FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED JUNE 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _________________ TO __________________
COMMISSION FILE NUMBER: 001-13931
-------------------------------------------------------
PENTACON, INC.
- --------------------------------------------------------------------------------
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 76-0531585
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(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
10375 RICHMOND AVENUE, SUITE 700 HOUSTON, TEXAS 77042
- --------------------------------------------------------------------------------
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
713-860-1000
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(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
INDICATE BY CHECK MARK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS REQUIRED
TO BE FILED BY SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 DURING
THE PRECEDING 12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE REGISTRANT WAS
REQUIRED TO FILE SUCH REPORTS), AND (2) HAS BEEN SUBJECT TO SUCH FILING
REQUIREMENTS FOR THE PAST 90 DAYS.
YES [X] NO [ ]
NUMBER OF SHARES OF COMMON STOCK OF THE REGISTRANT, PAR VALUE $.01 PER SHARE,
OUTSTANDING AT JULY 30, 1999 WAS 16,668,129.
PENTACON, INC.
FORM 10-Q FOR THE THREE MONTHS ENDED JUNE 30, 1999
INDEX
Part I - Financial Information
Item 1 - Financial Statements
Historical Consolidated Balance Sheets -
Pentacon, Inc. as of June 30, 1999
and December 31, 1998................................3
Consolidated Statements of Operations -
Pentacon, Inc. Historical for the
Three Months and Six Months ended
June 30, 1999 and 1998 and Pro Forma
for the Three Months and Six Months
ended June 30, 1999 and 1998.........................4
Historical Consolidated Statements of
Cash Flows - Pentacon, Inc. for
the Six Months ended June 30, 1999 and 1998..........8
Notes to Consolidated Financial Statements.................9
Item 2 - Management's Discussion and Analysis of
Financial Condition and Results of Operations.......13
Part II - Other Information
Item 4 - Submission of Matters to a Vote of Security Holders....20
Item 6 - Exhibits and Reports on Form 8-K.......................21
Signature.......................................................21
2
PENTACON, INC.
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PENTACON, INC.
HISTORICAL CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
JUNE 30, 1999 DECEMBER 31, 1998
------------- -----------------
(IN THOUSANDS, EXCEPT SHARE DATA)
ASSETS
Cash and cash equivalents .................................. $ 401 $ 744
Accounts receivable ........................................ 42,943 34,610
Inventories ................................................ 122,243 116,390
Deferred income taxes ...................................... 5,459 4,216
Other current assets ....................................... 540 897
-------- --------
Total current assets ................... 171,586 156,857
Property and equipment, net of accumulated depreciation..... 9,352 7,404
Goodwill, net of accumulated amortization .................. 134,712 134,528
Deferred income taxes ...................................... 672 672
Other assets ............................................... 4,625 1,892
-------- --------
Total assets ........................... $320,947 $301,353
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable ........................................... $ 28,978 $ 33,895
Accrued expenses ........................................... 15,118 8,875
Income taxes payable ....................................... 1,383 3,384
Current maturities of long-term debt ....................... 423 31,957
-------- --------
Total current liabilities .............. 45,902 78,111
Long-term debt, net of current maturities .................. 157,146 106,632
-------- --------
Total liabilities ...................... 203,048 184,743
Commitments and contingencies
Preferred stock, $.01 par value, 10,000,000 shares
authorized , no shares issued and outstanding............. -- --
Common stock, $.01 par value, 51,000,000 shares
authorized, 16,668,129 shares issued and outstanding...... 167 167
Additional paid in capital ................................. 100,631 100,501
Retained earnings .......................................... 17,101 15,942
-------- --------
Total stockholders' equity ............... 117,899 116,610
-------- --------
Total liabilities and stockholders' equity $320,947 $301,353
======== ========
The accompanying notes are an integral part of these statements.
3
PENTACON, INC.
HISTORICAL CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS ENDED
--------------------------
JUNE 30,
--------------------------
1999 1998
-------- --------
(IN THOUSANDS, EXCEPT SHARE DATA)
Revenues ............................. $ 71,197 $ 30,380
Cost of sales ........................ 48,561 46,428
-------- --------
Gross profit ............... 22,636 16,048
Operating expenses ................... 15,422 10,931
Goodwill amortization ................ 865 390
-------- --------
Operating income ........... 6,349 4,727
Other (income) expense, net .......... (32) (49)
Interest expense ..................... 4,266 369
-------- --------
Income before taxes ....... 2,115 4,407
Income taxes ......................... 1,215 2,286
-------- --------
Net income ................. $ 900 $ 2,121
======== ========
Net income per share:
Basic ...................... $ 0.05 $ 0.13
Diluted .................... $ 0.05 $ 0.13
The accompanying notes are an integral part of these statements.
4
PENTACON, INC.
HISTORICAL CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
SIX MONTHS ENDED
---------------------------
JUNE 30,
---------------------------
1999 1998
--------- ---------
(IN THOUSANDS, EXCEPT SHARE DATA)
Revenues ............................... $ 137,747 $ 66,284
Cost of sales .......................... 93,209 42,767
--------- ---------
Gross profit ................. 44,538 23,517
Operating expenses ..................... 30,434 18,150
Goodwill amortization .................. 1,723 469
--------- ---------
Operating income ............. 12,381 4,898
Write-off of debt issuance costs ....... 2,308 --
Other (income) expense, net ............ (50) (54)
Interest expense ....................... 7,458 681
--------- ---------
Income before taxes .......... 2,665 4,271
Income taxes ........................... 1,506 2,241
--------- ---------
Net income ................... $ 1,159 $ 2,030
========= =========
Net income per share:
Basic ........................ $ 0.07 $ 0.19
Diluted ...................... $ 0.07 $ 0.18
The accompanying notes are an integral part of these statements.
5
PENTACON, INC.
PRO FORMA CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS ENDED
JUNE 30,
-------------------------
1999 1998
-------- --------
(IN THOUSANDS, EXCEPT SHARE DATA)
Revenues ................................. $ 71,197 $ 46,428
Cost of sales ............................ 48,561 30,380
-------- --------
Gross profit ................... 22,636 16,048
Operating expenses ....................... 15,422 10,931
Goodwill amortization .................... 865 390
-------- --------
Operating income ............... 6,349 4,727
Other (income) expense, net .............. (32) (49)
Interest expense ......................... 4,266 369
-------- --------
Income before taxes ............ 2,115 4,407
Income taxes ............................. 1,215 1,960
-------- --------
Net income ..................... $ 900 $ 2,447
======== ========
Net income per share:
Basic .......................... $ 0.05 $ 0.15
Diluted ........................ $ 0.05 $ 0.15
The accompanying notes are an integral part of these statements.
6
PENTACON, INC.
PRO FORMA CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
SIX MONTHS ENDED
JUNE 30,
-------------------------
1999 1998
--------- ---------
(IN THOUSANDS, EXCEPT SHARE DATA)
Revenues ................................. $ 137,747 $ 87,725
Cost of sales ............................ 93,209 57,549
--------- ---------
Gross profit ................... 44,538 30,176
Operating expenses ....................... 30,434 20,721
Goodwill amortization .................... 1,723 764
--------- ---------
Operating income ............... 12,381 8,691
Write-off of debt issuance costs ......... 2,308 --
Other (income) expense, net .............. (50) (79)
Interest expense ......................... 7,458 629
--------- ---------
Income before taxes ............ 2,665 8,141
Income taxes ............................. 1,506 3,644
--------- ---------
Net income ..................... $ 1,159 $ 4,497
========= =========
Net income per share:
Basic .......................... $ 0.07 $ 0.29
Diluted ........................ $ 0.07 $ 0.29
The accompanying notes are an integral part of these statements.
7
PENTACON, INC.
HISTORICAL CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
SIX MONTHS ENDED
----------------------
JUNE 30,
----------------------
1999 1998
--------- --------
(IN THOUSANDS)
Cash Flows From Operating Activities:
Net income ............................................. $ 1,159 $ 2,030
Adjustments to reconcile net income to net cash used in
operating activities:
Depreciation and amortization .......................... 2,836 849
Deferred income taxes .................................. 43 212
Compensation expense related to issuance of
management shares .................................... -- 1,800
Write-off of debt issuance costs ....................... 2,308 --
Changes in operating assets and liabilities:
Accounts receivable .............................. (8,395) 336
Inventories ...................................... (6,720) (6,204)
Other current assets ............................. 64 140
Accounts payable and accrued expenses ............ (1,216) (4,273)
Income taxes payable ............................. (2,001) (4,204)
Other assets and liabilities, net ................ (908) 1,495
--------- --------
Net cash used in operating activities ................ (12,830) (7,819)
Cash Flows From Investing Activities:
Capital expenditures ................................... (2,826) (2,010)
Cash paid for acquisitions, net of cash acquired ....... -- (3,917)
Cash paid for Founding Companies, net of cash acquired . -- (21,948)
Other .................................................. -- 19
--------- --------
Net cash used in investing activities ................ (2,826) (27,856)
Cash Flows From Financing Activities:
Principal payments on debt ............................. (171,916) (49,361)
Borrowings of debt ..................................... 190,856 35,600
Proceeds from issuance of common stock, net of
offering costs ....................................... -- 50,815
Debt issuance costs .................................... (3,627) (299)
--------- --------
Net cash provided by financing activities ............ 15,313 36,755
(Decrease)Increase in cash and cash equivalents ............ (343) 1,080
Cash and cash equivalents, beginning of period ............. 744 --
--------- --------
Cash and cash equivalents, end of period ................... $ 401 $ 1,080
========= ========
The accompanying notes are an integral part of these statements.
8
PENTACON, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1999
(UNAUDITED)
1. BASIS OF PRESENTATION
Pentacon, Inc. ("Pentacon" or the "Company") was incorporated in March
1997. On March 10, 1998, Pentacon and separate wholly-owned subsidiaries
acquired in separate transactions, simultaneously with the closing of its
initial public offering (the "Offering") of its common stock, five businesses
(the "Initial Acquisitions"): Alatec Products, Inc. (Alatec), AXS Solutions,
Inc. (AXS), Capitol Bolt & Supply, Inc. (Capitol), Maumee Industries, Inc.
(Maumee), and Sales Systems, Limited (SSL), collectively referred to as the
"Founding Companies." The consideration for the Initial Acquisitions consisted
of a combination of cash and common stock. Because (i) the stockholders of the
Founding Companies owned a majority of the outstanding shares of Pentacon common
stock following the Offering and the Initial Acquisitions, and (ii) the
stockholders of Alatec received the greatest number of shares of Pentacon common
stock among the stockholders of the Founding Companies, for financial statement
presentation purposes, Alatec has been identified as the accounting acquiror.
The acquisitions of the remaining Founding Companies have been accounted for
using the purchase method of accounting. Therefore Alatec's historical financial
statements for all periods prior to March 10, 1998 are presented as the
historical financial statements of the registrant. Unless the context otherwise
requires, all references herein to the Company include Pentacon, the Founding
Companies and acquisitions subsequent to the Offering ("Subsequent
Acquisitions").
In October 1998, the Company changed its year end from September 30 to
December 31. A Transition Report on Form 10-Q was filed for the three-month
transition period ended December 31, 1998. The accompanying unaudited interim
financial statements are prepared pursuant to the Rules and Regulations for
reporting on Form 10-Q. Accordingly, certain information and footnotes required
by generally accepted accounting principles for complete financial statements
are not included herein. The Company believes all adjustments necessary for a
fair presentation of these statements have been included and are of a normal and
recurring nature. The statements should be read in conjunction with the
financial statements and related notes thereto included in the Company's Annual
Report on Form 10-K for the fiscal year ended September 30, 1998 and the
Transition Report on Form 10-Q filed for the three-month transition period ended
December 31, 1998.
The pro forma financial information for the three and six months ended
June 30, 1998 includes the results of Pentacon combined with the Founding
Companies as if the Initial Acquisitions had occurred at the beginning of the
three- and six-month periods. The pro forma financial information includes the
effects of (i) the Initial Acquisitions (ii) the Offering (iii) certain
reductions in salaries and benefits to the former owners of the Founding
Companies to which they agreed prospectively (iv) certain reductions in lease
expense paid to the former owners of the Founding Companies to which they agreed
prospectively (v) elimination of non-recurring, non-cash compensation charges
related to common stock issued to management (vi) amortization of goodwill
resulting from the Initial Acquisitions and (vii) advances under the Bank Credit
Facility (see Note 4) including decreases in interest expense resulting from the
repayment or refinancing of the Founding Companies' debt and (viii) adjustments
to the provisions for federal and state income taxes. Subsequent Acquisitions
are included in the Historical and Pro Forma Consolidated Statements of
Operations only for those periods subsequent to the dates of acquisition. The
pro forma financial information may not be comparable to and may not be
indicative of the Company's post-acquisition results of operations because the
Founding Companies were not under common control or management.
9
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
There has been no significant change in the accounting policies of the
Company during the periods presented. For a description of these policies, refer
to Note 1 of the Notes to Consolidated Financial Statements of Pentacon included
in the Company's Annual Report on Form 10-K for the fiscal year ended September
30, 1998.
3. ACQUISITIONS
During the year ended December 31, 1998, the Company completed four
acquisitions in addition to the acquisitions of the Founding Companies. In May
1998, the Company acquired Pace Products, Inc., a distributor of fasteners and
other small parts which also provides inventory procurement and management
services primarily to the telecommunications industry. In June 1998, the Company
acquired D-Bolt Company Inc., a distributor of fasteners and other small parts
primarily to the fabrication, construction and mining industries. In July 1998,
the Company acquired Texas International Aviation, Inc., a distributor of
fasteners and other small parts which provides inventory procurement and
management services primarily to the aerospace industry. In September 1998, the
Company acquired ASI Aerospace Group, Inc., a distributor of fasteners and other
small parts which provides inventory procurement and management services
primarily to the aerospace industry. The consideration paid for the Subsequent
Acquisitions consisted of an aggregate of 1,134,010 shares of common stock and
approximately $77.0 million in cash. The acquisitions were accounted for using
the purchase method of accounting and the results of operations of the acquired
companies are included from the date of acquisition. The allocations of purchase
price to the Founding Companies' assets acquired and liabilities assumed was
assigned and recorded based on fair market values. The allocation of purchase
price to the Subsequent Acquisitions' assets acquired and liabilities assumed
has been initially assigned and recorded based on preliminary estimates of fair
market value and may be revised as additional information concerning the
valuation of such assets and liabilities becomes available.
If all completed acquisitions, including the Founding Companies,
were effective on the first day of the period being reported, the unaudited pro
forma revenues, gross margin, operating income and net income would have been:
SIX MONTHS ENDED
JUNE 30,
---------------------------
1999 1998
--------- ----------
(IN THOUSANDS, EXCEPT SHARE DATA)
Revenues ........................ $137,747 $145,133
Gross margin .................... 44,538 48,842
Operating income ................ 12,381 17,857
Write-off of debt issuance
costs ......................... 2,308 --
Interest expense ................ 7,458 5,248
Net income ...................... 1,159 6,784
Net income per share:
Basic ......................... $ 0.07 $ 0.41
Diluted ....................... $ 0.07 $ 0.40
10
4. LONG-TERM DEBT
In March 1999, the Company sold $100 million of Senior Subordinated Notes
(the "Notes") due April 1, 2009. The net proceeds of $94.2 million, after the
original issue discount and paying underwriter's commissions, from the offering
of the Notes were used to repay indebtedness under the Company's credit
agreement (the "Bank Credit Facility"). The Notes accrue interest at 12 1/4%
which is payable on April 1 and October 1 of each year. The Notes are
publicly-registered and subordinated to all existing and future senior
subordinated obligations and will rank senior to all subordinated indebtedness.
The indenture governing the Notes contains covenants that limit the Company's
ability to incur additional indebtedness, pay dividends, make investments and
sell assets. At June 30, 1999, the Company was in compliance with the covenants.
Each of the Company's subsidiaries which are wholly-owned, fully,
unconditionally and jointly and severally guarantees the Notes on a senior
subordinated basis.
In connection with the issuance of the Notes in March 1999, the Company
amended its Bank Credit Facility to provide a revolving line of credit of up to
$85 million (subject to a borrowing base limitation) to be used for general
corporate purposes, future acquisitions, capital expenditures and working
capital. The Bank Credit Facility is secured by Company stock and assets.
Advances under the Bank Credit Facility bear interest at the banks' designated
variable rate plus a margin of 25 to 150 basis points. At the Company's option,
the loans may bear interest based on a designated London interbank offered rate
plus a margin of 175 to 325 basis points. Commitment fees of 25 to 50 basis
points per annum are payable on the unused portion of the line of credit. The
Bank Credit Facility contains a provision for standby letters of credit up to
$5.0 million. The Bank Credit Facility prohibits the payment of dividends by the
Company, restricts the Company's incurring or assuming other indebtedness and
requires the Company to comply with certain financial covenants including a
minimum net worth, senior debt leverage ratio, total debt leverage ratio, and
minimum fixed charge ratio. At June 30, 1999, the Company was in compliance with
the covenants. The Bank Credit Facility will terminate and all amounts
outstanding thereunder, if any, will be due and payable December 31, 2001. At
June 30, 1999, the Company has approximately $21.5 million available under the
Bank Credit Facility. In connection with the amendment of and reduction in the
Bank Credit Facility, the Company recorded a $2.3 million ($.07 impact on
earnings per share) noncash charge for the write-off of debt issuance costs.
5. EARNINGS PER SHARE
Pro forma and historical net income per share for the period ended June
30, 1998 is computed based on the weighted average shares of common stock
outstanding. The pro forma calculation assumes the Initial Acquisitions and
Offering occurred at the beginning of the period. The computation of historical
and pro forma net income per share for the three- and six-month periods ended
June 30, 1999 is based on the weighted average shares of common stock
outstanding.
11
Basic and diluted historical net income per share is computed based on the
following information:
THREE MONTHS ENDED SIX MONTHS ENDED
-------------------- --------------------
JUNE 30, JUNE 30,
-------------------- --------------------
1999 1998 1999 1998
------- ------- ------- -------
(IN THOUSANDS)
BASIC:
Net income ........................... $ 900 $ 2,121 $ 1,159 $ 2,030
======= ======= ======= =======
Average common shares ................ 16,668 15,721 16,668 10,907
======= ======= ======= =======
DILUTED:
Net income ........................... $ 900 $ 2,121 $ 1,159 $ 2,030
======= ======= ======= =======
Average common shares ................ 16,668 15,721 16,668 10,907
Common share equivalents:
Warrants ......................... -- 25 -- 16
Options .......................... 1 188 -- 115
------- ------- ------- -------
Total common share equivalents 1 213 -- 131
------- ------- ------- -------
Average common shares and
common share equivalents ..... 16,669 15,934 16,668 11,038
======= ======= ======= =======
Basic and diluted pro forma net income per share is computed based on the
following information:
THREE MONTHS ENDED SIX MONTHS ENDED
-------------------- ---------------------
JUNE 30, JUNE 30,
-------------------- ---------------------
1999 1998 1999 1998
------- ------- -------- -------
(IN THOUSANDS)
BASIC:
Net income ......................... $ 900 $ 2,447 $ 1,159 $ 4,497
======= ======= ======== =======
Average common shares .............. 16,668 15,721 16,668 15,626
======= ======= ======== =======
DILUTED:
Net income ......................... $ 900 $ 2,447 $ 1,159 $ 4,497
======= ======= ======== =======
Average common shares .............. 16,668 15,721 16,668 15,626
Common share equivalents:
Warrants ....................... -- 25 -- 16
Options ........................ 1 188 -- 114
------- ------- -------- -------
Total common share equivalents 1 213 -- 130
------- ------- -------- -------
Average common shares and
common share equivalents ..... 16,669 15,934 16,668 15,756
======= ======= ======== =======
12
6. INCOME TAXES
The provision for income taxes included in the Historical Consolidated
Statement of Operations for the three- and six-month periods ended June 30, 1999
assumes the application of statutory federal and state income tax rates and the
non-deductibility of goodwill amortization. The provision for income taxes
included in the Historical Consolidated Statement of Operations for the three-
and six-month periods ended June 30, 1998 reflects the activity of the
accounting acquiror prior to the Initial Acquisitions, the non-deductibility of
goodwill amortization and the non-deductibility of compensation related to
common stock sold to management. The provision for income taxes included in the
Pro Forma Consolidated Statements of Operations for the three- and six-month
periods ended June 30, 1999 and 1998 assumes the application of statutory
federal and state income tax rates and the non-deductibility of goodwill
amortization. Interim period income tax provisions are based upon estimates of
annual effective tax rates and events may occur which will cause such rates to
vary.
7. COMMITMENTS AND CONTINGENCIES
The Company is involved in various legal proceedings that have arisen in
the ordinary course of business. While it is not possible to predict the outcome
of such proceedings with certainty, in the opinion of the Company, all such
proceedings are either adequately covered by insurance or, if not so covered,
should not ultimately result in any liability which would have a material
adverse effect on the financial position, liquidity or results of operations of
the Company.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
INTRODUCTION
The following discussion should be read in conjunction with the financial
statements of the Company and related notes thereto and management's discussion
and analysis of financial condition and results of operations related thereto
which are included in the Company's Annual Report on Form 10-K for the fiscal
year ended September 30, 1998 and the Transition Report on Form 10-Q filed for
the three-month transition period ended December 31, 1998. As noted in the
transition report, the Company's year end has been changed to December 31 from
September 30. This discussion contains forward-looking statements that are
subject to certain risks, uncertainties and assumptions. Should one or more of
these risks or uncertainties materialize, or should underlying assumptions prove
incorrect, actual results may vary materially from those anticipated, estimated
or projected. Key factors that could cause actual results to differ materially
from expectations include, but are not limited to (i) estimates of costs or
projected or anticipated changes to cost estimates relating to entering new
markets or expanding in existing markets (ii) changes in economic and industry
conditions (iii) changes in regulatory requirements (iv) changes in interest
rates (v) levels of borrowings under the Company's Bank Credit Facility (vi)
accumulation of excess inventories by certain customers in the aerospace
industry and (vii) volume or price adjustments with respect to sales to major
customers. These and other risks and assumptions are described in the Company's
reports that are available from the United States Securities and Exchange
Commission.
RESULTS OF OPERATIONS
In October 1998, the Company changed its year end from September 30 to
December 31. A
13
Transition Report on Form 10-Q has been filed for the three-month transition
period ended December 31, 1998.
The pro forma financial information for the three- and six- months ended
June 30, 1999 and 1998 includes the results of Pentacon combined with the
Founding Companies as if the Initial Acquisitions had occurred at the beginning
of each respective three- and six-month period. The pro forma financial
information includes the effects of (i) the Initial Acquisitions (ii) the
Offering (iii) certain reductions in salaries and benefits to the former owners
of the Founding Companies to which they agreed prospectively (iv) certain
reductions in lease expense paid to the former owners of the Founding Companies
to which they agreed prospectively (v) elimination of non-recurring, non-cash
compensation charges related to common stock issued to management (vi)
amortization of goodwill resulting from the Initial Acquisitions and (vii)
advances under the Bank Credit Facility (see Note 4 to the Financial Statements)
including decreases in interest expense resulting from the repayment or
refinancing of the Founding Companies' debt and (viii) adjustments to the
provisions for federal and state income taxes. Subsequent Acquisitions are
included in the Pro Forma Consolidated Statements of Operations only for those
periods subsequent to the dates of acquisition. The pro forma financial
information may not be comparable to and may not be indicative of the Company's
post-acquisition results of operations because the Founding Companies were not
under common control or management.
Quarterly results may also be materially affected by the timing and
magnitude of acquisitions, assimilation costs, costs of opening new facilities,
gain or loss of a material customer and variation in product mix. Accordingly,
the operating results for any three-month period are not necessarily indicative
of the results that may be achieved for any subsequent three- or six-month
period or for a full year.
PRO FORMA THREE MONTH PERIODS ENDED JUNE 30, 1999 AND 1998
The following table sets forth certain selected pro forma financial data
and the related amounts as a percentage of pro forma revenues for the periods
indicated:
PRO FORMA
THREE MONTH PERIOD ENDED
JUNE 30,
--------------------------------------------
1999 1998
------------------- -------------------
(DOLLARS IN THOUSANDS)
Revenues ........................ $71,197 100.0% $46,428 100.0%
Cost of sales ................... 48,561 68.2 30,380 65.4
------- ----- ------- -----
Gross profit .......... 22,636 31.8 16,048 34.6
Operating expenses .............. 15,422 21.7 10,931 23.6
Goodwill amortization ........... 865 1.2 390 0.8
------- ----- ------- -----
Operating income ...... $ 6,349 8.9% $ 4,727 10.2%
======= ===== ======= =====
REVENUES
Pro forma revenues increased 53.4% to $71.2 million for the three months
ended June 30, 1999 from $46.4 million for the three months ended June 30, 1998.
The increase in pro forma revenues was attributable primarily to the Subsequent
Acquisitions and, to a lesser extent, internal revenue growth of 3.3%
experienced by the Founding Companies. The modest internal revenue growth
resulted from increased revenues in the industrial business offset by a decline
in our aerospace business and lower pricing to a major industrial customer.
14
COST OF SALES
Pro forma cost of sales increased $18.2 million, or 59.9%, to $48.6
million for the three months ended June 30, 1999 from $30.4 million for the
three months ended June 30, 1998. As a percentage of pro forma revenues, pro
forma cost of sales increased from 65.4% in the three months ended June 30, 1998
to 68.2% in the three months ended June 30, 1999. The increase in pro forma cost
of sales as a percentage of pro forma revenues was a result of lower margins
historically attained by the Subsequent Acquisitions and lower margins on new
business with an existing customer in our industrial business.
OPERATING EXPENSES
Pro forma operating expenses increased $4.5 million, or 41.3%, to $15.4
million for the three months ended June 30, 1999 from $10.9 million for the
three months ended June 30, 1998. As a percentage of pro forma revenues, pro
forma operating expenses decreased to 21.7% for the three months ended June 30,
1999 from 23.6% for the three months ended June 30, 1998. The decrease was
primarily attributable to lower operating expenses as a percentage of revenues
historically attained by the Subsequent Acquisitions partially offset by
additional costs associated with additional sales to an existing customer in our
industrial business.
OPERATING INCOME
Due to the factors discussed above, pro forma operating income increased
$1.6 million to $6.3 million for the three months ended June 30, 1999 from $4.7
million for the three months ended June 30, 1998. As a percentage of pro forma
revenues, pro forma operating income decreased to 8.9% for the three months
ended June 30, 1999 from 10.2% for the three months ended June 30, 1998.
NON-OPERATING COSTS AND EXPENSES
Interest expense for the three months ended June 30, 1999 totaled $4.3
million compared to $0.4 million for the three months ended June 30, 1998. The
increase in interest expense primarily results from additional debt incurred for
the Subsequent Acquisitions and the higher rate of interest on the Senior
Subordinated Notes issued in March 1999.
PROVISION FOR INCOME TAXES
The provision for income taxes for the three months ended June 30, 1999
was $1.2 million (an effective rate of 57.4%) compared with $2.0 million (an
effective rate of 44.5%) for the three months ended June 30, 1998. The higher
effective tax rate for the quarter ended June 30, 1999 primarily related to the
increase in non-deductible goodwill amortization that resulted from the
Subsequent Acquisitions.
15
PRO FORMA SIX MONTH PERIODS ENDED JUNE 30, 1999 AND 1998
The following table sets forth certain selected pro forma financial data
and the related amounts as a percentage of pro forma revenues for the periods
indicated:
PRO FORMA
SIX MONTH PERIOD ENDED
JUNE 30,
---------------------------------------------
1999 1998
------------------- -------------------
(DOLLARS IN THOUSANDS)
Revenues ...................... $137,747 100.0% $ 87,725 100.0%
Cost of sales ................. 93,209 67.7 57,549 65.6
-------- ----- -------- -----
Gross profit ....... 44,538 32.3 30,176 34.4
Operating expenses ............ 30,434 22.0 20,721 23.6
Goodwill amortization ......... 1,723 1.3 764 0.9
-------- ----- -------- -----
Operating income $ 12,381 9.0% $ 8,691 9.9%
======== ===== ======== =====
REVENUES
Pro forma revenues increased 57.0% to $137.7 million for the six months
ended June 30, 1999 from $87.7 million for the six months ended June 30, 1998.
The increase in pro forma revenues was attributable primarily to the Subsequent
Acquisitions and, to a lesser extent, internal revenue growth of 3.6%
experienced by the Founding Companies. The modest internal revenue growth
resulted from increased revenues in the industrial business offset by a decline
in our aerospace business and lower pricing to a major industrial customer.
COST OF SALES
Pro forma cost of sales increased $35.7 million, or 62.1%, to $93.2
million for the six months ended June 30, 1999 from $57.5 million for the six
months ended June 30, 1998. As a percentage of pro forma revenues, pro forma
cost of sales increased from 65.6% in the six months ended June 30, 1998 to
67.7% in the six months ended June 30, 1999. The increase in pro forma cost of
sales as a percentage of pro forma revenues was a result of lower margins
historically attained by the Subsequent Acquisitions as compared to the Initial
Acquisitions and lower margins on new business with an existing customer in our
industrial business.
OPERATING EXPENSES
Pro forma operating expenses increased $9.7 million, or 46.9%, to $30.4
million for the six months ended June 30, 1999 from $20.7 million for the six
months ended June 30, 1998. As a percentage of pro forma revenues, pro forma
operating expenses decreased to 22.0% for the six months ended June 30, 1999
from 23.6% for the six months ended June 30, 1998. The decrease was primarily
attributable to lower operating expenses as a percentage of revenues
historically attained by the Subsequent Acquisitions partially offset by
additional costs associated with additional sales to an existing customer in our
industrial business.
OPERATING INCOME
Due to the factors discussed above, pro forma operating income increased
$3.7 million to $12.4 million for the six months ended June 30, 1999 from $8.7
million for the six months ended June
16
30, 1998. As a percentage of pro forma revenues, pro forma operating income
decreased to 9.0% for the six months ended June 30, 1999 from 9.9% for the six
months ended June 30, 1998.
NON-OPERATING COSTS AND EXPENSES
The write-off of debt issuance costs during the six months ended June 30,
1999 resulted from the amendment of the Company's Bank Credit Facility in
connection with the Senior Subordinated Notes issued in March 1999. Interest
expense for the six months ended June 30, 1999 totaled $7.5 million compared to
$0.6 million for the six months ended June 30, 1998. The increase in interest
expense primarily results from additional debt incurred for the Subsequent
Acquisitions and the higher rate of interest on the Senior Subordinated Notes
issued in March 1999.
PROVISION FOR INCOME TAXES
The provision for income taxes for the six months ended June 30, 1999 was
$1.5 million (an effective rate of 56.5%) compared with $3.6 million (an
effective rate of 44.8%) for the six months ended June 30, 1998. The higher
effective tax rate for the six months ended June 30, 1999 primarily related to
the increase in non-deductible goodwill amortization that resulted from the
Subsequent Acquisitions.
HISTORICAL THREE MONTH PERIODS ENDED JUNE 30, 1999 AND 1998
The historical financial information represents the results of Pentacon
subsequent to the Initial Acquisitions and the Offering on March 10, 1998. The
historical financial information for the three-month period ended June 30, 1999
is the same as the pro forma financial information discussed in the preceding
section. However, the provision for income taxes in the three-month period ended
June 30, 1998 differed as a result of non-deductible goodwill amortization and
the non-deductible $1.8 million compensation expense related to the sale of
common stock to management.
HISTORICAL SIX MONTH PERIODS ENDED JUNE 30, 1999 AND 1998
The historical financial information represents the information of Alatec
prior to the Initial Acquisitions and the Offering and the consolidated results
of Pentacon Subsequent to the Initial Acquisitions and the Offering on March 10,
1998. The following table sets forth certain selected historical financial data
and the related amounts as a percentage of historical revenues for the periods
indicated:
HISTORICAL
SIX MONTH PERIOD ENDED
JUNE 30,
----------------------------------------------
1999 1998
-------------------- --------------------
(DOLLARS IN THOUSANDS)
Revenues ................... $137,747 100.0% $ 66,284 100.0%
Cost of sales .............. 93,209 67.7 42,767 64.5
-------- ----- -------- -----
Gross profit ......... 44,538 32.3 23,517 35.5
Operating expenses ......... 30,434 22.0 18,150 27.4
Goodwill amortization ...... 1,723 1.3 469 0.7
-------- ----- -------- -----
Operating income ...... $ 12,381 9.0% $ 4,898 7.4%
======== ===== ======== =====
17
REVENUES
Revenues increased $71.4 million, or 107.7%, from $66.3 million for the
six months ended June 30, 1998 to $137.7 million for the six months ended June
30, 1999. The increase in revenues primarily results from the Initial
Acquisitions on March 10, 1998 and the Subsequent Acquisitions.
COST OF SALES
Cost of sales increased $50.4 million, or 117.8%, from $42.8 million for
the six months ended June 30, 1998 to $93.2 million for the six months ended
June 30, 1999. The increase in cost of sales primarily results from the Initial
Acquisitions on March 10, 1998 and the Subsequent Acquisitions.
OPERATING EXPENSES
Operating expenses increased $12.2 million, or 67.0%, from $18.2 million
for the six months ended June 30, 1998 to $30.4 million for the six months ended
June 30, 1999. The increase in operating expenses primarily results from the
Initial Acquisitions and the Offering on March 10, 1998 and the Subsequent
Acquisitions.
OPERATING INCOME
Operating income increased $7.5 million, or 153.1%, from $4.9 million for
the six months ended June 30, 1998 to $12.4 million for the six months ended
June 30, 1999 due to the factors noted above.
NON OPERATING COSTS AND EXPENSES
The write-off of debt issuance costs during the six months ended June 30,
1999 resulted from the amendment of the Company's Bank Credit Facility in
connection with the Senior Subordinated Notes issued in March 1999. Interest
expense for the six months ended June 30, 1999 totaled $7.5 million compared to
$0.7 million for the six months ended June 30, 1998. The increase in interest
expense primarily results from additional debt incurred for the Subsequent
Acquisitions and the higher rate of interest on the Senior Subordinated Notes
issued in March 1999.
PROVISION FOR INCOME TAXES
The provision for income taxes for the six months ended June 30, 1999 was
$1.5 million (an effective rate of 56.5%) compared with $2.2 million (an
effective rate of 52.3%) for the six months ended June 30, 1998. The higher
effective tax rate for the quarter ended June 30, 1999 primarily related to the
increase in non-deductible goodwill amortization that resulted from the
Subsequent Acquisitions.
LIQUIDITY AND CAPITAL RESOURCES
The Company used $12.8 million of net cash in operating activities during
the six months ended June 30, 1999; resulting primarily from increases in
working capital. Net cash used in investing activities was $2.8 million for
capital expenditures. Net cash provided by financing activities was $15.3
million for the six months ended June 30, 1999 and primarily consisted of $171.9
million
18
repayment of debt offset by $190.9 million of borrowings on debt. At
June 30, 1999, the Company had cash of $0.4 million, working capital of $125.7
million and total debt of $157.6 million.
In March 1999, the Company sold $100 million of Notes due April 1, 2009.
The net proceeds of $94.2 million, after the original issue discount and paying
underwriter's commissions, from the offering of the Notes were used to repay
indebtedness under the Company's Bank Credit Facility. The Notes accrue interest
at 12 1/4% which is payable on April 1 and October 1 of each year. The Notes are
publicly-registered and subordinated to all existing and future senior
subordinated obligations and will rank senior to all subordinated indebtedness.
The indenture governing the Notes contains covenants that limit the Company's
ability to incur additional indebtedness, pay dividends, make investments and
sell assets. At June 30, 1999, the Company was in compliance with the covenants.
Each of the Company's subsidaries which are wholly-owned, fully, unconditionally
and jointly and severally guarantees the Notes on a senior subordinated basis.
In connection with the issuance of the Notes in March 1999, the Company
amended its Bank Credit Facility to provide a revolving line of credit of up to
$85 million (subject to a borrowing base limitation) to be used for general
corporate purposes, future acquisitions, capital expenditures and working
capital. The Bank Credit Facility is secured by Company stock and assets.
Advances under the Bank Credit Facility bear interest at the banks' designated
variable rate plus a margin of 25 to 150 basis points. At the Company's option,
the loans may bear interest based on a designated London interbank offered rate
plus a margin of 175 to 325 basis points. Commitment fees of 25 to 50 basis
points per annum are payable on the unused portion of the line of credit. The
Bank Credit Facility contains a provision for standby letters of credit up to
$5.0 million. The Bank Credit Facility prohibits the payment of dividends by the
Company, restricts the Company's incurring or assuming other indebtedness and
requires the Company to comply with certain financial covenants including a
minimum net worth, senior debt leverage ratio, total debt leverage ratio and
minimum fixed charge ratio. At June 30, 1999, the Company was in compliance with
the covenants. The Bank Credit Facility will terminate and all amounts
outstanding thereunder, if any, will be due and payable December 31, 2001. At
June 30, 1999, the Company has approximately $21.5 million available under the
Bank Credit Facility. In connection with the amendment of and reduction in the
Bank Credit Facility, the Company recorded a $2.3 million ($.07 impact on
earnings per share) noncash charge for the write-off of debt issuance costs.
The Company currently operates in a decentralized information systems
environment and uses a variety of software, computer systems and related
technologies for accounting and reporting purposes and for revenue-generating
activities. The Pentacon companies which primarily serve the aerospace industry
are in the process of migrating to a common information system which will
facilitate product ordering, pricing and reporting among the companies. The
total expenditures for these information systems are expected to be
approximately $3.0 million (of which $2.3 million has been incurred at June 30,
1999), the majority of which will be capitalized as computer hardware and
software as it is installed and depreciated over the estimated useful life of
the assets. Funding for these expenditures has come from operating cash flows
and the Company's Bank Credit Facility.
YEAR 2000
The Company is working to resolve the potential impact of the Year 2000 on
the processing of date-sensitive information by the Company's computerized
information systems and other infrastructure that contains embedded technology.
The Year 2000 problem is the result of computer programs being written using two
digits (rather than four) to define the applicable year. Any of the
19
Company's programs that have time-sensitive software may recognize a date using
"00" as the Year 1900 rather than the Year 2000, which could result in
miscalculations or system failures.
The Company believes that substantially all of its computerized
information systems and other infrastructure that contains embedded technology
are Year 2000 compliant or have been modified so as to be Year 2000 compliant.
The Company's only significant computerized information system which is not Year
2000 compliant is being replaced in the quarter ended September 30, 1999.
Remaining costs of addressing potential problems are not expected to have a
material adverse impact on the Company's financial position, results of
operations or cash flows. However, if the Company, its customers or vendors are
unable to resolve such processing issues in a timely manner, it could have a
significant impact on the Company's ability to conduct its business and result
in a material financial risk.
In addition, the Company is continually attempting to assess the level of
Year 2000 preparedness of its key suppliers, distributors, customers and service
providers. The Company has sent, and will continue to send, letters,
questionnaires and surveys to its significant business partners inquiring about
their Year 2000 efforts. If a significant supplier or customer of the Company
fails to be Year 2000 compliant, the Company could suffer a material loss of
business or incur material expenses.
As of June 30, 1999, the Company has spent $0.4 million in costs that are
directly attributable to addressing Year 2000 issues. Management currently
estimates that the Company will not incur significant additional costs during
1999 relating to Year 2000 issues. The Company expects that it will spend
approximately $3.0 million (of which $2.3 million has been incurred at June 30,
1999) to purchase software and hardware and on implementation expenses
associated with the migration to a common information technology system in the
Pentacon companies which primarily serve the aerospace industry. The Company
believes that these costs are not, for the most part, directly related to Year
2000 issues, but are required for the implementation of its new system in the
Pentacon companies which primarily serve the aerospace industry.
The Company is developing and evaluating contingency plans in the event
that the Company has not completed all of its remediation plans in a timely
manner or if third parties who provide goods or services to the Company fail to
address their Year 2000 issues appropriately. These plans include identification
of alternative suppliers and service providers, depletion of safety stocks of
inventory and identification of important areas of record retention.
PART II -OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Annual Meeting of the Registrant was held on May 12, 1999 in Houston,
Texas. At the meeting, three director-nominees were elected to three-year terms
as Class I Directors. With respect to such election, proxies were solicited
pursuant to Regulation 14 under the Exchange Act and there was no solicitation
in opposition to such nominees. Of the Company's 16,666,115 shares of common
stock of record on March 29, 1999, 15,533,017 shares were entitled to vote on
the election of Mr. Baldwin and Ms. McClure, and 1,133,098 shares were
restricted shares entitled to vote only on the election of Mr. Grossman. Of the
15,533,017 shares of common stock entitled to vote with respect to the election
of Mr. Baldwin and Ms. McClure, 12,922,021 were voted at the meeting in person
or by proxy. Of the Company's 1,133,098 shares of restricted common stock
entitled to vote with respect to the election of Mr. Grossman, 649,207 were
voted at the meeting in person or by proxy. The following number of
20
votes were cast as to the Class I Director nominees: Mark E. Baldwin, 12,832,180
votes for and 89,841 votes withheld; Cary M. Grossman, 649,207 votes for and no
votes withheld; and Mary E. McClure, 12,916,621 votes for and 5,400 votes
withheld.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS
10.17 Director Indemnification Agreement with Nishan Teshoian
27 Financial Data Schedule
(b) REPORTS ON FORM 8-K
The Company filed a report on Form 8-K dated May 6, 1999 concerning its
results of operations for the quarter ended March 31, 1999.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant, has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
PENTACON, INC.
Dated: August 13, 1999 By: /s/ BRIAN FONTANA
BRIAN FONTANA
Senior Vice President
& Chief Financial Officer