================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934.
For the fiscal year ended August 31, 2003 Commission File Number 0-22496
SCHNITZER STEEL INDUSTRIES, INC.
(Exact name of registrant as specified in its charter)
OREGON 93-0341923
------ ----------
(State of Incorporation) (I.R.S. Employer Identification No.)
3200 N.W. Yeon Ave., P.O. Box 10047
Portland, OR 97296-0047
------------ ----------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (503) 224-9900
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Class A Common Stock, $1 par value
(Title of class)
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 the definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes [X] No [ ]
The aggregate market value of the registrant's voting common stock outstanding
held by non-affiliates on February 28, 2003 was $118,329,105
The Registrant had 13,304,516 shares of Class A Common Stock, par value of $1.00
per share, and 6,639,486 shares of Class B Common Stock, par value of $1.00 per
share, outstanding at November 1, 2003.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant's definitive Proxy Statement for the 2004 Annual
Meeting of Shareholders are incorporated herein by reference in Part III.
================================================================================
SCHNITZER STEEL INDUSTRIES, INC.
FORM 10-K
TABLE OF CONTENTS
PART ITEM PAGE
I 1. BUSINESS.....................................................3
Overview.................................................4
Business Strategy........................................4
Metals Recycling Business................................7
Joint Ventures..........................................10
Steel Manufacturing Business............................11
Auto Parts Business.....................................15
Environmental Matters...................................17
Employees...............................................20
2. PROPERTIES..................................................21
3. LEGAL PROCEEDINGS...........................................22
4. SUBMISSION OF MATTERS TO A VOTE
OF SECURITY HOLDERS.....................................22
4(a). EXECUTIVE OFFICERS OF THE REGISTRANT........................22
II 5. MARKET FOR REGISTRANT'S COMMON STOCK AND
RELATED STOCKHOLDER MATTERS.............................24
6. SELECTED FINANCIAL DATA.....................................25
7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS.....................26
7A QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK.......................................41
8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.................42
9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE..................75
9A CONTROLS AND PROCEDURES.....................................75
III 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE
REGISTRANT..............................................76
11. EXECUTIVE COMPENSATION......................................76
12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS AND MANAGEMENT AND RELATED
STOCKHOLDER MATTERS.....................................76
13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS..............76
14. PRINCIPAL ACCOUNTANT FEES AND SERVICES......................76
IV 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND
REPORTS ON FORM 8-K.....................................77
2
PART I
ITEM 1. BUSINESS
Overview
Schnitzer Steel Industries, Inc. (the Company) and its joint venture businesses
collect, process and recycle metals by operating one of the largest metals
recycling businesses in the United States. The Company also manufactures
finished steel products at its technologically advanced steel mini-mill (the
Steel Manufacturing Business). On February 14, 2003, the Company's wholly-owned
subsidiary, Norprop, Inc. ("Norprop"), acquired all of the stock of Pick and
Pull Auto Dismantling, Inc., which was the Company's 50% partner in Pick-N-Pull
Auto Dismantlers, a California general partnership, and all of the membership
interests in Pick-N-Pull Auto Dismantlers, Stockton, LLC. The acquired companies
were consolidated with the Company's previous interest in the business to form a
separate reporting segment (the Auto Parts Business) also referred to as
"Pick-N-Pull". Pick-N-Pull is one of the country's leading self-service used
auto parts networks. Additionally, Pick-N-Pull is a major supplier of auto
bodies to the Company's Metals Recycling Business. As a result of its vertically
integrated business, the Company is able to transform auto bodies and other
unprocessed metals into finished steel products. The Company believes that its
Metals Recycling, Steel Manufacturing, and Auto Parts Businesses are cost
competitive in their markets.
The Company's wholly-owned recycling business (the Metals Recycling Business)
and its joint ventures have major collection and processing facilities in the
following locations:
Metals Recycling Business Joint Venture Operations
------------------------- ------------------------
Portland, OR Jersey City, NJ
Oakland, CA Long Island, NY
Tacoma, WA Los Angeles, CA
Sacramento, CA Everett, MA
Eugene, OR Providence, RI
Fresno, CA Madbury, NH
The Metals Recycling Business' eleven yards, including the major facilities
shown above, sold 1.8 million ferrous tons, of which 0.2 million tons were
brokered, in fiscal 2003. Additionally, through joint ventures, the Company
participates in the management of an additional 30 metals recycling collection
and processing facilities including the major facilities shown above. These
processing joint ventures sold 3.3 million ferrous tons in fiscal 2003.
Additionally, these joint ventures provide international and domestic services
which broker metal processed by third parties. In fiscal 2003, this brokerage
business approximated 1.8 million tons.
As the steel industry in the United States consolidates, the Company believes it
is well positioned to remain a leader in the major markets in which it
participates. In addition, it is anticipated that the demand for recycled
ferrous metals will increase due to the continued transformation of the world's
steel producers from virgin iron ore based blast furnaces to newer,
technologically advanced electric arc furnace (EAF) mini-mills. In the last 25
years, steel production using recycled metals and the EAF process has grown
dramatically. The EAF process, which uses 85%-95% recycled metal compared with
the traditional steel-making process that uses less than 35% recycled metal, is
more environmentally sound and energy efficient. By recycling steel, limited
natural resources are preserved and the need to disrupt the environment with the
mining of virgin iron ore is greatly reduced. Further, when recycled metal,
instead of iron ore is used for new steel production, air and water pollution
generated by the production process decreases. Currently, almost half of
domestic steel and much of foreign-based steel is produced using the EAF
process. Since 1995, global EAF production has grown 30%. Most of the growth has
come from China, the world's largest and fastest growing steel producing
country, and other Asian countries. Future growth in EAF production, as
3
well as in other steel alternative production technologies, projected by
industry analysts, translates into expected growth in demand for recycled
metals. Using the EAF process to produce new steel makes the recycled ferrous
metal commodity a strategic raw material for both domestic and foreign markets.
Further benefiting the Company and its joint ventures in the metals recycling
business is their strategic geographic locations at many of the major deep-sea
ports in the United States. These ports allow the Company and its joint ventures
the option of supplying foreign steel producers as well as domestic steel mills.
The Company's Steel Manufacturing Business consists of its wholly-owned
subsidiary, Cascade Steel Rolling Mills, Inc. The Steel Manufacturing Business
produces steel reinforcing bar (rebar), wire rod, merchant bar and coiled rebar.
The Company believes that the Steel Manufacturing Business has a competitive
position in its market due to its readily available source of recycled metals,
efficient production processes, state-of-the-art technology, well-located
shipping and transportation facilities, access to competitively priced electric
power and proximity to California and other major western markets.
The Company's self-service used auto parts business (the Auto Parts Business)
has retail facilities in the following locations:
Northern California 17
Nevada 2
Texas 1
Utah 1
Illinois 1
Indiana 1
----
Total 23
====
The Auto Parts Business purchases salvaged vehicles, sells parts from those
vehicles through its retail facilities and wholesale operations, and sells the
remaining portion of the vehicles to metal recyclers. The Company believes the
Auto Parts Business has a competitive position in its markets due to its
consistent approach and efficient processing of auto bodies.
Business Strategy
- -----------------
The Company's business strategy emphasizes continued growth of the ferrous
recycled metals business and auto parts business through additive acquisitions
and joint ventures, and maintaining its status as an efficient and competitive
producer of both recycled metal and finished steel products, as well as a
low-cost provider of retail and wholesale used auto parts, through investments
in state-of-the-art manufacturing equipment and increased production
efficiencies.
The Company considers itself, first and foremost, a ferrous metals recycling
company with historically over 60% of its operating income, before corporate
expenses and eliminations and impairment and other nonrecurring charges, derived
from the Metals Recycling Business and its Joint Ventures in the Metals
Recycling Business. The Metals Recycling Business is one of the leading
processors in each of the markets in which it operates. The Company intends to
continue its focus on increasing the Company's position as one of the premier
recycled metals processors in the country.
The Company's Metals Recycling Business enters into export sales contracts by
selling forward 45 to 90 days and purchases metals on a daily basis. The typical
supplier of unprocessed metal is a relatively small, local business or
manufacturer who sells metals in limited quantities. These typical suppliers
generally do not have the ability to inventory material in significant
quantities, and therefore lack the market leverage to influence prices. By
knowing the price for which the processed material will be sold and the costs
involved in processing the metals, the Company is generally able to take
advantage of this differential in timing between purchases and sales and
negotiate prices with suppliers that secure profitable transactions.
4
The Company has developed a multi-part growth strategy, which includes the
following elements:
EXPAND METALS RECYCLING OPERATIONS. The Company will continue to seek expansion
opportunities within both its existing markets and elsewhere. Since the
Company's initial public offering in 1993, the Company has focused on and will
continue to emphasize increasing its sources of ferrous metals through its
existing network and through selective acquisitions or through joint ventures
with metals processors and suppliers of metal. Examples since the Company's
initial public offering include:
o In fiscal 1998, the Company and Hugo Neu Corporation, one of the
Company's joint venture partners, increased their East Coast market
position through the buyout of a third joint venture partner and the
completion of two other strategic joint venture acquisitions;
o In November 1996, the Company acquired Proler International Corp.
(Proler). At that time, Proler's joint ventures with Hugo-Neu
Corporation of New York processed approximately 3 million long tons of
ferrous metals per year;
o In March 1995, the Company purchased Manufacturing Management, Inc.
(MMI), another metals processor which added approximately 500,000 long
tons per year to the Company's ferrous recycled metals volume; and
o In December 1993, the Company acquired four metals collection and
processing facilities in central and southern Oregon.
The Company has also made a series of investments in other joint ventures, which
has increased the Company's sources of metals supply.
COMPLETE VALUE CREATING ACQUISITIONS. The Company intends to complete
acquisitions it believes will earn income, after tax, in excess of its cost of
capital. With a strong balance sheet, cash flows and available borrowing
capacity, the Company believes it is in an attractive position to complete an
acquisition should one fitting the Company's long-term strategic plans become
available and if a reasonable price can be attained.
EXPAND AUTO PARTS BUSINESS
In fiscal 2003, the Company acquired one of its largest suppliers of unprocessed
metal and joint venture partners and formed the Auto Parts Business segment. The
Auto Parts Business provides the Company with strong vertical integration.
Pick-N-Pull is one of the country's leading self-service used auto parts
networks and over the last 15 years it has developed a strong management team
and internal systems and processes that are believed to provide it with the
ability to efficiently replicate the business model in other locations. The
Company intends to seek expansion opportunities for Pick-N-Pull within both its
existing markets and elsewhere in North America.
INVEST IN STATE-OF-THE-ART PROCESSING AND MANUFACTURING. The Company's objective
is to be an efficient and competitive producer of both recycled metals and
finished steel products in order to maximize the operating margin for both
operations. To meet this objective, the Company has focused on and will continue
to emphasize the cost-effective purchasing and efficient processing of metals.
The Company has made significant investments in state-of-the art equipment to
ensure that its operations have cost effective technology to produce high
quality products and to maximize economies of scale. The Company continues to
invest in equipment to improve the efficiency and capabilities of its
businesses. During the last five years, the Company has spent $63.4 million on
capital improvements.
During fiscal 2000, the Metals Recycling Business completed the installation of
a state-of-the-art automobile shredder (also known as a "mega-shredder"),
capable of shredding over 2,000 tons per day, at its Tacoma facility. This
shredder replaced two older shredders that on a combined basis were capable of
producing 1,000 tons per day. The mega-shredder has reduced operating costs and
improved product quality; moreover, it enables the Tacoma metals recycling
facility to shred material that was not previously shredded and had to be sold
as lower margin materials. The Company has also entered into an agreement to
purchase a mega-shredder for its Oakland facility that is expected to be
installed in late 2004. Additionally, the dock and bulkhead at the Tacoma
facility were rebuilt during fiscal 1999 to more effectively handle the
increased shredder capacity, the exporting of metals and receipt of
5
bulk unprocessed metals via marine sources. Also, all three of the Metals
Recycling Business' export facilities continue to invest in sorting technologies
to recover more high-valued nonferrous metal from the auto shredding process.
During fiscal 2002, the Company's Portland, Oregon metals recycling facility
embarked on a dock and loading facility renovation, including the acquisition of
a portside crane, in order to increase its efficiency in loading recycled metals
export cargos. The renovation was temporarily suspended in fiscal 2003 when
severe deterioration of the dock's substructure was detected during demolition
activities. The project is being reengineered to rebuild the substructure and to
accommodate additional heavy industrial requirements, which will better serve
the Company's long term needs.
One of Pick-N-Pull's primary business strategies is to utilize information
systems technology to collect data regarding production and processing costs and
customer sales. To this end, Pick-N-Pull continues to invest in its systems to
maintain them as state of the art.
In fiscal 2002, the Steel Manufacturing Business completed the installation of a
static var compensator at the Steel Manufacturing Business' mini-mill. It
provides a more uniform and efficient power supply in the steel making process.
The Steel Manufacturing Business also made improvements to the dust collection
system and waste water treatment facilities to meet or exceed environmental
compliance with its operating permits.
In fiscal 2003, the Steel Manufacturing Business enhanced the wire rod segment
of its business with the installation of a ring distributor and improvements to
the product cooling system. These improvements enhanced the product yield and
packaging of wire rod products. Product quality was also improved, allowing the
Company to sell higher grade product at a premium price.
In fiscal 2004, the Steel Manufacturing Business plans to replace the electric
arc furnace in the melt shop. The new furnace is expected to reduce energy
consumption and improve productivity.
CAPTURE BENEFITS OF INTEGRATION. The Company has historically sought to capture
the potential benefits of business integration whenever possible. The Company
believes it enjoys a competitive advantage over non-vertically integrated
mini-mill steel producers as a result of its extensive metals recycling
operation. Beginning with the source of raw materials, the Auto Parts Business
has the capability to supply the Metals Recycling Business with a portion of its
auto bodies for use in its metals recycling process when market conditions are
such that it is prudent to do so. The Metals Recycling Business then has the
capability to provide the Steel Manufacturing Business with a predictable, high
quality supply of recycled metals in an optimal mix of grades for efficient
melting. Likewise, the Steel Manufacturing Business ensures a steady market for
a portion of the Metals Recycling Business' production.
The Company leverages a portion of shared administrative services with certain
of its joint venture partners and related companies which reduces the cost of
these services to the Company.
ECONOMIC VALUE ADDED. In fiscal year 2001, the Company and certain of its joint
ventures implemented an Economic Value Added (EVA(R)) financial measurement and
compensation system. EVA measures the value of, and guides, economic decision
making based on established return on investment criteria that the Company
believes meets the expectations of the financial markets. Decisions made under
EVA are designed to create long-term, sustainable value. In addition, the
decision making is decentralized and provides managers with the financial
analysis tools to make better decisions. Managers' incentive pay is directly
linked to success in creating value and is designed to motivate and reward
reasonable and sensible risk taking. EVA measures and evaluates the performance
of the Company and its employees by explicitly recognizing the cost of equity,
as well as debt, capital and quantifying the results. On a periodic basis, the
EVA plan is recalibrated.
6
METALS RECYCLING BUSINESS
- -------------------------
The Company is one of the largest metals processors in the United States, with
eleven wholly-owned metals collection and processing facilities. The Company
buys, processes and sells ferrous metals to foreign and domestic steel producers
and to the Steel Manufacturing Business. The Metals Recycling Business also
engages in the brokerage business by purchasing metal from other recycled metals
processors for shipment directly to the Steel Manufacturing Business without
further processing by the Metals Recycling Business. To a lesser extent, the
Company also buys, processes and sells nonferrous metals to both the domestic
and export markets. A significant portion of the nonferrous volume comes as a
by-product of the ferrous shredding process.
Due to the large capital investment required for metals recycling equipment and
the scarcity of potential yard sites that are properly zoned and have access to
waterways, highways and railroads, the recycled metals industry is characterized
by a relatively small number of large dominant metals processors, such as the
Company's Metals Recycling Business, and many smaller regional metals
processors. The large processors collect raw metals from a variety of sources,
including smaller metal recyclers and dealers, and then sort, clean and cut it
into sizes and grades suitable for use by steel manufacturers.
The Company's Portland, Oakland, and Tacoma metals recycling facilities are
located at deep water terminals operated by the Company and also have rail and
highway access. As a result, the Company believes it is strategically located,
both for collection of unprocessed metals from suppliers and for distribution of
processed recycled metals to West Coast and foreign steel producers. The Company
owns the Oakland and Tacoma facilities and leases the Portland location from a
related party. Additionally, because the Company operates the terminal
facilities, it is not normally subject to the same berthing delays often
experienced by users of unaffiliated terminals. The Company's loading costs are
believed to be lower than they would be if the Company was to utilize third
party terminal facilities.
Customers and Marketing. The following table sets forth information about the
amount of ferrous recycled metals sold by the Company's Metals Recycling
Business to certain groups of customers during the last five fiscal years:
Year Ended August 31,
-----------------------------------------------------------------------------------------
2003 2002 2001 2000 1999
---------------- ---------------- ----------------- ---------------- ----------------
Sales Vol.1 Sales Vol.1 Sales Vol.1 Sales Vol.1 Sales Vol.1
------ ----- ------ ----- ------ ----- ------ ----- ------ -----
(dollar amounts in millions)
Asian Steel Producers
and Representatives $178.7 1,157 $126.8 1,068 $91.8 777 $ 91.7 761 $ 48.4 491
Steel Manufacturing Business:
Processed 34.8 303 29.7 313 42.6 471 39.2 411 39.2 447
Brokered 2 26.0 232 7.9 94 7.1 95 7.1 87 6.1 92
------ ----- ------ ----- ------ ----- ------ ----- ------ -----
60.8 535 37.6 407 49.7 566 46.3 498 45.3 539
Other US Steel Producers 15.8 120 9.1 82 14.1 139 26.0 247 18.5 194
------ ----- ------ ----- ------ ----- ------ ----- ------ -----
Total $255.3 1,812 $173.5 1,557 $155.6 1,482 $164.0 1,506 $112.2 1,224
====== ===== ====== ===== ====== ===== ====== ===== ====== =====
1 In thousands of long tons (2,240 pounds).
2 Consists of recycled metal that is purchased from other suppliers for
direct shipment and is not processed by the Metals Recycling Business.
The Company sells recycled metals to foreign and unaffiliated domestic steel
producers or their representatives and to the Steel Manufacturing Business. The
Company has developed long-standing relationships with Asian and United States
steel producers. The Company's primary Asian recycled metals customers are
located in China, South Korea and Taiwan. To serve these customers more
effectively, the Company operates a wholly-owned subsidiary, SSI International
7
Far East Ltd., in Seoul, South Korea, and has an agent in China. Additionally,
the Company uses representatives in Tokyo, Japan to provide market data. The
Company believes these representatives not only enhance the Company's service to
its Asian customers, but also provide a valuable local presence and source of
information in these markets. The Metals Recycling Business' five largest
customers accounted for 64% of recycled metals sales to unaffiliated customers.
However, the Company's recycled metals customers vary from year to year due to
demand, competition, relative currency values and other factors. All recycled
metals sales are denominated in United States dollars and substantially all
ferrous recycled metals shipments to foreign customers are supported by letters
of credit.
Historically, ferrous recycled metals prices have on average increased over the
long term; such prices, however, are subject to market cycles. Prices for
foreign recycled metals shipments are generally established through a
competitive bidding process. The Company generally negotiates domestic prices
based on export price levels. Foreign recycled metals sales contracts typically
provide for shipment within 45 to 90 days after the price is agreed to, which,
in most cases, includes freight. The Company attempts to respond to changing
export price levels by adjusting its purchase prices at its metals recycling
yards to maintain its operating margin dollars per ton. However, the Company's
ability to fully maintain its operating margin per ton through periods of
rapidly declining prices can be limited by the impact of lower purchase prices
on the volume of recycled metals flowing to the Company from marginal
unprocessed metal suppliers. Accordingly, the Company believes it benefits from
rising recycled metals prices, which provide the Company greater flexibility to
maintain or widen both margins and unprocessed metals flow into its yards.
The Company also sells recycled nonferrous metals to foreign customers. Demand
from Asian countries, especially China, continues to increase. The Company's
efficiency in recovering nonferrous metals from its shredding process provides
increasing supplies to sell to foreign customers. Also, the Company purchases
nonferrous metals directly from other suppliers for sale overseas. The
nonferrous cargoes are loaded into ocean going containers which are shipped to
the customer. The following table sets forth information about the amount of
nonferrous recycled metals sold by the Company's Metals Recycling Business
during the last five fiscal years:
Year Ended August 31,
-------------------------------------------------------------------------------------------------
2003 2002 2001 2000 1999
---------------- ----------------- ---------------- ---------------- ----------------
Sales Vol.(1) Sales Vol.(1) Sales Vol.(1) Sales Vol.(1) Sales Vol.(1)
----- ------- ----- ------- ----- ------- ----- ------- ----- -------
(dollar amounts in millions)
Nonferrous recycled metals $47.8 113,378 $41.7 112,622 $43.0 114,441 $38.9 96,207 $26.4 74,497
===== ======= ===== ======= ===== ======= ===== ====== ===== ======
(1) In thousands of pounds
SOURCES OF UNPROCESSED METALS. The most common forms of raw metals purchased by
the Company are obsolete machinery and equipment such as automobiles, railroad
cars, railroad tracks, home appliances and demolition metal from buildings and
other obsolete structures. The metals are acquired from drive-in sellers at
posted prices at the Company's eleven metals recycling yards, from drop boxes at
a diverse base of suppliers' industrial sites and through negotiated purchases
from railroads and other large suppliers. The Company purchases unprocessed
metals from a large number of suppliers, including railroads, industrial
manufacturers, automobile salvage yards, metals dealers, landfills and
individuals. Metals recycling yards situated nearest to unprocessed metals
sellers and major transportation routes have a competitive advantage because of
the significance of freight charges relative to the value of metals. The
Company's Portland yard benefits from northwestern rail, highway and water
transportation routes allowing it to attract sellers from Oregon, Washington,
Idaho, Montana, Utah, Nevada and Northern California. The Eugene, Grants Pass,
White City and Bend yards are smaller facilities that serve as collection points
from central and southern Oregon. Two of these yards also have some processing
capabilities. These yards primarily use trucks and railroads to transport their
products. The Oakland yard gives the Company sourcing capability in the San
Francisco Bay area, one of the largest metropolitan regions in the country. The
Sacramento and Fresno yards are facilities that serve as collection and
processing points for metals from the growing central valley of California and
Western Nevada and are served by rail and trucks. These facilities provide
materials for the Company's Oakland export operation, ship material to domestic
customers and ship certain products directly to the Company's Steel
Manufacturing Business. The Company's Tacoma
8
yard, along with its collection facilities, collect metals from Seattle and the
entire Puget Sound area as well as from throughout Washington, Montana, Idaho,
Alaska and Western Canada. Product is shipped and received via rail, truck and
water (e.g. ship or barge).
METALS RECYCLING. The Company processes raw metal by sorting, shearing,
shredding, torching and processing metal into pieces of a size, density and
purity required by customers for use in their melting furnaces. Smaller, more
homogenous pieces of processed metals have more value because they melt more
easily than larger pieces and more completely fill a steel mill's furnace charge
bucket. Over 70% of the ferrous metals collected by the Company's metals
recycling facilities requires processing before sale.
Seven of the Company's eleven wholly-owned metals recycling facilities operate
large capacity guillotine-style shears for cutting large pieces of ferrous metal
into smaller, more saleable pieces. At six of the facilities, the Company also
has large scissor shears mounted on portable material handlers that move about
the yards and cut bulky pieces of metal into sizes that can be further processed
by the guillotine shears. These mobile shears are capable of reducing a railroad
boxcar to useable recycled metal in approximately 30 minutes.
One of the most efficient ways to process and sort metal is by the use of
shredding systems. The Portland and Oakland facilities each operate a large
shredder capable of processing up to 1,500 tons of metal per day. In fiscal
2000, the Tacoma facility completed the installation of a state-of-the-art
mega-shredder capable of shredding over 2,000 tons per day. The Company has also
entered into an agreement to purchase a mega-shredder for its Oakland facility
that is expected to be installed in late 2004. These shredders are designed to
provide a denser product, which is efficiently used by steel mills and broadens
the types of material that can be shredded. They reduce automobile bodies, home
appliances and other light gauge sheet metal into fist-size pieces of shredded
recycled metal in seconds. The shredded material is then carried by conveyor
under magnetized drums, which attract the ferrous recycled metal and separate it
from the nonferrous metals and other residue found in the shredded material,
resulting in a relatively pure and clean shredded steel product. The remaining
nonferrous metal and residue then pass through a process that mechanically
separates the nonferrous metals from the residue. The remaining nonferrous
metals are either hand sorted and graded before being sold or sold unsorted.
During fiscal 2000, the Portland yard installed a new indoor nonferrous sorting
system, which reduces the moisture content of the unprocessed material and
allows for greater recovery of high value nonferrous metallics. In fiscal 2003,
the Oakland yard began upgrading its nonferrous sorting capabilities with
similar eddy current separators to increase capacity and improve the nonferrous
recovery from the shredding process.
DEEP WATER TERMINAL FACILITIES. The Company delivers ferrous recycled metals to
foreign steel producers by ship. The Company achieves cost efficiencies by
operating deep water terminal facilities at its Portland, Tacoma and Oakland
facilities. As a result, the Company is generally not subject to normal berthing
delays sometimes experienced by users of unaffiliated terminal facilities. The
Oakland and Portland docks also have berths serviced by a bulk loading conveyor
for loading shredded metal. The Oakland facility has a 350 foot concrete wharf,
with the ability to handle longer ships, which was placed into service in 1990,
and a 40-ton container crane, which has been modified to load and unload bulk
cargo. The crane will be upgraded over the next year as the facility's shipping
schedule allows. The Tacoma marine terminal is serviced by a 250-ton gantry
crane and one 40-ton crane. A new 400 foot dock and bulkhead were completed at
the Tacoma yard during fiscal 1999. Currently, the Portland dock has three
operating berths for ships and two tie-up berths, and is equipped with three
60-ton cranes for loading and unloading heavy materials, and a bulk loading
conveyor capable of loading up to 700 tons of shredded recycled metals per hour
directly into a ship's hold.
During fiscal 2002, the Company's Portland, Oregon metals recycling facility
embarked on a dock and loading facility renovation, including the acquisition of
a portside crane, in order to increase its efficiency in loading recycled metals
export cargos. The renovation was temporarily suspended in fiscal 2003 when
severe deterioration of the dock's substructure was detected during demolition
activities. The project is being reengineered to rebuild the substructure and to
accommodate additional heavy industrial requirements, which will better serve
the Company's long term needs.
9
The Oakland, Tacoma and Portland terminals are used for loading metals shipments
to the Company's foreign customers. In addition, the Portland terminal sells
bulk cargo storage, docking, loading and warehousing services to unrelated
parties.
COMPETITION. The Company competes for both the purchase of metals from suppliers
and the sale of processed recycled metals to finished steel producers.
Competition for metals purchased in the Metals Recycling Business' markets comes
primarily from well financed larger recyclers of metal as well as smaller metals
yards and dealers. Many of these recyclers have varying types and sizes of
processing equipment that include fixed and mobile shears and large and small
ferrous metal shredders, all with varying effects on the selling price of
recycled metal. The Company also competes with brokers who buy product on behalf
of domestic and foreign mills. The predominant competitive factors impacting the
Company's recycled metals sales and its ability to obtain unprocessed metals are
price, including shipping costs, availability, reliability of service and
product quality.
The Company competes with a number of domestic and foreign recycled metals
processors for export sales. Price, including shipping costs, and availability
are the most important competitive factors, but reliability and quality are also
important. During the last year, the ferrous export market experienced decreased
supplies of metal coming out of the countries that were part of the former
Soviet Union compared with the previous two years. The lower supplies were
primarily driven by political policy changes in these countries whereby export
tariffs and/or bans were enacted to retain recycled metal for use in their
domestic economies. The quality of the product from these countries is generally
good and their pricing was generally aggressive, as they tended to operate for
the generation of cash flow versus focusing on traditional income and return on
investment theory. The Company believes that its size and locations allow it to
compete effectively with other domestic and foreign metals recyclers.
SEASONALITY. The Company makes a number of large ferrous metals shipments to
foreign steel producers each year. The Company's control over the timing of
shipments is limited by customers' requirements, shipping schedules and other
factors. Variations in the number of shipments from quarter to quarter result in
fluctuations in quarterly revenues, earnings and inventory levels.
BACKLOG. On August 31, 2003, the Company's Metals Recycling Business had a
backlog of firm orders of $44.9 million, as compared to $13.2 million on August
31, 2002. All of the backlog on August 31, 2003 was related to export ferrous
metal shipments.
JOINT VENTURES
- --------------
The Company has invested in certain joint ventures which process and sell
recycled metals to third parties and other joint ventures that supply
unprocessed metals to the Company's operations and other metals buyers. The
Company's joint ventures with Hugo Neu Corporation recognized revenues of $858.3
million in fiscal 2003 and $618.1 million in fiscal 2002. Other joint ventures
recognized revenues of $19.0 million in fiscal 2003 and $22.9 million in fiscal
2002.
I. JOINT VENTURES IN THE METALS RECYCLING BUSINESS
The Company owns interests in five joint ventures that are engaged in buying,
processing, selling and brokering primarily ferrous metal. The Company is a 50%
partner in four of these joint ventures and is a 30% partner in another smaller
joint venture. In fiscal 2003, these joint ventures processed and sold
approximately 3.3 million long tons of ferrous metals. Through these joint
ventures, the Company participates in the management of 28 metals collection and
processing facilities, including export terminals in Los Angeles, California,
Everett, Massachusetts, Portland, Maine, Providence, Rhode Island, Jersey City,
New Jersey and 23 feeder yards. At the feeder yards, metal is collected,
processed and then transported to one of the joint venture's deep-water
terminals for subsequent export or domestic sale or sold directly to domestic
purchasers. Additionally, the trading joint venture, begun in 1999, that brokers
metals in foreign markets has increased its tonnage to 1.7 million tons in
fiscal 2003 from 1.2 million tons in
10
the prior year with the growth in global trade. The Company also owns a 50%
interest in two smaller metals recycling joint ventures in the Western United
States.
METALS PROCESSING AND SUPPLY. The joint ventures predominantly produce shredded
recycled metal and other grades of ferrous recycled metal, primarily heavy
melting and premium grades. Like the Metals Recycling Business, the joint
ventures process metals by shredding, sorting, baling, shearing or cutting the
metals into pieces suitable for melting. Processed metals are either inventoried
for later shipment or shipped directly by ship, barge, rail or truck to foreign
or domestic steel mills. The joint ventures also sell nonferrous metals, which
are mainly a by-product of the ferrous production process. Over the next few
years, these joint ventures have committed to replace three of their older
shredders with three highly efficient shredders at their facilities.
DEEP WATER TERMINAL FACILITIES. Through its joint ventures, the Company
participates in the management of export terminals in Los Angeles, California,
Everett, Massachusetts, Portland, Maine, Providence, Rhode Island and Jersey
City, New Jersey. The joint ventures deliver by ship recycled metals to steel
producers throughout the world. As a result of owning or leasing these
facilities, the joint ventures are not subject to berthing delays sometimes
experienced by users of unaffiliated terminal facilities.
In fiscal 2003, the export terminal in New Jersey completed a dredging project,
increasing the depth of water at the berth and in the channel to more
efficiently load deeper draft ships. Final new navigational markers and lights
should be in place by early fiscal 2004. In the past, the facility incurred
unusually high handling costs on many of its ferrous export shipments due to
water depth limitations. It is anticipated that this project will significantly
reduce ship loading costs for the joint venture.
The Everett, Massachusetts wharf facility completed a major dock renovation in
fiscal 2003, increasing efficiency of ship loading.
COMPETITION. The predominant competitive factors which impact the joint
ventures' ability to obtain unprocessed metals as a raw material and recycled
metals sales are price, including shipping costs, availability, reliability of
service and product quality. See "Competition" in the Metals Recycling Business
section of this report.
II. JOINT VENTURE SUPPLIERS OF METALS
The Company is a 50% partner in two joint ventures operating out of Richmond,
California which are industrial plant demolition contractors. These joint
ventures dismantle industrial plants, perform environmental remediation, resell
any machinery or pieces of steel that are salvaged from the plants in a usable
form and sell other recovered metals, primarily to the Company. During fiscal
2003, the Company purchased substantially all of the ferrous metals generated by
these joint ventures.
The Company purchased 53,000 and 40,000 long tons of ferrous metals from these
joint ventures in fiscal 2003 and 2002, respectively. Purchase terms are
negotiated at arms-length between the Company and the other partners to the
joint ventures.
STEEL MANUFACTURING BUSINESS
The Company's Steel Manufacturing Business consists of its wholly-owned
subsidiary, Cascade Steel Rolling Mills, Inc., located in McMinnville, Oregon
(approximately 45 miles southwest of Portland). The Steel Manufacturing
Business' mini-mill was originally constructed in 1968, acquired by the Company
in 1984 and was significantly modernized and expanded in the 1990's.
Since the Company purchased the mill in 1984, it has made a number of
improvements, which have modernized the machinery and equipment at the Steel
Manufacturing Business and have made it possible for the melt shop to process
11
700,000 tons annually, compared with less than 400,000 tons for the previous
melt shop. In fiscal 1996, the Company finished the installation of a second
rolling mill (Rolling Mill #2). Rolling Mill #2 is state-of-the-art and able to
produce more finished goods. In fiscal 1997, the Company installed a rod block
and finishing equipment at Rolling Mill #2, which allowed the Steel
Manufacturing Business to expand and enhance its product line. In fiscal 2001,
the Company installed a static var compensator that provides a more uniform
electric power supply for the steel manufacturing process. This enhancement has
increased efficiency and production in the billet making process, which allows
the Steel Manufacturing Business to take advantage of the greater efficiencies
gained on Rolling Mill #2. In fiscal 2003, the Steel Manufacturing business
enhanced the wire rod production process by installing a new ring distributor
that improved yield and produced a more uniformly packaged product, which is
preferred by steel fabricators. In addition, improvements to the wire rod
cooling system allow for the manufacture of high carbon wire rod which sells at
a premium price. In fiscal 2004, the Steel Manufacturing Business plans to
replace the electric arc furnace in the melt shop at an estimated cost of $2.5
million. The new furnace will be more efficient and will use less energy. The
improvement is expected to be completed in the fourth quarter of fiscal year
2004. See further discussion under "Manufacturing Operations and Equipment"
below.
Products and Marketing. The Steel Manufacturing Business produces rebar,
merchant bar, coiled products and specialty products. Sales of these products
during the last five fiscal years were as follows:
Year Ended August 31,
---------------------
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
Sales Vol.1 Sales Vol.1 Sales Vol.1 Sales Vol.1 Sales Vol.1
----- ----- ----- ----- ----- ----- ----- ----- ----- -----
(dollar amounts in millions)
Rebar $ 97.4 327 $ 86.7 307 $ 91.8 309 $ 91.1 308 $ 103.0 340
Coiled products 67.9 223 51.6 179 39.2 137 59.5 214 22.2 81
Merchant bar 23.4 65 21.3 67 28.8 83 40.7 117 39.0 113
Other products 3.2 7 7.0 16 7.8 17 12.3 27 17.5 37
------- --- ------- --- ------- --- ------- --- ------- ---
Total $ 191.9 622 $ 166.6 569 $ 167.6 546 $ 203.6 666 $ 181.7 571
======= === ======= === ======= === ======= === ======= ===
1 In thousands of short tons (2,000 pounds).
Rebar is steel rod used to increase the tensile strength of poured concrete.
Merchant bar consists of round, flat, angle and square steel bars used by
fabricators or manufacturers to produce a wide variety of products, including
gratings, steel floor and roof joints, safety walkways, ornamental furniture,
stair railings and farm equipment. Coiled products consist of wire rod and
coiled rebar. Wire rod is steel wire, delivered in coiled form, and is used by
fabricators to produce a variety of products such as chain link fencing, nails,
wire and stucco netting. Coiled rebar is rebar delivered in coils rather than in
flat lengths, a method preferred by some fabricators as it reduces the waste and
improves yield generated by cutting individual lengths to meet customer
specifications.
The Steel Manufacturing Business sells directly from its mill in McMinnville,
Oregon and from its company owned distribution center located in El Monte,
California (Los Angeles area) and one third-party distribution center in
Stockton, California. The distribution centers facilitate sales by holding a
ready inventory of products close to major customers for just-in-time delivery.
The Steel Manufacturing Business communicates regularly with major customers to
determine their anticipated needs and plans its rolling mill production schedule
accordingly. The Steel Manufacturing Business also produces and inventories a
mix of products forecasted to meet the needs of other customers. Shipments to
customers are made by common carrier, either truck or rail.
During fiscal 2003, the Steel Manufacturing Business sold its steel products to
approximately 350 customers primarily located in the 10 western states. In that
period, approximately 22% of the Steel Manufacturing Business' sales were
12
made to customers in California. The Steel Manufacturing Business' customers are
principally steel service centers, construction industry subcontractors, steel
fabricators, wire drawers and major farm and wood product suppliers.
The Steel Manufacturing Business' 10 largest customers accounted for
approximately 46% of its revenues during fiscal 2003.
RECYCLED METALS SUPPLY. The Company believes it operates the only mini-mill in
the Western United States which has the ability to obtain its entire recycled
metals requirement from its own affiliated metals recycling operations. There
have at times been regional shortages of recycled metals with some mills being
forced to pay higher prices for recycled metals shipped from other regions or to
temporarily curtail operations. The Company's Metals Recycling Business has the
ability to supply the Steel Manufacturing Business both with recycled metals
that it has processed and with recycled metals that it has purchased from
third-party processors. See Metals Recycling Business. The Metals Recycling
Business is also able to deliver to the Steel Manufacturing Business an optimal
mix of recycled metal grades to achieve maximum efficiency in its melting
operations.
ENERGY SUPPLY. Electricity and natural gas represented approximately 8% and 3%,
respectively, of the Steel Manufacturing Business' cost of goods sold in the
year ended August 31, 2003.
The Steel Manufacturing Business purchases electric power from McMinnville Water
& Light (McMinnville), a municipal utility, and is McMinnville's largest
customer. The Steel Manufacturing Business has a five-year contract with
McMinnville that expires September 30, 2006. McMinnville obtains power from the
Bonneville Power Administration (BPA) and resells it to the Steel Manufacturing
Business at its cost plus a fixed charge per kilowatt hour and a 3% city
surcharge. The rate McMinnville obtains from BPA is for firm power; therefore,
the Steel Manufacturing Business is not forced to sacrifice the reliability of
its power supply for a lower interruptible power rate as is the case with
certain other mini-mills. On October 1, 2001, the BPA increased its electricity
rates due to increased demand on the West Coast and lower supplies. This
increase was in the form of a Cost Recovery Adjustment Clause (CRAC) added to
BPA's contract with McMinnville. The CRAC is an additional monthly surcharge on
selected power charges to recover costs associated with buying higher priced
power during the West Coast power shortage. The CRAC, which can be adjusted
every six months, has varied from its inception on October 1, 2002 from a low of
39% to a high of 50%. The current rate, which became effective on October 1,
2003, is 45%.
The Steel Manufacturing Business purchases natural gas for use in the reheat
furnaces from IGI Resources of Boise, Idaho, pursuant to a contract that
obligates the business to purchase minimum amounts of gas at a fixed rate or pay
a demand charge. The current contract expires on October 31, 2004. All natural
gas used by the Steel Manufacturing Business must be transmitted by a single
pipeline owned by Northwest Natural Gas Company that also serves local
residential customers of Northwest Natural Gas Company. To protect against
interruptions in gas supply, the Steel Manufacturing Business maintains stand-by
propane gas storage tanks that have the capacity to hold enough gas to operate
one of the rolling mills for at least three days without refilling.
MANUFACTURING OPERATIONS AND EQUIPMENT. The Steel Manufacturing Business' melt
shop includes a 108-ton capacity electric-arc furnace and a five-strand
continuous billet caster. The melt shop is highly computerized and automated.
The 108-ton capacity of the furnace accommodates larger, less expensive grades
of scrap. Energy savings result in part from efficiencies of the larger furnace,
but also as a result of post-combustion equipment added to the furnace in 1995.
This technology injects oxygen into the furnace during melting operations which
creates energy by combusting carbon monoxide. The melt shop also has enhanced
steel chemistry refining capabilities, permitting the mill to produce higher
margin products using special alloy quality grades of steel not currently
produced by other mills on the West Coast. The static var compensator increases
the efficiency and production in the billet making process, thereby allowing the
Steel Manufacturing Business to take advantage of the greater efficiencies
gained on Rolling Mill #2.
During fiscal 2003, 2002 and 2001, the melt shop produced 636,000, 483,000 and
680,000 tons of billets, respectively. Due in part to the sluggish domestic
economic conditions in fiscal 2002 and part of fiscal 2003, the Company
curtailed melt shop production to reduce billet inventories and improve cash
flow. During the first quarter
13
of fiscal 2003, billet inventories reached targeted levels. As a result, in
November, 2002, the melt shop resumed full operations of seven days per week.
Billets produced by the melt shop are reheated in one of two natural gas-fueled
reheat furnaces and then hot-rolled through one of two rolling mills. Rolling
Mill #1, a 17-stand mill, was rebuilt in 1986. The mill is computerized,
allowing for efficient synchronized operations of the rolls and related
equipment. The computer controls include a self-diagnostic system that detects
and identifies electronic and mechanical malfunctions in Rolling Mill #1. In
1994, the Steel Manufacturing Business completed the installation of in-line
straightening, stacking and bundling equipment on the end of Rolling Mill #1.
The addition of this equipment has permitted the Steel Manufacturing Business to
improve the packaging and quality of its products and to produce its merchant
bar products more efficiently by automating the straightening and bundling
function. It has also permitted the Steel Manufacturing Business to expand its
higher-margin merchant bar product line.
Rolling Mill #2, a technologically advanced 18-stand mill, was completed in
February 1996. The mill is computerized, allowing for efficient synchronized
operations of the rolls and related equipment. The computer controls include a
self-diagnostic system that detects and identifies electronic and mechanical
malfunctions in the mill. In fiscal 1997, the Company installed a rod block and
finishing equipment at Rolling Mill #2 which allowed the Steel Manufacturing
Business to expand and enhance its product line into coiled steel products. In
the first quarter of fiscal 2003, the Steel Manufacturing Business enhanced the
wire rod production process by installing a ring distributor and making
improvements to the wire rod cooling system. The ring distributor improved yield
and produces a more uniformly packaged product. Improvements to the wire rod
cooling system allow for the manufacture of larger diameter and high carbon wire
rod which sells at a premium price.
In fiscal 2004, the Steel Manufacturing Business plans to replace the electric
arc furnace in the melt shop at a cost of $2.5 million. The new furnace, with a
110-ton capacity, will be more efficient and will reduce electric power
consumption. The final installation of the furnace is expected to be completed
over a period of less than two weeks during the fourth quarter of fiscal 2004.
Peripheral structures will be completed prior to that time while the existing
furnace is in operation. In order to accommodate the rolling mills' need for
billets during the installation shut-down, the Steel Manufacturing Business will
increase billet inventory leading up to the final installation. Management
expects to add 10,000 tons to the billet inventory during December 2003 when the
operation is normally shut down. As the final installation gets closer,
management will reassess the anticipated needs of the rolling mills and adjust
the billet inventory accordingly.
TRANSPORTATION. The Steel Manufacturing Business makes extensive use of rail and
truck transportation for shipment of its products to its distribution centers
and customers in California and for the shipment of recycled metals to the mill
both from the Metals Recycling Business' yards and other metal recyclers in
Oregon and California.
Competition. The Steel Manufacturing Business competes with the following
Western United States steel producers for sales of rebar and merchant bar: Nucor
Corporation (Nucor) in Plymouth, Utah, Seattle, Washington and Kingman, Arizona
(currently idle); Tamco in Los Angeles, California; and Chaparral Steel Company
in Midlothian, Texas. In December 2002, Nucor acquired Birmingham Steel, which
has a steel mill in operation located in Seattle, Washington, and also acquired
the North Star Mill in Kingman, Arizona plant that remains idle. For sales of
wire rod, the Steel Manufacturing Business competes with an Oregon Steel Mills,
Inc. plant located in Pueblo, Colorado, other domestic producers located
primarily on the West Coast and importers. Other domestic mills located east of
the Rocky Mountains generally do not compete in the Steel Manufacturing
Business' market area because of transportation costs. The principal competitive
factors in the Steel Manufacturing Business' market are price (including freight
cost), product availability, quality and service. Certain of the Steel
Manufacturing Business' competitors have substantially greater financial
resources than the Steel Manufacturing Business. In addition to domestic
competition, the Steel Manufacturing Business has historically competed
intensely with foreign steel producers principally located in Asia, Canada,
Mexico, and Central and South America in certain of its product lines. During
fiscal 2001, the Steel Manufacturing Business experienced significant
competition from low-priced steel imports. In March and April 2002, the United
States International Trade Commission (ITC) imposed tariffs on imported steel,
under Section 201 of the 1974 Trade Act to
14
temporarily aid the domestic steel industry. To date, however, these tariffs
have not significantly benefited selling prices for finished steel products on
the West Coast of the United States. In the spring of 2002, the U.S. Government
imposed anti-dumping and countervailing duties against wire rod products from
eight foreign countries. In fiscal 2003, imports of steel were also affected by
foreign currency fluctuations. Relevant foreign currencies generally
strengthened relative to the U.S. dollar, making imports into the U.S. more
expensive. As a result of the duties and these changes in foreign exchange
rates, the Company has recently experienced less competition from foreign steel
producers.
In June 2003, Oregon Steel Mills, Inc. permanently shut down its Portland melt
shop. Although Oregon Steel Mills' (OSM) finished products do not directly
compete with the Company, OSM has historically competed for recycled metal
supplies in the Pacific Northwest. Thus, this closure is expected to reduce the
end user demand for unprocessed metal in the Portland, Oregon market.
SEASONALITY. The Steel Manufacturing Business' revenues can fluctuate
significantly between quarters due to factors such as the seasonal slowdown in
the construction industry, which occurs from the late fall through early spring,
and in other industries it serves. In the past, the Steel Manufacturing Business
has generally experienced its lowest sales during the second quarter of the
fiscal year. The Company expects this pattern to continue in the future.
BACKLOG. The Steel Manufacturing Business generally ships products within days
after the receipt of purchase orders. Backlogs are seasonal and would be larger
in fiscal quarters three and four.
AUTO PARTS BUSINESS
- -------------------
The auto dismantling and used auto parts industry is very fragmented, with few
dominant players. This is particularly the case in the self-service sector of
the used auto parts industry. With 23 stores in six states, the Company believes
it has one of the largest self-service used auto parts networks in the United
States. Seventeen of these stores are located in Northern California, with the
remaining stores located in Nevada, Utah, Illinois, Indiana and Texas. The
Company purchases salvaged vehicles, sells parts from those vehicles through its
retail store facilities and wholesale operations, and sells the remaining
portion of the vehicles to metal recyclers, including the Company's Metals
Recycling Business.
The Company is dedicated to supplying low cost used auto parts to its customers.
In general, management believes that the price of parts is significantly lower
than full service auto dismantling prices, retail car part store prices and car
dealership prices. Each store offers an extensive selection of vehicles from
which consumers can remove parts. The average store is located on 14 acres and
contains 1,600 cars available to the customer. The Company carries domestic and
foreign cars, vans and light trucks. The Company rotates its inventory
frequently, providing customers with access to new parts. The Company does not
remove parts for its customers or perform automotive repairs.
The Company typically seeks to locate its facilities with convenient access to
major streets and major population centers. By operating its stores at locations
that are convenient and visible to the target customer, the stores become the
first stop a customer makes in acquiring their used auto parts. Convenient
locations also make it easier and less expensive for suppliers to deliver
vehicles.
15
Products and Marketing. The following table sets forth information about the
significant components of sales made by the Company's Auto Parts Business and
predecessor companies during the last five fiscal years:
Year Ended August 31,
---------------------
2003 2002(1) 2001(1) 2000(1) 1999(1)
---- ------- ------- ------- -------
Sales %. Sales %. Sales %. Sales %. Sales %.
----- -- ----- -- ----- -- ----- -- ----- --
(dollar amounts in millions)
Retail sales $44,463 68% $42,257 73% $37,826 74% $32,965 74% $29,031 76%
Wholesale sales 20,762 32% 16,018 27% 13,505 26% 11,792 26% 9,043 24%
------- --- ------- --- ------- --- ------- --- ------- ---
Total $65,225 100% $58,275 100% $51,331 100% $44,757 100% $38,074 100%
======= === ======= === ======= === ======= === ======= ===
(1) The sales for periods prior to fiscal 2003 are not included in the Company's
consolidated revenues. Please refer to Note 1 and Note 3 in the Notes to the
Consolidated Financial Statements.
The Company sells auto parts from each of its retail locations. Upon arriving at
a store, a customer pays an admission charge and signs a liability waiver before
entering the facility. When a customer finds a desired part on a vehicle, the
customer removes it and pays a standard retail price for the part.
Once the vehicle is removed from the customer area, certain remaining parts that
can be sold wholesale ("cores") are removed from the vehicle. In California,
these cores, such as engines, transmissions and alternators, are consolidated at
a central facility. From this facility, the parts are sold, via an auction
system, to a variety of different wholesale buyers. Due to larger volumes
generated via this consolidation process, the Company has been able to obtain
increasingly higher prices for these cores.
After the core removal process is complete, the remaining auto body is crushed
and sold as scrap metal in the wholesale market. The auto bodies are sold on a
price per ton basis. This price is subject to fluctuations in the recycled
ferrous metal markets. Traditionally, the majority of the Northern California
stores' auto bodies are sold to the Metals Recycling Business's Oakland
facility. During fiscal 2003, the Auto Parts Business had sales of $7.7 million
to the Metals Recycling Business, thereby making it the Auto Parts Business'
single largest customer. The Company's wholesale business consists of its core
and scrap sales.
COMPETITION. The Company competes with both full-service and self-service auto
dismantlers as well as larger well-financed retail auto parts businesses for
retail customers. Also, the Company competes for its vehicle inventory with
other dismantlers, used car dealers, auto auctions and metal recyclers. Vehicle
costs can fluctuate significantly depending on market conditions and prices for
recycled metal.
SOURCES OF VEHICLES. The Company obtains vehicles from three primary sources:
tow companies, private parties and charities. The Company employs car buyers who
travel to tow companies and bid on vehicles. The Company also has a program to
purchase vehicles from private parties called "Cash for Junk Cars." This program
is advertised in telephone directories and newspapers. Private parties call a
toll free number and receive a quote for their vehicle. The private party can
either deliver the vehicle to one of the retail locations or the Company can
arrange for the vehicle to be picked up.
SEASONALITY. Retail sales and admissions are somewhat seasonal and principally
affected by weather and promotional events. Since the stores are open to the
natural elements, during periods of prolonged wet, cold or extreme heat, the
retail business tends to slow down due to the difficult customer working
conditions. As a result, the Company's first and third fiscal quarters tend to
generate the most retail sales and the second and fourth fiscal quarters are the
slowest in terms of retail sales.
16
ENVIRONMENTAL MATTERS
- ---------------------
Compliance with environmental laws and regulations is a significant factor in
the Company's business. Some of the Company's businesses are subject to local,
state, federal and supranational environmental laws and regulations concerning,
among other matters, solid waste disposal, hazardous waste disposal, air
emissions, water quality and discharge, dredging and employee health.
Environmental legislation and regulations have changed rapidly in recent years
and it is likely that the Company will be subject to even more stringent
environmental standards in the future.
PORTLAND HARBOR
In December 2000, the United States Environmental Protection Agency (EPA) named
the Portland Harbor, a 5.5 mile stretch of the Willamette River in Portland,
Oregon, as a Superfund site. The Company's metals recycling and deep water
terminal facility in Portland, Oregon is located adjacent to the Portland
Harbor. Crawford Street Corporation, a Company subsidiary, also owns property
adjacent to the Portland Harbor. The EPA has identified 69 potentially
responsible parties (PRPs), including the Company and Crawford Street
Corporation, which own or operate sites adjacent to the Portland Harbor
Superfund site. The Company leases the metals recycling and deep water terminal
facility from Schnitzer Investment Corp. (SIC), a related party, and is
obligated under its lease with SIC to bear the costs relating to the
investigation and remediation of the property. The precise nature and extent of
any clean-up of the Portland Harbor, the parties to be involved, and the process
to be followed for such a clean-up have not yet been determined. It is unclear
whether or to what extent the Company or Crawford Street Corporation will be
liable for environmental costs or damages associated with the Superfund site. It
is also unclear whether natural resource damage claims or third party
contribution or damages claims will be asserted against the Company. While the
Company and Crawford Street Corporation participated in certain preliminary
Portland Harbor study efforts, they are not parties to the consent order entered
into by the EPA with other PRPs (Lower Willamette Group) for a Remedial
Investigation/Feasibility Study; however the Company could become liable for a
share of the costs of this study at a later stage of the proceedings.
Separately, the Oregon Department of Environmental Quality (DEQ) has requested
operating history and other information from numerous persons and entities which
own or conduct operations on properties adjacent to or upland from the Portland
Harbor, including the Company and Crawford Street Corporation. The DEQ
investigations at the Company and Crawford Street sites are focused on
controlling any current releases of contaminants into the Willamette River. The
Company has agreed to a voluntary Remedial Investigation/Source Control effort
with the DEQ regarding its Portland, Oregon deep water terminal facility and the
site owned by Crawford Street Corporation. DEQ identified these sites as
potential sources of contaminants that could be released into the Willamette
River. The Company believes that improvements in the operations at these sites,
often referred to as Best Management Practices (BMPs), will be sufficient to
effectively provide source control and avoid the release of contaminants from
these sites, and has proposed to DEQ the implementation of BMPs as the
resolution of this investigation.
While the cost of the investigations associated with these properties and the
cost of employment of source control BMPs are not expected to be material, no
estimate is currently possible and none has been made as to the cost of
remediation, if any. No accrual for remediation of the Portland Harbor or the
Company's adjacent properties had been established as of August 31, 2003.
MANUFACTURING MANAGEMENT, INC.
In 1994, Manufacturing Management, Inc. (MMI) recorded a reserve for the
estimated cost to cure certain environmental liabilities. This reserve was
carried over to the Company's financial statements when MMI was acquired in
1995, and at August 31, 2003 aggregated $15.6 million.
General Metals of Tacoma (GMT), a subsidiary of MMI, owns and operates a metals
recycling facility located in the State of Washington on the Hylebos Waterway, a
part of Commencement Bay, which is the subject of an ongoing remediation project
by the United States Environmental Protection Agency (EPA) under the
Comprehensive
17
Environmental Response, Compensation and Liability Act (CERCLA). GMT and more
than 60 other parties were named potentially responsible parties (PRPs) for the
investigation and clean-up of contaminated sediment along the Hylebos Waterway.
On March 25, 2002, EPA issued Unilateral Administrative Orders (UAOs) to GMT and
another party to proceed with Remedial Design and Remedial Action (RD/RA) for
the head of the Hylebos and to two other parties to proceed with the RD/RA for
the balance of the waterway. It is anticipated that the UAOs will soon be
converted to more specific voluntary consent decrees and that EPA will take
additional action against other PRPs. The issuance of the UAOs did not require
the Company to change its previously recorded estimate of environmental
liabilities for this site. Significant uncertainties continue to exist regarding
the total cost to remediate this site as well as the Company's share of those
costs; nevertheless, the Company's estimate of its liabilities related to this
site is based on information currently available.
The Natural Resource Damage Trustees (Trustees) for Commencement Bay have
asserted claims against GMT and other PRPs within the Hylebos Waterway area for
alleged damage to natural resources. In March 2002, the Trustees delivered a
draft settlement proposal to GMT and others in which the Trustees suggested a
methodology for resolving the dispute, but did not indicate any proposed damages
or cost amounts. In June 2002, GMT responded to the Trustees' draft settlement
proposal with various corrections and other comments, as did twenty other
participants. It is unknown at this time whether, or to what extent, GMT will be
liable for natural resource damages. The Company's previously recorded
environmental liabilities include an estimate of the Company's potential
liability for these claims.
The Washington State Department of Ecology named GMT, along with a number of
other parties, as Potentially Liable Parties (PLPs) for a site referred to as
Tacoma Metals. GMT operated on this site under a lease prior to 1982. The
property owner and current operator have taken the lead role in performing a
Remedial Investigation and Feasibility Study (RI/FS) for the site. The RI/FS is
now completed and the parties are currently involved in a mediation settlement
process to address cost allocations. The Company's previously recorded
environmental liabilities include an estimate of the Company's potential
liability at this site.
MMI is also a named PRP at two third-party sites at which it allegedly disposed
of transformers. At one site, MMI entered into a settlement under which it paid
$825,000 towards remediation of the site. Remediation of the site has been
completed and it is now subject to a five year monitoring program. The other
site has not yet been subject to significant remedial investigation. MMI has
been named as a PRP at several other sites for which it has agreed to de minimis
settlements. In addition to the matters discussed above, the Company's
environmental reserve includes amounts for potential future cleanup of other
sites at which MMI has conducted business or has allegedly disposed of other
materials.
PROLER
In 1996, prior to the Company's acquisition of Proler International Corp.
(Proler), Proler recorded a liability for the probable costs to remediate its
wholly-owned properties. The Company carried over the aggregate reserve to its
financial statements upon acquiring Proler, and $3.5 million remained
outstanding on August 31, 2003.
As part of the Proler acquisition, the Company became a 50% owner of Hugo
Neu-Proler Company (HNP). HNP has agreed, as part of its 1996 lease renewal with
the Port of Los Angeles (POLA), to conduct a multi-year, phased remedial
clean-up project involving certain environmental conditions on its metals
recycling facility at its Terminal Island site in Los Angeles, California, which
was completed in 2002. HNP is waiting for final certification from POLA and the
regulatory agencies overseeing the cleanup. Remediation included excavation and
off-site disposal of contaminated soils, paving and groundwater monitoring.
Other environmentally protective actions included installation of a stormwater
management system and construction of a noise barrier and perimeter wall around
a substantial portion of the facility.
Metals Recycling L.L.C. (Metals) is a scrap metals processing business with
locations in Rhode Island and Massachusetts. The members of Metals are one of
the Company's Proler joint ventures and Izzo Group, Inc. On June 9, 1999, the
Rhode Island Department of Environmental Management (DEM) issued a Notice of
Violation (NOV) against Metals, alleging Metals had violated federal and state
regulations relating to the storage, management
18
and transportation of hazardous waste and seeking to impose an administrative
penalty of $0.7 million. Metals has filed an answer to the NOV in which it
denied the allegations and requested an adjudicatory hearing. In January of
1999, federal and state officials searched Metal's Johnston, Rhode Island and
Worcester, Massachusetts facilities. Metals was advised that the search was part
of a state criminal investigation into possible violations of state and federal
hazardous waste programs and a Rhode Island statute that prohibits the disposal
of out-of-state solid waste at the landfill operated by Rhode Island Resource
Recovery Corporation (RIRRC). A grand jury was empanelled to consider the
allegations and issued an indictment on August 30, 2002 against Metals for
storing hazardous waste without a permit, operating a hazardous waste disposal
facility without a permit, causing transportation of hazardous waste without a
permit, causing transportation of hazardous waste without a manifest and
operating a solid waste management facility without a license. Metals has
pleaded not guilty on all counts and has vigorously contested the state's
allegations. Settlement discussions with DEM and the Rhode Island Attorney
General's Office to settle the civil NOV and the criminal charges are being
held.
In August 1999, the DEM issued a NOV to RIRRC, that included a civil penalty of
$0.3 million, relating to the alleged disposal of hazardous waste by Metals at a
landfill operated by RIRRC. RIRRC settled this matter with DEM, and in response
to RIRRC's claim against Metals for contribution, RIRRC and Metals agreed to a
settlement in which Metals paid RIRRC $0.2 million in 2003.
On March 15, 2002, DEM issued a NOV against Metals' Johnston, Rhode Island
facility, alleging violations of provisions of the Rhode Island Clean Air Act
and the regulations promulgated thereunder, and seeking to impose administrative
penalties of $1.1 million against Metals. On April 5, 2002, Metals filed its
answer and request for a hearing, in which it denied liability for such alleged
violations. In August 2003, Metals and DEM agreed to a settlement of this matter
providing for payment by Metals of a reduced fine of $0.7 million payable in
2003 through 2007, which is further reduced to $0.3 million payable in 2003
through 2004 if Metals installs electric engines, converting from diesel.
Metals' results of operations for the past few years have included accruals for
the probable costs to remediate or settle the above mentioned environmental
situations.
Additionally, other Proler joint venture sites with potential environmental
clean-up issues have been identified. Estimated clean-up costs associated with
these sites have been accrued for by the joint ventures.
METALS RECYCLING BUSINESS
After the shredding of automobile bodies and other obsolete machinery and
appliances and the separation of ferrous and salable nonferrous metals, the
remaining auto shredder residue must be managed. State and federal standards
prescribe sampling protocols requiring representative samples of auto shredder
residue to be analyzed to determine if they are likely to leach heavy metals,
PCBs or other hazardous substances in excess of acceptable levels. Auto shredder
residue from the Company's metals recycling operations in Oakland and Tacoma
undergo an in-line chemical stabilization treatment prior to beneficial use as
an alternative daily landfill cover.
STEEL MANUFACTURING BUSINESS
Cascade Steel Rolling Mills, Inc.'s steel mini-mill generates electric arc
furnace (EAF) dust, which is classified as a hazardous waste by the EPA because
of its zinc and lead content. Currently, the EAF dust is shipped to a firm in
the United States that applies a treatment that allows the EAF dust to be
delisted as hazardous so it can be disposed of as a non-hazardous, solid waste.
By maintaining an annual renewable export license, the Company retains
flexibility by having an option to send EAF dust to a secondary smelter in
Mexico that recycles EAF dust to produce commercial grade zinc and lead.
The Steel Manufacturing Business' mini-mill operating permit under Title V of
the Clean Air Act Amendment of 1990, which governs certain air quality
standards, was first issued in 1998 and has since been renewed through the year
2007. The mini-mill's air permit allows the Steel Manufacturing Business to melt
up to 900,000 tons of
19
recycled metals per year and produce finished steel products totaling 450,000
tons for Rolling Mill #1 and 525,000 tons for Rolling Mill #2.
As the mini-mill's production grows beyond current levels, the Steel
Manufacturing Business has anticipated that it would need to enhance its
existing facilities to properly control increased emissions in order to remain
in compliance with the operating permit. In fiscal 2001, the Steel Manufacturing
Business installed an expanded baghouse system that more efficiently and
effectively controls emissions. The installation was completed at a cost of $0.6
million. In fiscal year 2002, the baghouse was expanded further at a cost of
$0.7 million.
In fiscal 2003, the caster cooling water system was expanded at a cost of $0.3
million which provided cleaner and cooler water to the billet casting section of
the melt shop.
AUTO PARTS BUSINESS
In connection with the acquisition of the Auto Parts Business, the Company
conducted an environmental due diligence investigation. Based upon new
information obtained in this investigation, the Joint Venture accrued $2.1
million in environmental liabilities in the second quarter of fiscal 2003 for
remediation costs at the Auto Parts Business's store locations. No environmental
proceedings are pending at any of these sites.
It is not possible to predict the total size of all capital expenditures or the
amount of any increases in operating costs or other expenses that may be
incurred by the Company or its subsidiaries to comply with environmental
requirements applicable to the Company, its subsidiaries and their operations,
or whether all such cost increases can be passed on to customers through product
price increases. Moreover, environmental legislation has been enacted, and may
in the future be enacted, to create liability for past actions that were lawful
at the time taken but have been found to affect the environment and to increase
public rights of action for environmental conditions and activities. As is the
case with steel producers and recycled metals processors in general, if damage
to persons or the environment has been caused, or is in the future caused, by
the Company's hazardous materials activities or by hazardous substances now or
hereafter located at the Company's facilities, the Company may be fined and/or
held liable for such damage and, in addition, may be required to remedy the
condition. Thus, there can be no assurance that potential liabilities,
expenditures, fines and penalties associated with environmental laws and
regulations will not be imposed on the Company in the future or that such
liabilities, expenditures, fines or penalties will not have a material adverse
effect on the Company.
The Company has, in the past, been found not to be in compliance with certain
environmental laws and regulations and has incurred liabilities, expenditures,
fines and penalties associated with such violations. The Company's objective is
to maintain compliance. Efforts are ongoing to be responsive to environmental
regulations.
The Company believes that it is in material compliance with currently applicable
environmental regulations as discussed above and, except as discussed above,
does not anticipate any substantial capital expenditures for new environmental
control facilities during fiscal 2004 or 2005.
EMPLOYEES
As of August 31, 2003, the Company had 1,495 full-time employees, consisting of
465 employees at the Company's Metals Recycling Business, 451 employees at the
Steel Manufacturing Business, 519 employees at the Auto Parts Business and 60
corporate administrative employees. Of these employees, as of August 31, 2003,
623 are covered by collective bargaining agreements with twelve unions. The
Steel Manufacturing Business' contract with the United Steelworkers of America
covers 334 of these employees and expires on April 1, 2005. The Company believes
that its labor relations generally are good.
20
AVAILABLE INFORMATION
The Company's website is located at www.schnitzersteel.com. The Company makes
available free of charge on or through its website, its annual, quarterly and
current reports, and any amendments to those reports, as soon as reasonably
practicable after electronically filing such reports with the Securities and
Exchange Commission ("SEC"). Information contained on the Company's website is
not part of this report or any other report filed with the SEC.
ITEM 2. PROPERTIES
The Company's Portland metals recycling facility, Portland deep water terminal
facilities, and the related buildings and improvements are located on an
approximately 120-acre industrial site owned by Schnitzer Investment Corp.
(SIC), a related party, and leased to the Company under a long-term lease. See
Part III, Item 13 "Certain Relationships and Related Transactions."
Approximately 17 acres are occupied by the Company's deep water terminal
facilities, and the balance is used by for recycling metal.
Since 1973, the Sacramento recycled metals operations have been located on a
7-acre site, most of which was leased from SIC under a long-term lease. In
August 2003, the Company purchased this leased land from SIC at fair market
value. See Part III, Item 13, "Certain Relationships and Related Transactions."
The Pasco, Washington and Anchorage, Alaska operations are located on sites
leased from third parties.
The following metals recycling operations are all located on sites owned by the
Company or subsidiaries:
LOCATION ACREAGE OWNED AT SITE
-------- ---------------------
Oakland, CA 33
Tacoma, WA 26
Fresno, CA 17
Sacramento, CA 13
Eugene, OR 11
White City, OR 4
Bend, OR 3
Grants Pass, OR 1
The Steel Manufacturing Business' steel mill and administrative offices are
located on an 83-acre site owned by the Steel Manufacturing Business in
McMinnville, Oregon. In fiscal 2002, the Company purchased 51 acres near the
mill site in McMinnville, Oregon. The Steel Manufacturing Business also owns its
87,000 sq. ft. distribution center in El Monte, California.
The Auto Parts Business has retail facilities in the following locations:
Number of Total
Locations Acreage
--------- -------
Northern California 17 211
Nevada 2 30
Texas 1 33
Utah 1 12
Illinois 1 17
Indiana 1 29
--- ---
Total 23 332
=== ===
21
The Company owns the properties located in Indiana and Nevada. Additionally, it
owns approximately 25 acres in California, 6 acres in Illinois and 2.5 acres in
Utah. The remainder of the California and Illinois facilities and the Texas
facility are located on sites leased by the Company from third parties.
The equipment and facilities on each of the foregoing sites are described in
more detail in the descriptions of each of the Company's businesses. The Company
believes its present facilities are adequate for operating needs for the
foreseeable future.
The Company's principal executive offices are located at 3200 and 3300 NW Yeon
Avenue in Portland, Oregon in 48,000 sq. ft. of space leased from SIC under
long-term leases. See Part III, Item 13 "Certain Relationships and Related
Transactions."
ITEM 3. LEGAL PROCEEDINGS
Except as described above under Part I, Item 1 "Business -- Environmental
Matters", the Company is not a party to any material pending legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the fourth
quarter of the fiscal year ended August 31, 2003.
ITEM 4(a). EXECUTIVE OFFICERS OF THE REGISTRANT
Name Age Office
- ---- --- ------
Robert W. Philip 56 President and Chief Executive Officer
Gary Schnitzer 61 Executive Vice President - California Metals
Recycling Business
Barry A. Rosen 58 Vice President - Finance and Treasurer and
Chief Financial Officer
Kurt C. Zetzsche 64 President, Cascade Steel Rolling Mills, Inc.
Terry L. Glucoft 55 Vice President - Domestic Trading
Jay Robinovitz 45 Vice President - Operations
Kelly E. Lang 42 Vice President - Corporate Controller
Robert W. Philip has been President of the Company since March 1991
and Chief Executive Officer since January 2002. He had been a Vice President of
the Company since 1984 with responsibility for the Company's Metra Steel
distribution division from 1984 to the time of its sale in July 1990.
Gary Schnitzer has been Executive Vice President in charge of the
Company's California metals recycling operations since 1980. Gary Schnitzer is a
first cousin of Robert Philip's wife.
22
Barry A. Rosen has been Vice President-Finance, Treasurer, and Chief
Financial Officer of the Company since 1982. Prior to joining the Company, Mr.
Rosen was Chief Financial Officer of a privately held real estate developer. In
addition, Mr. Rosen held financial management positions with Sara Lee
Corporation and was an Audit Manager with Price Waterhouse.
Kurt C. Zetzsche joined the Company in February 1993 as President of
the Steel Manufacturing Business. Mr. Zetzsche has been in the steel production
business since 1966. From 1990 to 1993, he was President of Tennessee Valley
Steel, a mini-mill steel producer. From 1976 to 1989, he was President of
Knoxville Iron Co., also a mini-mill steel producer.
Terry L. Glucoft joined the Company in February 1985 and has held a
number of management positions within the Metals Recycling Business, the latest
of which is Vice President of Domestic Trading where he overseas the Northwest
recycled metals sales operations. Prior to joining Schnitzer Steel, Mr. Glucoft
was employed by Judson Steel Company, a steel mini-mill in California, from 1979
to 1985.
Jay Robinovitz joined the Company in January 1993 and has held various
senior management positions, including the last four years serving as General
Manager of the Company's Tacoma yard. Prior to joining Schnitzer, Mr. Robinovitz
was employed by Aerospace Industries, Inc., in Hartford, Connecticut from 1986
to 1993.
Kelly E. Lang joined the Company in September 1999 as Vice
President-Corporate Controller. From 1996 to September 1999, he was employed by
Tektronix Inc. in various financial capacities, the last of which was Vice
President, Finance for Tektronix Inc.'s Color Printing and Imaging Division.
From 1994 to 1996, he was Treasurer of Crown Pacific Partners, LP. Mr. Lang was
also a CPA with Price Waterhouse LLP. Mr. Lang has resigned his position with
the Company effective as of December 1, 2003.
23
SCHNITZER STEEL INDUSTRIES, INC.
FORM 10-K
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
The Company's Class A Common Stock is traded on the Nasdaq National Market tier
of the Nasdaq Stock Market under the symbol SCHN. The approximate number of
shareholders of record on October 31, 2003 was 111. The stock has been trading
since November 16, 1993. The following table sets forth the high and low prices
reported at the close of trading on the Nasdaq Stock Market and the dividends
paid per share for the periods indicated, all as adjusted for the 1-for-1 stock
dividend effected August 14, 2003.
Fiscal Year 2003
----------------
High Price Low Price Dividends Per Share
---------- --------- -------------------
First Quarter $ 9.58 $ 8.34 $.025
Second Quarter 12.00 8.87 .025
Third Quarter 16.84 11.78 .025
Fourth Quarter 26.24 17.53 .025
Fiscal Year 2002
----------------
High Price Low Price Dividends Per Share
---------- --------- -------------------
First Quarter $ 7.18 $ 5.46 $.025
Second Quarter 8.25 6.52 .025
Third Quarter 10.70 7.50 .025
Fourth Quarter 11.16 9.02 .025
24
ITEM 6. SELECTED FINANCIAL DATA
Year Ended August 31,
-------------------------------------------------------------------
2003(1) 2002 2001 2000 1999
------- ---- ---- ---- ----
(In millions, except per share, per ton and shipment data)
INCOME STATEMENT DATA:
Revenues $ 496.9 $ 350.6 $ 322.8 $ 367.5 $ 284.9
Cost of goods sold and other
operating expenses (413.0) (324.4) (290.9) (330.7) (258.9)
Impairment and other non-
recurring charges (2.1) (7.1) -- -- --
Selling and commission expense (5.3) (2.9) (2.2) (2.5) (2.8)
General and administrative (32.2) (25.8) (24.4) (24.0) (20.8)
Income from joint ventures 24.4 19.4 9.8 4.5 3.5
---------- ---------- ---------- ---------- ----------
Income from operations 68.7 9.8 15.1 14.8 5.9
Interest expense (1.8) (2.3) (5.1) (7.4) (7.0)
Other income (expense) (0.5) 0.2 1.3 3.6 2.5
---------- ---------- ---------- ---------- ----------
Income before cumulative effect of
change in accounting principle,
income taxes, minority interests
and pre-acquisition interests 66.4 7.7 11.3 11.0 1.4
Income tax provision (17.9) (1.1) (3.4) (0.6) (0.8)
Minority interests, net of tax (1.8) -- -- -- --
Pre-acquisition interests, net of tax (2.5) -- -- -- --
Cumulative effect of change in
accounting principle (1.0) -- -- -- --
---------- ---------- ---------- ---------- ----------
Net income $ 43.2 $ 6.6 $ 7.9 $ 10.4 $ 0.6
========== ========== ========== ========== ==========
Basic earnings per share(2) $ 2.32 $ 0.36 $ 0.42 $ 0.53 $ 0.03
========== ========== ========== ========== ==========
Diluted earnings per share(2) $ 2.20 $ 0.35 $ 0.42 $ 0.53 $ 0.03
========== ========== ========== ========== ==========
Dividends per common share(2) $ 0.10 $ 0.10 $ 0.10 $ 0.10 $ 0.10
========== ========== ========== ========== ==========
OTHER DATA:
Shipments (in thousands)(3):
Ferrous recycled metal (tons) 1,812 1,557 1,482 1,506 1,224
Nonferrous (pounds) 113,378 112,622 114,441 96,207 74,497
Finished steel products (tons) 622 569 546 666 571
Average net selling price(3,4):
Ferrous recycled metal (per ton) $ 122 $ 94 $ 91 $ 95 $ 83
Nonferrous (per pound) 0.42 0.36 0.37 0.40 0.35
Finished steel products (per ton) 291 276 292 289 303
Depreciation and amortization $ 19.4 $ 18.6 $ 18.8 $ 18.4 $ 17.7
Capital expenditures 21.8 9.6 9.3 10.7 12.0
25
August 31,
------------------------------------------
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
(In millions)
BALANCE SHEET DATA:
Working capital $ 72.4 $ 39.4 $ 91.4 $ 79.9 $ 93.4
Total assets 487.9 405.0 425.9 426.3 446.4
Short-term debt 0.2 60.2 0.2 0.2 0.4
Long-term debt 87.0 8.3 93.8 93.1 119.8
Shareholders' equity 303.0 252.9 248.1 248.4 240.3
(1) The 2003 data includes the Auto Parts Business acquisition, which occurred
on February 14, 2003. Please refer to Note 1 and Note 3 of the Notes to the
Consolidated Financial Statements. The consolidated results include the
results of the Auto Parts Business as though the acquisition had occurred
at the beginning of fiscal 2003. Adjustments have been made for minority
interests, which represents the ownership interests the Company did not own
during the reporting period and pre-acquisition interests, which represents
the share of income attributable to the former joint venture partner for
the period from September 1, 2002 through February 14, 2003. The financial
results of the former auto parts joint venture for all periods prior to
fiscal 2003 continue to be accounted for using the equity method and are
included in the line "Income from joint ventures."
(2) Basic and diluted earnings per share and dividends per common share have
been adjusted to reflect the 1-for-1 share dividend paid on August 14,
2003, to shareholders of record on July 24, 2003.
(3) Tons for ferrous recycled metals are long tons (2,240 pounds) and for
finished steel products are short tons (2,000 pounds).
(4) The Company reports revenues that include shipping costs billed to
customers. However, average net selling prices are shown net of shipping
costs.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
- --------
The Company operates in three industry segments. The Company's Metals Recycling
Business collects, processes and recycles steel and other metals through its
facilities. The Company's Steel Manufacturing Business operates a mini-mill near
Portland, Oregon, which melts recycled metal, produces finished steel products
and maintains one mill depot in Southern California and one in Central
California. The Company's Auto Parts Business purchases used and wrecked
automobiles and allows retail customers the opportunity of extracting parts for
purchase in its self-service auto parts stores, with 17 located in California,
two in Nevada and one store in each of Texas, Utah, Illinois and Indiana.
Additionally, the Company is a non-controlling partner in joint ventures that
are either in the metals recycling business or are suppliers of unprocessed
metals. The Joint Ventures in the Metals Recycling Business sell recycled metals
that have been processed at their facilities (Processing) and also buy and sell
third parties' processed metals (Brokering).
Note 3 of the Notes to the Consolidated Financial Statements describes the Auto
Parts Business acquisition that occurred on February 14, 2003. Under Statement
of Financial Accounting Standards No. 141 ("SFAS 141"), "Business Combinations,"
the acquisition is considered a "step" acquisition due to the fact that the
Company had a significant joint venture interest in the acquired business for a
number of years. Additionally, since the acquisition occurred during the year,
the Company elected to include it in the consolidated results as though it had
occurred at the beginning of fiscal 2003. Thus, the fiscal 2003 statement of
operations, balance sheet and statement of cash flows have been adjusted to
consolidate the acquisition as of September 1, 2002. Also, the acquired
businesses were consolidated with the Company's previous interest in the
business to form a separate reporting segment called the Auto Parts Business.
Consolidation accounting requires the Company to adjust its earnings for the
ownership interests it did not own during the reporting period. During fiscal
2003, net income was reduced by $1.8 million for minority interests, net of
income taxes, representing the share of income attributable to various
continuing minority partners of the business. Also, for the
26
period from September 1, 2002 through February 14, 2003, net income was reduced
by $2.5 million of pre-acquisition interests, net of income taxes, representing
the share of income attributable to the former joint venture partner prior to
the acquisition. The financial results of the acquired business for periods
prior to fiscal 2003 continue to be accounted for using the equity method and
are included in the joint venture businesses reporting segment.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
- ------------------------------------------
The Company's discussion and analysis of its financial condition and results of
operations are based upon its consolidated financial statements, which have been
prepared in accordance with Generally Accepted Accounting Principles. The
preparation of these financial statements requires the Company to make estimates
and judgments that affect the reported amounts of assets, liabilities, revenues
and expenses, and related disclosure of contingent assets and liabilities. On an
ongoing basis, the Company evaluates its estimates. The Company bases its
estimates on historical experience and on various other assumptions that are
believed to be reasonable under the circumstances. These estimates and
assumptions provide a basis for making judgments about the carrying values of
assets and liabilities that are not readily apparent from other sources. Actual
results may differ from these estimates under different assumptions or
conditions, and these differences may be material.
The Company believes the following critical accounting policies affect its more
significant judgments and estimates used in the preparation of its consolidated
financial statements.
INVENTORIES
Inventories are stated at the lower of cost or market. Cost is determined using
the average cost method. The production and accounting process utilized by the
Company to record recycled metals inventory quantities relies on significant
estimates. The Company relies upon perpetual inventory records that utilize
estimated recoveries and yields that are based upon historical trends and
periodic tests for certain unprocessed metal commodities. Over time, these
estimates are reasonably good indicators of what is ultimately produced;
however, actual recoveries and yields can vary depending on product quality,
moisture content and source of the unprocessed metal. To assist in validating
the reasonableness of the estimates, the Company not only runs periodic tests,
but also performs physical inventories. Physical inventories can normally
detect significant variations in volume, but because of variations in product
density, holding period and production processes utilized to manufacture the
product, physical inventories will not generally detect smaller variations. To
mitigate this risk, the Company adjusts it physical inventories when the volume
of a commodity is low and a physical inventory can more accurately predict the
remaining volume.
REVENUE RECOGNITION
The Company recognizes revenue when it has a contract or purchase order from a
customer with a fixed price, the title and risk of loss transfer to the buyer,
and collectibility is reasonably assured which is generally upon shipment.
Title for both metals and finished steel products transfers upon shipment. For
retail sales by the Company's Auto Parts Business, revenues are recognized when
customers pay for salvaged vehicle parts or when wholesale products are shipped
to the customer location. Substantially all of the Company's ferrous export
sales of recycled metal are made with letters of credit, minimizing credit risk.
However, domestic ferrous recycled metal sales, nonferrous sales and sales of
finished steel are generally made on open account. Historically, there have been
very few sales returns and adjustments that impact the ultimate collection of
revenues; therefore no provisions are made when the sale is recognized.
BAD DEBT RESERVES
The Company evaluates the collectibility of its accounts, notes and advances
receivable based on a combination of factors. In cases where management is
aware of circumstances that may impair a specific customer's ability to meet its
financial obligations to the Company, management records a specific allowance
against amounts due and reduce the net recognized receivable to the amount we
reasonably believe will be collected. For all other customers, the Company
maintains a reserve that considers the total receivables outstanding, historical
collection rates and economic trends.
27
ENVIRONMENTAL COSTS
The Company operates in industries that inherently possess environmental risks.
To manage these risks, the Company employs both its own environmental staff and
outside consultants. These consultants and finance personnel meet regularly to
stay updated on environmental risks. The Company estimates future costs for
known environmental remediation requirements and accrues for them on an
undiscounted basis when it is probable that the Company has incurred a liability
and the related costs can be reasonably estimated. The regulatory and government
management of these projects is extremely complex, which is one of the primary
factors that make it difficult to assess the cost of potential and future
remediation of potential sites. When only a wide range of estimated amounts can
be reasonable established, and no other amount within the range is better than
another, the minimum amount of the range is recorded in the financial
statements. Adjustments to the liabilities are made when additional information
becomes available that affects the estimated costs to remediate. In a number of
cases, it is possible the Company may receive reimbursement through prior
insurance. In these situations, recoveries of environmental remediation costs
from other parties are recorded as assets when collection is accomplished.
TAXES
Deferred income taxes reflect the differences between the financial reporting
and tax bases of assets and liabilities at year-end based on enacted tax laws
and statutory tax rates. Tax credits are recognized as a reduction of income
tax expense in the year the credit arises. A valuation allowance is established
when necessary to reduce deferred tax assets, including net operating loss
carryforwards, to the amount more likely than not to be realized. Periodically,
the Company reviews the deferred tax assets to assess whether the valuation
allowances continue to be necessary. The valuation allowances will be reversed
when there is significant evidence that it is more likely than not that the
assets will be realized.
GOODWILL AND OTHER INTANGIBLES
Effective June 1, 2001, the Company adopted Statement of Financial Accounting
Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets," under which
goodwill and other intangible assets with indefinite lives are no longer
amortized. The Company reviews its goodwill and non-amortizable intangibles on
an annual basis for impairment, or more frequently if impairment indicators
arise, in accordance with the provisions of SFAS No. 142. Prior to adoption of
SFAS No. 142, the Company amortized goodwill and other intangible assets over
their estimated useful lives.
RESULTS OF OPERATIONS
- ---------------------
During fiscal 2003, the Company's operations improved dramatically, resulting in
a record year for revenue and net income. Both the Company's Metals Recycling
Business and Steel Manufacturing Business recognized marked improvements over
last year. As well, the Company's Joint Ventures in the Metals Recycling
Business benefited from rising selling prices to improve their profitability by
nearly 80%. Also, as explained further below, the Company acquired a new
business segment, the Auto Parts Business, in fiscal 2003. This segment
significantly contributed to earnings during the year.
The results of operations of the Company depend in large part upon demand and
prices for recycled metals in world markets and steel products in the Western
United States. For example, increasing steel demand and prices led to improved
profitability during the period of fiscal 1995 through fiscal 1997. However,
during fiscal 1998 and 1999, the Asian financial crisis severely curtailed
demand and decreased prices, causing a negative impact on the results of the
Metal Recycling Business. During fiscal 2000, the Company saw demand for
recycled metal rise, but unusually large supplies of recycled ferrous metal
became available from certain countries that were part of the former Soviet
Union, thereby holding prices down. In addition, domestic demand for finished
steel products was strong, but lower cost imports, primarily from Asia, caused
average prices to generally decline. In fiscal 2001, the demand for recycled
metals declined in the United States as domestic steel production declined;
however, demand in Asia, particularly in China, remained firm. Selling prices
also continued to be adversely affected by supplies coming out of the former
Soviet Union
28
and during the first six months of fiscal 2002, recycled metals prices
approached record lows due primarily to this surplus coupled with weak domestic
demand. Domestic demand for finished steel products declined due to the slowing
United States economy and competition from lower cost imports. The result was a
record low average net selling price for the Steel Manufacturing Business during
fiscal 2002.
During the second half of fiscal 2002, certain countries of the former Soviet
Union started imposing export tariffs and bans on recycled ferrous metal. As a
result, recycled ferrous metal supplies to global markets declined causing
prices to increase. Many of the Company's customers postponed purchases during
the first quarter of fiscal 2003 believing that these delays would cause prices
to decline. However, demand, which is being fueled primarily by China and Korea,
continued to remain strong and the Company continues to experience improved
market conditions. Throughout much of the remainder of fiscal 2003, selling
prices continued to rise primarily due to the tight supply of ferrous metal
available in the export market and the weakness of the U.S. dollar relative to
other foreign currencies.
The Joint Ventures in the Metals Recycling Business were affected by the same
supply and demand factors as the Company's wholly-owned Metals Recycling
Business.
The Steel Manufacturing Business saw higher average selling prices and higher
sales volumes during fiscal 2003 due primarily to a higher valued product sales
mix and lower volumes of competing imported steel, which is partially attributed
to the weakness of the U.S. dollar. Additionally, during the spring of 2002, the
U.S. Government imposed anti-dumping and countervailing duties on certain wire
rod imports from eight foreign countries, which combined with higher worldwide
ferrous recycled metals prices (the primary raw material used to produce much of
the world's wire rod), improved the competitive position of domestic wire rod
producers. The Steel Manufacturing Business turned this price parity with
imported wire products into increased sales and market share. In the second
quarter of fiscal 2003, the Steel Manufacturing Business completed two capital
projects to one of the rolling mills, which now allow it to produce higher
margin specialty wire products, to improve the packaging of coiled products and
increase the productivity on all wire production.
The Auto Parts Business segment was formed in the second quarter of fiscal 2003
as a result of the acquisition referred to in the "Overview" section. It
purchases salvaged vehicles, sells parts from those vehicles through its retail
facilities and wholesale operations and sells the remaining por