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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OF 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER 333-40076
KNOWLES ELECTRONICS HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 36-2270096
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
1151 MAPLEWOOD DRIVE 60143
ITASCA, ILLINOIS (Zip Code)
(Address of principal executive offices)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE:
(630) 250-5100
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the Registrant is an accelerated filer(as
defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
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TABLE OF CONTENTS
PAGE
----
PART I -- FINANCIAL INFORMATION
Item 1. Financial Statements Consolidated Statements of Operations
for the three months ended March 31, 2003 and 2002.......... 2
Consolidated Balance Sheets as of March 31, 2003 and
December 31, 2002........................................... 3
Consolidated Statements of Cash Flows for the three months
ended March 31, 2003 and 2002............................... 4
Notes to the Consolidated Financial Statements.............. 5
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................... 14
Item 3. Qualitative and Quantitative Disclosures about Market
Risk........................................................ 19
Item 4. Controls and Procedures..................................... 19
PART II -- OTHER INFORMATION
Item 1. Legal Proceedings -- None
Item 2. Changes in Securities and Use of Proceeds -- None
Item 3. Defaults Upon Senior Securities -- None
Item 4. Submission of Matters to a Vote of Security Holders -- None
Item 5. Other Information -- None
Item 6. Exhibits and Report on Form 8-K
Signatures
Certifications
1
KNOWLES ELECTRONICS HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS ENDED
MARCH 31,
-------------------
2003 2002
-------- --------
(IN THOUSANDS)
(UNAUDITED)
Net sales................................................... $51,596 $51,006
Cost of sales............................................... 29,200 29,661
------- -------
Gross margin................................................ 22,396 21,345
Research and development expenses........................... 2,818 3,479
Selling and marketing expenses.............................. 3,224 3,604
General and administrative expenses......................... 6,605 6,346
Restructuring expenses...................................... -- 11
------- -------
Operating income............................................ 9,749 7,905
Other income (expense):
Interest income........................................... 25 2
Interest expense.......................................... (9,326) (8,896)
------- -------
Income (loss) before income taxes........................... 448 (989)
Income tax (benefit)........................................ 394 (582)
------- -------
Net income (loss)........................................... $ 54 $ (407)
======= =======
2
KNOWLES ELECTRONICS HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS
MARCH 31 DECEMBER 31
2003 2002
------------- ------------
(IN THOUSANDS)
(UNAUDITED)
ASSETS
Current Assets:
Cash and cash equivalents................................. 21,945 $ 24,082
Accounts receivable, net.................................. 33,647 31,455
Inventories, net.......................................... 29,519 31,618
Prepaid expenses and other................................ 6,142 6,446
--------- ---------
Total current assets........................................ 91,253 93,601
Property, plant and equipment, at cost:
Land........................................................ 3,722 3,719
Building and improvements................................... 23,895 23,694
Machinery and equipment..................................... 58,668 57,920
Furniture and fixtures...................................... 28,372 28,076
Construction in progress.................................... 5,851 4,866
--------- ---------
Subtotal............................................... 120,508 118,275
Accumulated depreciation.................................... (74,326) (71,202)
--------- ---------
Net.................................................... 46,182 47,073
Other assets, net........................................... 1,407 1,726
Deferred finance costs, net................................. 8,445 8,058
Deferred income taxes....................................... 185 159
--------- ---------
Total assets................................................ $ 147,472 $ 150,617
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable.......................................... $ 14,695 $ 15,010
Accrued compensation and employee benefits................ 8,552 7,444
Accrued interest payable.................................. 11,916 7,253
Accrued warranty and rebates.............................. 6,096 8,790
Accrued restructuring costs............................... 673 1,234
Other liabilities......................................... 5,668 4,918
Income taxes.............................................. 6,527 7,124
Short term debt........................................... 2,415 2,120
Current portion of notes payable.......................... 3,288 12,452
--------- ---------
Total current liabilities................................... 59,830 66,345
Accrued pension liability................................... 13,059 12,566
Notes payable............................................... 331,366 328,908
Preferred stock mandatorily redeemable in 2019 including
accumulating dividends.................................... 264,703 258,547
Stockholders' equity (deficit):
Common stock.............................................. -- --
Capital in excess of par value............................ 16,838 16,838
Accumulated deficit....................................... (531,853) (525,752)
Accumulated other comprehensive loss...................... (6,471) (6,835)
--------- ---------
Total stockholders' equity (deficit)........................ (521,486) (515,749)
--------- ---------
Total liabilities and stockholders' equity (deficit)........ $ 147,472 $ 150,617
========= =========
3
KNOWLES ELECTRONICS HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
THREE MONTHS ENDED
MARCH 31,
-------------------
2003 2002
-------- --------
(IN THOUSANDS)
(UNAUDITED)
OPERATING ACTIVITIES
Net income (loss)........................................... $ 54 $ (407)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation and amortization............................. 2,776 3,489
Restructuring costs....................................... -- 11
Amortization and write-off of deferred financing fees and
debt discount.......................................... 1,271 729
Inventory obsolescence provision.......................... 641 767
Deferred income taxes..................................... (26) (39)
Stock compensation expense................................ -- 200
Change in assets and liabilities:
Accounts receivable.................................... (1,954) (1,949)
Inventories............................................ 1,621 971
Other assets........................................... 666 297
Accounts payable....................................... (383) (4,225)
Accrued restructuring costs............................ (561) (1,004)
Accrued interest payable............................... 4,663 4,848
Accrued compensation and benefits...................... 1,033 775
Other current liabilities.............................. (3,238) (1,539)
Other noncurrent liabilities........................... 493 250
Income taxes payable................................... (597) (1,857)
------- -------
Net cash provided by operating activities................... 6,459 1,317
INVESTING ACTIVITIES
Purchases of property, plant, and equipment, net............ (1,976) (2,890)
------- -------
Net cash used in investing activities....................... (1,976) (2,890)
FINANCING ACTIVITIES
Debt payments -- long term.................................. (41,704) --
Debt proceeds -- long term.................................. 35,000 --
Debt proceeds -- short term, net............................ 234 6,292
Costs associated with debt.................................. (461) (8)
Repurchase of common stock.................................. -- (200)
------- -------
Net cash (used in) provided by financing activities......... (6,931) 6,084
Effect of exchange rate changes on cash..................... 311 (92)
------- -------
Net change in cash and cash equivalents..................... (2,137) 4,419
Cash and cash equivalents at beginning of period............ 24,082 2,446
------- -------
Cash and cash equivalents at end of period.................. $21,945 $ 6,865
======= =======
4
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS)
MARCH 31, 2003 AND 2002
(UNAUDITED)
1. BASIS OF RECAPITALIZATION AND PRESENTATION
On June 23, 1999, the Company entered into a recapitalization agreement
with Key Acquisition L.L.C. (the Investor), and the preexisting common
stockholders' of the Company. All of the membership interests of Key Acquisition
LLC are held by limited partnerships for which Doughty Hanson & Co. Limited or
its affiliates ("Doughty Hanson") act as general partner. The recapitalization
transaction (the Recapitalization) closed on June 30, 1999.
On June 29, 1999 the Company distributed the equipment financing business
and certain real estate of the Company to certain preexisting stockholders in
exchange for 10% of the common stock. On June 30, 1999 the Company used the
proceeds from the sale of the preferred and common stock in addition to funds
obtained from a senior credit facility and bridge notes to finance the purchase
of 90% of the remaining 90% of the preexisting stockholders' common shares.
The Recapitalization has been treated as a leveraged recapitalization in
which the issuance of the debt has been accounted for as a financing
transaction, the sales and purchases of the Company's stock have been accounted
for as capital transactions at amounts paid or received, and no changes were
made to the carrying values of the Company's assets and liabilities.
The amount payable to our preexisting stockholders for the repurchase of
their common stock in the Recapitalization was subject to a post-closing
adjustment. As a result, the Company paid the preexisting stockholders
approximately $8.3 million, plus $0.7 million in interest. The price adjustment
was recorded as a reduction to stockholders' equity.
For the three months ended March 31, 2003 and 2002, total comprehensive
income (loss) amounted to $418 and ($886), respectively. The difference between
net income (loss) and comprehensive income (loss) is related primarily to the
Company's foreign currency translation.
In June 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 143, "Accounting for
Asset Retirement Obligations," which is effective for fiscal years beginning
after June 15, 2002. The Statement requires legal obligations associated with
the retirement of long-lived assets to be recognized at their fair value at the
time that the obligations are incurred. Upon initial recognition of a liability,
that cost should be capitalized as part of the related long-lived asset and
allocated to expense over the useful life of the asset. We adopted SFAS No. 143
as of January 1, 2003, and there was no material impact on our financial
position or results of operations.
In June 2002, the Financial Accounting Standards Board issued SFAS No. 146,
"Accounting for Cost Associated with Exit or Disposal Activities," which changes
the timing of the recognition of restructuring charges. Liabilities for
restructuring costs will be required to re recognized when the liability is
incurred rather than when we commit to the plan. SFAS No. 146 is effective for
restructuring activity initiated after December 31, 2002. The adoption of this
statement did not have a material impact on our financial position, results of
operations or cash flows.
In November 2002, the FASB issued FASB Interpretation (FIN) No. 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others". FIN No. 45 clarifies that a
guarantor is required to recognize, at the inception of a guarantee, a liability
for the fair value of the obligation undertaken in issuing the guarantee. We
adopted the provisions of FIN No. 45 on January 1, 2003 for all new or amended
guarantees subsequent to that date.
The accompanying unaudited consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States for interim financial information. Accordingly, they do not
include all of the information and footnotes required by generally accepted
accounting principles
5
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS) -- (CONTINUED)
for complete financial statements. In the opinion of our management, all
adjustments, consisting of normal recurring accruals, necessary for a fair
presentation have been included. Certain prior year amounts have been
reclassified to conform to current year presentation. The results for the period
ended March 31, 2003 do not necessarily indicate the results that may be
expected for the full year ending December 31, 2003. For further information,
refer to the Company's consolidated financial statements and notes thereto
included in the Company's Form 10-K dated for the year ended December 31, 2002.
2. INVENTORY
Inventories are as follows:
MARCH 31, DECEMBER 31,
2003 2002
--------- ------------
Raw materials & components.................................. $18,705 $19,896
Work in process............................................. 2,549 2,772
Finished goods.............................................. 14,865 16,644
------- -------
36,119 39,312
Less allowances for:
Obsolescence and net realizable value..................... 6,600 7,694
------- -------
$29,519 $31,618
======= =======
3. NOTES PAYABLE
As part of the Recapitalization transaction, the Company entered into a
Senior Credit Agreement dated June 28, 1999 and amended and restated as of July
21, 1999, and further amended as of December 23, 1999, April 10, 2000, December
12, 2001, May 10, 2002 and March 25, 2003 with certain lenders ("Senior Credit
Agreement"). The Company obtained a Limited Waiver and Amendment dated as of
March 25, 2003 under which the remaining balance of the Term A Facility was
repaid and replaced by a $35,000 Term C Facility due June 29, 2007 with a fixed
interest rate of 18.50%. The Limited Waiver and Amendment waives the required
interest coverage ratio and leverage ratio from the effective date of the
Amendment through June 29, 2003 and amends these ratios for the remainder of the
Credit Agreement. The Limited Waiver and Amendment also increased the Term B
Facility interest rate and the Revolving Credit Facility interest rate by 0.5
percentage points, provided for additional interest to accrue on the B Facility
at the rate of $420 per year (subject to reduction in the event of a prepayment
of the B Facility) to be paid at the maturity of the facility (or in certain
cases, at an earlier date) modified the Term B Facility installment payments,
and reduced the Revolving Credit Facility to $15,000.
The Senior Credit Agreement as amended consists of approximately $195,000
(effective March 31, 2003), which provides for revolving loans of $15,000
(Revolving Credit Facility) through June 30, 2006 (unless the Term B Facility is
paid in full prior to such date in which case the Revolving Credit Facility will
cease to exist and any amounts outstanding thereunder shall become due and
payable), a Term B Facility of $145,000 (Term B Facility), which matures on June
29, 2007, and a Term C Facility of $35,000 (Term C Facility), which matures on
June 29, 2007. The Revolving Credit facility bears interest, at the Company's
option, at either: (1) one-, two-, three-, or six-month LIBOR plus 4.0% (as
amended March 25, 2003), or (2) the greater of the prime rate, a base
certificate of deposit rate plus 1.00%, or the federal funds effective rate plus
0.50% (the Alternate Base Rate), in each case plus an initial margin of 3% as of
March 31, 2003. The Term B Facility bears interest, at the Company's option, at
either: (1) one-, two-, three-, or six-month LIBOR plus 5.00% (as of March 31,
2003), or (2) Alternate Base Rate plus an initial margin of 4.00%. In addition,
as of March 31, 2003, the B Facility will accrue additional interest at the rate
of approximately $420 per year (subject to reduction in the event of a
prepayment of the B Facility), to be paid at the maturity of the
6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS) -- (CONTINUED)
facility (or, in certain cases, at an earlier date). The Term C Facility bears
interest at a fixed rate of 18.5% of which 13% is payable in cash, and the
remainder, at the Company's option, payable in cash or increased principal. The
percentage rate that is payable in cash increases 1.0 percentage point on March
31 of each year. At March 31, 2003, the weighted average interest rate was 6.25%
for the Term B Facility and 18.5% for the Term C Facility.
The balance under the Term A Facility, Term B Facility, Term C Facility,
the 13 1/8% Senior Subordinated Notes ("13 1/8% Notes"), the 10% Senior
Subordinated Notes ("10% Notes") and the long-term debt of our Austrian
subsidiary is as follows:
MARCH 31, DECEMBER 31,
2003 2002
--------- ------------
Term A facility............................................. $ -- $ 33,461
Term B facility............................................. 136,900 144,998
Term C Facility............................................. 35,000 --
13 1/8% Senior Subordinated Notes, net of discount.......... 151,098 151,163
10% Senior Subordinated Notes............................... 10,000 10,000
Austrian subsidiary long term debt due September 2006....... 1,040 1,145
Austrian subsidiary long term debt due June 2006............ 616 593
-------- --------
334,654 341,360
Less: Current portion....................................... 3,288 12,452
-------- --------
Total long-term notes payable............................... $331,366 $328,908
======== ========
At March 31, 2003 short-term debt includes $2,415 drawn against a line of
credit by our Austrian subsidiary.
The 13 1/8% Notes were issued in a private placement on October 1, 1999 and
are due October 15, 2009 with interest payable semiannually at 13 1/8%
commencing April 15, 2000. The Company subsequently exchanged all of the
privately placed 13 1/8% Notes for a like amount of identical 13 1/8% Notes
registered with the Securities and Exchange Commission on October 20, 2000. The
13 1/8% Notes rank equally with all other unsecured senior subordinated
indebtedness of the Company. The 13 1/8% Notes are junior to all of the
Company's current and future indebtedness, except indebtedness which is
expressly not senior to the 13 1/8% Notes.
The 10% Notes were issued in a private placement on August 29, 2002 and are
due October 15, 2009 with interest payable semiannually at 10% commencing April
15, 2003. The 10% Notes rank equally with all other unsecured senior
subordinated indebtedness of the Company. The 10% Notes were purchased by an
affiliate of Doughty Hanson & Co., Ltd., a private equity concern which controls
the equity of Knowles.
The Company's Senior Credit Agreement requires that the Company comply with
certain covenants and restrictions, including specific financial ratios that
must be maintained. If future actual results are lower than planned the Company
may be unable to comply with the debt covenants or make required debt service
payments. Such inability could have a material adverse impact on the Company's
financial condition, results of operations or liquidity. There are no assurances
that the Company could favorably resolve such a situation.
As security for the obligations under the Senior Credit Agreement the
Company has pledged all of the shares of its U.S. subsidiaries and 65% of the
shares of its non-U.S. subsidiaries and has granted the lenders a security
interest in substantially all of its assets and the assets of its U.S.
subsidiaries.
The 13 1/8% Notes and 10% Notes (collectively "Subordinated Notes") are
unconditionally guaranteed, on a joint and several basis, by the following
wholly owned U.S. subsidiaries of the Company: Knowles Electronics LLC, Knowles
Intermediate Holding, Inc., Emkay Innovative Products, Inc., Knowles Manufac-
7
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS) -- (CONTINUED)
turing Ltd., and Synchro-Start Products, Inc. The following tables present
summarized balance sheet information of the Company as of March 31, 2003 and
December 31, 2002, summarized income statements for the three ended March 31,
2003 and 2002, and summarized cash flow information for the three months ended
March 31, 2003 and 2002. The column labeled "Parent Company" represents the
holding company for each of the Company's direct subsidiaries, which are
guarantors of the Subordinated Notes, all of which are wholly owned by the
parent company; and the column labeled "Non-guarantors" represents wholly owned
subsidiaries of the Guarantors, which are not guarantors of the Subordinated
Notes. Pursuant to a contribution agreement effective August 30, 1999, Knowles
Electronics, Inc., recognized in prior periods as the parent company,
contributed substantially all of its operating assets and liabilities (other
than the capital stock of Knowles Intermediate Holding, Inc. and certain foreign
subsidiaries and Knowles Electronics, Inc.'s liabilities under the Senior Credit
Agreement and Subordinated Notes) to Knowles Electronics, LLC, a newly created
Delaware limited liability company. As a result of this reorganization, Knowles
Electronics, Inc., which changed its name to Knowles Electronics Holdings, Inc.,
is now a holding company that does not conduct any significant operations. The
Company believes that separate financial statements and other disclosures
regarding the Guarantors, except as otherwise required under Regulation S-X, are
not material to investors.
Summarized balance sheet information as of March 31, 2003 and December 31,
2002, summarized income statement for the three ended March 31, 2003 and 2002,
and summarized cash flow information for the three months ended March 31, 2003
and 2002 is as follows:
MARCH 31, 2003
---------------------------------------------------------------------
NON-
PARENT GUARANTORS GUARANTORS ELIMINATIONS CONSOLIDATED
--------- ---------- -------------- ------------ ------------
Cash............................. $ 2,930 $ 12,467 $ 6,548 $ -- $ 21,945
Accounts receivable.............. -- 30,789 60,964 (58,106) 33,647
Inventories...................... -- 11,165 18,354 -- 29,519
Other current assets............. -- 818 5,324 -- 6,142
Net property, plant and
equipment...................... -- 21,079 25,103 -- 46,182
Investment in and advances to
subsidiaries................... 101,347 266,675 1,324 (369,346) --
Deferred finance costs, net...... 8,445 -- -- -- 8,445
Deferred income taxes............ -- -- 185 -- 185
Other non-current assets......... -- 793 614 -- 1,407
--------- -------- -------- --------- ---------
Total assets..................... $ 112,722 $343,786 $118,416 $(427,452) $ 147,472
========= ======== ======== ========= =========
Accounts payable................. $ -- $ 28,417 $ 43,877 $ (57,599) $ 14,695
Accrued restructuring costs...... -- 599 74 -- 673
Advances from parent............. 142,228 58,732 4,302 (205,262) --
Other current liabilities........ 11,026 17,590 10,653 (510) 38,759
Short-term debt.................. 2,815 -- 2,888 -- 5,703
Noncurrent liabilities........... -- 10,562 2,497 -- 13,059
Notes payable.................... 330,183 -- 1,183 -- 331,366
Preferred stock.................. 264,703 -- -- -- 264,703
Stockholders' equity (deficit)... (638,233) 227,886 52,942 (164,081) (521,486)
--------- -------- -------- --------- ---------
Total liabilities and
stockholders' equity
(deficit)...................... $ 112,722 $343,786 $118,416 $(427,452) $ 147,472
========= ======== ======== ========= =========
8
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS) -- (CONTINUED)
DECEMBER 31, 2002
---------------------------------------------------------------------
NON-
PARENT GUARANTORS GUARANTORS ELIMINATIONS CONSOLIDATED
--------- ---------- -------------- ------------ ------------
Cash............................. $ 9,614 $ 7,581 $ 6,887 $ -- $ 24,082
Accounts receivable.............. -- 32,021 66,365 (66,931) 31,455
Inventories...................... -- 13,215 18,403 -- 31,618
Other current assets............. -- 2,268 4,178 -- 6,446
Net property, plant and
equipment...................... -- 22,152 24,921 -- 47,073
Investment in and advances to
subsidiaries................... 101,347 246,110 425 (347,882) --
Deferred finance costs, net...... 8,058 -- -- -- 8,058
Deferred income taxes............ -- -- 159 -- 159
Other non-current assets......... -- 1,132 594 -- 1,726
--------- -------- -------- --------- ---------
Total assets................ $ 119,019 $324,479 $121,932 $(414,813) $ 150,617
========= ======== ======== ========= =========
Accounts payable................. $ -- $ 41,929 $ 39,164 $ (66,083) $ 15,010
Accrued restructuring costs...... -- 1,082 152 -- 1,234
Advances from parent............. 137,293 45,373 5,149 (187,815) --
Other current liabilities........ 6,361 19,902 10,113 (847) 35,529
Short-term debt.................. 11,996 -- 2,576 -- 14,572
Noncurrent liabilities........... -- 10,101 2,465 -- 12,566
Notes payable.................... 327,626 -- 1,282 -- 328,908
Preferred stock.................. 258,547 -- -- -- 258,547
Stockholders' equity (deficit)... (622,804) 206,092 61,031 (160,068) (515,749)
--------- -------- -------- --------- ---------
Total liabilities and
stockholders' equity
(deficit)................. $ 119,019 $324,479 $121,932 $(414,813) $ 150,617
========= ======== ======== ========= =========
THREE MONTHS ENDED MARCH 31, 2003
---------------------------------------------------------------------
PARENT GUARANTORS NON-GUARANTORS ELIMINATIONS CONSOLIDATED
--------- ---------- -------------- ------------ ------------
Net Sales........................ $ -- $ 40,444 $ 45,562 $ (34,410) $ 51,596
Cost of sales.................... -- 22,735 40,715 (34,250) 29,200
--------- -------- -------- --------- ---------
Gross margin..................... -- 17,709 4,847 (160) 22,396
Selling, research and
administrative expenses........ -- 9,946 2,868 (167) 12,647
--------- -------- -------- --------- ---------
Operating income................. -- 7,763 1,979 7 9,749
Other income (expense):
Interest income................ -- 500 6 (481) 25
Interest expense............... (9,272) (441) (91) 478 (9,326)
Dividend income................ -- 29,020 -- (29,020) --
--------- -------- -------- --------- ---------
Income (loss) before taxes....... (9,272) 36,842 1,894 (29,016) 448
Income taxes..................... -- (42) (352) -- (394)
--------- -------- -------- --------- ---------
Net income (loss)................ $ (9,272) $ 36,800 $ 1,542 $ (29,016) $ 54
========= ======== ======== ========= =========
9
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS) -- (CONTINUED)
THREE MONTHS ENDED MARCH 31, 2002
---------------------------------------------------------------------
NON-
PARENT GUARANTORS GUARANTORS ELIMINATIONS CONSOLIDATED
--------- ---------- -------------- ------------ ------------
Net Sales........................ $ -- $ 31,928 $ 46,318 $ (27,240) $ 51,006
Cost of sales.................... -- 21,793 34,990 (27,122) 29,661
--------- -------- -------- --------- ---------
Gross margin..................... -- 10,135 11,328 (118) 21,345
Selling, research and
administrative expenses........ -- 9,401 4,145 (117) 13,429
Restructuring expenses........... -- -- 11 -- 11
--------- -------- -------- --------- ---------
Operating income................. -- 734 7,172 (1) 7,905
Other income (expense):
Interest income................ -- 516 161 (675) 2
Interest expense............... (8,850) (349) (326) 629 (8,896)
Dividend income................ -- 4,642 -- (4,642) --
--------- -------- -------- --------- ---------
Income (loss) before taxes....... (8,850) 5,543 7,007 (4,689) (989)
Income taxes..................... -- 2,500 (1,918) -- 582
--------- -------- -------- --------- ---------
Net income (loss)................ $ (8,850) $ 8,043 $ 5,089 $ (4,689) $ (407)
========= ======== ======== ========= =========
THREE MONTHS ENDED MARCH 31, 2003
-------------------------------------------------------------------
PARENT GUARANTORS NON-GUARANTORS ELIMINATIONS CONSOLIDATED
------- ---------- -------------- ------------ ------------
Net cash provided by (used in)
operating activities............. $(4,599) $28,432 $11,646 $(29,020) $ 6,459
Equity contributions into
subsidiaries..................... -- (4,020) -- 4,020 --
Purchases of property, plant and
equipment, net................... -- (1,361) (615) -- (1,976)
------- ------- ------- -------- --------
Net cash used in investing
activities....................... -- (5,381) (615) 4,020 (1,976)
Debt payments -- long term......... (41,559) -- (145) -- (41,704)
Debt proceeds -- long term......... 35,000 -- -- -- 35,000
Debt proceeds (payments) -- short
term, net........................ -- 234 234
Intercompany loans................. 4,935 (3,188) (1,747) -- --
Costs associated with debt......... (461) -- -- -- (461)
Intercompany dividends............. -- (15,000) (14,020) 29,020 --
Equity contributions into
subsidiaries..................... -- -- 4,020 (4,020) --
------- ------- ------- -------- --------
Net cash provided by (used in)
financing activities............. (2,085) (18,188) (11,658) 25,000 (6,931)
Effect of exchange rate changes on
cash............................. -- -- 311 311
------- ------- ------- -------- --------
Net change in cash and cash
equivalents...................... (6,684) 4,863 (316) -- (2,137)
Cash and cash equivalents at
beginning of period.............. 9,614 7,604 6,864 -- 24,082
------- ------- ------- -------- --------
Cash and cash equivalents at end of
period........................... $ 2,930 $12,467 $ 6,548 $ -- $ 21,945
======= ======= ======= ======== ========
10
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS) -- (CONTINUED)
THREE MONTHS ENDED MARCH 31, 2002
------------------------------------------
PARENT GUARANTORS NON-GUARANTORS ELIMINATIONS CONSOLIDATED
------- ---------- -------------- ------------ ------------
Net cash provided by (used in)
operating activities............. $(3,140) $5,729 $3,370 $(4,642) $1,317
------- ------ ------ ------- ------
Equity contributions into
subsidiaries..................... -- (774) -- 774 --
Purchases of property, plant and
equipment, net................... -- (1,685) (1,205) -- (2,890)
------- ------ ------ ------- ------
Net cash used in investing
activities....................... -- (2,459) (1,205) 774 (2,890)
Debt proceeds (payments)........... 6,250 -- 42 -- 6,292
Common stock transactions.......... (200) -- -- -- (200)
Intercompany loans................. 340 (957) 617 -- --
Costs associated with debt......... (8) -- -- -- (8)
Intercompany dividends............. -- (2,321) (2,321) 4,642 --
Equity contributions into
subsidiaries..................... -- -- 774 (774) --
------- ------ ------ ------- ------
Net cash provided by (used in)
financing activities............. 6,382 (3,278) (888) 3,868 6,084
Effect of exchange rate changes on
cash............................. -- -- (92) -- (92)
------- ------ ------ ------- ------
Net change in cash and cash
equivalents...................... 3,242 (8) 1,185 -- 4,419
Cash and cash equivalents at
beginning of period.............. 5 32 2,409 -- 2,446
------- ------ ------ ------- ------
Cash and cash equivalents at end of
period........................... $ 3,247 $ 24 $3,594 $ -- $6,865
======= ====== ====== ======= ======
4. SEGMENTS AND GEOGRAPHICAL INFORMATION
The Company's continuing business consists of three operating segments:
hearing aid components, acoustic and infrared technology, and automotive
components. These three operating segments were determined based on the
applications and markets for the Company's products.
The hearing aid components operating segment utilizes the Company's
acoustic technologies to design, manufacture, and market transducers and other
components for hearing aids. The acoustic and infrared technology operating
segment utilizes the Company's acoustic and infrared technologies to design,
manufacture, and market products for high growth markets, including mobile
communications, computer telephony integration telematics (voice controlled
wireless services delivered to an automobile environment) and home entertainment
systems. The automotive component operating segment designs, manufactures, and
markets diesel engine solenoids, electronic governors, and position sensors
primarily for use in automobiles, trucks, and off road vehicles.
11
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS) -- (CONTINUED)
The Company uses the following financial information presented below to
assess performance and make resource allocation decisions:
ACOUSTIC AND
HEARING AID INFRARED AUTOMOTIVE
COMPONENTS TECHNOLOGY COMPONENTS TOTAL
----------- ------------ ---------- -------
Three months ended March 31, 2003
Revenues from external customers............... $32,338 $11,023 $ 8.235 $51,596
Operating income............................... 12,059 458 1,252 13,769
Three months ended March 31, 2002
Revenues from external customers............... $31,801 $ 7,531 $11,674 $51,006
Operating income (loss)........................ 11,399 (899) 512 11,012
The following is a reconciliation of segment operating income to the
Company's consolidated totals:
THREE MONTHS ENDED
MARCH 31,
-------------------
2003 2002
-------- --------
Total operating income for reportable segments.............. $13,769 $11,012
Unallocated amount -- corporate overhead.................... (4,020) (3,107)
------- -------
Total consolidated operating income (loss).................. 9,749 7,905
Other expense............................................... (9,301) (8,894)
------- -------
Income (loss) before income taxes........................... $ 448 $ (989)
------- -------
Geographic Information
Revenues (based on billing location of product shipment)
United States............................................. $28,970 $26,552
Germany................................................... -- 3,785
United Kingdom............................................ 12,117 13,229
Other geographic areas.................................... 10,509 7,440
------- -------
$51,596 $51,006
======= =======
5. RESTRUCTURING EXPENSES
The Company announced a major restructuring in March 2000 under which the
Company consolidated its worldwide manufacturing operations by ending production
at five manufacturing facilities and either outsourced component production or
moved final assembly to lower cost locations in Malaysia, China and Hungary. The
following table presents the restructure costs and payments for the period.
ACCRUED
RESTRUCTURING RESTRUCTURING
EXPENSES COSTS
------------- -------------
Balance December 31, 2002................................... $1,234
Employee severance and outplacement payments................ -- (561)
----- ------
Balance March 31, 2003...................................... $ -- $ 673
===== ======
The majority of the remaining liability balance is expected to be paid out
in 2003.
12
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS) -- (CONTINUED)
6. ACCRUED WARRANTY LIABILITY
The Company provides an accrual for estimated future warranty costs at the
time products are sold and periodically adjusts the accrual to reflect actual
experience. The warranty on products sold generally extends from one to three
years.
Changes in the Company's accrual for warranty during the period are as
follows:
MARCH 31,
2003
---------
Balance, December 31, 2002.................................. $4,884
Settlements made during the period.......................... (802)
Provision for warranty liability for 2003 sales............. 302
Adjustments in estimates for pre-existing warranties........ (276)
------
Balance, March 31, 2003..................................... $4,108
======
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The following table shows our net sales growth for the first quarter of
2003 and 2002 compared to the same periods of their respective prior years for
each of our three operating segments.
FIRST QUARTER
---------------------------
2003 VS 2002 2002 VS 2001
------------ ------------
KE.......................................................... 1.7% (1.3)%
Emkay....................................................... 46.4% (6.4)%
Automotive Components....................................... (29.4)% (19.3)%
Total............................................. 1.2% (6.8)%
Sales for the first quarter of 2003 increased 1% compared to the first
quarter of 2002. The KE Division sales were up slightly in the first quarter
with most of the increase due to changes in mix of products sold, offsetting
lower unit volume. The Emkay Division sales increased 46% in the first quarter
due to higher sales in the infrared and components businesses. The Automotive
Components Group sales declined 29% for the quarter due to the sale of the Ruf
business in November 2002. The SSPI portion of the Automotive Components segment
increased by 8% in the quarter compared to the first quarter of 2002.
CONSOLIDATED RESULTS OF OPERATIONS
The following table shows the principal line items from our consolidated
income statements, as a percentage of our net sales, for the first quarter of
2003 and 2002.
THREE MONTHS
ENDED MARCH 31,
---------------
2003 2002
------ ------
Net sales................................................... 100.0% 100.0%
Cost of sales............................................... 56.6% 58.2%
Research and development.................................... 5.5% 6.8%
Sales and marketing expense................................. 6.2% 7.1%
General and administrative expense.......................... 12.8% 12.4%
----- -----
Income from operations...................................... 18.9% 15.5%
EBITDA(1)................................................... 24.3% 22.4%
- ---------------
(1) "EBITDA" is defined as earnings before interest, taxes, depreciation and
amortization. EBITDA should not be construed as an alternative to operating
income, or net income, as determined in accordance with GAAP, as an
indicator of our operating performance, or as an alternative to cash flows
generated by operating, investing and financing activities. EBITDA is
presented solely as a supplemental disclosure because we believe that it is
a widely used measure of operating performance. Because EBITDA is not
calculated under GAAP, it may not be comparable to similarly titled measures
reported by other companies. The difference between Income from Operations
and EBITDA is depreciation and amortization of 5.4% and 6.9% for the
quarters ended March 31, 2003 and 2002 respectively.
Operating income and EBITDA, as a percentage of net sales were 18.9% and
24.3%, respectively, for the quarter ended March 31, 2003. Operating income and
EBITDA, as a percentage of net sales, were 15.5% and 22.4%, respectively, for
the quarter ended March 31, 2002. The higher operating income and EBITDA in the
first quarter of 2003 compared to 2002 is due to improved results in all three
operating segments, as discussed below.
14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS -- (CONTINUED)
QUARTER ENDED MARCH 31, 2003 COMPARED TO QUARTER ENDED MARCH 31, 2002
The following table sets forth net sales by segment and segment net sales
as a percent of total sales.
PERCENT OF
NET SALES TOTAL SALES
--------------- ---------------
QUARTER ENDED QUARTER ENDED
MARCH 31, MARCH 31,
--------------- ---------------
SEGMENT 2003 2002 2003 2002
- ------- ------ ------ ------ ------
(IN MILLIONS, EXCEPT PERCENTAGES)
KE..................................................... $32.4 $31.8 62.7% 62.3%
Emkay.................................................. 11.0 7.5 21.3% 14.8%
Automotive Components.................................. 8.2 11.7 16.0% 22.9%
----- ----- ----- -----
Total.................................................. $51.6 $51.0 100.0% 100.0%
===== ===== ===== =====
Consolidated sales increased $0.6 million or 1.2% in the first quarter 2003
compared to the same quarter of 2002. The Automotive Components Group sales
declined in the first quarter due to the November, 2002 sale of the Ruf
business. Excluding the impact of the Ruf sale, sales for the Automotive
Components segments increased 8% in the first quarter. KE Group sales increased
by 2% in the first quarter, due to a change in mix of product offsetting lower
unit volume, and due to an increase in the Deltek controls businesses. The Emkay
Group sales increased $3.5 million or 46 % in the first quarter of this year
compared to the same quarter last year. The increase occurred in the Infrared
controls business and in the Components business due to increased demand for
transducers in medical and other communication applications.
The following table sets forth cost of sales by segment and segment cost of
sales as a percent of segment net sales.
PERCENT OF
COST OF SALES SEGMENT SALES
--------------- ----------------
QUARTER ENDED QUARTER ENDED
MARCH 31, MARCH 31,
--------------- ----------------
SEGMENT 2003 2002 2003 2002
- ------- ------ ------ ------ ------
(IN MILLIONS, EXCEPT PERCENTAGES)
KE...................................................... $16.7 $16.7 51.6% 52.6%
Emkay................................................... 7.2 4.8 65.0% 63.2%
Automotive Components................................... 5.3 8.2 64.9% 69.9%
----- -----
Total................................................... $29.2 $29.7 56.6% 58.2%
===== =====
Consolidated cost of sales as a percent of sales decreased by 1.6
percentage points in the first quarter 2003 compared to the same period the
prior year. The KE Group's cost of sales declined by 1.0 percentage points,
primarily due to reduced costs. The Emkay Group's cost of sales increased by 1.8
percentage points, primarily due to the sales mix. The Automotive Components
Group cost of sales declined by 5.0 percentage points, primarily due to the sale
of Ruf in November 2002. Cost of sales as a percentage of sales in the first
quarter of 2003 in the SSPI business was consistent with last year.
15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS -- (CONTINUED)
The following table sets forth operating income by segment and segment
operating income as a percentage of segment net sales.
OPERATING PERCENT OF
INCOME SEGMENT SALES
--------------- ----------------
QUARTER ENDED QUARTER ENDED
MARCH 31, MARCH 31,
--------------- ----------------
2003 2002 2003 2002
------ ------ ------ -------
(IN MILLIONS, EXCEPT PERCENTAGES)
KE...................................................... $12.1 $11.4 37.3% 35.8%
Emkay................................................... 0.4 (0.9) 4.2% (11.9)%
Automotive Components................................... 1.2 0.5 15.2% 4.4%
Unallocated amount -- corporate overhead................ (4.0) (3.1)
----- -----
Total................................................... $ 9.7 $ 7.9 18.9% 15.5%
===== =====
The improvement in operating income for the first quarter 2003 compared to
the first quarter of 2002 is due to improved results in each of the segments.
Increases in sales and margin rates improved the overall gross margin. SG&A
expenses in the segments were comparable with the prior year. Corporate overhead
increased $0.9 million, primarily due to costs associated with the Credit
Agreement amendment in March, 2003.
The KE Group operating income increased by $0.7 million due to slightly
higher sales and improved gross margins.
The Emkay Group operating income improved by $1.3 million due to improved
sales and reduced research and development and general and administrative
expenses more than offsetting a decline in the gross margin rates.
The Automotive Components Group operating income increased by $0.7 million,
primarily due to the absence of Ruf, which was sold in November 2002 and had an
operating loss of $0.6 million in the first quarter of 2002.
Unallocated corporate expenses increased by $0.9 million in the first
quarter compared to the same quarter last year, primarily due to expenses
associated with the Credit Agreement amendment in March 2003 and certain
relocation expenses.
In connection with our June 1999 recapitalization, we currently have
significant senior debt and senior subordinated debt. As a result, interest
expense was $9.3 million the first quarter of this year compared to $8.9 million
the same quarter last year. The increase in interest expense is due to the
write-off in the first quarter of 2003 of $1.1 million of deferred finance costs
associated with the Term A Facility. Income tax expense was a $0.4 million
expense in the first quarter of 2003 compared to $0.6 million benefit in the
first quarter of 2002. We are providing tax consistent with the expected taxes
in foreign locations.
After interest expense and taxes, we reported net income of $0.1 million
for the first quarter of 2003 compared to a net loss of $0.4 million for the
same period last year.
LIQUIDITY AND CAPITAL RESOURCES
We have historically used available funds for capital expenditures,
inventory, accounts receivable, interest and principal repayment. These funds
have been obtained from operating activities and from lines of credit. In the
future, we will continue to have these needs, including repayments of principal
under our term loans of approximately $3.0 million annually in 2003 through
2005, and increasing amounts thereafter. We also will have substantial interest
expense of approximately $35 to $40 million each year.
16
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS -- (CONTINUED)
We are a holding company. Our subsidiaries conduct substantially all of our
consolidated operations and own substantially all of our consolidated assets.
Consequently, our cash flow and our ability to meet our debt service obligations
depends substantially upon the cash flow of our subsidiaries and the payment of
funds by our subsidiaries to us in the form of loans, dividends or otherwise.
In association with its recapitalization on June 30, 1999 the Company
borrowed $200 million under a Credit Agreement in two facilities, a Term A
Facility of $50 million and a Term B Facility of $150 million. On June 30, 1999,
the Company also borrowed $153.2 million under a senior subordinated note
agreement. The Company borrowed an additional $10 million in Senior Subordinated
Debt in August 2002, as required under the Amendment and Waiver to the Credit
Agreement dated May 10, 2002.
The Company obtained a Limited Waiver and Amendment dated March 25, 2003 to
the Credit Agreement. This amendment refinanced $31.7 million of the Credit
Agreement, replacing the balance of the original Term A Facility with a Term C
Facility and revised certain terms and conditions of the Credit Agreement. Under
this Amendment, the Company received agreement from its lenders to waive
compliance with the terms of certain ratios of EBITDA through June 29, 2003 and
to revise the terms of such ratios thereafter. The two primary ratios the
Company must maintain are the leverage ratio, which is total net debt divided by
EBITDA, and the interest coverage ratio, which is EBITDA, divided by net cash
interest expense. The Company is required to maintain its leverage ratio below a
specified level and its interest coverage ratio above a specified level.
The required ratios as amended for future years ends are as follows:
REQUIRED
REQUIRED INTEREST
LEVERAGE COVERAGE
RATIO RATIO
-------- --------
December 31, 2003........................................... 6.5 1.35
December 31, 2004........................................... 6.0 1.45
December 31, 2005........................................... 5.5 1.55
December 31, 2006........................................... 5.0 1.65
We expect to be able to comply with the required covenants. However, our
ability to meet these covenants is highly dependent upon market and competitive
conditions. If future results are lower than planned, the company may be unable
to comply with the debt covenants or make required debt service payments. Such
inability could have a material adverse impact on the Company's financial
condition, results of operations or liquidity.
The Limited Waiver and Amendment substantially revises the term of the
Credit Agreement. The interest rates were increased from 3.5 to 4 points above
LIBOR for the Revolving Credit Facility. The interest rates for the Term B
Facility were increased to 5 points above LIBOR. In addition, the agreement
provides for additional interest to accrue to the B Facility at the rate of
approximately $420,000 per year (subject to reduction in the event of a
prepayment of the B Facility), to be paid at the maturity of the facility (or,
in certain cases, at an earlier date). The refinancing provides for an interest
rate on the Term C Facility that totals 18.5%, a portion of which is payable in
cash on a monthly basis. The portion of interest that must be paid in cash on a
monthly basis for the Term C Facility is 13% for the year ending March 2004,
with the cash portion of interest increasing to 14% in the year ending March
2005 and by 1% per year thereafter. The remainder of the interest on the Term C
Facility shall, at the option of the Company, be paid in cash or accrue and be
added monthly to the outstanding principal balance of the C Facility and paid at
maturity, scheduled for June, 2007. The Amendment also provided that interest on
all revolving credit loans and loans under the Term B Facility be paid monthly.
17
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS -- (CONTINUED)
The Limited Waiver and Amendment dated March 25, 2003 reduced the Revolving
Credit Facility to $15 million and increased the quarterly amortization of the
Term B Facility to approximately $750,000 per quarter beginning June 30, 2003
through June 30, 2006, with the balance paid in four quarterly principal
payments from September 30, 2006 to June 29, 2007. The Amendment also provides
that in the event the B Facility is fully prepaid prior to June 30, 2006, the
Revolving Credit Facility will cease to be available to the Company and any
amounts outstanding thereunder shall thereupon become due and payable. The Term
C Facility is payable in full on June 29, 2007. The agreement also calls for the
Company to pay an upfront fee of approximately $350,000 to the Term B Facility
lenders as well as certain fees to the Term C Facility lenders.
Net cash provided by operating activities was $6.5 million in the first
quarter of 2003 compared to a $1.3 million generation of cash by operating
activities in the first quarter of 2002. Net income was a net profit of $0.1
million in the first quarter of this year compared to a net loss of $0.4 million
the first quarter of last year. Non-cash charges for depreciation declined by
$0.7 million in the first quarter compared to last year, primarily due to the
sale of Ruf. The non-cash charge related to the amortization of deferred finance
fees increased in the current year by $0.5 million due to the write-off of fees
associated with the Term A Facility, which has been repaid. Accounts payable
showed only a slight decline in the current year ($0.4 million) compared to the
prior year when it declined $4.2 million. Inventory declined by $1.6 million in
the first quarter of 2003 compared to a decline of $1.0 million in the prior
year. Other current liabilities declined by $3.2 million in the current year
compared to a decline of $1.5 million in the prior year, primarily due to a
decrease in the accrual for warranty and rebates.
Net cash used in investing activities was $2.0 million in the first quarter
this year compared to $2.9 million the first quarter of last year. Investing
activities for both years is primarily net purchases of property, plant and
equipment.
Net cash from financing activities was a use of $6.9 million in the first
quarter of 2003 compared to a source of $6.1 million in the first quarter of
2002. The activity in 2003 is primarily due to the completion of the borrowing
of the Term C Facility of $35 million, the payment of the $33.5 million of Term
A Facility and the payment of $7.7 million of principal of Term B Facility
associated with an excess cash calculation as of December, 2002.
Because of the net cash used in financing and investing activities, the
cash balances decreased in the first quarter of 2003 by $2.1 million. In the
first quarter of 2002, the cash balance increased due to additional borrowing.
Because of a significantly higher balance at the beginning of the year, our cash
balance as of March 31, 2003 was $21.9 million, compared to $6.9 million at
March 31 last year.
We expect capital expenditures of $12 to $14 million in 2003. We expect our
major capital expenditures in 2003 will be to support new product introductions
for Emkay, for new production equipment for KE, and for new product
introductions for SSPI. The amount and timing of actual capital expenditures may
be different than our current expectations.
FORWARD-LOOKING STATEMENTS
This Quarterly Report on Form 10-Q contains "forward-looking statements"
within the meaning of the Private Securities Litigation Reform Act of 1995.
These statements are based on the Company's current plans and expectations as of
the date of this document and involve risks and uncertainties that may cause
actual results to differ materially from the forward-looking statements.
Generally, the words "believe," "expect," "estimate," "anticipate," "will" and
similar expressions identify forward-looking statements.
Important factors that could cause such differences include, among others:
general economic conditions in the U.S. and worldwide; fluctuations in currency
exchange rates and interest rates; implementation of new software systems;
dependence on our largest customers and key suppliers; the competitive
environment applicable to the Company's operations; greater than expected
expenses associated with the Company's
18
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS -- (CONTINUED)
activities or personnel needs; changes in accounting assumptions; changes in
customers' business environments; regulatory, legislative and judicial
developments, including environmental regulations; ability to generate
sufficient liquidity to service debt obligations; and ability to maintain
compliance with debt covenants.
The risks included here are not exhaustive. New risk factors emerge from
time to time and it is not possible for management to predict all such risk
factors or to assess the impact of such risk factors on the Company's business.
Accordingly, the Company undertakes no obligation to publicly update or revise
any forward-looking statements, whether as a result of new information, future
events or otherwise.
ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to market risk from changes in foreign exchange
rates and interest rates.
We do not hedge our foreign currency exchange rate exposure. Therefore, we
are exposed to foreign currency exchange rate risks. Our revenues are primarily
denominated in the U.S. dollar and the Euro. During the first quarter of 2003,
approximately 84% of our revenue was denominated in U.S. dollars, approximately
13% of our revenue was denominated in Euros, and the balance was denominated in
other foreign currencies including the British pound and the Japanese yen. Our
expenses are principally denominated in the same currencies, in which we have
sales, allowing us to essentially hedge through offsetting revenue and expense
exposures. As a result, during the first quarter of 2003, our operating income
and margins were not significantly affected by the change in the Euro exchange
rate. Some of our expenses are denominated in the local currencies of Austria,
the United Kingdom, China, Japan, Malaysia and Taiwan, some of which are closely
tied to the U.S. dollar and Euro. Our primary exposure longer term is the
relation of the Euro to the U.S. dollar and major Asian currencies.
We do not invest in speculative or derivative financial instruments. We
have significant amounts of debt that are subject to interest rate fluctuation
risk. The amounts outstanding under the term loans of the Credit Agreement have
variable interest rates and, therefore, adjust to market conditions. An increase
or a decrease of 1 percentage point in the interest rate of the loans under the
Credit Agreement would change our annual interest expense by $1.4 million. We
have estimated the fair value of the notes as of March 31, 2003 to be $107.2
million based on current market prices.
ITEM 4. CONTROLS AND PROCEDURES
Within the 90 days prior to the date of this Quarterly Report, the Company
carried out an evaluation, under the supervision and with the participation of
the Company's management, including the Company's Chief Executive Officer and
Chief Financial Officer, of the effectiveness of the design and operation of the
Company's disclosure controls and procedures (as defined in Rules 13a-14(c) and
15d-14(c) under the Securities Exchange Act of 1934). Based upon that
evaluation, the Chief Executive Officer and Chief Financial Officer concluded
that the Company's disclosure controls and procedures are effective in ensuring
that information required to be disclosed in the reports the Company files and
submits under the Exchange Act is recorded, processed, summarized and reported
as and when required.
There were no significant changes in the Company's internal controls or in
other factors that could significantly affect such internal controls subsequent
to the date of the evaluation described in the paragraph above, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
19
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Quarterly Report on Form 10-Q for the quarter
ended March 31, 2003, to be signed on its behalf by the undersigned thereunto
duly authorized.
KNOWLES ELECTRONICS HOLDINGS, INC.
By /s/ JAMES H. MOYLE
------------------------------------
James H. Moyle,
Vice President & CFO,
(As duly authorized officer and as
the principal financial and
accounting officer)
Date: May 13, 2003
20
CERTIFICATION
I, John J. Zei, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Knowles
Electronics Holdings, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of material fact or omit to state any material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have;
a. designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b. evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c. presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrants auditors and the audit
committee of the registrant's board of directors (or persons performing the
equivalent function);
a. all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b. any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: May 13, 2003
/s/ JOHN J. ZEI
--------------------------------------
John J. Zei
President and Chief Executive Officer
21
CERTIFICATION
I, James H. Moyle, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Knowles
Electronics Holdings, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of material fact or omit to state any material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have;
a. designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b. evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c. presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrants auditors and the audit
committee of the registrant's board of directors (or persons performing the
equivalent function);
a. all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b. any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: May 13, 2003
/s/ JAMES H. MOYLE
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James H. Moyle
Vice President and Chief Financial
Officer
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