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 ended June 30, 2005
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: 0-452
TECUMSEH PRODUCTS COMPANY
(Exact name of registrant as specified in its charter)
MICHIGAN 38-1093240
(State of Incorporation) (IRS Employer Identification Number)
100 EAST PATTERSON STREET
TECUMSEH, MICHIGAN 49286
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (517) 423-8411
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 [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class of Stock Outstanding at June 30, 2005
-------------- ----------------------------
Class B Common Stock, $1.00 par value 5,077,746
Class A Common Stock, $1.00 par value 13,401,938
Page 1
TABLE OF CONTENTS
Page
----
Part I. Financial Information
Item 1. Financial Statements
Consolidated Condensed Balance Sheets..................... 3
Consolidated Condensed Statements of Income............... 4
Consolidated Condensed Statements of Cash Flows........... 5
Notes to Consolidated Condensed Financial Statements...... 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations....................... 16
Item 3. Quantitative and Qualitative Disclosures About
Market Risk............................................... 22
Item 4. Controls and Procedures................................... 23
Part II. Other Information........................................... 25
Item 6. Exhibits and Reports on Form 8-K.......................... 25
Signatures........................................................... 26
Certification of CEO Pursuant to Section 302......................... Exh 31.1
Certification of CFO Pursuant to Section 302......................... Exh 31.2
Certification of CEO Pursuant to Section 906......................... Exh 32.1
Certification of CFO Pursuant to Section 906......................... Exh 32.2
Page 2
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART I. FINANCIAL INFORMATION - ITEM 1
CONSOLIDATED CONDENSED BALANCE SHEETS
(Unaudited)
JUNE 30, December 31,
(Dollars in millions, except share data) 2005 2004
-------- ------------
ASSETS
Current Assets:
Cash and cash equivalents $ 75.0 $ 227.9
Accounts receivable, less allowance for doubtful accounts
of $9.1 in 2005 and $11.0 in 2004 254.2 220.4
Inventories 417.9 394.2
Deferred and recoverable income taxes 32.8 36.9
Other current assets 101.6 47.8
-------- --------
Total current assets 881.5 927.2
Property, plant, and equipment, at cost, net of accumulated
depreciation of $955.5 in 2005 and $933.1 in 2004 584.9 554.8
Goodwill 133.9 243.5
Other intangibles 59.9 62.4
Deferred income taxes 21.0 29.6
Prepaid pension expense 178.6 171.9
Other assets 84.7 73.4
-------- --------
Total assets $1,944.5 $2,062.8
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable, trade $ 180.8 $ 178.1
Income taxes payable 9.7 5.4
Short-term borrowings 93.1 68.8
Accrued liabilities 137.0 169.2
-------- --------
Total current liabilities 420.6 421.5
Long-term debt 282.6 317.3
Deferred income taxes 7.0 8.0
Other postretirement benefit liabilities 210.6 210.7
Product warranty and self-insured risks 20.0 21.2
Accrual for environmental matters 40.6 41.3
Pension liabilities 21.3 24.5
Other non-current liabilities 33.7 --
-------- --------
Total liabilities 1,036.4 1,044.5
-------- --------
Commitments and contingencies
Stockholders' Equity
Class A common stock, $1 par value; authorized 75,000,000
shares; issued and outstanding 13,401,938 shares in 2005
and 2004 13.4 13.4
Class B common stock, $1 par value; authorized 25,000,000
shares; issued and outstanding 5,077,746 shares in 2005
and 2004 5.1 5.1
Retained earnings 895.2 1,041.9
Accumulated other comprehensive loss (5.6) (42.1)
-------- --------
Total stockholders' equity 908.1 1,018.3
-------- --------
Total liabilities and stockholders' equity $1,944.5 $2,062.8
======== ========
The accompanying notes are an integral part of these Consolidated Condensed
Financial Statements.
Page 3
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART I. FINANCIAL INFORMATION - ITEM 1
CONSOLIDATED CONDENSED STATEMENTS OF INCOME
(Unaudited)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30 JUNE 30,
------------------ ------------------
(Dollars in millions, except per share data) 2005 2004 2005 2004
-------- ------- -------- -------
Net sales $ 461.9 $ 484.2 $ 926.3 $ 961.2
Cost of sales and operating expenses 422.7 421.6 853.5 843.1
Selling and administrative expenses 46.5 51.1 94.5 95.8
Impairments, restructuring charges, and other items 109.8 3.6 109.9 3.6
-------- ------- -------- -------
Operating income (loss) (117.1) 7.9 (131.6) 18.7
Interest expense (6.8) (5.6) (14.3) (11.2)
Interest income and other, net 1.7 3.8 5.0 8.4
-------- ------- -------- -------
Income (loss) before taxes (122.2) 6.1 (140.9) 15.9
Tax provision (benefit) 0.3 2.1 (6.1) 5.5
-------- ------- -------- -------
Net income (loss) ($122.5) $ 4.0 ($134.8) $ 10.4
======== ======= ======== =======
Basic and diluted earnings (loss) per share ($6.63) $ 0.22 ($7.30) $ 0.56
======== ======= ======== =======
Weighted average shares (in thousands) 18,480 18,480 18,480 18,480
======== ======= ======== =======
Cash dividends declared per share $ 0.32 $ 0.32 $ 0.64 $ 0.64
======== ======= ======== =======
The accompanying notes are an integral part of these Consolidated
Condensed Financial Statements.
Page 4
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART I. FINANCIAL INFORMATION - ITEM 1
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
SIX MONTHS ENDED
JUNE 30,
----------------
(Dollars in millions) 2005 2004
------- ------
Cash Flows from Operating Activities:
Cash provided by (used in) operating
activities ($55.5) $ 27.9
Cash Flows from Investing Activities:
Capital expenditures (59.4) (37.7)
------- ------
Cash used in investing activities (59.4) (37.7)
------- ------
Cash Flows from Financing Activities:
Dividends paid (11.8) (11.8)
Proceeds (Repayments) of borrowings, net 35.8 (29.8)
Repayments of long-term debt (50.0) --
------- ------
Cash used in financing activities (26.0) (41.6)
------- ------
Effect of exchange rate changes on cash (12.0) (10.1)
------- ------
Decrease in cash and cash equivalents (152.9) (61.5)
Cash and Cash Equivalents:
Beginning of period 227.9 344.6
------- ------
End of period $ 75.0 $283.1
======= ======
The accompanying notes are an integral part of these Consolidated
Condensed Financial Statements.
Page 5
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 1
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
1. The consolidated condensed financial statements of Tecumseh Products
Company and Subsidiaries (the "Company") are unaudited and reflect all
adjustments (including normal recurring adjustments) which are, in the
opinion of management, necessary for a fair statement of the financial
position and operating results for the interim periods. The December 31,
2004 condensed balance sheet data was derived from audited financial
statements, but does not include all disclosures required by generally
accepted accounting principles in the United States ("U.S. GAAP"). The
consolidated condensed financial statements should be read in conjunction
with the consolidated financial statements and notes thereto contained in
the Company's Annual Report for the fiscal year ended December 31, 2004.
Due to the seasonal nature of the Company's business, the results of
operations for the interim period are not necessarily indicative of the
results for the entire fiscal year.
2. Comprehensive Income
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------ ----------------
(Dollars in millions) 2005 2004 2005 2004
--------------------- ------- ------ ------- ------
Net income (loss) ($122.5) $ 4.0 ($134.8) $ 10.4
Other comprehensive income (loss):
Foreign currency translation adjustments 22.1 (11.1) 15.6 (13.3)
Gain (Loss) on derivatives 13.2 (0.1) 17.0 (0.3)
Unrealized gain on investment holdings -- -- 3.8 --
------- ------ ------- ------
Total comprehensive loss ($87.2) ($7.2) ($98.4) ($3.2)
======= ====== ======= ======
3. Inventories
JUNE 30, DECEMBER 31,
(Dollars in millions) 2005 2004
--------------------- -------- ------------
Raw material $166.4 $169.3
Work in progress 81.6 82.1
Finished goods 166.0 130.0
Supplies 3.9 12.8
------ ------
Total inventories $417.9 $394.2
====== ======
Page 6
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 1
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
4. Business Segments
The Company has four reportable segments based on the criteria set forth in
SFAS No. 131 "Disclosures about Segments of an Enterprise and Related
Information": Compressor Products, Electrical Component Products, Engine &
Power Train Products, and Pump Products. Revenues and operating income by
segment for the periods indicated are as follows:
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
BUSINESS SEGMENT DATA ------------------ -----------------
(Dollars in millions) 2005 2004 2005 2004
--------------------- -------- ------ -------- ------
Net sales:
Compressor Products $ 247.6 $234.1 $ 488.6 $446.0
Electrical Component Products 102.4 105.2 202.6 212.2
Engine & Power Train Products 78.7 104.0 173.6 228.3
Pump Products 32.7 40.6 60.6 74.0
Other (a) 0.5 0.3 0.9 0.7
-------- ------ -------- ------
Total Net Sales $ 461.9 $484.2 $ 926.3 $961.2
======== ====== ======== ======
Operating income (loss):
Compressor Products $ 7.4 $ 18.8 $ 16.0 $ 30.7
Electrical Component Products 0.2 4.0 (0.8) 7.4
Engine & Power Train Products (15.5) (10.7) (36.4) (13.6)
Pump Products 4.2 4.8 6.5 8.1
Other (a) (1.0) (0.9) (1.9) (1.8)
Corporate expenses (2.6) (4.5) (5.1) (8.5)
Impairments, restructuring charges, and other items (109.8) (3.6) (109.9) (3.6)
-------- ------ -------- ------
Total operating income (loss) (117.1) 7.9 (131.6) 18.7
Interest expense (6.8) (5.6) (14.3) (11.2)
Interest income and other, net 1.7 3.8 5.0 8.4
-------- ------ -------- ------
Income (Loss) before taxes ($122.2) $ 6.1 ($140.9) $ 15.9
======== ====== ======== ======
(a) "Other" consists of non-reportable business segments, primarily
Manufacturing Data Systems, Inc.
The Electrical Component Products segment had inter-segment sales of $13.7
million and $18.3 million in the second quarter of 2005 and 2004, respectively,
and $30.3 million and $33.5 million for the first six months of 2005 and 2004,
respectively.
Page 7
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 1
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
5. Goodwill and Other Intangible Assets
At June 30, 2005, goodwill by segment consisted of the following:
ELECTRICAL ENGINE &
COMPRESSOR COMPONENTS POWER TRAIN PUMPS TOTAL
---------- ---------- ----------- ----- ------
Balance at 1/1/2005 18.6 216.9 2.9 5.1 243.5
Impairment -- (108.0) -- -- (108.0)
Foreign Currency Translation (1.3) -- (0.3) -- (1.6)
---- ------ ---- --- ------
17.3 108.9 2.6 5.1 133.9
Balance at 6/30/2005
Second quarter 2005 results include an impairment charge of $108.0 million
related to the goodwill associated with the 2002 acquisition of FASCO
(which is included in the Electrical Components segment). As previously
disclosed, the failure to achieve the business plan, coupled with expected
future market conditions, has caused the Company to revisit the assumptions
utilized to determine FASCO's estimated fair value in the impairment
assessment performed at December 31, 2004. The deterioration of volumes and
the Company's inability to recover higher commodity and transportation
costs through price increases has resulted in revised expected cash flows
for FASCO.
SFAS 142 requires that the Company estimate the fair value of the reporting
unit as compared to its recorded book value. If the estimated fair value is
less than the book value, then an impairment is deemed to have occurred. In
estimating the fair value of the reporting units, management used
forecasted discounted cash flows. As required by SFAS 142, the Company
measured the amount of goodwill impairment by allocating the estimated fair
value to the tangible and intangible assets within this reporting unit.
Based on this allocation, it was concluded that $108.0 million of the
recorded goodwill in the FASCO reporting unit was impaired and needed to be
expensed as a non-cash charge to continuing operations. Prior to performing
the SFAS 142 analysis, management assessed long lived assets for impairment
in accordance with SFAS 144. No SFAS 144 impairment was identified.
Other intangible assets consisted of the following:
GROSS
CARRYING ACCUMULATED AMORTIZABLE
AMOUNT AMORTIZATION NET LIFE
-------- ------------ ----- -----------
Intangible assets subject to amortization:
Two year non-compete agreement $15.0 $15.0 $ -- 2 years
Customer relationships and contracts 39.3 6.6 32.7 6-15 years
Technology 15.4 5.5 9.9 3-10 years
Trade-name and trademarks 0.9 0.5 0.4 3-8 years
----- ----- -----
Total 70.6 27.6 43.0
Intangible assets not subject to amortization:
Trade name 16.9 -- 16.9
----- ----- -----
Total intangible assets $87.5 $27.6 $59.9
Page 8
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 1
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
The estimated amortization expense over the next five years is $5.0 million
for 2005 and approximately $4.2 million annually for 2006 through 2009.
Amortization expense for the three months ended June 30 was $1.3 million
and $3.1 million for 2005 and 2004, respectively. Amortization expense for
year to date ended June 30 was $2.6 million and $6.2 million for 2005 and
2004, respectively.
6. Pension and Other Postretirement Benefit Plans
Components of net periodic benefit (income) cost are as follows:
PENSION BENEFITS OTHER BENEFITS
------------------ ------------------
THREE MONTHS ENDED THREE MONTHS ENDED
JUNE 30, JUNE 30,
------------------ ------------------
2005 2004 2005 2004
------ ------ ----- -----
Service Cost $ 2.3 $ 2.2 $ 1.3 $ 1.1
Interest Cost 5.4 5.4 2.8 2.8
Expected return on plan assets (10.5) (10.5) -- --
Amortization of prior service costs 0.1 0.3 (0.3) (0.3)
Amortization of net (gain) loss (0.6) (1.1) (0.8) (1.0)
------ ------ ----- -----
Net periodic benefit (income) cost ($3.3) ($3.7) $ 3.0 $ 2.6
PENSION BENEFITS OTHER BENEFITS
---------------- ----------------
SIX MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
---------------- ----------------
2005 2004 2005 2004
------- ------ ------- ------
Service Cost $ 4.6 $ 4.4 $ 2.6 $ 2.2
Interest Cost 10.8 10.8 5.6 5.6
Expected return on plan assets (21.0) (21.0) -- --
Amortization of prior service costs 0.2 0.6 (0.6) (0.6)
Amortization of net (gain) loss (1.2) (2.2) (1.6) (2.0)
------ ------ ----- -----
Net periodic benefit (income) cost ($6.6) ($7.4) $ 6.0 $ 5.2
During the second quarter of 2005, the Company announced some changes to
certain of its retiree medical benefits. Included among these changes were
plans to phase in retiree contributions and raise plan deductibles (both as
of January 1, 2006). The Company also implemented plans to eliminate
Post-65 prescription drug benefits starting January 1, 2008 and discontinue
all retiree medical benefits for anyone hired after January 1, 2006.
As a result of these actions, the Company performed a re-measurement of its
liability at June 30, 2005 factoring in applicable plan changes, as well as
a reduction in the discount rate used in the calculation from 5.85% to
5.5%. The amortization of the benefit related to these changes will be $1.4
million for 2005 and will be recognized in the second half of the year.
Page 9
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 1
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
The Company previously disclosed in its financial statements for the year
ended December 2004, that it expected to contribute $0.1 million to one of
its pension plans in 2005. As of June 30, 2005, no contributions have been
made. The Company presently anticipates contributing a total of $0.1
million to fund this pension plan in 2005.
7. Impairments, Restructuring Charges, and Other Items
Second quarter 2005 results include an impairment charge of $108.0 million
related to the goodwill associated with the 2002 acquisition of FASCO
(which is included in the Electrical Components segment). As previously
disclosed, the failure to achieve the business plan, coupled with expected
future market conditions, has caused the Company to revisit the assumptions
utilized to determine FASCO's estimated fair value in the impairment
assessment performed at December 31, 2004. The deterioration of volumes and
the Company's inability to recover higher commodity and transportation
costs through price increases has resulted in revised expected cash flows
for FASCO. Based on the revised estimates of cash flow, FASCO's fair value
has deteriorated from the previous assessment and, as a result, a goodwill
impairment of $108.0 million was recognized.
The Company also recognized restructuring costs of $1.8 million in the
second quarter of 2005. These costs included $0.2 million of facility
consolidation costs in the North American Compressor business and a $0.5
million additional impairment charge related to the St. Clair, Missouri
Electrical Components facility, both ongoing programs nearing or at
completion. The remaining $1.1 million of restructuring costs relate to the
first step in the Company's efforts to reduce its excess capacity in the
European Engine & Power Train operations. Included in the Company's plans
for this operation is a workforce reduction of 100 personnel, which is
expected to be completed this year at a cost of $2.5 million.
Second quarter 2004 results include restructuring and impairment charges
totaling $3.6 million related to facility consolidation actions affecting
several of the Company's facilities in its North American Compressor and
Electrical Components businesses.
8. Guarantees and Warranties
A portion of accounts receivable at the Company's Brazilian subsidiary are
sold with recourse. Brazilian receivables sold at June 30, 2005 and
December 31, 2004 were $30.7 million and $101.0 million, respectively. The
Company estimates the fair value of the contingent liability related to
these receivables to be $1.7 million, which is included in operating income
and allowance for doubtful accounts.
Page 10
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 1
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
A provision for estimated future warranty costs and estimated returns for
credit relating to warranty are recorded when products are sold and revenue
recognized. A reconciliation of the changes in the Company's product
warranty liability follows:
Six Months Ended
(Dollars in millions) June 30, 2005
----------------
Balance at January 1, 2005 $ 38.1
Accruals for warranties 5.3
Settlements made (in cash or in kind) (12.1)
Effect of foreign currency translation (0.4)
------
Balance at June 30, 2005 $ 30.9
9. Debt
At June 30, 2005, the Company was not in compliance with all of its
financial covenants under both the Senior Guaranteed Notes and the
Revolving Credit Facility and was provided waivers through August 8, 2005.
Subsequent to the end of the second quarter, the Company renegotiated the
terms of its lending agreements with the holders of the Senior Guaranteed
Notes. The amendment to this agreement adds additional restrictive
covenants and relaxes certain others. The amendment also requires the
Company to provide collateral including all North American personal
property and select real property. Under the agreement, the Company may pay
dividends up to current levels beginning with the third quarter 2005. After
the third quarter, however, dividend payments are only permitted to the
extent the Company meets certain financial targets and remains in
compliance with all other terms. This restriction will end if the Company
remains in compliance with this requirement through December 31, 2006. As
of August 8, 2005 the interest rate applicable to this borrowing will
increase to 6.60%, payable on the same schedule as the existing notes.
There is no change to the maturity schedule.
In conjunction with the amendment to the Senior Guaranteed Notes indicated
above, the Company also renegotiated the terms of its $100 million
five-year revolving credit facility. Similar to the arrangement applicable
to the Senior Guaranteed Notes, certain covenants have been relaxed and
others added. The Company's debt under the amended credit agreement will
participate in the collateral established under the Senior Guaranteed
Notes. The amended credit facility has an applicable Eurodollar rate
margin, letter of credit fee rate and facility fee rate based on a sliding
scale related to the Company's debt to EBITDA ratio. The Eurodollar rate
margin and letter of credit fee rate will initially be set at 210 basis
points and the facility fee rate will be set initially at 40.0 basis points
on August 8, 2005. As of June 30, 2005, the Company had borrowed $15
million under the revolving credit facility at an average interest rate of
4.35%.
The holders of the Company's industrial revenue bonds will share in the
collateral established through these amendments.
Page 11
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 1
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
10. Environmental Matters
The Company has been named by the U.S. Environmental Protection Agency
("EPA") as a potentially responsible party ("PRP") in connection with the
Sheboygan River and Harbor Superfund Site in Wisconsin. In May 2000, the
EPA issued a Record of Decision ("ROD") selecting the remedy for the Site.
The Company is one of several named PRP's in the proposed cleanup action.
The EPA has estimated the cost of cleanup at $40.9 million. Additionally,
the Wisconsin Department of Natural Resources ("WDNR"), as a Natural
Resource Trustee, is investigating what additional requirements, if any,
the state may have beyond those specified under the ROD.
The EPA has indicated its intent to address the site in two phases, with
the Company's Sheboygan Falls plant site and the upper river constituting
the first phase ("Phase I") and the middle and lower river and harbor being
the second phase ("Phase II"). In March 2003, the Company entered into a
Consent Decree with the EPA concerning the performance of remedial design
and remedial action for Phase I. The Consent Decree has also been approved
by the U.S. Department of Justice, but it has yet to become a final
judgment pending approval by the pertinent federal district court.
Negotiation of a Consent Decree regarding Phase II has yet to commence.
On March 25, 2003, with the cooperation of the EPA, the Company and
Pollution Risk Services, LLC ("PRS") entered into a Liability Transfer and
Assumption Agreement (the "Liability Transfer Agreement"). Under the terms
of the Liability Transfer Agreement, PRS assumed all of the Company's
responsibilities, obligations and liabilities for remediation of the entire
Site and the associated costs, except for certain specifically enumerated
liabilities. Also, as required by the Liability Transfer Agreement, the
Company purchased Remediation Cost Cap insurance, with a 30 year term, in
the amount of $100.0 million and Environmental Site Liability insurance in
the amount of $20.0 million. The Company believes such insurance coverage
will provide sufficient assurance for completion of the responsibilities,
obligations and liabilities assumed by PRS under the Liability Transfer
Agreement. On October 10, 2003, in conjunction with the Liability Transfer
Agreement, the Company completed the transfer of title to the Sheboygan
Falls, Wisconsin property to PRS.
The total cost of the Liability Transfer Agreement to the Company,
including the cost of the insurance policies, was $39.2 million. The
Company recognized a charge of $13.6 million ($8.7 million net of tax) in
the first quarter of 2003. The charge consisted of the difference between
the cost of the Liability Transfer Agreement and amounts previously accrued
for the cleanup. The Company continues to maintain an additional reserve of
$0.5 million to reflect its potential environmental liability arising from
operations at the Site, including potential residual liabilities not
assumed by PRS pursuant to the Liability Transfer Agreement.
It is the intent of the Company, PRS and the EPA to negotiate provisions
that would add PRS as a PRP by amendment to the Consent Decree, which
requires the approval of the U.S. Department of Justice. Until such
approval is received, U.S. GAAP requires that the Company continue to
record the full amount of the estimated remediation liability of $39.7
million and a corresponding asset of $39.2 million included in Other Assets
in the balance sheet. While the Company believes the arrangements with PRS
are sufficient to satisfy substantially all of the Company's environmental
responsibilities with respect to the Site, these arrangements do not
constitute a legal discharge or release of the Company's liabilities with
respect to the Site. The actual cost of this obligation will be governed by
numerous factors, including, without limitation, the requirements of the
WDNR, and may be greater or lower than the amount accrued.
Page 12
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 1
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
The Company, in cooperation with the WDNR, also conducted an investigation
of soil and groundwater contamination at the Company's Grafton, Wisconsin
plant. It was determined that contamination from petroleum and degreasing
products used at the plant were contributing to an off-site groundwater
plume. The Company began remediation of soils in 2001 on the east side of
the facility. Additional remediation of soils began in the fall of 2002 in
two other areas on the plant site. At June 30, 2005, the Company had
accrued $2.3 million for the total estimated cost associated with the
investigation and remediation of the on-site contamination. Investigation
efforts related to the potential off-site groundwater contamination have to
date been limited in their nature and scope. The extent, timing and cost of
off-site remediation requirements, if any, are not presently determinable.
The Company and TRC Companies and TRC Environmental Corporation
(collectively, "TRC") entered into a Consent Order with the Wisconsin
Department of Natural Resources (the "WDNR") on December 29, 2004 relating
to the Hayton Area Remediation Project ("HARP") downstream from the
Company's New Holstein, Wisconsin facility. The Consent Order provides a
framework for the completion of the remediation and regulatory closure at
HARP.
Concurrent to entering into the Consent Order, the Company and two of its
subsidiaries and TRC entered into an Exit Strategy Agreement (the
"Agreement"), whereby the Company transferred to TRC substantially all of
its obligations to complete the HARP remediation pursuant to the Consent
Order and in accordance with applicable environmental laws and regulations.
As required by the Agreement, the Company purchased a Pollution Legal
Liability Select Cleanup Cost Cap Policy (the "Policy"). The Company
believes that the Policy provides additional assurance that the
responsibilities, obligations, and liabilities transferred and assigned by
the Company and assumed by TRC under the Agreement will be completed.
Although the arrangements with TRC and the WDNR do not constitute a legal
discharge or release of the Company's liabilities, the Company believes
that the specific work substitution provisions of the Consent Order and the
broad coverage terms of the Policy, collectively, are sufficient to satisfy
substantially all of the Company's environmental obligations with respect
to the HARP remediation.
In addition to the above-mentioned environmental matters, the Company is
also currently participating with the EPA and various state agencies at
certain other sites to determine the nature and extent of any remedial
action that may be necessary with regard to such other sites. At June 30,
2005 and December 31, 2004, the Company had accrued $42.6 million and $43.3
million, respectively, for environmental remediation, including $39.7
million relating to the Sheboygan River and Harbor Superfund Site.
Additionally, as of June 30, 2005 and December 31, 2004, the Company had
recorded a corresponding asset of $39.2 million relating to the Sheboygan
River and Harbor Superfund Site in connection with its agreement with PRS.
As these matters continue toward final resolution, amounts in excess of
those already provided may be necessary to discharge the Company from its
obligations for these sites. Such amounts, depending on their amount and
timing, could be material to reported net income in the particular quarter
or period that they are recorded. In addition, the ultimate resolution of
these matters, either individually or in the aggregate, could be material
to the consolidated financial statements.
11. Income Taxes
The Company's effective income tax rate was (0.2%) for the second quarter
and a benefit of 4.4% for the first half of 2005, as compared with an
effective tax rate of 35.0% for both corresponding periods in 2004. The
difference in the Company's tax benefit rate for the second quarter and the
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TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 1
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
first half of fiscal 2005 as compared with the corresponding periods of
fiscal 2004 is primarily due to non-deductibility of the goodwill
impairment recognized in the second quarter of 2005.
In addition, the Company has identified and is evaluating the use of
certain tax planning strategies, including the use of U.S. trading
companies and royalty arrangements with its affiliates, in order to ensure
that the benefit of tax carryovers and credits are realized. These
strategies should result in U.S. income taxes otherwise payable being
offset by the Company's utilization of their U.S. net operating loss
carryovers and foreign tax credits. At the present time, management
believes it is more likely than not that the net U.S. deferred tax asset
will be realized; however, there can be no assurance that such tax planning
strategies will ultimately generate amounts sufficient to ensure the
utilization of all the U.S. deferred tax assets. If projected amounts of
deferred tax assets to be realized from these tax strategies become less
likely than not to be realized, a valuation allowance would be required
with a resulting non-cash charge to earnings for some or all of the U.S.
deferred tax assets.
12. Commitments and Contingencies
The Company is also the subject of, or a party to, a number of other
pending or threatened legal actions involving a variety of matters,
including class actions and asbestos-related claims, incidental to its
business.
One such lawsuit filed against the Company and other defendants alleges
that the horsepower labels on the products the plaintiffs purchased were
inaccurate. The plaintiffs seek certification of a class of all persons in
the United States who, beginning January 1, 1995 through the present,
purchased a lawnmower containing a two stroke or four stroke gas
combustible engine up to 20 horsepower that was manufactured by defendants.
The complaint seeks an injunction, compensatory and punitive damages, and
attorneys' fees. No orders have been entered in the case, and there has
been limited discovery. The Company intends to vigorously defend this case.
Although the ultimate outcome of these matters cannot be predicted with
certainty, and some may be disposed of unfavorably to the Company,
management does not believe that the disposition will have a material
adverse effect on the consolidated financial position or results of
operations of the Company.
13. New Accounting Standards
On December 15, 2004 the FASB issued Statement No. 153 (SFAS 153),
Exchanges of Nonmonetary Assets - Accounting Principles Board Opinion No.
29, Accounting for Nonmonetary Transactions (APB 29). SFAS 153 is based on
the principle that nonmonetary asset exchanges should be recorded and
measured at the fair value of the assets exchanged, with certain
exceptions. This standard requires exchanges of productive assets to be
accounted for at fair value, rather than at carryover basis, unless (1)
neither the asset received nor the asset surrendered has a fair value that
is determinable within reasonable limits or (2) the transactions lack
commercial substance (as defined). In addition, the Board decided to retain
the guidance in APB 29 for assessing whether the fair value of a
nonmonetary asset is determinable within reasonable limits. The new
standard is the result of the convergence project between the FASB and the
International Accounting Standards Board (IASB) and is effective for
nonmonetary asset exchanges occurring in fiscal periods beginning after
June 15, 2005. The Company has not yet completed its analysis of the
effects of this pronouncement, but it does not believe the effects will be
material.
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TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 1
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(Unaudited)
On November 24, 2004, the FASB issued Statement No. 151, Inventory Costs,
an amendment of ARB No. 43, Chapter 4 (FAS 151). The standard adopts the
IASB view related to inventories that abnormal amounts of idle capacity and
spoilage costs should be excluded from the cost of inventory and expensed
when incurred. Additionally, the Board made the decision to clarify the
meaning of the term 'normal capacity'. The provisions of FAS 151 are
applicable to inventory costs incurred during fiscal years beginning after
June 15, 2005. The Company does have operations with idle capacity;
however, while the Company has not yet calculated the effects of this
pronouncement, it does not believe the effects will be material.
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TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF THE
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
Consolidated net sales in the second quarter of 2005 decreased to $461.9 million
from $484.2 million in 2004. Consolidated net sales for the first half of 2005
amounted to $926.3 million compared to $961.2 million in the first half of 2004.
Excluding an increase in sales of $18.3 million for the quarter and $36.3
million year to date resulting from the effect of changes in foreign currency
exchange rates, sales decreased $40.6 million versus the same quarter in the
prior year and $71.2 million year to date. This is primarily due to lower
volumes in the Engine & Power Train segment in both North America and Europe.
Sales declines were also experienced in the Electrical Components and Pump
segments.
Consolidated results for the second quarter of 2005 amounted to net loss of
$122.5 million or $6.63 per share compared to net income of $4.0 million or
$0.22 per share in the second quarter of 2004. Reported results for the second
quarter 2005 included a goodwill impairment charge related to the Electrical
Components business of $108.0 million ($5.84 per share) and restructuring and
asset impairment charges of $1.8 million ($1.6 million net of tax or $0.09 per
share) related to a new action in the Engine & Power Train business ($1.1
million) and the continuation of previously announced actions in both the
Compressor ($0.2 million) and Electrical Components ($0.5 million) segments.
Reported results for the second quarter 2004 included restructuring and asset
impairment charges of $3.6 million ($2.3 million net of tax or $0.13 per share)
involving the Compressor and Electrical Components businesses.
Consolidated net loss for the six months ended June 30, 2005 amounted to $134.8
million or $7.30 per share compared to net income of $10.4 million $0.56 per
share for the same period in 2004. Excluding the impairment and restructuring
charges, operating results were lower than the prior year second quarter across
all business segments, with the most substantial declines in the Compressor and
Engine & Power Train segments.
Compressor Products
Second quarter 2005 sales in the Company's compressor business increased to
$247.6 million from $234.1 million in the second quarter of 2004. Compressor
business sales in the first six months of 2005 increased to $488.6 million from
$446.0 million in the first six months of 2004. The increase for both the
quarter and year to date from the prior year was mainly attributable to the
effect of foreign currency translation that increased sales by $17.1 million and
$33.4 million, respectively. Volume increases of compressor products that are
primarily manufactured by the Company in its Brazilian and Indian facilities and
sold into the original equipment markets for residential refrigerators and
freezers and volume increases in compressor products for commercial applications
were largely offset by declines in sales of compressors utilized in room air
conditioners.
Compressor business operating income for the second quarter of 2005 amounted to
$7.4 million compared to $18.8 million in the second quarter of 2004. Operating
income for the six months ended June 30, 2005 amounted to $16.0 million compared
to $30.7 million for the first six months of 2004. The decrease in operating
income for the second quarter and year to date versus the comparable 2004
periods reflects the effects of a weaker U.S. Dollar and an unfavorable mix of
sales. During the second quarter, the U.S. Dollar was on average 17% weaker
versus the Brazilian Real and 4% weaker versus the Euro.
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TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF THE
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Electrical Component Products
Electrical Components business sales were $102.4 million in the second quarter
of 2005 compared to $105.2 million in the second quarter of 2004. The $2.8
million reduction in sales was primarily attributable to volume declines in the
automotive seat actuator, small engine starter and mobile HVAC businesses. First
half 2005 sales amounted to $202.6 million compared to $212.2 million in the
first half of 2004. In addition to the volume declines from the second quarter
mentioned above, the Company experienced volume declines in residential and
commercial aftermarket, blowers and gear motors during the first quarter to
bring the year to date decline in comparative sales to $9.6 million.
Electrical Components operating income for the second quarter of 2005 amounted
to $0.2 million compared to $4.0 million in the second quarter of 2004. Segment
operating loss for the first half of the year was $0.8 million compared to
operating income of $7.4 million for the same period in 2004. The decline in
operating income in both the quarter and year to date largely resulted from
lower sales volumes, higher commodity costs in excess of pricing recoveries, and
unanticipated operational inefficiencies related to the closure of the St. Clair
facility, partially offset by lower amortization of intangible assets.
Engine & Power Train Products
Engine & Power Train business sales amounted to $78.7 million in the second
quarter of 2005 compared to $104.0 million in the second quarter of 2004. Sales
in the first half of 2005 were $173.6 million compared to $228.3 million in the
first half of 2004. The decline in sales for the second quarter and year to date
was primarily the result of the loss of business on walk behind rotary lawn
applications with a single customer during the first quarter and other
reductions in walk behind volume. Additionally, volumes were lower in the
transaxle business and in other engine lines utilized on various utility
products.
Engine & Power Train business operating loss in the second quarter of 2005
amounted to $15.5 million compared to a loss of $10.7 million in the second
quarter of 2004. For the first half of 2005, the business incurred an operating
loss of $36.4 million compared to an operating loss of $13.6 million in 2004.
The decline in quarter and year to date results reflects losses in volume and
increases in commodity, transportation and tooling costs. Additionally, during
the first quarter, the Company experienced increased warranty response and
expediting costs related to a quality issue at a transmission business customer.
Continued reductions in profitability in Europe also contributed to the increase
in the quarter and year to date loss.
Engine & Power Train losses were substantially due to the significant costs
associated with excess capacities in the U.S. and Europe. The excess capacity
situation was exacerbated by the shift of production to the Company's Brazilian
manufacturing facility resulting in duplicate capacities. While the favorable
impact of the normal seasonal snow thrower-related business should improve
results in the second half of the year compared to the first half, substantial
cost reductions and volume improvements will be necessary for sustained
improvement. The Company intends to complete these cost reductions throughout
2005. As previously disclosed, the Company has engaged AlixPartners to assist in
the acceleration of these cost reduction efforts. AlixPartners' involvement
commenced as of July 31, 2005.
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TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF THE
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Pump Products
Pump business sales in the second quarter of 2005 amounted to $32.7 million
compared to $40.6 million in same period in 2004. First half sales amounted to
$60.6 million in 2005 compared to $74.0 million the previous year. The 18.1%
reduction in year to date sales was primarily attributable to the loss of water
gardening business at one mass market retailer.
Operating income amounted to $4.2 million in the second quarter of 2005 compared
to $4.8 million in the same period in 2004. Operating income in the first half
of 2005 was $6.5 million compared to $8.1 million in 2004. The decrease in
operating income was primarily attributable to the reductions in sales volumes
offset by reductions in engineering and selling and administration costs.
Interest Expense
Interest expense amounted to $6.8 million in the second quarter of 2005 compared
to $5.6 million in the second quarter of 2004. Interest expense amounted to
$14.3 million in the first half of 2005 compared to $11.2 million in the same
period of 2004. The increase was primarily related to higher average interest
rates applicable to the Company's variable rate borrowings in a number of its
foreign locations in addition to reflecting the impact of the loss of benefit
previously provided by interest rate swaps exchanging fixed rates for variable.
Interest Income and Other, Net
Interest income and other, net amounted to $1.7 million in the second quarter of
2005 compared to $3.8 million in the second quarter of 2004. Interest income and
other, net amounted to $5.0 million in the first half of 2005 compared to $8.4
million in the same period of 2004. This decrease resulted primarily from lower
average deposits in Brazil and the United States.
Taxes on Income
The Company's effective income tax rate was (0.2%) for the second quarter and a
benefit of 4.4% for the first half of 2005, as compared with an effective tax
rate of 35.0% for both corresponding periods in 2004. The difference in the
Company's tax benefit rate for the second quarter and the first half of fiscal
2005 as compared with the corresponding periods of fiscal 2004 is primarily due
to non-deductibility of the goodwill impairment recognized in the second quarter
of 2005. The effective tax rate in future periods may vary from the 35% used in
prior years based upon changes in the mix of profitability between the
jurisdictions where benefits on losses are not provided versus other
jurisdictions where provisions and benefits were recognized. In addition, the
Company has identified and is evaluating the use of certain tax planning
strategies, including the use of U.S. trading companies and royalty arrangements
with its affiliates, in order to ensure that the benefit of tax carryovers and
credits are realized. These strategies should result in U.S. income taxes
otherwise payable being offset by the Company's utilization of their U.S. net
operating loss carryovers and foreign tax credits. At the present time,
management believes it is more likely than not that the net U.S. deferred tax
asset will be realized; however, there can be no assurance that such tax
planning strategies will ultimately generate amounts sufficient to ensure the
utilization of all the U.S. deferred tax assets. If projected amounts of
deferred tax assets to be realized from
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TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF THE
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
these tax strategies become less likely than not to be realized, a valuation
allowance would be required with a resulting non-cash charge to earnings for
some or all of the U.S. deferred tax assets.
Outlook
Information in this "Outlook" section should be read in conjunction with the
cautionary language and discussion of risks included below.
The outlook for the remainder of the year is subject to the same variables that
have negatively impacted the Company's year to date results. Commodity costs,
key currency rates, particularly the Brazilian Real, and weather will remain key
factors to any rebound in the second half of the year. Recent indicators provide
some encouragement that the effect of these factors may moderate. While weather
in North and South America has not been conducive to either OEM or aftermarket
sales during the first half of the year, the recent heat wave in the U.S. should
help aftermarket operations in the Compressor and Electrical Components
businesses over the rest of the summer. In addition, there has been some
improvement in steel prices, although slight in comparison to the increases
experienced over the last 18 months. Additionally, the Company has been
aggressively executing cost cutting actions. Global headcounts have been reduced
by 1,600 since March 31, 2005, and the Company has changed retiree and
healthcare benefits in the U.S. with an expected annual benefit of $4.0 million.
The Company has engaged AlixPartners to assist in the completion of the Engine &
Power Train Group restructuring, where substantial cost reductions, associated
with the elimination of duplicate capacities, are expected to benefit future
periods. Accordingly, the Company expects second half results to be better than
those of the first half of the year, but to lag comparable 2004 results.
The Company will continue to focus its efforts on improving the profitability
and competitiveness of its worldwide operations. It is likely that additional
production relocation and consolidation initiatives will take place during 2005
that could have an effect on the consolidated financial position and future
results of operations of the Company.
LIQUIDITY, CAPITAL RESOURCES AND RISKS
Historically, the Company's primary source of cash has been net cash provided by
operations. Operating activities in the first half of 2005, however, used cash
of $55.5 million compared to providing $27.9 million of cash in 2004. The
decline in 2005 resulted primarily from the loss from operations and additional
investment in accounts receivable and inventory. Working capital of $460.9
million at June 30, 2005 was down from $505.7 million at the end of 2004
primarily due to the use of cash to prepay $50 million of the Company's
Guaranteed Senior Notes, pay dividends and fund capital expenditures related to
new product expansion in Brazil and India.
The negative results experienced over the last nine months and recognition of
the goodwill impairment charge also required that the Company seek amendments to
its debt covenants in both the Note Purchase Agreement with the holders of its
Senior Guaranteed Notes and the credit agreement for its Revolving Credit
Facility, under which JPMorgan Chase Bank, N.A. acts as agent for a group of
lenders. The amendments were signed on August 5, 2005. New terms of the
agreements provide for security interests in certain of the Company's assets and
specific covenants related to EBITDA and capital expenditures through December
2006. In addition, the terms of the agreement permit resumption of dividends,
presuming continued compliance with these temporary covenants and subject to
minimum levels of EBITDA, beginning
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TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF THE
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
with the fourth quarter of 2005 through the first quarter of 2007. Interest
costs will be higher under each of the amended agreements.
In conjunction with the actions noted above, working capital requirements and
planned capital investments for the remainder of 2005 are expected to be
financed primarily through internally generated funds; however, short-term
borrowings and various financial instruments are utilized from time to time to
hedge currency risk and finance foreign working capital requirements. The
Company maintains a $100 million revolving credit facility that is available for
general corporate purposes, of which $15.0 million was drawn and outstanding and
$18.1 million was utilized for letters of credit at June 30, 2005. The Company
may also utilize long-term financing arrangements in connection with state
investment incentive programs.
Environmental Matters
The Company is subject to various federal, state and local laws relating to the
protection of the environment, and is actively involved in various stages of
investigation or remediation for sites where contamination has been alleged.
(See Note 9 to the financial statements.) Liabilities, relating to probable
remediation activities, are recorded when the costs of such activities can be
reasonably estimated based on the facts and circumstances currently known.
Difficulties exist estimating the future timing and ultimate costs to be
incurred due to uncertainties regarding the status of laws, regulations, levels
of required remediation, changes in remediation technology and information
available.
At June 30, 2005 and December 31, 2004, the Company had accrued $42.6 million
and $43.3 million, respectively, for environmental remediation. As these matters
continue toward final resolution, amounts in excess of those already provided
may be necessary to discharge the Company from its obligations for these sites.
Such amounts, depending on their amount and timing, could be material to
reported net income in the particular quarter or period in which they are
recorded. In addition, the ultimate resolution of these matters, either
individually or in the aggregate, could be material to the consolidated
financial statements.
CAUTIONARY STATEMENTS RELATING TO FORWARD-LOOKING STATEMENTS
This discussion contains forward-looking statements within the meaning of the
Private Securities Litigation Reform Act that are subject to the safe harbor
provisions created by that Act. In addition, forward-looking statements may be
made orally in the future by or on behalf of the Company. Forward-looking
statements can be identified by the use of terms such as "expects," "should,"
"may," "believes," "anticipates," "will," and other future tense and
forward-looking terminology, or by the fact that they appear under the caption
"Outlook."
Readers are cautioned that actual results may differ materially from those
projected as a result of certain risks and uncertainties, including, but not
limited to, i) changes in business conditions and the economy in general in both
foreign and domestic markets; ii) the effect of terrorist activity and armed
conflict; iii) weather conditions affecting demand for air conditioners, lawn
and garden products, portable power generators and snow throwers; iv) the
success of the Company's ongoing effort to bring costs in line with projected
production levels and product mix; v) financial market changes, including
fluctuations in interest rates and foreign currency exchange rates; vi) economic
trend factors such as housing starts; vii) emerging governmental regulations;
viii) availability and cost of materials, particularly
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TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF THE
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
commodities, including steel, copper and aluminum, whose cost can be subject to
significant variation; ix) actions of competitors; x) the ultimate cost of
resolving environmental and legal matters; xi) the Company's ability to
profitably develop, manufacture and sell both new and existing products; xii)
the extent of any business disruption that may result from the restructuring and
realignment of the Company's manufacturing operations or system implementations,
the ultimate cost of those initiatives and the amount of savings actually
realized; xiii) potential political and economic adversities that could
adversely affect anticipated sales and production in Brazil; xiv) potential
political and economic adversities that could adversely affect anticipated sales
and production in India, including potential military conflict with neighboring
countries; xv) the Company's ability to reduce a substantial amount of costs in
the Engine & Power Train group associated with excess capacity, and xvi) the
ongoing financial health of major customers. These forward-looking statements
are made only as of the date hereof, and the Company undertakes no obligation to
update or revise the forward-looking statements, whether as a result of new
information, future events or otherwise.
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TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 3
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to risk during the normal course of business from credit
risk associated with accounts receivable and from changes in interest rates,
commodity prices and foreign currency exchange rates. The exposure to these
risks is managed through a combination of normal operating and financing
activities which include the use of derivative financial instruments in the form
of foreign currency forward exchange contracts and commodity forward purchasing
contracts. Fluctuations in commodity prices and foreign currency exchange rates
can be volatile, and the Company's risk management activities do not totally
eliminate these risks. Consequently, these fluctuations can have a significant
effect on results. A discussion of the Company's policies and procedures
regarding the management of market risk and the use of derivative financial
instruments was provided in its Annual Report on Form 10-K in Item 7A and in
Notes 1 and 12 of the Notes to Consolidated Financial Statements. The Company
does not utilize financial instruments for trading or other speculative
purposes. There have been no changes in these policies or procedures during the
second quarter of 2005.
The Company utilizes foreign currency forward exchange contracts to hedge
foreign currency receivables, payables and other known transactional exposures
for periods consistent with the expected cash flows of the underlying
transactions. The contracts generally mature within one year and are designed to
limit exposure to exchange rate fluctuations because gains and losses on the
hedged transactions offset gains and losses on the contracts. At June 30, 2005
and December 31, 2004, the Company held foreign currency forward exchange
contracts and foreign currency call options with total notional values in the
amount of $168.0 million and $53.4 million, respectively.
The Company uses commodity forward purchasing contracts to help control the cost
of traded commodities, primarily copper and aluminum, used as raw material in
the production of motors, electrical components and engines. Local management is
allowed to contract commodity forwards for a limited percentage of projected raw
material requirements up to one year in advance. The total values of commodity
forwards outstanding at June 30, 2005 and December 31, 2004 were $23.9 million
and $23.7 million, respectively.
The Company is subject to interest rate risk, primarily associated with its
borrowings. The Company's $250 million Senior Guaranteed Notes are fixed-rate
debt. The Company's remaining borrowings, which consist of bank borrowings by
its foreign subsidiaries and Industrial Development Revenue Bonds, are
variable-rate debt. Currently, 67% of the Company's total debt is fixed-rate.
While changes in interest rates impact the fair value of this debt, there is no
impact to earnings and cash flow because the Company intends to hold these
obligations to maturity unless refinancing conditions are favorable.
Alternatively, while changes in interest rates do not affect the fair value of
the Company's variable-interest rate debt, they do affect future earnings and
cash flows. A 1% increase in interest rates would increase interest expense for
the year by approximately $1.3 million.
Page 22
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 4
CONTROLS AND PROCEDURES
The Company maintains disclosure controls and procedures that are designed to
ensure that information required to be disclosed in the reports that the Company
files or submits under the Securities Exchange Act of 1934 is recorded,
processed, summarized, and reported within the time periods specified in the
SEC's rules and forms, and that such information is accumulated and communicated
to the Company's management, including its President and Chief Executive Officer
and Vice President, Treasurer and Chief Financial Officer, as appropriate, to
allow timely decisions regarding required disclosure.
As of the end of the fiscal quarter covered by this report, the Company carried
out an evaluation, under the supervision and with the participation of the
Company's Disclosure Committee and management, including the President and Chief
Executive Officer and the Company's Vice President, Treasurer and Chief
Financial Officer, of the effectiveness of the design and operation of our
disclosure controls and procedures pursuant to Exchange Act Rule 13a-15. Based
upon such evaluation, the Company's President and Chief Executive Officer along
with the Company's Vice President, Treasurer and Chief Financial Officer
concluded that the Company's disclosure controls and procedures which were
identified as not effective as of December 31, 2004 because of the material
weakness discussed below, have not yet been fully corrected and are, therefore,
not effective as of June 30, 2005. In light of the material weakness, the
Company performed additional analysis and other post-closing procedures to
ensure our consolidated financial statements were prepared in accordance with
generally accepted accounting principles. Accordingly, management believes that
the financial statements included in this report fairly state in all material
respects our financial condition, results of operations and cash flows for the
periods presented.
As outlined in management's annual report as of December 31, 2004, the Company
did not maintain effective controls over the segregation of duties over certain
system access controls as well as security over user access rights to certain
financial application systems which could affect accounts receivable and
revenue, inventory and cost of goods sold, and accounts payable and other
financial statement accounts at a number of its locations. Specifically, the
control deficiencies demonstrated an inadequate design of access security
policies and segregation of duties requirements as well as a lack of independent
monitoring of user access to financial application programs and data.
Individually, these deficiencies were evaluated as representing a more than
remote likelihood that a misstatement that is more than inconsequential, but
less than material, could occur. However, when aggregated, these deficiencies
could result in a misstatement to the financial statement accounts, resulting in
a material misstatement to the consolidated financial statements that would not
be prevented or detected.
The Company has implemented additional controls to remediate this material
weakness. These controls include, but are not limited to, additional levels of
reviews of transactions, additional reviews of changes to financial applications
and data by those with access to both, and reassignment of responsibilities to
provide for better segregation of duties. While specific efforts have been
undertaken to address the segregation of duties and system access issues within
each of the affected locations, the Company has not completed its process to
verify the adequacy of the measures taken and ensure these steps had completely
addressed the previously identified concerns.
The Company has also made progress with respect to its implementation of a
common, global ERP system, which represents the long-term solution to these
deficiencies as well as a significant improvement to the overall internal
control structure of the company. The system implementation includes improved
controls over access to financial application programs and data, independent
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TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 4
CONTROLS AND PROCEDURES
monitoring of users having unrestricted access to financial application programs
and data, and provides for improved segregation of duties. The first business
went live March 1, 2005 and the Company's remaining locations are expected to go
live during 2006 and 2007.
Changes In Internal Control Over Financial Reporting
As noted above, the Company is in the process of implementing a new global ERP
system. Location implementations began in the first quarter of 2005 and the
Company's remaining locations are expected to go live during 2006 and 2007.
During this time period, there will be significant changes in internal controls
over financial reporting at the operations affected. The Company believes it has
designed adequate controls into the new system and will begin testing their
application at each location after their respective go-live dates.
There have been no changes in the Company's internal controls over financial
reporting that occurred during the quarter that have materially affected, or are
reasonably likely to materially affect, the Company's internal control over
financial reporting.
Limitations On The Effectiveness Of Controls And Procedures
Management of the Company, including the chief executive officer and chief
financial officer, does not expect that the Company's disclosure controls and
procedures or internal control over financial reporting will detect or prevent
all error and all fraud. A control system, no matter how well designed and
implemented, can provide only reasonable, not absolute, assurance that the
control system's objective will be met. Because of the inherent limitations in
all control systems, no evaluation of controls can provide absolute assurance
that all control issues within a company are detected.
In addition, projection of any evaluation of the effectiveness of internal
control over financial reporting to future periods is subject to the risk that
controls may become inadequate because of changes in condition, or that the
degree of compliance with policies and procedures included in such controls may
deteriorate.
Page 24
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS
(a) Exhibit
Number Description
------- -----------
4.1 Amendment No. 2 date August 5, 2005 to Note Purchase Agreement
dated March 5, 2003 by and among Tecumseh Products Company and
certain Purchasers listed therein
4.2 Credit Agreement dated as of December 21, 2004 among Tecumseh
Products Company, the lenders named therein, and JPMorgan Chase
Bank, N.A., as agent
4.3 First Amendment dated August 5, 2005 to Credit Agreement dated
as of December 21, 2004 among Tecumseh Products Company, the
lenders named therein, and JPMorgan Chase Bank, N.A., as agent
31.1 Certification of the President and Chief Executive Officer
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of the Chief Financial Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification of the President and Chief Executive Officer
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of the Chief Financial Officer pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
Page 25
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
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.
TECUMSEH PRODUCTS COMPANY
(Registrant)
Dated: August 8, 2005 BY: /s/ JAMES S. NICHOLSON
------------------------------------
James S. Nicholson
Vice President, Treasurer and
Chief Financial Officer (on behalf
of the Registrant and as principal
financial officer)
Page 26
EXHIBIT INDEX
Exhibit
Number Description
------ -----------
4.1 Amendment No. 2 date August 5, 2005 to Note Purchase Agreement dated
March 5, 2003 by and among Tecumseh Products Company and certain
Purchasers listed therein
4.2 Credit Agreement dated as of December 21, 2004 among Tecumseh Products
Company, the lenders named therein, and JPMorgan Chase Bank, N.A., as
agent
4.3 First Amendment dated August 5, 2005 to Credit Agreement dated as of
December 21, 2004 among Tecumseh Products Company, the lenders named
therein, and JPMorgan Chase Bank, N.A., as agent
31.1 Certification of the President and Chief Executive Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of the Chief Financial Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
32.1 Certification of the President and Chief Executive Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of the Chief Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.