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 fiscal year ended December 31, 2004 Commission File Number 333-19257
KINETEK, INC.
(Exact name of registrant as specified in charter)
Illinois 36-4109641
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
ArborLake Centre, Suite 550 60015
1751 Lake Cook Road (Zip Code)
Deerfield, Illinois
(Address of Principal Executive Offices)
Registrant's telephone number, including Area Code:
(847) 945-5591
Securities registered pursuant to Section 12(b)of the Act:
Name of Each Exchange
Title of Each Class On Which Registered
------------------- -------------------
None N/A
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by checkmark 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 twelve (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 ninety (90) days.
Yes X No
---
Indicate by checkmark whether the Registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2).
Yes No X
---
The aggregate market value of voting stock held by non-affiliates of the
Registrant is not determinable as such shares were privately placed and there
is currently no public market for such shares.
The number of shares outstanding of Registrant's Common Stock as of
March 24, 2005: 10,000.
TABLE OF CONTENTS
Page
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Part I
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Item 1. Business 3
Item 2. Properties 8
Item 3. Legal Proceedings 9
Item 4. Submission of Matters to a Vote of Security Holders 9
Part II
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Item 5. Market for the Registrant's Common Equity and
Related Stockholder Matters 9
Item 6. Selected Financial Data 10
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations 11
Item 7A. Quantitative and Qualitative Disclosures About
Market Risks 17
Item 8. Financial Statements and Supplementary Data 18
Item 9. Changes in and Disagreements with Accountants on
Accounting and
Financial Disclosure 41
Item 9A. Controls and Procedures 41
Part III
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Item 10. Directors and Executive Officers 41
Item 11. Executive Compensation 44
Item 12. Security Ownership of Certain Beneficial Owners
and Management 45
Item 13. Certain Relationships and Related Transactions 46
Item 14. Principal Accountant Fees and Services 48
Part IV
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Item 15. Exhibits, Financial Statement Schedules, and
Reports on Form 8-K 49
Signatures 50
2
Part I
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Item 1. BUSINESS
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The Company
Kinetek, Inc. (the "Company") was incorporated in the State of Illinois on
September 8, 1995 (The Company was incorporated as Motors and Gears, Inc., and
changed its name to Kinetek, Inc. on January 8, 2001). On November 1, 1996,
the Company effected a reincorporation merger whereby MK Group, Inc., an
Illinois corporation, was merged with and into the Company, with the Company
being the surviving entity. The Company is a direct, wholly-owned subsidiary
of Motors and Gears Holdings, Inc., a Delaware corporation ("Parent"). The
Parent is a majority owned subsidiary of Jordan Industries, Inc. ("JII"), a
private holding company which owns and manages a widely diversified group of
operating companies. The Company was organized by JII to acquire and operate
companies in the motors, gears and motion control industries. The Company and
its subsidiaries are included in JII's consolidated financial statements.
The Company's principal executive offices are located at ArborLake
Centre, Suite 550, 1751 Lake Cook Road, Deerfield, Illinois 60015, and its
telephone number is (847)945-5591.
Business
The Company is a manufacturer of specialty purpose electric motors,
gearmotors, gearboxes, gears, transaxles and electronic motion controls for a
wide variety of consumer, commercial and industrial markets. The Company has a
diverse base of customers and its products are used in a broad range of
applications including vending machines, golf carts, lift trucks, industrial
ventilation equipment, and elevators. The Company competes primarily in the
electric motors and electronic motion control systems industries.
Business Segment Information
The Company operates in two separate business segments; electric motors
("motors") and electronic motion control systems ("controls"). See Note 12 to
the Company's consolidated financial statements for financial segment data.
Products
The Company has established itself as a reliable niche manufacturer of
high-quality, economical, custom electric motors, gearmotors, gears and
electronic motion control systems used in a wide variety of applications
including vending machines, refrigerator ice dispensers, commercial
dishwashers, commercial floor care equipment, golf carts, lift trucks, and
elevators. The Company's products are custom designed to meet specific
application requirements. Less than 5% of the Company's products are sold as
stock products.
The Company offers a wide variety of options to provide greater
flexibility in its custom designs. These options include thermal protectors,
special mounting brackets, custom leads and terminals, single or double shaft
extensions, brakes, cooling fans, special heavy gearing, custom shaft
machining and custom software solutions. The Company also provides value-added
assembly work, incorporating some of the above options into its final motor
and control products. All of the custom-tailored motors, gearmotors and
control systems are designed for long life, quiet operation, and superior
performance.
3
Electric Motors
Electric motors are devices that convert electric power into rotating
mechanical energy. The amount of energy delivered is determined by the level
of input power supplied to the electric motor and the size of the motor
itself. An electric motor can be powered by alternating current ("AC") or
direct current ("DC"). AC power is generally supplied by power companies
directly to homes, offices and industrial sites whereas DC power is supplied
either through the use of batteries or by converting AC power to DC power.
Both AC motors and DC motors can be used to power most applications; the
determination is made through the consideration of power source availability,
speed variability requirements, torque considerations, and noise constraints.
The power output of electric motors is measured in horsepower. Motors are
produced in power outputs that range from less than one horsepower up to
thousands of horsepower.
Subfractional Motors. The Company's subfractional horsepower products are
comprised of motors and gearmotors which power applications up to 30 watts
(1/25 horsepower). These small, "fist-size" AC and DC motors are used in light
duty applications such as snack and beverage vending machines, refrigerator
ice dispensers and photocopy machines.
Fractional/Integral Motors. The Company's fractional/integral horsepower
products are comprised of AC and DC motors and gearmotors having power ranges
from 1/8 to 100 horsepower. Primary end markets for these motors include
commercial floor care equipment, commercial dishwashers, commercial sewing
machines, industrial ventilation equipment, golf carts, lift trucks and
elevators.
Gears and Gearboxes. Gears and gearboxes are mechanical components used
to transmit mechanical energy from one source to another source. They are
normally used to change the speed and torque characteristics of a power source
such as an electric motor. Gears and gearboxes come in various configurations
such as helical gears, bevel gears, worm gears, planetary gearboxes, and
right-angle gearboxes. For certain applications, an electric motor and a gear
box are combined to create a gearmotor.
The Company's precision gear and gearbox products are produced in sizes
of up to 16 inches in diameter and in various customized configurations such
as pump, bevel, worm and helical gears. Primary end markets for these products
include original equipment manufacturers ("OEMs") of motors, commercial floor
care equipment, aerospace and food processing product equipment.
Electronic Motion Control Systems
Electronic motion control systems are assemblies of electronic and
electromechanical components that are configured in such a manner that the
systems have the capability to control a range of elevators. The components
utilized in an elevator control system are typically electric motor drives
(electronic controls that vary the speed and torque characteristics of
electric motors), programmable logic controls ("PLCs"), transformers,
capacitors, switches and software to configure and control the system.
4
Acquisitions
See Note 1 to the notes to consolidated financial statements in Item 8
for a description of acquisitions made during the three year period ended
December 31, 2004.
Backlog
The Company's approximate backlog of unfilled orders at the dates
specified was as follows:
Backlog
Year Ended (Dollars in
December 31, thousands)
----------- ----------
2004
----
Motors $43,514
Controls 37,250
--------
$80,764
2003
----
Motors $42,002
Controls 37,884
-------
$79,886
The Company believes it will ship substantially its entire 2004 year-end
backlog during 2005.
Marketing and Support Services
The Company's sales and marketing success is characterized by long-term
customer relationships which are the result of continuity of management,
outstanding delivery records, high-quality products, and competitive pricing.
The Company utilizes a combination of direct sales personnel and
manufacturers' representatives to market the Company's product lines.
Generally, the inside sales organization is compensated through a fixed salary
while the manufacturers' representative organizations receive commission.
National account managers serve large national original equipment
manufacturers/OEM's such as General Electric, Whirlpool and the Raymond
Corporation. More than 95% of the Company's sales are to OEM customers.
However, the Company has a distribution program with three distributors in its
subfractional horsepower product line to increase coverage and generate more
revenue growth.
The Company's motion control systems business is served primarily through
internal sales and marketing professionals as well as independent
representatives. The Company continues to add sales talent to this product
group in order to expand its presence into additional motion control markets.
The Company's advertising efforts consist of specific product literature
which is printed and provided to customers as applications are developed. In
addition, the Company attends various trade shows to market products and to
stay abreast of industry trends. It also advertises in trade magazines on a
periodic basis.
5
International Operations
The Company currently operates seven manufacturing, research and
development, distribution and warehousing facilities in Europe and one
manufacturing facility in Mexico. In addition, the Company has an 80%
ownership interest in a Chinese joint venture that was formed in April 2002.
For financial information about geographic area, see Note 13 to the Company's
consolidated financial statements.
Employee and Labor Relations
As of December 31, 2004, the Company employed 2,631 employees, of which
1,447 were non-union and 1,184 were represented by unions. The Company has
experienced no work stoppages since inception. It considers its relations with
its employees to be good.
Competition
The electric motor and electronic motion control systems markets are
highly fragmented with a multitude of manufacturing companies servicing
numerous markets. Motor manufacturers range from small local producers serving
a specific application or end user, to high volume manufacturers offering
general-purpose "off the shelf" motors to a wide variety of end users. While
there are numerous manufacturers of gears and gearboxes that service a wide
variety of industries and applications, the Company competes in certain niche
markets.
The Company's motion control systems business competes primarily within
the automated conveyor system controls market and sells to conveyor
manufacturers that serve the automotive manufacturing industry and the
elevator modernization market. These niche markets consist of four to five
major competitors.
The principal competitive factors in the electric motor and electronic
motion control systems markets include price, quality and service.
Major manufacturers include General Electric, Baldor Electric Company, Emerson
Electric Company and Reliance Electric Company; however, the Company generally
competes with smaller, specialized manufacturers. Many of the major motor
manufacturers have substantially greater assets and financial resources than
the Company does.
Raw Materials and Suppliers
The primary raw materials used by the Company to produce its products are
steel, copper, and miscellaneous purchased parts such as endshield castings,
powdered metal gears, commutators, electronic components and packaging
supplies. All materials are readily available in the marketplace. The Company
is not dependent upon any single supplier in its operations for any materials
essential to its business or not otherwise commercially available to the
Company. The Company has been able to obtain an adequate supply of raw
materials, and no shortage of raw materials is currently anticipated.
Surcharges and/or raw material price escalation clauses are often used to
insulate the Company from fluctuations in prices.
6
Intellectual Property
The Company's patents and trademarks taken individually, and as a whole,
are not critical to the ongoing success of its business. The proprietary
nature of the Company's products is attributable to the custom application
designs for particular customers' needs rather than attributable to
proprietary patented or licensed technology.
Environmental Regulation
The Company is subject to a variety of U.S. Federal, state, provincial,
local and foreign governmental regulations related to the storage, use,
emission, discharge and disposal of toxic, volatile or otherwise hazardous
materials used in its manufacturing processes. Moreover, the Company
anticipates that such laws and regulations will become increasingly stringent
in the future. Because of our efforts to monitor and maintain compliance and
track changes in the laws and regulations, the Company does not currently
anticipate any material adverse effect on its business, financial condition or
results of operations as a result of compliance with U.S. Federal, state,
provincial, local or foreign environmental laws or regulations or remediation
costs. However, some risk of environmental liability and other costs is
inherent in the nature of the Company's business. For example, pursuant to the
Comprehensive Environmental Response, Compensation and Liability Act of 1980,
as amended, the Company could be responsible for the necessary costs of
responding to any current, or previously undiscovered, releases of hazardous
substances at our facilities or from those to which we send wastes. In
addition, any failure by the Company to obtain and maintain permits that may
be required for manufacturing operations could subject the Company to
suspension of its operations. Such liability or suspension of manufacturing
operations could have a material adverse effect on the Company's results of
operations and financial condition.
Soils and groundwater contaminated by historic waste handling practices
at the FIR property in Casalmaggiore, Italy is the subject of an investigation
and remediation under the review of government authorities. In connection with
the FIR Acquisition, the Company obtained indemnification from the former
owners for this investigation and remediation.
7
Item 2. PROPERTIES
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The Company's headquarters are located in an approximately 37,400 square
foot office space in Deerfield, Illinois that is provided by JII and for which
we are allocated certain charges. (See Item 13 "Certain Relationships and
Related Transactions").
The principal properties of the Company, the location, the primary use,
the square feet and the ownership status thereof as of December 31, 2004, are
set forth in the table below:
Square Owned/ Lease
Location Use Feet Leased Expiration
Des Plaines, IL Design/ 38,000 Leased March 2007
Administration
Darlington, WI Manufacturing 68,000 Leased September 2005
Richland Center, WI Manufacturing 45,000 Leased September 2006
Des Plaines, IL Administration/ 52,000 Leased December 2008
Manufacturing
San Luis Potosi, Mexico Manufacturing 46,000 Leased December 2009
Shunde, Guangdong, PRC Manufacturing/ 926,000 Owned
Administration
Akron, OH Manufacturing 106,000 Leased August 2005
Middleport, OH Manufacturing 85,000 Owned
Alamagordo, NM Manufacturing 40,200 Leased February 2005
Grand Rapids, MI Manufacturing/ 45,000 Owned
Administration
Perry, OH Research & 5,000 Leased September 2005
Development
Solon, OH Manufacturing/ 66,500 Leased November 2008
Administration
Casalmaggiore, Administration/ 100,000 Owned
Italy Manufacturing
Varano, Italy Manufacturing 30,000 Owned
Bedonia, Italy Manufacturing 8,000 Leased March 2005
Genova, Italy Research & 33,000 Leased July 2008
Development/
Manufacturing
Reggio Emilia, Italy Manufacturing/ 30,000 Leased June 2011
Distribution
Syracuse, NY Manufacturing 18,500 Leased January 2008
Eternoz, France Manufacturing/ 19,000 Leased December 2011
Administration
Syracuse, NY Manufacturing/ 49,600 Owned
Administration
Putzbrunn, Germany Warehouse 1,200 Leased July 2005
Troy, MI Manufacturing/ 33,000 Leased November 2005
Administration
Rancho Cordova, CA Manufacturing/ 108,300 Leased March 2011
Administration
Glendale, NY Manufacturing/ 11,200 Leased March 2005
Administration
New York, NY Sales 600 Leased May 2005
The Company believes that its existing leased facilities are adequate for
the operations of the Company and its subsidiaries. The Company does not
believe that any single leased facility is material to its operations and
that, if necessary, it could readily obtain a replacement facility.
8
Item 3. LEGAL PROCEEDINGS
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The Company is not a party to any pending legal proceeding the resolution
of which, the management of the Company believes, would have a material
adverse effect on the Company's results of operations or financial condition,
nor to any other pending legal proceedings other than ordinary, routine
litigation incidental to its business.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
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No matters were submitted to a vote of security holders during the fiscal
year ended December 31, 2004.
PART II
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Item 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
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The only authorized, issued and outstanding class of capital stock of the
Company is common stock. There is no established public trading market for the
Company's common stock. At December 31, 2004, the Parent held all common stock
of the Company.
The Company has not declared or paid any cash dividends on its common
stock since the Company's formation in September 1995. The Indentures with
respect to the 10 3/4% Senior Notes due 2006, the 5% Senior Secured Notes due
2007, and the 10% Senior Secured Notes due 2007 contain restrictions on the
Company's ability to declare or pay dividends on its common stock. The
Indentures also prohibit the declaration or payment of any dividends or the
making of any distribution by the Company or any Restricted Subsidiary (as
defined in the Indentures).
9
Item 6. SELECTED FINANCIAL DATA
-----------------------
The following table presents selected financial information derived from
the Company's financial statements. Such amounts have been restated to reflect
ED&C as a discontinued operation for all periods presented.
(Dollars in thousands) Year Ended December 31,
-----------------------------------------------------------
2004 2003 2002 2001 2000
---- ---- ---- ---- ----
Statement of Operations
Data: (1)
Net Sales $313,867 $278,309 $274,818 $278,872 $307,656
Gross profit, excluding
depreciation 101,625 96,130 99,135 102,632 116,239
Depreciation 5,487 6,721 6,577 6,023 6,055
Amortization 134 169 408 8,491 8,864
Operating income 34,153 30,048 38,347 37,226 52,168
Interest expense 35,592 34,876 35,231 32,173 33,175
Income tax expense
(benefit) 6,991 5,721 11,575 4,666 9,435
Income (loss) from
continuing
operations(2) (7,880) (10,541) (7,552) 746 9,465
Balance sheet data (at end of
period): (1)
Working capital 65,781 70,503 62,260 66,895 35,904
Total assets 373,448 362,488 363,506 359,415 361,082
Long-term debt including
current portion 317,068 307,626 309,115 304,905 308,801
Stockholder's equity (net
capital deficiency) (25,236) (15,530) (14,957) 10,684 7,139
(1) The Company has acquired a diversified group of operating companies over the five-year
period, which significantly affects the comparability of the information shown.
(2) The Company's operating income and loss from continuing operations for 2000 reflects a
14,636 write-down of goodwill relating to one of its businesses.
10
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
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Overview
The following discussion and analysis of the Company's results of
operations and of its liquidity and capital resources should be read in
conjunction with the financial statements and the related notes thereto
appearing elsewhere in this annual report.
Forward-Looking Statements
This report on Form 10-K contains forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934. The statement regarding the Company in this
document that are not historical in nature, particularly those that utilize
terminology such as "may", "will," "should," "likely," "expects,"
"anticipates," "estimates," "believes" or "plans," or comparable terminology,
are forward-looking statements based on current expectations about future
events, which the Company has derived from information currently available.
These forward-looking statements involve known and unknown risks and
uncertainties that may cause our results to be materially different from
results implied in such forward-looking statements. Those risks include, among
others, risks associated with the industry in which the Company operates, the
dependence on senior management, maintaining sufficient working capital
financing, competitive pressures, general economic conditions and a softening
of consumer acceptance of the Company's products leading to a decrease in
anticipated revenue and gross profit margins.
Acquisitions
Information regarding acquisitions made by the Company during the three
year period ended December 31, 2004 is included in Note 1 to the notes to
financial statements. The results of acquired operations are included in the
Company's consolidated results from the respective date of acquisition.
Consolidated Results of Operations
The following financial information presents the consolidated results of
operations of the Company for the years ended December 31, 2004, 2003 and
2002.
(Dollars in thousands) Year Ended December 31,
-----------------------------------------
2004 2003 2002
---- ---- ----
Motors $230,372 $201,654 $202,432
Controls 83,495 76,655 72,386
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Net sales $313,867 $278,309 $274,818
Motors $68,609 $65,486 $68,801
Controls 33,016 30,644 30,334
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Gross profit (excluding depreciation) $101,625 $96,130 99,135
Motors $35,858 $35,458 $39,496
Controls 10,571 8,686 10,660
Corporate Expenses (12,276) (14,096) (11,809)
-------- -------- --------
Operating income $34,153 $30,048 38,347
Interest expense 35,592 34,876 35,231
Gross profit (excluding depreciation) (1) 32.4% 34.5% 36.1%
Operating margin (1) 10.9 10.8 14.0
(1) All margins are calculated as a percentage of net sales.
11
Year ended December 31, 2004 compared to year ended December 31, 2003
Consolidated net sales increased $35.6 million, from $278.3 million in 2003 to
$313.9 million in 2004, a gain of 12.8 %. The increased sales were driven by
the introduction of new products and net gains in market share, which
contributed approximately $20.0 million, and improvements in the Company's
principal markets in North America and Europe, which account for approximately
$8.4 million in increased sales. The continued revaluation of the Euro against
the dollar during 2004 caused a $4.5 million improvement in sales due to the
favorable translation impact on the Company's European businesses. The
acquisition of O. Thompson (see Note 1 to "Notes to Consolidated Financial
Statements") contributed $4.3 million in sales since the acquisition date. The
net impact of increases and decreases in selling prices is estimated to reduce
sales from the prior year by approximately $1.6 million, reflecting the
competitive global market for the Company's core products.
Sales in the Company's Motors segment increased from $201.7 million in 2003 to
$230.4 million in 2004, a gain of $28.7 million, or 14.2 %. Subfractional
motor sales increased $3.7 million on the strength of an improved market for
products used in consumer refrigeration appliances, the partial year impact of
a new ice crusher product sold to a major appliance manufacturer, and numerous
share gains in smaller product categories. These gains were partly offset by
the loss of "value-added subassembly" ice crusher products sold to several key
refrigeration customers, for whom the Company continues to supply the ice
crusher motor. Sales of fractional and integral motors increased $25.0 million
on significant gains in market share and the sale of new products used in
commercial floor care, and recovery in the markets for material handling and
golf car motor products. The Company's European markets remained difficult
during 2004, with sales down 4.6% from 2003, due to general market conditions
and the impact of net share losses. The European sales declines were more than
offset by the aforementioned increase in sales due to favorable Euro
translation. Sales of the Company's products in China have benefited from that
country's overall market strength and from share gains in elevator motors as
the Company expands its market presence geographically.
Sales in the Company's Controls segment increased $6.8 million, to $83.5
million in 2004, an increase of 8.9% from $76.7 million in the prior year. The
increase in sales was led by the inclusion of the partial year sales of O.
Thompson (see Note 1 to "Notes to Consolidated Financial Statements"), which
contributed $4.3 million in sales. Sales of elevator controls and accessory
products increased $2.5 million, led by higher sales of the "I" family of
control products, the SmarTraq door operator system, and other non-controller
products.
Consolidated operating income increased to $34.2 million in 2004, an increase
of $4.1 million, or 13.7%, from $30.0 million in 2003. Gross profit increased
to $101.6 million (32.4% of net sales), from the prior year level of $96.1
million, (34.5% of net sales). The increase in gross profit is mainly
attributable to the increases in sales described above. The impact of higher
sales is partly offset by the unfavorable impact of net reductions in selling
prices resulting from global market competition (approximately $1.6 million)
and higher prices for purchased components and services, particularly steel,
copper, zinc, aluminum, and freight. Gross margin as a percentage of sales
declined in 2004 due to the impacts of net selling price reductions, purchase
cost inflation, and the introduction of certain new products and share gains
at competitive margins which are lower than the Company's historical average.
Selling, general, and administrative expenses ("SG&A") increased from $56.3
million in 2003 to $58.7 million. SG&A increased modestly in line with the
increases in sales, and from costs associated with the relocation of
operations of the Grand Rapids, MI, Des Plaines, IL, and Oakwood Village, OH
facilities. These increases were offset in part by a $1.3 million reduction of
charges under the Transition Agreement (see Item 13 "Certain Relationships and
Related Transactions"), and a one-time charge of $1.0 million in 2003 for
excess medical claims incurred by the Company's subsidiaries during 2001 and
2002.
12
Year ended December 31, 2003 compared to year ended December 31, 2002
Consolidated net sales increased $3.5 million or 1.3% from $274.8 million in
2002 to $278.3 million in 2003. The sales variance is primarily due to the
impact of the stronger Euro on translation of European sales ($6.9 million
increase) and the net impact of market share gains and losses ($10.6 million
increase) resulting from the Company's introduction of new products to the
market. These gains were offset in part by the protracted sluggish economies
in North America and Europe, which continued to depress revenues in most of
the company's key market segments, for a revenue decline of $11.3 million.
Pricing pressure throughout the Company's product lines resulted in a $2.7
million reduction in net sales.
Sales of the Company's Motors segment declined to $201.7 million in 2003 from
$202.4 million in 2002, a decline of 0.4%. Subfractional motor sales declined
by 0.6% compared to 2003, as market driven declines concentrated in the
vending and appliance product lines, plus the loss of "value-added
subassembly" manufacturing for certain appliance customers, were nearly
replaced by the introduction of new products and share gains in other markets,
such as medical, restaurant, and commercial refrigeration. Sales of
Fractional/Integral motor products declined 0.3% from 2002. The variance was
driven by general economic softness in markets for motors used in commercial
floor care, golf car, elevator, and other applications. These declines were
almost offset by net gains from changes in market share and new product
introductions in floor care and elevator markets, and the translation impact
on European sales described above.
Sales of the Company's Controls segment increased to $76.7 million in 2003,
from $72.4 million in 2002, an increase of $4.3 million, or 5.9%. The increase
is the result of recovery in the market for elevator control products and
product line extensions in the elevator modernization market.
Consolidated operating income declined 21.6%, from $38.3 million in 2002 to
$30.0 million in 2003. Gross profit decreased from $99.1 million in 2002
(36.1% of sales) to $96.1 million in 2003 (34.5% of sales). The decrease in
gross profit is primarily due to the aforementioned price reduction and shifts
in the mix of sales among the Company's product lines, some of which result
from the high level of new product introductions. Selling, general, and
administrative expenses increased to $56.3 million in 2003 from $50.9 million
in 2002. The increase is driven by increases in corporate overhead costs
allocated to the Company as discussed under Note 10, "Related Party
Transactions", a one-time charge of $1.0 million in 2003 for excess medical
insurance claims incurred by the Company's subsidiaries during 2001 and 2002,
and increased development and marketing costs for the company's
next-generation elevator control in anticipation of broad market introduction
in 2004.
13
Liquidity and Capital Resources
In general, the Company requires liquidity for working capital,
capital expenditures, interest, taxes, debt repayment and its acquisition
strategy. Of primary importance are the Company's working capital
requirements, which increase whenever the Company experiences strong
incremental demand or geographical expansion. The Company expects to satisfy
its liquidity requirements through a combination of funds generated from
operating activities and the funds available under the Credit Agreement.
Operating activities. Net cash used by operating activities for the year
ended December 31, 2004 was $3.3 million, compared to $6.8 million used during
the year ended December 31, 2003. The improvement in cash from operating
activities is mainly a result of the Company's higher operating performance
discussed above, as well as improved working capital management, particularly
from increased accounts payable. This was offset in part by increases in
accounts receivable and inventories which were larger during 2004 than in 2003
as a result of the higher level of sales.
Investing activities. Net cash used in investing activities was $4.4,
$4.1 and 13.4 million in 2004, 2003 and 2002, respectively. Cash used in
investing activities in 2004 included the acquisition of the significant net
assets of O. Thompson, which is detailed in Note 1 of the Consolidated
Financial Statements. The remaining use of cash is related to capital
expenditures. Cash used in investing activities in 2002 reflects the formation
of Kinetek De Sheng for $8.6 million, and $4.7 million for net capital
expenditures.
Financing activities. Net cash provided by (used in) financing activities
was $8.9, $($1.9) and ($5.7) million in 2004, 2003 and 2002 respectively.
On April 12, 2002, Kinetek Industries, Inc., a wholly-owned subsidiary of
the Company, issued $15 million principal amount of 5% Senior Secured Notes
and $11 million principal amount of 10% Senior Secured Notes for net proceeds
of approximately $20.5 million. The net proceeds were used for the formation
of Kinetek De Sheng and for the Company's ongoing operations. The Company's
annual cash interest expense on the Secured Senior Notes, which are due May 1,
2007, is approximately $1.8 million. Interest on the Secured Senior Notes is
payable semi-annually on May 1 and November 1 of each year.
The Company's annual cash interest expense on the 10 3/4% Senior Notes,
which are due November 15, 2006, is approximately $29.0 million. Interest on
the Senior Notes is payable semi-annually on May 15 and November 15 of each
year.
The Company's Loan and Security Agreement (Credit Agreement), is in the
form of a revolving credit facility and provides for borrowings of up to $35.0
million to fund acquisitions and provide working capital, and for other
general corporate purposes. Borrowings are limited by a borrowing base formula
consisting of accounts receivable, inventory, machinery and equipment and real
estate. Borrowings bear interest at a rate of prime plus 1.35% (6.6% at
December 31, 2004), subject to change based on the Company's interest coverage
ratio, as defined. Unused commitments under the revolving credit facility are
subject to an availability fee of 0.375% per annum subject to change based on
the Company's interest coverage ratio, as defined. Borrowings are secured by
the stock and substantially all of the assets of the Company. The Company had
$9.4 million of borrowing capacity under the Credit Agreement as of December
31, 2004. The Credit Agreement expires December 18, 2005. The Company intends
to replace the credit facility made under the Credit Agreement in 2005.
Management is confident such refinancing can be obtained under favorable terms
to the Company, however, such terms will be subject to market conditions which
may change significantly.
14
The Company expects its principal sources of liquidity to be from its
operating activities and funding from the Credit Agreement. The Company
further expects that these sources will enable it to meet its cash
requirements for working capital, capital expenditures, interest, taxes, and
debt repayment for at least the next 12 months.
Foreign Currency Impact
The functional currencies of the Company's foreign operations are the
respective local currencies. Fluctuations in the value of foreign currencies
relative to the U.S. dollar have resulted in gains from foreign currency
translation (which are deferred and classified as a separate component of
shareholder's equity) of $4.0 million, $8.2 million and $5.9 million in 2004,
2003, and 2002, respectively. There can be no assurance that foreign currency
fluctuations in the future will not have a significant adverse effect on the
Company's business, financial condition and results of operations.
Seasonality and Inflation
The Company's net sales typically show no significant seasonal
variations.
The Company purchases certain raw materials for use in the manufacture of
its products, including steel, aluminum, copper, and resin which are generally
available from multiple sources with adequate supply. While certain
commodities have experienced greater pricing volatility in the past year, the
Company has used a number of programs to address this risk such as entering
into longer term purchase contracts with suppliers of certain commodities and
implementing selling price adjustments over time. The Company believes it is
not significantly dependent on a limited number of suppliers and that
practices are in place to ensure an adequate supply of raw materials in the
future.
Adoption of Accounting Principles
In November 2004, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standard (SFAS) No. 151, "Inventory Costs -
An Amendment of Accounting Research Bulletin No. 43, Chapter 4". SFAS No. 151
clarifies that abnormal amounts of idle facility expense, freight, handling
costs and spoilage should be expensed as incurred and not included as
overhead. SFAS 151 also requires that the allocation of fixed production
overhead to conversion costs be based on normal capacity of the production
facilities. SFAS 151 must be applied prospectively beginning January 1, 2006.
The Company is still determining the impact of SFAS No. 151.
Critical Accounting Policies and Estimates
The Company's significant accounting policies are described in Note 2 to
the consolidated financial statements included in Item 8 of this Form 10-K.
The Company's discussion and analysis of financial condition and results from
operations are based upon the Company's consolidated financial statements,
which have been prepared in accordance with accounting principles generally
accepted in the United States. The preparation of the financial statements
requires the Company's to make estimates and judgments that affect the
reported amounts of assets, liabilities, revenues, and expenses. On an
on-going basis, the Company evaluates the estimates that it has made. These
estimates have been based upon historical experience and on various other
assumptions that the Company believes to be reasonable under the
circumstances. However, actual results may differ from these estimates under
different assumptions or conditions.
15
The Company believes the following critical accounting policies affect
the more significant judgments and estimates the Company's has used in the
preparation of the consolidated financial statements.
Goodwill
In accordance with SFAS No. 142, the Company discontinued recording
goodwill amortization effective January 1, 2002. SFAS No. 142 prescribes a
two-step process for impairment testing goodwill. The first step is to
identify when goodwill impairment has occurred by comparing the fair value of
a reporting unit with its carrying amount, including goodwill. If the fair
value of a reporting unit exceeds its carrying value, the second step of the
goodwill test should be performed to measure the amount of the impairment
loss, if any. In this second step, the implied fair value of the reporting
unit's goodwill is compared with the carrying amount of the goodwill. If the
carrying amount of the reporting unit's goodwill exceeds the implied fair
value of that goodwill, an impairment loss should be recognized in an amount
equal to that excess, not to exceed the carrying amount of the goodwill. If
there is a decrease in product demand, market conditions or any condition that
changes the assumptions used to measure fair value it could result in
requiring material impairment charge in the future.
Investment in Affiliate
The Company has made a strategic investment in the Preferred Units of JZ
International, LLC, an affiliated company. See Note 11 to the consolidated
financial statements for details of this investment. These debt securities are
not publicly traded on any major exchange. The cost method of accounting is
used to account for this investment. Each quarter, the Company evaluates the
recoverability of this investment using information obtained from the
management of this company. Based on the information obtained, the Company
will record an impairment charge when it believes the investment has
experienced a decline in value below its current carrying amount that is other
than temporary. Future adverse changes in market conditions or poor operating
results could result in losses and/or an inability to recover the carrying
value of this investment that may not be reflected in the investment's current
carrying value, thereby possibly requiring an impairment charge in the future.
Allowance for Doubtful Accounts
Allowances for doubtful accounts are estimated at the individual
operating companies based on estimates of losses on customer receivable
balances. Estimates are developed by using standard quantitative measures
based on historical losses, adjusting for current economic conditions and, in
some cases, evaluating specific customer accounts for risk of loss. The
establishment of reserves requires the use of judgment and assumptions
regarding the potential for losses on receivable balances. Though the Company
considers its allowance for doubtful accounts balance to be adequate, changes
in economic conditions in specific markets in which the Company operates could
have a material effect on future reserve balances required.
16
Excess and Obsolete Inventory
The Company records reserves for excess and obsolete inventory equal to
the difference between the cost of inventory and its estimated market value
using assumptions about future product life-cycles, product demand and market
conditions. If actual product life-cycles, product demand and market
conditions are less favorable than those projected by management, additional
inventory reserves may be required.
Income Taxes
As part of the process of preparing our consolidated financial
statements, the Company is required to estimate its income taxes in each of
the jurisdictions in which it operates. This process involves estimating the
Company's actual current tax exposure together with assessing temporary
differences resulting from differing treatment of items for tax and accounting
purposes. These differences result in deferred tax assets and liabilities,
which are included within the Company's consolidated balance sheet. The
Company must then assess the likelihood that its deferred tax assets will be
recovered from future taxable income and to the extent it believes that
recovery is not likely, The Company must establish a valuation allowance.
Increases (decreases) in the valuation allowance are included as an increase
(decrease) to the Company's consolidated income tax provision (benefit) in the
statement of operations.
Contractual Obligations
The following table summarizes the Company's contractual obligations as
of December 31, 2004 (in thousands):
Payments by Period
-----------------------------------------------------------------------------------------------
Total 2005 2006 2007 2008 2009 Thereafter
-------------- ------------ --------------- ------------ ---------- ----------- ---------------
Long-term
debt $ 316,453 $20,636 $272,827 $22,990 - - -
Interest on
Long-term
Debt 89,379 31,246 30,898 27,235 - - -
Capital
leases 615 323 194 98 - - -
Operating
leases 13,868 3,075 2,540 2,320 2,273 1,751 1,909
-------------- ------------ --------------- ------------ ---------- ----------- ----------------
Total $420,315 $55,280 $306,459 $52,643 $2,273 $1,757 $ 1,909
-------------- ------------ --------------- ------------ ---------- ----------- ----------------
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
-----------------------------------------------------------
The Company's debt obligations are primarily fixed-rate in nature and, as
such, are not sensitive to changes in interest rates. At December 31, 2004 the
Company had no variable rate debt outstanding.
The Company is exposed to market risk from changes in foreign currency
exchange rates, including fluctuations in the functional currency of foreign
operations. The functional currency of operations outside the United States is
the respective local currency. Foreign currency translation effects are
included in accumulated other comprehensive income in shareholder's equity.
17
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
--------------------------------------------
PAGE NO.
----------
Report of Independent Registered Public Accounting Firm 19
Consolidated Balance Sheets as of December 31, 2004 and 2003 20
Consolidated Statements of Operations for the years ended
December 31, 2004, 2003 and 2002 21
Consolidated Statements of Changes in Shareholder's Equity
(Net Capital Deficiency) for the years ended December 31,
2004, 2003 and 2002 22
Consolidated Statements of Cash Flows for the years ended
December 31, 2004, 2003 and 2002 23
Notes to Consolidated Financial Statements 24
18
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRMS
The Board of Directors and Shareholder
Kinetek, Inc.
We have audited the accompanying consolidated balance sheets of Kinetek, Inc.
as of December 31, 2004 and 2003 and the related consolidated statements of
operations, shareholder's equity (net capital deficiency), and cash flows for
each of the three years in the period ended December 31, 2004. Our audits also
included the financial statement schedule listed in the Index at Item 15(a).
These financial statements and schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements and schedule based on our audits.
We conducted our audits 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. We were not engaged to
perform an audit of the Company's internal control over financial reporting.
Our audit included consideration of internal control over financial reporting
as a basis for designing audit procedures that are appropriate in the
circumstances, but not for the purpose of expressing an opinion on the
effectiveness of the Company's internal control over financial reporting.
Accordingly, we express no such opinion. An audit also 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.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Kinetek, Inc. at
December 31, 2004 and 2003, and the consolidated results of its operations and
its cash flows for each of the three years in the period ended December 31,
2004, in conformity with U.S. generally accepted accounting principles. Also,
in our opinion, the related financial statement schedule, when considered in
relation to the basic financial statements taken as a whole, presents fairly
in all material respects the information set forth therein.
As discussed in Note 13 to the financial statements, effective January 1,
2002, the Company changed its method of accounting for goodwill to conform
with Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets".
ERNST & YOUNG LLP
Chicago, Illinois
March 18, 2005
19
KINETEK, INC.
CONSOLIDATED BALANCE SHEETS
(ALL DOLLAR AMOUNTS IN THOUSANDS)
December 31,
----------------------------
Restated
2004 2003
---- ----
ASSETS
Current Assets
Cash and cash equivalents $10,863 $6,959
Accounts receivable, net of allowance of $4,110
and $4,579 at December 31, 2004 and 2003, respectively 62,379 54,897
Inventories 53,658 45,924
Prepaid expenses and other current assets 4,373 4,483
Taxes receivable 3,631 5,637
Assets from discontinued operation 2,024 7,482
------- --------
Total current assets 136,928 125,382
Property, plant and equipment, net 29,753 30,474
Goodwill, net 181,141 180,361
Deferred financing costs, net 4,646 7,293
Due from affiliated company 7,743 5,827
Investment in affiliate 12,344 12,344
Other non-current assets 893 807
-------- --------
Total assets $373,448 $362,488
======== ========
LIABILITIES AND SHAREHOLDER'S EQUITY (NET CAPITAL DEFICIENCY)
Current liabilities:
Accounts payable $ 33,262 $ 25,784
Accrued interest payable 4,109 4,104
Accrued expenses and other current liabilities 12,269 12,951
Current portion of long term debt 20,959 10,783
Liabilities from discontinued operation 548 1,257
-------- --------
Total current liabilities 71,147 54,879
Long term debt 296,109 296,843
Deferred income taxes 25,801 20,552
Other non-current liabilities 5,627 5,744
Shareholder's equity (net capital deficiency):
Common stock, $1 par value, 10,000 shares
authorized, issued and outstanding 10 10
Additional paid-in capital 49,996 49,996
Accumulated deficit (80,238) (66,502)
Accumulated other comprehensive income 4,996 966
------- ---------
Total shareholder's equity (net capital deficiency) (25,236) (15,530)
-------- --------
Total liabilities and shareholder's equity (net capital
deficiency $373,448 $362,488
======== ========
See accompanying notes to consolidated financial statements.
20
KINETEK, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(ALL DOLLAR AMOUNTS IN THOUSANDS)
Year Ended December 31,
------------------------------------------
Restated Restated
2004 2003 2002
---- ---- ----
Net sales $313,867 $278,309 $274,818
Cost of sales, excluding depreciation 212,242 182,179 175,683
Selling, general and administrative expenses,
excluding depreciation 58,658 56,276 50,949
Depreciation 5,487 6,721 6,577
Amortization of goodwill and other intangibles 134 169 408
Management fees and other 3,193 2,916 2,854
---------- --------- ---------
Operating income 34,153 30,048 38,347
Other (income) / expense:
Interest expense 35,592 34,876 35,231
Interest income (169) (140) (367)
Miscellaneous, net (381) 132 (540)
---------- --------- ---------
Income (loss) from continuing operations before
income taxes and cumulative effect of accounting
change (889) (4,820) 4,023
Income tax provision 6,991 5,721 11,575
---------- --------- ---------
Loss from continuing operations before
cumulative effect ofaccounting change $(7,880) $(10,541) $ (7,552)
Income (loss) from discontinued operations,
net of tax (5,856) 1,787 (1,986)
Cumulative effect of change in accounting principle - - (21,992)
---------- --------- ---------
Net loss $ (13,736) $ (8,754) $ (31,530)
========== ========= ==========
See accompanying notes to consolidated financial statements.
21
KINETEK, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDER'S EQUITY (Net Capital Deficiency)
(ALL DOLLAR AMOUNTS IN THOUSANDS)
Common Stock Accumulated
---------------------- Other Total
Additional Comprehensive Shareholder's
Number of Paid-In (Loss) Accumulated Equity (net
Shares Amount Capital Income Deficit Capital
---------- ---------- ---------- ----------- ----------- -----------
Balance at December 31, 2001 10,000 $ 10 $49,996 $ (13,104) $ (26,218) $ 10,684
Foreign currency -
translation adjustments - - - 5,889 - 5,889
Net loss (Restated) - - - - (31,530) (31,530)
----------
- - - - - (25,641)
Comprehensive loss (Restated) ---------- ---------- ---------- ---------- ---------- ----------
Balance at December 31, 2002 (Restated) 10,000 $ 10 49,996 (7,215) $ (57,748) $ (14,957)
Foreign currency translation -
adjustments - - - 8,181 - 8,181
Net loss (Restated) - - - - (8,754) (8,754)
----------
- - - - - (573)
Comprehensive loss (Restated) ---------- ---------- ---------- ---------- ---------- ----------
Balance at December 31, 2003 10,000 $ 10 49,996 966 $ (66,502) $ (15,530)
Foreign currency translation
adjustments - - - 4,030 - 4,030
Net loss - - - - (13,736) (13,736)
----------
- - - - - (9,706)
Comprehensive loss ---------- ---------- ---------- ---------- ---------- ----------
Balance at December 31, 2004 10,000 $ 10 $49,996 $ 4,996 $ (80,238) $ (25,236)
========== ========== ========== ========== ========== ==========
See accompany notes to consolidated financial statements
22
KINETEK, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(ALL DOLLAR AMOUNTS IN THOUSANDS)
Year Ended December 31,
---------------------------------
Restated Restated
2004 2003 2002
---- ---- ----
Cash flows from operating activities:
Net loss $(13,736) $(8,754) $(31,530)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Cumulative effect of change in accounting principle - - 21,992
Depreciation and amortization 8,700 9,843 10,115
Deferred income taxes 5,249 4,366 13,319
Changes in operating assets and liabilities
(net of effects from acquisitions):
Accounts receivable (7,482) (3,121) 15
Inventories (5,495) (4,626) (712)
Prepaid expenses and other current assets 2,128 (1,405) (785)
Accounts payable 6,518 353 81
Accrued expenses and other current liabilities (1,687) 1,069 1,666
Net change in assets and liabilities from
discontinued operation 4,749 (5,181) (642)
Non-current assets and liabilities (346) 698 12
Due from affiliated company (1,916) (84) (373)
--------- -------- --------
Net cash provided by(used in) operating activities (3,318) (6,842) 13,158
Cash flows from investing activities:
Capital expenditures, net (3,998) (4,033) (4,647)
Acquisition of subsidiaries, net of cash acquired (372) - (8,611)
Additional purchase price for acquisition - - (100)
--------- -------- --------
Net cash used in investing activities (4,370) (4,033) (13,358)
Cash flows from financing activities:
Borrowings (repayments) on revolving credit
Facility, net 12,244 - (24,834)
Repayment of long-term debt (10,818) (2,811) (2,972)
Proceeds from issuance of long term debt 7,505 874 23,927
Payment of deferred financing fees - - (1,817)
--------- -------- --------
Net cash provided by (used in)financing activities 8,931 (1,937) (5,696)
Effect of exchange rate changes on cash 2,661 5,329 2,948
--------- -------- --------
Net increase (decrease) in cash and cash equivalents 3,904 (7,483) (2,948)
Cash and cash equivalents at beginning of year 6,959 14,442 17,390
--------- ------- ---------
Cash and cash equivalents at end of year $ 10,863 $ 6,959 $ 14,442
======== ======= =========
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest $ 31,871 $32,023 $31,386
Income taxes 1,081 2,837 2,540
Non cash investing and financing activities:
Capital leases - 142 332
See accompanying notes to consolidated financial statements.
23
KINETEK, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(ALL DOLLAR AMOUNTS IN THOUSANDS)
1. Description of Business and Acquisitions
Kinetek, Inc. (Company), a wholly-owned subsidiary of Motors and
Gears Holdings, Inc. (Parent), a majority-owned subsidiary of Jordan
Industries, Inc. (JII), operates in the motion control industry.
On April 6, 2001, the Company, through its wholly-owned subsidiary
Merkle Korff, acquired substantially all of the assets, properties and
business of Koford Engineering, Inc. for $690. This acquisition has been
accounted for using the purchase method of accounting. Accordingly, the
operating results of the acquired business have been included in the
consolidated operating results of the Company since the date of acquisition.
On November 30, 2004, Merkle Korff sold the assets related to the Koford Slot
Car segment of the business. This consisted of cash, accounts receivable,
machinery & equipment, and raw material. These assets were sold at book value
which was $264K, therefore recognizing no gain or loss from the sale.
On April 11, 2002, the Company formed a cooperative joint venture
with Shunde De Sheng Electric Motor Group Co., Ltd. ("De Sheng Group"), which
is named Kinetek De Sheng (Shunde) Motor Co., Ltd. (the "JV"). The Company
initially contributed approximately $8.0 million for 80% ownership of the JV,
with an option to purchase the remaining 20% in the future. The JV acquired
all of the net assets of Shunde De Sheng Electric Motor Co., Ltd. ("De
Sheng"), a subsidiary of De Sheng Group. This acquisition has been accounted
for using the purchase method of accounting. The JV also assumed approximately
$7.2 million of outstanding debt.
On September 21, 2004, the Company acquired substantially all of the
net assets of O. Thompson, a New York City-based elevator control company. The
total acquisition cost was $887 of which $372 was paid in cash during the
third and fourth quarters of 2004. The remaining $515 of deferred acquisition
costs are a component of other current liabilities at December 31, 2004 and
should be settled during the first quarter of 2005. The acquisition has been
accounted for using the purchase method of accounting. Accordingly, the
operating results of the acquired business have been included in the
consolidated operating results of Kinetek since September 1, 2004, the
effective date of the acquisition. The operating results of O. Thompson are
included with those of Kinetek's wholly-owned subsidiary, Motion Control
Engineering, within the "Controls" segment.
2. Summary of Significant Accounting Policies
Principles of Consolidation
The consolidated financial statements include the accounts of the
Company and its majority-owned subsidiaries. All significant intercompany
transactions and accounts have been eliminated. Operations of certain
subsidiaries outside the United States are included for periods ending two
months prior to the Company's year-end and interim periods to ensure the
timely preparation of the Company's consolidated financial statements.
Reclassifications
Certain amounts in the prior years financial statements have been
reclassified to conform to the 2004 presentation.
24
Cash and Cash Equivalents
Cash equivalents consist of highly liquid investments with an initial
maturity of three months or less at the time of purchase.
Accounts Receivable and Allowance for Doubtful Accounts
Allowances for doubtful accounts are estimated at the individual operating
companies based on estimates of losses on customer receivable balances.
Estimates are developed by using standard quantitative measures based on
historical losses, adjusting for current economic conditions and, in some
cases, evaluating specific customer accounts for risk of loss. A receivable is
considered past due if payments have not been received within agreed upon
invoice terms. Uncollectible receivables are charged against the allowance for
doubtful accounts when approved by operating company management after all
collection efforts have been exhausted Inventories
Inventories are stated at the lower of cost or market. Inventories,
which are valued at either average or first-in, first-out (FIFO) cost,
accounted for approximately 78% and 73% of the Company's inventories at
December 31, 2004 and 2003, respectively. All other inventories are valued
using last-in, first-out (LIFO) cost, which approximated current cost at
December 31, 2004 and 2003.
Property, Plant, and Equipment
Property, plant, and equipment are stated at cost, less accumulated
depreciation. Depreciation is provided using the straight-line method over the
estimated useful lives of the assets. Leasehold improvements and assets under
capital leases are amortized using the straight-line method over the shorter
of the lease term or their estimated productive lives. Amortization of
leasehold improvements and assets under capital leases is included in
depreciation expense.
The useful lives of plant and equipment for the purpose of computing
book depreciation are as follows:
Buildings 5 to 33 years
Machinery and equipment 3 to 10 years
Dies and tooling 2 to 5 years
Furniture and fixtures 3 to 7 years
Vehicles 3 to 5 years
Foreign Currency Translation
The functional currencies of the Company's foreign operations are the
local currencies. Accordingly, assets and liabilities of the Company's foreign
operations are translated from foreign currencies into U.S. dollars at the
exchange rates in effect at the balance sheet date while income and expenses
are translated at the weighted-average exchange rates for the year.
Adjustments resulting from translation are classified as a component of other
comprehensive income.
25
Goodwill and Other Long-Lived Assets
Through 2001, goodwill was amortized using the straight-line method
over a period of 30 to 40 years. On January 1, 2002, the Company adopted SFAS
No. 142, "Goodwill and Other Intangible Assets." Under the new rules, goodwill
is no longer amortized but is subject to annual impairment tests. See Note 13
for additional details.
Other long-lived assets are reviewed for impairment whenever events
or changes in circumstances indicate that the carrying amount of the related
asset may not be recoverable. Recoverability of assets to be held and used is
measured by a comparison of the carrying amount of the asset to future
undiscounted cash flows expected to be generated by the asset. If the asset is
determined to be impaired, the impairment recognized is measured by the amount
by which the carrying value of the asset exceeds its fair value.
Deferred Financing Costs
Deferred financing costs are amortized using the straight line
method, which approximates the interest method, over the terms of the related
loans. Deferred financing costs at December 31, 2004 and 2003 are net of
accumulated amortization of $16,292 and $13,646, respectively. Amortization of
deferred financing costs is included in interest expense.
Income Taxes
Deferred tax assets and liabilities are determined based on
differences between the financial reporting and tax basis of assets and
liabilities and are measured using the enacted tax rates and laws that are
expected to be in effect when the differences reverse. The operating results
of the Company and its subsidiaries are included in the consolidated federal
income tax return of JII. In addition, the Company and its subsidiaries are
party to a tax-sharing agreement with JII. The Company's income tax provision
(benefit) has been calculated as if the Company would have filed a separate
federal income tax return, except that the Company's net operating losses are
eliminated if absorbed in the JII consolidated federal income tax return.
Revenue Recognition
The Company's revenue is derived primarily from product sales.
Revenue is recognized in accordance with the terms of the sale, primarily upon
shipment to customers, once the sales price is fixed or determinable, and
collectibility is reasonably assured.
Shipping and Handling Costs
Shipping and Handling Costs are included in cost of sales in the
statement of operations.
Use of 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 amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates.
26
Financial Instruments
The Company's financial instruments include cash equivalents, trade
accounts receivable, accounts payable, accrued expenses, the Senior Notes, the
Senior Secured Notes, the Subordinated Notes, and the revolving credit
facility. Other than the Senior Notes (see Note 8), the fair values of the
Company's financial instruments are not materially different from their
carrying values at December 31, 2004 and 2003.
Concentration of Credit Risk
Financial instruments which potentially subject the Company to
concentration of credit risk consist principally of cash and cash equivalents,
accounts receivable and the investment in affiliate (see Note 11). The Company
deposits cash and cash equivalents with high-quality financial institutions,
which are federally insured up to prescribed limits. Cash balances may exceed
these limits at any given time.
The Company closely monitors the credit quality of its customers and
maintains allowances for potential credit losses which, historically, have not
been significant and have been within the range of management's expectations.
The Company generally does not require collateral or other security on trade
receivables.
Derivative Financial Instruments
The Company recognizes derivative instruments as either assets or
liabilities in the balance sheet at fair value. The accounting for changes in
fair value (i.e., gains or losses) of a derivative financial instrument
depends on whether it has been designated and whether it qualifies as part of
an effective hedging relationship and, further, on the type of hedging
relationship. The fair value of derivative financial instruments was not
significant as of December 31, 2004 and 2003.
New Accounting Pronouncements
In January 2003, the FASB issued Interpretation No. 46 (FIN 46),
"Consolidation of Variable Interest Entities - An Interpretation of Accounting
Research Bulletin (ARB) No. 51" This interpretation provides guidance on how
to identify variable interest entities and how to determine whether or not
those entities should be consolidated. The Company is required to apply FIN 46
by March 31, 2005, for entities which were created before February 1, 2003.
The adoption of FIN 46 was immediate for variable interest entities created
after January 31, 2003. The Company has not created any significant variable
interest entities since January 31, 2003. The Company is evaluating its
interests in entities created before February 1, 2003 to determine if FIN 46
applies.
27
3. Inventories
Inventories consist of the following:
December 31,
---------------------------
2004 2003
---- ----
Raw materials $30,509 $27,847
Work in process 11,507 10,325
Finished goods 11,642 7,752
----------- -----------
$53,658 $45,924
=========== ===========
4. Property, Plant, and Equipment
Property, plant, and equipment consist of the following:
December 31,
---------------------------
2004 2003
---- ----
Land, buildings and leasehold improvements $21,735 $21,027
Machinery and equipment 40,840 37,482
Furniture and fixtures 14,094 14,338
Other (vehicles, dies and tooling) 7,603 7,418
----------- -----------
84,272 80,265
Less: Accumulated depreciation
and amortization (54,519) (49,791)
----------- -----------
$29,753 $30,474
=========== ===========
5. Short Term Notes Payable
FIR Group Holdings Italia and its subsidiaries, have a number of
short-term borrowing facilities available from various banks. The total amount
available under these facilities is approximately $9,136 at an average
interest rate of 7.25% for the year ending December 31, 2004. There were no
outstanding borrowings under these arrangements at December 31, 2004 and 2003.
A portion of these facilities are secured by FIR's assets and a portion are in
the form of overdraft coverage.
6. Discontinued Operation and Restatement of Financial Statements
During 2004, the Company undertook a plan to sell Electrical Design and
Control ("ED&C"), a wholly-owned subsidiary. As a part of the Company's
analysis of the realizable value of the assets recorded in the books and
records of ED&C, an exhaustive analysis of all open projects was performed.
During that analysis, it came to our attention that certain revenues had been
erroneously recorded in prior years as a result of errors in ED&C's percentage
of completion calculations on certain projects. The Company's results for 2003
and 2002 have been restated to reflect ED&C as discontinued operations in all
periods presented, as well as to correct for the impact of errors discussed
above. The portion of the restatement due to the errors mentioned above was
additional charges of $3,408 and $1,751 in 2003 and 2002, respectively. Had
the above amounts been recorded in the proper periods, no default of the
Company's debt covenants would have occurred. The Company currently has no
other subsidiaries using the percentage of completion accounting method and
believes that the risk of future errors of this type is minimal. For this
28
reason, the Company believes that the above restatements are sufficient to
properly state certain previously issued financial statements and that this
restatement has no material impact on the results of the continuing operations
of the Company.
Summarized selected financial information for the discontinued operation as
restated is as follows:
2004 2003 2002
---- ---- ----
Revenues $ 4,640 $ 6,358 $ 6,097
Loss from discontinued
operations (5,856) 1,787 (1,986)
The major classes of assets and liabilities of the discontinued operation is
as follows:
2004 2003
---- ----
Current assets $ 1,978 $ 7,113
Property, plant and equipment 14 337
Other long term assets 32 32
---------- ----------
Total assets 2,024 7,482
Current liabilities 548 1,257
---------- ----------
Net assets of discontinued
operations
$ 1,476 $ 6,225
---------- ----------
7. Income Taxes
Income from continuing operations before income taxes and cumulative effect of
accounting change was comprised of the following:
Year Ended December 31,
-----------------------------------------
2004 2003 2002
---- ---- ----
Domestic $ (3,447) $ (6,637) $ 178
Foreign 2,558 1,817 3,845
----------- ----------- -----------
$ (889) $ (4,820) $ 4,023
=========== =========== ===========
The provision (benefit) for income taxes consists of the following:
Year Ended December 31,
-----------------------------------------
2004 2003 2002
---- ---- ----
Current:
Federal $ - $ - $ 8,234
State 610 644 535
Foreign 1,148 593 (2,576)
----------- ----------- -----------
Total current 1,758 1,237 6,193
Deferred:
Federal 3,085 3,151 4,018
State 927 867 686
Foreign 1,221 466 678
----------- ----------- -----------
Total deferred 5,233 4,484 5,382
----------- ----------- -----------
Income tax provision $ 6,991 $ 5,721 $ 11,575
=========== =========== ===========
29
The provision (benefit) for income taxes differs from the amount of
income tax provision (benefit) computed by applying the U.S. federal income
tax rate to income before income taxes and cumulative effect of change in
accounting principle. A reconciliation of the differences is as follows:
Year Ended December 31,
-----------------------------------------
2004 2003 2002
---- ---- ----
Computed statutory tax provision $ (311) $ (1,687) $ 1,408
Increase/(decrease) resulting from:
State and local taxes, net of
federal benefit 999 1,006 820
Differential in foreign tax rates
and tax credits 49 (481) (3,886)
Change in valuation allowance 4,772 5,589 14,325
Amortization of goodwill 3,410 3,414 3,366
Other (1,928) (2,120) (4,458)
----------- ----------- -----------
Income tax provision $ 6,991 $ 5,721 $11,575
=========== =========== ===========
Deferred tax liabilities and assets are comprised of the following:
December 31,
------------------------------
2004 2003
---- ----
Deferred tax liabilities:
Goodwill $(22,064) $(18,036)
Foreign deferred taxes (3,737) (2,516)
----------- -----------
Total deferred tax liabilities (25,801) (20,552)
Deferred tax assets:
Net operating losses 14,584 9,512
Property, plant and equipment 3,925 4,241
Intangibles other than goodwill 3,212 3,685
Vacation accrual 531 605
Employee benefits 848 244
Uniform capitalization 506 517
Allowance for doubtful accounts 707 914
Inventory obsolescence reserve 459 486
Warranty reserve 627 522
Other 1,520 1,421
----------- -----------
Total deferred tax assets 26,919 22,147
Valuation allowance (26,919) (22,147)
----------- -----------
Net deferred tax liabilities $(25,801) $(20,552)
=========== ===========
As of December 31, 2004 there was $18,856 of accumulated unremitted earnings
from the Company's foreign subsidiaries on which deferred taxes have not been
provided as undistributed earnings on foreign subsidiaries are considered to
be indefinitely reinvested.
In 2002, the Company adopted SFAS No. 142, which provides that goodwill no
longer be amortized. For tax purposes, goodwill continues to be amortized over
a fifteen-year life. As such, the tax amortization generates a temporary
difference and a corresponding deferred tax liability arises for financial
statement purposes. Because goodwill is no longer amortized for book purposes,
the Company cannot determine when the resulting deferred tax liabilities will
30
reverse. Therefore, the Company is not able to utilize any future reversal of
the deferred tax liability related to goodwill to support the realization of
the deferred tax assets.
As previously noted, the Company and its domestic subsidiaries
(Kinetek Group) join in the annual filing of a U.S. federal consolidated
income tax return with their ultimate parent company, Jordan Industries, Inc.
(Parent). During 2004, Parent realized $88.4 million of cancellation of
indebtedness income as a result of modifications to certain of its outstanding
debt. However, the Internal Revenue Code provides exceptions to the
recognition of certain types of cancellation of indebtedness income for U.S.
federal income tax purposes. These exceptions generally will require the
Parent and possibly certain subsidiaries including members of the Kinetek
Group to reduce various specified tax attributes on January 1, 2005 to be
determined by the Parent. Through some combination of these exceptions, net
operating loss carryforwards and other future tax benefits of Kinetek may be
reduced. The Parent's consolidated return group which includes the Kinetek
Group does not expect to incur any material tax liability as a result of
realizing this cancellation of indebtedness.
8. Long-Term Debt
Long-term debt consists of the following:
December 31,
------------------------------------
2004 2003
---- ----
10.75% Senior Notes, including $1,327 and $1,925 of
unamortized premium at December 31, 2004 and 2003,
respectively (A) $271,326 $271,925
Revolving Credit Facility (B) 12,244 -
Subordinated Notes Payable (C) 1,500 1,500
Capital leases (D) 615 1,297
5.0% Secured Senior Notes, including $2,358 and $3,173 of
unamortized discount at December 31, 2004 and 2003,
respectively (E) 12,642 11,827
10.0% Secured Senior Notes, including $652 and $876 of
unamortized discount at December 31, 2004 and 2003,
respectively (E) 10,348 10,124
Bank loans of foreign subsidiary (F) 7,506 9,459
Loan payable to JV partner (G) 887 1,494
------------ -------------
317,068 307,626
Current Portion (20,959) (10,783)
------------ -------------
$296,109 $296,843
------------ -------------
(A) Interest on the Senior Notes is payable in arrears on May 15 and
November 15 of each year. The Senior Notes are unsecured obligations
of the Company and mature on November 15, 2006. The Senior Notes are
redeemable at the option of the Company, in whole or in part, at any
time on or after November 15, 2001. The Indenture relating to the
Senior Notes contains certain covenants which, among other things,
restrict the ability of the Company to incur additional indebtedness,
to pay dividends or make other restricted payments, engage in
transactions with affiliates, to complete certain mergers or
consolidations, or to enter into certain guarantees of indebtedness.
31
The fair value of the Senior Notes was approximately $273,375 at
December 31, 2004. The fair value was calculated by multiplying the
face amount by the market price at December 31, 2004.
(B) The Company's Loan and Security Agreement (Credit Agreement),
expiring December 18, 2005, is in the form of a revolving credit
facility and provides for borrowings of up to $35,000 to fund
acquisitions and provide working capital, and for other general
corporate purposes. Borrowings are limited by a borrowing base
formula consisting of accounts receivable, inventory, machinery and
equipment and real estate. Borrowings bear interest at a rate of
prime plus 1.35% (6.6% at December 31, 2004), subject to change based
on the Company's interest coverage ratio, as defined. Unused
commitments under the revolving credit facility are subject to an
availability fee of 0.375% per annum subject to change based on the
Company's interest coverage ratio, as defined. Borrowings are secured
by the stock and substantially all of the assets of the Company. The
Company had $9,358 of borrowing capacity under the Credit Agreement
as of December 31, 2004.
The Credit Agreement contains covenants which, among other things,
provide for a minimum level of interest coverage, as defined, and
limit the Company's ability to incur additional indebtedness, create
liens, make restricted payments, engage in affiliate transactions or
mergers and consolidations, and make asset sales.
The Credit Agreement expires December 18, 2005. The Company intends
to replace the credit facility made under the Credit Agreement in
2005. Management is confident such refinancing can be obtained under
favorable terms to the Company, however, such terms will be subject
to market conditions which may change significantly.
(C) The Subordinated Notes Payable at December 31, 2004 consists of a
$1,500 note payable to the former shareholder of Merkle-Korff, a
subsidiary of the Company, and is due on January 1, 2006 and bears
interest at 9% per annum.
(D) Interest rates on capital leases range from 6.4% to 7.6% and mature
in installments through 2007.
The future minimum lease payments as of December 31, 2004 under
capital leases consist of the following:
2005 $361
2006 220
2007 108
2008 -
2009 -
------------
Total 689
Less amount representing interest (74)
------------
Present value of future minimum
lease payments $615
============
The present value of the future minimum lease payments approximates
the book value of property, plant and equipment under capital leases
at December 31, 2004.
(E) Interest on the Secured Senior Notes is payable in arrears on May 1
and November 1 of each year. The Secured Senior Notes are secured
obligations of the Company and mature on April 30, 2007. The
Indenture relating to the Senior Notes contains certain covenants
which, among other things, restricts the ability of the Company to
32
incur additional indebtedness, to pay dividends or make other
restricted payments, engage in transactions with affiliates, to
complete certain mergers or consolidations, or to enter into certain
guarantees of indebtedness.
(F) One of the Company's foreign subsidiaries has bank loans of $7,506
and $9,459 as of December 31, 2004 and 2003, respectively. Interest
rates on these loans range from 4.8% to 5.8% and mature in 2005. The
Company plans to renew these loans as they mature.
(G) The Company has loans due to a joint venture partner of one of its
foreign subsidiaries of $887 and $1,494 for December 31, 2004 and
2003, respectively. Interest rate on loans range from 5.3% to 5.8%
and mature in installments through 2005.
Aggregate maturities of long-term debt at December 31, 2004 are as
follows:
2005 $ 20,959
2006 273,020
2007 23,089
2008 -
2009 -
-----------
$317,068
===========
9. Operating Leases
The Company leases certain land, buildings, and equipment under
noncancellable operating lease agreements expiring in various years through
2011. Minimum future lease payments, by year, under noncancellable operating
leases, including those with related parties (Note 10), are as follows at
December 31, 2003:
2005 $ 3,075
2006 2,540
2007 2,320
2008 2,273
2009 1,751
Thereafter 1,909
------------
$13,868
============
Total rent expense was $3,305, $3,041 and $3,365 for the years ended
December 31, 2004, 2003 and 2002, respectively.
10. Benefit Plans
Certain of the Company's subsidiaries participate in the JII 401(k)
Savings Plan (the "Plan"), a defined contribution plan for salaried and hourly
employees. In order to participate in the Plan, employees must be at least 21
years old and have worked at least 1,000 hours during the first 12 months of
employment. Each eligible employee may contribute from 1% to 15% of their
before-tax wages into the Plan. In addition to the JII 401(k) Plan, certain
subsidiaries have additional defined contribution plans in which employees may
participate. The Company made contributions to these plans totaling
approximately $1,068, $1,324 and $1,505 for the years ended December 31, 2004,
2003 and 2002, respectively.
33
FIR provides for a severance liability for all employees at 8.3% of
each respective employee's annual salary. In addition, the amount accrued is
adjusted each year according to an official index (equivalent to 0.75% of the
retail price index). This obligation is payable to employees when they leave
the Company and approximated $3,358 and $3,380 at December 31, 2004 and 2003,
respectively, which is included in other non-current liabilities in the
Company's balance sheets.
11. Related Party Transactions
Services Agreements. The Company and each of its subsidiaries are subject to
the following four agreements and arrangements with JII:
First, the Company and each of its subsidiaries are parties to a
transaction advisory agreement (the "Subsidiary Advisory Agreement") with JII,
pursuant to which the Company and its subsidiaries are charged by JII (i)
investment banking and sponsorship fees of up to 2.0% of the purchase price of
acquisitions, joint ventures, minority investments or sales involving the
Company and its subsidiaries or their respective businesses or properties
(which were $73, $0 and $514 in 2004, 2003, and 2002, respectively); (ii)
financial advisory fees of up to 1.0% of debt, equity, or other financing or
refinancing involving the Company or such subsidiary, in each case, arranged
with the assistance of JII or its affiliates (which were $0, $0 and $260 in
2004, 2003 and 2002, respectively); and (iii) reimbursement for JII's
out-of-pocket costs in connection with providing such services (which were $0
in 2004, 2003 and 2002). Mssrs. Jordan, Quinn, Boucher and Zalaznick,
directors of Parent, are directors and shareholders of JII.
Second, the Company and each of its subsidiaries is party to a
management consulting agreement (the "Subsidiary Consulting Agreement") with
JII, pursuant to which the Company and its subsidiaries pay JII annual
consulting fees of the greater of (i) 3.0% of the Company's net income before
interest, tax, depreciation and amortization and other non-cash charges, or
(ii) 1.0% of the Company's net sales for such services and are required to
reimburse JII for its out-of-pocket costs related to its services. Pursuant to
the Subsidiary Consulting Agreement, JII (but not JII's affiliates) is
obligated to present all acquisition, business and investment opportunities
that relate to manufacturing, assembly, distribution or marketing of products
and services in the motors, gears and motion control industries to the
Company, and JII is not permitted to pursue such opportunities or present them
to third parties unless the Company determines not to pursue such
opportunities or consents thereto. In accordance with this agreement, the
Company paid approximately $3,193, $2,916 and $2,854 for the years ended
December 31, 2004, 2003 and 2002, respectively, which are reflected as
Management Fees and Other in the Consolidated Statement of Operations.
Third, the Company and each of its subsidiaries are parties to a
services agreement (the "JI Properties Services Agreement") with JI
Properties, Inc. ("JI Properties"), a subsidiary of JII, pursuant to which JI
Properties provides certain real estate and other assets, transportation and
related services to the Company. Pursuant to the JI Properties Services
Agreement, the Company is charged for its allocable portion of such services
based upon its usage of such services and its relative revenues, as compared
to JII and its other subsidiaries.
Fourth, the Company and JII are parties to a transition agreement
(the "Transition Agreement") pursuant to which JII provides office space and
certain administrative and accounting services to the Company to facilitate
the operations of the Company. Also, JII allocates its overhead, general and
administrative charges and expense among JII and its subsidiaries, including
the Company, based on the respective revenues and usage of corporate overhead
by JII and its subsidiaries. The Company reimburses JII for services provided
pursuant to the Transition Agreement on an allocated cost basis.
34
In accordance with the JI Properties Services Agreement and the
Transition Agreement, such combined charges were $5,807, $7,084 and $5,103 for
the years ended December 31, 2004, 2003 and 2002, respectively, and are
reflected within Selling, General, and Administrative expenses in the
Consolidated Statement of Operations.
The above agreements expire in December 2011, but are automatically
renewed for successive one-year terms, unless either party provides written
notice of termination 60 days prior to the scheduled renewal date.
Tax Sharing Agreement. The Company and each of its subsidiaries are
parties to a Tax Sharing Agreement (the "Tax Sharing Agreement") between JII
and each of its consolidated subsidiaries for U.S. federal income tax
purposes. Pursuant to the Tax Sharing Agreement, the Company and each of its
consolidated subsidiaries owes to JII an amount determined by reference to
each entity's separate return tax liability as defined in Treasury Regulation
ss.1.1552-1(a) (2) (ii). For the years ended December 31, 2004 and 2003,
income tax payments made by the Company to JII under the Tax Sharing Agreement
were $0 and $0, respectively.
Related Party Leases. The Company leases certain plants, warehouses,
and offices under leases with affiliated entities. Rent expense, including
real estate taxes attributable to these leases, amounted to $1,614, $1,653 and
$1,822 for the years ended December 31, 2004, 2003 and 2002, respectively.
Future minimum rental payments required under these leases are as follows:
2005 $1,701
2006 1,553
2007 1,173
2008 1,135
2009 1,135
Thereafter $1,419
Investment in Affiliate. The Company has a $12,344 investment in the
Class A and Class B Preferred Units of JZ International, LLC. These debt
securities are not publicly traded and do not have a determinable fair value.
The cost method of accounting is used to account for this investment. The
Preferred Units have a cumulative 5% annual return. The Class A Preferred
Units may be redeemed at any time at the discretion of the Board of Directors
of JZ International, but no later than December 31, 2017, whereas the Class B
Preferred Units may be redeemed at any time at the discretion of the Board of
Directors of JZ International, but no later than December 31, 2018. Each
quarter, we evaluate the recoverability of this investment using information
obtained from the management of this company. Based on the information
obtained, we will record an impairment charge when we believe the investment
has experienced a decline in value below its current carrying amount that is
other than temporary. JZ International's Chief Executive Officer is David W.
Zalaznick, and its members include Messrs. Jordan, Quinn, Zalaznick and
Boucher, who are the Company's and/or Parent's directors and stockholders. JZ
International and its subsidiaries are focused on making European and other
international investments. The Company is accounting for this investment under
the cost method.
35
Legal Fees. An individual who is a shareholder, General Counsel and Assistant
Secretary of the Parent is also a partner in a law firm used by the Company.
The firm was paid $174, $277 and $490 in fees and expenses during the years
ended December 31, 2004, 2003 and 2002, respectively. The rates charged to the
Company were at arms-length.
Due from Affiliate. The Company has a net receivable from JII of
$7,743 and $5,827 at December 31, 2004 and 2003, respectively, that are
reflected in the consolidated balance sheets as "due from affiliated company".
12. Additional Purchase Price Arrangements
Kinetek has a contingent purchase price agreement relating to its
acquisition of Motion Control Engineering on December 18, 1997. The terms of
this agreement provide for additional consideration to be paid to the sellers.
The agreement is exercisable at the sellers' option during a five year period
that began in 2003. When exercised, the additional consideration will be based
on Motion Control Engineering's operating results over the two preceding
fiscal years. Payments, if any, under the contingent agreement will be placed
in a trust and paid out in cash over a three or four-year period, in annual
installments according to a schedule, which is included in the agreement.
Additional consideration, if any, will be recorded as an addition to goodwill.
13. Segment Data
Description of Segments
The Company operates in two separate business segments; electric
motors ("Motors") and electronic motion control systems ("Controls"). The
Motors segment consists of subfractional motors, fractional/integral motors,
and gears and gearboxes. The Controls segment consists of motion control
systems.
The Company's subfractional horsepower products are comprised of
motors and gearmotors which power applications up to 30 watts (1/25
horsepower). These small, "fist-size" AC and DC motors are used in light duty
applications such as snack and beverage vending machines, refrigerator ice
dispensers and photocopy machines.
The Company's fractional/integral horsepower products are comprised
of AC and DC motors and gearmotors having power ranges from 1/8 to 300
horsepower. Primary end markets for these motors include commercial floor care
equipment, commercial dishwashers, commercial sewing machines, industrial
ventilation equipment, golf carts, lift trucks and elevators.
The Company's precision gear and gearbox products are produced in
sizes of up to 16 inches in diameter and in various customized configurations
such as pump, bevel, worm and helical gears. Primary end markets for these
products include original equipment manufacturers ("OEMs") of motors,
commercial floor care equipment, aerospace and food processing product
equipment.
The Company's motion control systems are used primarily in the
elevator modernization market. The systems typically control several
components such as electric motors, hydraulic or pneumatic valves, actuators
and switches that are required for the elevator systems to function properly.
36
Measurement of Segment Operating Income and Segment Assets
The Company evaluates performance and allocates resources based on
operating income. The accounting policies of the reportable segments are the
same as those described in Note 2, "Summary of Significant Accounting
Policies". No single customer accounts for 10% or more of consolidated net
sales. Identifiable assets are those used by each segment in its operations.
Corporate assets consist primarily of cash, due from affiliate, investment in
affiliate and deferred financing fees.
37
Factors Used to Identify the Enterprise's Reportable Segments
The Company's reportable segments are business units that offer
different products. The reportable segments are each managed separately
because they manufacture and distribute distinct products with different
production processes.
Summary financial information by business segment is as follows: