Back to GetFilings.com
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------
FORM 10-K
(Mark One)
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 0-21803
------------------
AFTERMARKET TECHNOLOGY CORP.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 95-4486486
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
ONE OAK HILL CENTER, SUITE 400
WESTMONT, IL 60559
(Address of Principal Executive Offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (630) 455-6000
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, $.01 PAR VALUE
Indicate by check mark whether the Registrant (1) has filed
all reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter period
that the Registrant was required to file such reports), and (2) has been subject
to such filing requirements for the past 90 days. Yes |X| No |_|
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of Registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K. |_|
The aggregate market value of the voting stock held by
non-affiliates of the Registrant (based on the closing price of such stock, as
reported by The Nasdaq National Market, on February 4, 1999) was $71.6 million.
The number of shares outstanding of the Registrant's Common
Stock, as of February 4, 1999, was 20,245,768 shares.
DOCUMENTS INCORPORATED BY REFERENCE
None.
AFTERMARKET TECHNOLOGY CORP.
ANNUAL REPORT ON FORM 10-K
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
PAGE
ITEM 1. BUSINESS.............................................................. 1
ITEM 2. PROPERTIES............................................................13
ITEM 3. LEGAL PROCEEDINGS.....................................................13
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS...................14
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS...................................................14
ITEM 6. SELECTED FINANCIAL DATA...............................................15
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS ..................................17
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA...........................30
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE................................54
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT....................54
ITEM 11. EXECUTIVE COMPENSATION................................................56
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT........................................................62
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS........................64
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K......66
i
FORWARD LOOKING STATEMENT NOTICE
Certain statements contained in this Annual Report that are not related
to historical results are forward-looking statements. Actual results may differ
materially from those projected or implied in the forward-looking statements.
Factors that could cause or contribute to such differences include, but are not
limited to, those discussed under Item 1. "Business--Certain Factors Affecting
the Company" and Item 7. "Management's Discussion and Analysis of Financial
Condition and Results of Operations." Further, certain forward-looking
statements are based upon assumptions as to future events that may not prove to
be accurate.
PART I
ITEM 1. BUSINESS
BACKGROUND
Aftermarket Technology Corp. ("ATC") was incorporated under the laws
of Delaware in July 1994 at the direction of Aurora Capital Partners L.P. to
acquire Aaron's Automotive Products, Inc. ("Aaron's"), H.T.P., Inc. ("HTP"),
Mamco Converters, Inc. ("Mamco") and RPM Merit, Inc. ("RPM") (collectively,
the "Initial Acquisitions"). Aaron's, HTP, Mamco and RPM as they existed
prior to the Initial Acquisitions are hereinafter collectively referred to as
the "Predecessor Companies." Subsequent to the Initial Acquisitions, the
Company acquired Component Remanufacturing Specialists, Inc. ("CRS") and
Mascot Truck Parts Inc. ("Mascot") in June 1995, and King-O-Matic Industries
Limited ("King-O-Matic") in September 1995 (collectively, the "1995
Acquisitions"), Tranzparts, Inc. ("Tranzparts") in April 1996 and Diverco,
Inc. ("Diverco") in October 1996 (collectively, the "1996 Acquisitions"),
Replacement and Exchange Parts Co., Inc. ("REPCO") in January 1997, ATS
Remanufacturing ("ATS") in July 1997, Trans Mart, Inc. ("Trans Mart") in
August 1997 and the Metran companies (Metran Automatic Transmission Parts
Corp., Metran Boston, Inc. and Metran Parts of Pennsylvania, Inc.) ("Metran")
in November 1997 (collectively, the "1997 Acquisitions"), and the OEM
Division ("Autocraft") of The Fred Jones Companies, Inc. (formerly known as
Autocraft Industries, Inc.) in March 1998 (the "Autocraft Acquisition" and,
together with the Initial Acquisitions, the 1995 Acquisitions, the 1996
Acquisitions and the 1997 Acquisitions, the "Acquisitions"). At the end of
1997, Diverco, HTP, Mamco, Metran, REPCO, Trans Mart and Tranzparts were
merged together to form ATC Distribution Group, Inc. RPM was merged into ATC
Distribution Group, Inc. at the end of 1998. In February 1999, ATC sold
Mascot. ATC conducts all of its operations through its wholly-owned
subsidiaries and each of their respective subsidiaries. Throughout this
Annual Report, except where the context otherwise requires, the "Company"
refers collectively to ATC and its subsidiaries and the Predecessor Companies.
On December 20, 1996, ATC consummated an initial public offering of
its Common Stock (the "IPO"). Simultaneous with the consummation of the IPO,
Aftermarket Technology Holdings Corp. ("Holdings"), the sole stockholder of
ATC prior to the IPO, was merged into ATC (the "Reorganization"). Upon the
effectiveness of the Reorganization, each outstanding share of Holdings
Common Stock was converted into one share of ATC Common Stock, and each
outstanding share of Holdings Redeemable Exchangeable Cumulative Preferred
Stock was converted into one share of ATC Redeemable Exchangeable Cumulative
Preferred Stock, which was immediately thereafter redeemed for an amount in
cash equal to $100.00 plus an amount in cash equal to accrued and unpaid
dividends on the Holdings Preferred Stock to the date of the Reorganization.
GENERAL
The Company is a leading remanufacturer and distributor of drive
train products used in the repair of vehicles in the automotive aftermarket.
The Company's principal products include remanufactured transmissions, torque
converters, engines, electronic control modules, instrument and display
clusters, cellular phones and radios, as well as remanufactured and new parts
for the repair of automotive drive train assemblies. The Company also
provides logistics services and material recovery services. The Company has
two reportable segments: the Original Equipment Manufacturer ("OEM") segment
and the Independent Aftermarket segment.
1
The first of these segments consists of four operating units (Aaron's,
Autocraft Industries, Autocraft UK and CRS/ATS) that principally sell factory
approved remanufactured transmissions directly to OEMs for use as replacement
parts by their domestic dealers during the warranty and post-warranty periods
following the sale of a vehicle. The principal customers for these transmissions
are DaimlerChrysler Corporation, Ford Motor Company, General Motors Corporation
and certain foreign OEMs. In addition, the OEM segment sells select
remanufactured engines to DaimlerChrysler and certain European OEMs and a broad
range of remanufactured foreign and domestic engines to general repair shops and
retail automotive parts stores.
The Company's Independent Aftermarket segment (the ATC Distribution
Group) primarily sells transmission repair kits, soft parts, remanufactured
torque converters and both new and remanufactured hard parts used in drive train
repairs to independent transmission rebuilders for repairs generally during the
period following the expiration of the vehicle warranty. To a lesser extent, the
Distribution Group also sells its products to general repair shops, wholesale
distributors and retail automotive parts stores.
In addition to the OEM and Independent Aftermarket segments, the
Company has three "other" operating units, all of which were acquired in the
Autocraft Acquisition: an electronic parts remanufacturing and distribution
business; warehouse and distribution services for AT&T Wireless (the cellular
telephone subsidiary of AT&T); and a material recovery processing business for
Ford. None of these operating units has ever met the quantitative thresholds for
determining reportable segments.
Since the Initial Acquisitions, the Company has grown both internally
and through ten additional acquisitions at a compound annual revenue growth rate
of approximately 32.5%. The Company believes the key elements of its success are
the quality and breadth of its product offerings and its strong technical
support, rapid delivery time, innovative product development and competitive
pricing. In addition, the Company has benefited from the increasing use of
remanufactured products as the industry recognizes that remanufacturing provides
a higher quality, lower cost alternative to rebuilding the assembly or replacing
it with a new assembly manufactured by an OEM.
The Company's strategy is to continue to grow both internally and
through strategic acquisitions. The Company intends to expand its business by:
(i) increasing penetration of its current customer base; (ii) gaining new OEM
and Independent Aftermarket customers; and (iii) introducing new products to
both existing and new customers. The Company plans to continue to support these
growth strategies through strategic acquisitions in the future. In addition, the
Company believes that its core competency of remanufacturing, which has been
applied to the drive train products segment of the automotive aftermarket, has
the potential to be utilized in other aftermarket segments.
See "Certain Factors Affecting the Company."
REMANUFACTURING
Remanufacturing is a process through which used assemblies are returned
to a central facility where they are disassembled and their component parts
cleaned, refurbished and tested. The usable component parts are then combined
with new parts in a high volume, precision assembly line manufacturing process
to create remanufactured assemblies.
When an assembly such as a transmission or engine fails, there are
generally three alternatives available to return the vehicle to operating
condition. The dealer or independent repair shop may: (i) remove the assembly,
disassemble it into its component pieces, replace worn or broken parts with
remanufactured or new components, and reinstall the assembly in the vehicle
("rebuild"); (ii) replace the assembly with an assembly from a remanufacturer
such as the Company; or (iii) in rare instances, replace the assembly with a new
assembly manufactured by the OEM.
In its remanufacturing operations, the Company obtains used
transmissions, hard parts, engines and related components, commonly known as
"cores," which are sorted by vehicle make and model and either placed into
immediate production or stored until needed. In the remanufacturing process, the
cores are evaluated and disassembled into their component parts and the
components that can be incorporated into the remanufactured product are cleaned,
refurbished and tested. All components determined not reusable or repairable are
replaced by other remanufactured or
2
new components. Inspection and testing are conducted at various stages of the
remanufacturing process, and each finished assembly is tested on equipment
designed to simulate performance under operating conditions. After testing,
completed products are then packaged for immediate delivery or shipped to one
of the Company's distribution centers.
The cores used in the Company's remanufacturing process for sale to its
OEM customers are provided primarily by the OEMs. In the case of OEMs other than
DaimlerChrysler, the dealers return cores to the OEM, which then ships them to
the Company. Chrysler cores are sent to the Company through its central core
return center. See "OEM Customers."
The majority of the cores used in the Company's remanufacturing process
for sale to its non-OEM customers are obtained from customers as trade-ins. The
Company encourages these customers to return cores on a timely basis and charges
customers a supplemental core charge in connection with purchases of engines and
critical hard parts. The customer can satisfy this charge by returning a usable
core or making a cash payment equal to the amount of the supplemental core
charge. If cores are not returned in a timely manner, the Company then must
procure cores through its network of independent core brokers. While core prices
are subject to supply and demand price volatility, the Company believes its
procurement network for cores will provide cores as needed at reasonable prices.
There are three primary benefits of using remanufactured components
rather than rebuilt or new components in repair of vehicles:
- First, costs to the OEM associated with remanufactured assemblies generally
are 50% less than new or dealer-rebuilt assemblies due to the
remanufacturer's use of high volume manufacturing techniques and salvage
methods that enable the remanufacturer to refurbish and reuse a high
percentage of original components.
- Second, remanufactured assemblies are generally of consistent high quality
due to of the precision manufacturing techniques, technical upgrades and
rigorous inspection and testing procedures employed in remanufacturing. The
quality of a rebuilt assembly is heavily dependent on the skill level of
the particular mechanic. In addition, the proliferation of transmission and
engine designs, the increasing complexity of transmissions and engines that
incorporate electronic components and the shortage of highly trained
mechanics qualified to rebuild assemblies are leading to what management
believes is a trend toward the use of remanufactured assemblies for
aftermarket repairs. For warranty repairs, consistent quality is important
to the OEM providing the applicable warranty, because once installed, the
remanufactured product is usually covered by the OEM's warranty for the
balance of the original warranty period.
- Third, replacement of a component with a remanufactured component generally
takes considerably less time than the time needed to rebuild the component,
thereby significantly reducing the time the vehicle is at the dealer or
repair shop and allows the dealer and repair shops to increase their volume
of business.
The Company believes that because of this combination of high quality,
low cost and efficiency, the use of remanufactured assemblies for aftermarket
repairs is growing compared to the use of new or rebuilt assemblies. Although
the primary customers for the Company's remanufactured components have
historically been OEMs, the Company expects the Independent Aftermarket to
increase its use of remanufactured components in the future.
ORIGINAL EQUIPMENT MANUFACTURER SEGMENT
The Company's OEM segment consists of four operating units that
remanufacture and sell transmissions directly to automobile manufacturers. In
addition, the OEM segment sells select remanufactured engines to DaimlerChrysler
and certain European OEMs and a broad range of remanufactured foreign and
domestic engines to general repair shops and retail automotive parts stores.
3
REMANUFACTURED TRANSMISSIONS
The Company remanufactures factory approved transmissions for warranty
and post-warranty replacement of transmissions for DaimlerChrysler, Ford,
General Motors and several foreign OEMs, including Hyundai Motor America,
Mitsubishi and American Isuzu, for their United States dealer networks. The
number of transmission models remanufactured by the Company has been increasing
to accommodate the greater number of models currently used in vehicles
manufactured by the Company's OEM customers.
REMANUFACTURED ENGINES
The Company remanufactures select factory approved engine models for
Chrysler vehicles and through the Autocraft Acquisition also operates a facility
in England that remanufactures factory approved engines for several European
OEMs, including Jaguar and the European divisions of Ford and General Motors.
These engines are used for warranty and post-warranty replacement. The facility
in England also does assembly and modification of new production engines for
certain of its OEM customers.
The Company also remanufactures engines for use as post-warranty
replacements in many domestic and foreign passenger cars and light trucks. In
addition, the Company sources remanufactured engines for other foreign passenger
cars and light trucks from independent suppliers. The Company distributes these
engines through a growing network of 22 local distribution centers located
throughout the eastern half of the United States. Principal customers include
Advanced Auto Parts (a large retail automotive parts store chain) as well as
general repair garages and wholesale distributors. Over the past five years, the
variety of engine models offered by the Company has increased from 250 to more
than 1,000 as the Company has expanded the range of engines offered to meet
customer requirements.
OEM CUSTOMERS
The Company's largest OEM segment customer is DaimlerChrysler, to whom
the Company supplies remanufactured transmissions and certain remanufactured
engines for use in Chrysler automobiles and light trucks. As a result of the
Autocraft Acquisition, the Company also provides remanufactured components to
several other OEMs including transmissions to Ford and engines to Jaguar, Land
Rover, Aston Martin and the European divisions of Ford and General Motors. The
Company added General Motors as a transmission customer in July 1997 with the
purchase of ATS and expanded its General Motors business with the Autocraft
Acquisition. Products are sold to each OEM pursuant to supply arrangements for
individual transmission or engine models, which supply arrangements typically
may be terminated by the OEM at any time.
OEM segment sales accounted for 58.5%, 53.0% and 52.0% of the Company's
1996, 1997 and 1998 revenues, respectively. Sales to DaimlerChrysler accounted
for 37.2%, 32.0% and 18.2% of the Company's revenues in 1996, 1997 and 1998,
respectively, and sales to Ford accounted for 17.1% of the Company's revenues in
1998. On a pro forma basis as if the Autocraft Acquisition had occurred on
January 1, 1998, OEM segment sales would have accounted for approximately 53.0%
of pro forma 1998 revenues with sales to DaimlerChrysler and Ford accounting for
approximately 17.2% and 16.2%, respectively, of the total pro forma revenues.
Over the past 15 years, the Company has developed and maintained strong
relationships at many levels of both the corporate and the factory organizations
of Chrysler (which was merged with Daimler Benz in 1998 to form
DaimlerChrysler). In recognition of the Company's consistently high level of
service and product quality throughout its relationship with DaimlerChrysler, in
each of the last four years the Company was awarded the Platinum Pentastar
award, the highest award DaimlerChrysler bestows on a Chrysler supplier. The
Company is one of only six of Chrysler's approximately 3,500 suppliers to
receive the Platinum Pentastar every year since the creation of the award.
The Company's facilities that remanufacture transmissions for
DaimlerChrysler, Ford and General Motors, as well as certain of its other OEM
segment facilities, have QS-9000 certification, a complete quality management
system developed for DaimlerChrysler, Ford, General Motors and truck
manufacturers who subscribe to the ISO 9002 quality standards. The system is
designed to help suppliers, such as the Company, develop a quality system that
emphasizes
4
defect prevention and continuous improvement in manufacturing processes.
Certain of the Autocraft facilities have also received Ford's Q1 quality
certification.
DaimlerChrysler began implementing remanufacturing programs for its
Chrysler transmission models in 1986 and selected the Company as its sole
supplier of remanufactured transmissions in 1989. DaimlerChrysler has advised
the Company that, by implementing a remanufacturing program for Chrysler
vehicles, DaimlerChrysler has realized substantial warranty cost savings,
standardized the quality of its dealers' aftermarket repairs and reduced its own
inventory of replacement parts. Currently, the Company provides all
remanufactured front wheel drive transmissions purchased by DaimlerChrysler for
use in Chrysler vehicles. In late 1998, the Company commenced production of
remanufactured Chrysler rear wheel drive transmissions. The Company presently
does not provide remanufactured transmissions or other components to
DaimlerChrysler's Mercedes Benz division.
Autocraft began remanufacturing transmissions for Ford in 1989 and for
General Motors in 1985. The Company believes that as a result of the acquisition
of Autocraft, the Company provides approximately 85% of the remanufactured
transmissions purchased by Ford and approximately 50% of the remanufactured
transmissions purchased by General Motors.
INDEPENDENT AFTERMARKET SEGMENT
The Company's Independent Aftermarket segment primarily sells
transmission repair kits, soft parts, remanufactured torque converters and new
and remanufactured hard parts used in drive train repairs to independent
transmission rebuilders throughout the United States and Canada. To a lesser
extent, these products are also sold to general repair shops, wholesale
distributors and retail automotive parts stores.
The market for parts sales and services for vehicles after their
original purchase has been non-cyclical and has generally experienced steady
growth over the past several years, unlike the market for new vehicle sales.
According to the Automotive Parts & Accessories Association, between 1988 and
1997 (the most recent period for which data is available), estimated
industry-wide revenue for the automobile aftermarket increased from
approximately $99.2 billion to $151.2 billion. This consistent growth is due
principally to the increase in the number of vehicles in operation, the increase
in the average age of vehicles, and the increase in the average number of miles
driven annually per vehicle. The Company competes primarily in the aftermarket
segment for automotive transmissions, engines and other drive train related
products, which represents more than $7 billion of the entire automotive
aftermarket.
PRODUCTS
Repair kits sold by the Company consist of gaskets, friction plates,
seals, bands, filters, clutch components and other "soft" parts that are used in
rebuilding transmissions for substantially all domestic and most imported
passenger cars and light trucks. Each kit is designed to include substantially
all of the soft parts necessary for rebuilding a particular transmission model.
Due to its high volume of kit sales, the Company maintains a variety of
strategic supply relationships that enable the Company to purchase components
for its kits at prices that the Company believes are more favorable than those
available to its lower volume competitors. The Company also believes that its
remanufacturing capability provides a cost advantage over some of its
competitors who purchase all their parts from suppliers.
The Company remanufactures torque converters (the coupler between the
transmission and engine) and certain "hard" parts such as planetary gears (speed
regulating devices inside the transmission) and transmission fluid pumps. Many
of the Company's competitors do not distribute as broad a line of hard parts or
remanufacture the hard parts that they distribute. The Company believes these
factors provide it both an availability and cost advantage over many of its
competitors.
The Company's Independent Aftermarket customers typically require
repair kits, torque converters and hard parts in order to complete a vehicle
repair. For this reason, the Company believes that the breadth of its product
line, which enables a customer to obtain all the parts for a repair job from a
single source, gives the Company a competitive advantage. The Company is one of
the few full line transmission parts suppliers in the industry, with access to
over 20,000 individual part numbers.
5
INDEPENDENT AFTERMARKET CUSTOMERS
The Company, through its ATC Distribution Group, supplies transmission
repair kits, soft parts, torque converters and hard parts used in drive train
repairs to independent transmission rebuilders throughout the United States and
Canada. To a lesser extent, the Company also sells to general repair shops and
wholesale distributors. These products are used in the Independent Aftermarket
to rebuild transmissions and other assemblies using remanufactured and new
component parts purchased from a variety of suppliers. In addition, the Company
supplies transmission filter kits to less than 2,000 of the approximately 40,000
retail automotive parts stores located in the United States and Canada, which
principally sell to "do-it-yourself" customers and general repair shops.
As the number of vehicle models has proliferated and repairs have
become increasingly complex, independent transmission rebuilders and general
repair shops have grown more dependent on their suppliers for technical support
and assistance in managing inventory by delivering product on a just-in-time
basis at competitive prices. To address these needs, the Company maintains more
than 50 distribution centers located in metropolitan areas throughout the United
States and Canada from which the Company provides technical support and a wide
range of drive train related products that are delivered on a same day basis by
trucks or delivery service to customers in and around metropolitan areas and on
a next day basis by overnight carrier to customers in more remote areas. The
Company believes that its distribution system is the most extensive in the drive
train segment of the automotive aftermarket and represents a competitive
advantage for the Company relative to its typically smaller, local competitors.
The Company believes there are opportunities for further geographic penetration
in this relatively fragmented market. See "Business Strategy."
The Company conducts telemarketing that, when coupled with the
Company's next day delivery strategy to more remote areas, enables the Company
to establish customer relationships in areas that cannot support the costs
associated with setting up and maintaining a distribution center. Additionally,
new customers are developed by the Company's direct sales force operating from
its distribution centers, by advertising in national and local trade
publications, and by participating in various trade shows. The Company believes
its DIVERCO, HTP, KING-O-MATIC, MAMCO, METRAN, REPCO, RPM, TRANS MART and
TRANZPARTS trademarks are well recognized and respected in their regional
markets.
The Company believes it is well positioned within the highly fragmented
aftermarket for drive train products as a result of its extensive product line,
diverse customer base and broad geographic presence, with over 50 local
distribution centers throughout the United States and Canada. The Independent
Aftermarket segment accounted for 39.2%, 44.8% and 38.4% of the Company's
revenues in 1996, 1997 and 1998, respectively.
OTHER OPERATING UNITS
The Company's other operating units, acquired as part of the Autocraft
Acquisition, were determined not to be reportable segments. They consist of an
electronic parts remanufacturing and distribution business, warehouse and
distribution services and a material recovery processing business.
Prior to the Autocraft Acquisition, the Company's "other" operating
units consisted solely of Mascot, which remanufactured heavy duty and medium
truck transmissions, differentials and air compressors primarily for sales to
truck dealers in Canada. However, during 1998 the Company decided to concentrate
on the remanufacturing of automobile and light truck drive train components
rather than on heavy duty truck components. For that reason, in February 1999
the Company sold all of Mascot's assets to a third party buyer.
ELECTRONIC COMPONENTS
The electronic components operating unit remanufactures automotive
electronic control modules (which manage various engine functions) for General
Motors, remanufactures and distributes radios and instrument and display
clusters for General Motors and Ford, and remanufactures and distributes
cellular telephones and other cellular products (E.G., navigation systems) for
Ford, General Motors, Audi, Jaguar and Volkswagen.
6
LOGISTICS SERVICES
The logistics services operating unit provides centralized warehouse
and distribution services for AT&T Wireless, the cellular telephone subsidiary
of AT&T. As part of this service, the Company handles all warranty-service
exchanges and inventory tracking for AT&T Wireless.
MATERIAL RECOVERY
As part of its relationship with Ford, the Company also provides
material recovery services to assist Ford with the management of its dealer
parts inventory. Under this program, Ford dealers send their excess parts
inventory to Autocraft. The parts are then sorted and disposed of in one of
three ways: useful parts that are needed by other dealers are redistributed;
useful parts that are not needed by other dealers are sold to remanufacturers,
wholesale distributors and other third parties through an innovative on-line
Internet auction process; and useless parts are scrapped. As a result of the
introduction of the materials recovery program, the number of parts that are
scrapped has been significantly reduced to less than 2%.
BUSINESS STRATEGY
The Company's strategy is to achieve growth both internally and through
strategic acquisitions. The Company intends to expand its business by: (i)
increasing penetration of its current customer base; (ii) gaining new OEM and
Independent Aftermarket customers; and (iii) introducing new products to both
existing and new customers. Strategic acquisitions have been an important
element in the Company's historical growth, and the Company plans to continue to
support its growth strategy through strategic acquisitions in the future. In
addition, the Company believes that its core competency of remanufacturing,
which has been applied to the drive train products segment of the automotive
aftermarket, has the potential to be utilized in other aftermarket segments.
INCREASING SALES TO EXISTING CUSTOMERS
OEM CUSTOMERS. The Company intends to increase its business with its
existing OEM customers by working with OEMs to increase dealer utilization of
remanufactured transmissions in both the warranty and post-warranty periods. The
Company is working in tandem with OEMs to highlight to dealers the quality and
cost advantages of using remanufactured assemblies versus rebuilding. In
addition, the post-warranty repair market, which the Company believes is
significantly larger than the OEM dealer warranty repair market, presents a
growth opportunity. Currently, the vast majority of post-warranty repairs are
performed in the Independent Aftermarket rather than at OEM dealers. Given the
relatively low cost and high quality of remanufactured components, OEM dealers
can enhance their cost competitiveness compared to independent service centers
through the increased use of remanufactured components as well as providing end
customers with a high quality product. To the extent that OEM dealers increase
their level of post-warranty repairs, the Company is well positioned to
capitalize on this market growth. The Company has introduced a number of new
transmission models and related drive train products in the last several years
for its OEM customers. In March 1998, the Company expanded its business with
General Motors by purchasing Autocraft, one of General Motors' other three
remanufactured transmission suppliers.
INDEPENDENT AFTERMARKET CUSTOMERS. The Company believes that it
currently supplies approximately 15% of the remanufactured or new drive train
component requirements of its independent transmission rebuilder and general
repair shop customers. The Company believes it will be well positioned to expand
sales to these customers through common product identification and numbering in
conjunction with a computer network that will electronically link its
distribution centers. This will enable the Company to offer its full line of
products throughout the entire Distribution Group.
INTRODUCING NEW PRODUCTS
OEM CUSTOMERS. The Company believes that OEMs recognize that the use of
remanufactured assemblies provide a high quality, lower cost alternative to
rebuilding damaged assemblies or replacing them with new assemblies. For this
reason, the Company believes that OEMs are interested in working with large,
high quality remanufacturers to
7
reduce the OEMs warranty costs and increase their parts sales into the
post-warranty aftermarket. The Company continues to work with its OEM
customers to identify additional remanufactured products and services where
the Company can provide value to the OEM. In this way, the Company believes
that it will be able to leverage its customer relationships and
remanufacturing competency. For example, in 1998 the Company began
remanufacturing rear wheel drive transmissions for Chrysler.
INDEPENDENT AFTERMARKET CUSTOMERS. The Company believes that its
reputation for high quality products and customer service enables it to leverage
its relationships with existing customers to sell additional products. The
Company monitors sales trends and is in frequent communication with customers
regarding potential new products. The Company is beginning to remanufacture
complete transmissions for sale to its independent transmission rebuilder
customers. In addition, the Company has begun offering new hard parts such as
planetary gears, sun gears and oversized pump gears. In introducing new
products, the Company focuses on components that are difficult to find and
typically require a high rate of replacement.
OTHER. The Company also intends to leverage the capability of its
electronics remanufacturing and distribution business by introducing
remanufactured electronic components to some of its other OEM customers.
ESTABLISHING NEW CUSTOMER RELATIONSHIPS
OEM CUSTOMERS. The Company believes that opportunities for growth exist
with several foreign OEMs regarding their United States based remanufacturing
programs. The Company believes that this represents an opportunity for growth
and is currently working to develop programs with certain of these OEMs. Through
the March 1998 Autocraft Acquisition the Company expanded its OEM customer base
to include Ford and certain European OEMs.
INDEPENDENT AFTERMARKET CUSTOMERS. The Company believes that its
product mix and distribution network position it to expand its Independent
Aftermarket customer base in three ways. First, although the Company's
distribution network is currently the most extensive in the drive train segment
of the automotive aftermarket, there are select opportunities for the Company to
expand to additional geographic markets. Second, through its telemarketing
capability, the Company expects to reach new Independent Aftermarket customers
in non-metropolitan areas. Third, the Company expects to attract additional
Independent Aftermarket customers with its extensive product offering and
technical support capability.
OTHER. The Company believes that its logistics services should be
attractive to new customers who recognize that outsourcing this function will
enable them to both focus on their core competencies and have an efficient
product distribution system. The Company also believes that the cost savings and
environmental benefits provided by its material recovery business will be
attractive to other OEMs.
ADDITIONAL REMANUFACTURING OPPORTUNITIES
The Company has begun to look beyond the automotive aftermarket to
identify other aftermarket segments that utilize the Company's core competency
of remanufacturing. The Company believes that other markets may have similar
characteristics to those experienced by the Company in the automotive
aftermarket. If remanufacturing opportunities are identified in these other
markets, the Company will review them and may pursue those that are expected to
be consistent with its capabilities and investment objectives.
The foregoing discussion of the Company's business strategy contains
forward looking statements. See "Forward Looking Statement Notice."
COMPETITION
The Company competes in the highly fragmented automobile aftermarket
for transmissions, engines and other drive train components, in which the
majority of industry supply comes from small local or regional participants.
Competition is based primarily on product quality, service, delivery, technical
support and price. Many of the
8
Company's competitors operate only in certain geographic regions with a
limited product line. The Company is the largest participant in the
aftermarket for remanufactured drive train components, offers a more complete
line of products across a diverse customer base and has a much broader
geographic presence than many of its competitors. As a result, the Company
believes that it is well positioned to enhance its competitive position by
expanding its product line through the development of new products or
acquisition of new businesses as well as by expanding its distribution
network into new geographic markets. Nevertheless, the aftermarket for
remanufactured drive train components remains highly competitive, and certain
of the Company's competitors are larger than the Company and have greater
financial and other resources available to them than does the Company.
EMPLOYEES
As of December 31, 1998, the Company had approximately 4,800 full-time
employees. The Company believes its employee and labor relations are good. The
Company has never experienced any work stoppage and none of its employees are
members of any labor union.
ENVIRONMENTAL
The Company is subject to various evolving Federal, state, local and
foreign environmental laws and regulations governing, among other things,
emissions to air, discharge to waters and the generation, handling, storage,
transportation, treatment and disposal of a variety of hazardous and non-
hazardous substances and wastes. These laws and regulations provide for
substantial fines and criminal sanctions for violations and impose liability for
the costs of cleaning up, and certain damages resulting from, past spills,
disposals or other releases of hazardous substances.
In connection with the Acquisitions, the Company conducted certain
investigations of the acquired companies' facilities and their compliance with
applicable environmental laws. The investigations, which included "Phase I"
assessments by independent consultants of all manufacturing and certain
distribution facilities, found that certain facilities have had or may have had
releases of hazardous materials that may require remediation and also may be
subject to potential liabilities for contamination from off-site disposal of
substances or wastes. These assessments also found that certain reporting and
other regulatory requirements, including certain waste management procedures,
were not or may not have been satisfied. Although there can be no assurance, the
Company believes that, based in part on the investigations conducted, in part on
certain remediation completed prior to the acquisitions, and in part on the
indemnification provisions of the agreements entered into in connection with the
Company's acquisitions, the Company will not incur any material liabilities
relating to these matters.
The company from which RPM acquired its assets (the "Prior RPM
Company") has been identified by the United States Environmental Protection
Agency (the "EPA") as one of many potentially responsible parties for
environmental liabilities associated with a "Superfund" site located in the area
of RPM's former manufacturing facilities and current distribution facility in
Azusa, California. The Federal Comprehensive Environmental Response,
Compensation, and Liability Act of 1980, as amended ("CERCLA" or "Superfund"),
provides for cleanup of sites from which there has been a release or threatened
release of hazardous substances, and authorizes recovery of related response
costs and certain other damages from potentially responsible parties ("PRPs").
PRPs are broadly defined under CERCLA, and generally include present owners and
operators of a site and certain past owners and operators. As a general rule,
courts have interpreted CERCLA to impose strict, joint and several liability
upon all persons liable for cleanup costs. As a practical matter, however, at
sites where there are multiple PRPs, the costs of cleanup typically are
allocated among the PRPs according to a volumetric or other standard. The EPA
has preliminarily estimated that it will cost approximately $47 million to
construct and approximately $4 million per year for an indefinite period to
operate an interim remedial groundwater pumping and treatment system for the
part of the Superfund site within which RPM's former manufacturing facilities
and current distribution facility, as well as those of many other potentially
responsible parties, are located. The actual cost of this remedial action could
vary substantially from this estimate, and additional costs associated with the
Superfund site are likely to be assessed. The Company has significantly reduced
its presence at the site and has moved all manufacturing operations off-site.
Since July 1995, the Company's only real property interest in this site has been
the lease of a 6,000 square foot storage and distribution facility. The RPM
acquisition agreement and the leases pursuant to which the Company leased RPM's
facilities after the Company acquired the assets of RPM (the "RPM Acquisition")
expressly provide that the Company did not assume any liabilities
9
for environmental conditions existing on or before the RPM Acquisition,
although the Company could become responsible for these liabilities under
various legal theories. The Company is indemnified against any such
liabilities by the seller of RPM as well as the Prior RPM Company
shareholders. There can be no assurance, however, that the Company would be
able to make any recovery under any indemnification provisions. Since the RPM
Acquisition, the Company has been engaged in negotiations with the EPA to
settle any liability that it may have for this site. Although there can be no
assurance, the Company believes that it will not incur any material liability
as a result of these environmental conditions.
CERTAIN FACTORS AFFECTING THE COMPANY
Set forth below are certain factors that may affect the Company's
business:
DEPENDENCE ON SIGNIFICANT CUSTOMERS
The Company's largest customer, DaimlerChrysler, accounted for
approximately 37.2%, 32.0% and 18.2% of the Company's net sales for 1996, 1997
and 1998, respectively. As a result of the Autocraft Acquisition, Ford accounted
for 17.1% of net sales in 1998. No other customer accounted for more than 10% of
the Company's net sales during any of these years.
DaimlerChrysler and Ford, like other North American OEMs, generally
require their dealers using remanufactured products to use only those from
approved suppliers. Although the Company is currently the only factory-approved
supplier of remanufactured transmissions for Chrysler vehicles and one of two
suppliers to Ford, DaimlerChrysler and Ford (like the Company's other OEM
customers) are not obligated to continue to purchase the Company's products and
there can be no assurance that the Company will be able to maintain or increase
the level of its sales to them or that they will not approve other suppliers in
the future. In addition, within the last three years the standard new vehicle
warranty for Chrysler vehicles was reduced from seven years/70,000 miles to
three years/36,000 miles and a shorter warranty could be implemented in the
future. Any such action could have the effect of reducing the amount of warranty
work performed by Chrysler dealers. An extended, substantial decrease in orders
from DaimlerChrysler would have a material adverse effect on the Company. See
"Customers--OEM Customers."
SHORTAGE OF TRANSMISSION CORES AND COMPONENT PARTS
In its remanufacturing operations, the Company obtains used
transmissions, hard parts, engines and related components, commonly known as
"cores," which are sorted and either placed into immediate production or stored
until needed. The majority of the cores remanufactured by the Company are
obtained from OEMs or from Independent Aftermarket customers as trade-ins. The
ability to obtain cores of the types and in the quantities required by the
Company is critical to the Company's ability to meet demand and expand
production. With the increased acceptance in the aftermarket of remanufactured
assemblies, the demand for cores has increased. The Company periodically has
experienced situations in which the inability to obtain sufficient cores has
limited its ability to accept all of the orders available to it. There can be no
assurance that the Company will not experience core shortages in the future. If
the Company were to experience such a shortage, it could have a material adverse
effect on the Company.
Certain component parts required in the Company's OEM transmission
remanufacturing process are manufactured by the Company's OEM customers. The
Company has experienced shortages of such component parts from time to time in
the past, and future shortages could have a material adverse effect on the
Company.
ABILITY TO ACHIEVE AND MANAGE GROWTH
An important element in the Company's growth strategy is the
acquisition and integration of complementary businesses in order to broaden
product offerings, capture market share and improve profitability. There can be
no assurance that the Company will be able to identify or reach mutually
agreeable terms with acquisition candidates, or that the Company will be able to
manage additional businesses profitably or successfully integrate such
additional businesses into the Company without substantial costs, delays or
other problems. Acquisitions may involve a number of special risks, including:
initial reductions in the Company's reported operating results; diversion of
management's
10
attention; unanticipated problems or legal liabilities; and a possible
reduction in reported earnings due to amortization of acquired intangible
assets in the event that such acquisitions are made at levels that exceed the
fair market value of net tangible assets. Some or all of these items could
have a material adverse effect on the Company. There can be no assurance that
businesses acquired in the future will achieve sales and profitability that
justify the investment therein. In addition, to the extent that consolidation
becomes more prevalent in the industry, the prices for attractive acquisition
candidates may increase to unacceptable levels. See "Business Strategy."
The Company's Distribution Group, which serves the Independent
Aftermarket, is composed of what were nine separate businesses, each with its
own independent distribution, planning and accounting system that did not work
with the systems of the other Distribution Group businesses. In furtherance of
the Company's business strategy to integrate these nine businesses into the ATC
Distribution Group, the Company began replacing these systems with an
enterprise-wide information system. However, as a result of system complexities
and unanticipated issues relating to the conversion of data from the old systems
to the new system, the business disruption experienced by the Distribution Group
has been greater than originally anticipated. As a result, of these problems,
the cost and the timing of the system implementation has exceed the Company's
plan. The Company expects to resolve these problems by the middle of 1999, after
which it will commence the final phase of the system implementation. However, no
assurance can be given that implementation will be completed within this time
frame.
The Company plans to expand its existing operations by broadening its
product lines and increasing the number of its distribution centers in the
United States. There can be no assurance that any new product lines introduced
by the Company will be successful, that the Company will manage successfully the
start-up and marketing of new products or that additional distribution centers
will be successfully integrated into the Company's existing operations or will
be profitable. See "Business Strategy."
In addition, the Company is exploring possible additional markets for its
remanufacturing capabilities, but no assurance can be given that the Company
will pursue any such opportunity or be successful outside the automotive
aftermarket. See "Business Strategy--Additional Remanufacturing Opportunities."
INDEBTEDNESS AND LIQUIDITY
The Company had outstanding long-term indebtedness of $270.5 million at
December 31, 1998. The level of the Company's consolidated indebtedness could
have important consequences, including the following: (i) a substantial portion
of the Company's cash flow from operations must be dedicated to the payment of
principal of, and interest on, its indebtedness and will not be available for
other purposes; (ii) the ability of the Company to obtain financing in the
future for working capital needs, capital expenditures, acquisitions,
investments, general corporate purposes or other purposes may be materially
limited or impaired; (iii) the Company's level of indebtedness may reduce its
flexibility to respond to changing business and economic conditions or take
advantage of business opportunities that may arise; and (iv) the ability of the
Company to pay dividends is restricted. See Item 5. "Market for Registrant's
Common Equity and Related Stockholder Matters." In addition, the Company's bank
credit agreement contains covenants that (i) require the Company to meet certain
financial ratios and (ii) limit the Company's ability to, among other things,
incur indebtedness, make capital expenditures, make investments, engage in
mergers and dispose of assets. The indenture that governs the Company's Senior
Subordinated Notes contains, among other things, a covenant that limits the
Company's ability to incur additional indebtedness. Any default by the Company
with respect to such covenants, or any inability on the part of the Company to
obtain necessary liquidity, could have a material adverse effect on the Company.
See Item 7. "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Liquidity and Capital Resources."
ENVIRONMENTAL MATTERS
The Company is subject to various evolving federal, state, local and
foreign environmental laws and regulations governing, among other things,
emissions to air, discharge to waters and the generation, handling, storage,
transportation, treatment and disposal of a variety of hazardous and
non-hazardous substances and wastes. These laws and regulations provide for
substantial fines and criminal sanctions for violations and impose liability for
the costs of cleaning up, and certain damages resulting from, past spills,
disposals or other releases of hazardous substances. In
11
connection with the Acquisitions, the Company conducted certain
investigations of the acquired companies' facilities and their compliance
with applicable environmental laws. These investigations found various
environmental matters and conditions that could, under certain circumstances,
expose the Company to liability. Furthermore, the company from which RPM
acquired its assets has been identified by the United States Environmental
Protection Agency as one of the many potentially responsible parties for
environmental liabilities associated with a "Superfund" site located in the
area of RPM's former manufacturing facilities and one of its current
distribution facilities. Although no assurances can be given, the Company
believes that it will not incur any material liabilities relating to these
matters. See "Environmental Matters."
COMPETITION
The automotive aftermarket for transmissions, engines and other drive
train products is highly fragmented and highly competitive. There can be no
assurance that the Company will compete successfully with other companies in its
industry segment, some of which are larger than the Company and have greater
financial and other resources available to them than does the Company. See
"Competition."
CONTROL OF THE COMPANY; ANTI-TAKEOVER MATTERS
The Company is controlled by Aurora Equity Partners L.P. and Aurora
Overseas Equity Partners I, L.P. (collectively, the "Aurora Partnerships"),
which hold approximately 55% of the voting power in the Company (through direct
ownership and certain voting arrangements). Therefore, the Aurora Partnerships
will be able to elect all of the directors of the Company and approve or
disapprove any matter submitted to a vote of the Company's stockholders. As a
result of the Aurora Partnerships' substantial ownership interest in the Common
Stock, it may be more difficult for a third party to acquire the Company. A
potential buyer would likely be deterred from any effort to acquire the Company
absent the consent of the Aurora Partnerships or their participation in the
transaction. The general partner of each of the Aurora Partnerships is
controlled by Richard R. Crowell, Gerald L. Parsky and Richard K. Roeder, each
of whom is a director of the Company. The Indentures governing the Company's 12%
Senior Subordinated Notes due 2004 (the "Senior Notes") contain provisions that
would allow a holder to require the Company to repurchase such holder's Senior
Notes at a cash price equal to 101% of the principal amount thereof, together
with accrued interest, upon the occurrence of a "change of control" of the
Company (as defined therein), which could also have the effect of discouraging a
third party from acquiring the Company. See Item 12. "Security Ownership of
Certain Beneficial Owners and Management."
In addition, the Company's Board of Directors is authorized, subject to
certain limitations prescribed by law, to issue up to 2,000,000 shares of
preferred stock in one or more classes or series and to fix the designations,
powers, preferences, rights, qualifications, limitations or restrictions,
including voting rights, of those shares without any further vote or action by
stockholders. The rights of the holders of Common Stock will be subject to, and
may be adversely affected by, the rights of the holders of any preferred stock
that may be issued in the future. The issuance of preferred stock, while
providing flexibility in connection with possible acquisitions and other
corporate transactions, could have the effect of making it more difficult for a
third party to acquire a majority of the outstanding voting stock of the
Company. The Company has no current plans to issue shares of preferred stock.
12
ITEM 2. PROPERTIES
The Company conducts its remanufacturing and other non-distribution
operations at the following facilities:
LEASE
APPROXIMATE EXPIRATION
LOCATION SQ. FEET DATE PRODUCTS PRODUCED/SERVICES PROVIDED
- ----------------------- ---------- ---------- -----------------------------------
Rancho Cucamonga, CA 153,000 2002 torque converters
Joplin, MO 264,000 2008 transmissions
Springfield, MO 280,800 2004 transmissions and engines
Springfield, MO 200,000 2006 core return center
Springfield, MO 30,000 (1) torque converters
Springfield, MO 34,000 (1) cleaning and testing equipment
Gastonia, NC 130,000 2000 transmissions and valve bodies
Mahwah, NJ 160,000 2003 transmissions, transfer cases and assorted components
Dayton, OH 42,000 2004 torque converters
Oklahoma City, OK 13,400 1999 radios, instrument and display clusters, and
cellular products
Oklahoma City, OK 90,000 (2) transmissions
Oklahoma City, OK 98,000 owned material recovery
Oklahoma City, OK 207,000 owned transmissions
Carrollton, TX 39,000 2006 radios and instrument and display clusters
Houston, TX 50,000 2002 engine control modules and radios
Grantham, England 120,000 owned engines and related components
Mexicali, Mexico 77,100 (3) torque converters
- ------------
(1) Terminable by either party on 30 days' notice.
(2) Terminable by either party on six months' notice.
(3) During the second quarter of 1999 this operation will be moved to a new
43,800 square foot facility with a lease term expiring in 2007.
The Company distributes transmission repair kits, soft parts, torque
converters and drive train hard parts and/or engines to non-OEM customers
through 65 local and seven regional distribution centers in the United States
and Canada, all of which are leased. The local distribution centers generally
range in size from 5,000 to 20,000 square feet and are typically leased for
five-year terms with a portion of the leases expiring every year. The regional
distribution centers range in size from 14,000 to 168,000 square feet and have
lease expiration dates at various times through 2012. The Company leases a
220,000 square foot facility in Fort Worth, Texas from which it distributes
cellular telephones for AT&T Wireless. This lease expires in 2008. The Company
also leases assorted warehouses and space for its corporate offices and computer
services.
The Company believes that its current manufacturing facilities and
distribution centers are adequate for the current level of the Company's
activities. The Company's manufacturing sites have the flexibility to add both
additional shifts and production workers needed to accommodate additional demand
for products and services. However, in the event the Company were to experience
a material increase in sales, the Company may require additional manufacturing
facilities. The Company believes such additional facilities are readily
available on a timely basis on commercially reasonable terms. Further, the
Company believes that the leased space housing its existing manufacturing and
distribution facilities is not unique and could be readily replaced, if
necessary, at the end of the terms of its existing leases on commercially
reasonable terms. Historically, the Company has been able to renew leases or
find alternate space upon the expiration of its leases without material
interruption in the subject facilities' operations. Many of the Company's leases
are renewable at the option of the Company.
ITEM 3. LEGAL PROCEEDINGS
From time to time, the Company has been and is involved in various
legal proceedings. Management believes that all of such litigation is routine in
nature and incidental to the conduct of its business, and that none of such
13
litigation, if determined adversely to the Company, would have a material
adverse effect, individually or in the aggregate, on the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the stockholders of the Company
during the quarter ended December 31, 1998.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock has been traded on the Nasdaq National
Market under the symbol "ATAC" since the IPO in December 1996. As of March 4,
1999, there were approximately 101 record holders of its Common Stock. The
following table sets forth for the periods indicated the range of high and low
sale prices of the Common Stock as reported by Nasdaq:
HIGH LOW
---- ---
1997
First quarter........................................... 19-5/8 14-3/8
Second quarter.......................................... 23 14-3/4
Third quarter........................................... 27-1/4 18-1/2
Fourth quarter.......................................... 24-3/4 15-1/2
1998
First quarter........................................... 27-1/4 17
Second quarter.......................................... 23-7/16 16-1/4
Third quarter........................................... 18-1/2 9-1/8
Fourth quarter.......................................... 11-1/2 3-7/8
On March 4, 1999, the last sale price of the Common Stock, as reported by
Nasdaq, was $5-7/8 per share.
The Company has not paid cash dividends on its Common Stock to date.
Because the Company currently intends to retain any earnings to provide funds
for the operation and expansion of its business and for the servicing and
repayment of indebtedness, the Company does not intend to pay cash dividends on
its Common Stock in the foreseeable future. Furthermore, as a holding company
with no independent operations, the ability of the Company to pay cash dividends
is dependent upon the receipt of dividends or other payments from its
subsidiaries. Under the terms of the Indentures governing the Senior Notes, the
Company is not permitted to pay any dividends on its Common Stock unless certain
financial ratio tests are satisfied. In addition, the Company's Credit Facility
contains certain covenants that, among other things, prohibit the payment of
dividends by the Company. See Item 7. "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Liquidity and Capital Resources."
Any determination to pay cash dividends on the Company's Common Stock in the
future will be at the sole discretion of the Company's Board of Directors.
During 1998, the Company did not issue any securities that were not
registered under the Securities Act of 1933, as amended.
14
ITEM 6. SELECTED FINANCIAL DATA
The selected financial data presented below with respect to the
statements of income data for the years ended December 31, 1996, 1997 and 1998
and the balance sheet data at December 31, 1997 and 1998 are derived from the
Consolidated Financial Statements of the Company that have been audited by Ernst
& Young LLP, independent auditors, and are included elsewhere herein, and are
qualified by reference to such financial statements and notes related thereto.
The selected financial data with respect to the statement of income data for the
seven months ended July 31, 1994, the five months ended December 31, 1994 and
for the year ended December 31, 1995 and the balance sheet data at December 31,
1994, 1995 and 1996, are derived from the audited Combined Financial Statements
of the Predecessor Companies and the Consolidated Financial Statements of the
Company that have been audited by Ernst & Young LLP, independent auditors, but
are not included herein. The data provided should be read in conjunction with
the Consolidated Financial Statements, related notes and other financial
information included in this Annual Report.
COMBINED
-------- CONSOLIDATED
FOR THE ------------------------------------------------------------------
SEVEN MONTHS FOR THE FIVE
ENDED MONTHS ENDED FOR THE YEAR ENDED DECEMBER 31,
JULY 31, DECEMBER 31, ------------------------------------------------
1994(1) 1994 1995 1996 1997 1998
---------- ---------- ---------- ---------- ---------- ---------
(IN THOUSANDS EXCEPT PER SHARE DATA)
STATEMENT OF INCOME DATA:
Net sales................... $90,056 $67,736 $190,659 $272,878 $346,110 $486,773
Cost of sales............... 52,245 40,112 115,499 166,810 212,416 348,443
------ -------- --------- -------- -------- --------
Gross profit................ 37,811 27,624 75,160 106,068 133,694 138,330
Selling, general and
administrative expenses... 20,475 14,206 38,971 55,510 73,768 109,357
Amortization of intangible
assets.................... 16 1,210 3,308 3,738 4,501 6,806
Special charges............. -- -- -- -- -- 8,744
---------- ---------- ---------- ---------- ---------- ---------
Operating income............ 17,320 12,208 32,881 46,820 55,425 13,423
Interest expense (income), net (158) 6,032 16,915 19,106 16,910 23,714
Income tax expense
(benefit)(2)................. (5) 2,565 6,467 11,415 15,512 (3,176)
----------- --------- ----------- -------- --------- ----------
Income (loss) before
extraordinary items (3)(4).. $ 17,483 3,611 9,499 16,299 23,003 (7,115)
Preferred stock dividends... 853 2,093 2,222 -- --
---------- ----------- --------- ---------- ----------
Income (loss) before
extraordinary items
available to common
stockholders.............. $ 2,758 $ 7,406 $ 14,077 $ 23,003 $ (7,115)
======== ========= ======== ======== =========
Earnings (loss) per share
before extraordinary
items (5).................. $ 0.65 $ 1.02 $ 1.19 $ (0.36)
Shares used in computation
of earnings per share
before extraordinary
items (5).................. 14,616 15,918 19,335 19,986
OTHER DATA:
Capital expenditures (6).... $ 1,850 $ 1,336 $ 5,187 $ 7,843 $ 8,682 $ 23,525
15
CONSOLIDATED
-------------------------------------------------------------------
DECEMBER 31,
-------------------------------------------------------------------
1994 1995 1996 1997 1998
-------- -------- -------- -------- --------
(IN THOUSANDS)
BALANCE SHEET DATA:
Working capital............................. $ 40,499 $ 60,012 $103,371 $ 98,523 $ 87,934
Property, plant and equipment, net.......... 6,196 10,784 17,482 24,414 63,903
Total assets................................ 187,293 247,932 320,747 368,677 531,905
Long-term liabilities (7)................... 121,483 165,724 167,233 152,571 258,042
Preferred stock............................. 20,853 22,946 -- -- --
Common stockholders' equity................. 22,757 30,188 105,832 175,429 168,011
- ---------------
(1) The combined financial statements for the seven months ended July 31, 1994
include the operations of the Predecessor Companies up to their respective
acquisition dates. All material transactions between the Predecessor
Companies have been eliminated.
(2) Two of the Predecessor Companies elected to be taxed as S Corporations for
all periods prior to the Initial Acquisitions; therefore, for federal and
state income tax purposes, any income or loss generally was not taxed to
these companies but was reported by their respective stockholders. A pro
forma provision for taxes based on income reflecting the estimated
provision for federal and state income taxes that would have been provided
had these companies been C Corporations and included in consolidated
returns with the Company was $7,004 for the seven months ended July 31,
1994.
(3) Income before extraordinary item for the year ended December 31, 1997
excludes an extraordinary item in the amount of $3,749 ($6,269 less related
income tax benefit of $2,520). This amount is comprised of (i) a $3,425
charge resulting from the early redemption of $40,000 in principal amount
of the Company's Senior Subordinated Notes in February 1997, which included
the payment of a 12.0% early redemption premium and the write-off of
related debt issuance costs and (ii) a charge of $324 for the write-off of
previously capitalized debt issuance costs in connection with the
termination of the Company's previous revolving credit facility.
(4) Loss before extraordinary item for the year ended December 31, 1998
excludes an extraordinary item in the amount of $703 ($1,172 less related
income tax benefit of $469). This amount is comprised of (i) a $340 charge
resulting from the early redemption of $9,615 in principal amount of the
Company's Senior Subordinated Notes in September and October of 1998, which
included the payment of a 4.0% early redemption premium and the write-off
of related debt issuance costs, and (ii) a charge of $363 for the write-off
of previously capitalized debt issuance costs in connection with the
termination of the Company's previous revolving credit facility.
(5) See Note 14 to Consolidated Financial Statements for a description of the
computation of earnings per share.
(6) Excludes capital expenditures made by certain of the Company's subsidiaries
prior to such subsidiaries' respective acquisitions and any capital
expenditures made in connection with such acquisitions.
(7) Includes deferred tax liabilities of $1,438, $3,478, $5,252, $8,044 and
$11,492 at December 31, 1994, 1995, 1996, 1997 and 1998, respectively.
16
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the
Consolidated Financial Statements of the Company and notes thereto included
elsewhere in this Annual Report. See Item 8. "Consolidated Financial Statements
and Supplementary Data."
Readers are cautioned that the following discussion contains certain
forward-looking statements and should be read in conjunction with the
"Forward-Looking Statement Notice" appearing at the beginning of this Annual
Report.
OVERVIEW
The Company's revenues are generated primarily through the sale of
drive train products used in the repair of vehicles in the automotive
aftermarket. Since its formation, the Company has benefited from a combination
of internal and acquisition-related revenue growth, achieving compounded annual
growth in revenue of approximately 32.5% from 1994 through 1998.
From 1994 through 1998, the Company's revenues from sales to the OEM
segment increased by 31.2% compounded annually from $85.3 million to $253.0
million due to increased sales to existing customers, including DaimlerChrysler,
and the addition of Ford and General Motors as customers. During the same
period, revenues from sales to the Independent Aftermarket segment increased by
26.7% compounded annually from $72.5 million to $186.7 million. This growth was
due to acquisitions, geographic expansion through the addition of distribution
centers, a broadened product line, effective sales efforts, and the development
of new customers.
The Company regularly evaluates strategic acquisition opportunities in
the automotive aftermarket and expects to continue to do so in the future. On
March 6, 1998, the Company completed the acquisition of substantially all the
assets of the OEM Division of Autocraft. See Item 1. "Business."
The primary components of the Company's cost of goods sold are the cost
of cores and component parts, labor costs and overhead. While certain of these
costs have fluctuated as a percentage of sales over time, cost of goods sold as
a percentage of sales remained relatively constant from 1994 through 1997. The
increased costs during 1998 were in part related to non-recurring costs totaling
$12.7 million, which are described below. Excluding such non-recurring costs,
cost of goods sold in 1998 as a percentage of sales would have been 69.0% as
compared to 61.4% in 1997. The increase as a percentage of net sales was
primarily due to changes in mix within the OEM segment and costs relating to the
implementation of the Independent Aftermarket segment's enterprise-wide
information system.
Selling, general and administrative ("SG&A") expenses consist primarily
of salaries, commissions, rent, marketing expenses and other management
infrastructure expenses. SG&A expenses as a percentage of sales declined from
22.0% in 1994 to 21.3% in 1997 principally due to the effect of spreading
certain fixed costs over a larger revenue base. During 1998, SG&A expense as a
percentage of sales increased to 22.5% primarily due to non-recurring costs of
$7.5 million as described below. Excluding such non-recurring costs, SG&A
expense in 1998 would have been 20.9% as a percentage of net sales.
17
Income (loss) before income taxes and extraordinary items for 1998 was
negatively impacted by costs that management believes are non-recurring and
other special charges totaling $30.1 million before income taxes ($18.1 million,
net of income taxes). The table below sets out such costs and charges by each
reportable segment expressed in millions of dollars:
INDEPENDENT
OEM AFTERMARKET UNALLOCATED TOTAL
------- ------------ ----------- ------
NON-RECURRING COSTS:
Core liability.................................... $ 5.2 $ - $ - $ 5.2
Expenses related to start-up costs and
internal use software.......................... 0.4 2.4 0.3 3.1
Changes in Company policies related to employee
benefits and warranty.......................... 0.8 1.1 - 1.9
Changes in estimates of inventory and
other reserves................................. 3.6 5.8 0.6 10.0
Loss on sale of Mascot............................ - - 1.2 1.2
------- ------- ------- ------
10.0 9.3 2.1 21.4
SPECIAL CHARGES:
Restructuring..................................... 0.6 1.6 1.6 3.8
Facility consolidation............................ 2.0 0.5 - 2.5
Non-income related taxes.......................... 2.4 - - 2.4
------- ------- ------- ------
5.0 2.1 1.6 8.7
------- ------- ------- ------
Total charges before income tax benefit........... 15.0 11.4 3.7 30.1
Income tax benefit................................ (6.0) (4.6) (1.4) (12.0)
------- ------- ------- ------
Total charges, net................................ $ 9.0 $ 6.8 $ 2.3 $18.1
======= ======= ======== ======
NON-RECURRING COSTS. During 1998, the Company recorded charges for
non-recurring costs totaling $21.4 million. Of these charges, $10.0 million
related to changes in certain of its estimates. The Company's implementation of
an enterprise-wide information system in its Independent Aftermarket segment
provided for access to inventory information previously unavailable. Based in
part on this new information, the Company refined its methodologies for the
determination of inventory reserve requirements and, as a result, recorded a
charge of $6.7 million to increase its inventory reserves. Similarly, the
Company recorded increases of $3.3 million in certain of its other reserves. The
Company believes that these charges were one-time in nature due to the
application of new information and estimate methodologies and intends to
consistently apply them in the future. Additionally, the Company recorded
reserves of $5.2 million for a liability related to the purchase of excess
cores.
SPECIAL CHARGES. In 1998, the Company recorded special charges of $8.7
million, primarily related to certain initiatives designed to improve operating
efficiencies and reduce costs. The special charges consisted of (i)
restructuring costs of $3.8 million consisting principally of employee severance
costs and certain other exit costs and (ii) facility consolidation costs of $2.5
million relating principally to idle plant capacity costs. The Company also
incurred a fourth quarter charge of $2.4 million for non-income related taxes
due to a state's 1998 interpretation of its tax law. The interpretation was
required to be applied retroactively to previous periods. The Company expects to
incur approximately $4 million of additional special charges during 1999.
Excluding the 1998 costs and charges, income before income taxes and
extraordinary items would have been $19.8 million in 1998 as compared to $38.5
million in 1997. This decrease was primarily attributable to (i) a decline in
demand for remanufactured Chrysler transmissions and related reduction of
inventory at DaimlerChrysler and (ii) problems related to the Company's
implementation of the enterprise-wide information system in the Independent
Aftermarket segment.
18
RESULTS OF OPERATIONS
The following table sets forth certain financial statement data
expressed in millions of dollars and as a percentage of net sales.
For the Years Ended December 31,
---------------------------------------------------------
1996 1997 1998
------- ------ ------- ------ ------- -------
Net sales.............................. $272.9 100.0% $346.1 100.0% $486.8 100.0%
Cost of sales.......................... 166.8 61.1 212.4 61.4 348.5 71.6
------- ------ ------- ------ ------- -------
Gross profit........................... 106.1 38.9 133.7 38.6 138.3 28.4
SG&A expenses.......................... 55.5 20.3 73.8 21.3 109.4 22.5
Amortization of intangible assets...... 3.8 1.4 4.5 1.3 6.8 1.3
Special charges........................ - - - - 8.7 1.8
------- ------ ------- ------ ------- -------
Operating income....................... 46.8 17.2 55.4 16.0 13.4 2.8
Interest expense, net and other........ 19.1 7.0 16.9 4.9 23.7 4.9
------- ------ ------- ------ ------- -------
Income (loss) before income taxes
and extraordinary items.............. 27.7 10.2 38.5 11.1 (10.3) (2.1)
Income tax expense (benefit)........... 11.4 4.2 15.5 4.5 (3.2) (.7)
------- ------ ------- ------ ------- -------
Income (loss) before extraordinary items $ 16.3 6.0% $ 23.0 6.6% $( 7.1) (1.4)%
====== ====== ====== ====== ======= ======
The Company has two reportable segments: the OEM segment and the
Independent Aftermarket segment. The OEM segment consists of four operating
units that sell remanufactured transmissions directly to automobile
manufacturers, principally DaimlerChrysler Corporation, Ford Motor Company,
General Motors Corporation and several foreign OEMs, for use as replacement
parts by their domestic dealers during the warranty and post-warranty periods
following the sale of a vehicle. In addition, the OEM segment sells select
remanufactured engines to DaimlerChrysler and certain European OEMs and a broad
range of remanufactured domestic and foreign engines to general repair shops and
retail automotive parts stores. The Company's Independent Aftermarket segment
primarily sells transmission repair kits, soft parts, remanufactured torque
converters and new and remanufactured hard parts used in drive train repairs to
independent transmission rebuilders for repairs generally during the period
following the expiration of the vehicle warranty. To a lesser extent, the
Independent Aftermarket segment also sells its products to general repair shops,
wholesale distributors and retail automotive parts stores. In addition to the
OEM and Independent Aftermarket segments, the Company has three operating units
reflected as "other" segments due to their relative size, all of which were
acquired in the Autocraft Acquisition: an electronic parts remanufacturing and
distribution business; warehouse and distribution services for AT&T Wireless
(the cellular telephone subsidiary of AT&T); and a material recovery processing
business for Ford. None of these operating units meet the quantitative
thresholds for determining reportable segments. See Item 8. "Financial
Statements and Supplementary Data--Note 17."
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997
Income (loss) before extraordinary items decreased $30.1 million from
$23.0 million in 1997 to a $7.1 million loss in 1998. Excluding the
non-recurring costs and other special charges, income before extraordinary items
would have been $11.0 million. This decrease was primarily attributable to (i) a
decline in demand for remanufactured Chrysler transmissions and related
reduction of inventory at DaimlerChrysler and (ii) problems related to the
Company's implementation of the enterprise-wide information system in the
Independent Aftermarket segment. On a per share basis, income (loss) before
extraordinary items decreased from $1.19 per diluted share in 1997 to a loss of
$0.36 per share in 1998.
NET SALES. Net sales increased $140.7 million, or 40.7%, from $346.1
million in 1997 to $486.8 million in 1998. Of this increase, $131.8 million
related to the March 1998 Autocraft Acquisition
19
and $32.3 million related to a full year's net sales for the 1997
Acquisitions, partially offset by a $23.4 million decline in sales by the
Company's other businesses.
GROSS PROFIT. Gross profit increased $4.6 million, or 3.4%, from $133.7
in 1997 to $138.3 million in 1998. As a percentage of net sales, gross profit
decreased from 38.6% to 28.4% between the two periods. The decrease in gross
profit margins was primarily related to (1) changes in OEM segment sales mix and
(2) system complexities and problems with data conversion encountered during the
implementation of the Independent Aftermarket segment's enterprise-wide
information system, which resulted in an internalization of management's focus
and hampered inventory management functions, pricing initiatives and sales
growth efforts. In addition, the Company incurred $12.7 million of non-recurring
costs primarily consisting of (i) $6.7 million for increased inventory reserves
and (ii) $5.2 million for a liability related to the purchase of excess cores.
Excluding these costs, gross profit in 1998 would have been $151.0 million or
31.0% of net sales.
SG&A EXPENSES. SG&A expenses increased $35.6 million, or 48.2%, from
$73.8 million in 1997 to $109.4 million in 1998. As a percentage of net sales,
SG&A expenses increased from 21.3% to 22.5% between the two periods. During
1998, the Company incurred $7.5 million of non-recurring costs including (i)
$3.0 million in increased changes in estimates and other reserves, (ii) $2.7
million related to start-up costs and internal use software and (iii) $1.8
million related to changes in employee benefits and warranty policies. Excluding
these costs, SG&A expenses in 1998 would have been $101.9 million or 20.9% of
net sales as compared to 21.3% in 1997. On an absolute dollar basis, the
increase is primarily attributable to additional SG&A expenses for the Autocraft
businesses acquired in March 1998 and a full year's expense for the 1997
Acquisitions.
AMORTIZATION OF INTANGIBLE ASSETS. Amortization of intangible assets
increased $2.3 million, or 51.1%, from $4.5 million in 1997 to $6.8 million in
1998. The increase was primarily attributable to the March 1998 Autocraft
Acquisition.
SPECIAL CHARGES. During 1998, the Company incurred $8.7 million of
special charges. These charges consisted of (i) $3.6 million of charges during
the second quarter in connection with the consolidation of certain manufacturing
plants and restructuring charges and (ii) $5.1 million incurred primarily
relating to restructuring costs and a state's interpretation of its tax law that
subjected a portion of the OEM segment's operations over the past four years to
a state tax for the first time.
INCOME FROM OPERATIONS. Principally as a result of the factors
described above, income from operations decreased $42.0 million, or 75.8%, from
$55.4 million in 1997 to $13.4 million in 1998.
INTEREST EXPENSE, NET AND OTHER. Interest expense, net and other
increased $6.8 million, or 40.2%, from $16.9 million in 1997 to $23.7 million in
1998. The increase primarily resulted from borrowing under the Company's $120.0
million term loan credit facility in March 1998 to finance the Autocraft
Acquisition and increased borrowings under the Company's $100.0 million
revolving credit facility (such term loan and revolving facilities are referred
to as the "Credit Facility") partially offset by the early redemption in
September and October 1998 of $9.6 million in principal amount of Senior Notes.
In addition, the Company recognized a $1.2 million loss on the sale of Mascot.
EXTRAORDINARY ITEMS. In 1997, an extraordinary item in the amount of
$3.8 million ($6.3 million before related income tax benefit of $2.5 million)
was recorded. This amount is comprised of (i) a $3.4 million charge resulting
from the early redemption of $40.0 million of the Senior Notes in February 1997,
which included the payment of a 12.0% early redemption premium and the write-off
of related debt issuance costs and (ii) a charge of approximately $0.4 million
for the write-off of previously capitalized debt issuance costs in connection
with the termination of the Company's previous revolving credit facility.
In 1998, an extraordinary item in the amount of $0.7 million ($1.2
million before related income tax benefit of $0.5 million) was recorded. This
amount was comprised of (i) a $0.4 million charge for the write-
20
off of deferred financing fees in connection with the Company's new Credit
Facility and (ii) a $0.3 million charge resulting from the repurchase of $9.6
million in principal amount of the Senior Notes in open market transactions.
OEM SEGMENT
The following table presents net sales, special charges and segment
profit expressed in millions of dollars and as a percentage of net sales:
For the Years Ended December 31,
----------------------------------------
1997 1998
------------------- ----------------
Net sales........................ $ 180.3 100.0% $ 253.0 100.0%
======= ===== ======= =====
Special charges.................. $ -- --% $ 5.0 2.0%
======= ===== ======= =====
Segment profit................... $ 32.7 18.1% $ 5.5 2.2%
======= ===== ======= =====
NET SALES. Net sales increased $72.7 million, or 40.3%, from $180.3
million in 1997 to $253.0 million in 1998. This increase was due to the March
1998 Autocraft Acquisition, which accounted for approximately $91.5 million in
incremental net sales, partially offset by an $18.8 million decline in sales to
existing customers, particularly DaimlerChrysler. As previously reported, the
demand for Chrysler transmissions declined in 1998 primarily due to (i) moderate
weather during the winter of 1997-1998 and (ii) improved quality of late model
original equipment front wheel drive transmissions. The decline in demand led to
reduced inventory requirements at DaimlerChrysler. In order to assist
DaimlerChrysler in meeting these inventory requirements by the end of 1998, the
Company significantly reduced its shipments to DaimlerChrysler during the second
half of the year. The Company believes that the reduction in inventory levels is
complete. The Company also believes that reduced demand for Chrysler front wheel
drive transmissions due to improved quality will be mostly offset by demand for
Chrysler rear wheel drive transmissions, which the Company began remanufacturing
during the third quarter of 1998. Sales to DaimlerChrysler accounted for 32.0%
and 18.2% of the Company's revenues (61.4% and 34.9% of segment revenues) in
1997 and 1998, respectively. Sales to Ford, (which became a customer in March
1998) accounted for 17.1% of the Company's revenues (32.9% of segment revenues)
in 1998.
SPECIAL CHARGES. The OEM segment incurred $5.0 million of special
charges in 1998. These charges consisted of (i) $2.6 million incurred during the
second quarter of the year in connection with the consolidation of certain
manufacturing plants and (ii) $2.4 million incurred in the fourth quarter
relating to a state's interpretation of its tax law that subjected a portion of
the segment's operations over the past four years to a state tax for the first
time.
SEGMENT PROFIT. Segment profit decreased $26.9 million, or 82.3%, from
$32.7 million (18.1% of OEM net sales) in 1997 to $5.5 million (2.2% of OEM net
sales) in 1998. Excluding the special charges of $5.0 million and the
non-recurring costs of $10.0 million discussed above, segment profit in 1998
would have been $20.5 million (8.1% of segment net sales). The decline was
primarily the result of changes in the sales mix in the OEM segment and to the
lower fixed cost absorption as a result of decreased DaimlerChrysler sales in
1998.
21
INDEPENDENT AFTERMARKET SEGMENT
The following table presents net sales, special charges and segment
profit (loss) expressed in millions of dollars and as a percentage of net sales:
For the Years Ended December 31,
----------------------------------------
1997 1998
------------------- ----------------
Net sales........................ $ 158.4 100.0% $ 186.7 100.0%
======= ===== ======= =====
Special charges.................. $ -- --% $ 2.1 1.1%
======= ===== ======= =====
Segment profit (loss) ........... $ 3.6 2.3% $ (22.1) (11.8)%
======= ===== ======= =====
NET SALES. Net sales increased $28.3 million, or 17.9%, from $158.4
million in 1997 to $186.7 million in 1998. The increase related to a full year's
net sales from the three Independent Aftermarket companies acquired in 1997 of
$32.3 million.
Sales for the remainder of the segment's units were relatively flat year over
year.
SPECIAL CHARGES. The Independent Aftermarket segment incurred $2.1
million of special charges in 1998. These charges consisted of (i) $1.6 million
for restructuring charges ($0.3 million in the second quarter and $1.3 million
in the fourth quarter), which included severance and certain other exit costs,
and (ii) $0.5 million incurred in the fourth quarter relating to facility
consolidation.
SEGMENT PROFIT (LOSS). Segment profit decreased $25.7 million from $3.6
million (2.3% of segment net sales) in 1997 to a $22.1 million loss in 1998.
Excluding the special charges of $2.1 million and the non-recurring costs of
$9.3 million discussed above, segment loss would have been $10.7 million in
1998. The decline was primarily the result of problems relating to the
enterprise-wide information systems implementation and the continued operational
consolidation from nine separate entities into one during 1998.
OTHER OPERATING UNITS
The following table presents net sales and segment profit (loss)
expressed in millions of dollars and as a percentage of net sales:
For the Years Ended December 31,
----------------------------------------
1997 1998
------------------- ----------------
Net sales........................ $ 7.4 100.0% $ 47.1 100.0%
======= ===== ======= =====
Segment profit (loss)............ $ (0.2) (2.7)% $ 2.3 4.9%
======= ===== ======= =====
NET SALES. Net sales increased $39.7 million, or 536.5%, from $7.4
million in 1997 to $47.1 million in 1998. The increase was attributable to
sales by the electronic components, logistics services and material recovery
business units, which were acquired in March 1998 as part of the Autocraft
Acquisition. See Item 1. "Business--Other Operating Units" for a description
of these business units. Prior to the Autocraft Acquisition, revenue in this
segment was entirely attributable to Mascot, the Company's Canadian
heavy-duty truck remanufacturing operation, which was sold in February 1999.
SEGMENT PROFIT (LOSS). Segment profit increased $2.5 million from a
loss of $0.2 million in 1997 to $2.3 million in 1998. The increase was primarily
the result of sales volume from the Autocraft Acquisition.
22
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996
Income before extraordinary items increased $6.7 million, or 41.1%,
from $16.3 million in 1996 to $23.0 million in 1997. Net sales increased 26.8%,
from $272.9 million in 1996 to $346.1 million in 1997, primarily due to sales
generated by the 1997 Acquisitions as well as increased sales volumes to OEM
customers. In general, cost of goods sold and SG&A expenses increased
proportionally.
On a per share basis, income before extraordinary items increased from
$1.02 per diluted share in 1996 to $1.19 per diluted share in 1997. The number
of shares used in the per share calculations were 15.9 million in 1996 and 19.3
million in 1997. The increase in shares resulted primarily from the Company's
public offering of Common Stock in October 1997.
NET SALES. Net sales increased $73.2 million, or 26.8%, from $272.9
million in 1996 to $346.1 million in 1997. Of this increase, $23.2 million was
due to internal growth and $50.0 million was due to the incremental net sales
generated by the 1997 Acquisitions. Net sales to DaimlerChrysler represented
37.2% of total net sales in 1996, as compared to 32.0% in 1997.
GROSS PROFIT. Gross profit as a percentage of net sales remained
relatively constant at 38.6% in 1997 as compared to 38.9% in 1996.
SG&A EXPENSES. SG&A expenses increased $18.3 million, or 33.0%, from
$55.5 million in 1996 to $73.8 million in 1997. As a percentage of net sales,
SG&A expenses increased from 20.3% to 21.3% between the two periods. The
increase in SG&A expenses was primarily due to the ongoing incremental expenses
of the 1996 and 1997 Acquisitions, certain enhancements to the Company's
infrastructure (including additional management and information systems) and
additional selling and other variable overhead costs associated with the higher
sales volume (including increased production capacity). The increase in SG&A
expenses as a percentage of net sales was primarily attributable to (i) the
deferred compensation expense described below, (ii) certain enhancements to the
Company's infrastructure (including additional management and information
systems) and (iii) the additional ongoing expenses associated with being a
publicly held company.
Included in SG&A expenses were non-cash charges totaling $0.5 million
in 1996 and $1.8 million in 1997, representing the pro rata portion for each
year of deferred compensation expense relating to stock options.
AMORTIZATION OF INTANGIBLE ASSETS. Amortization of intangible assets
increased $0.7 million, or 18.4%, from $3.8 million in 1996 to $4.5 million in
1997. The increase resulted from the additional intangible assets arising from
the 1996 and 1997 Acquisitions.
INCOME FROM OPERATIONS. Principally as a result of the factors
described above, income from operations increased $8.6 million, or 18.4%, from
$46.8 million in 1996 to $55.4 million in 1997.
INTEREST EXPENSE, NET AND OTHER. Interest expense, net and other
decreased $2.2 million, or 11.5%, from $19.1 million in 1996 to $16.9 million in
1997. The lower interest resulted from the net effect of the early redemption in
February 1997 of $40.0 million of the Senior Notes offset to some extent by
increased borrowings under the Credit Facility. The Credit Facility carries a
significantly lower effective interest rate than did the Senior Notes.
EXTRAORDINARY ITEMS. An extraordinary item in the amount of $3.8
million ($6.3 million before related income tax benefit of $2.5 million) was
recorded in 1997. This amount was comprised of (i) a $3.4 million charge
resulting from the early redemption of $40.0 million of the Senior Notes in
February 1997, which included the payment of a 12.0% early redemption premium
and the write-off of related debt issuance costs and (ii) a charge of $0.4
million for the write-off of previously capitalized debt issuance costs in
connection with the termination of the Company's previous revolving credit
facility.
23
OEM SEGMENT
The following table presents net sales and segment profit expressed in
millions of dollars and as a percentage of net sales:
For the Years Ended December 31,
----------------------------------------
1996 1997
------------------- ----------------
Net sales........................ $ 159.5 100.0% $ 180.3 100.0%
======= ===== ======= =====
Segment profit................... $ 26.9 16.9% $ 32.7 18.1%
======= ===== ======= =====
NET SALES. OEM segment net sales increased $20.8 million, or 13.0%,
from $159.5 million in 1996 to $180.3 million in 1997. The increase primarily
related to internal sales growth within the OEM segment with sales to
DaimlerChrysler representing 37.2% and 32.0% of the Company's revenues (63.6%
and 61.4% of segment revenues) in 1996 and 1997, respectively.
SEGMENT PROFIT. OEM segment profit as a percentage of OEM net sales
improved slightly from 16.9% to 18.1% between the two periods. The increase was
the result of increased segment net sales with slight improvement in gross
profit margins, as a percentage of segment net sales, due to the improvement of
fixed cost absorption driven by increased sales volume.
INDEPENDENT AFTERMARKET SEGMENT
The following table presents net sales and segment profit expressed in
millions of dollars and as a percentage of net sales:
For the Years Ended December 31,
----------------------------------------
1996 1997
------------------- ----------------
Net sales........................ $ 107.0 100.0% $ 158.4 100.0%
======= ===== ======= =====
Segment profit................... $ 2.0 1.9% $ 3.6 2.3%
======= ===== ======= =====
NET SALES. Independent Aftermarket segment net sales increased $51.4
million, or 48.0%, from $107.0 million in 1996 to $158.4 million in 1997. The
increase was primarily due to (i) $13.0 million from internal growth and (ii)
$35.1 million from incremental net sales generated by the Independent
Aftermarket segment companies acquired in 1996 and 1997.
SEGMENT PROFIT. Independent Aftermarket segment profit increased $1.6
million from $2.0 million in 1996 to $3.6 million in 1997. The increase was
primarily the result of increased sales volume.
24
OTHER OPERATING UNITS
The following table presents net sales and segment profit (loss)
expressed in millions of dollars and as a percentage of net sales:
For the Years Ended December 31,
----------------------------------------
1996 1997
------------------- ----------------
Net sales........................ $ 6.4 100.0% $ 7.4 100.0%
======= ===== ======= =====
Segment profit (loss)............ $ (0.3) (4.7)% $ (0.2) (2.7)%
======= ===== ======= =====
NET SALES. Other operating units' net sales increased $1.0 million, or
15.6%, from $6.4 million in 1996 to $7.4 million in 1997. The increase was due
to increased sales by Mascot.
SEGMENT PROFIT (LOSS). Other operating units profit remained relatively
constant between years.
LIQUIDITY AND CAPITAL RESOURCES
CASH FLOW & CAPITAL EXPENDITURES
The Company had total cash and cash equivalents on hand of $0.6 million
at December 31, 1998, representing an increase in net cash of $0.5 million in
1998. Net cash provided by operating activities was $26.9 million for 1998. Net
cash used in investing activities was $137.8 million for the period, including
$115.0 million for the Autocraft Acquisition and $23.5 million in capital
expenditures, primarily for equipment purchases, software and implementation
costs and leasehold improvements. Net cash provided by financing activities was
$111.3 million, including net borrowings of $127.3 million under the Credit
Facility partially offset by $10.0 million used to redeem Senior Notes.
The Company's capital expenditures in 1998 were $23.5 million. This
included (i) $9.3 million of expenditures in connection with the ongoing
implementation of the Distribution Group's enterprise-wide information system,
(ii) $6.0 million for various improvements to businesses and facilities
associated with the Autocraft Acquisition and (iii) $4.9 million for additional
transmission and engine remanufacturing equipment and other improvements to
support planned increases in production capacity and efficiencies in certain of
the Company's remanufacturing plants.
The Company has budgeted $19.8 million for capital expenditures during
1999. This amount includes (i) $13.8 million for replacement and additional
remanufacturing equipment to support planned increases in production capacity
and efficiencies in the Company's various facilities and (ii) $6.0 million for
the implementation of the Distribution Group's enterprise-wide information
system.
As part of the acquisition of ATS, the Company is required to make
additional payments on each of the first eight anniversaries of the closing
date. As of December 31, 1998, the Company had paid $1.0 million of these
additional payments. Substantially all of the additional payments to be made in
the future, which will aggregate to approximately $18.0 million (present value
of $13.7 million as of December 31, 1998), are contingent upon the attainment of
certain sales levels by ATS, which the Company believes are more likely than not
to be attained.
FINANCING
The Company raised total net proceeds of $61.6 million in the IPO and
concurrent private placement of Common Stock in December 1996 and an additional
$47.9 million in the secondary offering in October 1997. From the Company's
inception in July 1994 to December 1996, the Company funded its
25
operations and investments in property and equipment, including acquisitions,
through the issuance of Senior Notes totaling $162.4 million, the private
sale of preferred stock of $20.0 million and Common Stock of $20.0 million,
and to a lesser extent through cash provided by operating activities and
revolving bank lines. In December 1996, the preferred stock and $40.0 million
in principal amount of the Senior Notes were redeemed with proceeds from the
IPO. In September and October 1998, the Company redeemed $2.2 million and
$7.4 million, respectively, in principal amount of the Senior Notes, with
borrowings under the Credit Facility. The net proceeds from the secondary
offering were used to repay borrowings under the Credit Facility.
The Company has an agreement with Bank of Montreal for a revolving
credit facility to accommodate the working capital needs of the Company's
Canadian subsidiaries. Borrowings under the agreement are limited to certain
advance rates based upon the eligible accounts receivable and inventory of the
Canadian subsidiaries up to an aggregate maximum of C$3.5 million.
In February 1997, the Company terminated its $30.0 million revolving
credit facility with The Chase Manhattan Bank (the "Bank") that had been
scheduled to mature in July 1999 and replaced it with the $100.0 million
revolving portion of the Credit Facility, which is also with the Bank. The
Credit Facility is available to finance the Company's working capital
requirements, future acquisitions and other general corporate needs, and will
expire in December 2003. Amounts advanced under the Credit Facility are secured
by substantially all assets of the Company.
In March 1998, the credit agreement for the Credit Facility was amended
and restated to also provide a $120.0 million term loan facility in addition to
the existing revolving facility. The Company borrowed $120.0 million under the
term loan facility on March 6, 1998 to purchase Autocraft and pay related
transaction expenses. The term loan is payable in quarterly installments through
December 31, 2003 and bears interest at a rate of at either (i) the Alternate
Base Rate plus a specified margin or (ii) the Eurodollar Rate plus a specified
margin. The "Alternate Base Rate" is equal to the highest of (a) the Bank's
prime rate, (b) the secondary market rate for three-month certificates of
deposit plus 1.0% and (c) the federal funds rate plus 0.5%, in each case as in
effect from time to time. The "Eurodollar Rate" is the rate offered by the Bank
for eurodollar deposits for one, two, three, six or, if available by all
lenders, nine months (as selected by the Company) in the interbank eurodollar
market. The applicable margins for both Alternate Base Rate and Eurodollar Rate
loans are subject to a quarterly adjustment based on the Company's leverage
ratio as of the end of the four fiscal quarters then completed. At December 31,
1998 the Alternate Base Rate margin was zero and the Eurodollar margin was 1.0%.
As of the effective date of the Credit Facility waivers and amendments described
below (March 26, 1999), the Alternate Base Rate margin was 1.25% and the
Eurodollar margin was 2.25%.
The Credit Facility contains several covenants, including ones that
require the Company to maintain certain levels of net worth, leverage, and, cash
flow coverage and others that limit the Company's ability to incur indebtedness,
make capital expenditures, create liens, engage in mergers and consolidations,
make restricted payments (including dividends), sell assets, make investments,
issue stock and engage in transactions with affiliates of the Company and its
subsidiaries.
Based on its operating results during 1998, the Company was in
technical default of the leverage and cash flow covenants of the Credit Facility
and the Company's interest rate swap agreement as of December 31, 1998. This
resulted in a cross default under the line of credit for the Company's Canadian
subsidiaries. Due to the defaults, the Company was prohibited from further
borrowings under the Credit Facility and the Canadian line of credit. In March
1999, the Company obtained from its lenders waivers of the various defaults and
certain amendments to the Credit Facility and the interest rate swap agreement
that the Company believes will enable it to comply with the covenants in the
future.
As of December 31, 1998, the Company's borrowing capacity under the
Credit Facility and the Canadian line of credit would have been $70.5 million
and $0.2 million, respectively, but for the defaults described above. As a
result of the bank waivers, the Company is again able to borrow under these
facilities.
26
The Company believes that cash on hand, cash flow from operations and
existing borrowing capacity will be sufficient to fund its ongoing operations
and its budgeted capital expenditures. In pursuing future acquisitions, the
Company will continue to consider the effect that any such acquisition costs may
have on its liquidity. In order to consummate such acquisitions, the Company may
need to seek additional capital through additional borrowings or equity
financing.
IMPACT OF NEW ACCOUNTING STANDARDS
In June 1998, the Financial Accounting Standards Board issued SFAS No.
133, ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES. SFAS No. 133
requires that all derivative instruments be recorded on the balance sheet at
their fair value. Changes in the fair value of derivatives are recorded each
period in current earnings or other comprehensive income, depending on whether a
derivative is designated a part of a hedge and, if it is, the type of hedge
transaction. The Company anticipates that, due to its limited use of derivative
instruments, the adoption of SFAS No. 133 will not have a significant effect on
the Company's results of operations of its financial position. This statement is
effective for fiscal years beginning after June 15, 1999.
YEAR 2000 COMPLIANCE
The Company has assembled an internal project team that is addressing
the issue of computer programs and embedded computer chips being unable to
distinguish between the Year 1900 and the Year 2000. The project team has
developed and is in the process of implementing a three-step plan intended to
result in the Company's operations continuing with no or minimal interruption
throu