SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2005 Commission File Number 0-452
TECUMSEH PRODUCTS COMPANY
(Exact Name of Registrant as Specified in its Charter)
Michigan 38-1093240
(State of Incorporation) (I.R.S. Employer Identification No.)
100 East Patterson Street Tecumseh, Michigan 49286
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (517) 423-8411
Securities Registered Pursuant to Section 12(b) of the Act:
Name of Each Exchange
Title of Each Class on Which Registered
- ------------------- ---------------------
None None
Securities Registered Pursuant to Section 12(g) of the Act:
Class B Common Stock, $1.00 Par Value
Class A Common Stock, $1.00 Par Value
Class B Common Stock Purchase Rights
Class A Common Stock Purchase Rights
Indicate by check mark if the Registrant is a well-known seasoned issuer, as
defined in Rule 405 of the Securities Act.
Yes [ ] No [X]
Indicate by check mark if the Registrant is not required to file reports
pursuant to Section 13 or Section 15(d) of the Act.
Yes [ ] No [X]
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 if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
Indicate by check mark if the Registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
Large accelerated filer [ ] Accelerated filer [X] Non-accelerated filer [ ]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Act). Yes [ ] No [X]
Certain shareholders, which, as of June 30, 2005, held an aggregate of 356,306
shares of Registrant's Class A Common Stock and 1,335,631 shares of its Class B
Common Stock might be regarded as "affiliates" of Registrant as that word is
defined in Rule 12b-2 under the Securities Exchange Act of 1934, as amended. If
such persons are "affiliates," the aggregate market value as of June 30, 2005
(based on the closing prices of $27.44 per Class A share and $27.75 per Class B
share, as reported on the NASDAQ Stock Market on such date) of 13,045,632 Class
A shares and 3,742,115 Class B shares held by non-affiliates was $461,815,833.
Numbers of shares outstanding of each of the Registrant's classes of Common
Stock at February 23, 2006:
Class B Common Stock, $1.00 Par Value: 5,077,746
Class A Common Stock, $1.00 Par Value: 13,401,938
Certain information in the definitive proxy statement to be used in connection
with the Registrant's 2006 Annual Meeting of Shareholders has been incorporated
herein by reference in Part III hereof.
TABLE OF CONTENTS
Page
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PART I
Item 1. Business ....................................................... 1
Item 1A. Risk Factors ................................................... 12
Item 1B. Unresolved Staff Comments ...................................... 17
Executive Officers of Registrant ............................... 17
Item 2. Properties ..................................................... 18
Item 3. Legal Proceedings .............................................. 18
Item 4. Submission of Matters to a Vote of Security Holders ............ 21
PART II
Item 5. Market for the Registrant's Common Equity, Related Stockholder
Matters and Issuer Purchases of Equity Securities ........... 21
Item 6. Selected Financial Data ........................................ 22
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations ....................................... 23
Item 7A. Quantitative and Qualitative Disclosures About Market Risk ..... 40
Item 8. Financial Statements and Supplementary Data .................... 42
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure ........................................ 74
Item 9A. Controls and Procedures ........................................ 74
Item 9B. Other Information .............................................. 76
PART III
Item 10. Directors and Executive Officers of the Registrant ............. 76
Item 11. Executive Compensation ......................................... 77
Item 12. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters ............................. 77
Item 13. Certain Relationships and Related Transactions ................. 77
Item 14. Principal Accountant Fees and Services ......................... 77
PART IV
Item 15. Exhibits and Financial Statement Schedules ..................... 77
Signatures .............................................................. 83
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PART I
ITEM 1. BUSINESS
GENERAL
Tecumseh Products Company (the "Company") is a full-line, independent, global
manufacturer of hermetic compressors for residential and commercial
refrigerators, freezers, water coolers, dehumidifiers, window air conditioning
units and residential and commercial central system air conditioners and heat
pumps; electric motors and components, including AC and DC motors, blowers, gear
motors and linear actuators for a wide variety of industrial and consumer
applications across a broad range of industries; gasoline engines and power
train for lawn mowers, lawn and garden tractors, garden tillers, string
trimmers, snow throwers, industrial and agricultural applications and
recreational vehicles; and centrifugal pumps, sump pumps and small submersible
pumps for industrial, commercial, marine and agricultural applications. The
Company believes it is one of the largest independent producers of hermetically
sealed compressors in the world, one of the world's leading manufacturers of
small gasoline engines and power train products used in lawn and garden
applications, and one of the leading manufacturers of fractional horsepower
motors for the United States market. The Company also produces a variety of pump
products with a wide range of applications. The Company groups its products into
four principal market segments: Compressor Products, Electrical Component
Products, Engine & Power Train Products and Pump Products. All of the Company's
products are sold in countries all around the world.
Compressor Products include a broad range of air conditioning and refrigeration
compressors, as well as refrigeration condensing units and complete
refrigeration systems. The Company's compressor products range from fractional
horsepower models used in small refrigerators and dehumidifiers to large
compressors used in unitary air conditioning applications. The Company sells
compressors in all four compressor market segments: (i) household refrigerators
and freezers; (ii) room air conditioners; (iii) commercial and residential
unitary central air conditioning systems; and (iv) commercial refrigeration
applications including freezers, dehumidifiers, display cases and vending
machines. The Company sells compressors to original equipment manufacturers
("OEMs") and aftermarket distributors.
Electrical Component Products include AC and DC electric motors, blowers, gear
motors and linear actuators for a broad and diverse set of applications across
many industries. These markets include automotive, appliance and consumer
durables, heating and cooling equipment, computer and office equipment,
industrial machinery, commercial equipment, aerospace and healthcare. In
addition to motors, the Company also manufactures other electrical components
that work in tandem with electric and electronic devices to manage and regulate
their operation and provide connectivity and other motor parts for sale to
external customers. These products include overloads, relays, thermostats,
terminals, laminations and electronic circuit boards. In addition, the Company
has developed an uninterruptible alternative power system for use in mission
critical facilities, such as cell towers and data centers, where reliable power
is a necessity. The Company has uninterruptible power units undergoing internal
and customer testing.
Engine & Power Train Products consist of (i) two- and four-cycle gasoline
engines for use in a wide variety of lawn and garden applications and other
consumer and light commercial applications and (ii) transmissions, transaxles
and related parts for use principally in lawn and garden tractors and riding
lawn mowers. The Company sells engine and power train products to OEMs and
aftermarket distributors.
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Pump Products include (i) small submersible pumps used in a wide variety of
industrial, commercial, and consumer applications and (ii) heavy-duty
centrifugal type pumps used in the construction, mining, agricultural, marine,
and transportation industries. The Company sells pump products to distributors,
mass merchants and OEMs.
FOREIGN OPERATIONS AND SALES
In recent years, international sales and manufacturing have become increasingly
important to the Company's business as a whole. In 2005, sales to customers
outside the United States represented approximately 47% of total consolidated
net sales. In addition to North American operations, compressor products are
sold from Brazil, France, India and Malaysia, engines and component parts are
produced in the Czech Republic and Brazil and electric motors are produced in
Thailand and Australia.
Products sold outside the United States are manufactured at both U.S. and
foreign plants. Tecumseh do Brasil, Ltda. ("Tecumseh do Brasil"), the Company's
Brazilian compressor subsidiary, sells its products principally in Latin
America, North America, Europe, Africa and the Middle East. The Brazilian
operation represents a significant portion of the Company's compressor business.
In 2005, total sales generated by Tecumseh do Brasil amounted to 40% of total
Compressor Products segment sales.
The Company's European compressor subsidiary, Tecumseh Europe, S.A. ("Tecumseh
Europe"), generally sells the compressor products it manufactures in Europe, the
Middle East, Africa, Latin America and Asia. The Company also has two
manufacturing facilities in India that produce air conditioning and
refrigeration compressors primarily for the Indian appliance market with a
growing amount of exports to North America, the Middle East, the Far East and
Africa.
The primary market for Electrical Component products is North America with some
sales of fractional horsepower motors in Australia, Europe and Asia. Motor
manufacturing operations outside the United States are located in Mexico and
Thailand with some final assembly in Australia. Mexican operations are used to
supply the North American market, while the Thai operations supply Asia,
Australia and North America.
In the engine business, the Company has two principal markets. The North
American market is primarily served by the Company's U.S. manufacturing
operations. The European market will be served by U.S. export sales following
the announcement of the closure of the Company's Italian engine subsidiary,
Tecumseh Europa, S.p.A. ("Tecumseh Europa") in December 2005. In addition, the
engine business has a manufacturing facility in the Czech Republic that produces
primarily larger engines and engine components for export to the U.S. market and
a facility in Curitiba, Brazil that produces engine components and
sub-assemblies for export to the U.S. and European markets.
The Company's dependence on sales in foreign countries entails certain
commercial and political risks, including currency fluctuations, unstable
economic or political conditions in some areas and the possibility of U.S.
government embargoes on sales to certain countries. The Company's foreign
manufacturing operations are subject to other risks as well, including
governmental expropriation, governmental regulations that may be disadvantageous
to businesses owned by foreign nationals and instabilities in the workforce due
to changing political and social conditions. These considerations are especially
significant in the context of the Company's Brazilian operations given the
importance of Tecumseh do Brasil's performance to the Company's total operating
results.
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INDUSTRY SEGMENT AND GEOGRAPHIC LOCATION INFORMATION
The results of operations and other financial information by industry segment
and geographic location (including the footnotes thereto) for each of the years
ended December 31, 2005, 2004 and 2003 appear under the caption "Business
Segment Data" in Note 8 to the Consolidated Financial Statements which appear in
Part II, Item 8, of this report, "Financial Statements and Supplementary Data,"
and that information is incorporated by reference into this Item 1. Our segments
share similar economic characteristics and are similar in terms of products
offered, production processes, types of customers served and methods of
distribution. The information contained under the caption "Business Segment
Data," along with the discussion in the "Management's Discussion and Analysis of
Financial Condition and Results of Operations" under the caption "Results of
Operations" in this report should be read in conjunction with the business
segment information presented in the following sections entitled: Compressor
Products, Electrical Component Products, Engine & Power Train Products and Pump
Products.
COMPRESSOR PRODUCTS
The Compressor Products segment is the Company's largest business segment. A
compressor is a device that compresses a refrigerant gas. When the gas is later
permitted to expand, it absorbs and transfers heat, producing a cooling effect,
which forms the basis for a wide variety of refrigeration and air conditioning
products. All of the compressors produced by the Company are hermetically
sealed. The Company's current compressor line consists primarily of
reciprocating and rotary designs with a limited number of scroll models.
Product Line
The Company manufactures and sells a variety of traditional, reciprocating
piston compressors suitable for use in all four compressor market segments.
These lines of compressors range in size from approximately 15,000 - 72,000
BTU/hour models used in unitary air conditioning applications to 200 - 12,000
BTU/hour models used in refrigerators/freezers, dehumidifiers, ice makers and
vending machines.
Rotary compressors ranging from 5,000 to 18,000 BTU/hour are produced by the
Company for room and mobile air conditioning applications, as well as certain
commercial refrigeration applications. These compressors generally provide
increased operating efficiency, lower equipment space requirements, and reduced
sound levels when compared to reciprocating piston models.
Scroll compressors generally offer improved energy efficiency and reduced noise
levels compared to traditional reciprocating designs and are generally preferred
by OEMs for certain products, including unitary central air conditioning systems
and certain commercial refrigeration applications. The Company currently has
prototypes in testing with potential commercial refrigeration customers.
The Compressor products segment also produces subassemblies and more complete
refrigeration systems that utilize its compressors as a component. Such products
include condensing units, complete refrigeration systems and cooling systems
that use variable speed, DC powered compressors. These products are sold to both
OEM and aftermarket distributors.
Manufacturing Operations
Compressor Products manufactured or assembled in the Company's North American
plants accounted for approximately 25% of 2005 compressor sales. The balance was
produced at the Company's manufacturing facilities in Brazil, France and India.
The compressor operations are
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substantially vertically integrated, and the Company manufactures a significant
portion of its component needs internally, including electric motors, metal
stampings and glass terminals. Raw materials are purchased from a variety of
non-affiliated suppliers. The Company utilizes multiple sources of supply, and
the required raw materials and components are generally available in sufficient
quantities, although the costs of commodity raw materials have increased
substantially in recent years and are expected to remain volatile in the future.
Sales and Marketing
The Company markets its North American, Brazilian and Indian built compressors
under the "Tecumseh" brand and French built compressors under the "Tecumseh
Europe-L'Unite Hermetique" brand. The Company sells its compressor products in
North America primarily through its own sales staff. Major original equipment
manufacturer (OEM) customers are assigned to sales staff on an account basis.
Other customers (smaller commercial OEMs) are served by sales personnel assigned
to specified geographic regions, and sales to aftermarket customers are made
through independent sales representatives in addition to its own sales staff.
The Company's North American, Brazilian, French and Indian operations each have
their own sales staff. In certain foreign markets, the Company also uses local
independent sales representatives and distributors.
Substantially all of the Company's sales of compressor products for room air
conditioners and for household refrigerators and freezers are to OEMs. Sales of
compressor products for unitary central air conditioning systems and commercial
applications include substantial sales to both OEM and distributor customers.
The Company has over 1,200 customers for compressor products, the most
significant of which are commercial customers. In 2005, the two largest
customers for compressor products accounted for 4.9% and 3.8%, respectively, of
total segment sales, or 2.4% and 1.9%, respectively, of consolidated net sales.
Loss of either of these customers could have a material adverse effect on the
results of operations of the Compressor Products segment and, at least
temporarily, on the Company's business as a whole. Generally, the Company does
not enter into long-term contracts with its customers in this segment. However,
the Company does pursue long-term agreements with selected major customers where
a business relationship has existed for a substantial period of time.
The Company exports to over 110 countries. In 2005, approximately 27% of the
compressor products produced by the Company in its U.S. plants were exported to
foreign countries. Approximately 47% of these exported products were sold in the
Far and Middle East.
Competition
All of the compressor market segments in which the Company operates are highly
competitive. Participants compete on the basis of delivery, efficiency, noise
level, price and reliability. The Company competes not only with other
independent compressor producers but also with manufacturers of end products
that have internal compressor manufacturing operations.
North American Operations
The domestic unitary air conditioning compressor market consists of OEMs and a
significant compressor aftermarket. The Company competes primarily with two U.S.
manufacturers, Copeland Corporation, a subsidiary of Emerson Electric, Inc., and
Bristol Compressors, Inc., a subsidiary of Johnson Controls. Copeland
Corporation enjoys a larger share of the domestic unitary air conditioning
compressor business than either Bristol Compressors, Inc. or the Company.
4
Over the last several years there has been an industry trend toward the use of
scroll compressors in the high efficiency segment of the unitary air
conditioning market. Copeland Corporation and other compressor manufacturers
have had scroll compressors as part of their product offerings for some time.
Along with its own manufacturing capabilities, Copeland Corporation is also a
member of the Alliance Scroll manufacturing joint venture with two major U.S.
central air conditioning manufacturers, American Standard's Trane air
conditioning division and Lennox International, Inc. Carrier Corporation, a
subsidiary of United Technologies and a major original equipment manufacturer,
has a joint venture to produce scroll compressors with Bristol Compressors, Inc.
As discussed in the product line section, the Company continues to believe that
the scroll compressor is important to maintaining a position in the unitary air
conditioning and commercial refrigeration markets, and it continues to pursue
development of the scroll compressor in a manner that limits financial risk to
the Company. The Company has prototypes in testing with potential commercial
refrigeration customers.
In the domestic room air conditioning compressor market, the Company competes
primarily with foreign companies, as a majority of room air conditioners are now
manufactured outside the United States. The Company also competes to a lesser
extent with U.S. manufacturers. Competitors include Matsushita Electric
Industrial Corporation, Rotorex, Inc., Sanyo Electric Trading Company, L.G.
Electronics, Inc., Mitsubishi, Daikin, and others. The Company has increasingly
struggled with price competition from foreign companies during the last several
years. Downward pressure on prices, particularly in the room air conditioning
market, has continued due to world over-capacity and available supply of
inexpensive Asian products both in North America and in Europe.
In the domestic markets for water coolers, dehumidifiers, vending machines,
refrigerated display cases and other commercial refrigeration products, the
Company competes primarily with compressor manufacturers from the Far East,
Europe and South America, and to a lesser extent, the United States. Competitors
include Matsushita Electric Industrial Corporation, Danfoss, Inc., Embraco,
S.A., Copeland Corporation and others.
The household refrigerator and freezer market is vertically integrated with many
appliance producers manufacturing a substantial portion of their compressor
needs. The Company's competitors include ACC Group (formerly the compressor
operations of AB Electrolux), Matsushita Electric Industrial Corporation,
Embraco, S.A., Danfoss, Inc., and others. The Company has an extensive product
line in this market that includes both reciprocating piston and rotary type
compressors with a reputation for reliable field performance.
In light of foreign competition and the movement of OEM customer operations
outside the U.S., the Company has been undertaking actions since 1999 to
consolidate North American compressor manufacturing capacity and shift the
production mix to higher value-added products. The objective is not only to
reduce the cost structure of the Company's domestically produced compressor
models, but also to improve performance by producing products that offer a
better value proposition to our customers.
European Operations
Tecumseh Europe sells the major portion of its manufactured compressors in
Western Europe and competes in those markets primarily with several large
European manufacturers, some of which are captive suppliers, and to a lesser but
increasing extent, with manufacturers from the Far East and Brazil. Competitors
include ACC Group, Embraco, S.A., Danfoss, Inc. and others. Tecumseh Europe
produces compressors primarily for the commercial refrigeration market. European
operations face the same competitive factors as those in North America,
including foreign
5
competition and a shrinking local customer base. Similar to the restructuring
actions completed over the past several years in North America, European
operations will need to consolidate facilities to improve their overall cost
structure.
Brazilian Operations
Tecumseh do Brasil competes directly with Embraco, S.A. in Brazil and with
Embraco and several other foreign manufacturers in Latin America. Historically,
Tecumseh do Brasil has sold the major portion of its manufactured compressors in
Latin America, North America, Europe, Africa and the Middle East. Significant
devaluations of the Brazilian Real in 1999 and 2002 set the stage for Tecumseh
do Brasil to better compete in foreign markets, resulting in approximately 66%,
63%, and 67% of its production being exported in 2005, 2004 and 2003,
respectively. However, during 2005 and 2004 the Brazilian Real appreciated
against the U.S. Dollar by 16% and 8%, respectively, representing a significant
departure from historical devaluation trends.
The operations in Brazil represent a significant and critical component of the
Compressor Group as a whole given its overall cost structure and the scope of
its operations. The Brazilian operations represented 40% and 38% of 2005 and
2004 sales, respectively, and has historically provided a disproportionate share
of the Group's operating profit.
Indian Operations
Tecumseh Products India Private Ltd. has two compressor manufacturing facilities
in India that sell to regional markets and increasingly to global markets,
including North America, the Middle East, the Far East and Africa. Major
competitors include the Indian manufacturers Kirloskar Copeland Ltd., Carrier
Aircon Ltd., Godrej, Videocon, BPL and others. Tecumseh Products India Private
Ltd. produces compressors for the air conditioning and refrigerator and freezer
markets. In 2005, approximately 14.0% and 13.2% of its sales were made to its
two largest customers, respectively, and the loss of these customers would have
a significant impact on the results of operations of this facility, and to a
lesser extent, on the consolidated results of the Compressor Products segment
and the Company as a whole.
Research
Ongoing research and development is another method in which the Company strives
to exceed its competition. The ability to successfully bring new products to
market in a timely manner has rapidly become a critical factor in competing in
the compressor products business as a result of, among other things, the
imposition of energy efficiency standards and environmental regulations
including those related to refrigerant requirements. These factors are discussed
below.
Regulatory Requirements
Hydrochlorofluorocarbon compounds ("HCFCs") are used as a refrigerant in air
conditioning systems. Under a 1992 international agreement, HCFCs will be banned
from new equipment beginning in 2010. Some European countries began HCFC
phase-outs as early as 1998, and some have fully eliminated the use of HCFCs.
Within the last several years, the Company has approved and released a number of
compressor models utilizing U.S. government approved hydrofluorocarbons ("HFC")
refrigerants, which are considered more environmentally safe than the preceding
refrigeration compounds. HFCs are also currently under global scrutiny and
subject to possible future restrictions.
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In the last few years, there has been an even greater political and consumer
movement, particularly from northern European countries, toward the use of
hydrocarbons ("HCs") as alternative refrigerants, moving further away from the
use of chlorine (which depletes the ozone layer of the atmosphere) and the use
of fluorine (which contributes to the "green-house" effect). Both Tecumseh do
Brasil and Tecumseh Europe have compressor products available for sale that
utilize hydrocarbon refrigerants. Hydrocarbons are flammable compounds and have
not been approved by the U.S. government for air conditioning or household
refrigerator and freezer applications. It is not presently possible to estimate
the level of expenditures that will be required to meet future industry
requirements or the effect on the Company's competitive position.
The U.S. National Appliance Energy Conservation Act of 1987 (the "NAECA")
requires specified energy efficiency ratings on room air conditioners and
household refrigerator/freezers. Proposed energy efficiency requirements for
unitary air conditioners were published in the U.S. in January 2001 and became
effective in January 2006. The European and Brazilian manufacturing communities
have issued energy efficiency directives that specify the acceptable level of
energy consumption for refrigerators and freezers. These efficiency ratings
apply to the overall performance of the specific appliance, of which the
compressor is one component. The Company has ongoing projects aimed at improving
the efficiency levels of its compressor products and has products available to
meet known energy efficiency requirements as determined by our customers.
ELECTRICAL COMPONENT PRODUCTS
FASCO Motors Group is the largest single operation of the Electrical Component
Products group. Headquartered in Eaton Rapids, Michigan, FASCO is a leading
manufacturer in the U.S. fractional horsepower ("FHP") motors industry.
The FHP motors industry is large and diverse with an estimated size in excess of
$10 billion. The market is generally stable as many different manufacturers use
FHP motors as components of their applications. The pervasiveness of motors has
been due, in part, to rising disposable income, spending on appliance
"necessities" for replacement, remodeling and new construction, increased
heating efficiency standards, increased use of power options in vehicles, growth
in applications for motors in healthcare, leisure, exercise and home maintenance
products, a wide variety of industrial applications, decreases in motor size and
improvements in motor efficiency.
Product Line
Electrical Component Products manufactures AC motors, DC motors, blowers,
gearmotors and linear actuators, and other components used in applications with
electric motors. Its products are used in a wide variety of applications in
markets that include automotive, appliance and consumer durables, heating and
cooling equipment, computer and office equipment, industrial machinery,
commercial equipment, aerospace and healthcare. Tecumseh believes that the
Company has products to serve approximately 20-25% of the market, with its
primary focus on high value-added products and services.
Manufacturing Operations
Currently, Electrical Component Products operates nine manufacturing or assembly
facilities located as follows: four in the United States, two in Mexico and one
each in Canada, Thailand and Australia. These facilities are to a large extent
vertically integrated; however, some component parts are purchased from outside
suppliers. The Company utilizes multiple sources of supply, and the required raw
materials, including copper wire, steel, aluminum, zinc and components are
generally available in sufficient quantities.
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Sales and Marketing
Electrical Component Products markets its products principally under the "FASCO"
brand. The FASCO brand name is well known and nearly a century old. FASCO sells
its products primarily through its own direct sales force supplemented by third
party sales representatives in certain markets. Approximately 88% of FASCO's
sales are to OEM customers. Sales professionals are assigned to accounts based
upon type of account and geographic region.
Electrical Component Products has over 2,500 customers for its products, the
largest of which are in the automotive sector. Historically, the top three
customers have accounted for less than 18% of revenues, with the largest
customer accounting for approximately 7.9%. Loss of the largest customer could
have a material adverse effect on the results of Electrical Component Products.
In addition, certain of Electrical Component Products' customers are competitors
of Tecumseh's other business segments. Individually, none of these customers
exceed 2% of Electrical Component Products' total sales. Electrical Component
Products does not have long-term contracts with the majority of its customers.
Competition
All of the application markets in which Electrical Component Products competes
are highly competitive. Different competitors are present within each of the
application markets. Key competitors in the automotive market segment include
Daewoo, Bosch and Johnson Electric. Key competitors in residential and
commercial market segments include Regal-Beloit, Emerson and A.O. Smith. In the
linear actuator and gearmotor market segments, key competitors include
Merkle-Koff, Bison and Hubbell. Participants compete on various levels,
including motor design and application, customer service and price. Motor design
and application is critical because OEMs are constantly improving their product
lines, which often require new motor specifications. In general, end-use markets
today are looking for smaller, more efficient, faster, cooler-operating and
lighter motors. In addition to competing with other independent motor
manufactures, the Company also competes to a lesser extent with manufacturers of
end products that have internal motor manufacturing operations.
ENGINE & POWER TRAIN PRODUCTS
Small gasoline engines account for a majority of the net sales of the Company's
Engine & Power Train Products segment. These are used in a broad variety of
consumer products, including lawn mowers (both riding and walk-behind types),
snow throwers, small lawn and garden tractors, small power devices used in
outdoor chore products, generators, pumps and certain self-propelled vehicles.
The Company manufactures gasoline engines, both two- and four-cycle types, with
aluminum die-cast bodies ranging in size from 2 through 25 horsepower. The
Company's power train products include transmissions, transaxles and related
parts used principally in lawn and garden tractors and riding lawn mowers.
Manufacturing Operations
The Company manufactures or assembles engines and related components in three
plants in the United States, one plant in the Czech Republic and one plant in
Brazil. All of the Company's power train products are currently manufactured in
one facility in the United States and in the Group's facility in Brazil.
Operations of the Company in this segment are partially vertically integrated as
the Company produces most of its plastic parts and carburetors. The Company
purchases the aluminum die-castings used in its engines and power train
products. The Company utilizes multiple sources of supply, and the required raw
materials and components are generally available in sufficient quantities.
8
Significant declines in unit volumes since 1999 left the Engine & Power Train
operations with over-capacity. From 2001 to the current year, the Company
recognized restructuring charges of $39.0 million related primarily to the
closure of production facilities resulting in write-downs of fixed assets and
the relocation of certain engine and component part production from domestic
facilities to the Company's facilities in the Czech Republic and Brazil. As a
result of these actions, manufacturing activities ceased at the Company's
facilities in Grafton, Wisconsin, Sheboygan Falls, Wisconsin and Douglas,
Georgia during 2003 and Corinth, Mississippi and Torino, Italy during 2005..
Sales and Marketing
The Company markets its Engine & Power Train Products worldwide under the
"Tecumseh" and "Peerless" brands. A substantial portion of the Company's engines
are incorporated into lawn and garden and other consumer products under brand
labels owned by OEMs and sold through "do-it-yourself" home centers, mass
merchandisers, department stores and lawn and garden specialty retailers.
The majority of the Company's Engine & Power Train Products are sold directly to
OEMs. The Company also sells engines and parts to its authorized dealers and
distributors, who service its engines, both in the United States and abroad.
Marketing of Engine & Power Train Products is handled by the Company's own sales
staff and by local sales representatives in certain foreign countries. North
America and Europe are the principal markets for lawn and garden products,
although engines are sold throughout the world.
Sales in this segment can be significantly affected by environmental factors
affecting the respective selling seasons for the various types of equipment. For
example, snow thrower sales, and therefore the demand for the Company's
applicable engines, show a strong correlation with the amount of snowfall
received. Similarly, the frequency of weather-related and other interruptions to
power supplies, or the perceived threat of interruptions, affect the demand for
generators. Factors such as these are largely unpredictable, yet greatly
influence the year-to-year demand for engine products.
In 2005, the three largest (direct ship) customers for Engine & Power Train
Products accounted for 31.5%, 13.9%, and 12.8%, respectively, of segment sales,
or 6.9%, 3.0%, and 2.8%, respectively, of consolidated net sales. Some of the
engines provided to these customers are incorporated into end consumer products
that are sold by a number of large retailers, including Sears and Home Depot,
that represent a significant portion of industry sales. Loss of any of this
segment's three largest customers, and/or the loss of a significant retail
distributor, would have a material adverse effect on the results of operations
of this segment and, at least temporarily, on the Company and its business as a
whole.
Competition
The Company believes it is one of the largest consolidated producers of engines
and transmissions for the outdoor power equipment industry in North America and
Europe. However, it is only the third largest producer in these markets of small
gasoline engines for the lawn and garden applications. The largest such
producer, with a broader product range, is Briggs & Stratton Corporation. Other
producers of small gasoline engines include Honda Corporation, Kohler
Corporation and Kawasaki Motors Corp., among others.
Competition in the Company's engine business is based principally on price,
service, product performance and features and brand recognition. As mass
merchandisers have captured a larger portion of the sales of lawn and garden
products in the United States, price competition and the
9
ability to offer customized styling and feature choices have become even more
important. The Company believes that it competes effectively on these bases.
Environmental Standards
The U.S. Environmental Protection Agency ("EPA") has developed national emission
standards covering the engines produced by the Company under a two-phased
approach. The Company currently produces competitively priced engines that
comply with the EPA's Phase I engine emission standards. The Phase II standards,
which are more stringent, are being phased in between the 2005 and 2008 model
years, depending on the size of the engine. A broad range of the Company's
engines has been certified to comply with these emissions standards.
In addition to the U.S. EPA regulations, the California Air Resources Board
("CARB") has proposed Tier III regulations requiring additional reductions in
exhaust emissions and new controls on evaporative emissions. The CARB proposal,
which has yet to be finalized, would be phased in between 2006 and 2008
depending on the size of the engine and the type of control utilized. While the
additional requirements are expected to add cost to the engines sold in the
State of California, it is not possible at this time to determine the amount of
such costs nor the impact on the competitive position of the Company, if the
State of California enforces the CARB Emission Standards.
The European Community has implemented noise standards for some categories of
engine-powered equipment. These standards take effect in two stages: Stage I
began January 3, 2002 and Stage II took effect January 3, 2006. They regulate
the sound level of the complete product delivered to the end user. The Company
currently supplies engines to and works with equipment manufacturers to assure
that their products comply with these standards. The European community has also
adopted exhaust emission regulations that affect the engines sold into the
European community. These regulations are being implemented in stages with the
first stage initiated in August 2004. These regulations are similar to the U.S.
EPA regulations and as a result are not expected to impact the competitive
position of the Company.
PUMP PRODUCTS
The Company manufactures and sells submersible pumps, centrifugal pumps and
related products through its two subsidiaries, Little Giant Pump Company
("Little Giant") and MP Pumps, Inc. ("MP Pumps"). Little Giant pumps are used in
a broad range of commercial, industrial, and consumer products, including
heating, ventilating and cooling, parts washers, machine tools, evaporative
coolers, sump pumps, statuary fountains, water gardening, and waste management.
Little Giant's products are sold worldwide to OEMs, distributors and mass
retailers. Sales and marketing is executed through Little Giant's own sales
management and through manufacturers' representatives under the "Little Giant"
and "Interon" brand names.
The pump industry is highly fragmented, with many relatively small producers
competing for sales. Little Giant has been particularly successful in competing
in the pump industry by targeting specific market niches where opportunities
exist and then designing and marketing corresponding products. In the last three
years, the "Little Giant" brand name has become more associated with consumer
products due to the success of the subsidiary's water-gardening product line.
However, the focus of this pump manufacturer has long been in the commercial and
industrial market channels of the pump industry, and Little Giant is pursuing
these markets through the development of complete pump systems utilizing larger
pump models.
During 2004, the Company was informed by a major retailer, which accounted for
approximately 17% of Little Giant's overall business or 70% of Little Giant
water gardening business, that it was
10
switching to a China-based supplier for the 2005 season. The Company continues
to seek other distribution channels for this product, and successfully mitigated
the loss in sales primarily through growth in other product lines.
MP Pumps manufactures and sells a variety of centrifugal pumps ranging in
capacity from 5 to 1,000 gallons per minute, that are used in the agricultural,
marine and transportation industries, and in a variety of commercial and
industrial applications and end products. MP Pumps sells both to OEMs, which
incorporate its pumps into their end products, and through an extensive network
of market segmented distributors located throughout the United States. The
distributors within the network both engineer and sell pump products to end
users and small OEMs. A limited number of pumps are also sold to departments and
agencies of the U.S. government. MP Pumps markets both custom and standard
catalog product through its own sales staff. Pumps sold through distribution
channels are branded under the "MP" and "Flomax" registered trade names. Some
pumps are privately labeled for specific customer use.
BACKLOG AND SEASONAL VARIATIONS
Most of the Company's production is against short-term purchase orders, and
backlog is not significant.
Compressor Products, Engine & Power Train Products and Electrical Component
Products are subject to some seasonal variation. Overall, the Company's sales
and operating profit typically are stronger in the first two quarters of the
year than in the last two quarters. However, depending on relative performance
among the groups and factors, such as foreign currency changes and global
weather, trends can vary.
PATENTS, LICENSES AND TRADEMARKS
The Company owns a substantial number of patents, licenses and trademarks and
deems them to be important to certain lines of its business; however, the
success of the Company's overall business is not considered primarily dependent
on them. In the conduct of its business, the Company owns and uses a variety of
registered trademarks, the most familiar of which is the trademark consisting of
the word "Tecumseh" in combination with a Native American Indian head symbol.
RESEARCH AND DEVELOPMENT
The Company must continually develop new and improved products in order to
compete effectively and to meet evolving regulatory standards in all of its
major lines of business. The Company spent approximately $30.6 million, $34.0
million, and $31.5 million during 2005, 2004, and 2003, respectively, on
research activities relating to the development of new products and the
development of improvements to existing products. None of this research was
customer sponsored.
EMPLOYEES
On December 31, 2005, the Company employed approximately 19,100 persons, 70% of
whom were employed in foreign locations. Approximately 1,000 of the U.S.
employees were represented by labor unions, with no more than 600 persons
covered by the same union contract. The majority of foreign location personnel
are represented by national trade unions. The number of the Company's employees
is subject to some seasonal variation. During 2005, the maximum number of
persons employed was approximately 22,900 and the minimum was approximately
19,100. Overall, the Company believes it generally has a good relationship with
its employees.
11
AVAILABLE INFORMATION
The Company provides public access to its annual report on Form 10-K, quarterly
reports on Form 10-Q, current reports on Form 8-K, and amendments to these
reports filed with or furnished to the Securities and Exchange Commission (SEC)
under the 1934 Act. These documents may be accessed free of charge through the
Company's website at the following address:
http://www.tecumseh.com/investor.htm. These documents are provided as soon as
practicable after filing with the SEC, although not generally on the same day.
These documents may also be found at the SEC's website at http://www.sec.gov.
ITEM 1A. RISK FACTORS
Set forth below and elsewhere in this Annual Report on Form 10-K are some of the
principal risks and uncertainties that could cause our actual business results
to differ materially from any forward-looking statements contained in this
Report. These risk factors should be considered in addition to our cautionary
comments concerning forward-looking statements in this Report, including
statements related to markets for our products and trends in our business that
involve a number of risks and uncertainties. Our separate section in Item 7
below, "Disclosure Regarding Forward-Looking Statements," should be considered
in addition to the following statements.
DEMAND FOR OUR PRODUCTS WILL BE AFFECTED BY GENERAL GLOBAL ECONOMIC
CONDITIONS.
Demand for our products is influenced by many global economic conditions,
including but not limited to new construction activity and the level of repair
and remodeling activity. The level of new construction and repair and remodeling
activity is affected by a number of factors beyond our control, such as the
overall strength of the economy (including confidence in the economy by our
customers), the strength of the residential and commercial real estate markets,
institutional building activity, the age of existing housing stock, unemployment
rates, availability of consumer financing and interest rates. Any declines in
new housing or commercial construction starts or demand for replacement building
and home improvement products may adversely impact us, and there can be no
assurance that any such adverse effects would not be material and would not
continue for an indeterminate period of time. Further, while we attempt to
minimize our exposure to economic or market fluctuations by serving a balanced
mix of end markets and geographic regions, we cannot assure you that a
significant or sustained downturn in a specific end market or geographic region
would not have a material adverse effect on us.
OUR BUSINESSES OPERATE IN HIGHLY COMPETITIVE MARKETS, SO WE MAY SUFFER
PRICING INFLEXIBILITY OR INCUR ADDITIONAL COSTS.
Our businesses generally face substantial competition in each of their
respective markets. Competition may prevent us from raising or force us to cut
prices or to incur additional costs to remain competitive. We compete on the
basis of product design, quality, availability, performance, customer service
and price. Present or future competitors may have greater financial, technical
or other resources which could put us at a disadvantage in the affected business
or businesses. We cannot assure you that these and other factors will not have a
material adverse effect on our results of operations.
In particular, our three largest business segments operate in environments where
worldwide productive capacities exceed global demand and customers and
competitors are establishing new productive capacities in low cost countries,
including China. These trends have resulted in the need for Tecumseh to
restructure its operations by removing excess capacities, lowering its cost of
purchased inputs and shifting productive capacities to low cost countries in
order to improve its
12
overall cost structure, restore margins and improve its competitive position in
its major markets. There is no guarantee that these initiatives, which have
included plant closures, headcount reductions, expanded operations in low-cost
countries (including China, India and Brazil) and global sourcing initiatives,
will be successful in setting the stage for improvement in profitability in the
future.
In particular we are making significant changes to the Engine & Power Train
Group with a strategy to consolidate our manufacturing footprint to reduce
costs. In 2005, the Company engaged Alix Partners to assess the Company's
strategy and execute the operational improvements identified from their study.
MATERIAL COST INFLATION COULD ADVERSELY AFFECT OUR RESULTS OF OPERATIONS.
We are experiencing material cost inflation in a number of our businesses. We
are striving for greater productivity improvements and implementing selective
increases in selling prices to help mitigate cost increases in base materials
such as copper, aluminum, steel, resins, as well as other input costs including
ocean freight, fuel, health care and insurance. We also are continuing to
implement our excellence in operations initiatives in order to continuously
reduce our costs. We cannot assure you, however, that these actions will be
successful to manage our costs or increase our productivity. Continued cost
inflation or failure of our initiatives to generate cost savings or improve
productivity may negatively impact our results of operations.
SEASONALITY OF SALES AND WEATHER CONDITIONS MAY ADVERSELY AFFECT OUR
FINANCIAL RESULTS.
We experience seasonal and weather-related fluctuations in demand in each of our
segments. End-user demand for equipment, particularly air conditioners, lawn and
garden products, portable power generators and snow throwers, follows weather
trends, water patterns (such as heavy droughts or flooding) or can be related to
natural catastrophes. The magnitude of the sales spike is partially mitigated by
effective use of the distribution channel by employing advance sales programs
(generally including extended payment terms and/or additional discounts). We
cannot assure you that seasonality and weather conditions will not have a
material adverse effect on our results of operations.
OUR RESULTS OF OPERATIONS MAY BE NEGATIVELY IMPACTED BY LITIGATION.
Our business exposes us to potential litigation, especially product liability
suits that are inherent in the design, manufacture, and sale of our products.
These claims can be expensive to defend and can divert the attention of
management and other personnel for significant periods of time, regardless of
the ultimate outcome.
As we self-insure a portion of product liability claims, an unsuccessful defense
of a product liability claim or series of successful claims could materially and
adversely affect our product reputation and our financial condition, results of
operations, and cash flows. Even if we are successful in defending against a
claim relating to our products, claims of this nature could cause our customers
to lose confidence in our products and our Company.
WE ARE SUBJECT TO CURRENCY EXCHANGE RATE AND OTHER RELATED RISKS.
We conduct operations in many areas of the world involving transactions
denominated in a variety of currencies. We are subject to currency exchange rate
risk to the extent that our costs are denominated in currencies other than those
in which we earn revenues. In particular, this situation exists for the Company
with respect to our Brazilian operations which has sales denominated in the
13
U.S. dollar and the Euro. In 2005, total sales generated by Tecumseh do Brasil
amounted to 40% of total Compressor Products segment sales.
In addition, since our financial statements are denominated in U.S. dollars,
changes in currency exchange rates between the U.S. dollar and other currencies
have had, and will continue to have, an impact on our earnings. While we
customarily enter into financial transactions to mitigate these risks, we cannot
assure that currency exchange rate fluctuations will not adversely affect our
results of operations and financial condition. In addition, while the use of
currency hedging instruments may provide us with protection from adverse
fluctuations in currency exchange rates, by utilizing these instruments we
potentially forego the benefits that might result from favorable fluctuations in
currency exchange rates.
We also face risks arising from the imposition of exchange controls and currency
devaluations. Exchange controls may limit our ability to convert foreign
currencies into U.S. dollars or to remit dividends and other payments by our
foreign subsidiaries or businesses located in or conducted within a country
imposing controls. Currency devaluations result in a diminished value of funds
denominated in the currency of the country instituting the devaluation. Actions
of this nature, if they occur or continue for significant periods of time, could
have an adverse effect on our results of operations and financial condition in
any given period.
WE ARE EXPOSED TO POLITICAL, ECONOMIC AND OTHER RISKS THAT ARISE FROM
OPERATING A MULTINATIONAL BUSINESS.
Sales outside of North America, including export sales from North American
businesses, accounted for approximately 47% of our net sales in 2005. Further,
certain of our businesses obtain raw materials and finished goods from foreign
suppliers. Accordingly, our business is subject to the political, economic and
other risks that are inherent in operating in numerous countries. These risks
include:
- the difficulty of enforcing agreements and collecting receivables
through foreign legal systems;
- trade protection measures and import or export licensing
requirements;
- tax rates in certain foreign countries that exceed those in the
U.S. and the imposition of withholding requirements on foreign
earnings;
- the imposition of tariffs, exchange controls or other
restrictions;
- difficulty in staffing and managing widespread operations and the
application of foreign labor regulations;
- the protection of intellectual property in foreign countries may
be more difficult;
- required compliance with a variety of foreign laws and
regulations; and
- changes in general economic and political conditions in countries
where we operate, particularly in emerging markets.
Our business success depends in part on our ability to anticipate and
effectively manage these and other risks. We cannot assure you that these and
other factors will not have a material adverse effect on our international
operations or on our business as a whole.
14
OUR OPERATIONS ARE SUBJECT TO EXTENSIVE ENVIRONMENTAL LAWS AND REGULATIONS.
Our plants and operations are subject to increasingly stringent environmental
laws and regulations in all of the countries in which we operate, including laws
and regulations governing emissions to air, discharges to water and the
generation, handling, storage, transportation, treatment and disposal of waste
materials. While we believe that we are in compliance in all material respects
with these environmental laws and regulations, we cannot assure that we will not
be adversely impacted by costs, liabilities or claims with respect to existing
or subsequently acquired operations, under either present laws and regulations
or those that may be adopted or imposed in the future. We are also subject to
laws requiring the cleanup of contaminated property. If a release of hazardous
substances occurs at or from any of our current or former properties or at a
landfill or another location where we have disposed of hazardous materials, we
may be held liable for the contamination, and the amount of such liability could
be material.
WE MAY BE ADVERSELY IMPACTED BY WORK STOPPAGES AND OTHER LABOR MATTERS.
As of December 31, 2005, we employed approximately 19,100 persons worldwide.
Approximately 1,000 of our U.S. employees are represented by various unions
under collective bargaining agreements with various unions. While we have no
reason to believe that we will be impacted by work stoppages and other labor
matters, we cannot assure that future issues with our labor unions will be
resolved favorably or that we will not encounter future strikes, further
unionization efforts or other types of conflicts with labor unions or our
employees. Any of these factors may have an adverse effect on us or may limit
our flexibility in dealing with our workforce. In addition, many of our
customers have unionized work forces. Work stoppages or slow-downs experienced
by our customers could result in slow-downs or closures at vehicle assembly
plants where our engines are installed. If one or more of our customers
experience a material work stoppage, it could have a material adverse effect on
our business, results of operations and financial condition.
OUR LEVERAGE MAY IMPAIR OUR OPERATIONS AND FINANCIAL CONDITION.
As of December 31, 2005, our total consolidated debt was $365.5 million. Our
debt could have important consequences, including increasing our vulnerability
to general adverse economic and industry conditions; requiring a substantial
portion of our cash flows from operations be used for the payment of interest
rather than to fund working capital, capital expenditures, acquisitions and
general corporate requirements; limiting our ability to obtain additional
financing; and limiting our flexibility in planning for, or reacting to, changes
in our business and the industries in which we operate.
The agreements governing our debt include covenants that restrict, among other
things, our ability to incur additional debt; pay dividends on or repurchase our
equity; make investments; and consolidate, merge or transfer all or
substantially all of our assets. In addition, our senior credit facility
requires us to maintain specified financial ratios and satisfy certain financial
condition tests. Our ability to comply with these covenants may be affected by
events beyond our control, including prevailing economic, financial and industry
conditions. These covenants may also require that we take action to reduce our
debt or to act in a manner contrary to our business objectives. We cannot assure
you that we will meet any future financial tests or that the lenders will waive
any failure to meet those tests.
If we default under our debt agreements, our lenders could elect to declare all
amounts outstanding under our debt agreements to be immediately due and payable
and could proceed against any collateral securing the debt. Under those
circumstances, in the absence of readily-available refinancing on favorable
terms, we might elect or be compelled to enter bankruptcy proceedings, in which
case our shareholders could lose the entire value of their investment in our
common stock.
15
OUR PRODUCTS ARE SUBJECT TO RECALL FOR PERFORMANCE RELATED ISSUES.
We incur product recall costs when we decide, either voluntarily or
involuntarily, to recall a product through a formal campaign to solicit the
return of specific products due to a known or suspected performance issue. Costs
typically include the cost of the product, part or component being replaced,
customer cost of the recall and labor to remove and replace the defective part
or component. When a recall decision is made, we estimate the cost of the recall
and record a charge to earnings in that period. In making this estimate,
judgment is required as to the quantity or volume to be recalled, the total cost
of the recall campaign, the ultimate negotiated sharing of the cost between us
and the customer and, in some cases, the extent to which the supplier of the
part or component will share in the recall cost. As a result, these estimates
are subject to change. Due to the nature of these actions, several recalls
experienced simultaneously or one of particular significance could materially
and adversely affect our financial condition, results of operation and cash
flows.
INCREASED OR UNEXPECTED PRODUCT WARRANTY CLAIMS COULD ADVERSELY AFFECT US.
We provide our customers a warranty on products we manufacture. Our warranty
generally provides that products will be free from defects for periods ranging
from 12 months to 36 months. If a product fails to comply with the warranty, we
may be obligated, at our expense, to correct any defect by repairing or
replacing the defective product. Although we maintain warranty reserves in an
amount based primarily on the number of units shipped and on historical and
anticipated warranty claims, there can be no assurance that future warranty
claims will follow historical patterns or that we can accurately anticipate the
level of future warranty claims. An increase in the rate of warranty claims or
the occurrence of unexpected warranty claims could materially and adversely
affect our financial condition, results of operations and cash flows.
OUR MANUFACTURING OPERATIONS ARE DEPENDENT UPON THIRD-PARTY SUPPLIERS,
MAKING US VULNERABLE TO SUPPLY SHORTAGES.
We obtain materials and manufactured components from third-party suppliers. In
certain of our businesses, a significant number of our suppliers of our raw
material or component purchases in 2005 were the sole source for a particular
supply item, although the majority of these materials and components can be
obtained from other suppliers. Any delay in our suppliers' abilities to provide
us with necessary materials and components may affect our capabilities at a
number of our manufacturing locations, or may require us to seek alternative
supply sources. Delays in obtaining supplies may result from a number of factors
affecting our suppliers including capacity constraints, labor disputes, the
impaired financial condition of a particular supplier, suppliers' allocations to
other purchasers, weather emergencies or acts of war or terrorism. Any delay in
receiving supplies could impair our ability to deliver products to our customers
and, accordingly, could have a material adverse effect on our business results.
IF WE FAIL TO DEVELOP NEW AND INNOVATIVE PRODUCTS OR IF CUSTOMERS IN OUR
MARKETS DO NOT ACCEPT THEM, OUR RESULTS WOULD BE NEGATIVELY AFFECTED.
Our products must be kept current to meet our customers' needs. To remain
competitive, we therefore must develop new and innovative products on an
on-going basis. If we fail to make innovations, or the market does not accept
our new products, our sales and results would suffer.
We invest significantly in the research and development of new products. These
expenditures do not always result in products that will be accepted by the
market. To the extent they do not, whether as a function of the product or the
business cycle, we will have increased expenses without significant sales to
benefit us and lack of return on invested capital. Failure to develop successful
new products
16
may also cause potential customers to choose to purchase other equipment or
competitors' products rather than invest in products manufactured by us.
SYSTEM IMPLEMENTATION
During 2004, we selected a common information technology platform for the
Company and began the process of converging our practices and methods to one
version to be used by the Company and supported by the new system. The first
site went live on the system in March of 2005 with several others planned for
2006. The process of transforming our business practices to a common platform
and risks associated with switching over data processing present the risk of
interruption to our business. This would have a wide ranging impact including
raising concerns regarding the accuracy of our reported financial results or
damaging our relationships with our customers and vendors.
STRATEGIC DIVESTITURES COULD NEGATIVELY AFFECT OUR RESULTS.
We regularly review our business units and evaluate them against our core
business strategies. As part of that process, we regularly consider the
divestiture of non-core and non-strategic operations or facilities. Depending
upon the circumstances and terms, the divestiture of a profitable operation or
facility could negatively affect our earnings.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None
EXECUTIVE OFFICERS OF THE REGISTRANT
The following are the executive officers of the Company.
PERIOD OF SERVICE
NAME AND AGE OFFICE OR POSITION HELD AS AN OFFICER
- ------------ ----------------------- -----------------
Todd W. Herrick, 63 Chairman of the Board of Directors, Since 1974
President and Chief Executive Officer (1)
James S. Nicholson, 44 Vice President, Treasurer, and Chief Since 2003
Financial Officer (2)
Michael R. Forman, 59 Vice President of Global Human Resources Since 2001
Kent B. Herrick, 37 Vice President of Global Business Development (3) Since January 1, 2005
Eric L. Stolzenberg, 50 President of Compressor Business Unit (4) Since January 1, 2006
Ronald E. Pratt, 53 President of Electrical Components Business Unit (5) Since January 1, 2006
(1) Last five years of business experience--Present position since 2003.
President and Chief Executive Officer, Tecumseh Products Company 1986 -
2003. (Employed with Tecumseh Products Company since 1972.)
(2) Last five years of business experience--Present position since 2004.
Corporate Controller, Tecumseh Products Company 2002 - 2004. Partner,
PricewaterhouseCoopers, 1996 - 2001.
17
(3) Last five years of business experience--Present position since 2005.
Executive Vice President in the Office of the Chairman in 2005, Corporate
Vice President 2002 - 2004, General Manager Applied Electronics 2001.
(Employed with Tecumseh Products Company since 1995.)
(4) Last five years of business experience--Present position since 2005. Vice
President, Ingersoll-Rand, 2000 - 2005.
(5) Last five years of business experience--Present position since 2004. Vice
President, Collins & Aikman - Specialty Products Division, 2002 - 2004.
Director, TRW, 2000 - 2002.
ITEM 2. PROPERTIES
The Company's headquarters are located in Tecumseh, Michigan, approximately 50
miles southwest of Detroit. At December 31, 2005 the Company had 45 properties
worldwide occupying approximately 10.5 million square feet with the majority,
approximately 9.2 million square feet, devoted to manufacturing. Eighteen
facilities with approximately 5.4 million square feet were located in nine
countries outside the United States. The following table shows the approximate
amount of space devoted to each of the Company's four principal business
segments.
Approximate Floor
Industry Segment Area in Square Feet
- ---------------- -------------------
Compressor Products......................... 5,207,000
Electrical Component Products............... 1,900,000
Engine & Power Train Products............... 2,816,000
Pump Products and Other..................... 506,000
Five domestic facilities, including land, building and certain machinery and
equipment are financed and leased through industrial revenue bonds. All owned
and leased properties are suitable, well maintained and equipped for the
purposes for which they are used. The Company considers that its facilities are
suitable and adequate for the operations involved.
ITEM 3. LEGAL PROCEEDINGS
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. 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 May 2003, the
Company concluded a Consent Decree with the EPA concerning the performance of
remedial design and remedial action for Phase I, deferring for an unspecified
period any action regarding Phase II.
In March 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 has 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
18
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.
As the Liability Transfer Agreement was executed prior to the signing of the
original Consent Decree for the Phase I work, the original Consent Decree was
amended in the fourth quarter of 2005 to include PRS as a signing party. This
assigns PRS full responsibility for complying with the terms of the Consent
Decree and allows the EPA to enforce the Consent Decree directly with PRS. Prior
to the execution of this amendment, U.S. GAAP required 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. With the subsequent amendment, the Company has removed the
asset and $39.2 million of the liability from 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.
With respect to other environmental matters, the Company has been voluntarily
participating in a cooperative effort to investigate and cleanup PCB
contamination in the watershed of the south branch of the Manitowoc River, at
and downstream from the Company's New Holstein, Wisconsin facility. On December
29, 2004, 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") relating to this effort known as the Hayton
Area Remediation Project ("HARP"). The Consent Order provides a framework for
the completion of the remediation and regulatory closure at HARP.
Concurrently, on December 29, 2004, 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. TRC's obligations under the Agreement
include any ongoing monitoring or maintenance requirements and certain off-site
mitigation or remediation, if required. TRC will also manage any third-party
remediation claims that might arise or otherwise be filed against the Company.
As required by the Agreement, the Company also purchased a Pollution Legal
Liability Select Cleanup Cost Cap Policy (the "Policy") from American
International Specialty Lines Company. The term of the Policy is 20 years with
an aggregate combined policy limit of $41 million. The policy lists the Company
and TRC as named insureds and includes a number of first and third party
coverages for remediation costs and bodily injury and property damage claims
associated with the HARP remediation and contamination. 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,
19
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. The total cost of the exit
strategy insured remediation arrangement to Tecumseh was $16.4 million. This
amount included $350,000 that was paid to the WDNR pursuant to the Consent Order
to settle any alleged liabilities associated with natural resource damages. The
charge represented the cost of the agreements less what was previously provided
for cleanup costs to which the Company had voluntarily agreed.
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 December 31, 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.
In addition to the above-mentioned sites, 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 December 31, 2005 and 2004, the Company had
accrued $3.5 million and $43.3 million, respectively, for environmental
remediation, including $0.5 million and $39.7 million relating to the Sheboygan
River and Harbor Superfund Site with a corresponding asset of $39.2 million at
December 31, 2004. 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.
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.
A 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. While the
Company believes it has meritorious defenses and intends to assert them
vigorously, there can be no assurance that the Company will prevail. The Company
also may pursue settlement discussions. It is not possible to reasonably
estimate the amount of the Company's ultimate liability, if any, or the amount
of any future settlement, but the amount could be material to the Company's
financial position, consolidated results of operations and cash flows.
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, incidental to its business. Although their ultimate outcome cannot be
predicted with certainty, and some may be disposed of unfavorably to the
Company, management does not believe that the disposition of these other matters
will have a
20
material adverse effect on the consolidated financial position or results of
operations of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted during the fourth quarter of 2005 to a vote of security
holders through the solicitation of proxies or otherwise.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
The Company's Class A and Class B common stock trades on the NASDAQ Stock Market
under the symbols TECUA and TECUB, respectively. Total shareholders of record as
of February 23, 2006 were approximately 390 for Class A common stock and 379 for
Class B common stock. There were no equity securities sold by the Company during
the period covered by this report. The Company has no equity securities
authorized for issuance under compensation plans. The Company did not repurchase
any of its equity securities during 2005.
MARKET PRICE AND DIVIDEND INFORMATION
Range of Common Stock Prices and Dividends for 2005
Sales Price
---------------------------------
Class A Class B Cash
--------------- --------------- Dividends
Quarter Ended High Low High Low Declared
- ------------- ------ ------ ------ ------ ---------
March 31 ................. $48.38 $38.02 $45.60 $36.25 $0.32
June 30 .................. 41.07 25.83 40.30 26.14 0.32
September 30 ............. 30.91 21.01 31.13 20.38 --
December 31 .............. 24.00 18.65 21.92 16.01 --
Range of Common Stock Prices and Dividends for 2004
Sales Price
---------------------------------
Class A Class B Cash
--------------- --------------- Dividends
Quarter Ended High Low High Low Declared
- ------------- ------ ------ ------ ------ ---------
March 31 ................. $50.42 $40.38 $48.50 $39.50 $0.32
June 30 .................. 43.60 35.33 44.00 34.70 0.32
September 30 ............. 44.03 37.01 43.48 37.73 0.32
December 31 .............. 48.50 41.04 45.87 39.90 0.32
21
ITEM 6. SELECTED FINANCIAL DATA
The following is a summary of certain financial information of the Company.
YEARS ENDED DECEMBER 31,
----------------------------------------------------
2005 2004 2003 2002 2001
-------- -------- -------- -------- --------
(Dollars in millions, except per share data)
Net sales.......................................... $1,847.0 $1,911.7 $1,819.0 $1,343.8 $1,398.9
Cost of sales and operating expenses............... 1,712.9 1,663.3 1,587.5 1,141.6 1,207.2
Selling and administrative expenses................ 187.9 202.8 161.1 117.4 112.1
Impairments, restructuring charges, and other
items........................................... 121.0 21.5 69.3 10.3 35.4
-------- -------- -------- -------- --------
Operating income (loss)............................ (174.8) 24.1 1.1 74.5 44.2
Interest expense................................... (31.1) (22.7) (22.8) (5.8) (4.1)
Interest income and other, net..................... 9.6 14.0 21.1 15.1 20.3
-------- -------- -------- -------- --------
Income (Loss) before taxes and cumulative effect
of accounting change............................ (196.3) 15.4 (0.6) 83.8 60.4
Tax provision (benefit)............................ 27.2 5.3 (0.7) 29.7 17.6
-------- -------- -------- -------- --------
Income (Loss) before cumulative effect of
accounting change............................... (223.5) 10.1 0.1 54.1 42.8
Cumulative effect of accounting change for
goodwill, net of tax............................ -- -- -- (3.1) --
-------- -------- -------- -------- --------
Net income (loss).................................. ($223.5) $ 10.1 $ 0.1 $ 51.0 $ 42.8
======== ======== ======== ======== ========
Basic and diluted earnings (loss) per share from
continuing operations........................... ($12.09) $ 0.55 $ 0.01 $ 2.93 $ 2.30
Cash dividends declared per share.................. $ 0.64 $ 1.28 $ 1.28 $ 1.28 $ 1.28
Weighted average number of shares outstanding
(in thousands).................................. 18,480 18,480 18,480 18,480 18,607
Cash and cash equivalents.......................... $ 116.6 $ 227.9 $ 344.6 $ 333.1 $ 317.6
Working capital.................................... 402.0 505.7 545.5 503.7 605.7
Net property, plant and equipment.................. 578.6 554.8 554.6 570.5 431.9
Total assets....................................... 1,800.5 2,062.8 2,105.8 2,063.0 1,519.8
Long-term debt..................................... 283.0 317.3 327.6 298.2 13.7
Stockholders' equity............................... 814.4 1,018.3 1,004.8 978.9 977.7
Capital expenditures............................... 113.3 84.0 82.8 73.9 65.4
Depreciation and amortization...................... 92.3 102.9 97.6 65.1 72.0
Cost of common shares repurchased.................. -- -- -- -- 18.1
Impairments, restructuring charges, and other items includes:
2005 net income included $121.0 million ($6.55 per share) of restructuring,
impairment and other charges. Of this amount, $108.0 million related to
impairment of the goodwill associated with the 2002 acquisition of FASCO (which
is included in the Electrical Components segment), an impairment charge of $2.7
million related to the goodwill associated with the 2001 acquisition of the
Engine & Power Train's Czech Republic operations and a $2.7 million impairment
charge related to the intangible assets associated with the 2001 acquisition of
Manufacturing Data Systems, Inc., a technology business not associated with any
of the Company's four main segments. In addition to these impairments, we
incurred $7.6 million in asset impairment and restructuring charges. The Italian
Engine & Power Train operations recorded $1.4 million of termination costs
during the third quarter related to previously announced intent to reduce its
workforce by 115 persons. The Company then recorded a $3.0 million charge upon
the closure of this operation at the end of December reflecting our net
investment in that operation. The remaining charges include $0.9 million
recorded by the North American Compressor operations related to additional
moving costs for previously announced actions and $2.3 million of asset
22
impairment charges across several segments for manufacturing equipment idled
through facility consolidations and the reduction to fair value of land and
buildings associated with closed plants.
2004 net income included $21.5 million ($14.0 million net of tax or $0.77 per
share) of restructuring, impairment and other charges. Of this amount, $8.7
million ($5.6 million net of tax or $0.30 per share) was related to
restructuring programs related to the North American Compressor, Indian
Compressor and Electrical Components businesses; $14.6 million ($9.6 million net
of tax or $0.53 per share) was related to environmental costs involving the
Company's New Holstein, Wisconsin facility; and $1.8 million ($1.2 million net
of tax or $0.06 per share) in gain was related to the final curtailment of
medical benefits related to former hourly employees of the Sheboygan Falls,
Wisconsin Plant.
2003 net income included $69.3 million ($55.0 million net of tax or $2.98 per
share) of restructuring, impairment and other charges. Of this amount, $13.6
million ($8.7 million net of tax or $0.47 per share) was related to
environmental costs at the Company's Sheboygan Falls, Wisconsin facility; $32.0
million in charges and $5.8 million in gains equaling a net charge of $26.2
million ($16.8 million net of tax or $0.91 per share) related to restructuring
actions involving the Engine & Power Train business. Additionally, $29.5 million
before and after tax (or $1.60 per share) related to an impairment of goodwill
associated with the Company's European Compressor operations.
2002 net income included $10.3 million ($6.6 million net of tax or $0.36 per
share) in restructuring charges. Of this amount, the Engine & Power Train
business had a charge of $5.8 million ($3.7 million net of tax or $0.20 per
share) which included $4.1 million for costs, mostly write-downs of fixed
assets, associated with the relocation of engine component manufacturing, and
the discontinuation of production activities at its Grafton, Wisconsin facility
and $1.7 million for additional environmental cleanup costs, primarily
additional past response costs levied by the EPA for its Sheboygan, Wisconsin
facility. Additionally, the Compressor business had a charge of $4.5 million
($2.8 million net of tax or $0.15 per share) for costs related to the relocation
of additional rotary compressor lines from the U.S. to Brazil, primarily the
write-off of certain unusable equipment.
2001 net income included $29.3 million ($18.9 million net of tax) related to the
cost of an early retirement incentive program and an asset impairment charge of
$6.1 million ($3.9 million net of tax) for unusable equipment due to the
transfer of certain engine and component part production from domestic
facilities to the Company's facilities in the Czech Republic.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
CAUTIONARY STATEMENTS RELATING TO FORWARD LOOKING STATEMENTS
The following information should be read in connection with the information
contained in the Consolidated Financial Statements and Notes to Consolidated
Financial 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 us. 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."
23
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 our 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 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) our 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 our 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) our 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 of this report, and we undertake no
obligation to update or revise the forward-looking statements, whether as a
result of new information, future events or otherwise.
EXECUTIVE SUMMARY
We are one of the largest independent producers of hermetically sealed
compressors in the world, one of the world's leading manufacturers of small
gasoline engines and power train products used in lawn and garden applications,
and one of the leading manufacturers of fractional horsepower motors for the
United States market. We also produce a variety of pump products with a wide
range of applications. Our net sales have grown from $1.4 billion for the year
ended December 31, 2001 to $1.85 billion for the year ended December 31, 2005.
The primary source of sales growth was our 2002 acquisition of FASCO Motors, now
the key component of our presence in the U.S. fractional horsepower motor
market. Our products are sold in countries all over the world.
In evaluating our financial condition and operating performance, we focus
primarily on profitable sales growth and cash flows, as well as return on
invested capital on a consolidated basis. In addition to maintaining and
expanding our business with our existing customers in our more established
markets, we rely on developing new products and improving our ability to
penetrate new markets through enhancements to the functionality, performance and
quality of our existing products. For instance, our Compressor Group will
introduce a scroll-style compressor to serve commercial and air conditioning
markets throughout the globe, and it will begin producing a new expanded range
rotary compressor in India for global applications. Our Electrical Components
Group has expanded its range of Brushless DC ("BLDC") variable speed motor
products and our Pump Group will be selling a range of new energy saving pump
models. To continue to grow sales and improve cash flows, we must successfully
bring these products to market in a timely manner and win customer acceptance.
International sales are important to our business as a whole with sales to
customers outside the United States representing approximately 47% of total
consolidated net sales in 2005. The Company's dependence on sales in foreign
countries entails certain commercial and political risks, including currency
fluctuations, unstable economic or political conditions in some areas and the
possibility of various government interventions into trade policy. We have
experienced some of these factors and continue to carefully pursue these
markets.
24
Our operating results are indicative of the environment that manufacturers face
in today's global economy. The addition of new productive capacities in low-cost
locations, like China, has resulted in new capacities and deflationary pricing
in many of the market segments in which we operate. Like many of our customers
and competitors, we have restructured older operations to remain cost
competitive, including the movement of productive capacities to low-cost
locations or nearer to customer facilities. These restructurings involve
significant costs, in both financial and human terms. In addition, many of our
markets are subject to macroeconomics trends, which expand and contract, and
many overall trends, which affect demand, such as weather.
The foreign manufacturing operations we have developed are subject to many
risks, including governmental expropriation, governmental regulations that may
be disadvantageous to businesses owned by foreign nationals, and instabilities
in the workforce due to changing political and social conditions. These
considerations are especially significant in the context of our Brazilian
operations. The Brazilian compressor operations provided a significant portion
of total Compressor Products segment production during 2005, and our Curitiba,
Brazil facility is the key future manufacturing site to supply worldwide demand
for lawn and garden engines.
As a global manufacturer with production in 11 countries and sales in over 110
countries throughout the world, results are sensitive to changes in foreign
currency exchange rates. In total, those movements have not been favorable to us
during 2005. We have developed strategies to mitigate or partially offset the
impact, primarily hedging where the risk of loss is greatest. In particular, we
have entered into foreign currency forward purchases to hedge the Brazilian
export sales denominated in both U.S. Dollars and Euros. Additionally, we have
structured local financing relationships as natural hedges.
Lastly, commodity prices increased very rapidly during 2004 and 2005. Due to
competitive markets, we were not able to fully recover these cost increases
through price increases and other cost savings. Increases in certain raw
material, energy and commodity costs had a material adverse impact on our
operating results in 2004 and 2005. We have developed strategies to mitigate or
partially offset the impact, which include aggressive cost reduction actions,
cost optimization engineering strategies, selective in-sourcing of components
where we have available capacity, continued consolidation of our supply base,
and acceleration of low-cost country sourcing. In addition, the sharing of
increased raw material costs has been, and will continue to be, the subject of
negotiations with our customers. While we believe that our mitigation strategies
eventually will offset a substantial portion of the financial impact of these
increased costs, no assurances can be given that the magnitude and duration of
these increased costs will not have a continued material adverse impact on our
operating results. We are very focused on efforts to help us maintain our
ability to compete on cost.
Our success in generating cash flow will depend, in part, on our ability to
efficiently manage working capital. In this regard, changes in inventory
management practices and customer and vendor payment terms had a positive impact
on our reported cash flows through 2005. In addition, our cash flow is also
dependent on our ability to efficiently manage our capital spending. We use cash
return on invested capital as a measure of the efficiency with which assets are
deployed to increase earnings. Improvements in our return on invested capital
will depend on our ability to maintain an appropriate asset base for our
business and to increase productivity and operating efficiency.
For further information related to other factors that have had, or may in the
future have, a significant impact on our business, financial condition or
results of operations, see "Cautionary Statements Relating To Forward-Looking
Statements" above, "Results of Operations" below, and "Risk Factors" in Item 1A.
25
RESULTS OF OPERATIONS
A summary of our operating results as a percentage of net sales is shown below
(dollar amounts in millions):
FISCAL YEAR ENDED DECEMBER 31, 2005 VS. FISCAL YEAR ENDED DECEMBER 31, 2004
Fiscal Year Ended December 31, 2005 % 2004 %
- ------------------------------ -------- ----- -------- -----
(dollars in millions)
Net sales.............................. $1,847.0 100.0% $1,911.7 100.0%
Cost of sales and operating expenses... 1,712.9 92.7% 1,663.3 87.0%
Selling and administrative expenses.... 187.9 10.2% 202.8 10.6%
Impairments, restructuring charges,
and other items..................... 121.0 6.6% 21.5 1.1%
-------- --------
Operating income (loss)................ (174.8) (9.5%) 24.1 1.3%
Interest expense....................... (31.1) (1.7%) (22.7) (1.2%)
Interest income and other, net......... 9.6 0.5% 14.0 0.7%
-------- --------
Income (Loss) before taxes............. (196.3) (10.6%) 15.4 0.8%
Tax provision.......................... 27.2 1.5% 5.3 0.3%
-------- --------
Net income (loss)...................... ($223.5) (12.1%) $10.1 0.5%
======== ========
Net sales in the year ended December 31, 2005 decreased $64.7 million or 3.4%
versus the same period of 2004, including an increase in sales of $55.6 million
resulting from the effect of changes in foreign currency exchange rates. This
was primarily due to lower volumes in the Compressor and Engine & Power Train
segments.
Gross profit and gross margin were $134.1 million and 7.3% in the year ended
December 31, 2005, as compared to $248.4 million and 13.0% in the fiscal year
ended December 31, 2004. Gross profit was negatively affected by the impact of
commodity costs, which were $98.6 million higher in relative terms. Pricing
increases helped to mitigate the impact of this increase, though neither the
Electrical Components nor Engine & Power Train segments were able to achieve
complete recovery. Gross profit was also negatively affected by unfavorable
foreign exchange rates, particularly the Brazilian Real.
Selling, general and administrative expenses were $14.9 million or 7.3% lower in
the fiscal year ended December 31, 2005 compared to the prior fiscal year. As a
percentage of net sales, selling, general and administrative expenses were 10.2%
and 10.6% in the fiscal years ended December 31, 2005 and December 31, 2004,
respectively. The completion of the amortization of non-compete agreements
associated with our 2002 acquisition of FASCO contributed $7.5 million to the
decrease in selling, general and administrative expenses in 2005.
Current year results include an impairment charge of $108.0 million related to
the goodwill associated with the acquisition of FASCO (which is included in the
Electrical Components segment), an impairment charge of $2.7 million related to
the goodwill associated with the acquisition of the Engine & Power Train's Czech
Republic operations and a $2.7 million impairment charge related to the
intangible assets associated with the acquisition of Manufacturing Data Systems,
Inc., a technology business not associated with any of the Company's four main
segments.
The failure to achieve the business plan, coupled with expected market
conditions, caused us to perform a mid-year assessment of the assumptions
utilized to determine FASCO's estimated fair value in the impairment assessment
performed at December 31, 2004. The deterioration of volumes
26
and our inability to recover higher commodity and transportation costs through
price increases resulted in revised expected cash flows for FASCO. Based on the
revised estimates of cash flow, FASCO's estimated fair value had deteriorated
from the previous assessment and, as a result, a goodwill impairment of $108.0
million was recognized.
During our annual fourth quarter assessment, the expected cash flows were lower
than had previously been estimated resulting in goodwill impairment of $2.7
million in the Engine & Power Train Group operations and other intangible
impairment of $2.7 million at Manufacturing Data Systems, Inc., both
representing the entire carrying value recorded. The issues with the Czech
Republic operation are indicative what we are experiencing throughout the Engine
and Power Train segment, but reflects decisions made in the fourth quarter
regarding as to where certain products will be produced in future years and
uncertainty as to our ability to bring costs down enough to meet previous cash
flow forecasts. The decreased expectations related to Manufacturing Data
Systems, Inc. reflect the fact that the operation had failed to meet key
development targets and had been recently unsuccessful in developing a market
for certain products introduced in 2005.
In addition to these impairments, we incurred $7.6 million in asset impairment
and restructuring charges during the fiscal year ended December 31, 2005. The
Italian Engine & Power Train operations recorded $1.4 million of termination
costs during the third quarter related to previously announced intent to reduce
its workforce by 115 persons. The Company then recorded a $3 million charge upon
the closure of this operation at the end of December reflecting our net
investment in that operation.
The remaining charges include $0.9 million recorded by the North American
Compressor operations related to additional moving costs for previously
announced actions and $2.3 million of asset impairment charges across several
segments for manufacturing equipment idled through facility consolidations and
the reduction of carrying value of closed plants to fair value.
In 2004, we recorded charges of $8.7 million related to restructuring programs
in the North American Compressor, Indian Compressor and Electrical Components
businesses; $14.6 million related to environmental costs involving the Company's
New Holstein, Wisconsin facility; and a $1.8 million gain related to the final
curtailment of medical benefits related to former hourly employees of the
Sheboygan Falls, Wisconsin Plant.
Interest expense amounted to $31.1 million in the fiscal year ended December 31,
2005 compared to $22.7 million in the comparable period of 2004. The increase
was primarily related to higher average interest rates applicable to our
borrowings both in the United States and in a number of our 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 amounted to $9.6 million in the fiscal year ended
December 31, 2005 compared to $14.0 million in the same period of 2004. This
decrease resulted primarily from lower average deposits in Brazil and the United
States.
We recorded income tax expense of $27.2 million on a loss before taxes of $196.3
million for the fiscal year ended December 31, 2005, as compared with an
effective tax rate of 34.4% for the corresponding period in 2004. The primary
differences in our tax rate for fiscal 2005 as compared with the corresponding
period were the non-deductibility of the goodwill and other intangible asset
impairment recognized in 2005 and the recognition of deferred tax asset
valuation allowances during the third quarter of 2005 related to the Brazilian
Engine operations ($7.1 million) and U.S. ($18.2 million), as the preponderance
of negative evidence indicated that these deferred tax assets would not be
recoverable. Excluding the impairments and valuation allowances, the unusual
result was also the
27
product of not providing benefits on losses in jurisdictions where the
preponderance of negative evidence would indicate that these deferred tax assets
would not be recoverable. 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 are recognized. In addition,
circumstances could change such that additional valuation allowances may become
necessary on deferred tax assets in various jurisdictions.
Net loss in the fiscal year ended December 31, 2005 was $223.5 million, or
$12.09 per share, as compared to net income of $10.1 million, or $0.55 per
share, in the fiscal year ended December 31, 2004. The current period decline
was primarily the result of the impact of the goodwill impairment, other
impairments and restructuring costs and deferred tax asset valuation allowances
described above. Additional factors discussed throughout the Reportable
Operating Segments discussion that follows contributed to the operating loss
experienced, even after excluding the impairments, restructuring charges, and
deferred tax asset valuation allowances.
REPORTABLE OPERATING SEGMENTS
The financial information presented below is for our four reportable operating
segments for the periods presented: Compressor, Engine & Power Train, Electrical
Components and Pump. Financial measures regarding each segment's income (loss)
before interest, other expense, income taxes, and impairments, restructuring
charges, and other items ("operating income") and income (loss) before interest,
other expense and income taxes and impairments, restructuring charges, and other
items divided by net sales ("operating margin") are not measures of performance
under accounting principles generally accepted in the United States (GAAP). Such
measures are presented because we evaluate the performance of our reportable
operating segments, in part, based on income (loss) before interest, other
expense, income taxes, and impairments, restructuring charges, and other items.
These measures should not be considered in isolation or as a substitute for net
income, net cash provided by operating activities or other income statement or
cash flow statement data prepared in accordance with GAAP or as measures of
profitability or liquidity. In addition, these measures, as we determine them,
may not be comparable to related or similarly titled measures reported by other
companies. For a reconciliation of consolidated income (loss) before interest,
other expense and income taxes, impairments, restructuring charges, and other
items to income before provision for income taxes, see Note 8, Segment
Reporting.
Compressor Products
Compressor business sales in the fiscal year of 2005 increased 3.5% to $910.9
million from $880.2 million in 2004. The increase for the period was
attributable to the effect of foreign currency translation that increased sales
by $56.3 million. Excluding the effect of foreign currency fluctuation, volume
increases of aftermarket products and 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 were
more than offset by declines in sales of compressors used in room air
conditioners and commercial applications. Aftermarket volumes improved based on
favorable relative weather conditions, and refrigeration and freezer volume
gains were driven by economic forces providing greater demand for the product.
Air volumes decreased with the shift to products the Company did not offer at
that time.
Compressor business operating income and the related margin on net sales for the
fiscal year ended December 31, 2005 amounted to $18.8 million and 2.1% compared
to $60.5 million and 6.9% for 2004. The effects of foreign currency exchange
rates caused a decline of $35.9 million. During the fiscal year ended December
31, 2005, the U.S. Dollar was on average 16% weaker versus the
28
Brazilian Real and 14% stronger versus the Euro than during 2004. Compressor
segment operating margin also deteriorated due to an unfavorable mix of sales
and higher commodity and transportation costs.
Electrical Component Products
Sales for the fiscal year of 2005 amounted to $410.1 million compared to $422.6
million in 2004. Volume declines totaled $27.0 million and were particularly
significant in the automotive seat actuator, blowers, and residential and
commercial aftermarket.
Electrical Components operating income and margin for the fiscal year of 2005
amounted to $7.5 million and 1.8% compared to $11.3 million and 2.7% in 2004.
The decline in operating income in the period largely resulted from lower sales
volumes ($10.6 million), higher commodity costs ($16.3 million), and
unanticipated operational inefficiencies primarily related to the closure of the
St. Clair facility ($1.2 million), partially offset by lower amortization of
intangible assets of $7.5 million.
Engine & Power Train Products
Engine & Power Train business sales declined 15.9% to $404.1 million in the
fiscal year ended December 31, 2005 compared to $480.9 million in the
corresponding period of 2004. Loss of business totaling $35.8 million on walk
behind rotary lawn applications led the decline in sales. Volumes were also
lower in the transaxle business and in other engine lines utilized on certain
utility products. These volume declines were somewhat offset by increased sales
of engines used in generators.
Engine & Power Train business operating loss in the fiscal year ended December
31, 2005 amounted to $75.1 million compared to a loss of $21.2 million in the
corresponding period of 2004. The decline in year to date results reflects
increases in commodity costs of $12.4 million and other costs of $22.3 million,
including costs of $8.0 million associated with two product recalls and fees of
$7.8 million associated with the work of AlixPartners whom the Company engaged
during the third quarter of 2005 to assist in the restructuring plans of the
Engine & Power Train Group.
The significant costs associated with excess capacities in the U.S. and Europe
contributed substantially to the Engine & Power Train losses. The excess
capacity situation was exacerbated by the current shift of production to our
Brazilian manufacturing facility resulting in duplicate capacities. We intend to
complete this transition in 2006 and achieve sustainable cost reductions.
Pump Products
Pump business sales in the fiscal year ended 2005 amounted to $120.1 million
compared to $126.4 million in comparable period in 2004. The 5.0% reduction in
sales was primarily attributable to the loss of water gardening business at one
mass-market retailer.
Operating income and margin amounted to $13.0 million and 10.8% in the fiscal
year ended December 31, 2005 compared to $13.7 million and 10.8% in the
comparable period in 2004. The Company was able to offset the margin impact from
the loss of sales with other cost reductions.
29
FISCAL YEAR ENDED DECEMBER 31, 2004 VS. FISCAL YEAR ENDED DECEMBER 31, 2003
Fiscal Year Ended December 31, 2004 % 2003 %
- ------------------------------ -------- ----- -------- -----
(dollars in millions)
Net sales.............................. $1,911.7 100.0% $1,819.0 100.0%
Cost of sales and operating expenses... 1,663.3 87.0% 1,587.5 87.3%
Selling and administrative expenses.... 202.8 10.6% 161.1 8.9%
Impairments, restructuring charges,
and other items..................... 21.5 1.1% 69.3 3.8%
-------- --------
Operating income....................... 24.1 1.3% 1.1 0.1%
Interest expense....................... (22.7) (1.2%) (22.8) (1.3%)
Interest income and other, net......... 14.0 0.7% 21.1 1.2%
-------- --------
Income (Loss) before taxes............. 15.4 0.8% (0.6) (0.0%)
Tax provision.......................... 5.3 0.3% (0.7) (0.0%)
-------- --------
Net income (loss)...................... $ 10.1 0.5% $ 0.1 0.0%
======== ========
Net sales in the year ended December 31, 2004 increased $92.7 million or 5.1%
versus the same period of 2003, including an increase in sales of $55.6 million
resulting from the effect of changes in foreign currency exchange rates. This
was primarily due to higher volumes in the Compressor and Engine & Power Train
segments. Sales increased in all of the Company's segments; however, the most
substantial increase was in the Compressor business.
Gross profit and gross margin were $248.4 million and 13.0% in the fiscal year
ended December 31, 2004, as compared to $231.5 million and 12.7% in the fiscal
year ended December 31, 2003. Gross profit was negatively affected by the impact
of commodity costs and unfavorable foreign exchange rates, particularly the
Brazilian Real.
Selling, general and administrative expenses were $41.7 million or 25.9% higher
in the fiscal year ended December 31, 2004 compared to the prior fiscal year. As
a percentage of net sales, selling, general and administrative expenses were
10.6% and 8.9% in the fiscal year ended December 31, 2004 and December 31, 2003,
respectively. Though the majority of the increase was related to higher relative
selling costs, the Company also experienced increases in personnel, travel
expenses and professional fees, primarily Sarbanes-Oxley compliance and legal
consulting costs. The Company also provided $2.5 million for an outstanding
account receivable related to a significant customer of the Engine & Power Train
business that filed for bankruptcy.
In 2004, we recorded $21.5 million of restructuring, impairment and other
charges. Of this amount, $8.7 million was related to restructuring programs
related to the North American Compressor, Indian Compressor and Electrical
Components businesses; $14.6 million was related to environmental costs
involving the Company's New Holstein, Wisconsin facility; and a $1.8 million
gain was related to the final curtailment of medical benefits related to former
hourly employees of the Sheboygan Falls, Wisconsin Plant.
Actions within the Compressor business included moving compressor machining and
assembly operations from the Company's Tecumseh, Michigan facility to its
existing compressor facility located in Tupelo, Mississippi. In conjunction,
aftermarket distribution operations located in Clinton, Michigan were relocated
to the Tecumseh, Michigan facility. The facility consolidation was necessitated
by the relocation of significant customer-base to overseas locations, which left
the Company's North American Compressor operations with excess compressor
manufacturing capacity.
30
Approximately 300 layoffs were involved at the Tecumseh and Clinton facilities
while employment increases in Tupelo were approximately one-half of those lost
in Tecumseh. Charges related to the Compressor group actions for 2004 totaled
$3.0 million, including $2.4 million in asset impairment charges and $0.6
million in equipment relocation costs.
Actions in the Electrical Components business included the closure of the
Company's manufacturing facility in St. Clair, Missouri with gear machining
operations being consolidated into the Company's Salem, Indiana facility and
motor assembly operations being consolidated into the Company's Piedras Negras
and Juarez, Mexico facilities. While approximately 250 employees will be
affected by the shutdown at the St. Clair facility, this action will result in a
net reduction of approximately 20 employees. Charges related to the Electrical
Components group actions for 2004 totaled $4.5 million, including $2.7 million
in asset impairment charges, $0.8 million of equipment relocation costs and $1.0
million in accrued employee related severance costs.
During 2004, the Company also executed a program to reduce employment levels at
one of the Company's Indian compressor facilities. The action affected
approximately 100 employees at a cost of $1.2 million.
The 2003 results included a charge of $13.6 million related to environmental
costs at the Company's Sheboygan Falls, Wisconsin facility, total net
restructuring charges of $26.2 million related to the consolidation of
operations in the Engine & Power Train business and related plant closings, and
a $29.5 million charge for the impairment of goodwill associated with the
Company's European compressor operations, primarily the result of the
approximately 17% decline in the value of the U.S. Dollar versus the Euro.
Restructuring actions involving the Engine & Power Train business included the
closure of the Company's Douglas, Georgia and Sheboygan Falls, Wisconsin
production facilities and the relocation of certain production to the new
Curitiba, Brazil facility and other existing U.S. locations. As a result of
these actions, the Company incurred both charges and gains, which were
recognized over the second, third and fourth quarters of 2003. Included in the
charges were approximately $7.5 million in earned severance pay and future
benefit costs relating to manpower reductions, $4.2 million in plant closing and
exit costs incurred through December 31, 2003, and $20.3 million in asset
impairment charges for idled equipment and facilities. The amount of severance
pay and future benefit costs mentioned above included $0.8 million in
curtailment losses related to the pension plan at the Sheboygan Falls, Wisconsin
facility. The Company also recorded $5.8 million in curtailment gains associated
with other post-employment benefits.
Interest expense amounted to $22.7 million in the fiscal year ended December 31,
2004 compared to $22.8 million in the comparable period of 2003.
Interest income and other, net amounted to $14.0 million in the fiscal year
ended December 31, 2004 compared to $21.1 million in the same period of 2003.
This decrease resulted primarily from lower average deposits in Brazil and the
United States.
The Company's effective tax rates were 34.4% and 116.7% for the years ended
December 31, 2004 and 2003, respectively. The Company's statutory federal income
tax rate is 35%. The difference in 2003 was attributable to the
non-deductibility of the $29.5 million goodwill impairment charge offset by
adjustments to deferred taxes pertaining to unremitted earnings of foreign
subsidiaries, utilization of foreign tax credits and the resolution of prior
years' U.S. federal income tax audits.
Net income in the fiscal year ended December 31, 2004 was $10.1 million, or
$0.55 per share, as compared to net income of $0.1 million, or $0.01 per share,
in the fiscal year ended December 31,
31
2003. The improvement was primarily the result of the 2003 goodwill impairment
and restructuring activities described above. Additional factors discussed
through the Reportable Operating Segments discussion that follows contributed to
the operating loss experienced, even after excluding the impairment, other
charges and deferred tax asset valuation allowances.
REPORTABLE OPERATING SEGMENTS
Please see the previous discussion of our use of segment income before interest,
other expense and income taxes ("operating income") and income before interest,
other expense and income taxes divided by net sales ("operating margin") on page
24.
Compressor Products
Compressor business sales in the fiscal year of 2004 increased $82.3 million or
10.3% to $880.2 million. The increase was mainly attributable to the effect of
foreign currency translation that increased sales by $44.9 million. Excluding
the effect of foreign currency fluctuation, volume increases of compressors used
in residential refrigerators and freezers and room air conditioning were
partially offset by declines in sales of compressors used in unitary air
conditioning applications.
Compressor business operating income and the related margin on net sales for the
fiscal year ended December 31, 2004 amounted to $60.5 million and 6.9% compared
to $61.5 million and 7.7% for 2003. The operating margin decrease for 2004
versus 2003 was due to a number of factors including the impact of commodity
price increases, an unfavorable exchange rate as the U.S. Dollar weakened
against other key currencies, and falling prices in India from lower import
duties. Cost saving activities helped to lessen the impact of these factors.
Electrical Component Products
Sales for the fiscal year of 2004 amounted to $422.6 million compared to $420.9
million in 2003. The slight increase in sales was mostly attributable to new
customers offset by changes in mix of products sold.
Electrical Components operating income and margin for the fiscal year of 2004
amounted to $11.3 million and 2.7% compared to $16.9 million and 4.0% in 2003.
The decline in operating margin was mostly attributed to commodity cost
increases that were not fully recovered through pricing actions or cost savings.
The year's results were also impacted by warranty, response and expediting costs
incurred in the first half of the year as a result of a product design change
for an automotive segment customer. These costs were partially offset by the
absence in 2004 of the $4.2 million write-up of FASCO inventory, recorded at
December 31, 2002, in connection with purchase accounting, that was subsequently
recognized in cost of sales during the first quarter of 2003.
Engine & Power Train Products
Engine & Power Train business sales increased 1.2% to $480.9 million in the
fiscal year ended December 31, 2004 compared to $475.1 million in the
corresponding period of 2003. The net increase in sales reflected strong
relative demand for engines in North America, partially offset by lower sales
volumes in Europe. For the year, North American unit sales volumes of engines
used for snow throwers, walk behind rotary lawn mowers and generators were up
4%, 6% and 21%, respectively. Weather patterns in North America were generally
favorable to the respective selling seasons, and hurricane activity benefited
the generator markets. In Europe, the Company lost share due to a strong Euro,
which put the Company's European produced product at a disadvantage versus
imported product.
32
Engine & Power Train business operating loss in the fiscal year ended December
31, 2004 amounted to $21.2 million compared to a loss of $5.3 million in 2003.
The decline in results reflected numerous factors. In addition to the $2.5
million reserve related to an outstanding account receivable from a significant
customer which filed for bankruptcy, higher commodity and freight costs,
increased R&D spending, larger losses in Europe, currency losses of $1.6 million
on dollar-dominated borrowings in Brazil, start up costs at the Curitiba, Brazil
facility, and product rework that was necessitated by defective parts received
from a supplier all contributed to the substantial decline in operating results.
The declines were partially offset by the improvement in the operating results
of the North American engine operations due to the cost reductions achieved with
the closure of the Douglas, Georgia and Sheboygan Falls, Wisconsin facilities
last year.
Pump Products
Pump business sales in the fiscal year ended 2004 amounted to $126.4 million
compared to $124.3 million in comparable period in 2003. The 1.7% improvement in
2004 sales reflected improved sales in the plumbing markets due to wet spring
weather and strong OEM demand in the HVAC market.
Operating income in 2004 amounted to $13.7 million compared to $14.1 million in
2003. The 2.8% decrease in operating income for 2004 compared to 2003 was
primarily attributable to higher raw material costs.
During 2004, the Company was informed by a major retailer, which accounted for
approximately 17% of Little Giant overall business or 70% of Little Giant water
gardening business, that it was switching to a China-based supplier for the 2005
season. The Company is seeking other distribution channels for this product, and
the ultimate effect on sales will depend on the Company's ability to sell this
product through these other channels.
OTHER MATTERS
Environmental Matters
We are subject to various federal, state and local laws relating to the
protection of the environment and are actively involved in various stages of
investigation or remediation for sites where contamination has been alleged.
(See Note 10 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 December 31, 2005 and December 31, 2004, we had accrued $3.4 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 our 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.
33
AlixPartners Engagement
We engaged AlixPartners during the third quarter of 2005 to assist in the
restructuring plans of the Engine & Power Train business. These plans include
focusing on improving profitability and customer service. We believe the
participation by AlixPartners will allow the Company to effect this change in a
shorter time frame than it otherwise could have achieved. The plan includes
eliminating the significant duplicate capacity, among other cost reduction
efforts. During 2005, the Company accrued $7.8 million related to fees earned by
AlixPartners during the year.
LIQUIDITY AND CAPITAL RESOURCES
Our primary liquidity needs are to fund capital expenditures, service
indebtedness, and support working capital requirements. Our principal sources of
liquidity are cash flows from operating activities and borrowings under
available credit facilities. A substantial portion of our operating income is
generated by foreign operations. As a result, we are dependent on the earnings
and cash flows of and the combination of dividends, distributions and advances
from our foreign operations to provide the funds necessary to meet our
obligations in each of our legal jurisdictions. There are no significant
restrictions on the ability of our subsidiaries to pay dividends or make other
distributions.
CASH FLOW
2005 vs. 2004
Cash provided by operating activities was $16.0 million in the fiscal year of
2005 as compared to cash provided by operations of $5.2 million in 2004.
Improvements in working capital management, particularly in the second half of
the year, were utilized to fund operating activities. We also used existing cash
balances during the year to prepay $50 million of the Company's Guaranteed
Senior Guaranteed Notes, pay dividends, and fund capital expenditures.
Cash flows used in investing activities were $113.3 million in fiscal 2005 as
compared to $84.0 million in 2004, reflecting a $29.3 million increase in
capital expenditures in 2005, primarily related to new product expansions in
Brazil and India.
Cash flows used in financing activities were $24.0 million in fiscal 2005 as
compared to $58.9 million in 2004, primarily reflecting the repayment of $50
million of our Senior Guaranteed Notes in the first quarter net of additional
foreign borrowings during 2005 versus repayments in 2004. The Company also paid
dividends in the first and second quarters amounting to $11.8 million. The
Company did not pay a dividend during the third or fourth quarters of 2005 and
under its new credit facilities is prohibited from paying a dividend in 2006.
2004 vs. 2003
Cash provided in operating activities was $5.2 million in 2004 as compared to
cash provided by operations of $86.0 million in 2003. The decrease was primarily
the result of the declining results from operations and increased working
capital. The cash generated from operations was used along with existing cash
balances to pay dividends, fund capital expenditures and repay foreign
borrowings.
Cash flows used in investing activities were $80.4 million in the 2004 as
compared to $72.5 million in 2003, reflecting normal investing activities in
support of current operations.
Cash flows used in financing activities were $58.9 million in 2004 as compared
to $31.6 million in 2003, primarily reflecting the repayment of foreign
borrowings.
34
CAPITALIZATION
In addition to cash provided by operating activities, we rely on our credit
facility and long-term debt to provide for our capital expenditures and working
capital requirements. In a few instances, we have supported foreign operations
through inter-company borrowings, but the majority of these operations have made
local financing arrangements to meet capital requirements. For the fiscal years
ended December 31, 2005 and December 31, 2004, our average outstanding debt
balance was $376.8 million and $395.1 million, respectively. The weighted
average long-term interest rate, including the effect of hedging activities, was
6.2% and 4.9% for the respective periods. Among other factors, the change in
the weighted average, long-term interest rate for the respective periods
reflects the increase in the borrowing rate applicable to the $250 million
Senior Guaranteed Notes, which changed from 4.6% to 6.6% on August 8, 2005. At
December 31, 2005, $21.9 million of our $100 million revolving credit facility
was utilized for letters of credit.
As is discussed in Note 9 to the financial statements, the Senior Guaranteed
Notes and the revolving credit facility were successfully refinanced on February
3, 2006. Proceeds were also used to repay the remaining amounts outstanding
under the Industrial Revenue Bonds. The Senior Guaranteed Notes and Revolving
Credit Facility were replaced by a new financing package that includes a $275
million First Lien Credit Agreement and a $100 million Second Lien Credit
Agreement. The agreements provide for security interests in certain of the
Company's assets and specific financial covenants related to EBITDA, capital
expenditures and fixed charge coverage. Additionally, under the terms of the
agreements, no dividends can be paid prior to December 31, 2006, and minimum
amounts of credit availability are required thereafter. The First Lien Credit
Agreement is available for five years and bears interest at LIBOR plus a margin
tied to excess availability. The Second Lien Credit Agreement has a seven year
term and bears interest at LIBOR plus 7.5%. The weighed average interest rate at
funding was 9%.
Accounts Receivable Sales
Certain of our Brazilian and Asian subsidiaries periodically sell their accounts
receivable with financial institutions. Such receivables are factored with
recourse to us and, in most cases, are excluded from accounts receivable in our
consolidated balance sheets. The amount of sold receivables excluded from our
balance sheet was $32.1 million and $101.0 million as of December 31, 2005 and
December 31, 2004, respectively. We cannot provide any assurances that these
facilities will be available or utilized in the future.
Adequacy of Liquidity Sources
Historically, cash flows from operations and borrowing capacity under available
credit facilities were sufficient to meet our long-term debt maturities,
projected capital expenditures and anticipated working capital requirements;
however, the negative results experienced over the last quarter of 2004 and the
first nine months of 2005 and the recognition of the goodwill impairment charge
required the Company to amend 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. acted as agent for a group of lenders, for the quarters ended June 30, 2005
and September 30, 2005. Continued deterioration of results in the fourth quarter
again resulted in default of these amended covenants as of December 31, 2005. In
order to cure these defaults and to provide sufficient liquidity while the
Company takes actions to improve operating results, the Company successfully
refinanced these obligations on February 3, 2006.
The Senior Guaranteed Notes and Revolving Credit Facility were replaced by a new
financing package that includes a $275 million First Lien Credit Agreement and a
$100 million Second Lien Credit Agreement. The agreements provide for security
interests in substantially all of the Company's assets and specific financial
covenants related to EBITDA, capital expenditures and fixed
35
charge coverage. Additionally under the terms of the agreements, no dividends
can be paid prior to December 31, 2006 and minimum amounts of credit
availability are required thereafter. The new arrangements bear a weighted
average annual interest rate of 9.0% based upon outstandings at closing versus
the rate of 6.6% applicable to the $250 million Senior Guaranteed Notes. More
specific details regarding these new facilities have been provided in the
Company's 8-K dated February 9, 2006.
Off-Balance Sheet Arrangements and Aggregate Contractual Obligations
The Company does not believe it has any off-balance sheet arrangements that
have, or are reasonably likely to have, a material effect on the Company;
although, as disclosed in Note 12 to the Consolidated Financial Statements, the
Company is contingently liable with respect to some export receivables sold in
Brazil, and as disclosed in Note 10., the Company is contingently liable if
costs of remediation of the Sheboygan Falls, Wisconsin plant site were to exceed
the $100 million Remediation Cost Cap insurance purchased by the Company.
The Company has the following long-term contractual obligations:
Payments by Period (in millions)
------------------------------------------------
Less than 1 - 3 3 - 5 More than
Total 1 Year Years Years 5 Years
------ --------- ------ ------ ---------
Long-term debt $296.3 $14.2 $24.1 $2.0 $256.0
The Company has minimal capital and operating leases, as substantially all
employed facilities and equipment are owned. Currently, the Company has no
multi-year purchase commitments for capital items. Purchases of equipment are
typically procured within a year and are subject to annual management approval.
SIGNIFICANT ACCOUNTING POLICIES AND CRITICAL ACCOUNTING ESTIMATES
The preparation of financial statements requires that management make estimates
and assumptions that affect the reported amounts of assets and liabilities at
the date of the financial statements and revenues and expenses during the
period. Management bases its estimates on historical experience and other
assumptions that it believes to be reasonable under the circumstances, the
results of which form the basis for making judgments about carrying values of
assets and liabilities that are not readily apparent from other sources.
Management continually evaluates the information used to make these estimates as
the Company's business and the economic environment change. The use of estimates
is pervasive throughout the Company's financial statements, but the accounting
policies and estimates management considers most critical is as follows:
Impairment of Long-Lived Assets
It is the Company's policy to review its long-lived assets for possible
impairment whenever events and circumstances indicate that the carrying value of
an asset may not be recoverable. Such events could include loss of a significant
customer or market share, the decision to relocate production to other locations
within the Company, or the decision to cease production of specific models of
product.
The Company recognizes losses relating to the impairment of long-lived assets
when the future undiscounted cash flows are less than the asset's carrying value
or when the assets become permanently idle. Assumptions and estimates used in
the evaluation of impairment, including current
36
and future economic trends, the effects of new technologies and foreign currency
movements are subject to a high degree of judgment and complexity. All of these
variables ultimately affect management's estimate of the expected future cash
flows to be derived from the asset or group of assets under evaluation, as well
as the estimate of their fair value. Changes in the assumptions and estimates
may affect the carrying value of long-lived assets and could result in
additional impairment charges in future periods.
As discussed above, during the years ended December 31, 2005, 2004 and 2003 the
Company recognized impairments of its long-lived assets of $2.4 million, $5.1
million and $20.3 million respectively, related to restructuring activities.
During these years the Company also recognized impairments for assets idled by
the discontinuation of specific product models. Such impairments are included in
cost of sales and are considered to be part of the normal business cycle.
Goodwill and Other Intangible AssetS
The Company has goodwill and other intangible assets recorded from acquisitions.
These assets are subject to periodic evaluation for impairment when
circumstances warrant, or at least once per year. With respect to goodwill,
impairment is tested in accordance with SFAS No. 142, "Goodwill and Other
Intangibles" by comparison of the carrying value of the reporting unit to its
fair value. As there are not quoted prices for the Company's reporting units,
fair value is estimated based upon a present value technique using estimated
discounted future cash flows. Assumptions in estimating future cash flows are
subject to a high degree of judgment and complexity. Changes in the assumptions
and estimates may affect the carrying value of goodwill and could result in
additional impairment charges in future periods. Intangible assets other than
goodwill are also subject to periodic evaluation for impairment and are equally
sensitive to changes in the underlying assumptions and estimates.
While the Company traditionally conducts its annual assessment of impairment in
the fourth quarter, the failure to achieve the business plan, coupled with
expected market conditions, caused us to revisit the assumptions utilized to
determine FASCO's estimated fair value in the impairment assessment performed at
December 31, 2004 in June of 2005. The deterioration of volumes and our
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 estimated fair value has deteriorated
from the previous assessment and, as a result, a goodwill impairment of $108.0
million was recognized.
In our annual assessment in the fourth quarter of 2005, we determined that the
expected cash flows associated with both the Engine & Power Train Group's Czech
Republic operations acquired in 2001 and Manufacturing Data Systems, Inc., a
technology business not associated with any of the Company's four main segments,
were lower than had previously been estimated resulting in goodwill impairment
of $2.7 million in the Engine & Power Train Group operations and other
intangible impairment of $2.7 million at MDSI, both representing the entire
carrying value recorded.
In 2003, the Company's assessment indicated a partial impairment amounting to
$29.5 million of the total $40.1 million goodwill associated with the Company's
European Compressor business. Had the estimated value of the European Compressor
business been lower by 10%, the full amount of goodwill would have been
impaired. The impairment was primarily the result of the approximate 17% decline
in the value of the U.S. Dollar versus the Euro during 2003. The change in
currency value increased the Company's net investment in the European subsidiary
in U.S. Dollar terms and reduced margins on U.S. Dollar-denominated sales. The
Company's 2004 and 2005 assessment did not indicate the need for additional
impairments as the Company's computation of fair value exceeded carrying values.
37
At December 31, 2005, the Company had $130.9 million of goodwill and $54.8
million of other intangible assets recorded in its consolidated financial
statements. Of the Goodwill balance, $16.9 million related to the Compressor
business, $108.9 million related to the Electrical Components business and $5.1
million related to the Pump business. The entire other intangible balance is
related to the Electrical Components business.
Accrued and Contingent Liabilities
The Company has established reserves for environmental and legal contingencies
in accordance with SFAS No. 5. A significant amount of judgment and use of
estimates is required to quantify the Company's ultimate exposure in these
matters. The valuation of reserves for contingencies is reviewed on a quarterly
basis at the operating and corporate levels to assure that the Company is
properly reserved. Reserve balances are adjusted to account for changes in
circumstances for ongoing issues and the establishment of additional reserves
for emerging issues. While management believes that the current level of
reserves is adequate, changes in the future could impact these determinations.
The Company is involved in a number of environmental sites where the Company is
either responsible for, or participating in, a cleanup effort. As of December
31, 2005, the Company had accrued a total of $3.5 million and paid approximately
$0.5 million in connection with these sites during 2005. For additional
information on environmental liabilities, including the Sheboygan River and
Harbor Superfund and Hayton Area Remediation Project sites, see Note 10 to the
Financial Statements.
Employee Related Benefits
The measurement of post-employment obligations and costs is dependent on a
variety of assumptions. These assumptions include, but are not limited to, the
expected rates of return on plan assets, determination of discount rates for
re-measuring plan obligations, determination of inflation rates regarding
compensation levels and health care cost projections. The assumptions used vary
from year-to-year, which will affect future results of operations. Any
differences among these assumptions and the Company's actual return on assets,
financial market-based discount rates, and the level of cost sharing provisions
will also impact future results of operations.
The Company develops its demographics and utilizes the work of actuaries to
assist with the measurement of employee related obligations. The discount rate
assumption is based on investment yields available at year-end on corporate
long-term bonds rated AA by Moody's. The expected return on plan assets reflects
asset allocations; investment strategy and the views of investment managers and
other large pension plan sponsors. The Company has experienced actual returns
which are good approximations of those estimated, but a decline of 0.5% would
have an impact of almost $3.0 million. The inflation rate for compensation
levels reflects the Company's actual long-term experience. The inflation rate
for health care costs is based on an evaluation of external market conditions
and the Company's actual experience in relation to those market trends. Assuming
no changes in any other assumptions, a 0.5% decrease in the discount rate and
the rate of return on plan assets would increase 2005 expense by $2.6 million
and $3.1 million, respectively.
Due to the significant over-funding of the majority of U.S. pension plans, the
Company recognized a net periodic benefit for pensions in its financial
statements of $13.1 million and $14.3 million in 2005 and 2004, respectively.
See Note 3 of the Notes to Consolidated Financial Statements for more
information regarding costs and assumptions for post-employment benefits.
38
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
The Financial Accounting Standards Board ("FASB") issued SFAS No. 151,
"Inventory Costs - an amendment of ARB No. 43, Chapter 4." This statement
clarifies the requirement that abnormal inventory-related costs be recognized as
current-period charges and requires that the allocation of fixed production
overheads to inventory conversion costs be based on the normal capacity of the
production facilities. The provisions of this statement are to be applied
prospectively to inventory costs incurred during fiscal years beginning after
June 15, 2005. While we have idle production capacity in several of our
facilities and we are still evaluating the impact of this pronouncement, we do
not believe the effects will be material.
The Financial Accounting Standards Board ("FASB") issued FIN 47, "Accounting for
Conditional Asset Retirement Obligations--an interpretation of FASB Statement
No. 143" This statement clarifies that the term conditional asset retirement
obligation as used in FASB Statement No. 143, Accounting for Asset Retirement
Obligations, refers to a legal obligation to perform an asset retirement
activity in which the timing and (or) method of settlement are conditional on a
future event that may or may not be within the control of the entity.
Accordingly, an entity is required to recognize a liability when incurred for
the fair value of a conditional asset retirement obligation if the fair value of
the liability can be reasonably estimated. The provisions of this statement were
to be applied in fiscal years ending after December 15, 2005. The Company
recorded a liability of less than $0.5 million related to the adoption of this
pronouncement.
OUTLOOK
Information in this "Outlook" section should be read in conjunction with the
cautionary statements and discussion of risk factors included elsewhere in this
report.
The outlook for 2006 is subject to the same variables that have negatively
impacted the Company throughout 2005. Commodity costs, key currency rates,
weather and the overall growth rates of the respective economies around the
world are all important to future performance. Overall, the Company does not
expect these factors to become any more favorable in 2006. Accordingly, the
Company expects 2006 results to reflect only those actions it has been taking to
reduce costs and, potentially, the benefits of new product introductions to the
extent they are accepted in the market. For the Company as a whole, results for
the first half of the year are expected to lag those of the prior year
reflecting the deteriorating conditions through 2005 and higher interest costs,
while results in the second half of the year are expected to improve as cost
cutting actions are realized.
With respect to each of the Company's segments, results in the Compressor Group
are expected to lag the results of 2005 throughout the year. The Electrical
Components Group, which has demonstrated monthly year over year improvement
since August of 2005, is expected to continue its improvement into 2006. The
Engine and Power Train business has taken several major steps in 2005 to
eliminate overcapacity and costs that will benefit 2006, with further
improvements expected as the year progresses.
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 2006
that could have an effect on the consolidated financial position and future
results of operations of the Company. In addition, the Company continues to
evaluate potential acquisitions, joint ventures and dispositions that could
improve the overall competitiveness
39
and financial position of the Company and enhance its product offerings. Such
transactions could also have an effect on future results of operations.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to market 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.
Credit Risk - Financial instruments which potentially subject the Company to
concentrations of credit risk are primarily cash investments and accounts
receivable. The Company places its cash investments in bank deposits and
investment grade, short-term debt instruments (predominately commercial paper)
with reputable credit-worthy counterparties and, by policy, limits the amount of
credit exposure to any one counterparty.
The Company uses contemporary credit review procedures to approve customer
credit. Customer accounts are actively monitored, and collection efforts are
pursued within normal industry practice. Management believes that concentrations
of credit risk with respect to receivables are somewhat limited due to the large
number of customers in the Company's customer base and their dispersion across
different industries and geographic areas. However, in the Engine & Power Train
Group, the manufacture of small gasoline engine-powered lawn and garden
equipment is dominated, to a large extent, by three to four manufacturers. The
Company sells to all of these manufacturers and, as a result, a significant
portion of the Group's open accounts receivable at any time is comprised of
amounts due from these manufacturers. During the fourth quarter of 2004 one of
these customers declared bankruptcy resulting in a charge of $2.5 million.
A portion of export accounts receivable of the Company's Brazilian subsidiary is
sold at a discount. Discounted receivables sold in the Brazilian subsidiary at
December 31, 2005 and 2004 were $32.1 million and $101.0 million, respectively,
and the discount rate was 8.56% in 2005 and 7.3% in 2004. The Company maintains
an allowance for losses based upon the expected collectability of all accounts
receivable, including receivables sold.
Interest Rate Risk - 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. This results in 68% of the Company's total debt
at December 31, 2005 being fixed-rate. While changes in interest rates impact
the fair value of the fixed rate 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 $1.2 million.
The subsequent refinancing results in virtually all of the Company's debt being
variable rate.
Commodity Price Risk - 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. Company policy allows local management
40
to contract commodity forwards for a limited percentage of projected raw
material requirements up to one year in advance. Commodity contracts at most of
the Company's divisions and subsidiaries are essentially purchase contracts
designed to fix the price of the commodities during the operating cycle. The
Company's practice has been to accept delivery of the commodities and consume
them in manufacturing activities. At December 31, 2005 and 2004, the Company
held a total notional value of $61.8 million and $23.7 million, respectively, in
commodity forward purchasing contracts. The majority of these contracts were not
recorded on the balance sheet as they did not require an initial cash outlay and
do not represent a liability until delivery of the commodities is accepted;
however, commodity contracts at the Company's French compressor subsidiary are
essentially derivative financial instruments designed to hedge the fluctuation
in commodity pricing and, as such, are subject to the provisions of SFAS No.
133, as amended by SFAS 149.
Foreign Currency Exchange Risk - The Company is subject to foreign currency
exchange exposure for operations whose assets and liabilities are denominated in
currencies other than U.S. Dollars. On a normal basis, the Company does not
attempt to hedge the foreign currency translation fluctuations in the net
investments in its foreign subsidiaries. The Company does, from time to time,
enter into short-term forward exchange contracts to sell or purchase foreign
currencies at specified rates based on estimated foreign currency cash flows.
Company policy allows local management to hedge known receivables or payables
and forecasted cash flows up to a year in advance. It is the policy of the
Company not to purchase financial and/or derivative instruments for speculative
purposes. At December 31, 2005 and 2004, the Company held foreign currency
forward contracts with a total notional value of $173.0 million and $53.4
million, respectively.
41
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE
----
Report of Independent Registered Public Accounting Firm.................. 43
Financial Statements
Consolidated Statements of Operations for the years ended
December 31, 2005, 2004 and 2003................................... 45
Consolidated Balance Sheets at December 31, 2005 and 2004............. 46
Consolidated Statements of Cash Flows for the years ended
December 31, 2005, 2004 and 2003................................... 47
Consolidated Statements of Stockholders' Equity for the years ended
December 31, 2005, 2004 and 2003................................... 48
Notes to Consolidated Financial Statements............................ 49
All other schedules are omitted because they are not applicable or the required
information is shown in the financial statements or notes thereto.
42
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of Tecumseh Products Company:
We have completed integrated audits of Tecumseh Products Company's 2005 and 2004
consolidated financial statements and of its internal control over financial
reporting as of December 31, 2005, and an audit of its 2003 consolidated
financial statements in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Our opinions, based on our audits,
are presented below.
Consolidated financial statements
In our opinion, the consolidated financial statements listed in the accompanying
index present fairly, in all material respects, the financial position of
Tecumseh Products Company and its subsidiaries at December 31, 2005 and 2004,
and the results of their operations and their cash flows for each of the three
years in the period ended December 31, 2005 in conformity with accounting
principles generally accepted in the United States of America. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with the
standards of the Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit of financial statements includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
Internal control over financial reporting
Also, we have audited management's assessment, included in Management's Report
on Internal Control over Financial Reporting appearing under Item 9A, that
Tecumseh Products Company did not maintain effective internal control over
financial reporting as of December 31, 2005, because of the effect of a material
weakness related to ineffective 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 locations, based on criteria established in
Internal Control - Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO). The Company's management is
responsible for maintaining effective internal control over financial reporting
and for its assessment of the effectiveness of internal control over financial
reporting. Our responsibility is to express opinions on management's assessment
and on the effectiveness of the Company's internal control over financial
reporting based on our audit.
We conducted our audit of internal control over financial reporting in
accordance with the standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether effective internal control over
financial reporting was maintained in all material respects. An audit of
internal control over financial reporting includes obtaining an understanding of
internal control over financial reporting, evaluating management's assessment,
testing and evaluating the design and operating effectiveness of internal
control, and performing such other procedures as we consider necessary in the
circumstances. We believe that our audit provides a reasonable basis for our
opinions.
43
A company's internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company's internal control over
financial reporting includes those policies and procedures that (i) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (ii)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (iii) provide reasonable assurance regarding prevention or
timely detection of unauthorized acquisition, use, or disposition of the
company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting
may not prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.
A material weakness is a control deficiency, or combination of control
deficiencies, that results in more than a remote likelihood that a material
misstatement of the annual or interim financial statements will not be prevented
or detected. The following material weakness has been identified and included in
management's assessment. As of December 31, 2005, the Company did not maintain
effective control 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 demonstrate 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. These control
deficiencies did not result in adjustments to the 2005 annual or interim
consolidated financial statements. However, these control deficiencies when
aggregated could result in a misstatement in the financial statement accounts,
resulting in a material misstatement to the annual or interim consolidated
financial statements that would not be prevented or detected. Accordingly,
management has determined that this condition constitutes a material weakness.
This material weakness was considered in determining the nature, timing, and
extent of audit tests applied in our audit of the 2005 consolidated financial
statements, and our opinion regarding the effectiveness of the Company's
internal control over financial reporting does not affect our opinion on those
consolidated financial statements.
In our opinion, management's assessment that Tecumseh Products Company did not
maintain effective internal control over financial reporting as of December 31,
2005, is fairly stated, in all material respects, based on criteria established
in Internal Control - Integrated Framework issued by the COSO. Also, in our
opinion, because of the effect of the material weakness described above on the
achievement of the objectives of the control criteria, Tecumseh Products Company
has not maintained effective internal control over financial reporting as of
December 31, 2005, based on criteria established in Internal Control -
Integrated Framework issued by the COSO.
PricewaterhouseCoopers LLP
Detroit, Michigan
March 14, 2006
44
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in millions, except per share data) FOR THE YEARS ENDED DECEMBER 31,
--------------------------------
2005 2004 2003
-------- -------- --------
Net sales ............................................... $1,847.0 $1,911.7 $1,819.0
Cost of sales and operating expenses ................. 1,712.9 1,663.3 1,587.5
Selling and administrative expenses .................. 187.9 202.8 161.1
Impairments, restructuring charges, and other items .. 121.0 21.5 69.3
-------- -------- --------
Operating income (loss) ................................. (174.8) 24.1 1.1
Interest expense ..................................... (31.1) (22.7) (22.8)
Interest income and other, net ....................... 9.6 14.0 21.1
-------- -------- --------
Income (Loss) before taxes .............................. (196.3) 15.4 (0.6)
Tax provision (benefit) .............................. 27.2 5.3 (0.7)
-------- -------- --------
Net income (loss) ....................................... ($223.5) $ 10.1 $ 0.1
======== ======== ========
Basic and diluted earnings (loss) per share ............. ($12.09) $ 0.55 $ 0.01
======== ======== ========
Weighted average shares (in thousands) .................. 18,480 18,480 18,480
======== ======== ========
Cash dividends declared per share ....................... $ 0.64 $ 1.28 $ 1.28
======== ======== ========
The accompanying notes are an integral part of these Consolidated Financial
Statements.
45
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31,
-------------------
2005 2004
-------- --------
(Dollars in millions, except share data)
ASSETS
Current Assets:
Cash and cash equivalents ............................................... $ 116.6 $ 227.9
Accounts receivable, trade, less allowance for doubtful accounts of $11.3
million in 2005 and $11.0 million in 2004 ............................ 211.1 220.4
Inventories ............................................................. 346.8 394.2
Deferred and recoverable income taxes ................................... 43.4 36.9
Other current assets .................................................... 89.2 47.8
-------- --------
Total current assets .............................................. 807.1 927.2
-------- --------
Property, Plant, and Equipment, net ........................................ 578.6 554.8
Goodwill ................................................................... 130.9 243.5
Other intangibles .......................................................... 54.8 62.4
Deferred income taxes ...................................................... -- 29.6
Prepaid pension expense .................................................... 185.3 171.9
Other assets ............................................................... 43.8 73.4
-------- --------
Total assets ...................................................... $1,800.5 $2,062.8
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable, trade ................................................. $ 187.3 $ 178.1
Income taxes payable .................................................... -- 5.4
Short-term borrowings ................................................... 82.5 68.8
Accrued liabilities:
Employee compensation ................................................ 33.9 42.4
Product warranty and self-insured risks .............................. 42.6 70.6
Other ................................................................ 58.8 56.2
-------- --------
Total current liabilities ......................................... 405.1 421.5
Long-term debt ............................................................. 283.0 317.3
Deferred income taxes ...................................................... 25.0 8.0
Other postretirement benefit liabilities ................................... 210.9 210.7
Product warranty and self-insured risks .................................... 14.5 21.2
Accrual for environmental matters .......................................... 1.5 41.3
Pension liabilities ........................................................ 15.2 24.5
Other ...................................................................... 30.9 --
-------- --------
Total liabilities ................................................. 986.1 1,044.5
-------- --------
Commitments and contingencies
Stockholders' Equity
Class A common stock, $1 par value; authorized 75,000,000 shares; issued
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
5,077,746 shares in 2005 and 2004 .................................... 5.1 5.1
Retained earnings ....................................................... 806.6 1,041.9
Accumulated other comprehensive loss .................................... (10.7) (42.1)
-------- --------
Total stockholders' equity ........................................ 814.4 1,018.3
-------- --------
Total liabilities and stockholders' equity ........................ $1,800.5 $2,062.8
======== ========
The accompanying notes are an integral part of these Consolidated Financial
Statements.
46
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED
DECEMBER 31,
----------------------------
2005 2004 2003
-------- ------- -------
(Dollars in millions)
Cash Flows from Operating Activities:
Net income (loss) ......................................... ($223.5) $ 10.1 $ 0.1
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization .......................... 92.3 102.9 97.6
Non-cash restructuring charges and other items ......... 115.0 5.0 49.3
Loss on disposal of property and equipment ............. 2.4 4.5 --
Accounts receivable .................................... 7.3 27.2 25.7
Inventories ............................................ 39.3 (79.8) 22.2
Payables and accrued expenses .......................... 0.7 (28.9) (41.4)
Employee retirement benefits ........................... (16.9) (15.5) (13.8)
Deferred and recoverable taxes ......................... 41.5 9.1 (9.9)
Net effect of environmental payment .................... -- (1.8) (25.6)
Other .................................................. (42.1) (27.6) (18.2)
-------- ------- -------
Cash Provided By Operating Activities ............... 16.0 5.2 86.0
-------- ------- -------
Cash Flows from Investing Activities:
Capital expenditures ...................................... (113.3) (84.0) (82.8)
Business acquisitions, net of cash acquired ............... -- -- 10.3
Proceeds from sale of assets .............................. 3.5 3.6 --
-------- ------- -------
Cash Used In Investing Activities ................... (109.8) (80.4) (72.5)
-------- ------- -------
Cash Flows from Financing Activities:
Dividends paid ............................................ (11.8) (23.6) (23.6)
Proceeds from borrowings .................................. 52.6 22.9 367.0
Repayments of borrowings .................................. (14.8) (58.2) (375.0)
Repayments of long-term debt .............................. (50.0) -- --
-------- ------- -------
Cash Used In Financing Activities ................... (24.0) (58.9) (31.6)
-------- ------- -------
Effect of Exchange Rate Changes on Cash ...................... 6.5 17.4 29.6
-------- ------- -------
Increase (Decrease) In Cash and Cash Equivalents .......... (111.3) (116.7) 11.5
Cash and Cash Equivalents:
Beginning of Period ................................. 227.9 344.6 333.1
-------- ------- -------
End of Period ....................................... $ 116.6 $ 227.9 $ 344.6
======== ======= =======
The accompanying notes are an integral part of these Consolidated Financial
Statements.
47
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(Dollars in millions)
ACCUMULATED
CLASS A CLASS B OTHER TOTAL
$1 PAR $1 PAR RETAINED COMPREHENSIVE STOCKHOLDERS'
VALUE VALUE EARNINGS INCOME/(LOSS) EQUITY
------- ------- -------- ------------- -------------
BALANCE, DECEMBER 31, 2002 .......................... $13.4 $5.1 $1,078.9 ($118.5) $ 978.9
COMPREHENSIVE INCOME:
Net income .......................................... 0.1 0.1
Minimum pension liability (net of tax of $0.3) ...... 0.7 0.7
Gain on derivatives (net of tax of $0.1) ............ 0.2 0.2
Translation adjustments (net of tax of $26.1) ....... 48.5 48.5
--------
TOTAL COMPREHENSIVE INCOME ....................... 49.5
Cash dividends ...................................... (23.6) (23.6)
----- ---- -------- ------- --------
BALANCE, DECEMBER 31, 2003 .......................... 13.4 5.1 1,055.4 (69.1) 1,004.8
COMPREHENSIVE INCOME:
Net income .......................................... 10.1 10.1
Unrealized loss on investment holdings (net of tax of
$0.0) ............................................ (0.1) (0.1)
Minimum pension liability (net of tax of $0.1) ...... (0.3) (0.3)
Gain on derivatives (net of tax of $0.1) ............ 0.4 0.4
Translation adjustments (net of tax of $14.6) ....... 27.0 27.0
--------
TOTAL COMPREHENSIVE INCOME ....................... 37.1
Cash dividends ...................................... (23.6) (23.6)
----- ---- -------- ------- --------
BALANCE, DECEMBER 31, 2004 .......................... 13.4 5.1 1,041.9 (42.1) 1,018.3
COMPREHENSIVE INCOME (LOSS):
Net income (loss) ................................... (223.5) (223.5)
Unrealized loss on investment holdings (net of tax of
$0.0) ............................................ 4.1 4.1
Minimum pension liability (net of tax of $0.0) ...... 0.2 0.2
Gain on derivatives (net of tax of $4.4) ............ 8.1 8.1
Translation adjustments (net of tax of $0.0) ........ 19.0 19.0
--------
TOTAL COMPREHENSIVE INCOME (LOSS) ................ (192.1)
Cash dividends ...................................... (11.8) (11.8)
----- ---- -------- ------- --------
BALANCE, DECEMBER 31, 2005 .......................... $13.4 $5.1 $ 806.6 ($10.7) $ 814.4
===== ==== ======== ======= ========
The accompanying notes are an integral part of these Consolidated Financial
Statements.
48
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS)
NOTE 1. ACCOUNTING POLICIES
Business Description - Tecumseh Products Company (the "Company") is a full line,
independent global manufacturer of hermetic compressors for residential and
commercial refrigerators, freezers, water coolers, dehumidifiers, window air
conditioning units and residential and commercial central system air
conditioners and heat pumps; electric motors; gasoline engines and power trains
for lawn mowers, lawn and garden tractors, garden tillers, string trimmers, snow
throwers, industrial and agricultural applications and recreational vehicles;
and centrifugal pumps, sump pumps and small submersible pumps for industrial,
commercial marine and agricultural applications.
Principles of Consolidation - The consolidated financial statements include the
accounts of the Company and its subsidiaries. All significant intercompany
transactions and balances have been eliminated.
Foreign Currency Translation - All of the Company's foreign subsidiaries, with
the exception of certain Mexican operations which use the U.S. Dollar, use the
local currency of the country of operation as the functional currency. Assets
and liabilities are translated into U.S. Dollars at year-end exchange rates
while revenues and expenses are translated at average monthly exchange rates.
The resulting translation adjustments are recorded in other comprehensive income
or loss, a component of stockholders' equity. Realized foreign currency
transaction gains and losses are included in cost of sales and operating
expenses and amount to a net loss of $3.6 million in 2005, a net loss of $4.9
million in 2004 and a net gain of $5.1 million in 2003.
Cash Equivalents - Cash equivalents consist of commercial paper and other
short-term investments that are readily convertible into cash with original
maturities of three months or less.
Inventories - Inventories are valued at the lower of cost or market, on the
first-in, first-out basis. Cost in inventory includes purchased parts and
materials, direct labor and applied manufacturing overhead.
Property, Plant and Equipment - Expenditures for additions, major renewals and
betterments are capitalized and expenditures for maintenance and repairs are
charged to expense as incurred. For financial statement purposes, depreciation
is determined using the straight-line method at rates based upon the estimated
useful lives of the assets, which generally range from 15 to 40 years for
buildings and from 2 to 12 years for machinery, equipment and tooling.
Depreciation expense was $86.8 million, $94.1 million, and $85.1 million in
2005, 2004 and 2003, respectively.
Goodwill and Intangible Assets - In accordance with SFAS No. 142, "Goodwill and
Other Intangible Assets," goodwill and intangible assets deemed to have
indefinite lives are no longer amortized but are subject to impairment testing
on at least an annual basis. The Company performs its impairment testing during
the fourth quarter each year. The impairment test compares the fair value of the
reporting unit to its carrying value to determine if there is any potential
impairment. If the fair value is less than the carrying value, an impairment
loss is recognized to the extent that the fair value of the goodwill within the
reporting unit is less than the carrying value.
Other intangible assets are amortized over their estimated useful lives. See
Note 4 for additional disclosures related to goodwill and other intangible
assets.
49
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Revenue Recognition - Revenues from the sale of the Company's products are
recognized once the risk and rewards of ownership have transferred to the
customers, which, in most cases, coincide with shipment of the products. For
other cases involving export sales, title transfers either when the products are
delivered to the port of embarkation or received at the port of the country of
destination.
Shipping and Handling - Shipping and handling fee revenue is not significant.
Shipping and handling costs are included in cost of goods sold.
Income Taxes - Income taxes are accounted for using the liability method under
which deferred income taxes are determined based upon the estimated future tax
effects of differences between the financial statement and tax basis of assets
and liabilities, as measured by the currently enacted tax rates.
Derivative Financial Instruments - Derivative financial instruments are
occasionally utilized by the Company to manage risk exposure to movements in
foreign exchange rates. The Company, from time to time, enters into forward
exchange contracts to obtain foreign currencies at specified rates based on
expected future cash flows for each currency. Changes in the value of derivative
financial instruments are measured at the balance sheet date and recognized in
current earnings or other comprehensive income depending on whether the
derivative is designated as part of a hedge transaction and, if it is, the type
of transaction. The Company does not hold derivative financial instruments for
trading purposes. See Note 12 for discussion of adoption of Financial Accounting
Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities
and its amendments.
Product Warranty - Provision is made for the estimated cost of maintaining
product warranties at the time the product is sold based upon historical claims
experience by product line.
Self-Insured Risks - Provision is made for the estimated costs of known and
anticipated claims under the deductible portions of the Company's health,
liability and workers' compensation insurance programs. In addition, provision
is made for the estimated cost of post-employment benefits.
Environmental Expenditures - Expenditures for environmental remediation are
expensed or capitalized, as appropriate. Costs associated with remediation
activities are expensed. Liabilities relating to probable remedial activities
are recorded when the costs of such activities can be reasonably estimated and
are not discounted or reduced for possible recoveries from insurance carriers.
Earnings Per Share - Basic and diluted earnings per share are equivalent.
Earnings per share are computed based on the weighted average number of common
shares outstanding for the periods reported. The weighted average number of
common shares used in the computations was 18,479,684 in 2005, 2004 and 2003.
Research, Development and Testing Expenses - Company sponsored research,
development and testing expenses related to present and future products are
expensed as incurred and were $30.6 million, $34.0 million, and $31.5 million in
2005, 2004 and 2003, respectively. Such expenses consist primarily of salary and
material costs and are included in cost of sales and operating expenses.
50
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Estimates - The preparation of financial statements in conformity with
accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the reported amounts
during the reporting period and at the date of the financial statements.
Significant estimates include accruals for product warranty, self-insured risks,
pension and postretirement benefit obligations and environmental matters, as
well as the evaluation of goodwill and long-lived asset impairment. Actual
results could differ materially from those estimates.
NOTE 2. COMPREHENSIVE INCOME
Accumulated other comprehensive income or loss is shown in the Consolidated
Statements of Stockholders' Equity and includes the following:
2005 2004
------ ------
(in millions)
Foreign currency translation adjustments................................................. ($23.3) ($42.3)
Gain on derivatives...................................................................... 8.7 0.6
Minimum pension liability adjustments.................................................... (0.1) (0.3)
Unrealized gain (loss) on investment holdings............................................ 4.0 (0.1)
------ ------
($10.7) ($42.1)
====== ======
NOTE 3. PENSION AND OTHER POSTRETIREMENT BENEFIT PLANS
The Company has defined benefit retirement plans that cover substantially all
domestic employees. Plans covering salaried employees generally provide pension
benefits that are based on average earnings and years of credited service. Plans
covering hourly employees generally provide pension benefits of stated amounts
for each year of service. The Company sponsors a retiree health care benefit
plan, including retiree life insurance, for eligible salaried employees and
their eligible dependents. At certain divisions, the Company also sponsors
retiree health care benefit plans for hourly retirees and their eligible
dependents. The retiree health care plans, which are unfunded, provide for
coordination of benefits with Medicare and any other insurance plan covering a
participating retiree or dependent, and have lifetime maximum benefit
restrictions. Some of the retiree health care plans are contributory, with some
retiree contributions adjusted annually. The Company has reserved the right to
interpret, change or eliminate these health care benefit plans.
The Company uses September 30 as the measurement date (the date upon which plan
assets and obligations are measured) to facilitate the preparation and reporting
of pension and postretirement plan data. Information regarding the funded status
and net periodic benefit costs are reconciled to or stated as of the fiscal year
end of December 31.
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% resulting in a decrease in the liability of
$32.2 million. The amortization of the benefit related to these changes
recognized in the fourth quarter was $1.4 million.
51
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The following tables provide a reconciliation of the changes in the United
Stated based pension and postretirement plans' benefit obligations, fair value
of assets and funded status for 2005 and 2004:
PENSION BENEFIT OTHER BENEFIT
--------------- ---------------
2005 2004 2005 2004
------ ------ ------ ------
(in millions)
CHANGE IN BENEFIT OBLIGATION
Benefit obligation at beginning of period .. $384.4 $371.6 195.2 $188.2
Service cost ............................ 9.1 8.8 4.9 4.2
Interest cost ........................... 21.8 21.6 10.6 10.1
Amendments .............................. 1.7 (4.1) (32.2) --
Actuarial loss .......................... 19.0 11.1 27.0 1.9
Curtailment (gain) loss ................. -- 0.4 -- (1.1)
Benefit payments ........................ (27.7) (25.0) (11.1) (8.1)
------ ------ ------ ------
Benefit obligation at measurement date ..... $408.3 $384.4 $194.4 $195.2
====== ====== ====== ======
CHANGE IN PLAN ASSETS
Fair value at beginning of period .......... $589.6 $575.9
Actual return on plan assets ............ 31.6 41.5
Employer contributions .................. 0.1 0.2
IRC Section 420 asset transfer .......... -- (3.0)
Benefit payments ........................ (27.7) (25.0)
------ ------
Fair value at measurement date ............. $593.6 $589.6
====== ======
The following table provides the funded status of the plans for 2005 and 2004:
PENSION BENEFITS OTHER BENEFITS
---------------- -----------------
2005 2004 2005 2004
------ ------ ------- -------
(in millions)
FUNDED STATUS
Funded status at measurement date ............ $185.3 $205.2 ($194.5) ($195.2)
Unrecognized transition asset .............. (0.1) (0.2) -- --
Unrecognized prior service cost (benefit) .. 2.8 1.4 (39.9) (2.7)
Unrecognized gain (loss) ................... (5.0) (36.7) 14.9 (22.0)
------ ------ ------- -------
Net amount recognized ...................... $183.0 $169.7 ($219.5) ($219.9)
====== ====== ======= =======
52
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Amounts recognized in the consolidated balance sheets as of December 31 consist
of:
2005 2004
------ ------
(in millions)
Prepaid benefit cost .................... $185.3 $171.9
Accrued benefit cost .................... (2.4) (2.7)
Intangible asset ........................ -- 0.1
Accumulated other comprehensive income .. 0.1 0.4
------ ------
Net amount recognized ................... $183.0 $169.7
====== ======
The accumulated benefit obligation for all defined benefit pension plans was
$390.6 million and $368.0 million at September 30, 2005 and 2004, respectively.
Information for pension plans with an accumulated benefit obligation in excess
of plan assets:
SEPTEMBER 30,
-------------
2005 2004
---- ----
(in millions)
Projected benefit obligation ... $3.1 $3.4
Accumulated benefit obligation.. 3.0 3.4
Fair value of plan assets....... 0.5 0.7
Components of net periodic benefit (income) cost during the year:
PENSION BENEFITS OTHER BENEFITS
----------------- --------------
2005 2004 2005 2004
------- ------- ----- -----
(in millions)
Service cost....................................... $ 9.1 $ 8.8 4.9 $ 4.2
Interest cost...................................... 21.8 21.6 10.7 10.1
Expected return on plan assets..................... (41.9) (42.1) -- --
Amortization of net gain........................... (2.5) (4.4) (2.8) (5.0)
Amortization of unrecognized prior service costs .. 0.4 1.4 (1.9) (1.1)
SFAS 88 expense.................................... -- 0.4 -- (1.9)
------- ------- ----- -----
Net periodic benefit (income) cost................. ($13.1) ($14.3) $10.9 $ 6.3
======= ======= ===== =====
ADDITIONAL INFORMATION
ASSUMPTIONS
Weighted-average assumptions used to determine benefit obligations at September
30,
PENSION BENEFITS OTHER BENEFITS
---------------- --------------
2005 2004 2005 2004
---- ---- ---- ----
Discount rate .................. 5.50% 5.85% 5.50% 5.85%
Rate of compensation increase .. 4.25% 4.50% N/A N/A
53
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Weighted-average assumptions used to determine net periodic benefit costs for
the years ended December 31:
PENSION BENEFITS OTHER BENEFITS
---------------- --------------
2005 2004 2005 2004
---- ---- ---- ----
Discount rate ............................. 5.85% 6.00% 5.85% 6.00%
Expected long-term return on plan assets .. 6.75% 6.75% N/A N/A
Rate of compensation increase ............. 4.50% 5.00% N/A N/A
The expected long-term return, variance, and correlation of return with other
asset classes are determined for each class of assets in which the plan is
invested. That information is combined with the target asset allocation to
create a distribution of expected returns. The selected assumption falls within
the best estimate range, which is the range in which it is reasonably
anticipated that the actual results are more likely to fall than not.
Assumed health care cost trend rates:
SEPTEMBER 30,
----------------
2005 2004
--------- ----
Health care cost trend rate assumed for next
year.............................................. 7-14% 9%
Rate to which the cost trend rate is assumed
to decline (the ultimate trend rate).............. 5% 5%
Year that the rate reaches the ultimate trend rate .. 2013-2016 2011
Assumed health care cost trend rates have a significant effect on the amounts
reported for the health care plans. The health care cost trend rates are based
on an evaluation of external market conditions and adjusted to reflect the
Company's actual experience in relation to those market trends. The following
table provides the effects of a one-percentage-point change in assumed health
care cost trend rates:
1-PERCENTAGE- 1 - PERCENTAGE-
POINT INCREASE POINT DECREASE
-------------- ---------------
(in millions)
Effect on total of service and interest cost .. $ 2.0 ($1.7)
Effect on postretirement benefit obligation ... 18.5 (16.8)
PLAN ASSETS
The following table provides pension plan asset allocations:
PLAN ASSETS
AT SEPTEMBER 30,
----------------
2005 2004
---- ----
ASSET CATEGORY:
Debt securities ... 67% 67%
Equity securities.. 33% 33%
Other.............. -- --
--- ---
Total........... 100% 100%
=== ===
The Company's investment objective is to provide pension payments. This is
accomplished by investing the estimated payment obligations into fixed income
portfolio where maturities match the expended benefit payments. This portfolio
consists of investments rated "A" or
54
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
better by Moody's or Standard & Poor's. Funds in excess of the estimated
ten-year payment obligations are invested in equal proportions in a separate
bond portfolio and an equity portfolio.
Equity securities include Tecumseh Products Company common stock in the amounts
of $6.4 million (1.1% of total plan assets) and $7.9 million (1.4% of total plan
assets) at September 30, 2005 and 2004, respectively.
The Company does not expect to contribute to its pension plans in 2006.
The following benefit payments, which reflect expected future service, as
appropriate, are expected to be paid.
(in millions)
PROJECTED BENEFIT PAYMENTS
FROM POSTRETIREMENT MEDICAL
PROJECTED BENEFIT AND LIFE INSURANCE PLANS
PAYMENTS FROM -------------------------------
YEAR PENSION PLANS GROSS CLAIMS EXPECTED SUBSIDY
- ---- ----------------- ------------ ----------------
2006...................... $ 23.3 $13.6 $0.6
2007...................... 23.5 14.1 0.8
2008 ..................... 24.1 13.8 0.6
2009 ..................... 24.9 14.1 0.6
2010 ..................... 25.4 14.6 0.7
Aggregate for 2010-2015 .. 138.7 75.9 4.0
FOREIGN PENSION PLANS
The Company's foreign subsidiaries provide for defined benefits that are
generally based on earnings at retirement date and years of credited service.
The combined expense for these unfunded plans was $1.6 million and $4.1 million
in 2005 and 2004, respectively. The net liability recorded in the consolidated
balance sheet was $12.5 million and $18.5 million for 2005 and 2004,
respectively.
DEFINED CONTRIBUTION PLANS
The Company has defined contribution retirement plans that cover substantially
all domestic employees. The combined expense for these plans was $3.1 million
and $2.8 million in 2005 and 2004, respectively.
NOTE 4. GOODWILL AND OTHER INTANGIBLE ASSETS
The Company's primary Goodwill and Other Intangibles relate to the assignment of
purchase price following the acquisition of certain of the Company's
subsidiaries, most significantly the December 2002 acquisition of FASCO. The
Company accounts for these assets under SFAS 142, "Goodwill and Other Intangible
Assets" subjecting the recorded amounts to impairment testing on at least an
annual basis. 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 uses
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.
55
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
During the second quarter of 2005, the Company recorded 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). The failure to
achieve the business plan, coupled with expected market conditions, caused us to
perform a mid-year assessment of the assumptions utilized to determine FASCO's
estimated fair value in the impairment assessment performed at December 31,
2004. The deterioration of volumes and our inability to recover higher commodity
and transportation costs through price increases resulted in revised expected
cash flows for FASCO. Based on the revised estimates of cash flow, FASCO's
estimated fair value has deteriorated from the previous assessment and, as a
result, a goodwill impairment of $108.0 million was recognized.
During our annual fourth quarter assessment, the expected cash flows were lower
than had previously been estimated for both the Engine & Power Train's Czech
Republic operations and Manufacturing Data Systems, Inc., a technology business
not associated with any of the Company's four main segments, both representing
the entire carrying value recorded. The issues with the Czech Republic operation
are indicative of what we are experiencing throughout the Engine and Power Train
segment, but reflects decisions made in the fourth quarter regarding as to where
certain products will be produced in future years and uncertainty as to our
ability to bring costs down enough to meet previous cash flow forecasts. The
decline in expected cash flows resulted in a goodwill impairment of $2.7 million
or the entire carrying value. The decreased expectations related to MDSI reflect
the fact that the operation has failed to meet key development targets and been
recently unsuccessful in developing a market for certain products introduced in
2005. A $2.7 million impairment charge related to the intangible assets,
representing the remaining unamortized balance, was recorded.
During the Company's annual test for impairment conducted during the fourth
quarter of 2003, it was determined that goodwill amounting to $29.5 million
associated with the Company's European compressor business had been impaired.
The changes in the carrying amount of goodwill by segment follow:
ELECTRICAL ENGINE &
COMPRESSOR COMPONENTS POWER TRAIN PUMPS TOTAL
---------- ---------- ----------- ----- -------
(in millions)
Balance at Jan. 1, 2004........ $17.4 $ 217.7 $ 2.5 $5.1 $ 242.7
Purchase price adjustments..... (0.8) (0.8)
Foreign currency translation... 1.2 0.4 1.6
----- ------- ----- ---- -------
Balance at Dec. 31, 2004....... 18.6 216.9 2.9 5.1 243.5
Impairment..................... (108.0) (2.7) (110.7)
Foreign currency translation... (1.7) (0.2) (1.9)
----- ------- ----- ---- -------
Balance at Dec. 31, 2005....... $16.9 $ 108.9 -- $5.1 $ 130.9
===== ======= ===== ==== =======
56
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Other intangible assets as of December 31, 2005 consisted of the following:
Gross
Carrying Accumulated Amortizable
Amount Amortization Impairment Net Life
-------- ------------ ---------- ----- -----------
(in millions)
Intangible assets subject to
amortization:
Customer relationships and
contracts................. $39.3 $ 8.1 $ -- $31.2 6-15 years
Technology................... 15.4 6.4 (2.3) 6.7 3-10 years
Trade-name and trademarks.... 0.9 0.5 (0.4) -- 3-8 years
----- ----- ------ -----
Total.................. 55.6 15.0 (2.7) 37.9
----- ----- ------ -----
Intangible assets not subject to
amortization:
Trade-name................... 16.9 16.9
----- ----- ------ -----
Total other intangible assets... $72.5 $15.0 ($2.7) $54.8
===== ===== ====== =====
Other intangible assets as of December 31, 2004 consisted of the following:
Gross
Carrying Accumulated Amortizable
Amount Amortization Impairment Net Life
-------- ------------ ---------- ----- -----------
(in millions)
Intangible assets subject to
amortization:
Two year non-compete
agreement................. $15.0 $15.0 -- $ -- 2 years
Customer relationships and
contracts................. 39.3 5.4 -- 33.9 6-15 years
Technology................... 15.4 4.3 -- 11.1 3-10 years
Trade-name and trademarks.... 0.9 0.4 -- 0.5 3-8 years
----- ----- --- -----
Total.................. 70.6 25.1 -- 45.5
----- ----- --- -----
Intangible assets not subject to
amortization:
Trade-name................... 16.9 -- -- 16.9
----- ----- --- -----
Total other intangible assets... $87.5 $25.1 -- $62.4
===== ===== === =====
The aggregate amortization expense for the years ended December 31, 2005, 2004
and 2003 was $5.0 million, $12.5 million, and $12.5 million, respectively. The
estimated amortization expense is approximately $3.8 million for each year from
2006 through 2010.
57
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
NOTE 5. INCOME TAXES
Consolidated income before taxes consists of the following:
2005 2004 2003
------- ------- ------
(in millions)
U.S.......... ($154.5) ($17.5) ($20.4)
Foreign...... (41.7) 32.9 19.8
------- ------- ------
($196.2) $ 15.4 ($0.6)
======= ======= ======
Provision (benefit) for income taxes consists of the following:
2005 2004 2003
----- ------ ------
(in millions)
Current:
U.S. federal........................... $(14.9) ($2.6) ($0.5)
State and local........................ -- (1.5) 0.4
Foreign income and withholding taxes... 8.6 18.0 20.1
----- ----- ------
(6.3) 13.9 20.0
----- ----- ------
Deferred:
U.S. federal and state ................ 32.4 (6.2) (15.0)
Foreign................................ 1.1 (2.4) (5.7)
----- ----- ------
33.5 (8.6) (20.7)
----- ----- ------
Provision for income taxes................ $27.2 $ 5.3 ($0.7)
Income taxes paid, net.................... ($7.7) $18.9 $ 29.4
===== ===== ======
A reconciliation between the actual income tax expense provided and the income
tax expense computed by applying the statutory federal income tax rate of 35% to
income before tax is as follows:
2005 2004 2003
------- ----- -----
(in millions)
Income taxes (benefit) at U.S. statutory rate.... ($68.7) $ 5.4 ($0.2)
Foreign tax differential (and withholding tax)... 6.4 0.9 7.3
Change in valuation allowance.................... 71.5 5.8 --
State and local income taxes..................... 0.2 (1.0) 0.3
Extraterritorial income exclusion ............... (0.5) (1.6) (1.6)
Medicare reimbursement........................... (0.8) (0.8) --
Federal credits.................................. (0.8) (1.0) --
Goodwill impairment.............................. 37.8 -- --
Worthless stock of subsidiary.................... (17.0) -- --
Settlements of U.S. taxes........................ -- (2.6) (6.8)
Other ........................................... (0.9) 0.2 0.3
------- ----- -----
$ 27.2 $ 5.3 ($0.7)
======= ===== =====
58
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The Company calculates deferred taxes from temporary differences between the tax
basis of an asset or liability and its reported amount in the financial
statements. Furthermore, the Company provides United States taxes on unremitted
foreign earnings. Significant components of the Company's deferred tax assets
and liabilities as of December 31 were as follows:
2005 2004
------ ------
(in millions)
Deferred tax assets:
Other postretirement liabilities ......................................... $ 80.4 $ 81.7
Product warranty and self-insured risks .................................. 17.2 20.6
Net operating loss carryforwards ......................................... 61.7 32.4
Provision for environmental matters ...................................... 1.2 1.3
Translation adjustments .................................................. 18.2 21.5
Tax credit carryovers .................................................... 39.8 23.8
Other accruals and miscellaneous ......................................... 43.5 36.0
------ ------
262.0 217.3
Valuation allowance ...................................................... (90.3) (20.3)
------ ------
Total deferred tax assets ................................................ 171.7 197.0
------ ------
Deferred tax liabilities:
Tax over book depreciation ............................................... 24.4 30.1
Pension .................................................................. 68.2 63.6
Unremitted foreign earnings .............................................. 50.2 42.4
Intangibles .............................................................. 17.4 17.8
Other .................................................................... 8.1 2.5
------ ------
Total deferred tax liabilities ........................................... 168.3 156.4
------ ------
Net deferred tax assets .................................................. $ 3.4 $ 40.6
====== ======
Deferred tax detail is included in the consolidated balance sheet as follows:
Current deferred tax assets (including refundable of $14.9 and $17.9) .... $ 43.3 $ 36.9
Non-current deferred tax assets .......................................... -- 29.6
Non-current deferred tax liabilities ..................................... 25.0 8.0
------ ------
Total .................................................................... $ 18.3 $ 58.5
====== ======
At December 31, 2005, the Company had federal net operating loss carryforwards
of approximately $71.4 million, which will expire in 2025. The Company also had
state net operating loss carryforwards of $172.8 million, which will expire at
various dates. Additionally, the Company had foreign net operating loss
carryforwards of $25.8 million, of which $0.1 million will expire from 2012. The
remainder of the foreign net operating loss carryforwards has an unlimited
carryforward period. Foreign tax credit and research credit carryforwards of
approximately $40.2 million will expire between 2012 through 2015. Furthermore,
the Company also had various state tax credit carryovers of $2.3 million, which
expire at various dates from 2006 to 2019.
The valuation allowance for deferred tax assets relates to all net federal
deferred tax assets, state deferred tax assets and certain tax assets arising in
foreign tax jurisdictions, and in the judgment of management, these tax assets
are not likely to be realized in the foreseeable future. The valuation allowance
increased $70.0 million in 2005. The change results from initial recognition of
a federal valuation allowance of $18.2 million, initial recognition of a foreign
valuation allowance of $7.1 million, federal losses and credits of $27.9 million
and foreign items of $18.3 million, all of which
59
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
are reflected in the provision, and a net decrease of $1.5 million in the
balance of other deferred tax assets, primarily from foreign currency
translation, the write-off of foreign losses, the expiration of state tax
credits, and the state tax credits generated in the current year for which a
valuation allowance was provided.
Tax returns are subject to audit by various taxing authorities. In 2004, the
Company recorded a benefit to income of $2.6 million from settlements of U.S.
tax issues primarily related to prior years. Although the Company believes that
adequate accruals have been made for unsettled issues, additional gains or
losses could occur in future years from resolution of outstanding matters.
NOTE 6. INVENTORIES
The components of inventories at December 31, were:
2005 2004
------ ------
(in millions)
Raw materials ..... $128.5 $169.3
Work in progress .. 73.3 82.1
Finished goods .... 138.6 130.0
Supplies .......... 8.3 12.8
------ ------
$348.7 $394.2
====== ======
NOTE 7. PROPERTY, PLANT AND EQUIPMENT, NET
The components of property, plant and equipment, net are as follows:
DECEMBER 31,
-------------------
2005 2004
-------- --------
(Dollars in millions, except share data)
Land and land improvements .......... $ 30.1 $ 30.4
Buildings ........................... 219.1 233.4
Machinery and equipment ............. 1,127.6 1,178.5
Assets in process ................... 78.2 45.6
-------- --------
1,455.0 1,487.9
Less, accumulated depreciation ... 876.4 933.1
-------- --------
Property, plant and equipment, net .. $ 578.6 $ 554.8
-------- --------
NOTE 8. BUSINESS SEGMENTS
In accordance with SFAS No. 131, "Disclosures about Segments of an Enterprise
and Related Information," the Company has identified four reportable operating
segments. Operating segments are defined as components of an enterprise for
which separate financial information is available that is evaluated regularly by
the chief operating decision maker(s) in deciding how to allocate resources and
in assessing performance. The Company's segments share similar economic
characteristics and are similar in terms of products offered, production
processes, types of customers served and methods of distribution.
60
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The Company's four reportable operating segments are defined as follows:
Compressor Products - Manufacturing and marketing of a full line of hermetic
compressors for residential and commercial air conditioning and refrigeration
products.
Electrical Component Products - Manufacturing and marketing of AC and DC
electric motors, blowers, gear motors and linear actuators for a broad and
diverse set of applications across many industries.
Engine & Power Train Products - Manufacturing and marketing of gasoline engines
and power train components for lawn and garden and utility applications.
Pump Products - Manufacturing and marketing centrifugal, sump and small
submersible pumps for industrial, commercial, marine and agricultural
applications.
The accounting policies of the reportable segments are the same as those
described in Note 1 of Notes to the Consolidated Financial Statements.
External customer sales by geographic area are based upon the destination of
products sold. The Company has no single customer that accounts for 10% or more
of consolidated net sales. Long-lived assets by geographic area are based upon
the physical location of the assets.
61
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
BUSINESS SEGMENT INFORMATION (in millions)
2005 2004 2003
-------- -------- --------
External customer sales:
Compressor Products ............................... $ 910.9 $ 880.2 $ 797.9
Electrical Component Products ..................... 410.1 422.6 420.9
Engine & Power Train Products ..................... 404.1 480.9 475.1
Pump Products ..................................... 120.1 126.4 124.3
Other ............................................. 1.8 1.6 0.8
-------- -------- --------
Total external customer sales .................. $1,847.0 $1,911.7 $1,819.0
======== ======== ========
Operating income (loss):
Compressor Products ............................... $ 18.8 $ 60.5 $ 61.5
Electrical Component Products ..................... 7.5 11.3 16.9
Engine & Power Train Products ..................... (75.1) (21.2) (5.3)
Pump Products ..................................... 13.0 13.7 14.1
Other ............................................. (3.4) (3.7) (3.8)
Corporate and consolidating items ................. (14.6) (15.0) (13.0)
Impairments, restructuring charges, and other items
(see Note 15) .................................. (121.0) (21.5) (69.3)
-------- -------- --------
Total operating income ......................... ($174.8) $ 24.1 $ 1.1
======== ======== ========
Reconciliation to income before taxes:
Operating income (loss) ........................... ($174.8) $ 24.1 $ 1.1
Interest (expense) income and other, net .......... (21.5) (8.7) (1.7)
-------- -------- --------
Income (Loss) before taxes ..................... ($196.3) $ 15.4 ($0.6)
======== ======== ========
Assets:
Compressor Products ............................... 678.7 $ 649.2 $ 549.4
Electrical Component Products ..................... 389.9 544.9 561.9
Engine & Power Train Products ..................... 294.8 326.2 306.8
Pump Products ..................................... 62.0 57.7 54.9
Corporate and consolidating items ................. 374.2 480.7 628.7
Other ............................................. 0.9 4.1 4.1
-------- -------- --------
Total assets ................................... $1,800.5 $2,062.8 $2,105.8
======== ======== ========
Capital expenditures:
Compressor Products ............................... $ 68.4 $ 35.2 $ 48.9
Electrical Component Products ..................... 7.7 3.6 5.0
Engine & Power Train Products ..................... 18.9 27.6 23.7
Pump Products ..................................... 0.5 1.0 0.5
Corporate and consolidating items ................. 17.8 16.6 4.7
-------- -------- --------
Total capital expenditures ..................... $ 113.3 $ 84.0 $ 82.8
======== ======== ========
Depreciation and amortization:
Compressor Products ............................... $ 48.5 $ 49.6 $ 40.4
Electrical Component Products ..................... 21.0 27.8 29.6
Engine & Power Train Products ..................... 18.8 21.3 23.6
Pump Products ..................................... 1.4 1.6 1.8
Corporate and consolidating items ................. 2.2 1.7 1.3
Other ............................................. 0.4 0.9 0.9
-------- -------- --------
Total depreciation and amortization ............ $ 92.3 $ 102.9 $ 97.6
======== ======== ========
62
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
GEOGRAPHIC SEGMENT INFORMATION (in millions)
2005 2004 2003
-------- -------- --------
Customer Sales by Destination
North America
United States .................................. $ 980.6 $1,065.1 $1,071.0
Other North America ............................ 96.7 87.0 72.7
-------- -------- --------
Total North America .................................. 1,077.3 1,152.1 1,143.7
South America ........................................ 212.1 190.1 136.2
Europe ............................................... 336.2 322.3 311.6
Middle East and Asia ................................. 221.4 247.2 227.5
-------- -------- --------
$1,847.0 $1,911.7 $1,819.0
======== ======== ========
2005 2004 2003
------ ------ ------
Net Fixed Assets
United States ..................................... $211.1 $215.4 $230.7
Brazil ............................................ 234.2 182.2 159.1
Rest of world ..................................... 133.3 157.2 164.8
------ ------ ------
$578.6 $554.8 $554.6
====== ====== ======
The Electrical Component Products had intersegment sales of $52.5 million, $65.9
million and $69.2 million in 2005, 2004 and 2003 respectively.
NOTE 9. DEBT
2005 2004
------ ------
(in millions)
Short-term borrowings consist of the following:
Borrowings by foreign subsidiaries under revolving credit agreements,
advances on export receivables and overdraft arrangements with banks used
in the normal course of business; weighted average interest rate of 7.7%
in 2005 and 7.7% in 2004 ................................................ 68.3 $ 65.7
Current maturities of long-term debt .......................................... 14.2 3.1
------ ------
Total short-term borrowings ................................................ $ 82.5 $ 68.8
====== ======
Long-term debt consists of the following:
Unsecured borrowings, primarily with banks, by foreign subsidiaries with
weighted average interest rate of 14.3% in 2005 and 4.8% in 2004 and
maturing in 2005 through 2012 ........................................... 35.8 $ 4.7
Senior Guaranteed Notes, 6.6% and 4.66% fixed rate in 2005 and 2004,
respectively, maturing on March 5, 2008 through 2011(*) ................. 250.0 300.0
Variable Rate Industrial Development Revenue Bonds payable in quarterly
installments from 2005 to 2021(weighted average interest rate of 4.4% in
2005 and 2.34% in 2004)(*) .............................................. 10.5 11.2
------ ------
296.3 315.9
Plus: Unamortized net premiums(*) .......................................... 0.9 4.5
Less: Current maturities of long-term debt ................................. (14.2) (3.1)
------ ------
Total long-term debt .................................................... $283.0 $317.3
====== ======
63
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(*) The Company successfully refinanced these obligations on February 6, 2006.
The Senior Guaranteed Notes and Revolving Credit Facility were replaced by a new
financing package that includes a $275 million First Lien Credit Agreement and a
$100 million Second Lien Credit Agreement. The agreements provide for security
interests in certain of the Company's assets and specific financial covenants
related to EBITDA, capital expenditures and fixed charge coverage. Additionally
under the terms of the agreements, no dividends can be paid prior to December
31, 2006 and minimum amounts of credit availability are required thereafter. The
First Lien Credit Agreement is available for five years and bears interest at
LIBOR plus a margin tied to excess availability. The Second Lien Credit
Agreement has a seven year term and bears interest at LIBOR plus 7.5%. The
weighted average interest rate at funding was 9%.
Through December 20, 2004, the Company operated with a $125 million three-year
revolving credit facility due to expire in 2005. Under the facility, the Company
could select among various interest rate arrangements. The facility had an
applicable commitment fee rate of 22.5 basis points. On December 21, 2004, the
facility was replaced with a $100 million five-year revolving credit facility,
with substantially the same interest rate arrangements as the previous facility.
This facility had an applicable commitment fee rate of 20.0 basis points. Under
the Revolving Credit Facility, the Company paid facility fees of $0.4 million in
2005, $0.3 million in 2004 and $0.2 million in 2003. As of December 31, 2005,
the Company had $21.9 million of the facility committed to support letters of
credit.
During the third quarter 2003, the Company entered into two pay variable,
receive fixed interest rate swap agreements to lower the Company's overall
borrowing costs. The Company sold one during 2003 and began 2005 with an active
swap agreement with a total notional value of $125 million and maturity terms
which matched the Company's Senior Guaranteed Notes. This swap was sold during
the first quarter of 2005. At December 31, 2005 and 2004 respectively, long-term
debt includes a net unamortized premium income of $1.8 million and $5.1 million
related to the sales.
Scheduled maturities of long-term debt for each of the five years subsequent to
December 31, 2005, based upon the refinancing on February 6, 2006, are as
follows:
(in millions)
2006......... $ 14.2
2007......... 23.0
2008 ........ 1.1
2009 ........ 1.0
2010......... 1.0
Thereafter... 256.0
------
$296.3
======
Interest paid was $35.9 million in 2005, $25.6 million in 2004, and $15.3
million in 2003.
64
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
NOTE 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. 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 May 2003, the
Company concluded a Consent Decree with the EPA concerning the performance of
remedial design and remedial action for Phase I, deferring for an unspecified
period any action regarding Phase II.
In March 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 has 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.
As the Liability Transfer Agreement was executed prior to the signing of the
original Consent Decree for the Phase I work, the original Consent Decree was
amended in the fourth quarter of 2005 to include PRS as a signing party. This
assigns PRS full responsibility for complying with the terms of the Consent
Decree and allows the EPA to enforce the Consent Decree directly with PRS. Prior
to the execution of this amendment, U.S. GAAP required 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. With the subsequent amendment, the Company has removed the
asset and $39.2 million of the liability from 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.
With respect to other environmental matters, the Company has been voluntarily
participating in a cooperative effort to investigate and cleanup PCB
contamination in the watershed of the south branch of the Manitowoc River, at
and downstream from the Company's New Holstein, Wisconsin facility. On December
29, 2004, the Company and TRC Companies and TRC Environmental Corporation
65
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
(collectively, "TRC") entered into a Consent Order with the Wisconsin Department
of Natural Resources (the "WDNR") relating to this effort known as the Hayton
Area Remediation Project ("HARP"). The Consent Order provides a framework for
the completion of the remediation and regulatory closure at HARP.
Concurrently, on December 29, 2004, 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. TRC's obligations under the Agreement
include any ongoing monitoring or maintenance requirements and certain off-site
mitigation or remediation, if required. TRC will also manage any third-party
remediation claims that might arise or otherwise be filed against the Company.
As required by the Agreement, the Company also purchased a Pollution Legal
Liability Select Cleanup Cost Cap Policy (the "Policy") from American
International Specialty Lines Company. The term of the Policy is 20 years with
an aggregate combined policy limit of $41 million. The policy lists the Company
and TRC as named insureds and includes a number of first and third party
coverages for remediation costs and bodily injury and property damage claims
associated with the HARP remediation and contamination. 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. The total cost of the exit
strategy insured remediation arrangement to Tecumseh was $16.4 million. This
amount included $350,000 that was paid to the WDNR pursuant to the Consent Order
to settle any alleged liabilities associated with natural resource damages. The
charge represented the cost of the agreements less what was previously provided
for cleanup costs to which the Company had voluntarily agreed.
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 December 31, 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.
In addition to the above-mentioned sites, 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 December 31, 2005 and 2004, the Company had
accrued $3.5 million and $43.3 million, respectively, for environmental
remediation, including $0.5 million and $39.7 million relating to the Sheboygan
River and Harbor Superfund Site with a corresponding asset of $39.2 million at
December 31, 2004. 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,
66
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
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.
NOTE 11. 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.
A 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. While the
Company believes it has meritorious defenses and intends to assert them
vigorously, there can be no assurance that the Company will prevail. The Company
also may pursue settlement discussions. It is not possible to reasonably
estimate the amount of the Company's ultimate liability, if any, or the amount
of any future settlement, but the amount could be material to the Company's
financial position, consolidated results of operations and cash flows.
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, incidental to its business. Although their ultimate outcome cannot be
predicted with certainty, and some may be disposed of unfavorably to the
Company, management does not believe that the disposition of these other matters
will have a material adverse effect on the consolidated financial position or
results of operations of the Company.
NOTE 12. FINANCIAL INSTRUMENTS
The following table presents the carrying amounts and the estimated fair values
of financial instruments at December 31, 2005 and 2004:
2005 2004
----------------- -----------------
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
-------- ------ -------- ------
(in millions)
Cash and cash equivalents.... $116.6 $116.6 $227.9 $227.9
Short-term borrowings........ 82.5 82.5 68.8 68.8
Long-term debt............... 283.0 283.0 317.3 316.4
Foreign currency contracts... 13.0 13.0 1.3 1.3
Commodity contracts.......... -- 25.1 -- 2.3
The carrying amount of cash equivalents approximates fair value due to their
liquidity and short-term maturities. The fair value of the Company's fixed
interest rate debt reflects the difference between the contract rate and the
prevailing rates as of the balance sheet date. The carrying value of the
Company's variable interest rate debt approximates fair value. The fair values
of foreign currency and commodity contracts reflect the differences between the
contract prices and the forward prices available on the balance sheet date.
67
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The Company does not utilize financial instruments for trading or other
speculative purposes. The Company generally does not hedge the net investment in
its subsidiaries. All derivative financial instruments held at December 31, 2005
will mature within twelve months. All such instruments held at December 31, 2004
matured in 2005.
The Company's derivative financial instruments consist of foreign currency
forward exchange contracts. These contracts are recognized on the balance sheet
at their fair value, which is the estimated amount at which they could be
settled based on forward market exchange rates. The Company's foreign
subsidiaries use forward exchange contracts to hedge foreign currency
receivables, payables, and other known and forecasted transactional exposures
for periods consistent with the expected cash flow of the underlying
transactions. The contracts generally mature within one year and are designed to
limit exposure to exchange rate fluctuations. On the date a forward exchange
contract is entered into, it is designated as a foreign currency cash flow
hedge. Subsequent changes in the fair value of the contract that is highly
effective and qualifies as a foreign currency cash flow hedge are recorded in
other comprehensive income. The Company's European subsidiaries had contracts
for the sale of $14.0 million and $16.0 million at December 31, 2005 and 2004,
respectively. The Brazilian subsidiaries had contracts for the sale of $159.0
million and $37.4 at December 31, 2005 and 2004, respectively.
The Company formally documents all relationships between hedging instruments and
hedged items, as well as its risk management objective and strategy for
undertaking various hedge transactions. This process includes linking all
derivatives that are designated as foreign currency hedges to specific
forecasted transactions. The Company formally assesses, both at the hedge's
inception and on an ongoing basis, whether the derivatives that are used in
hedging transactions are highly effective in offsetting changes in cash flows of
hedged items. When it is determined that a derivative is not highly effective as
a hedge or that it has ceased to be a highly effective hedge, the Company
discontinues hedge accounting prospectively, as discussed below.
The Company discontinues hedge accounting prospectively when the derivative is
(1) determined to be no longer effective in offsetting the fair value of the
cash flows of a hedged item; (2) sold, terminated, or exercised; (3)
undesignated as a hedge instrument, because it is unlikely that a forecasted
transaction will occur. When hedge accounting is discontinued, the derivative
will be carried at its fair value on the balance sheet, with changes in its fair
value recognized in current period earnings. Any related gains or losses that
were accumulated in other comprehensive income will be recognized immediately in
cost of sales.
The Company uses commodity forward purchasing contracts to help control the cost
of commodities (copper and aluminum) used in the production of compressor motors
and components and engines. Company policy allows local managers to contract
commodity forwards for a limited percentage of raw material requirements up to
one year in advance. These contracts are not recorded in the balance sheet as
they do not require an initial cash outlay and do not represent a liability
until delivery of the commodity. Commodity forwards outstanding at December 31,
2005 and 2004 were $61.8 million and $23.7 million, respectively.
A portion of accounts receivable at the Company's Brazilian subsidiary are sold
with recourse at a discount. Sold Brazilian receivable balances at December 31,
2005 and 2004 were $32.1 million and $101.0 million, respectively, and the
discount rate was 8.56% in 2005 and 7.3% in 2004. The Company estimates the fair
value of the contingent liability related to these receivables to be $0.7
million, which is included in operating income and allowance for doubtful
accounts.
68
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
NOTE 13. GUARANTEES AND WARRANTIES
A provision for estimated future warranty costs is recorded when products are
sold and revenue recognized. Changes in the Company's product warranty liability
are as follows:
(in millions)
Balance at January 1, 2004............... $ 34.0
Accruals for warranties.................. 19.7
Settlements of warranty claims........... (16.7)
Effect of foreign currency translation... 1.1
------
Balance at December 31, 2004............. $ 38.1
Accruals for warranties.................. 19.7
Settlements of warranty claims........... (25.4)
Closure of Tecumseh Europa............... (2.5)
Effect of foreign currency translation... (0.5)
------
Balance at December 31, 2005............. $ 29.4
======
NOTE 14. STOCKHOLDERS' EQUITY
The shares of Class A common stock and Class B common stock are substantially
identical except as to voting rights. Class A common stock has no voting rights
except the right to i) vote on any amendments that could adversely affect the
Class A Protection Provision in the articles of incorporation and ii) vote in
other limited circumstances, primarily involving mergers and acquisitions, as
required by law.
A Shareholders' Rights Plan is in effect for each class of stock. These plans
protect shareholders against unsolicited attempts to acquire control of the
Company that do not offer an adequate price to all shareholders. The rights are
not currently exercisable, but would become exercisable at an exercise price of
$180 per share, subject to adjustment, if certain events occurred relating to a
person or group acquiring or attempting to acquire 10% or more of the
outstanding shares of Class B common stock. The rights have no voting or
dividend privileges and are attached to, and do not trade separately from, the
Class A and Class B common stock. The rights expire on August 25, 2009. As of
December 31, 2005, 13,401,938 shares of Class A common stock and 5,077,746
shares of Class B common stock were reserved for future exercise under the
plans.
NOTE 15. IMPAIRMENTS, RESTRUCTURING CHARGES, AND OTHER ITEMS
2005
2005 results were adversely impacted by a total of $121.0 million ($6.55 per
share) of restructuring, impairment and other charges. Charges include goodwill
and other intangible impairments as projected cash flows in several businesses
did not support these carrying values. The Company also initiated actions to
further reduce our manufacturing footprint including closure of the Italian
Engine and Power Train manufacturing facility and a North American Engine and
Power Train manufacturing facility and took steps to complete several actions
previously announced in other businesses.
The Company recorded 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). The failure to achieve the business plan,
coupled with expected market conditions, caused us to perform a mid-year
assessment of the assumptions utilized to determine FASCO's estimated fair value
in the impairment assessment performed at December 31, 2004. The deterioration
of volumes and our
69
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
inability to recover higher commodity and transportation costs through price
increases resulted in revised expected cash flows for FASCO. Based on the
revised estimates of cash flow, FASCO's estimated fair value has deteriorated
from the previous assessment and, as a result, a goodwill impairment of $108.0
million was recognized.
During our annual fourth quarter assessment, the expected cash flows were lower
than had previously been estimated resulting in goodwill impairment of $2.7
million related to the 2001 acquisition of the Engine & Power Train's Czech
Republic operations and a $2.7 million impairment charge related to the
intangible assets associated with the 2001 acquisition of Manufacturing Data
Systems, Inc., a technology business not associated with any of the Company's
four main segments, both representing the entire carrying value recorded. The
issues with the Czech Republic operation are indicative what we are experiencing
throughout the Engine and Power Train segment, but reflects decisions made in
the fourth quarter regarding as to where certain products will be produced in
future years and uncertainty as to our ability to bring costs down enough to
meet previous cash flow forecasts. The decreased expectations related to MDSI
reflect the fact that the operation has failed to meet key development targets
and been recently unsuccessful in developing a market for certain products
introduced in 2005.
In addition to these impairments, we incurred $7.6 million in asset impairment
and restructuring charges during the fiscal year ended December 31, 2005. The
Italian Engine & Power Train operations recorded $1.4 million of termination
costs during the third quarter related to previously announced intent to reduce
its workforce by 115 persons. The Company then recorded a $3.0 million write
down of the net investment in this operation upon the closure of this operation
at the end of December reflecting our entire remaining carrying value.
The remaining charges include $0.9 million recorded by the North American
Compressor operations related to additional moving costs for previously
announced actions and $1.6 million, $0.5 million and $0.2 million of asset
impairment charges at Electrical Components, North American Compressor and
Engine & Power Train, respectively, for manufacturing equipment idled through
facility consolidations and the reduction of carrying value of closed plants to
fair value.
2004
2004 results were adversely impacted by a total of $21.5 million ($14.0 million
net of tax or $0.77 per share) of restructuring, impairment and other charges.
During the second quarter, the Company began consolidation actions affecting
several of the Company's facilities in its North American Compressor and
Electrical Components businesses.
Actions within the Compressor business included moving compressor machining and
assembly operations from the Company's Tecumseh, Michigan facility to its
existing compressor facility located in Tupelo, Mississippi. In conjunction,
aftermarket distribution operations located in Clinton, Michigan were relocated
to the Tecumseh, Michigan facility. The facility consolidation was necessitated
by the relocation of significant customer-base to overseas locations, which left
the Company's North American Compressor operations with excess compressor
manufacturing capacity.
Approximately 300 layoffs were involved at the Tecumseh and Clinton facilities
while employment increases in Tupelo were approximately one-half of those lost
in Tecumseh. Charges related to the Compressor group actions for 2004 totaled
$3.0 million, including $2.4 million in asset impairment
70
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
charges and $0.6 million in equipment relocation costs. These actions were
substantially complete as of December 31, 2004. Annual savings are expected to
be approximately $6.3 million.
Actions in the Electrical Components business included the closure of the
Company's manufacturing facility in St. Clair, Missouri with gear machining
operations being consolidated into the Company's Salem, Indiana facility and
motor assembly operations being consolidated into the Company's Piedras Negras
and Juarez, Mexico facilities. While approximately 250 employees will be
affected by the shutdown at the St. Clair facility, this action will result in a
net reduction of approximately 20 employees. Charges related to the Electrical
Components group actions for 2004 totaled $4.5 million, including $2.7 million
in asset impairment charges, $0.8 million of equipment relocation costs and $1.0
million in accrued employee related severance costs. Additional restructuring
and impairment charges, estimated to be approximately $150,000 to $200,000 will
be recognized during the first quarter of 2005 as the plant closure and
consolidation action is completed. Accrued severance costs are expected to be
paid in the first quarter of 2005. Annual savings are expected to be
approximately $2.2 million.
During the third and fourth quarters of 2004, the Company executed a program to
reduce employment levels at one of the Company's Indian compressor facilities.
The action affected approximately 100 employees at a cost of $1.2 million. All
of these costs were paid in 2004. Annual savings are expected to be
approximately $0.5 million.
During the fourth quarter, the Company recognized a charge of $14.6 million
related to environmental costs involving the Engine & Power Train Group's New
Holstein, Wisconsin facility (see Note 10).
2004 results also reflected a fourth quarter curtailment gain of $1.8 million
associated with the cessation of medical benefits to hourly employees who were
affected by the closing in 2003 of the Engine & Power Train Group's facility in
Sheboygan Falls, Wisconsin.
2003
2003 results were adversely impacted by a total of $69.3 million ($55.0 million
net of tax or $2.98 per share) of restructuring, impairment and other charges.
During the first quarter, the Company recognized a charge of $13.6 million
related to environmental costs at the Company's Sheboygan Falls, Wisconsin
facility (see Note 10).
During the second quarter of 2003, the Company announced restructuring actions
involving the Engine & Power Train business. These actions included the closure
of the Company's Douglas, Georgia and Sheboygan Falls, Wisconsin production
facilities and the relocation of certain production to the new Curitiba, Brazil
facility and other existing U.S. locations. As a result of these actions, the
Company incurred both charges and gains, which were recognized over the second,
third and fourth quarters of 2003. As of December 31, 2003, the Company had
recognized $32.0 million in charges and $5.8 million in gains equaling a net
charge of $26.2 million with respect to these restructuring actions. Included in
the charges were approximately $7.5 million in earned severance pay and future
benefit costs relating to manpower reductions, $4.2 million in plant closing and
exit costs incurred through December 31, 2003, and $20.3 million in asset
impairment charges for idled equipment and facilities. The amount of severance
pay and future benefit costs mentioned above included $0.8 million in
curtailment losses related to the pension plan at the Sheboygan Falls,
71
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Wisconsin facility. The gains represented curtailment gains associated with
other post-employment benefits. As of December 31, 2003, substantially all of
the costs of the restructuring had been paid.
During the fourth quarter of 2003, the Company recognized a charge for the
impairment of goodwill associated with the Company's European compressor
operations. The charge, which was determined as part of the Company's annual
evaluation of goodwill as specified by SFAS No. 142, amounts to $29.5 million
before and after taxes (or $1.60 per share). The impairment was primarily the
result of the approximately 17% decline in the value of the U.S. Dollar versus
the Euro. The change in currency value increased the Company's net investment in
the European subsidiary in U.S. Dollar terms and reduced margins on U.S.
Dollar-denominated sales.
NOTE 16. NEW ACCOUNTING STANDARDS
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.
The Financial Accounting Standards Board ("FASB") issued FIN 47, "Accounting for
Conditional Asset Retirement Obligations--an interpretation of FASB Statement
No. 143" This statement clarifies that the term conditional asset retirement
obligation as used in FASB Statement No. 143, Accounting for Asset Retirement
Obligations, refers to a legal obligation to perform an asset retirement
activity in which the timing and (or) method of settlement are conditional on a
future event that may or may not be within the control of the entity.
Accordingly, an entity is required to recognize a liability when incurred for
the fair value of a conditional asset retirement obligation if the fair value of
the liability can be reasonably estimated. The provisions of this statement were
to be applied in fiscal years ending after December 15, 2005. The Company
recorded a liability of less than $0.5 million related to the adoption of this
pronouncement.
72
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
NOTE 17. QUARTERLY FINANCIAL DATA - UNAUDITED
QUARTER
----------------------------------------
FIRST SECOND (A) THIRD FOURTH TOTAL
------- ---------- ------- ------- --------
(in millions, except per share data)
2005
Net sales............................ $ 464.4 $ 461.9 $ 478.5 $ 442.2 $1,847.0
Gross profit......................... 33.8 39.2 47.0 14.1 134.1
Net income (loss).................... (12.4) (122.5) (32.8) (55.8) (223.5)
======= ======= ======= ======= ========
Basic and diluted earnings (loss) per
share............................. ($0.67) ($6.63) ($1.77) ($3.02) ($12.09)
======= ======= ======= ======= ========
2004
Net sales............................ $ 477.0 $ 484.2 $ 478.6 $ 471.9 $1,911.7
Gross profit......................... 55.5 60.2 73.2 38.0 226.9
Net income (loss).................... 6.4 4.6 12.3 (13.2) 10.1
======= ======= ======= ======= ========
Basic and diluted earnings (loss) per
share............................. $ 0.34 $ 0.25 $ 0.67 ($0.71) $ 0.55
======= ======= ======= ======= ========
(a) Second quarter 2004 data has been restated from amounts previously reported
in the Company's Quarterly Report on Form 10-Q to reflect the retroactive
treatment from the adoption of FASB Staff Position No. 106-2, Accounting
and Disclosure Requirements Related to the Medicare Prescription Drug
Improvement and Modernization Act of 2003. Net income increased by $0.6
million in comparison to amounts previously reported.
73
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
There were no reportable disagreements with our accountants on accounting or
financial disclosure.
ITEM 9A. CONTROLS AND PROCEDURES
DISCLOSURE 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 year 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, and
as of December 31, 2005, 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 were not
effective as of December 31, 2005 because of the material weakness discussed
below; however, management believes that the financial statements included in
this report fairly present in all material respects our financial condition,
results of operations and cash flows for the periods presented.
MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Management of the Company is responsible for establishing and maintaining
adequate internal control over financial reporting. The Company's internal
control over financial reporting is a process designed to provide reasonable
assurance regarding the reliability of financial reporting and the preparation
of financial statements for external purposes in accordance with generally
accepted accounting principles.
The management of the Company has assessed the effectiveness of its internal
control over financial reporting as of December 31, 2005. In making its
assessment, management used the criteria described in Internal Control -
Integrated Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO).
A material weakness is a control deficiency, or combination of control
deficiencies, that results in more than a remote likelihood that a material
misstatement of the annual or interim financial statements will not be prevented
or detected. As of December 31, 2005, the Company did not maintain effective
controls 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
74
and other financial statement accounts at a number of its locations.
Specifically, the control deficiencies demonstrate 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. While these control deficiencies did not
result in adjustments to the 2005 annual or interim consolidated financial
statements, management has determined that two or more simultaneously occurring
financial statement account misstatements could aggregate to a material
misstatement to annual or interim consolidated financial statements that would
not be prevented or detected and thus constitutes a material weakness.
Because of the material weakness referred to above, management has concluded
that the Company did not maintain effective internal control over financial
reporting as of December 31, 2005, based on criteria in Internal
Control-Integrated Framework issued by the COSO.
Management's assessment of the effectiveness of the Company's internal control
over financial reporting as of December 31, 2005 has been audited by
PricewaterhouseCoopers LLP, an independent registered public accounting firm, as
stated in their report which is included in Item 8 of this report on Form 10-K.
MATERIAL WEAKNESS REMEDIATION PLANS
The Company operates a group of highly decentralized individual business units
ranging in size from $3 million to over $400 million in sales. For the most
part, each business unit uses its own hardware and software to conduct its
operations and process transactions. During 2005, the Company began
implementation of a common, global ERP system that will reduce the number of
data processing centers. The system implementation includes improved controls
over access to financial application programs and data and independent
monitoring of users having unrestricted access to financial application programs
and data, thus providing for improved segregation of duties. While the first
business went live March 1, 2005, the challenges inherent in a system
implementation and cultural transformation of this magnitude caused the Company
to delay the implementations originally scheduled in 2005, including several of
the locations where the new systems were expected to remediate the deficiencies.
Current plans include bringing nine business locations live during 2006 and
completing the remaining sites in 2007.
As not all of the locations for which the Company has identified control
deficiencies will be converted to the new global ERP system during 2006, the
Company will continue to implement 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.
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 will be
completed over the next two years. 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 control into
the new
75
system and will begin testing their application at each location shortly after
their respective go-live dates.
There have been no changes in the Company's internal control over financial
reporting that occurred during the fourth quarter of 2005 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.
ITEM 9B. OTHER INFORMATION
None
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
The information pertaining to directors required by Item 401 of Regulation S-K
will be set forth under the captions "Proposal 1: Election of Directors" and
"Audit Committee" in the Company's definitive Proxy Statement relating to its
2006 Annual Meeting of Shareholders and is incorporated herein by reference.
Information regarding executive officers required by Item 401 of Regulation S-K
is furnished in Part I of this report. The information required to be reported
pursuant to Item 405 of Regulation S-K will be set forth under the caption
"Appendix A - Share Ownership - Section 16(a) Beneficial Ownership Reporting
Compliance" in the Company's definitive Proxy Statement relating to its 2006
Annual Meeting of Shareholders and is incorporated herein by reference.
The Company has adopted a Code of Ethics for Financial Managers, which applies
to the Company's Chief Executive Officer, Chief Financial Officer, Corporate
Controller, and Manager of Financial Reporting, and the controller or principal
accounting manager of each business unit, as well as a Code of Conduct for All
Directors, Officers, and Employees and an Ethics Reporting Policy. Current
copies of both codes and the reporting policy are posted at the Investor
Relations section of the Company's website at www.tecumseh.com.
76
ITEM 11. EXECUTIVE COMPENSATION
The information under the captions "Appendix B - Executive Compensation,"
"Compensation Committee Interlocks and Insider Participation" and "Election of
Directors - Director Compensation" in the Company's definitive Proxy Statement
relating to its 2006 Annual Meeting of Shareholders is incorporated herein by
reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The information under the caption "Appendix A - Share Ownership" in the
Company's definitive Proxy Statement relating to its 2006 Annual Meeting of
Shareholders is incorporated herein by reference. No information is required to
be reported pursuant to Item 201(d) of Regulation S-K.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information under the caption "Compensation Committee Interlocks and Insider
Participation" in the Company's definitive Proxy Statement relating to its 2006
Annual Meeting of Shareholders is incorporated herein by reference.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information under the caption "Appendix D--Audit and Non-Audit Fees" in the
Company's definitive Proxy Statement relating to its 2006 Annual Meeting of
Shareholders is incorporated herein by reference.
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) (1) and (2) Financial Statements
See "Financial Statements"
(3) See Index to Exhibits (See Item 15 (b), below)
(b) Exhibits
EXHIBIT
NO. DESCRIPTION
- ------- -----------
2 Not applicable
3.1 Restated Articles of Incorporation of Tecumseh Products Company
(incorporated by reference to Exhibit (3) to registrant's Annual
Report on Form 10-K for the year ended December 31, 1991, File No.
0-452)
77
3.2 Certificate of Amendment to the Restated Articles of Incorporation of
Tecumseh Products Company (incorporated by reference to Exhibit B-5 to
registrant's Form 8 Amendment No. 1 dated April 22, 1992 to Form 10
Registration Statement dated April 24, 1965, File No. 0-452)
3.3 Certificate of Amendment to the Restated Articles of Incorporation of
Tecumseh Products Company (incorporated by reference to Exhibit (4)(c)
to registrant's Quarterly Report on Form 10-Q for the quarter ended
March 31, 1994, File No. 0-452)
3.4 Amended and Restated Bylaws of Tecumseh Products Company as amended
through February 23, 2005 (incorporated by reference to Exhibit 3.1 to
registrant's Form 8-K, filed February 24, 2005, File No. 0-452)
4.1 First Lien Credit Agreement dated February 6, 2006 by and among
Tecumseh Products Company and certain Lenders and Issuers listed
therein and Citicorp USA, Inc. as Administrative Agent and Collateral
Agent (incorporated by reference to Exhibit 4.1 to registrant's
Current Report on Form 8-K filed February 9, 2006, File No. 0-452)
4.2 Second Lien Credit Agreement dated February 6, 2006 by and among
Tecumseh Products Company and certain Lenders listed therein and
Citicorp USA, Inc. as Administrative Agent and Collateral Agent
(incorporated by reference to Exhibit 4.2 to registrant's Current
Report on Form 8-K filed February 9, 2006, File No. 0-452)
Note: Other instruments defining the rights of holders of long-term
debt are not filed because the total amount authorized thereunder does
not exceed 10% of the total assets of the registrant and its
subsidiaries on a consolidated basis. The registrant hereby agrees to
furnish a copy of any such agreement to the Commission upon request.
9 Not applicable
10.1 Amended and Restated Class B Rights Agreement (incorporated by
reference to Exhibit 4 to Form 8 Amendment No. 1 dated April 22, 1992
to Form 8-A registering Common Stock Purchase Rights dated January 23,
1991, File No. 0-452)
10.2 Amendment No. 1 to Amended and Restated Class B Rights Agreement
(incorporated by reference to Exhibit 4 to Form 8 Amendment No. 2
dated October 2, 1992 to Form 8-A registering Common Stock Purchase
Rights dated January 23, 1991, File No. 0-452)
10.3 Amendment No. 2 to Amended and Restated Class B Rights Agreement
(incorporated by reference to Exhibit 4 to Form 8-A/A Amendment No. 3
dated June 22, 1993 to Form 8-A registering Common Stock Purchase
Rights dated January 23, 1991, File No. 0-452)
78
10.4 Amendment No. 3 to Amended and Restated Class B Rights Agreement
(incorporated by reference to Exhibit 4.2 to registrant's Current
Report on Form 8-K as filed August 26, 1999, File No. 0-452)
10.5 Amendment No. 4 to Amended and Restated Class B Rights Agreement,
dated as of August 22, 2001, between Tecumseh Products Company and
State Street Bank and Trust Company, N.A., as successor Class B Rights
Agent (incorporated by reference to Exhibit 4.4 to Form 8-A/A
Amendment No. 5 dated September 19, 2001 to Form 8-A registering
Common Stock Purchase Rights dated January 23, 1991, File No. 0-452)
10.6 Amendment No. 5 to Amended and Restated Class B Rights Agreement,
dated as of July 15, 2002, between Tecumseh products Company, State
Street Bank and Trust Company, N.A. as the existing agent, and
Equiserve Trust Company, N.A. as successor Class B Rights Agent
(incorporated by reference to Exhibit 10.6 to registrant's Annual
Report on Form 10-K for the year ended December 31, 2002, File No.
0-452)
10.7 Class A Rights Agreement (incorporated by reference to Exhibit 4 to
Form 8-A registering Class A Common Stock Purchase Rights dated April
22, 1992, File No. 0-452)
10.8 Amendment No. 1 to Class A Rights Agreement (incorporated by reference
to Exhibit 4 to Form 8 Amendment No. 1 dated October 2, 1992 to Form
8-A registering Class A Common Stock Purchase Rights dated April 22,
1992, File No. 0-452)
10.9 Amendment No. 2 to Class A Rights Agreement (incorporated by reference
to Exhibit 4 to Form 8-A/A Amendment No. 2 dated June 22, 1993 to Form
8-A registering Class A Common Stock Purchase Rights dated April 22,
1992, File No. 0-452)
10.10 Amendment No. 3 to Class A Rights Agreement (incorporated by reference
to Exhibit 4.1 to registrant's Current Report on Form 8-K filed August
26, 1999, File No. 0-452)
10.11 Amendment No. 4 to Class A Rights Agreement dated as of August 22,
2001, between Tecumseh products Company and State Street Bank and
Trust Company, N.A., as successor Class A Rights Agent (incorporated
by reference to Exhibit 4.4 to Form 8-A/A Amendment No. 4 dated
September 19, 2001 to Form 8-A registering Class A Common Stock
Purchase Rights dated April 22, 1992, File No. 0-452)
10.12 Amendment No. 5 to Class A Rights Agreement, dated as of July 15,
2002, between Tecumseh products Company, State Street Bank and Trust
Company, N.A. as the existing agent, and Equiserve Trust Company, N.A.
as successor Class A Rights Agent (incorporated by reference to
Exhibit 10.12 to registrant's Annual Report on Form 10-K for the year
ended December 31, 2002, File No. 0-452)
79
10.13 Description of Death Benefit Plan (management contract or compensatory
plan or arrangement) (incorporated by reference to Exhibit (10)(f) to
registrant's Annual Report on Form 10-K for the year ended December
31, 1992, File No. 0-452)
10.14 Management Incentive Plan, as amended through November 22, 1995
(management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit (10)(h) to registrant's Annual
Report on Form 10-K for the year ended December 31, 1995, File No.
0-452)
10.15 Amendment No. 3 to Management Incentive Plan, adopted January 22, 1997
(management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit (10)(i) to registrant's Annual
Report on Form 10-K for the year ended December 31, 1996, File No.
0-452)
10.16 Amendment No. 4 to Management Incentive Plan effective January 1, 2000
(management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit 10.12 to registrant's Annual
Report on Form 10-K for the year ended December 31, 1999, File No.
0-452)
10.17 Amendment No. 5 to Management Incentive Plan effective November 22,
2000 (management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit 10.12 to registrant's Annual
Report on Form 10-K for the year ended December 31, 2000, File No.
0-452)
10.18 Amended and Restated Supplemental Executive Retirement Plan effective
June 27, 2001 (management contract or compensatory plan or
arrangement) (incorporated by reference to Exhibit 10.16 to
registrant's Annual Report on Form 10-K for the year ended December
31, 2001, File No. 0-452)
10.19 Amendment No. 1 to the Supplemental Executive Retirement Plan adopted
September 26, 2001 (management contract or compensatory plan or
arrangement) (incorporated by reference to Exhibit 10.17 to
registrant's Annual Report on Form 10-K for the year ended December
31, 2001, File No. 0-452)
10.20 Outside Directors' Voluntary Deferred Compensation Plan adopted
November 25, 1998 (management contract or compensatory plan or
arrangement) (incorporated by reference to Exhibit (10)(k) to
registrant's Annual Report on Form 10-K for the year ended December
31, 1998, File No. 0-452)
10.21 Amendment No. 1 to Outside Directors' Voluntary Deferred Compensation
Plan adopted August 28, 2002 (management contract or compensatory plan
or arrangement) (incorporated by reference to Exhibit 10.21 to
registrant's Annual Report on Form 10-K for the year ended December
31, 2002, File No. 0-452)
10.22 Amended and Restated Voluntary Deferred Compensation Plan effective
November 28, 2001 (management contract or compensatory plan or
arrangement) (incorporated by reference to Exhibit 10.19 to
registrant's Annual Report on Form 10-K for the year ended December
31, 2001, File No. 0-452)
80
10.23 Amendment No. 1 to Amended and Restated Voluntary Deferred
Compensation Plan adopted September 25, 2002 (management contract or
compensatory plan or arrangement) (incorporated by reference to
Exhibit 10.23 to registrant's Annual Report on Form 10-K for the year
ended December 31, 2002, File No. 0-452)
10.24 Director Retention Phantom Stock Plan as amended and restated November
27, 2002 (management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit 10.25 to registrant's Annual
Report on Form 10-K for the year ended December 31, 2002, File No.
0-452)
10.25 Liability Transfer and Assumption Agreement for Sheboygan River and
Harbor Superfund Site dated March 25, 2003, by and between Tecumseh
Products Company and Pollution Risk Services, LLC (incorporated by
reference to Exhibit 10.1 to registrant's Current Report on Form 8-K
filed April 9, 2003, File No. 0-452)
10.26 Consent Order entered into on December 9, 2004 with Wisconsin
Department of Natural Resources and TRC Companies, Inc. (incorporated
by reference to Exhibit 10.26 to registrant's Annual Report on Form
10-K for the year ended December 31, 2004, File No. 0-452)
10.27 Exit Strategy Agreement dated December 29, 2004 with TRC Companies,
Inc. (incorporated by reference to Exhibit 10.27 to registrant's
Annual Report on Form 10-K for the year ended December 31, 2004, File
No. 0-452)
10.28 Letter Agreement with AlixPartners, LLC dated July 20, 2005
(incorporated by reference to Exhibit 10.1 to registrant's Form 8-K
filed July 21, 2005, File No. 0-452)
10.29 Letter Agreement with AP Services, LLC dated July 20, 2005
(incorporated by reference to Exhibit 10.2 to registrant's Form 8-K
filed July 21, 2005, File No. 0-452)
10.30 Employment letter to Eric L. Stolzenberg dated November 16, 2005
(management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit 10.1 to registrant's Form 8-K
filed January 9, 2006, File No. 0-452)
10.31 2006 executive officer salaries (management contract or compensatory
plan or arrangement) (incorporated by reference to Exhibit 10.2 to
registrant's Form 8-K filed January 9, 2006, File No. 0-452)
10.32 Form of Tecumseh Products Company Change in Control Agreement
(management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit 10.1 to registrant's Form 8-K
filed January 10, 2006, File No. 0-452)
10.33 List of executive officers with Change in Control Agreements
(management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit 10.2 to registrant's Form 8-K
filed January 10, 2006, File No. 0-452)
11 Not applicable
81
12 Not applicable
13 Not applicable
14 Not applicable
16 Not applicable
18 Not applicable
21* Subsidiaries of the Company
22 Not applicable
23 Not applicable
24* Power of Attorney
31.1* Certification of Chairman, President and Chief Executive Officer
pursuant to Rule 13a-14(a).
31.2* Certification of Chief Financial Officer pursuant to Rule 13a-14(a).
32.1* Certification of Chairman, President and Chief Executive Officer
pursuant to Rule 13a-14(b) and Section 1350 of Chapter 63 of Title 18
of the United States Code.
32.2* Certification of Chief Financial Officer pursuant to Rule 13a-14(b)
and Section 1350 of Chapter 63 of Title 18 of the United States Code.
33. Not applicable
34 Not applicable
35 Not applicable
99 Not applicable
100 Not applicable
- ----------
* Filed herewith
(c) Financial Statement Schedules
None.
82
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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
Date: March 14, 2006 By /s/ Todd W. Herrick
-------------------------------------
Todd W. Herrick
Chairman of the Board of Directors,
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.
SIGNATURE OFFICE DATE OF SIGNING
--------- ------ ---------------
/s/ TODD W. HERRICK Chairman of the Board of Directors, March 14, 2006
- ----------------------------------- President, Chief Executive Officer
Todd W. Herrick (Principal Executive Officer)
/s/ JAMES S. NICHOLSON
- ----------------------------------- Vice President, Treasurer and March 14, 2006
James S. Nicholson Chief Financial Officer
(Principal Accounting and Principal
Financial Officer)
* Director March 14, 2006
- -----------------------------------
Peter M. Banks
* Director March 14, 2006
- -----------------------------------
Jon E. Barfield
* Director March 14, 2006
- -----------------------------------
Virginia A. Kamsky
* Director March 14, 2006
- -----------------------------------
Albert A. Koch
* Director March 14, 2006
- -----------------------------------
David M. Risley
*By: /s/ JAMES S. NICHOLSON
------------------------------
James S. Nicholson
Attorney-in-Fact
83
EXHIBIT INDEX
EXHIBIT
NO. DESCRIPTION
- ------- -----------
2 Not applicable
3.1 Restated Articles of Incorporation of Tecumseh Products Company
(incorporated by reference to Exhibit (3) to registrant's Annual
Report on Form 10-K for the year ended December 31, 1991, File No.
0-452)
3.2 Certificate of Amendment to the Restated Articles of Incorporation of
Tecumseh Products Company (incorporated by reference to Exhibit B-5
to registrant's Form 8 Amendment No. 1 dated April 22, 1992 to Form
10 Registration Statement dated April 24, 1965, File No. 0-452)
3.3 Certificate of Amendment to the Restated Articles of Incorporation of
Tecumseh Products Company (incorporated by reference to Exhibit
(4)(c) to registrant's Quarterly Report on Form 10-Q for the quarter
ended March 31, 1994, File No. 0-452)
3.4 Amended and Restated Bylaws of Tecumseh Products Company as amended
through February 23, 2005 (incorporated by reference to Exhibit 3.1
to registrant's Form 8-K, filed February 24, 2005, File No. 0-452)
4.1 First Lien Credit Agreement dated February 6, 2006 by and among
Tecumseh Products Company and certain Lenders and Issuers listed
therein and Citicorp USA, Inc. as Administrative Agent and
Collateral Agent (incorporated by reference to Exhibit 4.1 to
registrant's Current Report on Form 8-K filed February 9, 2006, File
No. 0-452)
4.2 Second Lien Credit Agreement dated February 6, 2006 by and among
Tecumseh Products Company and certain Lenders listed therein and
Citicorp USA, Inc. as Administrative Agent and Collateral Agent
(incorporated by reference to Exhibit 4.2 to registrant's Current
Report on Form 8-K filed February 9, 2006, File No. 0-452)
Note: Other instruments defining the rights of holders of long-term
debt are not filed because the total amount authorized thereunder
does not exceed 10% of the total assets of the registrant and
its subsidiaries on a consolidated basis. The registrant hereby
agrees to furnish a copy of any such agreement to the Commission upon
request.
9 Not applicable
10.1 Amended and Restated Class B Rights Agreement (incorporated
by reference to Exhibit 4 to Form 8 Amendment No. 1 dated April 22,
1992 to Form 8-A registering Common Stock Purchase Rights dated
January 23, 1991, File No. 0-452)
10.2 Amendment No. 1 to Amended and Restated Class B Rights Agreement
(incorporated by reference to Exhibit 4 to Form 8 Amendment No. 2
dated October 2, 1992 to Form 8-A registering Common Stock Purchase
Rights dated January 23, 1991, File No. 0-452)
10.3 Amendment No. 2 to Amended and Restated Class B Rights Agreement
(incorporated by reference to Exhibit 4 to Form 8-A/A Amendment No.
3 dated June 22, 1993 to Form 8-A registering Common Stock
Purchase Rights dated January 23, 1991, File No. 0-452)
10.4 Amendment No. 3 to Amended and Restated Class B Rights Agreement
(incorporated by reference to Exhibit 4.2 to registrant's Current
Report on Form 8-K as filed August 26, 1999, File No. 0-452)
10.5 Amendment No. 4 to Amended and Restated Class B Rights Agreement,
dated as of August 22, 2001, between Tecumseh Products Company and
State Street Bank and Trust Company, N.A., as successor Class B
Rights Agent (incorporated by reference to Exhibit 4.4 to Form 8-A/A
Amendment No. 5 dated September 19, 2001 to Form 8-A registering
Common Stock Purchase Rights dated January 23, 1991, File No. 0-452)
10.6 Amendment No. 5 to Amended and Restated Class B Rights Agreement,
dated as of July 15, 2002, between Tecumseh products Company, State
Street Bank and Trust Company, N.A. as the existing agent, and
Equiserve Trust Company, N.A. as successor Class B Rights Agent
(incorporated by reference to Exhibit 10.6 to registrant's
Annual Report on Form 10-K for the year ended December 31, 2002,
File No. 0-452)
10.7 Class A Rights Agreement (incorporated by reference to Exhibit 4 to
Form 8-A registering Class A Common Stock Purchase Rights dated April
22, 1992, File No. 0-452)
10.8 Amendment No. 1 to Class A Rights Agreement (incorporated by
reference to Exhibit 4 to Form 8 Amendment No. 1 dated October 2,
1992 to Form 8-A registering Class A Common Stock Purchase Rights
dated April 22, 1992, File No. 0-452)
10.9 Amendment No. 2 to Class A Rights Agreement (incorporated by
reference to Exhibit 4 to Form 8-A/A Amendment No. 2 dated June 22,
1993 to Form 8-A registering Class A Common Stock Purchase Rights
dated April 22, 1992, File No. 0-452)
10.10 Amendment No. 3 to Class A Rights Agreement (incorporated by
reference to Exhibit 4.1 to registrant's Current Report on Form 8-K
filed August 26, 1999, File No. 0-452)
10.11 Amendment No. 4 to Class A Rights Agreement dated as of August 22,
2001, between Tecumseh products Company and State Street Bank and
Trust Company, N.A., as successor Class A Rights Agent
(incorporated by reference to Exhibit 4.4 to Form 8-A/A Amendment
No. 4 dated September 19, 2001 to Form 8-A registering Class A
Common Stock Purchase Rights dated April 22, 1992, File No. 0-452)
10.12 Amendment No. 5 to Class A Rights Agreement, dated as of July 15,
2002, between Tecumseh products Company, State Street Bank and
Trust Company, N.A. as the existing agent, and Equiserve Trust
Company, N.A. as successor Class A Rights Agent (incorporated by
reference to Exhibit 10.12 to registrant's Annual Report on Form
10-K for the year ended December 31, 2002, File No. 0-452)
10.13 Description of Death Benefit Plan (management contract or
compensatory plan or arrangement) (incorporated by reference to
Exhibit (10)(f) to registrant's Annual Report on Form 10-K for the
year ended December 31, 1992, File No. 0-452)
10.14 Management Incentive Plan, as amended through November 22, 1995
(management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit (10)(h) to registrant's Annual
Report on Form 10-K for the year ended December 31, 1995, File No.
0-452)
10.15 Amendment No. 3 to Management Incentive Plan, adopted January 22,
1997 (management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit (10)(i) to registrant's Annual
Report on Form 10-K for the year ended December 31, 1996, File No.
0-452)
10.16 Amendment No. 4 to Management Incentive Plan effective January 1,
2000 (management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit 10.12 to registrant's Annual
Report on Form 10-K for the year ended December 31, 1999, File No.
0-452)
10.17 Amendment No. 5 to Management Incentive Plan effective November 22,
2000 (management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit 10.12 to registrant's
Annual Report on Form 10-K for the year ended December 31, 2000, File
No. 0-452)
10.18 Amended and Restated Supplemental Executive Retirement Plan effective
June 27, 2001 (management contract or compensatory plan or
arrangement) (incorporated by reference to Exhibit 10.16 to
registrant's Annual Report on Form 10-K for the year ended December
31, 2001, File No. 0-452)
10.19 Amendment No. 1 to the Supplemental Executive Retirement Plan
adopted September 26, 2001 (management contract or compensatory plan
or arrangement) (incorporated by reference to Exhibit 10.17 to
registrant's Annual Report on Form 10-K for the year ended December
31, 2001, File No. 0-452)
10.20 Outside Directors' Voluntary Deferred Compensation Plan adopted
November 25, 1998 (management contract or compensatory plan or
arrangement) (incorporated by reference to Exhibit (10)(k) to
registrant's Annual Report on Form 10-K for the year ended December
31, 1998, File No. 0-452)
10.21 Amendment No. 1 to Outside Directors' Voluntary Deferred
Compensation Plan adopted August 28, 2002 (management contract or
compensatory plan or arrangement) (incorporated by reference to
Exhibit 10.21 to registrant's Annual Report on Form 10-K for the
year ended December 31, 2002, File No. 0-452)
10.22 Amended and Restated Voluntary Deferred Compensation Plan
effective November 28, 2001 (management contract or compensatory
plan or arrangement) (incorporated by reference to Exhibit 10.19 to
registrant's Annual Report on Form 10-K for the year ended December
31, 2001, File No. 0-452)
10.23 Amendment No. 1 to Amended and Restated Voluntary Deferred
Compensation Plan adopted September 25, 2002 (management contract or
compensatory plan or arrangement) (incorporated by reference to
Exhibit 10.23 to registrant's Annual Report on Form 10-K for the
year ended December 31, 2002, File No. 0-452)
10.24 Director Retention Phantom Stock Plan as amended and restated
November 27, 2002 (management contract or compensatory plan or
arrangement) (incorporated by reference to Exhibit 10.25 to
registrant's Annual Report on Form 10-K for the year ended December
31, 2002, File No. 0-452)
10.25 Liability Transfer and Assumption Agreement for Sheboygan River and
Harbor Superfund Site dated March 25, 2003, by and between Tecumseh
Products Company and Pollution Risk Services, LLC (incorporated
by reference to Exhibit 10.1 to registrant's Current Report on
Form 8-K filed April 9, 2003, File No. 0-452)
10.26 Consent Order entered into on December 9, 2004 with Wisconsin
Department of Natural Resources and TRC Companies, Inc.
(incorporated by reference to Exhibit 10.26 to registrant's Annual
Report on Form 10-K for the year ended December 31, 2004, File No.
0-452)
10.27 Exit Strategy Agreement dated December 29, 2004 with TRC
Companies, Inc. (incorporated by reference to Exhibit 10.27 to
registrant's Annual Report on Form 10-K for the year ended
December 31, 2004, File No. 0-452)
10.28 Letter Agreement with AlixPartners, LLC dated July 20, 2005
(incorporated by reference to Exhibit 10.1 to registrant's Form 8-K
filed July 21, 2005, File No. 0-452)
10.29 Letter Agreement with AP Services, LLC dated July 20, 2005
(incorporated by reference to Exhibit 10.2 to registrant's Form 8-K
filed July 21, 2005, File No. 0-452)
10.30 Employment letter to Eric L. Stolzenberg dated November 16, 2005
(management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit 10.1 to registrant's Form 8-K
filed January 9, 2006, File No. 0-452)
10.31 2006 executive officer salaries (management contract or
compensatory plan or arrangement) (incorporated by reference to
Exhibit 10.2 to registrant's Form 8-K filed January 9, 2006, File No.
0-452)
10.32 Form of Tecumseh Products Company Change in Control Agreement
(management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit 10.1 to registrant's Form 8-K
filed January 10, 2006, File No. 0-452)
10.33 List of executive officers with Change in Control Agreements
(management contract or compensatory plan or arrangement)
(incorporated by reference to Exhibit 10.2 to registrant's Form 8-K
filed January 10, 2006, File No. 0-452)
11 Not applicable
12 Not applicable
13 Not applicable
14 Not applicable
16 Not applicable
18 Not applicable
21* Subsidiaries of the Company
22 Not applicable
23 Not applicable
24* Power of Attorney
31.1* Certification of Chairman, President and Chief Executive Officer
pursuant to Rule 13a-14(a).
31.2* Certification of Chief Financial Officer pursuant to Rule 13a-14(a).
32.1* Certification of Chairman, President and Chief Executive Officer
pursuant to Rule 13a-14(b) and Section 1350 of Chapter 63 of Title 18
of the United States Code.
32.2* Certification of Chief Financial Officer pursuant to Rule 13a-14(b)
and Section 1350 of Chapter 63 of Title 18 of the United States Code.
33. Not applicable
34 Not applicable
35 Not applicable
99 Not applicable
100 Not applicable
- ----------
* Filed herewith
(c) Financial Statement Schedules
None.