obtained if the acquisition had occurred as of the beginning of the periods presented or that may be obtained in the future. Pro forma net income for each period presented reflects the following nonrecurring pro forma adjustments: (1) a charge of $1,807 for amortization of profit in backlog; and (2) a charge of $268 to cost of sales for the step-up to fair market value of inventory.
Strand Lighting in 2006: On July 11, 2006, the Company acquired the U.S. and Hong Kong based operations of Strand Lighting (“Strand”) and certain assets of Strand Lighting Ltd. of the U.K. as part of a restructuring undertaken by Strand Lighting Ltd. Strand was founded in 1916 as a manufacturer of entertainment lighting and lighting systems. The acquisition complements the Company’s Vari-Lite, Entertainment Technology, and Lightolier Controls product offerings and broadens the Company’s presence in the theatrical and entertainment lighting markets. The preliminary purchase price of $9,565 (including acquisition costs of $587) was financed with cash on hand.
The Strand acquisition was accounted for using the purchase method of accounting. The preliminary determination of the fair market value of net assets acquired resulted in an indicated excess of the purchase price over the fair value of the net assets acquired (goodwill) of $3,853. The Company is gathering additional information about the fair value of intangible assets and property, plant, and equipment. Accordingly, the amounts recorded could change as the purchase price allocation is finalized.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
The operating results of Strand have been included in the Company’s consolidated financial statements since the date of acquisition. The pro forma results and other disclosures required by SFAS No. 141, “Business Combinations,” have not been presented because Strand is not considered a material acquisition.
Carsonite International Corporation in 2006: On September 26, 2006, the Company acquired the assets of Carsonite International Corporation (“Carsonite”), a subsidiary of Omega Polymer Technologies, Inc. (“Omega”) as part of a restructuring undertaken by Omega. The acquisition complements the Company’s current Shakespeare Composite Structures product offerings in the utility, roadway, and park and recreation markets. Carsonite has one owned factory located in Varnville, SC and one leased factory located in Early Branch, SC. The preliminary purchase price of $4,552 (including accrued acquisition costs of $73) was financed with cash on hand. No accounts payable or other liabilities were assumed as part of this transaction.
The Carsonite acquisition was accounted for using the purchase method of accounting. The preliminary determination of the fair market value of net assets acquired resulted in an indicated excess of the purchase price over the fair value of the net assets acquired (goodwill) of $757. The Carsonite goodwill is expected to be deductible for tax purposes since this acquisition was a taxable asset purchase. The Company is gathering additional information about the fair value of intangible assets and property, plant, and equipment. Accordingly, the amounts recorded could change as the purchase price allocation is finalized. The operating results of Carsonite have been included in the Company’s consolidated financial statements since the date of acquisition. The pro forma results and other disclosures required by SFAS No. 141, “Business Combinations,” have not been presented because Carsonite is not considered a material acquisition.
32% Minority Interest in GTG in 2004: Effective at the close of business on July 31, 2004, Genlyte, through its wholly-owned subsidiaries, acquired the 32% minority interest owned by Thomas in GTG for a cash price of $386,500 plus 32% of GTG’s earnings, less distributions to Thomas, from January 1, 2004 through the closing at July 31, 2004. The transaction was structured as an asset purchase of various interests owned by Thomas and certain of its subsidiary entities. The purchase price was $402,081 including $1,179 of acquisition related costs. The purchase price was determined through arm’s length negotiations between Genlyte and Thomas. The transaction was financed with approximately $88,981 of the Company’s available cash and short-term investment balances plus $313,100 borrowed from four new credit facilities.
The acquisition of Thomas’ 32% minority interest in GTG was accounted for using the purchase method of accounting. The total purchase price was allocated to 32% of the net tangible and identifiable intangible assets of GTG based on their estimated fair values as of July 31, 2004. The final allocation of the purchase price to 32% of the net assets acquired follows:
| Inventory | | $ | 2,597 | |
| Property, plant and equipment | | | 35,554 | |
| Goodwill | | | 95,416 | |
| Trademarks/Trade names | | | 72,742 | |
| Customer relationships | | | 26,560 | |
| Patents | | | 4,740 | |
| Backlog | | | 2,717 | |
| Non-competition agreements | | | 512 | |
| Other assets | | | 3,252 | |
| Deferred income tax liability | | | (5,476 | ) |
| Minority interest | | | 172,026 | |
| Accrued pension | | | (8,014 | ) |
| Other long-term liabilities | | | (545 | ) |
| Estimated total purchase price | | $ | 402,081 | |
Genlyte consummated the acquisition for various reasons, among others to improve its net income because the elimination of minority interest expense exceeds the combination of (1) decreased interest income from lower cash and short-term investment balances, (2) increased interest expense from higher debt balances, and (3) increased depreciation and amortization expense from the step-up of 32% of inventory, property, plant, and equipment, and intangible assets to fair market value.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
The Company’s statements of income reflect the discontinuation of Thomas’ minority interest as well as the decreased interest income, increased interest expense, and depreciation and amortization expenses resulting from the acquisition since the date of the acquisition. On an unaudited pro forma basis, assuming that the acquisition had occurred at the beginning of 2004, the Company’s results for the twelve months ended December 31, 2004 would have been as follows:
| | | 2004 | |
| Net sales | | $ | 1,179,069 | |
| Net income | | $ | 64,146 | |
| Earnings per share (diluted) | | $ | 2.31 | |
These pro forma amounts do not purport to show the exact results that would have actually been obtained if the acquisition had occurred as of the beginning of the period presented or that may be obtained in the future. Pro forma net income for the period presented reflects the following nonrecurring pro forma adjustments: (1) a charge of $2,717 for amortization of profit in backlog; (2) a charge of $2,597 to cost of sales for the step-up to fair market value of inventory; (3) a charge of $325 for unamortized debt issuance costs related to the August 2003 revolving credit facility, which was replaced by a new facility.
USS Manufacturing in 2004: On May 12, 2004, the Company acquired USS Manufacturing Inc. located in Renfrew, Ontario. USS Manufacturing specializes in tapered, fluted and round aluminum poles, brackets, standard and decorative arms for street and traffic lights, and flag poles. The purchase price of $3,131 was funded from cash on hand. In addition, liabilities of $429 were assumed.
The USS Manufacturing acquisition was accounted for using the purchase method of accounting. The determination of the excess of the purchase price over the fair market value of net assets acquired (goodwill) was $1,524, which was based on the purchase price allocation. The operating results of USS Manufacturing have been included in the Company's consolidated financial statements since the date of acquisition. The pro forma results and other disclosures required by SFAS No. 141, “Business Combinations,” are not presented because USS Manufacturing is not considered a material acquisition.
(4) Two-for-One Stock Split
On April 28, 2005, the Company’s Board of Directors authorized a two-for-one stock split in the form of a 100% stock dividend, payable on May 23, 2005 to stockholders of record at the close of business on May 9, 2005. In order to facilitate the stock split, the Company filed with the Delaware Secretary of State a Certificate of Amendment to its Restated Certificate of Incorporation (“the Restated Certificate”), amending Article “Fourth” of the Restated Certificate, increasing the authorized shares of the Company’s common stock (par value $.01) from 30,000,000 to 100,000,000, with such amendment being effective as of April 28, 2005. All per share amounts were adjusted for the 100% stock dividend. This amendment did not affect the 5,000,000 shares of preferred stock (par value $.01) the Company was previously authorized to issue. All prior periods have been restated to reflect the two-for-one stock split.
In addition, during the Annual Stockholders Meeting held April 28, 2005, the Certificate of Amendment was approved by stockholders voting an aggregate of 7,357,780 shares, or 53.1%, of the shares represented at the meeting and eligible to vote on stockholder matters. The Company mailed an information statement regarding the filing of the Certificate of Amendment to its stockholders as of March 1, 2005, on or about April 8, 2005.
(5) Restructuring and Related Costs
In the third and fourth quarters of 2005, the Company relocated its Gardco division from San Leandro, CA to a new facility in San Marcos, TX. In addition, the Company’s Wide-Lite division, historically located in San Marcos, TX, also moved into the new facility in the third quarter. The new facility, which was completed in the third quarter of 2005, has reduced manufacturing costs, increased inventory turnover, improved on-time delivery, and reduced lead time.
The Company’s restructuring costs relate entirely to the Commercial Segment and primarily include one-time involuntary termination benefits (severance), moving of equipment, relocation of certain employees, facility closing, and accelerated depreciation of abandoned equipment. Of the $311 of restructuring costs incurred during 2006, $181 was included in selling and administrative expenses and $130 was included in cost of sales in the consolidated statements of income. Of the $5,613 of restructuring costs incurred during 2005, $1,170 was included in selling and administrative expenses and $4,443 was included in cost of sales in the consolidated statements of income.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
The following table summarizes estimated, incurred, and remaining costs for the restructuring actions by type as of December 31, 2006:
| | | Severance | | Moving & Relocation | | Facility Closing | | Other Costs | | Total | |
| Estimated costs | | $ | 1,186 | | $ | 1,511 | | $ | 2,857 | | $ | 370 | | $ | 5,924 | |
| Cost incurred – year ended December 31, 2005 | | | 1,140 | | | 1,421 | | | 2,770 | | | 282 | | | 5,613 | |
| Cost incurred – year ended December 31, 2006 | | | 46 | | | 90 | | | 87 | | | 88 | | | 311 | |
| Remaining costs at December 31, 2006 | | $ | - | | $ | - | | $ | - | | $ | - | | $ | - | |
The following table presents a reconciliation of the beginning and ending liability balances (yet to be paid) as of December 31, 2006:
| | | Severance | | Moving & Relocation | | Facility Closing | | Other Costs | | Total | |
| Liability balance at January 1, 2006 | | $ | 611 | | $ | 392 | | $ | - | | $ | - | | $ | 1,003 | |
| Costs incurred | | | 46 | | | 90 | | | 87 | | | 88 | | | 311 | |
| Amounts paid | | | (526 | ) | | (482 | ) | | (87 | ) | | (88 | ) | | (1,183 | ) |
| Liability balance at December 31, 2006 | | $ | 131 | | $ | - | | $ | - | | $ | - | | $ | 131 | |
The Company has terminated 98 production employees and 40 engineering, administrative, and sales employees as a result of the restructuring (of which nine engineering, administrative, and sales employees were terminated during 2006). As of December 31, 2006, management considers the restructuring activities related to the relocation substantially complete.
(6) Income Taxes
The Company accounts for income taxes using the asset and liability method as prescribed by SFAS No. 109 “Accounting for Income Taxes.” This method requires recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns. Using the enacted tax rates in effect for the years in which the differences are expected to reverse, deferred tax assets and liabilities are determined based on the differences between the financial reporting and tax bases of an asset or liability.
In January 2006, Genlyte elected corporate taxpayer status for its operating partnership, GTG. As a result of a change in tax status effective January 1, 2006, the Company recognized a $24,715 tax provision benefit for the difference between the deferred taxes accumulated on the outside basis in GTG and the deferred taxes related to the assets held inside GTG.
Further, the Company recognized $2,140 in income tax expense in 2006, net of foreign tax credits, for the repatriation of $35,918 of earnings and capital from a wholly-owned subsidiary in Canada, which occurred on May 9, 2006. According to Accounting Principles Board (“APB”) No. 23 “Accounting for Income Taxes - Special Areas,” deferred taxes are to be immediately recorded upon the determination of repatriating undistributed earnings of non-U.S. subsidiaries. All other earnings of foreign subsidiaries have been, or are intended to be, indefinitely reinvested in foreign operations; thus, no provision has been made for any U.S. taxes that may be applicable thereto.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
The components of income before income taxes and the provisions for income taxes for the years ended December 31 were as follows:
| | | 2006 | | 2005 | | 2004 | |
| Income before income taxes: | | | | | | | | | | |
| Domestic | | $ | 162,725 | | $ | 105,458 | | $ | 71,937 | |
| Foreign | | | 45,319 | | | 35,769 | | | 22,590 | |
| Income before income taxes | | $ | 208,044 | | $ | 141,227 | | $ | 94,527 | |
| | | | | | | | | | | |
| Income tax provision (benefit): | | | | | | | | | | |
| Domestic: | | | | | | | | | | |
| Currently payable | | $ | 62,087 | | $ | 35,258 | | $ | 26,844 | |
| Deferred | | | (21,888 | ) | | 9,868 | | | 1,181 | |
| Foreign: | | | | | | | | | | |
| Currently payable | | | 13,823 | | | 11,546 | | | 8,778 | |
| Deferred | | | (459 | ) | | (289 | ) | | (529 | ) |
| Income tax provision | | $ | 53,563 | | $ | 56,383 | | $ | 36,274 | |
A reconciliation of the statutory federal income tax rate to the Company’s effective income tax rate follows:
| | | 2006 | | 2005 | | 2004 | |
| Statutory federal rate | | | 35.0 | % | | 35.0 | % | | 35.0 | % |
| State income taxes, net of federal tax benefits | | | 3.0 | % | | 3.1 | % | | 3.2 | % |
| Change in GTG corporate taxpayer status | | | -11.9 | % | | 0.0 | % | | 0.0 | % |
| Minority interest share of foreign taxes | | | 0.0 | % | | 0.0 | % | | 0.9 | % |
| Foreign tax rate differential | | | -1.4 | % | | -0.9 | % | | -0.6 | % |
| Section 199 manufacturing deduction and nondeductible portion of amortization and expenses | | | -0.3 | % | | 0.1 | % | | 0.1 | % |
| Foreign earnings repatriation | | | 1.0 | % | | 2.0 | % | | 0.0 | % |
| Other | | | 0.3 | % | | 0.6 | % | | -0.2 | % |
| Effective income tax rate | | | 25.7 | % | | 39.9 | % | | 38.4 | % |
Deferred income taxes are provided for significant income and expense items recognized in different years for tax and financial reporting purposes. Significant temporary differences creating deferred tax assets and liabilities at December 31 follow:
| | | 2006 | | 2005 | |
| Deferred tax assets: | | | | | | | |
| Allowance for doubtful accounts receivable | | $ | 4,261 | | $ | - | |
| Inventory reserves | | | 14,981 | | | - | |
| Accrued compensation expenses | | | 9,485 | | | - | |
| Worker's compensation accrual | | | 4,593 | | | - | |
| Operating loss from acquisition | | | 2,873 | | | - | |
| Foreign deferred tax asset | | | 14,125 | | | - | |
| Other | | | 4,769 | | | 402 | |
| Total deferred tax assets | | $ | 55,087 | | $ | 402 | |
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
| | | 2006 | | 2005 | |
| Deferred tax liabilities: | | | | | | | |
| Investment in partnership * | | $ | - | | $ | 26,404 | |
| Accelerated depreciation | | | 8,138 | | | - | |
| Goodwill | | | 39,254 | | | - | |
| Interest rate swaps | | | 171 | | | 1,036 | |
| Foreign deferred liability | | | 8,854 | | | 8,042 | |
| Total deferred tax liabilities | | | 56,417 | | | 35,482 | |
| Valuation allowance | | | (12,854 | ) | | - | |
| Net deferred tax liability | | $ | 14,184 | | $ | 35,080 | |
| | | | | | | | |
| Classification: | | | | | | | |
| Current (asset) liability | | $ | (24,751 | ) | $ | 64 | |
| Net non-current liability | | | 38,935 | | | 35,016 | |
| Net deferred tax liability | | $ | 14,184 | | $ | 35,080 | |
* The 2005 deferred taxes include a long-term liability for Genlyte’s investment in GTG, which was recorded based on the assets held within GTG, under partnership tax rules. Effective January 1, 2006, Genlyte elected corporate taxpayer status for GTG and deferred taxes are now reported based on the balance sheet classification.
Deferred tax assets and liabilities are classified as current or long-term according to the related asset and liability classification of the item generating the deferred tax.
Undistributed earnings of non-U.S. subsidiaries and joint venture companies aggregated $42,181 on December 31, 2006 which, under existing law, will not be subject to U.S. tax until distributed as dividends. Since the earnings have been, or are intended to be, indefinitely reinvested in foreign operations, no provision has been made for any U.S. taxes that may be applicable thereto. Furthermore, the taxes paid to foreign governments on those earnings may be used in whole or in part as credits against the U.S. tax on any dividends distributed from such earnings. It is not practicable to estimate the amount of unrecognized deferred U.S. taxes on these undistributed earnings.
The Company provides a valuation allowance for deferred tax assets when it is more likely than not that the net deferred tax assets will not be realized. At December 31, 2006, the Company had a $31,647 net operating loss carryforward in Germany related to JJI, which is subject to change in control limitations, and if utilized beyond such limitations, will reduce goodwill and intangible assets recorded at the date of acquisition before reducing the tax provision. The carryforward is available to offset future federal taxable income and does not expire. The Company has a net deferred tax asset of $12,854 related to the German net operating loss that was offset by a valuation allowance for the same amount, since based on several factors it is more likely than not that the German deferred tax asset will not be realized. These factors include the lack of a history of profits in Germany, future projected taxable losses and the fact that the market in which the Company competes is intensely competitive and characterized by rapidly changing technology.
In addition, the Company had approximately a $3,100 net operating loss carryforward that was acquired through the Company’s acquisition of Strand, which is subject to change in control limitations, and, if utilized beyond such limitations, will reduce goodwill and intangible assets recorded at the date of acquisition before reducing the tax provision. The carryforward is available to offset future federal taxable income and would expire in 2024. There is no indication the carryforward benefits would not be lost due to failure to meet the “continuity of business” requirement under Section 382 of the Internal Revenue Code (“IRC”). The net operating loss was limited in 2006 due to the change in ownership rules under IRC 382. The portion limited in 2006 is expected to be used in future years.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
(7) Earnings Per Share
“Basic earnings per share” represents net income divided by the weighted-average number of common shares outstanding during the period. “Diluted earnings per share” represents net income divided by the weighted-average number of common shares outstanding during the period, adjusted for the incremental dilution of outstanding stock options. A reconciliation of the Company’s basic and diluted shares in accordance with SFAS No. 128, “Earnings per Share” for the years ended December 31 follows:
| | | (Amounts in thousands) | |
| | | 2006 | | 2005 | | 2004 | |
| Weighted average common shares outstanding | | | 28,119 | | | 27,749 | | | 27,261 | |
| Incremental common shares issuable: Stock option plans | | | 671 | | | 617 | | | 508 | |
| Weighted average common shares outstanding assuming dilution | | | 28,790 | | | 28,366 | | | 27,769 | |
Common shares for 2004 were adjusted for the two-for-one stock split which was payable on May 23, 2005 to stockholders of record at the close of business on May 9, 2005.
(8) Allowance for Doubtful Accounts
Changes in the Company’s allowance for doubtful accounts receivable during the years ended December 31 were as follows:
| | | 2006 | | 2005 | | 2004 | |
| Balance, beginning of year | | $ | 6,017 | | $ | 6,918 | | $ | 7,094 | |
| Additions from companies acquired (1) | | | 1,378 | | | - | | | 4 | |
| Additions charged to costs and expenses (2) | | | 3,840 | | | 214 | | | 2,698 | |
| Additions (deductions) charged (credited) to other accounts | | | 22 | | | 27 | | | (127 | ) |
| Deductions for write-offs of bad debt | | | (4,238 | ) | | (1,142 | ) | | (2,751 | ) |
| Balance, end of year | | $ | 7,019 | | $ | 6,017 | | $ | 6,918 | |
(1) The acquired amount in 2006 relates to JJI and Strand. The amount in 2004 relates to USS Manufacturing.
(2) The provision for doubtful accounts or “bad debt expense” charged to selling and administrative expenses.
In addition, the Company also maintains allowances for the customers’ refusal to pay (returned products, billing errors, disputed amounts, etc., which result in credit memos charged to net sales). Management’s estimated allowances are based on the amounts returned and disputed by customers and estimated lag times for processing credit memos. The balances of these allowances were $10,307, $8,366, and $3,806 at December 31, 2006, 2005, and 2004, respectively.
(9) Goodwill and Other Intangible Assets
The changes in the net carrying amounts of goodwill by segment for the years ended December 31, 2006 and 2005 were as follows:
| | | Commercial | | Residential | | Industrial and Other | | Total | |
| Balance as of January 1, 2005 | | $ | 211,699 | | $ | 34,839 | | $ | 7,146 | | $ | 253,684 | |
| Adjustments to goodwill acquired previously (a) | | | 1,812 | | | 298 | | | 61 | | | 2,171 | |
| Effect of exchange rate change on Canadian goodwill | | | 1,338 | | | 18 | | | 22 | | | 1,378 | |
| Balance as of December 31, 2005 | | $ | 214,849 | | $ | 35,155 | | $ | 7,229 | | $ | 257,233 | |
| Acquisitions (b) | | | 53,920 | | | 7,510 | | | 26,625 | | | 88,055 | |
| Effect of exchange rate change on Canadian goodwill | | | (83 | ) | | (1 | ) | | (1 | ) | | (85 | ) |
| Balance as of December 31, 2006 | | $ | 268,686 | | $ | 42,664 | | $ | 33,853 | | $ | 345,203 | |
| (a) | After completing the tax basis step-up of the acquisition of Thomas’ 32% minority interest in GTG, the Company recorded a deferred tax liability adjustment to goodwill. |
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
| (b) | The acquisitions of JJI, Strand, and Carsonite added $83,445, $3,853, and $757 to goodwill, respectively. See note (3) “Acquisitions” for a more detailed discussion of the Company’s recent acquisitions. |
Summarized information about the Company’s other intangible assets follows:
| | | As of December 31, 2006 | | As of December 31, 2005 | |
| | | Gross Carrying Amount | | Accumulated Amortization | | Gross Carrying Amount | | Accumulated Amortization | |
| Amortized intangible assets: | | | | | | | | | | | | | |
| License agreements | | $ | 283 | | $ | 283 | | $ | 283 | | $ | 283 | |
| Non-competition agreements | | | 1,562 | | | 1,298 | | | 1,562 | | | 907 | |
| Customer relationships | | | 30,560 | | | 3,325 | | | 26,560 | | | 1,890 | |
| Trademarks | | | 58 | | | 29 | | | - | | | - | |
| Profit in backlog | | | 2,023 | | | 2,023 | | | - | | | - | |
| Patents and other | | | 8,612 | | | 1,286 | | | 5,758 | | | 767 | |
| Total amortized intangible assets | | $ | 43,098 | | $ | 8,244 | | $ | 34,163 | | $ | 3,847 | |
| | | | | | | | | | | | | | |
| Net amortized intangible assets | | $ | 34,854 | | | | | $ | 30,316 | | | | |
| Unamortized intangible assets: | | | | | | | | | | | | | |
| Trademarks and trade names | | | 105,454 | | | | | | 77,704 | | | | |
| License agreements | | | 4,619 | | | | | | 4,619 | | | | |
| Total unamortized intangible assets | | $ | 110,073 | | | | | $ | 82,323 | | | | |
| Total other intangible assets, net | | $ | 144,927 | | | | | $ | 112,639 | | | | |
The Company amortizes the non-competition agreements over two and five years, customer relationships over 19 to 21 years, trademarks over four years, profit in backlog over three months, and patents and other over five to 15 years. Amortization expense for intangible assets was $4,398 in 2006, $2,408 in 2005, and $4,280 in 2004. Estimated amortization expense for intangible assets for the next five full years is $2,296 for 2007, $2,267 for 2008, $2,222 for 2009, $2,157 for 2010 and $2,157 for 2011.
Through recent acquisitions, which are fully described in note (3) “Acquisitions,” the Company acquired the following other intangible assets during 2006:
| | | As of December 31, 2006 | |
| | | Gross Carrying Amount | | Weighted Average Remaining Life (in years) | |
| Amortized intangible assets: | | | | | | | |
| Customer relationships | | $ | 4,000 | | | 19.8 | |
| Trademarks | | | 58 | | | 4.0 | |
| Profit in backlog | | | 2,023 | | | 0.3 | |
| Patents and other | | | 2,825 | | | 14.8 | |
| Total amortized intangible assets acquired | | $ | 8,906 | | | 13.9 | |
| | | | | | | | |
| Unamortized intangible assets: | | | | | | | |
| Trademarks and trade names | | $ | 27,750 | | | | |
| Total other intangible assets acquired | | $ | 36,656 | | | | |
The Company did not acquire any new companies in 2005.
(10) Product Warranties
The Company offers a limited warranty that its products are free of defects in workmanship and materials. The specific terms and conditions vary somewhat by product line, but generally cover defects returned within one, two, three, or five years from
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
date of shipment. The Company records warranty liabilities to cover the estimated future costs for repair or replacement of defective returned products as well as products that need to be repaired or replaced in the field after installation. The Company calculates its liability for warranty claims by applying a lag factor to the Company’s historical warranty expense to estimate unknown claims, as well as estimating the total amount to be incurred for known warranty issues. The Company periodically assesses the adequacy of its recorded warranty liabilities and adjusts the amounts as necessary.
Changes in the Company’s warranty liabilities, which are included in accrued expenses in the accompanying consolidated balance sheets, during the years ended December 31 were as follows:
| | | 2006 | | 2005 | |
| Balance, beginning of year | | $ | 4,587 | | $ | 3,310 | |
| Additions from companies acquired | | | 2,108 | | | - | |
| Additions charged to expense | �� | | 9,236 | | | 11,602 | |
| Deductions for repairs and replacements | | | (8,636 | ) | | (10,325 | ) |
| Balance, end of year | | $ | 7,295 | | $ | 4,587 | |
(11) Accrued Expenses
Accrued expenses as of December 31 consisted of the following:
| | | 2006 | | 2005 | |
| Employee related costs and benefits | | $ | 58,821 | | $ | 54,612 | |
| Advertising and sales promotion | | | 14,130 | | | 13,440 | |
| Income and other taxes payable | | | 10,455 | | | 9,043 | |
| Other accrued expenses * | | | 35,122 | | | 24,097 | |
| Total accrued expenses | | $ | 118,528 | | $ | 101,192 | |
* Individual items are less than 5% of total current liabilities.
(12) Long-Term and Short-Term Debt
Long-term debt as of December 31 consisted of the following:
| | | 2006 | | 2005 | |
| U.S. revolving credit facility | | $ | 50,000 | | $ | 75,000 | |
| Industrial revenue bonds | | | 11,000 | | | 11,000 | |
| Capital leases and other | | | 570 | | | 232 | |
| Total long-term debt | | | 61,570 | | | 86,232 | |
| Less: current maturities (amounts payable within one year) | | | 257 | | | 156 | |
| Non-current long-term debt | | $ | 61,313 | | $ | 86,076 | |
On December 9, 2005, Genlyte and its subsidiaries amended and restated the former credit agreement, which previously consisted of five-year U.S. and Canadian credit facilities and a $100,000 U.S. term loan entered into on August 2, 2004, to reduce borrowing fees and to provide additional borrowing capacity. The amended facilities now consist of a $260,000 U.S. revolving credit facility and a Canadian revolving credit facility of approximately $23,000 with the same syndicate of eleven banks maturing on October 31, 2010. According to this agreement, 65% of the capital stock of certain foreign subsidiaries is pledged. As of December 31, 2006, total borrowings were $50,000 under the U.S. credit facility. The Company borrowed $50,000 under the U.S. revolving credit facility and $12,526 under the Canadian credit facility to finance the May 22, 2006 acquisition of JJI; however, all of the Canadian credit facility borrowings were subsequently repaid. In addition, as of December 31, 2006, the Company had outstanding $21,143 of letters of credit, which are subject to a fee of 50 basis points and reduce the amount available to borrow under the U.S. facility. The letters of credit serve to guarantee the industrial revenue bonds as well as insurance reserves.
The U.S. revolving credit facility bears interest at the option of the borrower based upon either (1) the higher of the National City Bank prime rate and the federal funds effective rate plus 0.50%, or (2) the Eurodollar Rate (“LIBOR”) plus the Eurodollar Margin (a margin as determined by Genlyte’s Leverage Ratio (total debt to EBITDA, or earnings before interest, taxes, depreciation, and amortization). Borrowings on the Canadian revolving credit facility can be made in Canadian dollars
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
or U.S. dollars. Loans in Canadian dollars bear interest at the option of the borrower based upon either (1) the Canadian Deposit Offered Rate (“CDOR”) as determined by the Canadian administrative agent plus the Eurodollar Margin, or (2) the higher of the Canadian prime rate or CDOR plus 1.0%. Loans in U.S. dollars bear interest at the same rates as the U.S. revolving credit facility. Based upon Genlyte’s Leverage Ratio as of December 31, 2006, the Eurodollar Margin was 0.40% and the commitment fee on the facility was 0.10%. As of December 31, 2006 the interest rate on the U.S. revolving credit facility was 5.78%, which includes interest rate spreads of 40 basis points.
Both facilities contain affirmative and negative covenants that are usual and customary for facilities of this nature, including limitations on the aggregate amount of additional indebtedness outstanding, a maximum Leverage Ratio, and a minimum interest coverage ratio. As of December 31, 2006, the Company was in compliance with all of the covenants. Under the most restrictive covenant, which is the Leverage Ratio, the Company could incur approximately $295,000 in additional debt and still comply with the covenant.
The Company has $11,000 of variable rate Industrial Revenue Bonds that mature between 2009 and 2016. As of December 31, 2006, the weighted average interest rate on these bonds was 3.86%. These bonds are backed by the letters of credit mentioned above.
Future annual principal payments of long-term debt for the years ending December 31, are summarized as follows:
| Year ending December 31, | | | | |
| 2007 | | $ | 257 | |
| 2008 | | | 156 | |
| 2009 | | | 1,156 | |
| 2010 | | | 55,001 | |
| 2011 | | | - | |
| Thereafter | | | 5,000 | |
| Total long-term debt | | $ | 61,570 | |
The Company’s short-term debt consists of a U.S. asset backed securitization (“ABS”) agreement for $100,000 “on balance sheet” financing, entered into by Genlyte and its wholly-owned subsidiary, Genlyte Receivables Corporation, which expires on July 31, 2007. GTG trade accounts receivable are sold to Genlyte Receivables Corporation, a bankruptcy-remote entity. As of December 31, 2006 and December 31, 2005, total borrowings were $82,170 (of which $15,000 was borrowed to fund the acquisition of JJI) and $80,140, respectively, under the ABS loan, which bears interest at one-month LIBOR plus 0.34%. As of December 31, 2006 the actual rate was 5.70%. Net trade accounts receivable pledged as collateral for borrowings under the ABS loan were $167,419 and $158,429, as of December 31, 2006 and December 31, 2005, respectively. In addition, the Company also had $3,782 of trade payables financing arrangements with third-party intermediaries and $414 outstanding under an overdraft credit facility at December 31, 2006.
(13) Derivative Instruments and Hedging Activities
The Company hedges most of its debt with interest rate swap contracts, which it accounts for in accordance with SFAS No. 133. SFAS No. 133 requires that all derivatives be recognized as assets or liabilities and be measured at fair value. For derivatives (swaps) that are not designated as hedges, gains or losses resulting from changes in fair value are recognized currently in the statement of income. For swaps that are designated as cash flow hedges, special “hedge accounting” applies so that the effective portion of such gains or losses is reported as a component of accumulated other comprehensive income (loss) and reclassified to the statement of income in the same period that the hedged transaction affects net income. The ineffective portion of any gains or losses is immediately recognized in the statement of income. If the swap is sold or terminated before the underlying debt is extinguished, the balance in accumulated other comprehensive income (loss) is amortized to net income (via interest income or interest expense) over the remaining life of the debt. If the debt is extinguished before the swaps are terminated, the balance in accumulated other comprehensive income (loss) is immediately recognized in interest income or interest expense.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
As of December 31, 2006 and 2005 the Company had the following interest rate swap contracts:
| Effective Date | | 2006 Fair Value | | 2005 Fair Value | | Notional Amount | | Hedged Item | | Fixed Interest Rate | | Year of Expiration | |
| 8/2/2004 | | $ | - | | $ | 695 | | $ | 50,000 | | | Credit Line | | | 3.0 | % | | 7/31/2006 | |
| 8/2/2004 | | | - | | | 591 | | | 50,000 | | | Credit Line | | | 3.0 | % | | 7/31/2006 | |
| 8/2/2004 | | | 865 | | | 1,584 | | | 80,000 | | | ABS | | | 3.4 | % | | 7/31/2007 | |
| 5/22/2006 | | | (155 | ) | | - | | | 25,000 | | | Credit Line | | | 5.7 | % | | 5/22/2009 | |
| 5/22/2006 | | | (267 | ) | | - | | | 25,000 | | | Credit Line | | | 5.7 | % | | 5/24/2010 | |
| | | $ | 443 | | $ | 2,870 | | | | | | | | | | | | | |
The Company receives a LIBOR-based variable interest rate and pays a fixed interest rate on its interest rate swap contracts, which are designated as cash flow hedges. The fair value of these instruments are included in other current assets or accrued liabilities if due within one year; otherwise, they are recorded in other long-term assets or other long-term liabilities. The Company recorded fair value changes totaling $(1,184) after tax for the year ended December 31, 2006 in accumulated other comprehensive income (loss). Of the $164 in accumulated other comprehensive income (loss) at December 31, 2006, management estimates that only the portion related to the $80,000 swap that expires in July 2007 will be reclassified to income in the next twelve months.
(14) Pension and Other Postretirement Plans
The Company has defined benefit pension plans that cover certain of its full-time employees. The pension plans provide defined benefits based on “years of service” for hourly employees and “years of service and final average salary” for salaried employees. The Company’s policy for funded plans is to contribute equal to or greater than the requirements prescribed by the Employee Retirement Income Security Act. Pension costs for all Company defined benefit pension plans are actuarially computed. The Company also has defined contribution pension plans. In addition, the Company provides postretirement medical and life insurance benefits for certain retirees and employees through its unfunded plans. The Company accrues the cost of such benefits during the remaining expected lives of such retirees and the service lives of such employees. The Company uses September 30 as the measurement date for the pension and other postretirement plan disclosures.
On May 22, 2006, the Company acquired JJI and elected to terminate the defined benefit plans related to its domestic employees, which resulted in fourth quarter funding of $7,450. Also, due to the acquisition of JJI (which is primarily located in the U.S. but does have a German operation), additional pension liability of $12,870 was acquired and recorded in accordance with purchase accounting rules. The acquired pension liability net of deferred taxes increased the purchase price allocated to goodwill.
In September 2006, the FASB issued SFAS No. 158, which requires an employer to: (a) recognize in its balance sheet an asset for a pension and other postretirement plan's overfunded status or a liability for such a plan's underfunded status; (b) recognize changes in the funded status of such a plan by reporting them in accumulated other comprehensive income in the year in which the changes occur; (c) measure a plan's assets and its obligations that determine its funded status as of the end of the employer's fiscal year (with limited exceptions); and (d) disclose in the notes to financial statements additional information about certain effects on net periodic benefit cost for the next fiscal year that arise from delayed recognition of the gains or losses, prior service costs or credits, and transition asset or obligation. The requirement to recognize the funded status of a pension plan and the disclosure requirements became effective for the Company as of the current year-end. The requirement to measure plan assets and benefit obligations as of the date of the employer's fiscal year-end balance sheet is effective for the Company in 2008.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
The incremental effects of adopting the provisions of SFAS No. 158 on the Company’s consolidated balance sheet at December 31, 2006 are presented in the following table. The adoption of SFAS No. 158 had no effect on the Company’s consolidated statements of income for the year ended December 31, 2006, or for any year presented.
| | | Before Application of SFAS No. 158 | | SFAS No. 158 Adjustments | | After Application of SFAS No. 158 | |
| Deferred income taxes and other current assets | | $ | 41,765 | | $ | 2,298 | | $ | 39,467 | |
| Other assets | | | 3,235 | | | (258 | ) | | 3,493 | |
| Accrued expenses | | | 117,852 | | | (676 | ) | | 118,528 | |
| Deferred income taxes | | | 41,077 | | | 2,142 | | | 38,935 | |
| Accrued pension | | | 23,513 | | | (3,013 | ) | | 26,526 | |
| Accumulated other comprehensive income (loss) | | | 16,853 | | | 3,587 | | | 13,266 | |
The amounts not yet reflected in net periodic benefit cost and included in the accumulated other comprehensive income section (pre-tax) of the accompanying consolidated balance sheets as of December 31 follow:
| | | U.S. Pension Plans | | Foreign Pension Plans | | Other Postretirement Plans | | Total | |
Accumulated other comprehensive income | | | | | | | | | | | | | |
| Net actuarial loss | | $ | (4,028 | ) | $ | (2,661 | ) | $ | (1,379 | ) | $ | (8,068 | ) |
| Prior service cost | | | (369 | ) | | (279 | ) | | 253 | | | (395 | ) |
| Unrecognized net initial obligation | | | - | | | 5 | | | - | | | 5 | |
| Total (1) | | $ | (4,397 | ) | $ | (2,935 | ) | $ | (1,126 | ) | $ | (8,458 | ) |
(1) Amount recognized in accumulated other comprehensive income net of tax is $(5,651).
Of the amounts reported in accumulated other comprehensive income in 2006, management expects $(378) of the actuarial loss and $(167) of the prior service cost to be expensed in 2007 for U.S. pension plans; $(144) of the actuarial loss, $(32) of the prior service cost, and $3 of the unrecognized net initial obligation to be expensed in 2007 for foreign pension plans; and $68 of the actuarial gain and $(27) of the prior service cost to be expensed in 2007 for the other postretirement benefit plans.
The amounts recognized in other comprehensive income (pre-tax) for the year ended December 31, 2006 are as follows:
| | | U.S. Pension Plans | | Foreign Pension Plans | | Other Postretirement Plans | | Total | |
Other Comprehensive Income | | | | | | | | | | | | | |
| Net actuarial (gain) loss | | $ | (2,421 | ) | $ | 1,502 | | $ | - | | $ | (919 | ) |
| Recognized actuarial loss | | | (948 | ) | | (52 | ) | | - | | $ | (1,000 | ) |
| Recognized Prior service cost | | | (166 | ) | | (33 | ) | | - | | | (199 | ) |
| Recognized net initial obligation | | | - | | | 3 | | | - | | | 3 | |
| Total | | $ | (3,535 | ) | $ | 1,420 | | $ | - | | $ | (2,115 | ) |
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
The following table summarizes the changes in the projected benefit obligation (“PBO”), the changes in the fair value of plan assets, the funded status of both the accumulated benefit obligation (“ABO”) and the PBO, and the weighted average assumptions used to determine benefit obligations for the pension plans and other postretirement plans at September 30, 2006 and 2005.
| | | U.S. Pension Plans | | Foreign Pension Plans | | Other Postretirement Benefit Plans | |
| | 2006 | | 2005 | | 2006 | | 2005 | | 2006 | | 2005 | |
Change in Projected Benefit Obligation | | | | | | | | | | | | | | | | | | | |
| Projected benefit obligations, beginning | | $ | 121,538 | | $ | 113,181 | | $ | 12,166 | | $ | 10,244 | | $ | 5,295 | | $ | 5,382 | |
| Service cost | | | 2,511 | | | 2,134 | | | 672 | | | 532 | | | 35 | | | 39 | |
| Interest cost | | | 6,418 | | | 6,381 | | | 899 | | | 591 | | | 287 | | | 296 | |
| Benefits paid | | | (6,293 | ) | | (5,718 | ) | | (995 | ) | | (548 | ) | | (240 | ) | | (298 | ) |
| Member contributions | | | - | | | - | | | 108 | | | 100 | | | - | | | - | |
| Actuarial (gain) loss | | | (3,780 | ) | | 5,560 | | | 1,449 | | | 826 | | | (15 | ) | | (124 | ) |
| Plan amendments | | | - | | | - | | | - | | | 16 | | | - | | | - | |
| Acquisition of JJI | | | - | | | - | | | 4,049 | | | - | | | - | | | - | |
| Foreign currency exchange rate change | | | - | | | - | | | 17 | | | 405 | | | - | | | - | |
| Benefit obligations, ending | | $ | 120,394 | | $ | 121,538 | | $ | 18,365 | | $ | 12,166 | | $ | 5,362 | | $ | 5,295 | |
| | | | | | | | | | | | | | | | | | | | |
Change in Plan Assets | | | | | | | | | | | | | | | | | | | |
| Plan assets at fair value, beginning | | $ | 103,275 | | $ | 90,068 | | $ | 11,391 | | $ | 9,262 | | $ | - | | $ | - | |
| Actual gain on plan assets | | | 6,298 | | | 14,134 | | | 807 | | | 1,069 | | | - | | | - | |
| Employer contributions | | | 1,489 | | | 4,791 | | | 1,498 | | | 1,128 | | | - | | | - | |
| Member contributions | | | - | | | - | | | 108 | | | 100 | | | - | | | - | |
| Benefits paid | | | (6,293 | ) | | (5,718 | ) | | (702 | ) | | (548 | ) | | - | | | - | |
| Foreign currency exchange rate change | | | - | | | - | | | (71 | ) | | 380 | | | - | | | - | |
| Plan assets at fair value, ending | | $ | 104,769 | | $ | 103,275 | | $ | 13,031 | | $ | 11,391 | | $ | - | | $ | - | |
| | | | | | | | | | | | | | | | | | | | |
Funded Status of the Plans | | | | | | | | | | | | | | | | | | | |
| Accumulated benefit obligation | | $ | 117,801 | | $ | 118,915 | | $ | 18,365 | | $ | 12,166 | | $ | 5,362 | | $ | 5,295 | |
| Underfunded status of ABO | | | (13,032 | ) | | (15,640 | ) | | (5,334 | ) | | (775 | ) | | (5,362 | ) | | (5,295 | ) |
| Provision for future salaries | | | 2,593 | | | 2,623 | | | - | | | - | | | - | | | - | |
| Projected benefit obligation | | | 120,394 | | | 121,538 | | | 18,365 | | | 12,166 | | | 5,362 | | | 5,295 | |
| Underfunded status of PBO | | $ | (15,625 | ) | $ | (18,263 | ) | $ | (5,334 | ) | $ | (775 | ) | $ | (5,362 | ) | $ | (5,295 | ) |
| Unrecognized transition (asset) | | | N/A | | | - | | | N/A | | | (9 | ) | | N/A | | | - | |
| Unrecognized actuarial loss | | | N/A | | | 13,447 | | | N/A | | | 1,935 | | | N/A | | | 1,271 | |
| Unrecognized prior service cost | | | N/A | | | 1,089 | | | N/A | | | 377 | | | N/A | | | (281 | ) |
Contributions subsequent to measurement date | | | 68 | | | 67 | | | 608 | | | 693 | | | - | | | 86 | |
| Foreign currency exchange rate change | | | - | | | - | | | (18 | ) | | 119 | | | - | | | - | |
| Amount recognized at December 31 | | $ | (15,557 | ) | $ | (3,660 | ) | $ | (4,744 | ) | $ | 2,340 | | $ | (5,362 | ) | $ | (4,219 | ) |
| | | | | | | | | | | | | | | | | | | | |
Weighted Average Assumptions | | | | | | | | | | | | | | | | | | | |
| Discount rate | | | 5.75 | % | | 5.43 | % | | 5.25 | % | | 5.43 | % | | 5.63 | % | | 5.43 | % |
| Rate of compensation increase | | | 3.00 | % | | 3.00 | % | | 3.00 | % | | 3.00 | % | | N/A | | | N/A | |
| Expected return on plan assets | | | 8.50 | % | | 8.50 | % | | 7.00 | % | | 7.04 | % | | N/A | | | N/A | |
The Company has historically used the Moody’s Aa annualized long-term discount rate published as of the measurement date. However, during 2006 the Company selected a discount rate based on the published Citigroup Spot Rates for U.S pension plans and other postretirement plans and the published rates from Scotia Capital Markets for foreign plans, rounded to the nearest basis point (.01%) for the expected cash stream of each plan. The Company’s actuarial consultants have agreed that the average plan duration is long-term, and could range between 20 and 60 years. In addition, to develop the expected long-term rate of return on plan assets assumptions, the Company considered the historical returns and the future expectations for returns for each asset class, as well as the target asset allocation of the pension portfolios.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
The assumed health care cost trend rate for 2006 was 9%, declining to 5.5% in 2013. A one-percentage-point increase (decrease) in the assumed health care cost trend rate for each year would increase (decrease) the other postretirement benefit obligation at September 30, 2006 by $442 $(395), and the 2006 postretirement benefit expense by $27 $(24).
The amounts recognized in the consolidated balance sheets at December 31, 2006 and 2005 follow:
| | | December 31, 2006 |
| | U.S. Pension Plans | | Foreign Pension Plans | | Other Postretirement Plans | | Total | |
Balance Sheet Asset (Liability) | | | | | | | | | | | | | |
| Long-term assets | | $ | 1,806 | | $ | 34 | | $ | - | | $ | 1,840 | |
| Current liabilities | | | (183 | ) | | (300 | ) | | (493 | ) | $ | (976 | ) |
| Long-term liabilities | | | (17,180 | ) | | (4,477 | ) | | (4,869 | ) | $ | (26,526 | ) |
| Net (liability) asset recognized | | $ | (15,557 | ) | $ | (4,744 | ) | $ | (5,362 | ) | $ | (25,663 | ) |
| | | | | | | | | | | | | | |
| | | December 31, 2005 | |
| | | | U.S. Pension Plans | | | Foreign Pension Plans | | | Other Postretirement Plans | | | Total | |
Balance Sheet Asset (Liability) | | | | | | | | | | | | | |
| Accrued pension (liability) | | $ | (17,087 | ) | $ | (55 | ) | $ | (4,219 | ) | $ | (21,361 | ) |
| Prepaid pension cost | | | 2,011 | | | - | | | - | | $ | 2,011 | |
| Intangible asset | | | 1,120 | | | 395 | | | - | | $ | 1,515 | |
| Accumulated other comprehensive income (pre-tax) | | | 3,691 | | | 1,164 | | | - | | $ | 4,855 | |
| Net (liability) asset recognized | | $ | (10,265 | ) | $ | 1,504 | | $ | (4,219 | ) | $ | (12,980 | ) |
Components of the annual net periodic benefit costs for defined benefit pension plans were as follows:
| | | U.S. Pension Plans | | Foreign Pension Plans | |
| | 2006 | | 2005 | | 2004 | | 2006 | | 2005 | | 2004 | |
Components of Net Periodic Benefit Costs | | | | | | | | | | | | | | | | | | | |
| Service cost | | $ | 2,511 | | $ | 2,134 | | $ | 2,301 | | $ | 672 | | $ | 532 | | $ | 493 | |
| Interest cost | | | 6,418 | | | 6,381 | | | 6,831 | | | 899 | | | 591 | | | 580 | |
| Expected return on plan assets | | | (7,657 | ) | | (6,958 | ) | | (7,070 | ) | | (860 | ) | | (673 | ) | | (649 | ) |
| Amortization of transitional items | | | - | | | - | | | - | | | (3 | ) | | (3 | ) | | (9 | ) |
| Amortization of prior service cost | | | 166 | | | 187 | | | 309 | | | 33 | | | 32 | | | 198 | |
| Recognized actuarial loss | | | 948 | | | 868 | | | 1,389 | | | 52 | | | 32 | | | 763 | |
| Net pension expense for defined benefit plans | | | 2,386 | | | 2,612 | | | 3,760 | | | 793 | | | 511 | | | 1,376 | |
| Defined contribution plans | | | 7,821 | | | 6,947 | | | 5,352 | | | 1,557 | | | 1,522 | | | 948 | |
| Multi-employer plans for certain union employees | | | 227 | | | 156 | | | 1,164 | | | - | | | - | | | - | |
| Total benefit costs | | $ | 10,434 | | $ | 9,715 | | $ | 10,276 | | $ | 2,350 | | $ | 2,033 | | $ | 2,324 | |
| | | | | | | | | | | | | | | | | | | | |
Weighted Average Assumptions | | | | | | | | | | | | | | | | | | | |
| Discount rate | | | 5.43 | % | | 5.43 | % | | 5.81 | % | | 5.33 | % | | 5.43 | % | | 5.81 | % |
| Rate of compensation increase | | | 3.00 | % | | 3.00 | % | | 3.00 | % | | 3.00 | % | | 3.00 | % | | 3.00 | % |
| Expected return on plan assets | | | 8.50 | % | | 8.50 | % | | 8.50 | % | | 7.00 | % | | 7.04 | % | | 7.04 | % |
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
Components of the annual net periodic benefit costs for other postretirement benefit plans were as follows:
| | | Other Postretirement Benefit Plans | |
| | | 2006 | | 2005 | | 2004 | |
Components of Net Periodic Benefit Costs | | | | | | | | | | |
| Service cost | | $ | 35 | | $ | 39 | | $ | 45 | |
| Interest cost | | | 287 | | | 296 | | | 335 | |
| Recognized prior service cost (credit) | | | (26 | ) | | (27 | ) | | (37 | ) |
| Recognized actuarial loss | | | 77 | | | 64 | | | 116 | |
| Net expense of postretirement plans | | | 373 | | | 372 | | | 459 | |
| | | | | | | | | | | |
Weighted Average Assumptions | | | | | | | | | | |
| Discount rate | | | 5.43 | % | | 5.43 | % | | 5.81 | % |
| Rate of compensation increase | | | N/A | | | N/A | | | N/A | |
| Expected return on plan assets | | | N/A | | | N/A | | | N/A | |
The Company’s investment philosophy is to earn a reasonable return without subjecting plan assets to undue risk. Two institutional investment management firms were engaged in the U.S. and one in Canada to manage plan assets, which are invested in high quality equity and debt securities. The Company’s investment objective for U.S. plan assets is to exceed the return generated by an unmanaged index composed of the S&P 500 Stock Index and the Lehman Brothers Government/Corporate Bond Index in proportion to the target portfolio, while achieving a rate of return greater than the actuarially assumed rate. In November 2005, the Company allocated 5% of its investments to a “collective fund” with an objective to receive attractive risk-adjusted returns with moderate volatility. The Company’s investment objective for foreign plan assets, which consist of Canadian plans, is to provide superior real rates of return through income and capital appreciation by investing in equity securities of generally larger companies with above-average earnings growth and a diversified portfolio of Canadian debt securities. The targeted asset allocations provide reasonable assurance that the actuarially assumed rates of return can be achieved over a long period of time.
The asset allocation for the Company’s U.S. and Foreign defined benefit pension plans as of December 31, 2006 and 2005, and the target allocation for 2007, by asset category, follow:
| | | U.S. Pension Plans | | Foreign Pension Plans | |
| | | Target Allocation | | Percentage of Plan Assets at September 30, | | Target Allocation | | Percentage of Plan Assets at September 30, | |
| | 2007 | | 2006 | | 2005 | | 2007 | | 2006 | | 2005 | |
Asset Category | | | | | | | | | | | | | | | | | | | |
| Equity securities | | | 60 | % | | 58 | % | | 64 | % | | 58 | % | | 59 | % | | 60 | % |
| Debt securities | | | 40 | % | | 42 | % | | 36 | % | | 37 | % | | 37 | % | | 35 | % |
| Cash | | | 0 | % | | 0 | % | | 0 | % | | 5 | % | | 4 | % | | 5 | % |
| Total | | | 100 | % | | 100 | % | | 100 | % | | 100 | % | | 100 | % | | 100 | % |
Equity securities did not include any shares of Genlyte common stock at December 31, 2006 or 2005.
The Company expects to contribute approximately $6,600 to its U.S. defined benefit pension plans, $1,900 to its foreign defined benefit pension plans, and $500 to its other postretirement benefit plans during 2007. Contributions are expected to at least meet the current law minimum funding requirements.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
The Company expects future benefit payments during the next ten years as follows:
| | | | | | | Other Postretirement Plans | |
| Year ending December 31, | | U.S. Pension Plans | | Foreign Pension Plans | | Prior to Medicare D | | Subsidy Amount | | Net of Subsidy | |
| 2007 | | $ | 6,879 | | $ | 504 | | $ | 574 | | $ | 62 | | $ | 512 | |
| 2008 | | | 7,210 | | | 523 | | | 572 | | | 58 | | | 514 | |
| 2009 | | | 7,468 | | | 554 | | | 584 | | | 53 | | | 531 | |
| 2010 | | | 7,724 | | | 635 | | | 587 | | | 49 | | | 538 | |
| 2011 | | | 8,014 | | | 699 | | | 582 | | | 44 | | | 538 | |
| 2012-2016 | | | 43,932 | | | 4,619 | | | 2,826 | | | 162 | | | 2,664 | |
| Total future benefit payments | | $ | 81,227 | | $ | 7,534 | | $ | 5,725 | | $ | 428 | | $ | 5,297 | |
In December 2003, the Medicare Prescription Drug, Improvement and Modernization Act of 2003, which introduced a Medicare prescription drug benefit, as well as a federal subsidy to sponsors of retiree healthcare benefit plans that provide a benefit that is at least actuarially equivalent to the Medicare benefit, was enacted. The Company has concluded that the prescription drug benefits provided under its other postretirement plans are actuarially equivalent to the Medicare benefit as necessary to qualify for the subsidy based on managements understanding of the Medicare Reform legislation and confirmation from the Company’s actuarial consultants.
As of December 31, 2006 and 2005, the projected benefit obligation, accumulated benefit obligation, and fair value of plan assets for the U.S. defined benefit plans and foreign defined benefit plans with projected benefit obligations or accumulated benefit obligations in excess of plan assets, were as follows:
| | | U.S. Plans | | Foreign Plans | |
| | | 2006 | | 2005 | | 2006 | | 2005 | |
| Projected benefit obligation | | $ | 114,409 | | $ | 115,127 | | $ | 18,365 | | $ | 12,166 | |
| Accumulated benefit obligation | | | 111,816 | | | 112,504 | | | 18,365 | | | 12,162 | |
| Plan assets at fair value | | | 96,977 | | | 95,351 | | | 13,031 | | | 11,391 | |
(15) Lease Commitments
The Company rents office space, equipment, and computers under non-cancelable operating leases, some of which include renewal options and/or escalation clauses. Rental expenses for operating leases, which are recorded on a straight-line basis, amounted to $10,937 in 2006, $8,355 in 2005, and $7,107 in 2004. Offsetting the rental expenses were sublease rentals of $487 in 2006, $392 in 2005, and $346 in 2004. One division of the Company also rents office furniture under agreements that are classified as capital leases, which are included in note (12) “Long-term and Short-term Debt.” Future required minimum lease payments are as follows:
| Year ending December 31, | | Operating Leases | |
| 2007 | | $ | 10,512 | |
| 2008 | | | 7,611 | |
| 2009 | | | 5,459 | |
| 2010 | | | 3,682 | |
| 2011 | | | 2,390 | |
| Thereafter | | | 4,513 | |
| Total minimum lease payments | | $ | 34,167 | |
Total minimum lease payments on operating leases have not been reduced by minimum sublease rentals of $1,891 due in the future under non-cancelable subleases.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
(16) Contingencies
Litigation: In the normal course of business, the Company is a plaintiff in various lawsuits and is also subject to various legal claims arising in the normal course of business, as a defendant and/or being a potentially responsible party in patent, trademark, product liability, environmental and contract claims and litigation. Based on information currently available, it is the opinion of management that the ultimate resolution of all pending and threatened claims against the Company will not have a material adverse effect on the financial condition or results of operations of the Company.
The Company records liabilities and establishes reserves for legal claims against it when the costs or exposures associated with the claims become probable and can be reasonably estimated. Because the ultimate outcome of legal claims and litigation is uncertain, the actual costs of resolving legal claims and litigation may be substantially higher than the amounts reserved for such claims. In the event of unexpected future developments, it is possible that the ultimate resolution of such matters, if unfavorable, could have a material adverse effect on results of operations of the Company in future periods.
Environmental Remediation: The Company’s operations are subject to Federal, state, local, and foreign laws and regulations that have been enacted to regulate the discharge of materials into the environment or otherwise relating to the protection of the environment. The Company establishes reserves for known environmental claims when the costs associated with the claims become probable and can be reasonably estimated. The Company had established reserves of $3,920 and $3,257 at December 31, 2006 and 2005, respectively, that relate to estimated environmental remediation plans at several company facilities. The Company believes these reserves are sufficient to cover estimated environmental liabilities at that time; however, management continually evaluates the adequacy of those reserves, and they could change. Management does not anticipate that compliance with current environmental laws and regulations will materially affect the Company’s capital expenditures, results of operations, or competitive position in 2007.
Guarantees and Indemnities: The Company is a party to contracts entered into in the normal course of business in which it is common for the Company to agree to indemnify third parties for certain liabilities that may arise out of or relate to the subject matter of the contract. Generally, the Company does not indemnify any third party for the third party’s independent liability, but rather from liabilities that could arise due to the Company’s own actions, inactions, or from products manufactured or sold by the Company. Such liabilities are viewed by the Company as potential or contingent liabilities of the Company that could otherwise arise in the ordinary course of business. While generally the Company cannot estimate the potential amount of future payments under these indemnities until events arise that would result in a liability under such indemnities, whenever any contingent liability becomes probable and can be reasonably estimated, the Company records the incurred costs and establishes a reserve for future expected related costs or exposures.
In connection with the purchase of assets and acquisition of businesses, the Company has from time to time agreed to indemnify the seller from liabilities relating to events occurring prior to the sale or for conditions existing at the time of the purchase or arising thereafter. These indemnities generally include potential environmental liabilities relating to the acquired business’s operations or activities, or operations directly associated with the acquired assets or businesses, or for the sale of products, or for certain actions or inactions, by the Company or by the acquired businesses, occurring before and after the purchase of the acquired assets or businesses. Indemnities associated with the acquisition of businesses are generally potential or contingent liabilities of the Company that can arise in the ordinary course of business. While generally the Company cannot estimate the potential amount of future payments under these indemnities until events arise that would result in a liability under such indemnities, whenever a contingent liability becomes probable and can be reasonably estimated, or if it is probable at the time the assets or businesses are acquired, the Company records the incurred costs and establishes a reserve for future related costs or exposures.
At December 31, 2006, the Company did not have any reserves related to indemnified liabilities; however, the Company has recorded liabilities or established reserves in the past to the extent any indemnified liabilities have been determined to be probable. As to unrecorded liabilities relating to any other indemnification liabilities, the Company does not believe that any amounts that it may be required to pay under any such indemnities will be material to the Company’s results of operations, financial condition, or liquidity.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
(17) Stock Options
At December 31, 2006, Genlyte had two stock-based compensation (stock option) plans. The purpose of the stock option plans is to enhance the profitability and value of Genlyte. The 2003 Stock Option Plan (“the Plan”) replaced the 1998 Stock Option Plan, options under which are currently outstanding. Eligibility under the Plan shall be determined by the Compensation Committee of the Genlyte Board of Directors in its sole discretion. The Plan, which expires on May 1, 2008, provides that an aggregate of up to 4,000,000 shares of Genlyte common stock may be granted as incentive stock options or non-qualified stock options, provided that no options may be granted if the number of shares of Genlyte common stock that may be issued upon the exercise of outstanding options would exceed the lesser of 4,000,000 shares of Genlyte common stock or 10% of the issued and outstanding shares of Genlyte common stock. When stock options are exercised, new shares are issued by the Company’s transfer agent. As of December 31, 2006, since the inception of the Plan, the Company has granted a cumulative total of 1,481,400 options.
The option exercise prices are established by the Compensation Committee of the Genlyte Board of Directors and cannot be less than the greater of the fair market value of a share of Genlyte common stock on the date of grant, or the par value of Genlyte common stock. The term of each option and the vesting schedule shall be fixed by the Compensation Committee, but no option shall be exercisable more than seven years after the date the option is granted and options vest 50% after two years and 100% after three years following the date of the grant.
The fair value of each stock option award is estimated on the date of grant using the Black-Scholes-Merton option valuation model. Expected volatility was based on historical volatility of Genlyte stock over the preceding number of years equal to the expected life of the options. The expected life of options granted was determined based on historical exercise behavior of similar employee groups. The risk-free interest rate was based on U.S. Treasury yield for terms equal to the expected life of the options at the time of grant. All inputs into the Black-Scholes-Merton model are estimates made at the time of grant. Future actual results could materially differ from these estimates, though without impact to future reported net income.
The following weighted average assumptions were used to estimate the fair value per share of stock options granted during the years ended December 31:
| | | 2006 | | 2005 | | 2004 | |
| Weighted average fair value per share of options | | $ | 25.05 | | $ | 12.85 | | $ | 9.07 | |
| Risk-free interest rate | | | 4.7 | % | | 3.9 | % | | 3.1 | % |
| Expected life, in years | | | 4.3 | | | 5.0 | | | 5.0 | |
| Expected volatility | | | 33.9 | % | | 26.1 | % | | 27.8 | % |
| Expected dividends | | | - | | | - | | | - | |
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
Stock option transactions under the 2003 and 1998 Stock Option Plans are summarized below:
| | | Number of Shares | | Weighted Average Exercise Price Per Share | | Weighted Average Remaining Contractual Term (Years) | | Aggregate Intrinsic Value | |
| Outstanding at December 31, 2003 | | | 1,629,360 | | $ | 13.92 | | | | | | | |
| Granted | | | 760,800 | | | 29.86 | | | | | | | |
| Exercised | | | (382,410 | ) | | 13.59 | | | | | $ | 6,715 | |
| Forfeited and expired | | | (27,200 | ) | | 20.08 | | | | | | | |
| Outstanding at December 31, 2004 | | | 1,980,550 | | | 20.02 | | | | | | | |
| Granted | | | 504,600 | | | 41.75 | | | | | | | |
| Exercised | | | (414,930 | ) | | 13.92 | | | | | | 13,690 | |
| Forfeited and expired | | | (40,780 | ) | | 21.93 | | | | | | | |
| Outstanding at December 31, 2005 | | | 2,029,440 | | | 26.63 | | | | | | | |
| Granted | | | 188,000 | | | 71.22 | | | | | | | |
| Exercised | | | (434,790 | ) | | 16.04 | | | | | | 23,625 | |
| Forfeited and expired | | | (29,900 | ) | | 41.18 | | | | | | | |
| Outstanding at December 31, 2006 | | | 1,752,750 | | $ | 33.77 | | | 4.36 | | $ | 77,710 | |
| Fully vested and exercisable at End of Year | | | | | | | | | | | | | |
| December 31, 2004 | | | 480,450 | | $ | 13.47 | | | | | | | |
| December 31, 2005 | | | 559,040 | | | 14.37 | | | | | | | |
| December 31, 2006 | | | 727,750 | | $ | 20.87 | | | 3.23 | | $ | 41,660 | |
Additional information about stock options outstanding as of December 31, 2005 is summarized below:
| | | Options Outstanding | | Options Exercisable | |
| Range of Exercise Prices | | Number of Shares | | Weighted Average Remaining Contractual Life (Years) | | Weighted Average Exercise Price | | Number of Shares | | Weighted Average Exercise Price | |
| $7.20 - $14.39 | | | 273,685 | | | 2.60 | | $ | 13.55 | | | 273,685 | | $ | 13.55 | |
| $14.40 - $21.59 | | | 151,500 | | | 2.17 | | | 15.70 | | | 151,500 | | | 15.70 | |
| $21.60 - $28.78 | | | 406,315 | | | 4.13 | | | 28.31 | | | 179,565 | | | 28.31 | |
| $28.79 - $35.98 | | | 180,000 | | | 4.56 | | | 30.14 | | | 90,000 | | | 30.14 | |
| $35.99 - $43.18 | | | 557,250 | | | 5.28 | | | 41.46 | | | 33,000 | | | 39.49 | |
| $50.37 - $57.59 | | | 1,000 | | | 5.56 | | | 51.17 | | | - | | | - | |
| $57.60 - $64.76 | | | 18,750 | | | 6.56 | | | 64.49 | | | - | | | - | |
| $64.76 - $71.96 | | | 164,250 | | | 6.31 | | | 71.96 | | | - | | | - | |
| | | | 1,752,750 | | | 4.36 | | $ | 33.77 | | | 727,750 | | $ | 20.87 | |
All stock option weighted average exercise prices and number of shares were adjusted for the two-for-one stock split which was payable on May 23, 2005 to stockholders of record at the close of business on May 9, 2005 (See note (4)).
Effective January 1, 2006, the Company adopted SFAS No. 123R (Revised 2004), “Accounting for Stock-Based Compensation.” SFAS No. 123R establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services. SFAS No. 123R eliminates the alternative to use the intrinsic value method of
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”), as permitted under SFAS No. 123, “Accounting for Stock-Based Compensation” and SFAS No. 148, “Accounting for Stock-Based Compensation - Transition and Disclosure - an Amendment of FASB Statement No. 123.” SFAS No. 123R requires entities to recognize the cost of employee services received in exchange for awards of equity instruments based on the grant-date fair value of those awards (with limited exceptions). That cost is recognized over the period during which an employee is required to provide service in exchange for the award or the vesting period. No compensation cost is recognized for equity instruments for which employees do not render the requisite service. Changes in fair value during the requisite service period will be recognized as compensation cost over that period. The Company adopted SFAS No. 123R using the modified prospective method and has applied it to the accounting for Genlyte’s stock options. Under the modified prospective method, stock-based expense is recognized for all awards granted subsequent to December 31, 2005, based on the grant-date fair value estimated in accordance with the provisions of SFAS No. 123R. Since all Genlyte stock options granted prior to December 31, 2005 were for prior service, stock-based expense is not recognized for awards granted prior to, but not yet vested, as of January 1, 2006, except for awards that may be subsequently modified or repurchased.
On April 20, 2006, the Compensation Committee of Genlyte’s Board of Directors authorized the granting of 169,250 stock options. The Compensation Committee authorized the granting of an additional 18,750 stock options on July 21, 2006. As a result of the adoption of SFAS No. 123R, the Company recorded $969 of stock-based compensation expense during 2006, with total income tax benefits recognized in the consolidated statement of income of $331. No stock-based compensation expense was recorded in 2005 or 2004. The Company did not capitalize any expense related to stock-based payments and has recorded stock-based compensation expense in selling and administrative expenses. The Company accounts for any awards with graded vesting on a straight-line basis. As of December 31, 2006, the total compensation cost related to nonvested awards not yet recognized was $3,507, which will be recognized over the next 2.6 years. SFAS No. 123R requires that the benefit of tax deductions in excess of recognized compensation cost be reported as a financing cash flow ($8,075 during 2006), rather than as an other operating cash flow ($4,431 during 2005) as required under prior guidance.
Prior to January 1, 2006, Genlyte accounted for its two stock option plans using the intrinsic value method of APB 25, as permitted by SFAS No. 123. Because all options granted under these plans had an exercise price equal to the market value of the underlying common stock on the date of grant, no stock-based compensation expense was recognized in the consolidated statements of income. Had stock-based compensation expense for the Company’s stock option plans been determined based on a calculated fair value using the Black-Scholes-Merton model at the grant date, Genlyte’s net income and earnings per share for the years ended December 31 would have been as follows:
| | | 2005 | | 2004 | |
| Net income, as reported | | $ | 84,844 | | $ | 58,253 | |
| Stock-based compensation cost using fair value | | | | | | | |
| method, net of related tax effects | | | 4,204 | | | 4,343 | |
| Net income, pro forma | | $ | 80,640 | | $ | 53,910 | |
| | | | | | | | |
| Earnings per share: | | | | | | | |
| Basic, as reported | | $ | 3.06 | | $ | 2.14 | |
| Basic, pro forma | | $ | 2.91 | | $ | 1.97 | |
| Diluted, as reported | | $ | 2.99 | | $ | 2.10 | |
| Diluted, pro forma | | $ | 2.84 | | $ | 1.94 | |
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
(18) Preferred Stock Purchase Rights
On September 13, 1999, Genlyte declared a dividend, as of the expiration (September 18, 1999) of the rights issued under the Stockholder Rights Plan dated as of August 29, 1989, of one preferred stock purchase right for each outstanding share of Genlyte’s common stock. Under certain conditions, each right may be exercised to purchase one one-hundredth of a share of junior participating cumulative preferred stock at a price of $105.00 per share. The preferred stock purchased upon exercise of the rights will have a minimum preferential quarterly dividend of $25.00 per share and a minimum liquidation payment of $100.00 per share. Each share of preferred stock will have one hundred votes.
Rights become exercisable when a person, entity, or group of persons or entities (“Acquiring Person”) acquires, or 10 business days following a tender offer to acquire, ownership of 20% or more of Genlyte’s outstanding common stock. In the event that any person becomes an Acquiring Person, each right holder will have the right to receive the number of shares of common stock having a then current market value equal to two times the aggregate exercise price of such rights. If Genlyte were to enter into certain business combination or disposition transactions with an Acquiring Person, each right holder will have the right to receive shares of common stock of the acquiring company having a value equal to two times the aggregate exercise price of the rights. Genlyte may redeem these rights in whole at a price of $.01 per right. The rights expire on September 12, 2009. As of December 31, 2006, these rights were not exercisable.
(19) Accumulated Other Comprehensive Income
Accumulated other comprehensive income at December 31 consisted of the following:
| | | 2006 | | 2005 | | 2004 | |
| Minimum pension liability, after tax | | $ | (2,064 | ) | $ | (3,242 | ) | $ | (4,102 | ) |
| Incremental effect of adopting SFAS No. 158, after tax | | | (3,587 | ) | | - | | | - | |
| Foreign currency translation adjustments | | | 18,753 | | | 25,502 | | | 19,850 | |
| Fair market value of interest rate swaps, after tax | | | 164 | | | 1,348 | | | 281 | |
| Total accumulated other comprehensive income | | $ | 13,266 | | $ | 23,608 | | $ | 16,029 | |
(20) Segment Reporting
For management reporting and control, the Company’s businesses are divided into three operating segments: Commercial, Residential, and Industrial and Other. Information regarding operating segments has been presented as required by SFAS No. 131 “Disclosures about Segments of an Enterprise and Related Information.” At December 31, 2006 the operating segments were comprised as follows:
The Commercial segment includes those products that are marketed and sold to commercial construction lighting customers including: retail, office, hospitality, school, institutional, healthcare, etc. These customers are similar in that they follow similar market drivers and utilize similar lighting products and distribution processes.
The Residential segment includes those products that are marketed and sold to residential construction lighting customers including: single family homes, multi-family homes, and apartment buildings. These customers are similar in that they follow similar market drivers and utilize similar lighting products and distribution processes. These customers are differentiated from the Commercial segment, due to the type of products, the basic nature of the distribution process, and their end-user markets.
The Industrial and Other segment includes those products that are marketed and sold to industrial construction lighting customers including: factories, warehouses, etc. These customers are similar in that they follow similar market drivers and utilize similar lighting products and distribution processes. These customers are differentiated from the Commercial and Residential segments, due to the type of products and the basic nature of the distribution process.
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
Intersegment sales are eliminated in consolidation and therefore not presented in the table below. Corporate assets and expenses are allocated to the segments. Information about the Company’s operating segments as of and for the years ended December 31 follows:
| 2006 | | Commercial | | Residential | | Industrial and Other | | Total | |
| Net sales | | $ | 1,109,588 | | $ | 183,463 | | $ | 191,782 | | $ | 1,484,833 | |
| Operating profit | | | 151,662 | | | 32,881 | | | 23,791 | | | 208,334 | |
| Assets | | | 891,792 | | | 128,919 | | | 165,474 | | | 1,186,185 | |
| Depreciation and amortization | | | 23,576 | | | 3,367 | | | 4,743 | | | 31,686 | |
| Capital expenditures | | | 20,452 | | | 3,146 | | | 3,421 | | | 27,019 | |
| | | | | | | | | | | | | | |
| 2005 | | | | | | | | | | | | | |
| Net sales | | $ | 915,105 | | $ | 178,759 | | $ | 158,330 | | $ | 1,252,194 | |
| Operating profit | | | 105,256 | | | 26,851 | | | 17,235 | | | 149,342 | |
| Assets | | | 736,533 | | | 114,370 | | | 139,003 | | | 989,906 | |
| Depreciation and amortization | | | 21,743 | | | 2,694 | | | 4,729 | | | 29,166 | |
| Capital expenditures | | | 29,637 | | | 3,498 | | | 6,288 | | | 39,423 | |
| | | | | | | | | | | | | | |
| 2004 | | | | | | | | | | | | | |
| Net sales | | $ | 870,500 | | $ | 165,228 | | $ | 143,341 | | $ | 1,179,069 | |
| Operating profit | | | 86,081 | | | 19,345 | | | 11,392 | | | 116,818 | |
| Depreciation and amortization | | | 20,958 | | | 2,910 | | | 4,201 | | | 28,069 | |
| Capital expenditures | | | 20,636 | | | 2,126 | | | 3,858 | | | 26,620 | |
The figures previously reported for 2005 and 2004 have been adjusted to reflect the correction of a classification.
(21) Geographical Information
The Company has operations throughout North America. Foreign net sales, operating profit, and long-lived assets are primarily from Canadian operations, with a minor amount in Germany, Hong Kong, and Mexico. The amounts below are attributed to each country based on the selling division’s location. Information about the Company’s operations by geographical area as of and for the years ended December 31 follows:
| 2006 | | United States | | Canada | | Other Foreign | | Total | |
| Net sales | | $ | 1,213,556 | | $ | 246,558 | | $ | 24,719 | | $ | 1,484,833 | |
| Operating profit | | | 166,007 | | | 38,927 | | | 3,400 | | | 208,334 | |
| Long-lived assets | | | 556,690 | | | 72,074 | | | 44,375 | | | 673,139 | |
| | | | | | | | | | | | | | |
| 2005 | | | | | | | | | | | | | |
| Net sales | | $ | 1,028,640 | | $ | 223,554 | | $ | - | | $ | 1,252,194 | |
| Operating profit | | | 115,670 | | | 33,672 | | | - | | | 149,342 | |
| Long-lived assets | | | 465,327 | | | 72,784 | | | 3,363 | | | 541,474 | |
| | | | | | | | | | | | | | |
| 2004 | | | | | | | | | | | | | |
| Net sales | | $ | 983,469 | | $ | 195,600 | | $ | - | | $ | 1,179,069 | |
| Operating profit | | | 94,819 | | | 21,999 | | | - | | | 116,818 | |
THE GENLYTE GROUP INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in thousands, except per share data)
(22) Selected Quarterly Financial Data (Unaudited)
| | | Quarter | | | |
| 2006 | | 1st | | 2nd | | 3rd | | 4th | | Full Year | |
| Net sales | | $ | 329,174 | | $ | 366,094 | | $ | 410,381 | | $ | 379,184 | | $ | 1,484,833 | |
| Gross profit | | | 125,990 | | | 144,225 | | | 165,962 | | | 152,629 | | | 588,806 | |
| Operating profit | | | 43,577 | | | 51,253 | | | 61,715 | | | 51,789 | | | 208,334 | |
| Net income (2) | | | 48,627 | | | 35,877 | | | 37,980 | | | 31,997 | | | 154,481 | |
| Earnings per share: | | | | | | | | | | | | | | | | |
| Basic (1,2) | | | 1.74 | | | 1.27 | | | 1.35 | | | 1.13 | | | 5.49 | |
| Diluted (1,2) | | | 1.70 | | | 1.24 | | | 1.32 | | | 1.11 | | | 5.37 | |
| Market price: | | | | | | | | | | | | | | | | |
| High | | | 68.14 | | | 75.28 | | | 75.14 | | | 85.65 | | | 85.65 | |
| Low | | | 53.71 | | | 63.36 | | | 63.52 | | | 71.41 | | | 53.71 | |
| | | | | | | | | | | | | | | | | |
| | | Quarter | | | | |
| 2005 | | | 1st | | | 2nd | | | 3rd | | | 4th | | | Full Year | |
| Net sales | | $ | 301,361 | | $ | 316,238 | | $ | 325,622 | | $ | 308,973 | | $ | 1,252,194 | |
| Gross profit | | | 109,266 | | | 117,912 | | | 120,642 | | | 118,401 | | | 466,221 | |
| Operating profit | | | 31,835 | | | 37,859 | | | 40,930 | | | 38,718 | | | 149,342 | |
| Net income | | | 18,006 | | | 21,538 | | | 21,873 | | | 23,427 | | | 84,844 | |
| Earnings per share: | | | | | | | | | | | | | | | | |
| Basic (1,3) | | | 0.65 | | | 0.78 | | | 0.79 | | | 0.84 | | | 3.06 | |
| Diluted (1,3) | | | 0.64 | | | 0.76 | | | 0.77 | | | 0.82 | | | 2.99 | |
| Market price: | | | | | | | | | | | | | | | | |
| High (3) | | | 47.14 | | | 48.74 | | | 52.46 | | | 56.16 | | | 56.16 | |
| Low (3) | | | 39.38 | | | 39.49 | | | 44.44 | | | 47.36 | | | 39.38 | |
| (1) | Quarterly earnings per share amounts might not sum to full year amounts because of rounding. |
| (2) | Net income and earnings per share in the first quarter of 2006 benefited from the $24,715 one-time tax provision benefit related to the change in corporate structuring of GTG from partnership status to corporate status for income tax reporting purposes, while net income and earnings per share in the second quarter benefited from the $4,447 (after-tax) one-time foreign currency exchange gain related to the return of capital from Canada. |
| (3) | Earnings per share and stock prices were adjusted for the two-for-one stock split which was payable on May 23, 2005 to stockholders of record at the close of business on May 9, 2005 (See note (4)). |
(23) Subsequent Event
On February 1, 2007, the Company acquired Hanover Lantern, Inc. (“Hanover”), which is located in Hanover, Pennsylvania. Hanover was a privately held lighting fixture company that services the outdoor commercial, decorative, municipal, and residential markets. For the year ended December 31, 2006, Hanover achieved net sales of $24,400 and reported operating income of $3,200. The purchase price for the transaction is expected to be a cash amount of approximately $26,000 plus liabilities for employee benefits, trade payables, and $1,750 of outstanding debt.
None
Evaluation of Disclosure Controls and Procedures
The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in its Securities Exchange Act of 1934 (“Exchange Act”) reports is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s (the “SEC’s”) rules and forms, and that such information is accumulated and communicated to its management, including the Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), as appropriate, to allow timely decisions regarding required disclosure.
As of the end of the period covered by this report, the Company carried out an evaluation, under the supervision and with the participation of the Company’s Disclosure Committee and management, including the CEO and the CFO, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Exchange Act Rule 13a-15. Based upon, and as of the date of, this evaluation, the CEO and the CFO concluded that the Company’s disclosure controls and procedures were effective.
Management’s Report on Internal Control Over Financial Reporting
The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting. The Company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the U.S.
The Company’s management has assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2006. In making its assessment of internal control over financial reporting, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in Internal Control - Integrated Framework. Based on the results of this assessment, management concludes that, as of December 31, 2006, the Company’s internal control over financial reporting was effective.
The Company’s management has excluded JJI Lighting Group (“JJI”), Strand Lighting (“Strand”), and Carsonite International Corporation (“Carsonite”) from its assessment of internal control over financial reporting as of December 31, 2006 because these companies were acquired by the Company in purchase business combinations during 2006. JJI, Strand, and Carsonite are wholly-owned subsidiaries whose total assets and net sales represent 16% and 7%, respectively, of the related consolidated financial statement amounts as of and for the year ended December 31, 2006.
Management’s assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2006 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in its report which appears herein.
Changes in Internal Control Over Financial Reporting
There were no changes in the Company’s internal control over financial reporting that occurred during the Company’s last fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
The information required with respect to the Directors of Genlyte is included in the “Election of Directors” section of the Proxy Statement for the 2007 Annual Meeting of Stockholders of Genlyte, to be filed with the Securities and Exchange Commission, pursuant to Regulation 14A, and is incorporated herein by reference.
The information required with respect to the Audit Committee and the Compensation Committee is included in the “Board and Committee Meetings; Committee Matters Generally” section of the Proxy Statement for the 2007 Annual Meeting of Stockholders of Genlyte, to be filed with the Securities and Exchange Commission, pursuant to Regulation 14A, and is incorporated herein by reference.
The information required with respect to beneficial ownership reporting is included in the “Compliance With Section 16(a) of The Securities Exchange Act of 1934” and “Common Stock Ownership of Certain Beneficial Owners and Management” sections of the Proxy Statement for the 2007 Annual Meeting of Stockholders of Genlyte, to be filed with the Securities and Exchange Commission, pursuant to Regulation 14A, and is incorporated herein by reference.
The Company has adopted a code of ethics that applies to all of its salaried employees (including its Chief Executive Officer, Chief Financial Officer, and Corporate Controller). The Company has made the Code of Ethics available on its website at http://www.Genlyte.com.
Executive Officers
The Company’s executive officers do not hold specified terms of office, so their service does not “expire.” Present executive officers are:
Larry K. Powers
Mr. Powers, age 64, has served as President and Chief Executive Officer of the Company since January 1994 and has been an employee of the Company since 1983. Mr. Powers has also served as Chairman of the Board since April 2000 and a Director of Genlyte since July 1993.
Zia Eftekhar
Mr. Eftekhar, age 61, has served as Vice President - Executive Officer of the Company since April 2001 and President of Lightolier, the largest division of the Company, since June 1992. He has been an employee of Lightolier since 1968. Mr. Eftekhar has also served as a Director of Genlyte since February 2001.
William G. Ferko
Mr. Ferko, age 52, has served as Vice President, Chief Financial Officer, and Treasurer of the Company since November 1998. He served as Vice President and Chief Financial Officer of Goss Graphics Systems, Inc. from 1996 to 1998, and held various financial positions with Tenneco Inc. from 1976 to 1996.
Ronald D. Schneider
Mr. Schneider, age 56, has served as Vice President - Executive Officer of the Company since April 2000 and Vice President Operations of the Company since August 1998. He served as Vice President and General Manager Commercial & Industrial Division of Thomas Lighting from January 1997 to August 1998. Mr. Schneider had been an employee of Thomas since 1984.
Raymond L. Zaccagnini
Mr. Zaccagnini, age 57, has served as Corporate Secretary of the Company since February 1999 and Executive Officer - Vice President Administration of the Company since August 1998 (when GTG was formed from Genlyte and Thomas Lighting). He served as Vice President of Operations of Thomas Lighting from January 1997 to August 1998. Mr. Zaccagnini had been an employee of Thomas since 1977.
Daniel R. Fuller
Mr. Fuller, age 53, has served as Assistant Corporate Secretary of the Company since February 1999, Vice President and General Counsel of the Company since February 2000, and General Counsel of the Company from September 1998 to February 2000. He had been in private law practice from 1978 to September 1998.
The information required with respect to executive compensation is included in the “Compensation Discussion and Analysis” section of the Proxy Statement for the 2007 Annual Meeting of Stockholders of Genlyte, to be filed with the Securities and Exchange Commission, pursuant to Regulation 14A, and is incorporated herein by reference.
The information required with respect to security ownership is included in the “Voting Securities and Principal Holders Thereof” section of the Proxy Statement for the 2007 Annual Meeting of Stockholders of Genlyte, to be filed with the Securities and Exchange Commission, pursuant to Regulation 14A, and is incorporated herein by reference.
The information required with respect to relationships and related transactions is included in the “Compensation Committee Interlocks and Insider Participation” and “Voting Securities and Principal Holders Thereof” sections of the Proxy Statement for the 2007 Annual Meeting of Stockholders of Genlyte, to be filed with the Securities and Exchange Commission, pursuant to Regulation 14A, and is incorporated herein by reference.
The information required with respect to accounting fees and services is included in the “Independent Registered Public Accounting Firm” section of the Proxy Statement for the 2007 Annual Meeting of Stockholders of Genlyte, to be filed with the Securities and Exchange Commission, pursuant to Regulation 14A, and is incorporated herein by reference.
| EXHIBITS AND FINANCIAL STATEMENT SCHEDULES |
The following documents appear in Item 8 “Financial Statements and Supplementary Data” and are filed as a part of this report on Form 10-K:
| (a) | 1. FINANCIAL STATEMENTS |
| | |
| | Report of Independent Registered Public Accounting Firm |
| | Consolidated Statements of Income for the years ended December 31, 2006, 2005, and 2004 |
| | Consolidated Balance Sheets as of December 31, 2006 and 2005 |
| | Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2006, 2005, and 2004 |
| | Consolidated Statements of Cash Flows for the years ended December 31, 2006, 2005, and 2004 |
| | Notes to Consolidated Financial Statements |
| | |
| | 2. FINANCIAL STATEMENT SCHEDULES |
| | |
| | Schedules are omitted because of the absence of conditions under which they are required or because the required information is included in the consolidated financial statements or notes. |
| | |
| | 3. EXHIBITS |
| | |
| | For a list of exhibits filed as part of this report on Form 10-K, see the Exhibit Index on pages 68-70. Exhibits 10.1, 10.3, 10.4, and 10.7 are management contracts or compensatory plans or arrangements required to be filed. |
| | |
| (b) | EXHIBITS |
| | |
| | The exhibits filed with this report on Form 10-K, as required by Item 601 of Regulation S-K, are incorporated by reference in or follow the Exhibit Index on pages 68-70. |
| | |
| (c) | FINANCIAL STATEMENT SCHEDULES |
| | |
| | Schedules are omitted because of the absence of conditions under which they are required or because the required information is included in the consolidated financial statements or notes. |
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange Act of 1934, Genlyte has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
| | | THE GENLYTE GROUP INCORPORATED |
| | | Registrant |
| | | |
| Date: February 28, 2007 | | By: /s/ Larry K. Powers |
| | | Larry K. Powers |
| | | Chairman, President & Chief Executive Officer |
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of Genlyte and in the capacities and on the dates indicated.
| Signature | Title | Date |
| | | |
| /s/ Larry K. Powers | Chairman | February 28, 2007 |
| Larry K. Powers | President & Chief Executive Officer | |
| (Principal Executive Officer) | Director | |
| | | |
| /s/ William G. Ferko | Vice President | February 28, 2007 |
| William G. Ferko | Chief Financial Officer | |
| (Principal Financial Officer and | Treasurer | |
| Principal Accounting Officer) | | |
| | | |
| * | Director | * |
| Zia Eftekhar | | |
| | | |
| * | Director | * |
| Robert D. Nixon, Ph.D. | | |
| | | |
| * | Director | * |
| John T. Baldwin | | |
| | | |
| * | Director | * |
| William A. Trotman | | |
*The undersigned, by signing his name hereto, does hereby sign this report on behalf of each of the above-identified directors of the Registrant pursuant to powers of attorney executed by such directors and filed with this report.
| /s/ Raymond L. Zaccagnini | Vice President | February 28, 2007 |
| Raymond L. Zaccagnini | Administration | |
| | | |
No. | Description | Incorporated by Reference to: |
2.1 | Merger and Assumption Agreement, dated as of December 28, 1990, by and between Genlyte and Lightolier | Exhibit 10(d) to Genlyte’s report on Form 10-K filed with the Securities and Exchange Commission in March 1991 |
| 2.2 | Master Transaction Agreement dated April 28, 1998 by and between Thomas and Genlyte | Exhibit 2.1 to Genlyte’s report on Form 8-K filed with the Securities and Exchange Commission on July 24, 1998 |
| 2.3 | Limited Liability Company Agreement of GT Lighting, LLC (now named Genlyte Thomas Group LLC) dated April 28, 1998 by and among Thomas, Genlyte and GTG | Exhibit 2.2 to Genlyte’s report on Form 8-K filed with the Securities and Exchange Commission on July 24, 1998 |
| 2.4 | Capitalization Agreement dated April 28, 1998 by and among GTG and Thomas and certain of its affiliates | Exhibit 2.3 to Genlyte’s report on Form 8-K filed with the Securities and Exchange Commission on July 24, 1998 |
| 2.5 | Capitalization Agreement dated April 28, 1998 by and between GTG and Genlyte | Exhibit 2.4 to Genlyte’s report on Form 8-K filed with the Securities and Exchange Commission on July 24, 1998 |
| 2.6 | Financial Statements of Business Acquired and Pro Forma Financial Information related to the formation of GTG | Exhibits 99.1 through 99.16 to Genlyte’s report on Form 8-K/A filed with the Securities and Exchange Commission on November 5, 1998 |
| 3.1 | Amended and Restated Certificate of Incorporation of Genlyte, dated August 2, 1988 | Exhibit 3(b) to Genlyte’s Registration Statement on Form 8 as filed with the Securities and Exchange Commission on August 3, 1988 |
| 3.2 | Amended and Restated Certificate of Incorporation of Genlyte, dated May 9, 1990 | Exhibit 3(a) to Genlyte’s report on Form 10-K filed with the Securities and Exchange Commission in March 1993 |
| 3.3 | Amended and Restated Bylaws of Genlyte, as adopted on May 16, 1988 | Exhibit 3(c) to Genlyte’s Registration Statement on Form 8 as filed with the Securities and Exchange Commission on August 3, 1988 |
| 3.4 | Certificate of Amendment of the Restated Certificate of Incorporation of Genlyte, dated April 28, 2005 | Exhibit 3(i).1 to Genlyte’s report on Form 8-K filed with the Securities and Exchange Commission on April 28, 2005 |
| 3.5 | Certificate of Merger, merging Ignite Merger Sub Inc. with and into JJI Lighting Group, Inc., dated May 12, 2006 | Exhibit 3.1 to Genlyte’s report on Form 10-Q filed with the Securities and Exchange Commission on August 10, 2006 |
| 4.1 | Form of Stock Certificate for Genlyte Common Stock | Exhibit 4(a) to Genlyte’s Registration Statement on Form 8 as filed with the Securities and Exchange Commission on August 3, 1988 |
No. | Description | Incorporated by Reference to: |
| 4.3 | Rights Agreement, dated as of September 13, 1999, between Genlyte and The Bank of New York, as Rights Agent | Exhibit 4.1 to Genlyte’s Registration Statement on Form 8-A filed with the Securities and Exchange Commission on September 15, 1999 |
| 10.1* | Management Incentive Compensation Plan | Exhibit 10(i) to Genlyte’s Registration Statement on Form 8 as filed with the Securities and Exchange Commission on August 3, 1988 |
| 10.2 | Tax Sharing Agreement between Genlyte and Bairnco Corporation, dated July 15, 1988 | Exhibit 10(k) to Genlyte’s Registration Statement on Form 8 as filed with the Securities and Exchange Commission on August 3, 1988 |
| 10.3* | Genlyte 1998 Stock Option Plan | Annex A to Genlyte’s Proxy Statement (Form DEF 14A) for the 1998 Annual Meeting of Stockholders of Genlyte as filed with the Securities and Exchange Commission on March 23, 1998 |
| 10.4* | Genlyte 2003 Stock Option Plan | Annex A to Genlyte’s Proxy Statement (Form DEF 14A) for the 2003 Annual Meeting of Stockholders of Genlyte as filed with the Securities and Exchange Commission on March 24, 2003 |
| 10.5 | Loan Agreement between Genlyte and the New Jersey Economic Development Authority dated June 1, 1990, replacing the Loan Agreement between KCS Lighting, Inc. and the New Jersey Economic Development Authority, dated December 20, 1984 (assigned to and assumed by Genlyte effective December 31, 1986) | Exhibit 10(c) to Genlyte’s report on Form 10-K filed with the Securities and Exchange Commission in March 1991 |
| 10.6 | Loan Agreements between Genlyte and Jobs for Fall River, Inc., dated as of July 13, 1994 | Exhibit 4(c) to Genlyte’s report on Form 10-K filed with the Securities and Exchange Commission on March 30, 1995 |
| 10.7* | Form of Employment Protection Agreement between Genlyte and certain key executives | Exhibit 99 to Genlyte’s report on Form 10-K filed with the Securities and Exchange Commission on March 26, 1999 |
| 10.8 | Lease Agreement between The Industrial Development Board of White County, TN and GTG, and Indenture of Trust between The Industrial Development Board of White County, TN and SunTrust Bank, both dated as of September 1, 2001 | Exhibit 10(a) to Genlyte’s report on Form 10-K filed with the Securities and Exchange Commission on March 20, 2002 |
| 10.9 | Credit Agreement dated as of July 29, 2003 among Genlyte Thomas Group LLC and Genlyte Thomas Group Nova Scotia ULC and the lending institutions named therein | Exhibit 10 to Genlyte’s report on Form 10-Q filed with the Securities and Exchange Commission on August 8, 2003 |
| 10.10 | Purchase Agreement by and among The Genlyte Group Incorporated, Genlyte Thomas Group LLC, and Thomas Industries Inc., dated May 20, 2004 | Exhibit 2 to Genlyte’s report on Form 8-K filed with the Securities and Exchange Commission on May 25, 2004 |
No. | Description | Incorporated by Reference to: |
| 10.11 | Amended and Restated Credit Agreement dated as of August 2, 2004 among The Genlyte Group Incorporated, Genlyte Thomas Group LLC, Genlyte Holdings Inc., Genlyte Lighting Corporation, Genlyte CLP Nova Scotia ULC and Genlyte CGP Nova Scotia ULC as the Borrowers and the lending institutions named therein as the Lenders | Exhibit 10.1 to Genlyte’s report on Form 8-K filed with the Securities and Exchange Commission on August 12, 2004 |
| 10.12 | Receivables Purchase Agreement dated as of August 2, 2004 among Genlyte Receivables Corporation, as Seller, Genlyte Thomas Group LLC, as Servicer, Jupiter Securitization Corporation, Bank One NA (Main Office Chicago), as Agent, and The Genlyte Group Incorporated, as Provider | Exhibit 10.2 to Genlyte’s report on Form 8-K filed with the Securities and Exchange Commission on August 12, 2004 |
| 10.13 | Second Amended and Restated Credit Agreement dated as of December 9, 2005 among The Genlyte Group Incorporated, Genlyte Thomas Group LLC, Genlyte Holdings Inc., Genlyte Lighting Corporation, Genlyte CLP Nova Scotia ULC and Genlyte CGP Nova Scotia ULC, Canlyte Inc., Lumec Inc. and Lumec Holding Corp. as the Borrowers and the lending institutions named therein as the Lenders | Exhibit 10.1 to Genlyte’s report on Form 8-K filed with the Securities and Exchange Commission on December 13, 2005 |
| 10.14 | Agreement and Plan of Merger by and between The Genlyte Group Incorporated, Ignite Merger Sub Inc., International Mezzanine Capital B.V., and JJI Lighting Group, Inc., dated May 12, 2006 | Exhibit 10.1 to Genlyte’s report on Form 10-Q filed with the Securities and Exchange Commission on August 10, 2006 |
| Other Exhibits included herein: |
| | |
| 21 | Subsidiaries of The Genlyte Group Incorporated |
| 23 | Consent of Independent Registered Public Accounting Firm |
| 24 | Powers of Attorney |
| 31.1 | CEO Certification Pursuant to Section 302 of The Sarbanes-Oxley Act of 2002 |
| 31.2 | CFO Certification Pursuant to Section 302 of The Sarbanes-Oxley Act of 2002 |
| 32.1 | CEO Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| 32.2 | CFO Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| | |
| * management contract or compensatory plan or arrangement |
