SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
- --- SECURITIES EXCHANGE ACT OF 1934
For the quarterly period March 31, 2006
--------------
Commission file number 1-3919
Keystone Consolidated Industries, Inc.
(Exact name of registrant as specified in its charter)
Delaware 37-0364250
- --------------------------------------------- --------------------
(State or other jurisdiction of I.R.S. Employer
incorporation or organization) Identification No.)
5430 LBJ Freeway, Suite 1740, Three Lincoln Centre, Dallas, TX 75240-2697
- -------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (972) 458-0028
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Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months, and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
--- ---
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes No X
--- ---
Indicate by a check mark whether the Registrant is a shell company (as defined
in Rule 12b-2 of the Exchange Act). Yes No X
--- ---
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes X No .
Number of shares of common stock outstanding at May 15, 2006: 10,000,000
KEYSTONE CONSOLIDATED INDUSTRIES, INC.
AND SUBSIDIARIES
INDEX
Page
number
------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets - December 31, 2005;
March 31, 2006 (Unaudited) 3
Consolidated Statements of Operations - Three months
ended March 31, 2005 and 2006 (Unaudited) 5
Consolidated Statements of Cash Flows - Three months
ended March 31, 2005 and 2006 (Unaudited) 6
Consolidated Statement of Stockholders'
Equity - Three months ended March 31, 2006 (Unaudited) 7
Notes to Consolidated Financial Statements (Unaudited) 8
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 22
Item 3. Quantitative and Qualitative Disclosures About Market Risk 30
Item 4. Controls and Procedures 31
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 33
Item 1A. Risk Factors 33
Item 6. Exhibits 33
Items 2, 3, 4 and 5 are omitted because they are not applicable.
- 2 -
KEYSTONE CONSOLIDATED INDUSTRIES, INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands)
December 31, March 31,
ASSETS 2005 2006
----------- -----------
(Unaudited)
Current assets:
Accounts receivable, net $ 46,199 $ 52,332
Inventories, net 69,691 73,417
Restricted investments 1,040 1,040
Prepaid expenses and other 2,760 1,638
-------- --------
Total current assets 119,690 128,427
-------- --------
Property, plant and equipment 369,777 371,999
Less accumulated depreciation 283,004 286,799
-------- --------
Net property, plant and equipment 86,773 85,200
-------- --------
Other assets:
Restricted investments 4,758 4,001
Prepaid pension cost 145,152 157,313
Deferred financing costs 902 842
Goodwill 752 752
Other 337 276
-------- --------
Total other assets 151,901 163,184
-------- --------
$358,364 $376,811
======== ========
- 3 -
KEYSTONE CONSOLIDATED INDUSTRIES, INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (CONTINUED)
(In thousands)
LIABILITIES AND STOCKHOLDERS' EQUITY
December 31, March 31,
2005 2006
----------- -----------
(Unaudited)
Current liabilities:
Notes payable and current maturities of
long-term debt $ 41,640 $ 66,371
Accounts payable 9,797 9,617
Accrued OPEB cost 4,256 4,256
Other accrued liabilities 27,624 24,050
--------- --------
Total current liabilities 83,317 104,294
--------- --------
Noncurrent liabilities:
Long-term debt 58,255 37,266
Accrued OPEB cost 133,208 130,177
Other 5,577 5,488
--------- --------
Total noncurrent liabilities 197,040 172,931
--------- --------
Liabilities subject to compromise 10,476 10,326
--------- --------
Stockholders' equity:
Common stock 100 100
Additional paid-in capital 75,423 75,423
Retained earnings (accumulated deficit) (7,992) 13,737
--------- --------
Total stockholders' equity 67,531 89,260
--------- --------
$ 358,364 $376,811
========= ========
Commitments and contingencies (Notes 10 and 11).
See accompanying notes to consolidated financial statements.
- 4 -
KEYSTONE CONSOLIDATED INDUSTRIES, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)
Three months ended
March 31,
2005 2006
-------- --------
Net sales $ 89,537 $119,115
Cost of goods sold 84,482 104,089
-------- --------
Gross margin 5,055 15,026
-------- --------
Selling expense 1,435 1,776
General and administrative expense 2,704 2,729
Defined benefit pension credit (3,225) (12,161)
-------- --------
914 (7,656)
-------- --------
Operating income 4,141 22,682
-------- --------
Nonoperating income (expense):
Corporate income (expense) (1,296) 486
Interest expense (857) (1,202)
Interest income 35 2
Other income, net 88 -
-------- ---------
(2,030) (714)
-------- --------
Income before income taxes and
reorganization costs 2,111 21,968
Reorganization costs 3,294 150
-------- --------
Income (loss) before income taxes (1,183) 21,818
Provision for income taxes 93 89
-------- --------
Net income (loss) $ (1,276) $ 21,729
======== ========
Basic and diluted income (loss) per share $ ( .13) $ 2.17
======== ========
Basic and diluted shares outstanding 10,068 10,000
======== ========
See accompanying notes to consolidated financial statements.
- 5 -
KEYSTONE CONSOLIDATED INDUSTRIES, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
Three months ended
March 31,
2005 2006
---- ----
Cash flows from operating activities:
Net income (loss) $ (1,276) $ 21,729
Depreciation and amortization 3,927 3,846
Amortization of deferred financing costs 247 68
Non-cash defined benefit pension credit (3,225) (12,161)
OPEB expense (credit) 4,367 (2,100)
OPEB payments (1,158) (931)
Reorganization costs accrued 3,294 150
Reorganization costs paid (2,368) (2,994)
Other, net 20 190
Change in assets and liabilities:
Accounts receivable (12,952) (6,340)
Inventories (9,931) (3,726)
Accounts payable (1,379) (234)
Other, net (2,527) 228
-------- --------
Net cash used by operating activities (22,961) (2,275)
-------- --------
Cash flows from investing activities:
Capital expenditures (1,960) (2,293)
Collection of notes receivable 75 75
Restricted investments, net (173) 757
Other, net 157 2
-------- --------
Net cash used by investing activities (1,901) (1,459)
-------- --------
Cash flows from financing activities:
Revolving credit facilities, net 25,484 5,162
Other notes payable and long-term debt:
Additions 45 150
Principal payments (660) (1,570)
Deferred financing costs paid (7) (8)
-------- --------
Net cash provided by financing activities 24,862 3,734
-------- --------
Net change in cash and cash equivalents - -
Cash and cash equivalents, beginning of period - -
-------- --------
Cash and cash equivalents, end of period $ - $ -
======== ========
Supplemental disclosures:
Cash paid for:
Interest, net of amount capitalized $ 597 $ 1,002
Income taxes, net 600 -
See accompanying notes to consolidated financial statements.
- 6 -
KEYSTONE CONSOLIDATED INDUSTRIES, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Three months ended March 31, 2006
(In thousands)
(Unaudited)
Retained
Additional earnings
Common paid-in (accumulated
stock capital deficit) Total
------- - -------- -- --------- -----
Balance - December 31, 2005 $100 $75,423 $(7,992) $67,531
Net income - - 21,729 21,729
---- ------- ------- -------
Balance - March 31, 2006 $100 $75,423 $13,737 $89,260
==== ======= ======= =======
See accompanying notes to consolidated financial statements.
- 7 -
KEYSTONE CONSOLIDATED INDUSTRIES, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1 - Organization and basis of presentation:
The consolidated balance sheet of Keystone Consolidated Industries, Inc.
("Keystone" or the "Company") at December 31, 2005 has been derived from the
Company's audited consolidated financial statements at that date included in the
Company's Annual Report on Form 10-K for the year ended December 31, 2005 (the
"2005 Annual Report"). The consolidated balance sheet at March 31, 2006 and the
consolidated statements of operations and cash flows for the interim periods
ended March 31, 2005 and 2006, and the consolidated statement of stockholders'
equity for the interim period ended March 31, 2006, have each been prepared by
the Company, without audit, in accordance with accounting principles generally
accepted in the United States of America ("GAAP"). In the opinion of management,
all adjustments, consisting only of normal recurring adjustments necessary to
present fairly the consolidated financial position, results of operations and
cash flows, have been made. As permitted by regulations of the SEC, the
consolidated balance sheet data as of December 31, 2005 does not include all
disclosures required by GAAP.
The results of operations for the interim periods are not necessarily
indicative of the operating results for a full year or of future operations.
Certain information normally included in financial statements prepared in
accordance with GAAP has been condensed or omitted. The accompanying
consolidated financial statements should be read in conjunction with the
consolidated financial statements included in the 2005 Annual Report.
At March 31, 2006, Contran Corporation ("Contran") beneficially owned 51%
of the outstanding common stock of the Company. Substantially all of Contran's
outstanding voting stock is held by trusts established for the benefit of
certain children and grandchildren of Mr. Harold C. Simmons, of which Mr.
Simmons is sole trustee, or is held by Mr. Simmons or persons or other entities
related to Mr. Simmons. Consequently, Mr. Simmons may be deemed to control the
Company.
Net income (loss) per share is based upon the weighted average number of
common shares outstanding during the periods. Options to purchase Keystone
common stock that were outstanding during the first quarter of 2005 were omitted
from the calculation of diluted earnings per share because they were
antidilutive. Keystone had no other dilutive securities outstanding during the
first quarter of 2005 and 2006.
Note 2 - Bankruptcy
On February 26, 2004, Keystone and five of its direct and indirect
subsidiaries filed for voluntary protection under Chapter 11 of the Federal
Bankruptcy Code. Keystone and its subsidiaries filed their petitions in the U.S.
Bankruptcy Court for the Eastern District of Wisconsin in Milwaukee. Keystone
attributed the need to reorganize to weaknesses in product selling prices over
the preceding several years, unprecedented increases in ferrous scrap costs,
Keystone's primary raw material, and significant liquidity needs to service
retiree medical costs. These problems substantially limited Keystone's liquidity
and undermined its ability to obtain sufficient debt or equity capital to
operate as a going concern.
Under Chapter 11 proceedings, actions by creditors to collect Pre-petition
Claims in existence at the filing date are stayed, absent specific authorization
from the Court to pay such claims while the Company manages the business as a
debtor-in-possession.
- 8 -
Keystone filed a plan of reorganization on October 4, 2004 and amended that
plan on May 26, 2005, June 21, 2005 and June 27, 2005. Keystone's amended plan
of reorganization was accepted by the impacted constituencies and confirmed by
the Court on August 10, 2005. The Company emerged from bankruptcy protection on
August 31, 2005. Significant provisions of Keystone's amended plan of
reorganization included, among other things:
o Assumption of the previously negotiated amendment to the collective
bargaining agreement with the Independent Steel Workers Alliance (the
"ISWA"), Keystone's largest labor union, that related primarily to
greater employee participation in healthcare costs;
o Assumption of the previously negotiated agreements reached with
certain retiree groups that will provide relief by permanently
reducing healthcare related payments to these retiree groups from
pre-petition levels;
o The Company's obligations due to pre-petition secured lenders other
than its Debtor-In-Possession lenders were reinstated in full against
reorganized Keystone;
o All shares of Keystone's common and preferred stock outstanding at the
petition date (February 26, 2004) were cancelled;
o Pre-petition unsecured creditors with allowed claims against Keystone
will receive, on a pro rata basis, in the aggregate, $5.2 million in
cash, a $4.8 million secured promissory note and 49% of the new common
stock of reorganized Keystone;
o Certain operating assets and existing operations of Sherman Wire
Company ("SWC"), one of Keystone's pre-petition wholly-owned
subsidiaries, will be sold at fair market value (fair market value and
book value both approximate $2.0 million) to Keystone, which will then
be used to form and operate a newly created wholly-owned subsidiary of
reorganized Keystone named Keystone Wire Products Inc. ("KWP");
o SWC was also reorganized and the proceeds of the operating asset sale
to Keystone and liquidation of SWC's remaining real estate assets
(book value approximately $1.6 million) as well as other funds will be
distributed, on a pro rata basis, to SWC's pre-petition unsecured
creditors as their claims are finally adjudicated;
o SWC's pre-petition wholly-owned non-operating subsidiaries, J.L.
Prescott Company, and DeSoto Environmental Management, Inc. as well as
Sherman Wire of Caldwell, Inc., a wholly-owned subsidiary of Keystone,
will ultimately be liquidated and the pre-petition unsecured creditors
with allowed claims against these entities will receive their pro-rata
share of the respective entity's net liquidation proceeds;
o Pre-petition unsecured creditors with allowed claims against FV Steel
& Wire Company, another one of Keystone's wholly-owned subsidiaries,
will receive cash in an amount equal to their allowed claims;
o One of Keystone's Debtor-In-Possession lenders, EWP Financial, LLC (an
affiliate of Contran) converted $5 million of its DIP credit facility,
certain of its pre-petition unsecured claims and all of its
administrative claims against Keystone into 51% of the new common
stock of reorganized Keystone; and
o The Board of Directors of reorganized Keystone now consists of seven
individuals, two each of which were designated by Contran and the
Official Committee of Unsecured Creditors (the "OCUC"), respectively.
- 9 -
The remaining three directors qualify as independent directors (two of
the independent directors were appointed by Contran with the OCUC's
consent and one was appointed by the OCUC with Contran's consent).
Upon emergence from Chapter 11 on August 31, 2005, the pre-petition
litigation claims against Sherman continue to be stayed while these claims are
adjudicated. Environmental liabilities related to non-owned Keystone sites
($868,000) were discharged in connection with the Chapter 11 proceedings.
Recorded environmental liabilities related to non-owned SWC sites ($7.8 million
at March 31, 2006) and an owned SWC site ($.8 million) continue to be negotiated
and adjudicated subsequent to Keystone's emergence from Chapter 11. In general,
as a result of the Company's Chapter 11 reorganization and discharge when it
exited bankruptcy in August 2005, any future government or third-party private
actions against Keystone arising from its alleged pre-petition responsibility
for hazardous contamination at any environmental sites that are not owned by
Keystone have been barred. The Company's Chapter 11 discharge does not affect
the Company's liability for hazardous contamination of property that was owned
by Keystone as of the petition date and any associated clean up costs remains
the responsibility of the Company.
Note 3 - Business Segment Information:
The Company's operating segments are organized along its manufacturing
facilities and include three reportable segments: (i) Keystone Steel and Wire
("KSW") which manufacturers and sells wire rod, wire and wire products for
agricultural, industrial, construction, commercial, original equipment
manufacturers and retail consumer markets, (ii) Engineered Wire Products ("EWP")
which manufacturers and sells welded wire reinforcement in both roll and sheet
form that is utilized in concrete construction products including pipe, pre-cast
boxes and applications for use in roadways, buildings and bridges and (iii)
Sherman Wire ("Sherman"), an operating division of SWC which manufacturers and
sells wire and wire products for agricultural, industrial, construction,
commercial, original equipment manufacturers and retail consumer markets. In
connection with the Company's emergence from Chapter 11 on August 31, 2005,
certain operating assets and existing operations of Sherman were sold at fair
market value to Keystone, which then used these assets to form and operate KWP.
As such, operating results of this segment prior to Keystone's emergence from
Chapter 11 were operating results of Sherman. Operating results of this segment
after Keystone's emergence from Chapter 11, were operating results of KWP. In
accordance with Keystone's plan of reorganization, the remaining assets of SWC
will eventually be liquidated.
Business Segment Principal entities Location
Keystone Steel & Wire Keystone Steel & Wire Peoria, Illinois
Engineered Wire Products Engineered Wire Products Upper Sandusky, Ohio
Sherman Wire/Keystone Sherman Wire/Keystone Sherman, Texas
Wire Products Wire Products
- 10 -
Three months ended
March 31,
2005 2006
---- ----
(In thousands)
Net sales:
KSW $ 89,194 $117,680
EWP 12,051 12,618
Sherman/KWP 5,053 4,922
Eliminations (16,761) (16,105)
-------- --------
Total net sales $ 89,537 $119,115
======== ========
Operating income:
KSW $ (1,452) $ 8,199
EWP 1,639 873
Sherman/KWP (169) (64)
GAAP adjustments 4,123 13,674
-------- --------
Total operating income 4,141 22,682
Nonoperating income (expense):
Interest income 35 2
Other income 88 -
Corporate income (expense) (1,296) 486
Interest expense (857) (1,202)
------- -------
Income before income taxes and reorganization costs $ 2,111 $21,968
======= =======
In the above tables, GAAP adjustments are principally (i) the difference
between the defined benefit pension credit and OPEB expense or credit allocated
to the operating segments and the actual expense or credit included in the
determination of operating profit or loss, (ii) the elimination of intercompany
profit or loss on ending inventory balances and (iii) LIFO inventory reserve
adjustments.
Approximately $3.4 million and $3.5 million of Sherman\KWP's net sales
during the first quarter of 2005 and 2006, respectively, were sales to KSW. The
remainder of the elimination of net sales during each of the 2005 and 2006
periods were sales by KSW to EWP and Sherman\KWP.
- 11 -
Note 4 - Inventories:
December 31, March 31,
2005 2006
------------ --------
(In thousands)
Raw materials $10,914 $14,095
Work in process 29,550 28,223
Finished goods 28,018 26,265
Supplies 16,421 17,721
------- -------
84,903 86,304
Less LIFO reserve 15,212 12,887
------- -------
$69,691 $73,417
======= =======
Note 5 - Notes payable and long-term debt:
December 31, March 31,
2005 2006
------------ --------
(In thousands)
Wachovia revolving credit facility $36,174 $ 41,336
8% Notes 26,532 26,136
UC Note 4,997 5,147
Term loans:
Wachovia 21,980 20,833
County 10,000 10,000
Other 212 185
------- --------
99,895 103,637
Less current maturities 41,640 66,371
------- --------
$58,255 $ 37,266
======= ========
Note 6 - Income taxes:
Summarized below are (i) the differences between the provision for income
taxes and the amounts that would be expected by applying the U.S. federal
statutory income tax rate of 35% and (ii) the components of the comprehensive
provision for income taxes.
Three months ended
March 31,
2005 2006
---- ----
(In thousands)
Expected tax (benefit) provision, at statutory rate $ (414) $ 7,636
U. S. state income taxes, net 76 797
Deferred tax asset valuation allowance (703) (8,416)
Capitalize reorganization costs 1,133 52
Other, net 1 20
------- -------
Provision for income taxes $ 93 $ 89
======= =======
Comprehensive provision for income taxes:
Currently payable:
U.S. federal $ 42 $ 43
U.S. state 51 46
------- -------
Net currently payable 93 89
Deferred income taxes, net - -
------- -------
$ 93 $ 89
======= =======
- 12 -
The Company's emergence from Chapter 11 on August 31, 2005 did not result
in an ownership change within the meaning of Section 382 of the Internal Revenue
Code.
At March 31, 2006, considering all factors believed to be relevant,
including the Company's recent operating results, its expected future near-term
productivity rates; cost of raw materials, electricity, natural gas, labor and
employee benefits, environmental remediation, and OPEB benefits; interest rates;
product mix; sales volumes and selling prices; financial restructuring efforts
and the fact that accrued OPEB expenses will become deductible over an extended
period of time and require the Company to generate significant amounts of future
taxable income, the Company believes its gross deferred tax assets do not
currently meet the "more-likely-than-not" realizability test. As such, the
Company has provided a deferred tax asset valuation allowance to offset its
gross deferred income tax asset. As a result of the deferred tax asset valuation
allowance, the Company does not anticipate recognizing significant tax expense
associated with its expected pre-tax income during 2006 until such time as the
Company determines (which might or might not occur during 2006) that recognition
of the benefit of its gross deferred income tax assets is appropriate under
GAAP. Accordingly, during the first three months of 2006, the Company decreased
the deferred tax asset valuation allowance by approximately $8.4 million.
Keystone will continue to review the recoverability of its deferred tax assets,
and based on such periodic reviews, Keystone could recognize a change in the
valuation allowance related to its deferred tax assets in the future.
Note 7 - Other accrued liabilities:
December 31, March 31,
2005 2006
---- ----
(In thousands)
Current:
Employee benefits $12,085 $11,750
Self insurance 4,455 4,163
Environmental 3,000 2,386
Pre-petition unsecured creditor settlement 1,061 1,061
Income taxes 939 621
Legal and professional 247 393
Reorganization costs 3,057 63
Other 2,780 3,613
------- -------
$27,624 $24,050
======= =======
Noncurrent:
Environmental $ 3,921 $ 3,921
Workers compensation payments 1,595 1,513
Other 61 54
--- -------
$ 5,577 $ 5,488
======= =======
Note 8 - Liabilities subject to compromise:
December 31, March 31,
2005 2006
------------ --------
(In thousands)
Environmental $ 8,491 $ 8,571
Accounts payable 850 794
Disposition of former facilities 684 676
Legal and professional 244 109
Other 207 176
------- -------
$10,476 $10,326
======= =======
- 13 -
Note 9 - Employee benefit plans:
Defined benefit plans. The components of net periodic defined benefit
pension credit are presented in the table below.
Three months ended
March 31,
2005 2006
---- ----
(In thousands)
Service cost $ 938 $ 959
Interest cost 5,434 5,106
Expected return on plan assets (10,733) (16,863)
Amortization of unrecognized:
Prior service cost 221 227
Actuarial losses 915 (1,590)
-------- --------
$ (3,225) $(12,161)
======== ========
Postretirement benefits other than pensions ("OPEB"). The components of net
periodic OPEB expense (credit) are presented in the table below.
Three months ended
March 31,
2005 2006
---- ----
(In thousands)
Service cost $ 740 $ 63
Interest cost 3,026 495
Amortization of unrecognized:
Prior service cost (86) (84)
Prior service cost due to plan amendments (710) (4,243)
Actuarial losses 1,397 1,669
------ -------
$4,367 $(2,100)
====== =======
Note 10 - Environmental matters:
As a result of the Chapter 11 filings on February 26, 2004, litigation
relating to prepetition claims against the filing companies, including Keystone
and Sherman Wire Company ("SWC"), has been stayed. Upon emergence from Chapter
11 on August 31, 2005, the pre-petition litigation claims against SWC continue
to be stayed while these claims are adjudicated. Environmental liabilities
related to non-owned Keystone sites ($.9 million) were discharged in connection
with the Chapter 11 proceedings. Recorded environmental liabilities related to
non-owned SWC sites ($7.8 million) and an owned SWC site ($.8 million) continue
to be negotiated and adjudicated subsequent to Keystone's emergence from Chapter
11. In general, as a result of the Company's Chapter 11 reorganization and
discharge when it exited bankruptcy in August 2005, any future government or
third-party private actions against Keystone arising from its alleged
pre-petition responsibility for hazardous contamination at any environmental
sites that are not owned by Keystone have been barred. The Company's Chapter 11
discharge does not affect the Company's liability for hazardous contamination of
property that was owned by Keystone or SWC as of the petition date and any
associated clean up costs remains the responsibility of Keystone or SWC.
Keystone has been named as a defendant, potentially responsible party
("PRP"), or both, pursuant to the Comprehensive Environmental Response,
Compensation and Liability Act ("CERCLA") or similar state laws in approximately
- 14 -
14 governmental and private actions associated with environmental matters,
including waste disposal sites and facilities currently or previously owned,
operated or used by Keystone, certain of which are on the United States
Environmental Protection Agency's (the "U.S. EPA") Superfund National Priorities
List or similar state lists. These proceedings seek cleanup costs, damages for
personal injury or property damage and/or damages for injury to natural
resources. Certain of these proceedings involve claims for substantial amounts.
Although Keystone may be jointly and severally liable for such costs, in most
cases, it is only one of a number of PRPs who may also be jointly and severally
liable.
On a quarterly basis, Keystone evaluates the potential range of its
liability at sites where it has been named as a PRP or defendant by analyzing
and estimating the range of reasonably possible costs to Keystone. Such costs
include, among other things, expenditures for remedial investigations,
monitoring, managing, studies, certain legal fees, clean-up, removal and
remediation. Keystone believes it has provided adequate accruals ($14.9 million
at March 31, 2006, $8.6 million of which is reflected in liabilities subject to
compromise on the Company's March 31, 2006 balance sheet) for these matters at
10 sites for which Keystone believes its liability is probable and reasonably
estimable, but Keystone's ultimate liability may be affected by a number of
factors, including the imposition of more stringent standards or requirements
under environmental laws or regulations, new developments or changes in remedial
alternatives and costs, the allocation of such costs among PRPs, the solvency of
other PRPs or a determination that Keystone is potentially responsible for the
release of hazardous substances at other sites, any of which could result in
expenditures in excess of amounts currently estimated by Keystone to be required
for such matters. With respect to other PRPs and the fact that the Company may
be jointly and severally liable for the total remediation cost at certain sites,
the Company could ultimately be liable for amounts in excess of its accruals due
to, among other things, reallocation of costs among PRPs or the insolvency of
one or more PRPs. In addition, the actual timeframe for payments by Keystone for
these matters may be substantially in the future.
The upper end of the range of reasonably possible costs to Keystone for
sites for which it is possible to estimate costs (14 sites) is approximately
$15.7 million. Keystone's estimates of such liabilities have not been discounted
to present value, and other than certain previously-reported settlements with
respect to certain of Keystone's former insurance carriers, Keystone has not
recognized any material insurance recoveries. No assurance can be given that
actual costs will not exceed accrued amounts or the upper end of the range for
sites for which estimates have been made, and no assurance can be given that
costs will not be incurred with respect to the four sites as to which no
estimate of liability can presently be made because the respective
investigations are in early stages. The extent of CERCLA liability cannot be
determined until the Remedial Investigation/Feasibility Study ("RI/FS") is
complete, the U.S. EPA issues a Record of Decision ("ROD") and costs are
allocated among PRPs. The extent of liability under analogous state cleanup
statutes and for common law equivalents is subject to similar uncertainties.
- 15 -
The exact time frame over which the Company makes payments with respect to
its accrued environmental costs is unknown and is dependent upon, among other
things, the timing of the actual remediation process which in part depends on
factors outside the control of the Company. At each balance sheet date, the
Company makes an estimate of the amount of its accrued environmental costs which
will be paid out over the subsequent 12 months, and the Company classifies such
amount as a current liability. The remainder of the accrued environmental costs
are classified as a noncurrent liability.
More detailed descriptions of certain legal proceedings relating to
environmental matters are set forth below. A summary of activity in the
Company's environmental accruals for the three months ended March 31, 2006 is as
follows:
Three months ended
March 31,
------------------
(In thousands)
Balance at December 31, 2005 $15,412
Expense -
Payments (618)
Reclassification 84
-------
Balance at March 31, 2006 $14,878
=======
Amounts classified as:
Current accrued environmental cost $ 2,386
Noncurrent accrued environmental cost 3,921
Liabilities subject to compromise 8,571
-------
$14,878
=======
All of the recorded environmental liability included in liabilities subject
to compromise on the Company's March 31, 2006 balance sheet relates to sites
involving SWC or one of its predecessors. SWC's environmental liabilities
continue to be negotiated and adjudicated subsequent to Keystone's emergence
from Chapter 11 on August 31, 2005. See Note 8.
Sites no longer subject to compromise at March 31, 2006.
The Company is currently involved in the closure of inactive waste disposal
units at its Peoria facility pursuant to a closure plan approved by the Illinois
Environmental Protection Agency ("IEPA") in September 1992. The original closure
plan provides for the in-place treatment of seven hazardous waste surface
impoundments and two waste piles to be disposed of as special wastes. The
Company recorded an estimated liability for remediation of the impoundments and
waste piles based on a six-phase remediation plan. The Company adjusts the
recorded liability for each Phase as actual remediation costs become known.
During 1995, the Company began remediation of Phases II and III and completed
these Phases, as well as Phase IV during 1996. During 1998 and 1999 the Company
did not have any significant remediation efforts relative to Phases V and VI.
During 2000, Keystone began preliminary efforts relative to Phase V. Pursuant to
agreements with the IEPA and Illinois Attorney General's office the ("IAG"), the
Company is depositing $75,000 per quarter into a trust fund. Prior to 2005, the
Company was required to continue these quarterly deposits and could not withdraw
funds from the trust fund until the fund balance exceeded the sum of the
estimated remaining remediation costs plus $2 million. During 2005, this
- 16 -
agreement was modified such that the IEPA and IAG now permit Keystone to
withdraw funds from the trust fund as the site is remediated. However, the
requirement for the Company to make quarterly deposits of $75,000 in to the
trust fund remains until such time as the site is completely remediated. During
the first quarter of 2006, Keystone paid approximately $614,000 in remediation
costs for this site and received approximately $834,000 in funds from the trust
fund. At December 31, 2005 and March 31, 2006, the trust fund had a balance of
$4.5 million and $3.7 million, respectively, which amounts were included in
other noncurrent assets.
In Febuary 2000, Keystone received a notice from the United States
Environmental Protection Agency ("U.S. EPA") giving formal notice of the U.S.
EPA's intent to issue a unilateral administrative order to Keystone pursuant to
section 3008(h) of the Resource Conservation and Recovery Act ("RCRA"). The
draft order enclosed with this notice would require Keystone to: (1) investigate
the nature and extent of hazardous constituents present at and released from
five alleged solid waste management units at the Peoria facility; (2)
investigate hazardous constituent releases from "any other past or present
locations at the Peoria facility where past waste treatment, storage or disposal
may pose an unacceptable risk to human health and the environment"; (3) complete
by June 30, 2001 an "environmental indicators report" demonstrating the
containment of hazardous substances that could pose a risk to "human receptors"
and further demonstrating that Keystone "has stabilized the migration of
contaminated groundwater at or from the facility;" (4) submit by January 30,
2002 proposed "final corrective measures necessary to protect human health and
the environment from all current and future unacceptable risks of releases of
hazardous waste or hazardous constituents at or from the Peoria facility; and
(5) complete by June 30, 2001 the closure of the sites discussed in the
preceding paragraph now undergoing RCRA closure under the supervision of the
IEPA. Keystone has complied with deadlines in the draft order. During the fourth
quarter of 2000, Keystone entered into a modified Administrative Order on
Consent, which may require the Company to conduct cleanup activities at certain
solid waste management units at its Peoria facility depending on the results of
soil and groundwater sampling and risk assessment to be conducted by Keystone
during future periods pursuant to the order.
In March 2000, the IAG filed and served a seven-count complaint against
Keystone for alleged violations of the Illinois Environmental Protection Act,
415 ILCS 5/31, and regulations implementing RCRA at Keystone's Peoria facility.
The complaint alleges Keystone violated RCRA in failing to prevent spills of an
alleged hazardous waste on four separate occasions during the period from June
1995 through January 1999. The complaint also alleges the Company illegally
"stored", "disposed of" and manifested the same allegedly hazardous waste on
some or all of those occasions. In addition, the complaint alleges these
hazardous waste spills resulted in groundwater pollution in violation of the
Illinois Environmental Protection Act. The complaint further alleges Keystone
improperly disposed of hazardous waste on two occasions at a landfill not
permitted to receive such wastes. The complaint seeks the maximum statutory
penalties allowed which ranges up to $50,000 for each violation and additional
amounts up to $25,000 for each day of violation. Keystone has answered the
complaint and proceedings in the case have been stayed pending the outcome of
settlement negotiations between Keystone and the IAG's office.
In December 2005, the Company received a Notice of Violation from the U.S.
EPA regarding air permit issues at its Peoria, Illinois facility. The U.S. EPA
alleges Keystone failed to perform stack testing and conduct a review of best
available emission control technology in connection with the implementation of
plant construction modifications made pursuant to a 2001 air permit issued under
the Clean Air Act and the Illinois Environmental Protection Act. During January
2006, the Company and the U.S. EPA reached a preliminary agreement on a plan for
addressing the U.S. EPA's concerns without referring the matter for any
enforcement action.
- 17 -
"Superfund" sites
The Company is subject to federal and state "Superfund" legislation that
imposes cleanup and remediation responsibility upon present and former owners
and operators of, and persons that generated hazardous substances deposited
upon, sites determined by state or federal regulators to contain hazardous
substances. Keystone has been notified by U.S. EPA that the Company is a
potentially responsible party ("PRP") under the federal "Superfund" legislation
for the alleged release or threat of release of hazardous substances into the
environment at eight sites. These situations involve cleanup of landfills and
disposal facilities which allegedly received hazardous substances generated by
discontinued operations of the Company. Although Keystone believes its
comprehensive general liability insurance policies provide indemnification for
certain costs the Company incurs at the "Superfund" sites discussed below, it
has not recorded receivables for the estimated insurance recoveries at those
sites. During the first three months of 2005 and 2006, the Company received
approximately $30,000 and $85,000, respectively, from certain of its insurers in
exchange for releasing such insurers from coverage for certain years of
environmental related liabilities. Such amounts are included in Keystone's self
insurance accruals.
Sites still subject to compromise at March 31, 2006.
Prior to its acquisition by Keystone, DeSoto, Inc. ("DeSoto") was notified
by U.S. EPA that it is one of approximately 50 PRPs at the Chemical Recyclers,
Inc. site in Wylie, Texas. In January 1999, DeSoto changed its name to SWC.
Under a consent order with the U.S. EPA, the PRP group has performed a removal
action and an investigation of soil and groundwater contamination. Such
investigation revealed certain environmental contamination. It is anticipated
U.S. EPA will order further remedial action, the exact extent of which is not
currently known. Any further liability of Sherman Wire related to this site was
discharged in the Chapter 11 proceedings.
In 1984, U.S. EPA filed suit against DeSoto by amending a complaint against
Midwest Solvent Recovery, Inc. et al ("Midco"). DeSoto was a defendant based
upon alleged shipments to an industrial waste recycling storage and disposal
operation site located in Gary, Indiana. The amended complaint sought relief
under CERCLA to force the defendants to clean up the site, pay non-compliance
penalties and reimburse the government for past clean up costs. In June 1992,
DeSoto settled its portion of the case by entering into a partial consent
decree, and all but one of the eight remaining primary defendants and 93 third
party defendants entered into a main consent decree. Under the terms of the
partial consent decree, DeSoto agreed to pay its pro rata share (13.47%) of all
costs under the main consent decree. In addition to certain amounts included in
the trust fund discussed below, SWC also has certain funds available in other
trust funds due it under the partial consent decree. These credits can be used
by SWC (with certain limitations) to fund its future liabilities under the
partial consent decree. The U.S. EPA was granted a $1.1 million claim in the
Chapter 11 proceedings. Any further liability of SWC related to this site was
discharged in the Chapter 11 proceedings.
In 1995, DeSoto was notified by the Texas Natural Resource Conservation
Commission ("TNRCC") that there were certain deficiencies in prior reports to
- 18 -
TNRCC relative to one of its non-operating facilities located in Gainesville,
Texas. During 1999, SWC entered into TNRCC's Voluntary Cleanup Program.
Remediation costs are presently estimated to be between $1.2 million and $2
million. Investigation activities are on-going including additional soil and
groundwater sampling.
In December 1991, DeSoto and approximately 600 other PRPs were named in a
complaint alleging DeSoto and the PRPs generated wastes that were disposed of at
a Pennsauken, New Jersey municipal landfill. The plaintiffs in the complaint
were ordered by the court to show in what manner the defendants were connected
to the site. The plaintiffs provided an alleged nexus indicating garbage and
construction materials from DeSoto's former Pennsauken facility were disposed of
at the site and such waste allegedly contained hazardous material to which
DeSoto objected. The claim was dismissed without prejudice in August 1993. In
1996, DeSoto received an amended complaint containing the same allegations. The
plaintiffs were granted a $750,000 claim in the Chapter 11 proceedings. Any
further liability of SWC related to this site was discharged in the Chapter 11
proceedings.
SWC has received notification from the TNRCC stating that DeSoto is a PRP
at the Material Recovery Enterprises Site near Ovalo, Texas, with approximately
3% of the total liability. The matter has been tendered to the Valspar
Corporation ("Valspar") pursuant to a 1990 agreement whereby Valspar purchased
certain assets of DeSoto. Valspar has been handling the matter under reservation
of rights. At the request of Valspar, SWC has signed a participation agreement
which would require SWC to pay no less than 3% of the remediation costs. Valspar
continues to pay for legal fees in this matter and has reimbursed SWC for all
assessments. The TNRCC was granted a $15,000 claim in the Chapter 11
proceedings. Any further liability of SWC related to this site was discharged in
the Chapter 11 proceedings.
In November 2003, SWC received a General Notice of Potential Liability from
the U.S. EPA advising them that the U.S. EPA believes SWC is a PRP at the Lake
Calumet Cluster Site in Chicago, Illinois. The U.S. EPA advises the 200 acre
site consists of areas of both ground water and surface water contamination
located in a remnant wetland area. The U.S. EPA's effort at this site is part of
a larger effort undertaken along with the State of Illinois, the City of
Chicago, the U.S. Army Corps of Engineers, and the U.S. Department of Energy to
cleanup contamination in the Lake Calumet basin. The U.S. EPA alleges the
original wetland area has been partially filed by various waste handling and
disposal activities which started as early as the 1940's. Incineration of
hazardous waste including paints, thinners, varnishes, chlorinated solvents,
styrene, ink, adhesives, and antifreeze occurred on the site from 1977 until
1982. In addition, several landfills operated in and near the site from 1967
into the 1990s. Approximately 1,600 ruptured drums have been discovered buried
on the site. The U.S. EPA has undertaken or overseen various response actions at
the site to mitigate remaining above ground contamination in the site vicinity.
The U.S. EPA advises these activities have led to the formation of an extensive
ground water contamination plume and contamination in the remaining wetland. The
origin of the contamination cannot be associated with any single prior activity.
The ground water is in direct contact with the wetland waters, and the same
contaminants of concern, certain of which are known to bioaccumulate, and their
concentrations are above human health and environmental standards. Sherman did
not respond to the November 2003 Notice, however, SWC notified their insurance
carriers and asked them to indemnify and defend SWC with respect to the Notice.
At present, no carrier has agreed to either indemnify or defend. In addition, in
November, 2003, SWC requested the U.S. EPA to provide any documentation that
allegedly connects SWC to the site. Subsequently, the U.S. EPA produced
documents that may show that SWC wastes were sent to the site. There were no
claims related to this site filed in the Chapter 11 proceedings. The Company's
emergence from Chapter 11 proceedings in August 2005 precludes subsequent claims
against SWC related to this site.
In addition to the sites discussed above, SWC is allegedly involved at
various other sites and in related toxic tort lawsuits which it does not
currently expect to incur significant liability. Pre-petition claims against SWC
continue to be negotiated and adjudicated subsequent to the Company's emergence
from Chapter 11 on August 31, 2005.
- 19 -
SWC has access to a trust fund relative to another environmental site for
any expenses or liabilities it incurs relative to environmental claims at that
site. The trust fund is included in restricted investments on the balance sheet.
At December 31, 2005 and March 31, 2006, the balance in this trust fund was
approximately $254,000 and $255,000, respectively.
Note 11 - Other commitments and contingencies:
Current litigation
Pre-petition claims against SWC continue to be negotiated and adjudicated
subsequent to Keystone's emergence from Chapter 11 on August 31, 2005.
In July 2001, SWC received a letter from a law firm advising them that
Sears Roebuck & Co. ("Sears") had been named as a defendant in a lead paint
personal injury case. Sears claimed contractual indemnity against SWC and
demanded that SWC defend and indemnify Sears with regard to any losses or
damages Sears may sustain in the case. Sears was named as an additional insured
on insurance policies, in which DeSoto (now SWC), the manufacturer of the paint,
was the named insured. Additional demands were made by Sears in 2002 with regard
to additional lead paint cases. DeSoto's insurance carriers were notified of the
action and asked to indemnify SWC with respect to the complaint. SWC has not
indemnified Sears and is unaware if the insurors have agreed to indemnify Sears.
In May 2002, the Company was notified by an insurance company of a
declaratory complaint filed in Cook County Illinois by Sears against the
insurance company and a second insurance company (collectively the "Insurance
Companies") relative to a certain lead paint personal injury litigation against
Sears. It is the Company's understanding that the declaratory complaint has
since been amended to include all lead paint cases where Sears has been named as
a defendant as a result of paint sold by Sears that was manufactured by DeSoto.
Sears was allegedly named as an additional insured on insurance policies issued
by the Insurance Companies, in which DeSoto, the manufacturer of the paint, was
the named insured. Sears has demanded indemnification from the Insurance
Companies. One of the Insurance Companies has demanded indemnification and
defense from SWC. SWC believes the request for indemnification is invalid.
However, such Insurance Company has refused to accept SWC's response and has
demanded that SWC participate in mediation in accordance with the terms of a
prior settlement agreement. SWC may be sued by the Insurance Companies and, as a
result, could be held responsible for all costs incurred by the Insurance
Companies in defending Sears and paying for any claims against Sears as well as
for the cost of any litigation against SWC. The total amount of these lead paint
litigation related costs and claims could be significant. However, the Company
does not have a liability recorded with respect to these matters because the
liability that may result, if any, cannot be reasonably estimated at this time.
On March 1, 2006, Sears filed a notice with the Bankruptcy Court indicating
it is consenting to the Allstate Settlement described below and will withdraw
its claims with prejudice with respect to this matter on the date the Bankruptcy
Court's order approving the Allstate Settlement becomes final and
non-appeasable. The Chapter 11 proceedings bar any future claims against SWC
with respect to this matter.
On March 27, 2006, the Bankruptcy Court approved a settlement agreement
with one of DeSoto's former insurers, Allstate Insurance Company ("AIC") and
Northbrook Property and Casualty Insurance Company ("NP&CIC"), whereby SWC
entered into a policy buy-back arrangement with the insurers and the insurers
- 20 -
agree to withdraw their claims for retrospective premiums under the policies in
SWC's bankruptcy with prejudice after of the Bankruptcy Court's order approving
the agreement becomes final and non-appealable. As a result of this agreement,
SWC will receive approximately $4.0 million from the insurers in exchange for a
release of the insurers from the policies. SWC has not recorded a receivable for
this amount at March 31, 2006. The $4.0 million may be used by SWC to satisfy
its pre-petition allowed unsecured claims, including environmental related
claims against SWC in its bankruptcy proceedings. Any portion of the $4.0
million not used to satisfy SWC's allowed unsecured claims will revert back to
the bankruptcy estate of SWC and be distributed in accordance with Keystone's
plan of reorganization. The settlement agreement does not apply to any worker's
compensation policies that AIC or NP&CIC underwrote for SWC. The settlement
agreement also does not apply to Sears, but Sears is barred from bringing a
claim against SWC's bankruptcy estate.
The Company is also engaged in various legal proceedings incidental to its
normal business activities. In the opinion of the Company, none of such
proceedings is material in relation to the Company's consolidated financial
position, results of operations or liquidity.
Note 13 - Accounting principles newly adopted in 2006:
Inventory costs. The Company adopted SFAS No. 151, "Inventory Costs, an
amendment of ARB No. 43, Chapter 4," for inventory costs incurred on or after
January 1, 2006. SFAS No. 151 requires the allocation of fixed production
overhead costs to inventory shall be based on normal capacity. Normal capacity
is not defined as a fixed amount; rather, normal capacity refers to a range of
production levels expected to be achieved over a number of periods under normal
circumstances, taking into account the loss of capacity resulting from planned
maintenance shutdowns. The amount of fixed overhead allocated to each unit of
production is not increased as a consequence of idle plant or production levels
below the low end of normal capacity, but instead a portion of fixed overhead
costs are charged to expense as incurred. Alternatively, in periods of
production above the high end of normal capacity, the amount of fixed overhead
costs allocated to each unit of production is decreased so that inventories are
not measured above cost. SFAS No. 151 also clarifies existing GAAP to require
that abnormal freight and wasted materials (spoilage) are to be expensed as
incurred. The Company believes its production cost accounting already complied
with the requirements of SFAS No. 151, and as such, the adoption of SFAS No. 151
did not have a material effect on its consolidated financial statements.
Stock options. Based on guidance issued by the U.S. Securities and Exchange
Commission, the Company adopted SFAS No. 123R, "Share-Based Payment," as of
January 1, 2006. SFAS No. 123R, among other things, eliminated the alternative
in existing GAAP to use the intrinsic value method of accounting for stock-based
employee compensation under APBO No. 25. Upon adoption of SFAS No. 123R, the
Company is generally required to recognize the cost of employee services
received in exchange for an award of equity instruments based on the grant-date
fair value of the award, with the cost recognized over the period during which
an employee is required to provide services in exchange for the award
(generally, if the vesting period of the award). No compensation cost will be
recognized in the aggregate for equity instruments for which the employee does
not render the requisite service (generally, the instrument is forfeited before
it has vested). The grant-date fair value will be estimated using option-pricing
models (e.g. Black-Scholes or a lattice model). Under the transition
alternatives permitted under SFAS No. 123R, the Company will apply the new
standard to all new awards granted on or after January 1, 2006. Because the
Company did not have any outstanding awards or options at January 1, 2006, the
effect of adopting SFAS No. 123R was not significant. Should the Company,
however, grant a significant number of options in the future, the effect on the
Company's consolidated financial statements could be material.
- 21 -
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
- --------------------------------------------------------------------------------
Summary
The Company reported net income of $21.7 million in the first quarter of
2006 as compared to a net loss of $1.3 million in the first quarter of 2005. The
primary reasons for the increase in earnings from 2005 to 2006 were due to the
net effects of increased shipment volumes, lower costs for ferrous scrap,
electrical power, OPEB and reorganization costs all partially offset by lower
per-ton selling prices and higher costs for natural gas and interest expense. As
discussed in Note 2 to the Consolidated Financial Statements, the Company was
operating under the protection of its Chapter 11 bankruptcy filing during the
first quarter of 2005.
OVERALL RESULTS OF OPERATIONS:
Keystone believes it is a leading manufacturer of steel fabricated wire
products, wire mesh, nails, industrial wire and wire rod for the agricultural,
industrial, construction, original equipment manufacturer and retail consumer
markets and believes it is one of the largest manufacturers of fabricated wire
products in the United States. Historically, the Company has experienced greater
sales and profits during the first half of the year due to the seasonality of
sales in principal wire products markets, including the agricultural and
construction markets. Keystone is also engaged in the operation of a ferrous
scrap recycling facility. The operations of this ferrous scrap recycling
facility were insignificant when compared to the consolidated operations of the
Company. As such, the results of its operations are not separately addressed in
the discussion that follows.
As provided by the safe harbor provisions of the Private Securities
Litigation Reform Act of 1995, the Company cautions that statements in this
Quarterly Report on Form 10-Q relating to matters that are not historical facts
including, but not limited to, statements found in this "Management's Discussion
And Analysis Of Financial Condition And Results Of Operations," are
forward-looking statements that represent management's beliefs and assumptions
based on currently available information. Forward-looking statements can be
identified by the use of words such as "believes", "intends", "may", "should",
"could", "anticipates," "expected" or comparable terminology, or by discussions
of strategies or trends. Although Keystone believes the expectations reflected
in such forward-looking statements are reasonable, it cannot give any assurances
that these expectations will prove to be correct. Such statements by their
nature involve substantial risks and uncertainties that could significantly
impact expected results, and actual future results could differ materially from
those described in such forward-looking statements. While it is not possible to
identify all factors, Keystone continues to face many risks and uncertainties.
Among the factors that could cause actual future results to differ materially
are the risks and uncertainties discussed in this Quarterly Report and those
described from time to time in the Company's other filings with the Securities
and Exchange Commission including, but not limited to;
o Future supply and demand for the Company's products (including
cyclicality thereof),
o Customer inventory levels,
o Changes in raw material and other operating costs (such as ferrous
scrap and energy)
- 22 -
o The possibility of labor disruptions,
o General global economic and political conditions,
o Competitive products and substitute products,
o Customer and competitor strategies,
o The impact of pricing and production decisions,
o The possibility of labor disruptions,
o Environmental matters (such as those requiring emission and discharge
standards for existing and new facilities),
o Government regulations and possible changes therein,
o Significant increases in the cost of providing medical coverage to
employees and retirees,
o The ultimate resolution of pending litigation,
o International trade policies of the United States and certain foreign
countries,
o Operating interruptions (including, but not limited to, labor
disputes, fires, explosions, unscheduled or unplanned downtime and
transportation interruptions),
o The ability of the Company to renew or refinance credit facilities,
o Any possible future litigation, and
o Other risks and uncertainties as discussed in this Quarterly Report
and the Annual Report, including, without limitation, the section
referenced above.
Should one or more of these risks materialize (or the consequences of such
a development worsen), or should the underlying assumptions prove incorrect,
actual results could differ materially from those forecasted or expected.
Keystone disclaims any intention or obligation to update or revise any
forward-looking statement whether as a result of new information, future events
or otherwise.
The following table sets forth Keystone's steel and wire production,
ferrous scrap costs, sales volume and pricing data for the periods indicated.
Three months ended
March 31,
2005 2006
---- ----
(Tons in thousands)
Production volume (tons):
Billets 141 199
Wire rod 134 177
Average per-ton ferrous scrap purchase cost $252 $206
Sales volume(tons):
Fabricated wire products 33 34
Wire mesh 13 15
Nails 5 5
Industrial wire 16 18
Wire rod 43 103
Billets 2 10
---- ----
112 185
==== ====
Per-ton selling prices:
Fabricated wire products $1,109 $1,029
Wire mesh $ 926 $ 876
Nails $ 778 $ 697
Industrial wire $ 768 $ 718
Wire rod $ 567 $ 490
Billets $ 257 $ 346
All steel and wire products $ 798 $ 639
- 23 -
The following table sets forth the components of the Company's net sales
for the periods indicated.
Three months ended
March 31,
2005 2006
---- ----
(In millions)
Fabricated wire products $35.9 $ 35.0
Wire mesh 12.1 12.6
Nails 3.8 3.8
Industrial wire 12.5 12.9
Wire rod 24.3 50.5
Billets .6 3.6
Other .3 .7
----- ------
$89.5 $119.1
===== ======
The following table sets forth selected operating data of the Company as a
percentage of net sales for the periods indicated.
Three months ended
March 31,
------------------------
2005 2006
------ ------
Net sales 100.0 % 100.0 %
Cost of goods sold 94.4 87.4
----- -----
Gross margin 5.6 % 12.6 %
==== =====
Selling expense 1.6 % 1.5 %
General and administrative expense 3.0 % 2.4 %
Defined benefit pension credit (3.6)% (10.2)%
Corporate (income) expense 1.4 % (.4)%
Reorganization costs 3.7 % .1 %
Income (loss) before income taxes (1.3)% 18.3 %
Income tax provision (.1) (.1)
---- ----
Net income (loss) (1.4)% 18.2 %
====== =====
Discussion of operating results
During the first quarter of 2006, Keystone recorded net sales of $119.1
million which represented an increase of $29.6 million, or 33.0%, over 2005's
first quarter net sales of $89.5 million. The primary reason for this increase
in net sales during the 2006 first quarter was significantly increased shipment
volumes partially offset by lower overall per-ton selling prices. During the
first quarter of 2006, the Company shipped 185,000 tons as compared to only
112,000 tons shipped during the 2005 first quarter. While first quarter 2006
shipments of fabricated wire products, wire mesh, nails and industrial wire were
all relatively consistent with shipment levels during the 2005 first quarter,
the product mix during the 2006 first quarter was materially different from the
2005 first quarter as a result of a 60,000 ton, or 140%, increase in wire rod
shipments during the 2006 first quarter as compared to the 2005 wire rod
shipments. The Company typically realizes a lower gross margin on sales of wire
rod than it does on the majority of its other products. During the first quarter
of 2006, Keystone's overall per-ton product selling prices declined to $639
per-ton from $798 per-ton in the 2005 first quarter. This 20% decline in overall
per-ton steel and wire product selling prices ($159 per-ton) adversely impacted
net sales by approximately $29.4 million during the 2006 first quarter.
- 24 -
During the first quarter of 2006, Keystone realized lower per-ton selling
prices over those achieved during the 2005 first quarter in all product lines
with the exception of billets. However, the Company's shipment volume of billets
is relatively insignificant to total product shipments. During the 2006 first
quarter, fabricated wire product per-ton selling prices declined 7%, wire mesh
declined 5%, nails declined 10%, industrial wire declined 7% and wire rod
declined 14% as compared to the 2005 first quarter. Billet per-ton selling
prices increased 35% during the 2006 first quarter as compared to the 2005 first
quarter. During the 2006 first quarter, shipment volume increased in all product
lines as compared to 2005 shipment levels with the exception of nails. Nail
shipments during the 2006 first quarter were unchanged from 2005 first quarter
shipment levels. Fabricated wire product shipments during the 2006 first quarter
increased 3%, wire mesh increased 15%, industrial wire increased 13%, wire rod
increased 140% and billets increased 400% when compared to 2005 first quarter
shipment levels. Keystone believes the lower per-ton selling prices during the
2006 first quarter were in part due to significantly lower ferrous scrap costs,
the Company's primary raw material. The significantly increased shipments of
wire rod during the 2006 first quarter was primarily due to increased shipments
to two existing customers.
Billet production during the 2006 first quarter increased by 58,000 tons to
199,000 tons from 141,000 tons during the first quarter of 2005. Wire rod
production during the first quarter of 2005 increased by 43,000 tons to 177,000
tons from 134,000 tons during the first quarter of 2005. The higher production
levels in 2006 were due primarily to increased market demand.
Cost of goods sold increased by 23% during the first quarter of 2006 to
$104.1 million from $84.5 million during the 2005 first quarter. However, the
cost of goods sold percentage declined from 94% in the 2005 quarter to 87% of
net sales in the first quarter of 2006. This decline in the cost of goods sold
percentage was due primarily to the lower per-ton cost for ferrous scrap,
electrical power at the Company's Peoria, Illinois facility and OPEB in the 2006
first quarter, partially offset by increased costs for natural gas at the
Company's Peoria, Illinois facility. Keystone's per-ton ferrous scrap costs
declined 18% during the 2006 first quarter as compared to the 2005 first
quarter. During the 2006 first quarter, the Company purchased 216,000 tons of
ferrous scrap at an average price of $206 per-ton as compared to 2005 first
quarter purchases of 151,000 tons at an average price of $252 per ton. This
decline in per-ton ferrous scrap costs favorably impacted gross profit during
the 2006 first quarter by approximately $10.0 million. The cost of natural gas
and electrical power at the Company's Peoria facility in the 2006 first quarter
was approximately $1.7 million higher and $341,000 lower, respectively, than
they were in the 2005 first quarter. As a result of the 1114 Agreement that was
entered into in connection with the Company's emergence from Chapter 11 in
August 2005, OPEB expense during periods subsequent to that date is
substantially less than in periods prior to that date. During the first quarter
of 2005, Keystone recorded OPEB expense of approximately $4.4 million ($3.9
million of which was included in cost of goods sold) as compared to a $2.1
million OPEB credit recorded in the 2006 first quarter ($1.5 million of which
was included in cost of goods sold).
As a result of the above items, the gross margin of $5.1 million in the
2005 first quarter improved to $15.0 million in the 2006 first quarter. As a
result, the gross margin percentage in the first quarter of 2005 of 5.6%
increased to 12.6% in the 2006 first quarter.
Selling expense during the 2006 first quarter increased 24% to $1.8 million
from $1.4 million during the 2005 first quarter due primarily to increased
advertising costs.
- 25 -
General and administrative expense of $2.7 million in the 2006 first
quarter was relatively unchanged from the general and administrative expense
recorded in the first quarter of 2005.
During the first quarter of 2006, Keystone recorded a defined benefit
pension credit of $12.2 million as compared to a defined benefit pension credit
in the 2005 first quarter of $3.2 million. The increased pension credit during
the first quarter of 2006 was a result of a $277 million increase in plan assets
from the end of 2004 to the end of 2005. In addition, Keystone was not required
to make any cash contributions for defined benefit pension plan fundings during
either 2006 or 2005. The Company currently anticipates during 2006 it will
record a defined benefit pension credit of $49.6 million and that no plan
fundings will be required during 2006. However, future variances from assumed
actuarial rates, including the rate of return on pension plan assets, may result
in increases or decreases in pension expense or credit and future funding
requirements.
During the first quarter of 2006, Keystone recorded general corporate
income of $486,000 as compared to recording $1.3 million of general corporate
expenses during the first quarter of 2005. This reduction in general corporate
expenses is due primarily to lower general insurance expense, franchise taxes
and retiree medical costs during the 2006 first quarter as compared to the 2005
first quarter. As a result of the 1114 Agreement that was entered into in
connection with the Company's emergence from Chapter 11 in August 2005, OPEB
expense during periods subsequent to that date is substantially less than in
periods prior to that date. During the first quarter of 2005, Keystone recorded
OPEB expense of approximately $4.4 million ($.5 million of which was included in
general corporate expenses) as compared to a $2.1 million OPEB credit recorded
in the 2006 first quarter ($.6 million of which was included in general
corporate expenses).
During the first quarters of 2006 and 2005, Keystone incurred $150,000 and
$3.3 million, respectively, of legal and professional fees relative to its
Chapter 11 proceedings and related reorganization activities including
activities post emergence related to closing the Chapter 11 cases and
liquidation of certain pre-petition subsidiaries.
Interest expense during the first quarter of 2006 was higher than the first
quarter of 2005 due primarily to higher debt levels and higher average interest
rates during 2006. The overall average interest rates in the 2005 period were
impacted by the fact the Company discontinued accruing interest on pre-petition
unsecured debt upon filing for Chapter 11 on February 2, 2004. Average
borrowings by the Company approximated $95.3 million during the first quarter of
2006 as compared to $76.5 million during the first quarter of 2005. During the
first quarter of 2006, the average interest rate on outstanding indebtedness was
5.0% per annum as compared 3.0% per annum during the 2005 first quarter.
Keystone currently anticipates average interest rates and debt levels in 2006
will be higher than their respective levels during 2005.
The principal reasons for the difference between the U.S. federal statutory
income tax rate and the Company's effective income tax rates are explained in
Note 6 to the Consolidated Financial Statements. At March 31, 2006, the Company
had recorded a deferred tax asset valuation allowance of $2.3 million resulting
in no net deferred tax assets. Keystone periodically reviews the recoverability
of its deferred tax assets to determine whether such assets meet the
"more-likely-than-not" recognition criteria. The Company will continue to review
the recoverability of its deferred tax assets, and based on such periodic
reviews, Keystone could recognize a change in the recorded valuation allowance
related to its deferred tax assets in the future. While the Company currently
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expects to report pre-tax income for financial reporting purposes during 2006,
it does not believe it will have sufficient positive evidence to conclude that
its net deferred income tax assets will meet the "more-likely-than-not"
recognition criteria anytime during 2006. As a result of the deferred tax asset
valuation allowance, the Company does not anticipate recognizing a significant
tax provision associated with its expected pre-tax income during 2006 until such
time as the Company determines (which might or might not occur during 2006) that
recognition of the benefit of its gross deferred income tax assets is
appropriate under GAAP.
As a result of the items discussed above, Keystone recorded net income
during the first quarter of 2006 of $21.7 million as compared to a net loss of
$1.3 million in the first quarter of 2005.
SEGMENT RESULTS OF OPERATIONS:
The Company's operating segments are organized along its manufacturing
facilities and include three reportable segments: (i) Keystone Steel and Wire
("KSW") which manufacturers and sells wire rod, wire and wire products for
agricultural, industrial, construction, commercial, original equipment
manufacturers and retail consumer markets, (ii) Engineered Wire Products ("EWP")
which manufacturers and sells welded wire reinforcement in both roll and sheet
form that is utilized in concrete construction products including pipe, pre-cast
boxes and applications for use in roadways, buildings and bridges and (iii)
Sherman Wire ("Sherman") which manufacturers and sells wire and wire products
for agricultural, industrial, construction, commercial, original equipment
manufacturers and retail consumer markets. See Note 3 to the Consolidated
Financial Statements.
Three months ended
March 31,
2005 2006
---- ----
(In thousands)
Revenues:
Keystone Steel and Wire $ 89,194 $117,680
Engineered Wire Products 12,051 12,618
Sherman/KWP 5,053 4,922
Eliminations (16,761) (16,105)
-------- --------
$ 89,537 $119,115
======== ========
Operating profit (loss):
Keystone Steel and Wire $(1,452) $ 8,199
Engineered Wire Products 1,639 873
Sherman/KWP (169) (64)
GAAP adjustments and eliminations 4,123 13,674
------- --------
$ 4,141 $ 22,682
======= ========
Keystone Steel & Wire
KSW's net sales in the 2006 first quarter increased by $28.5 million or 32%
to $117.7 million from $89.2 million in the first quarter of 2005 due primarily
to substantially higher shipment volumes partially offset by lower overall
per-ton product selling prices. KSW sold approximately 76,000 more tons of
products, a 62% increase, in the 2006 first quarter as compared to the first
quarter of 2005 although at selling prices $133 per-ton lower than per-ton
product selling prices in the 2005 first quarter. KSW believes the higher
shipment volume during the first quarter of 2006 was due to increased market
demand as well as the abnormally low shipment volume in the 2005 first quarter.
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During the 2006 and 2005 first quarters, approximately 11% and 15%,
respectively, of KSW's net sales were made to other Keystone entities.
Significantly all of the sales to other Keystone entities were sales of wire
rod.
During the first quarter of 2006, KSW recorded operating profit of $8.2
million as compared to an operating loss of $1.5 million in the 2005 first
quarter. The primary reasons for the increased operating profit in the 2006
period was a result of the net effects of increased shipment volumes, lower
costs for ferrous scrap, electrical power and OPEB expense all partially offset
by lower overall per-ton selling prices and natural gas costs.
Engineered Wire Products
EWP's net sales of $12.6 million during the first quarter of 2006 were
approximately $.6 million or 5% higher than during the first quarter of 2005 due
primarily to higher shipment volume partially offset by lower overall per-ton
product selling prices. During the 2006 first quarter, EWP sold 1,400 more tons
of products than during the first quarter of 2005 at per-ton product selling
prices approximately $50 per-ton lower than per-ton selling prices in the 2005
first quarter.
Primarily as a result of the lower per-ton product selling prices during
the first quarter of 2006, partially offset by lower cost for wire rod, EWP's
primary raw material, EWP recorded a $766,000 decline from 2005's operating
income to $873,000. EWP sources substantially all of its wire rod requirements
from KSW.
Sherman Wire/Keystone Wire Products
The 5,523 tons shipped by this segment during the first quarter of 2006
approximated shipment levels during the first quarter of 2005. This segment
recorded net sales of $4.9 million in the 2006 first quarter, as compared to net
sales of $5.1 million during the first quarter of 2005. This $131,000 decrease
was due primarily to a $33 per-ton decline in this segment's per-ton product
selling prices during the 2006 first quarter as compared to the 2005 first
quarter. The entities in this segment source substantially all of their wire rod
requirements from KSW. During the first quarter of 2006 and 2005, approximately
71% and 68%, respectively, of this segment's net sales were made to other
Keystone entities, primarily KSW. The majority of these sales were fabricated
wire products.
During the first quarter of 2006, this segment recorded a $64,000 operating
loss as compared to a $169,000 operating loss in the 2005 first quarter. The
primary reason for the improved operating performance in the 2006 first quarter
was lower OPEB costs resulting from the 1114 Agreement.
Outlook for 2006
As a result of the Company's strengthened financial position due to its
emergence from Chapter 11, management currently believes Keystone will be able
to recapture in 2006 a portion of the market that it lost during the last two
years. This market was lost due to customer concerns about the Company's
financial stability. As a result, management expects shipment volumes to
increase over 2005 levels during 2006. However, due to anticipated market
pressures and lower projected ferrous scrap costs, management currently believes
overall per-ton selling prices will decline in 2006 as compared to 2005. Despite
these lower selling prices, the Company expects ferrous scrap and energy costs
to remain relatively flat in 2006 as compared to 2005. However, these lower
selling prices will be tempered by substantially lower OPEB and reorganization
costs. As a result, Keystone expects it will report net income for financial
reporting purposes, and expects to report positive cash flows from operating
activities in 2006. In addition, as a result of significant accumulated net
- 28 -
operating losses, the benefit of which has not been previously recognized for
financial reporting purposes as the Company does not currently believe meets the
"more-likely-than-not" recognition criteria, the Company does not expect to
record significant net tax expense associated with its pre-tax income during
2006 until such time as the Company determines (which might or might not occur
during 2006) that recognition of the benefit of its gross deferred income tax
assets is appropriate under GAAP.
LIQUIDITY AND CAPITAL RESOURCES:
At March 31, 2006, Keystone had working capital of $24.1 million, including
$25.0 million of notes payable and current maturities of long-term debt as well
as outstanding borrowings under the Company's revolving credit facility of $41.4
million. The amount of available borrowings under Keystone's revolving credit
facility is based on formula-determined amounts of trade receivables and
inventories, less the amount of outstanding letters of credit. At March 31,
2006, unused credit available for borrowing under Keystone's revolving credit
facility was $14.9 million. The revolving credit facility requires daily cash
receipts be used to reduce outstanding borrowings, which results in the Company
maintaining zero cash balances when there are balances outstanding under this
credit facility. Accordingly, any outstanding balances under this facility are
always classified as a current liability regardless of the maturity date of the
facility.
Keystone's earnings during the first quarter of 2006 increased by
approximately $23.0 million over the 2005 first quarter and net cash used in
operations during the 2006 first quarter was $20.7 million less than net cash
used in operations during the 2005 first quarter as the Company used $2.3
million of cash in operations during the 2006 first quarter as compared to $23.0
million of cash used in operations during the 2005 first quarter. This decrease
in cash used in operations was due primarily to smaller increases in accounts
receivable and inventory levels during the 2006 first quarter than in the 2005
first quarter.
During the first quarter of 2006, Keystone made capital expenditures of
approximately $2.2 million primarily related to upgrades of production equipment
at KSW and a plant expansion at EWP as compared to $2.0 million in the 2005
first quarter. Capital expenditures for 2006 are expected to be approximately
$23.0 million and are related primarily to the EWP plant expansion. Such capital
expenditures are expected to be funded using cash flows from operations together
with borrowing availability under Keystone's credit facilities.
At March 31, 2006, the Company's financial statements reflected accrued
liabilities of $14.9 million ($8.6 million of which is included in liabilities
subject to compromise on the Company's balance sheet) for estimated remediation
costs for those environmental matters which Keystone believes are probable and
reasonably estimable. Although the Company has established an accrual for
estimated future required environmental remediation costs, there is no assurance
regarding the ultimate cost of remedial measures that might eventually be
required by environmental authorities or that additional environmental hazards,
requiring further remedial expenditures, might not be asserted by such
authorities or private parties. Accordingly, the costs of remedial measures may
exceed the amounts accrued. Keystone believes it is not possible to estimate the
range of costs for certain sites. The upper end of range of reasonably possible
costs to Keystone for sites for which the Company believes it is possible to
estimate costs is approximately $15.7 million. See Notes 10 and 11 to the
Consolidated Financial Statements for discussions of the Company's environmental
liabilities and current litigation.
Keystone is not expected to be required to make contributions to its
pension plan during 2006. Future variances from assumed actuarial rates,
- 29 -
including the rate of return on pension plan assets, may result in increases or
decreases to pension expense or credit and funding requirements in future
periods.
The Company periodically reviews the recoverability of its deferred tax
assets to determine whether such assets meet the "more-likely-than-not"
recognition criteria. At March 31, 2006, considering all factors believed to be
relevant, including the Company's recent operating results, its expected future
near-term productivity rates; cost of raw materials, electricity, labor and
employee benefits, environmental remediation, and retiree medical coverage;
interest rates; product mix; sales volumes and selling prices and the fact that
accrued OPEB expenses will become deductible over an extended period of time and
require the Company to generate significant amounts of future taxable income,
the Company believes its gross deferred tax assets do not currently meet the
"more-likely-than-not" realizability test. As such, the Company has provided a
deferred tax asset valuation allowance of approximately $2.3 million at March
31, 2006, or all of the Company's deferred tax asset. Keystone will continue to
review the recoverability of its deferred tax assets, and based on such periodic
reviews, the Company could change the valuation allowance related to its
deferred tax assets in the future. The Company does not currently expect it will
be appropriate to recognize a tax provision associated with its expected pre-tax
income during 2006 until such time as the Company determines (which might or
might not occur during 2006) that recognition of the benefit of its gross
deferred income tax assets is appropriate under GAAP.
Keystone incurs significant ongoing costs for plant and equipment and
substantial employee medical benefits for both current and retired employees. As
such, Keystone is vulnerable to business downturns and increases in costs, and
accordingly, routinely compares its liquidity requirements and capital needs
against its estimated future operating cash flows. Keystone is also taking
additional action towards improving its liquidity. Keystone has also considered,
and may in the future consider, the sale of certain divisions or subsidiaries
that are not necessary to achieve the Company's long-term business objectives.
However, there can be no assurance Keystone will be successful in any of these
or other efforts, or that if successful, they will provide sufficient liquidity
for the Company's operations during the next year.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Reference is made to the 2005 Annual Report for a discussion of the market
risks associated with changes in interest rates that affect the Company. There
have been no material changes in such market risks since the Company filed the
2005 Annual Report.
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ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures. The Company maintains a
system of disclosure controls and procedures. The term "disclosure controls and
procedures," as defined by Rule 13a-15(e) of the Securities and Exchange Act of
1934, as amended (the "Act"), means controls and other procedures that are
designed to ensure that information required to be disclosed in the reports that
the Company files or submits to the Securities and Exchange Commission (the
"SEC") is recorded, processed, summarized and reported, within the time periods
specified in the SEC's rules and forms. Disclosure controls and procedures
include, without limitation, controls and procedures designed to ensure that
information required to be disclosed by the Company in the reports that it files
or submits to the SEC under the Act is accumulated and communicated to the
Company's management, including its principal executive officer and its
principal financial officer, or persons performing similar functions, as
appropriate to allow timely decisions to be made regarding required disclosure.
Each of David L. Cheek, the Company's President and Chief Executive Officer, and
Bert E. Downing, Jr., the Company's Vice President, Chief Financial Officer,
Corporate Controller and Treasurer, have evaluated the Company's disclosure
controls and procedures as of March 31, 2006. Based upon their evaluation, these
executive officers have concluded the Company's disclosure controls and
procedures were effective as of the date of such evaluation.
Remediation of a Prior Material Weakness. A material weakness is a control
deficiency, or combination of control deficiencies, that results in more than a
remote likelihood that a material misstatement of the annual or interim
financial statements will not be prevented or detected. The Company has
previously concluded that the following control deficiencies constituted
material weaknesses in the Company's internal control over financial reporting:
(1) As of December 31, 2005, the Company did not maintain effective controls
over the completeness and accuracy of net sales and related cost of goods
sold. Specifically, the Company did not have controls designed and in place
to detect sales made under the terms F.O.B. at the customer's location.
Additionally, the Company did not maintain effective controls over the
review and monitoring of the accuracy and completeness of net sales and
costs of goods sold. This control deficiency resulted in adjustments to net
sales and cost of goods sold in the third quarter of 2005.
(2) As of December 31, 2005, the Company did not maintain effective controls
over the presentation and classification of cash overdrafts. Specifically,
effective controls were not designed and in place to ensure that cash
overdrafts were properly classified as indebtedness in the Company's
consolidated balance sheet, and that changes in its cash overdrafts were
properly included in the determination of cash flows from financing
activities. This control deficiency resulted in the restatement of the
Company's 2003 and 2004 annual consolidated financial statements and audit
adjustments to both its 2004 interim consolidated financial statements and
its annual and interim 2005 consolidated financial statements affecting
accounts payable and the current portion of long-term debt.
Each of these two control deficiencies could have resulted in a
misstatement of the aforementioned accounts that would result in a material
misstatement to the Company's annual or interim consolidated financial
statements that would not be prevented or detected.
Accordingly, management of the Company determined that each of these
control deficiencies constituted a material weakness at December 31, 2005.
- 31 -
In order to remediate the first material weakness discussed above, in March
2006, the Company modified its information system to appropriately identify
products shipped to its customers under delivery terms of F.O.B. at the customer
location. In addition, the Company instituted a quarterly close procedure,
implemented for the first time for the quarter ended March 31, 2006, to review
all sales within a specified number of weeks prior to the end of the quarter to
ensure the delivery terms are consistent with revenue recognition in the quarter
of shipment.
In order to remediate the second material weakness discussed above, in
March 2006 the Company revised the recurring reclassification journal entry used
in the preparation of its consolidated balance sheet to properly classify the
amount of any cash overdrafts as part of the current portion of long-term debt.
In addition, the Company instituted quarterly close procedures, implemented for
the first time for the quarter ended March 31, 2006, to ensure (i) that a
detailed review of the appropriate classification of any cash overdrafts in the
Company's balance sheet and statement of cash flow consolidation occurs each
quarter and (ii) the continued appropriateness of the reclassification journal
entry to classify bank overdrafts as part of the current portion of long-term
debt.
Accordingly, the Company has concluded these material weaknesses no longer
exist at March 31, 2006.
The Company currently expects that Section 404 of the Sarbanes-Oxley Act of
2002 will require the Company to annually include a management report on
internal control over financial reporting starting with the Company's Annual
Report on Form 10-K for the year ended December 31, 2007. The Company will have
to document, test and evaluate its internal control over financial reporting,
using a combination of internal and external resources. The process of
documenting, testing and evaluating the Company's internal control over
financial reporting under the applicable guidelines is expected to be complex
and time consuming, and available internal and external resources necessary to
assist the Company in the documentation and testing required to comply with
Section 404 could be limited. While the Company currently believes it will be
able to dedicate the appropriate resources, and that it will be able to fully
comply with Section 404 in its Annual Report on Form 10-K for the year ended
December 31, 2007 and be in a position to conclude that the Company's internal
control over financial reporting is effective as of December 31, 2007, because
the applicable requirements are complex and time consuming, and because
currently unforeseen events or circumstances beyond the Company's control could
arise, there can be no assurance that the Company will ultimately be able to
fully comply with Section 404 in its Annual Report on Form 10-K for the year
ended December 31, 2007 or whether it will be able to conclude that the
Company's internal control over financial reporting is effective as of December
31, 2007.
Changes in Internal Control Over Financial Reporting. Other than the
remediation of the material weaknesses discussed above, there have been no
changes in the Company's internal control over financial reporting during the
quarter ended March 31, 2006 that has materially affected, or is reasonably
likely to materially affect, the Company's internal control over financial
reporting.
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PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings
Reference is made to disclosure provided under the caption "Current
litigation" in Note 11 to the Consolidated Financial Statements.
ITEM 1A. Risk Factors
Reference is made to the 2005 Annual Report for a discussion of risk
factors related to the Company's businesses. There have been no material changes
in such risk factors since the Company filed the 2005 Annual Report.
ITEM 6. Exhibits
(a) The Company has retained a signed original of any exhibit listed below that
contains signatures, and the Company will provide any such exhibit to the
Commission or its staff upon request. The following exhibit is included
herein:
31.1 Chief Executive Officer's Certification Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Chief Financial Officer's Certification Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.1 Chief Executive and Chief Financial Officers' Certification Pursuant
to 18 U.S.C. Section 1350 as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
- 33 -
S I G N A T U R E S
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.
Keystone Consolidated Industries, Inc.
(Registrant)
Date: May 15, 2006 By /s/Bert E. Downing, Jr.
-------------------------------------
Bert E. Downing, Jr.
Vice President, Chief Financial
Officer, Corporate Controller
and Treasurer
(Principal Financial and Accounting
Officer)
- 34 -