HEXCEL CORP /DE/ - 10-Q Quarterly Report

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

ý	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarter Ended September 30, 2003
or
o	Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from to

Commission File Number 1-8472

Hexcel Corporation
(Exact name of registrant as specified in its charter)

Delaware (State of Incorporation)		94-1109521 (I.R.S. Employer Identification No.)
Two Stamford Plaza 281 Tresser Boulevard Stamford, Connecticut 06901-3238 (Address of principal executive offices and zip code) Registrant's telephone number, including area code: (203) 969-0666

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 ý No o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes ý No o

Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date.

Class		Outstanding at November 11, 2003
COMMON STOCK		38,720,753

HEXCEL CORPORATION AND SUBSIDIARIES
INDEX

					PAGE
PART I.		FINANCIAL INFORMATION
	ITEM 1.	Condensed Consolidated Financial Statements (Unaudited)
			•	Condensed Consolidated Balance Sheets—September 30, 2003 and December 31, 2002	3
			•	Condensed Consolidated Statements of Operations—The Quarters and Nine Months Ended September 30, 2003 and 2002	4
			•	Condensed Consolidated Statements of Cash Flows—The Nine Months Ended September 30, 2003 and 2002	5
			•	Notes to Condensed Consolidated Financial Statements	6
	ITEM 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations			28
	ITEM 3.	Quantitative and Qualitative Disclosures About Market Risk			40
	ITEM 4.	Controls and Procedures			42
PART II.		OTHER INFORMATION
	ITEM 6.	Exhibits and Reports on Form 8-K			43
SIGNATURE					44

PART I. FINANCIAL INFORMATION

ITEM 1. Condensed Consolidated Financial Statements (Unaudited)

Hexcel Corporation and Subsidiaries
Condensed Consolidated Balance Sheets

*(In millions, except per share data)*		September 30, 2003			December 31, 2002
		Unaudited
Assets
Current assets:
	Cash and cash equivalents	$	28.9		$	8.2
	Accounts receivable, net		132.4			117.3
	Inventories, net		121.2			113.6
	Prepaid expenses and other assets		13.9			9.2

	Total current assets		296.4			248.3
Property, plant and equipment			662.7			642.8
Less accumulated depreciation			(370.8	)		(333.4	)

	Net property, plant and equipment		291.9			309.4
Goodwill			75.5			74.4
Investments in affiliated companies			8.7			34.0
Other assets			43.3			42.0

Total assets		$	715.8		$	708.1

Liabilities and Stockholders' Equity (Deficit)
Current liabilities:
	Notes payable and current maturities of capital lease obligations	$	2.7		$	621.7
	Accounts payable		65.7			54.9
	Accrued liabilities		96.0			102.5

	Total current liabilities		164.4			779.1
Long-term notes payable and capital lease obligations			484.6			—
Other non-current liabilities			59.2			56.4

Total liabilities			708.2			835.5
Mandatorily redeemable convertible preferred stock, 0.125 shares of series A and 0.125 shares of series B authorized, issued and outstanding at September 30, 2003			103.0			—
Stockholders' equity (deficit):
Preferred stock, no par value, 20.0 shares authorized, no shares issued or outstanding at September 30, 2003 and at December 31, 2002			—			—
Common stock, $0.01 par value, 200.0 shares of stock authorized and 40.0 shares issued and outstanding at September 30, 2003, and 100.0 shares of stock authorized and 39.8 shares issued and outstanding at December 31, 2002			0.4			0.4
Additional paid-in capital			306.3			288.2
Accumulated deficit			(382.9	)		(381.5	)
Accumulated other comprehensive loss			(5.7	)		(21.2	)

			(81.9	)		(114.1	)
Less—Treasury stock, at cost, 1.3 shares at September 30, 2003 and at December 31, 2002			(13.5	)		(13.3	)

Total stockholders' equity (deficit)			(95.4	)		(127.4	)

Total liabilities and stockholders' equity (deficit)		$	715.8		$	708.1

The accompanying notes are an integral part of these condensed consolidated financial statements.

Hexcel Corporation and Subsidiaries
Condensed Consolidated Statements of Operations

		Quarter Ended September 30,						Nine Months Ended September 30,
*(In millions, except per share data)*		Quarter Ended September 30,						Nine Months Ended September 30,
*(In millions, except per share data)*		2003			2002			2003			2002
		*Unaudited*
Net sales		$	212.8		$	201.0		$	675.5		$	644.3
Cost of sales			173.2			163.7			542.3			522.6

	Gross margin		39.6			37.3			133.2			121.7
Selling, general and administrative expenses			22.9			18.5			70.5			62.1
Research and technology expenses			4.6			3.8			13.2			11.0
Business consolidation and restructuring expenses			1.0			(0.1	)		2.4			0.7

	Operating income		11.1			15.1			47.1			47.9
Interest expense			13.5			15.5			41.1			48.4
Other (income) expense, net			(0.4	)		(0.5	)		0.4			(10.3	)

	Income (loss) before income taxes		(2.0	)		0.1			5.6			9.8
Provision for income taxes			0.7			3.2			5.9			8.8

	Income (loss) before equity in losses		(2.7	)		(3.1	)		(0.3	)		1.0
Equity in losses of and write-down of an investment in affiliated companies			(0.3	)		(0.5	)		(1.1	)		(8.5	)

	Net loss		(3.0	)		(3.6	)		(1.4	)		(7.5	)
Deemed preferred dividends and accretion			(3.1	)		—			(6.6	)		—

Net loss available to common shareholders		$	(6.1	)	$	(3.6	)	$	(8.0	)	$	(7.5	)

Net loss per common share:
	Basic	$	(0.16	)	$	(0.09	)	$	(0.21	)	$	(0.19	)
	Diluted	$	(0.16	)	$	(0.09	)	$	(0.21	)	$	(0.19	)
Weighted-average common shares outstanding:
	Basic		38.7			38.4			38.6			38.4
	Diluted		38.7			38.4			38.6			38.4

The accompanying notes are an integral part of these condensed consolidated financial statements.

Hexcel Corporation and Subsidiaries
Condensed Consolidated Statements of Cash Flows

			Nine Months Ended September 30,
*(In millions)*			Nine Months Ended September 30,
*(In millions)*			2003			2002
			Unaudited
Cash flows from operating activities
	Net loss		$	(1.4	)	$	(7.5	)
	Reconciliation to net cash provided by operating activities:
		Depreciation		37.7			35.1
		Amortization of debt discount and deferred financing costs		2.6			3.0
		Deferred income taxes		(0.5	)		0.2
		Business consolidation and restructuring expenses		2.4			0.7
		Business consolidation and restructuring payments		(7.3	)		(19.5	)
		Equity in losses of and write-down of an investment in affiliated companies		1.1			8.5
		Working capital changes and other		(7.4	)		14.9

	Net cash provided by operating activities			27.2			35.4

Cash flows from investing activities
	Capital expenditures			(12.5	)		(8.5	)
	Proceeds from sale of an ownership interest in an affiliated company			23.0			10.0
	Proceeds from sale of assets			5.7			1.2
	Dividends from affiliated companies			1.0			0.8
	Other			—			(0.5	)

	Net cash provided by investing activities			17.2			3.0

Cash flows from financing activities
	Proceeds from senior secured credit facilities, net			7.1			—
	Repayments of capital lease obligations and other debt, net			(38.5	)		(6.8	)
	Proceeds from issuance of 9⁷/8% senior secured notes, net of discount			123.7			—
	Repayments of senior credit facility, net			(179.7	)		(28.6	)
	Redemption of 7% convertible subordinated notes			(46.9	)		—
	Proceeds from issuance of mandatorily redeemable convertible preferred stock			125.0			—
	Issuance costs related to debt and equity offerings			(14.1	)		—
	Activity under stock plans			0.2			0.2

	Net cash used for financing activities			(23.2	)		(35.2	)

Effect of exchange rate changes on cash and cash equivalents				(0.5	)		1.4

Net increase in cash and cash equivalents				20.7			4.6
Cash and cash equivalents at beginning of period				8.2			11.6

Cash and cash equivalents at end of period			$	28.9		$	16.2

Supplemental Data:
	Cash interest paid		$	44.4		$	54.9
	Cash taxes paid, net of refunds		$	8.3		$	3.3

The accompanying notes are an integral part of these condensed consolidated financial statements.

HEXCEL CORPORATION AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

Note 1—Basis of Accounting

The accompanying condensed consolidated financial statements have been prepared from the unaudited records of Hexcel Corporation and its subsidiaries ("Hexcel" or "the Company") in accordance with accounting principles generally accepted in the United States of America and, in the opinion of management, include all adjustments necessary to present fairly the balance sheet of the Company as of September 30, 2003, the results of operations for the quarters and nine months ended September 30, 2003 and 2002, and the cash flows for the nine months ended September 30, 2003 and 2002. The condensed consolidated balance sheet of the Company as of December 31, 2002 was derived from the audited 2002 consolidated balance sheet. Certain information and footnote disclosures normally included in financial statements have been omitted pursuant to rules and regulations of the Securities and Exchange Commission. Certain prior period amounts in the condensed consolidated financial statements and accompanying notes have been reclassified to conform to the 2003 presentation. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's 2002 Annual Report on Form 10-K/A (Amendment No. 3).

Note 2—Refinancing of Capital Structure

On March 19, 2003, the Company completed the refinancing of its balance sheet with the issuance of mandatorily redeemable convertible preferred stock for $125.0 million in cash, the issuance of $125.0 million principal amount of 9⁷/8% senior secured notes due 2008, and the establishment of a new $115.0 million senior secured credit facility due 2008. The proceeds from the sale of the convertible preferred stock were used to redeem the Company's 7% convertible subordinated notes due 2003 and to reduce senior debt outstanding under the Company's then existing senior credit facility. The remaining advances under the then existing senior credit facility, after the application of the equity proceeds, were repaid with proceeds from the issuance of the 9⁷/8% senior secured notes due 2008 and modest drawings under the new senior secured credit facility. In connection with the refinancing, the Company incurred a $4.0 million loss on early retirement of debt in the first quarter of 2003 due to the write-off of unamortized deferred financing costs related to the former senior credit facility and the 7% convertible subordinated notes due 2003. The loss on early retirement of debt was included in other (income) expense in the condensed consolidated statement of operations for the nine months ended September 30, 2003. Refer to Notes 6 and 7 for further information on the refinancing transactions, and Note 8 for information on the components of other (income) and expense.

Note 3—Stock-Based Compensation

The Company accounts for stock-based compensation under the intrinsic value method in accordance with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25"). Accordingly, compensation expense is not recognized when options are granted at the fair market value on the date of grant. However, the Company does recognize compensation expense for restricted stock and similar stock-based plans over the defined vesting periods. As of September 30, 2003, the Company had several on-going stock-based compensation plans that provide for different types of equity awards, including stock options and various forms of restricted stock unit awards.

The Company has elected to continue following APB 25 to account for its stock-based compensation plans. The effects on net loss and net loss per common share as if the Company had applied the fair value method of accounting for stock-based compensation in accordance with

Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("FAS 123") for the quarters and nine months ended September 30, 2003 and 2002 are as follows:

			Quarter Ended September 30,						Nine Months Ended September 30,
(In millions, except per share data)			Quarter Ended September 30,						Nine Months Ended September 30,
(In millions, except per share data)			2003			2002			2003			2002
Net loss:
	Net loss available to common shareholders, as reported		$	(6.1	)	$	(3.6	)	$	(8.0	)	$	(7.5	)
	Add: Stock-based compensation expense included in reported net loss			0.2			0.2			0.7			0.6
	Deduct: Stock-based compensation expense determined under fair value method for all awards			(1.0	)		(1.5	)		(3.2	)		(4.7	)

	Pro forma net loss		$	(6.9	)	$	(4.9	)	$	(10.5	)	$	(11.6	)
Net loss per common share:
	Basic net loss per common share:
		As reported	$	(0.16	)	$	(0.09	)	$	(0.21	)	$	(0.19	)
		Pro forma	$	(0.18	)	$	(0.13	)	$	(0.27	)	$	(0.30	)
	Diluted net loss per common share:
		As reported	$	(0.16	)	$	(0.09	)	$	(0.21	)	$	(0.19	)
		Pro forma	$	(0.18	)	$	(0.13	)	$	(0.27	)	$	(0.30	)

No tax benefit was recognized on stock-based compensation expense as the Company establishes a non-cash valuation allowance attributable to currently generated U.S. net operating losses (refer to Note 12). Stock-based compensation expense was not material to European operations.

The weighted average fair value of stock options granted during the nine months ended September 30, 2003 and 2002 was $1.77 and $1.96, respectively, and estimated using the Black-Scholes option pricing model with the following weighted-average assumptions:

	2003		2002
Expected life (in years)	4		5
Interest rate	3.12	%	2.78	%
Volatility	78.09	%	88.60	%
Dividend yield	—		—

Note 4—Inventories

(In millions)	9/30/03		12/31/02
Raw materials	$	47.0	$	40.7
Work in progress		35.8		37.6
Finished goods		38.4		35.3

Total inventories	$	121.2	$	113.6

Note 5—Business Consolidation and Restructuring Programs

Business consolidation and restructuring liabilities as of September 30, 2003 and December 31, 2002, and activity of the Company's two remaining programs for the quarter and nine months ended September 30, 2003, consisted of the following:

*(In millions)*		Employee Severance			Facility & Equipment			*Total*
Balance as of December 31, 2002		$	8.0		$	2.5		$	10.5
Current period expenses			—			1.4			1.4
Change in estimated expenses			0.2			(0.2	)		—

	Net business consolidation and restructuring expenses		0.2			1.2			1.4
Cash expenditures			(3.7	)		(1.8	)		(5.5	)
Currency translation adjustments			0.3			—			0.3

Balance as of June 30, 2003		$	4.8		$	1.9		$	6.7
Current period expenses			—			1.1			1.1
Change in estimated expenses			—			(0.1	)		(0.1	)

	Net business consolidation and restructuring expenses		—			1.0			1.0
Cash expenditures			(0.4	)		(1.4	)		(1.8	)

Balance as of September 30, 2003		$	4.4		$	1.5		$	5.9

November 2001 Program

During the fourth quarter of 2001, the Company announced a program to restructure its business operations as a result of its revised business outlook for build rate reductions in commercial aircraft production through 2003 and due to the continued depressed business conditions in the electronics market. For the quarter and nine months ended September 30, 2003, the Company recognized business consolidation and restructuring expenses of $0.8 million and $1.3 million, respectively, related to this program for equipment relocation and re-qualification costs that are expensed as incurred. In addition, $0.2 million of net additional severance expense was recognized in the first nine months of 2003 due to changes in estimate, while accrued liabilities for facility and equipment were reduced by $0.3 million ($0.1 million during the third quarter of 2003) also due to changes in estimate.

Business consolidation and restructuring activities for this program consisted of the following:

(In millions)		Employee Severance			Facility & Equipment			*Total*
Balance as of December 31, 2002		$	7.8		$	2.5		$	10.3
Current period expenses			—			0.5			0.5
Change in estimated expenses			0.2			(0.2	)		—

	Net business consolidation and restructuring expenses		0.2			0.3			0.5
Cash expenditures			(3.7	)		(0.9	)		(4.6	)
Currency translation adjustments			0.3			—			0.3

Balance as of June 30, 2003		$	4.6		$	1.9		$	6.5
Current period expenses			—			0.8			0.8
Change in estimated expenses			—			(0.1	)		(0.1	)

	Net business consolidation and restructuring expenses		—			0.7			0.7
Cash expenditures			(0.4	)		(1.1	)		(1.5	)

Balance as of September 30, 2003		$	4.2		$	1.5		$	5.7

September 1999 Program

As a result of several substantial business acquisitions, the Company initiated a business consolidation program in September 1999. The primary purpose of the program was to integrate acquired assets and operations into the Company, and to close or restructure insufficiently profitable facilities and activities. Due to aerospace industry requirements to "qualify" specific equipment and manufacturing processes for certain products, some business consolidation actions have taken over three years to complete. These qualification requirements increase the complexity, cost and time of moving equipment and rationalizing manufacturing activities.

For the quarter and nine months ended September 30, 2003, the Company recognized $0.3 million and $1.2 million, respectively, of business consolidation expenses related to this program for equipment relocation and re-qualification costs that are expensed as incurred.

Business consolidation and restructuring activities for this program consisted of the following:

(In millions)		Employee Severance