The Company accounts for its segments in accordance with SFAS No. 131 “Disclosures about Segments of an Enterprise and Related Information”. During the three and nine months ended June 30, 2005 and 2004, the Company operated in one segment: vehicle components.
The Company is a party to various pending judicial and administrative proceedings arising in the ordinary course of business. The Company’s management and legal counsel have reviewed the probable outcome of these proceedings, the costs and expenses reasonably expected to be incurred, the availability and limits of the Company’s insurance coverage, and its established reserves for uninsured liabilities. While the outcome of the pending proceedings cannot be predicted with certainty, based on the Company’s review, the Company believes that any liability that may result is not reasonably likely to have a material effect on the Company’s consolidated financial statements.
The soil and groundwater at the Company’s Portland, Oregon facility contain contaminants that the Company believes were released on the property by previous owners of the business. Some of this contamination has migrated offsite to a neighboring property. The Company has retained an environmental consulting firm to investigate the extent of the contamination and to determine what, if any, remediation will be required and the associated costs. During the third quarter of fiscal 2004, the Company entered into the Oregon Department of Environmental Quality’s voluntary clean-up program and during fiscal 2004 the Company recorded a loss of $950 for this matter, representing the low end of the reasonable range of estimated future investigation, remediation and monitoring costs. As of June 30, 2005, this amount has been reduced to $703 to reflect expenditures made to complete portions of the investigation. The Company has a contractual indemnity claim against the prior owner of the business with respect to this contamination and notified the prior owner of this indemnity claim. The Company also has contribution claims for investigation and remediation costs against other prior owners of the business and a former owner of the property under the federal Superfund act and the Oregon Cleanup Law. The Company is exploring the possibility of cooperative settlement with these prior owners. The Company intends to pursue legal action against these prior owners if settlements cannot be reached in a reasonable time.
On May 12, 2003, Mr. Thomas Ziegler, the Company’s former president and chief executive officer, sued the Company, American Industrial Partners, L.P.; American Industrial Partners Fund III, L.P., and American Industrial Partners Fund III Corporation in the Circuit Court of the 15th Judicial Circuit in and for Palm Beach County, Florida. In the suit, Mr. Ziegler alleges that the Company breached an “oral agreement” with Mr. Ziegler to pay him additional compensation, including a bonus of "at least" $500 for certain tasks performed by Mr. Ziegler while he was the Company's president and chief executive officer and seeks additional compensation to which he claims he is entitled. The Company disputes the existence of any such agreement and any resulting liability to Mr. Ziegler and is vigorously defending this action. Subsequent to the quarter ended June 30, 2005, this case was dismissed without prejudice for failure to prosecute. Mr. Ziegler's attorneys have indicated that Mr. Ziegler intends to refile the case.
Williams Controls, Inc.
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
(Dollars in thousands, except per share amounts)
Overview
We primarily design, manufacture and sell electronic throttle control systems and pneumatic control systems for heavy trucks, transit busses and off-road equipment. The majority of our customers are manufacturers of these vehicles and equipment.
During the nine month period ended June 30, 2005, we sold approximately 65% of our products in the United States and approximately 35% to foreign customers. We sell the majority of our products directly to large original equipment manufacturers, such as Freightliner, LLC, The Volvo Group, Paccar, Inc. and Navistar International Corporation. We also sell our products through a network of independent distributors, which sell to smaller original equipment manufacturers and to truck and transit bus owners as replacement parts. To date, all of our products have been produced in our Portland, Oregon facility, although we have recently started production at our facility in Suzhou, China.
Electronic throttle controls send an electrical signal proportional to throttle position to adjust the speed of electronically controlled engines. Electronically controlled engines produce lower emissions and require electronic throttle controls. The original applications were in heavy trucks and transit busses in the United States and Europe in the early 1990's when electronically controlled engines were first introduced. As a result of the continuing implementation of more stringent engine emissions standards worldwide demand demand for low emission electronically controlled engines and electronic throttle control systems is expanding. Both China and India have recently announced plans to require more stringent emissions standards for heavy trucks and buses over the next five years. In addition, emission regulations are being enacted that also increase the use of electronic throttle controls in off-highway engine powered equipment.
We believe that the demand for our products will be driven by worldwide emissions legislation and the economic cycle for heavy trucks, busses, and off-road equipment. We opened offices in China and Europe in the quarter ended March 31, 2005 to better address international markets.
While we believe we are the leader in the market for electronic throttle control systems for heavy trucks, transit busses, and off-road equipment, the markets for our products are highly competitive worldwide. Certain of our competitors have substantial financial resources and significant technological capabilities. We work closely with our existing and potential customers to design and develop new products and adapt existing products to new applications, and to improve the performance, reliability and cost-effectiveness of our products.
Registration Statement Filed on June 7, 2005
The Company filed a Registration Statement on Form S-1 on June 7, 2005 (File No. 333-125590) (the “Registration Statement”). The Registration Statement became effective on June 15, 2005. The Registration Statement covers the resale from time to time of 17,189,117 shares of the Company’s common stock held by certain stockholders of the Company. These shares were registered pursuant to certain registration rights granted in (i) a registration rights agreement between the Company and the holders of the Company’s Series A-1 Preferred Stock, dated July 15, 2002, and amended on September 30, 2004 (the “Series A-1 Registration Rights Agreement”), and (ii) a registration rights agreement between the Company and the holders of the Company’s Series B Preferred Stock dated July 1, 2002, and amended on September 30, 2004 (the “Series B Registration Rights Agreement”). The Series A-1 Preferred Stock subject to the Series A-1 Registration Rights Agreement was converted to common stock in accordance with the Company’s 2004 recapitalization transaction. As part of this recapitalization transaction, some of the Series B Preferred Stock subject to the Series B Registration Rights Agreement were redeemed and the remaining shares of Series B Preferred Stock were converted to common stock.
Critical Accounting Policies and Estimates
Management’s discussion and analysis of our financial condition and results of operations are 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 judgments that affect the reported amounts of assets, liabilities, sales, cost of sales and expenses and related disclosure of contingent assets and liabilities. We evaluate our estimates on an on-going basis. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We believe the following critical accounting policies and the related judgments and estimates affect the preparation of our consolidated financial statements.
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Revenue recognition:
Revenue is recognized at the time of product shipment or delivery, depending on when title and risk of loss transfers to customers, and when all of the following have occurred: a firm sales agreement is in place, pricing is fixed or determinable, and collection is reasonably assured. Revenues are reported net of estimated returns, rebates and customer discounts. Discounts and rebates are recorded during the period they are earned by the customer.
Warranty:
We provide a warranty covering defects arising from products sold. The product warranty liability is based on historical return rates of products and amounts for significant and specific warranty issues. The warranty is limited to a specified time period, mileage or hours of use, and varies by product, application and customer. The Company has recorded a liability that management believes is adequate to cover such warranty costs. While we believe our estimates are reasonable, they are subject to change and such change could be material.
Environmental:
We estimate the costs of investigation and remediation for certain soil and groundwater contaminants at our Portland, Oregon facility. Our ultimate costs for the investigation, remediation and monitoring of this site cannot be predicted with certainty due to the often unknown magnitude of the pollution or the necessary cleanup, the varying costs of alternative cleanup methods, the amount of time necessary to accomplish such cleanups and the evolving nature of cleanup technologies and governmental regulations. The Company has recognized a liability for environmental remediation costs for this site in an amount that management believes is probable and reasonably estimable. When there is more than one estimate of a probable loss, and all such estimates are within a range, the minimum amount in the range is accrued when no estimate within the range is better than another. In making these judgments and assumptions, the Company considers, among other things, the activity to-date at the site and information obtained through consultation with applicable regulatory authorities and third party consultants and contractors. The Company regularly monitors its exposure to environmental loss contingencies. As additional information becomes known, it is at least reasonably possible that a change in the estimated liability accrual will occur in the near future.
Pensions and Post-retirement Benefit Obligations:
In calculating our obligations and expense for pensions and post-retirement benefits, we make certain actuarial assumptions, including those relating to a discount rate, expected long-term rate of return on plan assets and rates of increase in compensation and healthcare costs. Our assumptions are determined based on current market conditions, historical information and consultation with and input from our actuaries. Changes in interest rates and market performance could have a significant impact on our pension expense and future payments.
Accounting for Income Taxes:
For each jurisdiction in which we operate, we are required to estimate our current tax expense together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included in our consolidated balance sheet. We must also assess the likelihood that our deferred tax assets will be recovered from future taxable income and, to the extent we believe that recovery is not likely, a valuation allowance is established. Our income tax provision on the consolidated statement of operations is impacted by changes in the valuation allowance. This process is complex and involves significant management judgment in determining our provision for income taxes, deferred tax assets and liabilities and any valuation allowances recorded against our net deferred tax assets.
Forward-Looking Statements
This report on Form 10-Q, including the Notes to Unaudited Consolidated Financial Statements, contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include, without limitation, those statements relating to development of new products, the financial condition of the Company and the ability to increase distribution of the Company’s products. Forward-looking statements can be identified by the use of forward-looking terminology, such as “may”, “will”, “should”, “expect”, “anticipate”, “estimate”, “continue”, “plans”, “intends”, or other similar terminology. Although we believe that the expectations reflected in such forward-looking statements are reasonable, such forward-looking statements are subject to risks and uncertainties that could cause actual
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results to differ materially from those indicated by the forward-looking statements. These risks and uncertainties are beyond our control and, in many cases, we cannot predict the risks and uncertainties that could cause our actual results to differ materially from those indicated by the forward-looking statements.
The forward-looking statements are made as of the date hereof, and, except as otherwise required by law, we disclaim any intention or obligation to update or revise any forward-looking statements or to update the reasons why the actual results could differ materially from those projected in the forward-looking statements, whether as a result of new information, future events or otherwise.
Investors are cautioned to consider the risk factors identified in our annual report on Form 10K for the fiscal year ended September 30, 2004 and the following items when considering forward-looking statements. If any of these items actually occur, our business, results of operations, financial condition or cash flows could be materially adversely affected. Such matters involve risks and uncertainties that include, without limitation, the following:
| | • | | A significant portion of our sales are derived from a limited number of customers, and results from operations could be adversely affected and stockholder value harmed if we lose any of these customers; |
| | • | | Demand for equipment on which our products are installed may decrease, which could adversely affect our revenues and stockholder value; |
| | • | | Our products could be recalled, which could increase our costs and decrease our revenues and adversely affect stockholder value; |
| | • | | We purchase raw materials and component parts from suppliers and changes in the relationships with such suppliers, as well as increases in the costs of such raw materials and/or component parts, would adversely affect our ability to produce and market our products, which would adversely affect our profit margins, results from operations and stockholder value; |
| | • | | Our products could be subject to product liability claims by customers and/or consumers, which would adversely affect our profit margins, results from operations and stockholder value; |
| | • | | Work stoppages or other changes in the relationship with our employees could make it difficult for us to produce and effectively market our products, which would adversely affect our profit margins, results from operations and stockholder value; |
| | • | | Our defined benefit pension plans are under-funded and, therefore, we may be required to increase our contributions to the plans, which would adversely affect our cash flows; |
| | • | | The soil and groundwater at our Portland, Oregon facility contains certain contaminants that may require us to incur substantial expense to investigate and remediate, which would adversely affect our profit margins, results from operations and stockholder value; |
| | • | | We are required to comply with federal and state environmental laws, which could become increasingly expensive and could result in substantial liability if we do not comply; |
| | • | | Fluctuations in the value of currencies could adversely affect our international sales, which would result in reduced revenues and stockholder value; |
| | • | | Complying with the laws applicable to foreign markets may become more difficult and expensive in the future, which could adversely affect our results from operations and stockholder value; |
| | • | | Political and economic instability in the foreign markets may make doing business there more difficult and costly, which could adversely affect our results from operations and stockholder value; |
| | • | | The market price of our stock has been and may continue to be volatile, which could result in losses for stockholders; |
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| | • | | If we are unable to adequately protect our intellectual property, both domestically and internationally, third parties may be able to use our technology; |
| | • | | The ability to elect our Board of Directors, and therefore to exercise substantial control over us, rests in the hands of a few major stockholders. |
Results of Operations
Financial Summary
(Dollars in Thousands)
| Three Month Period Ended June 30, | | Nine Month Period Ended June 30, |
| 2005 | | 2004 | | % Change | | 2005 | | 2004 | | % Change |
Net sales | $17,192 | | $15,127 | | 13.7% | | $49,928 | | $42,142 | | 18.5% |
Cost of sales | 11,348 | | 10,098 | | 12.4% | | 32,901 | | 28,810 | | 14.2% |
Gross profit | 5,844 | | 5,029 | | 16.2% | | 17,027 | | 13,332 | | 27.7% |
Research and development | 855 | | 858 | | (0.3%) | | 2,445 | | 2,236 | | 9.3% |
Selling | 364 | | 339 | | 7.4% | | 974 | | 901 | | 8.1% |
Administration | 1,577 | | 1,186 | | 33.0% | | 4,397 | | 3,362 | | 30.8% |
| | | | | | | | | | | |
Operating income from continuing operations | $ 3,048 | | $ 2,646 | | 15.2% | | $ 9,211 | | $ 6,833 | | 34.8% |
| | | | | | | | | | | |
| | | | | | | | | | | |
| | | | | | | | | | | |
As a percentage of net sales: | | | | | | | | | | | |
Cost of sales | 66.0% | | 66.8% | | | | 65.9% | | 68.4% | | |
Gross profit | 34.0% | | 33.2% | | | | 34.1% | | 31.6% | | |
Research and development | 5.0% | | 5.7% | | | | 4.9% | | 5.3% | | |
Selling | 2.1% | | 2.2% | | | | 2.0% | | 2.1% | | |
Administration | 9.2% | | 7.8% | | | | 8.8% | | 8.0% | | |
Operating income from continuing operations | 17.7% | | 17.5% | | | | 18.4% | | 16.2% | | |
| | | | | | | | | | | |
| | | | | | | | | | | |
Comparative – Three month periods ended June 30, 2005 and 2004
NM = Not Meaningful
| | | | | | Percent Change |
For the Three Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Net sales | | $ 17,192 | | $ 15,127 | | 13.7% |
Net sales to our heavy truck and transit bus customers increased $2,065 in the third quarter of fiscal 2005 and is primarily due to increased sales volumes of electronic throttle control systems resulting from a general increase in truck production throughout the industry, primarily in the North American and, to a lesser extent, in the European markets.
| | | | | | Percent Change |
For the Three Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Gross profit | | $ 5,844 | | $ 5,029 | | 16.2% |
Gross profit was $5,844, or 34.0% of net sales, in the third quarter of 2005, an increase of $815 compared to the gross profit of $5,029, or 33.2% of net sales, in the comparable fiscal 2004 period.
The increase in gross profit during the third quarter of fiscal 2005 is primarily driven by a 13.7% increase in sales of electronic throttle and pneumatic control systems to heavy truck and transit bus customers combined with small reductions in
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manufacturing overhead expenses. Manufacturing overhead expenses decreased from the prior year, primarily due to reductions in group health costs and insurance costs offset by an overall increase in personnel costs.
| | | | | | Percent Change |
For the Three Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Research and development | | $ 855 | | $ 858 | | (0.3%) |
Research and development expenses remained relatively constant between the third quarter of fiscal 2005 and the comparable period in 2004. Increases in patent costs were offset by reductions in temporary personnel and other product development costs during the quarter. The Company’s research and development expenditures will fluctuate based on the products under development at any given point in time. Overall, we expect research and development expenses to increase in fiscal 2005 compared to fiscal 2004 levels due to additional pedal design projects and sensor development efforts.
| | | | | | Percent Change |
For the Three Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Selling | | $ 364 | | $ 339 | | 7.4% |
Selling expenses increased $25 during the three month period ended June 30, 2005 as compared with the three month period ended June 30, 2004 mainly due to expanded selling and marketing efforts in the European and Asian markets. We expect to continue to incur increased expenses associated with our current foreign customers and expanded selling and marketing efforts in foreign markets.
| | | | | | Percent Change |
For the Three Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Administration | | $ 1,577 | | $ 1,186 | | 33.0% |
Administration expenses for the three month period ended June 30, 2005 increased $391 when compared with the same period in 2004. The increase in administration expenses is primarily a result of increased legal and professional expenses, primarily in defense of the class action lawsuit discussed in Note 18 in the Notes to Unaudited Condensed Consolidated Financial Statements, and an increase in personnel expenses related to the addition of our new President and Chief Executive Officer, whose employment commenced in October 2004, and includes additional compensation costs. Offsetting these increases in administration expenses were reductions in management fees and expenses related to our former passenger car and light truck product lines.
| | | | | | Percent Change |
For the Three Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Interest income | | $ (13) | | $ (1) | | NM |
Interest expense – Debt | | 312 | | 17 | | NM |
Interest expense – Series B Preferred Stock dividends and accretion | | - | | 822 | | NM |
Total interest expense, net | | $ 299 | | $ 838 | | (64.3%) |
Interest expense on debt increased $295 to $312 in the third quarter of fiscal 2005 from $17 in the third quarter of fiscal 2004. The increase in interest expense is the result of an increase in bank debt due to the fiscal 2004 recapitalization transaction, which was completed on September 30, 2004 and is described in the Notes to Unaudited Condensed Consolidated Financial Statements. We expect interest expense on debt to continue to be higher in fiscal 2005 when compared with fiscal 2004 due to the increased debt levels resulting from the fiscal 2004 recapitalization transaction.
Interest expense on Series B Preferred Stock related to dividends accrued on the Series B Preferred Stock during the third quarter of fiscal 2004 and the related accretion. Based on the guidelines of Statement of Financial Accounting Standards No. 150 (SFAS No. 150), the Company recorded all accrued dividends and accretion associated with the Series B Preferred Stock as a component of interest expense beginning with the fourth quarter of fiscal 2003. Interest expense on Series B Preferred Stock for the quarter ended June 30, 2004 was $822. Due to the fiscal 2004 recapitalization transaction, the Company will not have interest expense on Series B Preferred Stock subsequent to fiscal 2004.
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| | | | | | Percent Change |
For the Three Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
(Gain) loss on put/call option agreement | | $ 59 | | $ - | | NM |
The $59 loss related to the change in the net value of the Put and Call option agreement from March 31, 2005 to June 30, 2005 as discussed in Note 13 of the Unaudited Condensed Consolidated Financial Statements.
| | | | | | Percent Change |
For the Three Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Income tax expense | | $ 1,079 | | $ 42 | | NM |
Tax expense reflects an effective tax rate of 40.1% for the quarter ended June 30, 2005. Prior to year-end fiscal 2004, the Company had provided for a full valuation allowance on its deferred tax assets, resulting in a minimal tax provision related to the income in the third quarter of fiscal 2004. The Company reduced the valuation allowance $11,374 during the fourth quarter of fiscal 2004. The valuation allowance was reduced based upon current and anticipated future taxable income generated by the Company and the conclusion that it was more likely than not that these deferred tax assets would be realized in the future.
The Company is currently in a net operating loss carry-forward position. Federal net operating losses are subject to provisions of the Internal Revenue Code that potentially restrict the utilization of this type of tax attribute in the event of an "ownership change" (as defined in the Internal Revenue Code Section 382). Changes in ownership associated with prior recapitalization transactions coupled with other past, present and future changes in ownership, may significantly defer the utilization of net operating loss carry forwards in the future. The Company does not believe an ownership change occurred as of June 30, 2005.
| | | | | | Percent Change |
For the Three Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Discontinued operations | | $ - | | $ 41 | | NM |
The Company recorded a $41 loss from operations of discontinued operations during the three month period ended June 30, 2004 related to its NESC business. Refer to Note 16 of the Notes to Unaudited Condensed Consolidated Financial Statements.
Comparative – Nine month periods ended June 30, 2005 and 2004
NM = Not Meaningful
| | | | | | Percent Change |
For the Nine Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Net sales | | $ 49,928 | | $ 42,142 | | 18.5% |
Net sales to our heavy truck and transit bus customers increased $7,786 in the first nine months of fiscal 2005 as compared to the first nine months of fiscal 2004 and is primarily due to increased sales volumes of electronic throttle control systems resulting from a general increase in truck production throughout the industry, primarily in the North American and, to a lesser extent, in the European markets.
| | | | | | Percent Change |
For the Nine Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Gross profit | | $ 17,027 | | $ 13,332 | | 27.7% |
Gross profit was $17,027, or 34.1% of net sales, in the first nine months of 2005, an increase of $3,695 compared to the gross profit of $13,332, or 31.6% of net sales, in the comparable fiscal 2004 period.
The increase in gross profit in fiscal 2005 is primarily driven by an 18.5% increase in sales of electronic throttle and pneumatic control systems to heavy truck and transit bus customers and small reductions in manufacturing overhead expenses. Manufacturing overhead expenses decreased from the prior year, primarily due to reductions in group health costs
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offset by an overall increase in personnel costs. In addition, the first nine months of fiscal 2004 included $312 of depreciation expense related to certain property, plant and equipment from our passenger car and light truck product lines, which were sold on September 30, 2003.
| | | | | | Percent Change |
For the Nine Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Research and development | | $ 2,445 | | $ 2,236 | | 9.3% |
Research and development expenses increased $209 for the first nine months of fiscal 2005 compared to the same period in fiscal 2004. The increased research and development expense is largely attributable to additional products in development, which has resulted in higher staffing levels. The Company’s research and development expenditures will fluctuate based on the products under development at any given point in time. Overall, we expect research and development expenses to increase over fiscal 2004 levels due to additional pedal design projects and sensor development efforts.
| | | | | | Percent Change |
For the Nine Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Selling | | $ 974 | | $ 901 | | 8.1% |
Selling expenses increased $73 for the nine month period ended June 30, 2005 compared to the nine month period in fiscal 2004. The increase in selling expenses is mainly due to expanded selling and marketing efforts in the European and Asian markets. We expect to continue to incur increased expenses associated with our current foreign customers and expanded selling and marketing efforts in foreign markets.
| | | | | | Percent Change |
For the Nine Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Administration | | $ 4,397 | | $ 3,362 | | 30.8% |
Administration expenses for the nine month period ended June 30, 2005 increased $1,035 over the same period in 2004. The increase in administration expenses is primarily a result of increased legal and professional expenses, primarily in defense of the class action lawsuit discussed in Note 18 in the Notes to Unaudited Condensed Consolidated Financial Statements, and an increase in personnel expenses related to the addition of our new President and Chief Executive Officer, whose employment commenced in October 2004, and includes additional compensation costs and relocation assistance expenses. Offsetting these increases in administration expenses were reductions in management fees and expenses related to our former passenger car and light truck product lines. In addition, during the nine month period ended June 30, 2004, the Company recorded $250 of costs related to our environmental liability discussed in Note 18.
| | | | | | Percent Change |
For the Nine Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Interest income | | $ (33) | | $ (2) | | NM |
Interest expense – Debt | | 1,134 | | 56 | | NM |
Interest expense – Series B Preferred Stock dividends and accretion | | - | | 2,382 | | NM |
Total interest expense, net | | $ 1,101 | | $ 2,436 | | (54.8%) |
Interest expense on debt increased $1,078 to $1,134 in the first nine months of fiscal 2005 from $56 in the first nine months of fiscal 2004. The increase in interest expense is the result of an increase in bank debt due to the fiscal 2004 recapitalization transaction, which was completed on September 30, 2004 and is described in the Notes to Unaudited Condensed Consolidated Financial Statements. We expect interest expense on debt to continue to be higher in fiscal 2005 when compared with fiscal 2004 due to the increased debt levels resulting from the fiscal 2004 recapitalization transaction.
Interest expense on Series B Preferred Stock related to dividends accrued on the Series B Preferred Stock during the first nine months of fiscal 2004 and the related accretion. Based on the guidelines of SFAS No. 150, the Company recorded all accrued dividends and accretion associated with the Series B Preferred Stock as a component of interest expense beginning with the fourth quarter of fiscal 2003. Interest expense on Series B Preferred Stock for the nine months ended June 30, 2004
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was $2,382. Due to the fiscal 2004 recapitalization transaction, the Company will not have interest expense on Series B Preferred Stock subsequent to fiscal 2004.
| | | | | | Percent Change |
For the Nine Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Gain on put/call option agreement | | ($323) | | $ - | | NM |
The $323 gain related to the change in the net value of the Put and Call option agreement from September 30, 2004 to March 31, 2005 as discussed in Note 13 of the Unaudited Condensed Consolidated Financial Statements.
| | | | | | Percent Change |
For the Nine Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Income tax expense | | $ 3,357 | | $ 136 | | NM |
Tax expense reflects an effective tax rate of 39.7% for the nine month period ended June 30, 2005. Prior to year-end fiscal 2004, the Company had provided for a full valuation allowance on its deferred tax assets, resulting in a minimal tax provision related to the income in the first nine months of fiscal 2004. The Company reduced the valuation allowance $11,374 during the fourth quarter of fiscal 2004. The valuation allowance was reduced based upon current and anticipated future taxable income generated by the Company and the conclusion that it was more likely than not that these deferred tax assets would be realized in the future.
The Company is currently in a net operating loss carry-forward position. Federal net operating losses are subject to provisions of the Internal Revenue Code that potentially restrict the utilization of this type of tax attribute in the event of an "ownership change" (as defined in the Internal Revenue Code Section 382). Changes in ownership associated with prior recapitalization transactions coupled with other past, present and future changes in ownership, may significantly defer the utilization of net operating loss carry forwards in the future. The Company does not believe an ownership change occurred as of June 30, 2005.
| | | | | | Percent Change |
For the Nine Month Period Ended June 30: | | 2005 | | 2004 | | 2005 to 2004 |
Discontinued operations | | $ - | | $ 289 | | NM |
The Company recorded a $289 loss from discontinued operations related to its NESC business. The Company reviewed the requirements of SFAS No. 144 and determined that the disposed NESC assets should be adjusted to their fair value resulting in a write down of assets of $183. The remaining loss from discontinued operations is the result of a loss on operations during the nine month period ended June 30, 2004 of $106. Refer to Note 16 of the Notes to Unaudited Condensed Consolidated Financial Statements.
Financial Condition, Liquidity and Capital Resources
Cash generated by operating activities was $9,484 for the first nine months of fiscal 2005, an increase of $5,023 from the cash generated by operating activities of $4,461 during the first nine months of fiscal 2004. Cash flows from operations for the nine month period ended June 30, 2005 included net income of $5,099, $3,047 from utilization of a portion of the deferred income tax net operating loss and an increase of cash related to changes in working capital of $781. Cash flows from operations for the nine month period ended June 30, 2004 included net income of $3,724, a non-cash increase of $2,382 for interest expense on Series B Preferred Stock dividends and accretion and a use of cash for an increase in working capital of $3,016. As a result of the 2004 recapitalization, the Company no longer has Series B Preferred Stock and will no longer record dividends and accretion associated with the Series B Preferred Stock.
The $781 increase in cash generated by operating activities related to working capital changes included an increase in accounts payable resulting from the extension of payment terms offset by an increase in accounts receivable due to increased sales. In addition, cash flows from operations for the nine month period ended June 30, 2005 included payments to our pension plans of $795 compared to $1,123 for the nine month period ended June 30, 2004. Cash flows from operations for the first nine months of fiscal 2005 included a $164 increase in warranty accruals compared to warranty payments primarily due to increased sales volumes, whereas in the first nine months of fiscal 2004, warranty payments exceeded warranty accruals by $824, due almost entirely to payments to one customer for the warranty campaign discussed in Note 11 in the Notes to Unaudited Condensed Consolidated Financials Statements. At this time, we expect warranty payments to be more
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consistent with warranty accruals, as we are not aware of and do not anticipate any further campaigns. We believe we will continue to generate positive cash from continuing operations due to our positive results of operations.
Cash used in investing activities was $2,311 for the nine month period ended June 30, 2005 and was comprised solely of purchases of property, plant and equipment. For the nine month period ended June 30, 2004, cash provided by investing activities was $5,245 and was comprised of $6,010 of net proceeds from the sale of assets from our passenger car and light truck product lines, which were sold on September 30, 2003, offset by $778 of purchases of property, plant and equipment. We expect our cash use for investing activities to increase throughout the fiscal year as we continue to make purchases of capital equipment.
Cash used in financing activities was $5,601 for the nine month period ended June 30, 2005, compared to cash used in financing activities of $3,758 for the nine month period ended June 30, 2004. The use of cash for financing activities for the first nine months of fiscal 2005 primarily relates to scheduled debt payments on our Merrill Lynch term loan and the payoff of our revolving credit facility with Merrill Lynch. The cash used for financing activities in the first nine months of fiscal 2004 primarily relates to the payoff of certain debt obligations with our prior lender using proceeds received from the sale of our passenger car and light truck product lines on September 30, 2003. In addition, we paid $1,413 of Series A-1 Preferred stock dividends during the first quarter of fiscal 2004. Also during the second quarter of fiscal 2004, we received proceeds of $2,092 related to the issuance of common stock from the conversion of warrants discussed in Note 15.
At June 30, 2005, our contractual obligations consisted of bank debt, capital leases and operating lease obligations, and a services agreement. We do not have any material letters of credit, purchase commitments, or debt guarantees outstanding at June 30, 2005. Maturities of these contractual obligations, excluding the mandatory excess cash flow payment requirements of the Term Loan as discussed in Note 10, consist of the following:
| | Payments Due as of June 30, 2005 for the Periods ending September 30, |
| | 2005 | | 2006 | | 2007 | | 2008 | | 2009 | | Total |
Term loan | | $ 850 | | $ 3,400 | | $ 3,400 | | $ 3,400 | | $ 3,400 | | $ 14,450 |
Revolver | | - | | - | | - | | - | | - | | - |
Capital leases | | 14 | | 29 | | - | | - | | - | | 43 |
Operating leases | | 15 | | 33 | | 14 | | 7 | | 4 | | 73 |
Management Services Agreement | | 100 | | 200 | | 200 | | - | | - | | 500 |
| | $ 979 | | $ 3,662 | | $ 3,614 | | $ 3,407 | | $ 3,404 | | $ 15,066 |
Certain liabilities, including those related to our pension and post-retirement benefit plans, are reported in the accompanying condensed consolidated balance sheets but are not reflected in the table above due to the absence of stated maturities. The Company had net obligations at June 30, 2005 related to its pension plans and post-retirement medical plan of $5,414 and $3,336, respectively. Due to a change in legislation regarding funding of pension plans, cash payments to fund our pension obligations are expected to decrease in future periods compared to the amounts funded over the last few years. The Company funded $795 to its pension plans during the first nine months of fiscal 2005 compared to contributions of $1,123 for the first nine months of fiscal 2004. We expect to make payments of $398 throughout the rest of fiscal 2005.
At June 30, 2005, we had $8,000 available under our revolving credit facility plus cash and cash equivalents of $4,054. We believe these resources, when combined with cash provided by operations, will be sufficient to meet our working capital needs on a short-term and long-term basis.
Included in the accompanying consolidated balance sheet is approximately $1,333 of accounts payable related to closed insolvent subsidiaries of the Company. In accordance with SFAS No. 140 “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities”, a debtor can only relieve itself of a liability if it has been extinguished. A liability is considered extinguished if (a) the debtor pays the creditor and is relieved of its obligation for the liability or (b) the debtor is legally released from being the primary obligor under the liability, either judicially or by the creditor. During the three and nine months ended June 30, 2005, the Company was judicially released from and reversed $1 and $53, respectively, of accounts payable related to closed, insolvent subsidiaries of the Company resulting in a gain, which has been recorded in other (income) expense in the accompanying condensed consolidated statements of operations. The Company expects to reverse amounts in future periods based on the recognition of the liabilities being judicially released in accordance with SFAS No. 140 of $7 remaining in fiscal 2005; $561 in fiscal 2006; $731 in fiscal 2007; and $34 in fiscal 2010.
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Recently Issued Accounting Standards
In May 2005, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 154, “Accounting Changes and Error Corrections – a replacement of APB Opinion No. 20 and FASB Statement No. 3”. This statement changes the requirements for the accounting for and reporting of a change in accounting principle and applies to all voluntary changes in accounting principle. This statement requires retrospective application to prior periods’ financial statements of changes in accounting principle, unless it is impracticable to determine either the period-specific effects or the cumulative effect of the change and is effective for accounting changes and correction of errors made in fiscal years beginning after December 15, 2005. The Company is currently in the process of determining the effects of adopting this statement in its consolidated financial statements.
In December 2004, FASB issued SFAS No. 123 (Revised 2004), “Share Based Payment”. This statement requires that compensation cost relating to share-based payment transactions be recognized in financial statements. Compensation cost will be measured based on the fair value of the equity or liability instruments issued. Share-based compensation arrangements include stock options, restricted stock plans, performance-based awards, stock appreciation rights, and employee stock purchase plans. SFAS No. 123R replaces SFAS No. 123 and supercedes APB No. 25 and is effective at the beginning of a registrant’s first fiscal year that begins after June 15, 2005, upon which time the Company will adopt the provisions of this statement. The Company is currently in the process of determining the effects of adopting SFAS No. 123R in its consolidated financial statements, including deciding which option valuation model to use.
In November 2004, the FASB issued SFAS No. 151, “Inventory Costs - an amendment of ARB No. 43, Chapter 4”. This statement clarifies the accounting for abnormal amounts of idle facility expenses, freight, handling costs, and wasted materials and requires that these items be recognized as current period charges. In addition, this statement requires the allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. This statement is effective for fiscal years beginning after June 15, 2005. The Company does not expect this statement to have a material effect on the financial statements of the Company.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Market risk is the potential loss arising from adverse changes in market rates and prices, such as interest rates, foreign currency exchange rates and changes in the market value of investments. The Company’s primary market risk results from fluctuations in interest rates.
• | The Company has a five-year revolving and term loan agreement with its primary lender Merrill Lynch. |
• | As of June 30, 2005, the outstanding balance on the term loan was $14,450 and there were no amounts outstanding on the revolving loan. The effective annual interest rate on the term loan was 7.93% as of June 30, 2005. The Company does not believe that a hypothetical 10% change in end of the period interest rates or changes in future interest rates on these variable rate obligations would have a material effect on its financial position, results of operations, or cash flows. The Company has not hedged its exposure to interest rate fluctuations. |
Foreign Currency Risk:
• | We sell our products to customers in the truck, transit bus and heavy equipment industries. The Company does not believe that changes in future exchange rates would have a material effect on its financial position, results of operations, or cash flows as all of its foreign sales transactions are denominated in US dollars. As a result, the Company has not entered into forward exchange or option contracts for transactions to hedge against foreign currency risk. The Company will continue to assess its foreign currency risk as its international operations and sales increase. |
• | The Company does not use derivative financial or commodity instruments. The Company’s financial instruments include cash and cash equivalents, accounts and notes receivable, accounts payable and long-term obligations. The Company’s cash and cash equivalents, accounts receivable and accounts payable balances are short-term in nature, and, thus, the Company believes they are not exposed to material investment risk. |
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Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
The Company’s Chief Executive Officer and Chief Financial Officer have evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report pursuant to Rule 13a-15(b) under the Securities Exchange Act of 1934 (the “Exchange Act”)). Based on that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of the period covered by this report, our disclosure controls and procedures are effective in ensuring that information required to be disclosed in our Exchange Act reports is (1) recorded, processed, summarized and reported in a timely manner, and (2) accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
Changes in Internal Controls
There has been no change in the Company’s internal controls over financial reporting that occurred during our last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting.
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Part II. Other Information
Item 1. Legal Proceedings
We are parties to various pending judicial and administrative proceedings arising in the ordinary course of business. Our management and legal counsel have reviewed the probable outcome of these proceedings, the costs and expenses reasonably expected to be incurred, the availability and limits of our insurance coverage, and our established liabilities for uninsured liabilities. While the outcome of the pending proceedings cannot be predicted with certainty, based on our review, we believe that any liability that may result is not reasonably likely to have a material effect on our liquidity, financial condition or results of operations.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits
3.01 | | Certificate of Incorporation of the Registrant as amended. (Incorporated by reference to Exhibit 3.1 to the Registrant’s annual report on form 10-K for the fiscal year ended September 30, 1995) |
3.02 | | Restated By-Laws of the Registrant as amended July 1, 2002. (Incorporated by reference to Exhibit 3.6 to the Registrant’s quarterly report on Form 10-Q for the quarter ended June 30, 2002) |
4.01 | | Specimen Unit Certificate (including Specimen Certificate for shares of Common Stock and Specimen Certificate for the Warrants). (Incorporated by reference to Exhibits 1.1 and 1.2 to the Registrant’s Registration Statement on Form 8-A, Commission File No. 0-18083, filed with the Commission on November 1, 1989) |
4.02 | | Certificate to Provide for the Designation, Preferences, Rights, Qualifications, Limitations or Restrictions Thereof, of the Series A Preferred Stock, 71/2% Redeemable Convertible Series (Incorporated by reference to Exhibit 3.1 to the Registrant’s quarterly report on form 10-Q for the quarter ended March 31, 1998) |
4.03 | | Certificate to Provide for the Designation, Preferences, Rights, Qualifications, Limitations or Restrictions Thereof, of the Series A-1 Preferred Stock, Non-Redeemable Convertible Series. (Incorporated by reference to Exhibit 3.3 to the Registrant’s quarterly report on Form 10-Q for the quarter ended June 30, 2002) |
4.04 | | Certificate to Provide for the Designation, Preferences, Rights, Qualifications, Limitations or Restrictions Thereof, of the Series B Preferred Stock, 15% Redeemable Convertible Series (Incorporated by reference to Exhibit (d)(v) to the Schedule TO-I/A filed on July 5, 2002) |
4.05 | | Certificate of Elimination for Mandatory Preferred Stock (Incorporated by reference to Exhibit (d)(vi) to the Schedule TO-I/A filed on July 5, 2002) |
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4.06 | | Certificate of Amendment to the Designation, Preferences, Rights, Qualifications, Limitations or Restrictions Thereof, of the Series A-1 Preferred Stock, Non-Redeemable Convertible Series (Incorporated by reference to the Registrant’s report on Form 8-K, filed on September 29, 2004) |
4.07 | | Certificate to Provide for the Designation, Preferences, Rights, Qualifications, Limitations or Restrictions Thereof, of the Series C Preferred Stock, 15% Redeemable Non-Convertible Series (Incorporated by reference to the Registrant’s report on Form 8-K, filed on September 29, 2004) |
4.08 | | Certificate of Amendment to the Certificate to Provide for the Designation, Preferences, Rights, Qualifications, Limitations or Restrictions Thereof, of the Series B Preferred Stock, 15% Redeemable Convertible Series (Incorporated by reference to the Registrant’s report on Form 8-K, filed on September 29, 2004) |
10.01(a) | | Form of Indemnification Agreement for H. Samuel Greenawalt. (Incorporated by reference to Exhibit 10.1(c) to the Registrant’s annual report on Form 10-K for the fiscal year ended September 30, 1993) |
10.01(b) | | Form of Indemnification Agreement for Douglas E. Hailey (Incorporated by reference to Exhibit 10.1(a) to the Registrant’s quarterly report on Form 10-Q for the quarter ended December 31, 2001) |
10.02 | | The Company’s 1995 Stock Option Plan for Non-Employee Directors. (Incorporated by reference to Exhibit 10.3 to the Registrant’s quarterly report on Form 10-Q for the quarter ended March 31, 1995) |
10.03 | | The Registrant’s 1993 Stock Option Plan as amended to date. (Incorporated by reference to Exhibit 10.4(b) to the Registrant’s annual report on Form 10-k for the fiscal year ended September 30,1998) |
10.05 | | Master Services Agreement, dated as of July 1, 2002, by and among American Industrial Partners, a Delaware general partnership, and the Company (Incorporated by reference to Exhibit (d)(ix) to the Schedule TO-I/A filed on July 5, 2002) |
10.06 | | Dolphin Side Letter, dated as of July 1, 2002 (Incorporated by reference to Exhibit (d)(xi) to the Schedule TO-I/A filed on July 5, 2002) |
10.07 | | Form of Amended and Restated Subordinated Debenture Due July 1, 2004 (Incorporated by reference to Exhibit (d)(xii) to the Schedule TO-I/A filed on July 5, 2002) |
10.08 | | Amended and Restated Credit Agreement, including Promissory Notes for the Revolving Credit Loan and Terms Loans A and B, dated July 1, 2002 (Incorporated by reference to Exhibit (d)(xiii) to the Schedule TO-I/A filed on July 5, 2002) |
10.09 | | Put/Call Option Agreement, dated September 30, 2004, between Williams and American Industrial Partners Capital Fund III, L.P. (Incorporated by reference to the Registrant’s report on Form 8-K, filed on September 29, 2004) |
10.10 | | Credit Agreement, dated September 27, 2004, among Williams, Williams Controls Industries, Inc., a wholly-owned subsidiary of Williams, and Merrill Lynch Capital, a division of Merrill Lynch Business Financial Services, Inc. (Incorporated by reference to the Registrant’s report on Form 8-K, filed on September 29, 2004) |
10.11 | | Amended and Restated Management Services Agreement, dated September 30, 2004, among Williams, American Industrial Partners and Dolphin Advisors, LLC (Incorporated by reference to the Registrant’s report on Form 8-K, filed on September 29, 2004) |
31.1 | | Certification of Chief Executive Officer required by Rule 13a-14(a) or Rule 15d-14(a) (Filed herewith) |
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
WILLIAMS CONTROLS, INC.
Date: August 9, 2005 | /s/ PATRICK W. CAVANAGH |
Patrick W. Cavanagh
President and Chief Executive Officer
Date: August 9, 2005 | /s/ DENNIS E. BUNDAY |
Dennis E. Bunday
Chief Financial Officer
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