FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(Mark One)
[x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _________ to ____________.
Commission file number 1-5356
PENN ENGINEERING & MANUFACTURING CORP.
--------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 23-0951065
- ------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
P.O. Box 1000, Danboro, Pennsylvania 18916
- ---------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(215)-766-8853
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(Registrant's telephone number, including area code)
N/A
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(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all documents and
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the last practicable date: 3,350,164 shares of Class A
common stock, $.01 par value, and 14,338,744 shares of common stock, $.01 par
value, outstanding on August 2, 2004.
PART 1. FINANCIAL INFORMATION
Item 1. Financial Statements
PENN ENGINEERING & MANUFACTURING CORP.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
ASSETS
(unaudited)
CURRENT ASSETS June 30, 2004 December 31, 2003*
------------- ------------------
Cash and cash equivalents $ 22,365 $ 8,361
Short-term investments 219 228
Accounts receivable - net 47,132 37,629
Inventories - net 45,437 48,512
Refundable income taxes 0 2,129
Other current assets 2,507 1,881
Total current assets 117,660 98,740
PROPERTY
Property, plant and equipment 190,235 190,876
Less accumulated depreciation 104,068 99,774
--------- ---------
Property - net 86,167 91,102
--------- ---------
GOODWILL, NET 41,111 41,844
--------- ---------
OTHER ASSETS 4,373 4,438
--------- ---------
TOTAL ASSETS $ 249,311 $ 236,124
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable $ 8,694 $ 6,865
Bank debt 6,154 9,042
Dividends payable 1,237 1,052
Accrued expenses:
Pension and profit sharing 3,289 2,104
Payroll and commissions 5,931 3,040
Other 6,527 7,129
--------- ---------
Total current liabilities 31,832 29,232
--------- ---------
ACCRUED PENSION COST 845 1,192
--------- ---------
DEFERRED INCOME TAXES 11,521 10,927
--------- ---------
LONG-TERM BANK DEBT 2,789 3,173
--------- ---------
STOCKHOLDERS' EQUITY
Common Stock 151 150
Class A common stock 35 35
Additional paid-in capital 44,044 42,573
Retained earnings 157,793 148,906
Accumulated other comprehensive income 6,387 6,022
Treasury stock (6,086) (6,086)
--------- ---------
Total stockholders' equity 202,324 191,600
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 249,311 $ 236,124
========= =========
See Notes to Condensed Consolidated Financial Statements
* Condensed Consolidated Balance Sheet at December 31, 2003 has been derived
from the audited financial statements at that date.
2
PENN ENGINEERING & MANUFACTURING CORP.
STATEMENTS OF CONDENSED CONSOLIDATED INCOME
(Dollars in thousands except per share amounts)
THREE MONTHS ENDED SIX MONTHS ENDED
-------------------------------- --------------------------------
(unaudited) (unaudited)
June 30, 2004 June 30, 2003 June 30, 2004 June 30, 2003
------------- ------------- ------------- -------------
Net Sales $ 61,709 $ 47,439 $ 125,016 $ 92,253
Cost of Products Sold 41,115 34,440 81,900 66,680
-------- -------- --------- --------
Gross Profit 20,594 12,999 43,116 25,573
Selling Expenses 6,033 5,482 12,442 10,771
General and Administrative Expenses 6,946 6,082 14,317 12,349
-------- -------- --------- --------
Operating Income 7,615 1,435 16,357 2,513
-------- -------- --------- --------
Other Income (Expense):
Interest income 12 54 62 101
Interest expense (70) (218) (167) (524)
Other, net 314 413 186 287
-------- -------- --------- --------
Total Other Income (Expense) 256 249 81 (136)
-------- -------- --------- --------
Income Before Income Taxes 7,871 1,684 16,438 2,377
Provision for Income Taxes 2,560 364 5,260 516
-------- -------- --------- --------
Net Income $ 5,311 $ 1,320 $ 11,178 $ 1,861
======== ======== ========= ========
PER SHARE DATA:
Basic earnings $ 0.30 $ 0.08 $ 0.64 $ 0.11
======== ======== ========= ========
Diluted earnings $ 0.30 $ 0.08 $ 0.63 $ 0.11
======== ======== ========= ========
Cash dividends declared $ 0.07 $ 0.06 $ 0.13 $ 0.12
======== ======== ========= ========
See Notes to Condensed Consolidated Financial Statements
3
PENN ENGINEERING & MANUFACTURING CORP.
STATEMENTS OF CONDENSED CONSOLIDATED CASH FLOWS
(Dollars in thousands)
SIX MONTHS ENDED
--------------------------------
(unaudited)
June 30, 2004 June 30, 2003
------------- -------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 11,178 $ 1,861
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 5,272 5,635
Deferred income taxes (3) 1
Foreign currency transaction gains (101) (254)
Loss on disposal of property 79 55
Changes in assets and liabilities:
Increase in receivables (9,597) (4,956)
Decrease in inventories 2,851 5,761
Decrease in refundable income taxes 2,129 591
(Increase) decrease in other current assets (641) 672
Increase in other assets (4) (477)
Increase (decrease) in accounts payable 1,916 (380)
Increase in accrued expenses 4,925 2,215
(Decrease) increase in accrued pension cost (347) 1,800
-------- --------
Net cash provided by operating activities 17,657 12,524
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Property additions (1,215) (2,144)
Acquisitions of businesses (net of cash acquired) 0 (10,442)
Proceeds from disposal of property 59 17
-------- --------
Net cash used in investing activities (1,156) (12,569)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net bank debt repayments (3,066) (12,213)
Dividends paid (2,107) (3,131)
Issuance of common stock 1,472 776
-------- --------
Net cash used in financing activities (3,701) (14,568)
-------- --------
Effect of exchange rate changes on cash 1,204 208
-------- --------
Net (decrease) increase in cash and cash equivalents 14,004 (14,405)
Cash and cash equivalents at beginning of period 8,361 20,927
-------- --------
Cash and cash equivalents at end of period $ 22,365 $ 6,522
======== ========
See Notes to Condensed Consolidated Financial Statements
4
PENN ENGINEERING & MANUFACTURING CORP.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2004
Note 1. Condensed Consolidated Financial Statements (Unaudited).
The accompanying condensed consolidated financial statements and notes
should be read in conjunction with the annual financial statements and notes
thereto included in the Company's Annual Report for the year ended December 31,
2003. The information contained in this report is unaudited and, in the opinion
of management, reflects all adjustments (which include only normal recurring
adjustments) necessary for a fair presentation of the Company's condensed
consolidated financial position at June 30, 2004 and 2003 and the condensed
consolidated statements of income and cash flows for the six-month periods then
ended. The results of operations for the three and six months ended June 30,
2004 are not necessarily indicative of the results of operations to be expected
for the year ending December 31, 2004.
Note 2. Inventories.
Substantially all of the Company's domestic fastener inventories are
priced on the last-in, first-out (LIFO) method, at the lower of cost or market.
The remainder of the inventories are priced on the first-in, first-out (FIFO)
method, at the lower of cost or market. Inventories are as follows:
(Dollars in thousands)
June 30, 2004 December 31, 2003
------------- -----------------
Raw material $ 2,749 $ 2,807
Tooling 6,171 5,540
Work-in-process 11,755 11,541
Finished goods 24,762 28,624
------- -------
TOTAL $45,437 $48,512
======= =======
If the FIFO method of inventory valuation had been used by the Company
for all inventories, inventories would have been $10,259,000 and $10,072,000
higher than reported at June 30, 2004 and December 31, 2003, respectively, and
net income would have been $127,000 and $230,000 higher than reported for the
six months ended June 30, 2004 and 2003, respectively. Long-term tooling
inventory totaling $1,290,000 at June 30, 2004 and $1,285,000 at December 31,
2003 is included in Other Assets.
Note 3. Bank Debt.
As of June 30, 2004, the Company had five unsecured
line-of-credit facilities available, all of which bear interest at interest rate
options provided in the facilities and are reviewed annually by the banks for
renewal. The facilities are as follows:
5
o a working capital facility that permits maximum borrowings of
$7,000,000, due on demand, under which no amounts were
outstanding at June 30, 2004;
o general facility that allows for borrowings of up to
$12,000,000, under which no amounts were outstanding at June
30, 2004;
o a facility that allows for borrowings of up to $15,000,000,
under which a short-term loan of $1,823,000 was outstanding at
June 30, 2004 at an interest rate of 2.74%;
o a facility that permits borrowings of up to $30,000,000, under
which a short-term loan of $3,312,000 was outstanding at June
30, 2004 at an interests rate of 1.90%; and
o a committed line-of-credit that permits borrowings of up to
$8,000,000, under which no amounts were outstanding at June
30, 2004.
These line of credit facilities require that the Company comply with
certain financial covenants. At June 30, 2004, the Company was in compliance
with all financial covenants under these faculties.
In addition to the above domestic line-of-credit facilities, the
Company's subsidiary, M.A.E. S.p.A. (MAE), has two short-term credit facilities
under which $461,000 was outstanding at June 30, 2004. MAE also has an
outstanding mortgage on its building, of which $558,000 is classified as
short-term debt and $2,789,000 is classified as long-term debt at June 30, 2004.
Note 4. Comprehensive Income.
Total comprehensive income amounted to $5,501,000 and $2,912,000 for
the three months ended June 30, 2004 and 2003, respectively, and $11,543,000 and
$4,105,000 for the six months ended June 30, 2004 and 2003, respectively.
Note 5. Accounting for Stock Options.
The Company follows Accounting Principles Board Opinion No. 25 ("APB
25"), "Accounting for Stock Issued to Employees" and related interpretations in
accounting for stock options. Under APB 25, if the exercise price of stock
options granted equals or exceeds the market price of the underlying common
stock on the date of grant, no compensation expense is recognized. Statement of
Financial Accounting Standards No. 123 ("SFAS No. 123") requires pro forma
information regarding net income and earnings per share as if the Company had
accounted for its employee stock options under the fair value method of SFAS No.
123. The fair value of each option granted was estimated on the date of grant
using the Black-Scholes option-pricing model. For purposes of pro forma
disclosures, the estimated fair value of the options is amortized to expense
over the options' vesting period. Had compensation costs for the Company's plans
6
been determined based on the fair value at the grant date for awards under these
plans consistently with the method of SFAS No. 123, the impact on the Company's
financial results would have been as follows:
THREE MONTHS ENDED SIX MONTHS ENDED
June 30 June 30
------------------------ -------------------------
2004 2003 2004 2003
--------- --------- ---------- ---------
(Dollars in thousands except per share amounts)
Net income as reported $ 5,311 $ 1,320 $ 11,178 $ 1,861
Pro forma compensation cost, net of tax (307) (216) (660) (495)
--------- --------- ---------- ---------
Pro forma net income $ 5,004 $ 1,104 $ 10,518 $ 1,366
========= ========= ========== =========
Basic earnings per share:
As reported $ 0.30 $ 0.08 $ 0.64 $ 0.11
Pro forma 0.28 0.06 0.60 0.08
Diluted earnings per share:
As reported $ 0.30 $ 0.08 $ 0.63 $ 0.11
Pro forma 0.28 0.06 0.59 0.08
Note 6. Use of Estimates.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that may affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
Note 7. Components of Net Periodic Pension Cost.
Net pension costs included the following components:
THREE MONTHS ENDED SIX MONTHS ENDED
-------------------- --------------------
June 30 June 30
------------------ --------------------
(Dollars in thousands) 2004 2003 2004 2003
------- ----- ------- -------
Service cost $ 720 $ 595 $ 1,440 $ 1,190
Interest cost 750 770 1,500 1,540
Expected return on plan assets (600) (500) (1,200) (1,000)
Net amortization and deferral 180 35 360 70
------- ----- ------- -------
Net periodic pension cost $ 1,050 $ 900 $ 2,100 $ 1,800
======= ===== ======= =======
7
Note 8. Segment Information.
(Dollars in Thousands)
THREE MONTHS ENDED THREE MONTHS ENDED
------------------------------------------ ------------------------------------------
June 30, 2004 June 30, 2003
------------------------------------------ ------------------------------------------
Fasteners Distribution Motors Fasteners Distribution Motors
--------- ------------ ------- --------- ------------ -------
Revenues from external $32,846 $16,449 $12,414 $24,868 $11,291 $11,280
customers
Intersegment revenues 9,702 422 6,533 49
Operating income 8,279 1,074 696 2,930 202 769
SIX MONTHS ENDED SIX MONTHS ENDED
------------------------------------------ ------------------------------------------
June 30, 2004 June 30, 2003
------------------------------------------ ------------------------------------------
Fasteners Distribution Motors Fasteners Distribution Motors
--------- ------------ ------- --------- ------------ -------
Revenues from external $66,454 $33,591 $24,971 $48,465 $22,557 $21,231
customers
Intersegment revenues 18,324 1,198 12,652 106
Operating income 16,961 2,802 1,419 4,422 788 1,337
A reconciliation of combined operating income for the reportable
segments to consolidated income before income taxes is as follows:
THREE MONTHS ENDED SIX MONTHS ENDED
--------------------- ---------------------
June 30 June 30
--------------------- ---------------------
(Dollars in thousands) 2004 2003 2004 2003
-------- ------- -------- -------
Total income for reportable segments $ 10,049 $ 3,901 $ 21,182 $ 6,547
Unallocated corporate expenses (2,434) (2,466) (4,825) (4,034)
Other income (expense) 256 249 81 (136)
-------- ------- -------- -------
Income before income taxes $ 7,871 $ 1,684 $ 16,438 $ 2,377
======== ======= ======== =======
8
Note 9. Earnings Per Share Data.
The following table sets forth the computation of basic and diluted
earnings per share for the periods indicated.
THREE MONTHS ENDED SIX MONTHS ENDED
------------------- -------------------
June 30 June 30
------------------- -------------------
(In thousands,
except per share data) 2004 2003 2004 2003
------- ------- ------- -------
Basic:
Net income $ 5,311 $ 1,320 $11,178 $ 1,861
Weighted average shares outstanding 17,634 17,436 17,595 17,410
------- ------- ------- -------
Basic earnings per share $ 0.30 $ 0.08 $ 0.64 $ 0.11
======= ======= ======= =======
Diluted:
Net income $ 5,311 $ 1,320 $11,178 $ 1,861
======= ======= ======= =======
Weighted average shares outstanding 17,634 17,436 17,595 17,410
Net effect of dilutive stock options
- based on treasury stock method 264 162 271 80
------- ------- ------- -------
Totals 17,898 17,598 17,866 17,490
======= ======= ======= =======
Diluted earnings per share $ 0.30 $ 0.08 $ 0.63 $ 0.11
======= ======= ======= =======
9
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
Quarter Ended June 30, 2004 vs. Quarter Ended June 30, 2003
Consolidated net sales for the quarter ended June 30, 2004 were $61.7
million, versus $47.4 million for the quarter ended June 30, 2003, a 30.2%
increase. Net sales to customers outside the United States for the quarter ended
June 30, 2004 were $25.4 million, versus $18.7 million for the quarter ended
June 30, 2003, a 35.8% increase. Net sales for the Fastening Technologies
segment for the quarter ended June 30, 2004 were $32.8 million, versus $24.9
million for the quarter ended June 30, 2003, a 31.7% increase. Net sales for the
Motion Technologies segment were $12.4 million for the quarter ended June 30,
2004, versus $11.3 million recorded for the quarter ended June 30, 2003, a 9.7%
increase. Net sales for the Distribution segment for the quarter ended June 30,
2004 were $16.5 million, versus $11.3 million for the quarter ended June 30,
2003, a 46.0% increase.
Within the Fastening Technologies segment, sales volume increased 26.0%
in both the domestic and international markets from the second quarter of 2003
compared to the second quarter of 2004, while the average selling price
increased approximately 5.3% due to a change in product mix as well as a 2.0%
price increase that went into effect January 1, 2004. Within the Motion
Technologies segment, the number of motors sold under the Pittman brand
increased approximately 14.0% in the second quarter of 2004 compared to the
second quarter of 2003, while the average selling price per motor increased
approximately 9.3%, primarily due to a price increase effective January 1, 2004.
Motor sales from MAE were $2.5 million in the second quarter of 2004 compared to
$3.0 million in the second quarter of 2003. Within the Distribution segment,
sales into Europe increased approximately 48.8%, sales into North America
increased 19.9%, while sales into Asia increased approximately 86.4% from the
second quarter of 2003 to the second quarter of 2004. This segment continues to
experience international growth as personal computer and electronics companies
shift production to other global areas to take advantage of lower assembly
costs.
Consolidated gross profit for the second quarter of 2004 was $20.6
million, versus $13.0 million for the second quarter of 2003, an increase of
58.5%. Gross profit as a percent of sales increased from 27.4% in the second
quarter of 2003 to 33.4% in the second quarter of 2004. The Company continues to
benefit from increased volume, especially in the manufacturing of fasteners
where increased plant and machinery utilization occurred without corresponding
increases in fixed costs.
Consolidated selling, general, and administrative expenses ("SG&A") for
the second quarter of 2004 were $13.0 million, versus $11.6 million for the
second quarter of 2003, a 12.1% increase. This increase was caused mainly by
increased wages and benefits, including an approximate 13.4% increase in medical
costs and a 16.7% increase in pension costs.
10
Consolidated net income for the second quarter of 2004 was $5.3
million, versus $1.3 million for the second quarter of 2003. The effective tax
rate increased from 21.6% in the second quarter of 2003 to 32.5% in the second
quarter of 2004 due to the fact that a greater proportion of income was produced
in the United States, with a higher corporate income tax rate compared to the
locations in which income was generated in the second quarter of 2003.
Six Months Ended June 30, 2004 vs. Six Months Ended June 30, 2003
Consolidated net sales for the six months ended June 30, 2004 were
$125.0 million, versus $92.3 million for the six months ended June 30, 2003, a
35.4% increase. Net sales to customers outside the United States for the six
months ended June 30, 2004 were $52.7 million, versus $35.9 million for the six
months ended June 30, 2003, an increase of 46.8%. Net sales for the Fastening
Technologies segment for the six months ended June 30, 2004 were $66.5 million,
versus $48.5 million for the six months ended June 30, 2003, a 37.1% increase.
Net sales for the Motion Technologies segment were $25.0 for the six months
ended June 30, 2004, versus $21.2 million for the six months ended June 30,
2003, a 17.9% increase. Net sales for the Distribution segment for the six
months ended June 30, 2004 were $33.6 million, versus $22.6 million for the six
months ended June 30, 2003, a 48.7% increase.
Within the Fastening Technologies segment, sales volume increased 28.9%
from the first six months of 2003 compared to the first six months of 2004,
while the average selling price increased 7.0%. This segment continues to
benefit from the improved economy, especially in the gaming, security, and
medical markets as well as the segment's traditional telecommunications and
datacommunications markets. In addition, a 2.0% price increase went into effect
on January 1, 2004 as well as an additional 2.0% surcharge in May, 2004 to cover
additional raw material cost increases. Within the Motion Technologies segment,
the number of motors sold under the Pittman brand increased approximately 17.5%
in the first six months of 2004 compared to the first six months of 2003, while
the average selling price increased approximately 7.2%. Within the Distribution
segment, the Company experienced strong international growth during the first
six months of 2004 compared to the same period in 2003 as the Asian market
increased 92.0% and the European market increased 42.8%. The domestic market
continues to strengthen also as sales increased 25.8% in North America.
Consolidated gross profit for the first six months of 2004 was $43.1
million, versus $25.6 million for the first six months of 2003, a 68.4%
increase. Increased volume led to the improvement in gross margin in all
segments as increased costs for wages and benefits were offset by productivity
improvements and better utilization of capacity.
Consolidated SG&A expenses for the first six months of 2004 were $26.8
million, or 21.4% of sales, versus $23.1 million, or 25.0% of sales, for the
first six months of 2003, an increase of 16.0%. In addition to increased wages
and employee benefits, legal and professional fees increased approximately 80%
from 2003 to 2004 due mainly to increased audit and Sarbanes-Oxley related
expenses.
11
Consolidated net income for the first six months of 2004 was $11.2
million, versus $1.9 million for the first six months of 2003. Interest expense
decreased from $524,000 in the first six months of 2003 to $167,000 in the first
six months of 2004 due to less debt outstanding. The effective tax rate
increased from 27.1% in the first six months of 2003 to 32.0% in the first six
months of 2004 due to the fact that a greater proportion of income was produced
in the United States, with a higher corporate income tax rate compared to the
locations where income was generated in the first six months of 2003.
Liquidity and Capital Resources
Cash and cash equivalents at June 30, 2004 were $22.4 million compared
to $8.4 million at December 31, 2003. Working capital totaled $85.8 million at
June 30, 2004 compared to $69.5 million at December 31, 2003.
Net cash of $17.7 million was provided by operating activities for the
six months ended June 30, 2004 compared to $12.5 million provided by operating
activities for the six months ended June 30, 2003. The Company continued to
generate cash from further reductions in overall inventory levels during the
first half of 2004. However, as sales volume increased, the level of accounts
receivable also increased, particularly in the European region where payment
terms are generally longer than domestic payment terms.
Net cash used in investing activities totaled $1.2 million for the six
months ended June 30, 2004. The Company continues to exercise caution with its
capital expenditures as it attempts to utilize current capacity during the
economic recovery.
Net cash used in financing activities totaled $3.7 million for the six
months ended June 30, 2004 compared to $14.6 million for the six months ended
June 30, 2003. Because of the decreased capital expenditures, the Company repaid
short-term debt during both years.
The Company's principal contractual obligations are the repayment of
its short-term debt (see Note 3) and the payment of operating lease commitments
covering certain automobiles, office space, and office equipment that are listed
in Note 12 to the Company's Annual Report for the year ended December 31, 2003.
The Company anticipates that its existing capital resources and cash flow
generated from future operations as well as existing short-term lines of credit
will enable it to maintain its current level of operations and its planned
growth for the foreseeable future.
Critical Accounting Policies
The Company has identified a number of its accounting polices that it
has determined to be critical. These critical accounting policies primarily
relate to financial statement assertions that are based on the estimates and
assumptions of management, and the effect of changing those estimates and
12
assumptions could have a material effect on the Company's financial statements.
The following is a summary of those critical accounting policies.
Inventories
The Company's domestic fastener inventories are priced on the last-in,
first-out (LIFO) method of accounting. Other inventories, representing
approximately 78% and 79% of total inventories at June 30, 2004 and December 31,
2003, respectively, are priced on the first-in, first-out (FIFO) method.
Reserves are recorded for obsolete, excess, and slow-moving inventories based on
management's estimates about future demand and market conditions. At June 30,
2004, the Company's inventory balance of $45,437,000 was net of a reserve for
obsolete, excess, and slow-moving inventories of approximately $3,532,000. At
December 31, 2003, the Company's inventory balance of $48,512,000 was net of a
reserve for obsolete, excess, and slow-moving inventories of approximately
$3,512,000. If the estimated reserves for obsolete, excess, and slow-moving
inventories are not sufficient based on actual future demand, additions to the
reserve may be required.
Accounts Receivable
The Company maintains an allowance for doubtful accounts for trade
receivables for which collectability is uncertain. At June 30, 2004 and December
31, 2003, this allowance was approximately $1,014,000 and $886,000,
respectively. In estimating uncollectible accounts, the Company considers
factors such as current overall economic conditions, industry-specific economic
conditions, and historical and anticipated customer performance. While the
Company believes that its procedures effectively address exposure for doubtful
accounts, changes in the economy, industry, or specific customer conditions may
require adjustments to the allowance.
Goodwill
SFAS No. 142 requires that goodwill no longer be amortized, and
instead, be tested for impairment on a periodic basis. At June 30, 2004, the
Company had $41,111,000 in goodwill. The process of evaluating the potential
impairment of goodwill is highly subjective and requires significant judgments
at many points during the analysis. In estimating the fair value of the
reporting units with recognized goodwill for the purposes of the Company's 2003
financial statements, the Company made estimates and judgments about the future
cash flows of these reporting units. The Company's cash flow forecasts were
based on assumptions that are consistent with the plans and estimates the
Company is using to manage the underlying businesses. In addition, the Company
made certain judgments about allocating shared assets to the balance sheet for
those reporting units. Based on its estimates, the Company has concluded that
there is no impairment of its goodwill as of December 31, 2003. However, changes
in these estimates could cause one or more of the reporting units to be valued
13
differently in the future. The Company will evaluate its goodwill again for
impairment as of October 1, 2004, or sooner if deemed necessary by management.
Pensions
Accounting for the Company's defined benefit plan requires that amounts
recognized in the financial statements be determined on an actuarial basis. The
most significant elements in determining the Company's pension expense are
pension liability discount rates and the expected return on plan assets. The
pension discount rate reflects the current interest rate at which pension
liabilities could be settled at the end of the year. At the end of each year,
the Company determines the discount rate to be used to discount plan
liabilities. In estimating this rate, the Company looks to rates of return on
high-quality, fixed-income investments. At December 31, 2003, the Company
determined this rate to be 6.25% and no adjustment to this rate has been made
for the six months ended June 30, 2004. Historically, the Company has assumed
that the expected long-term rate of return on plan assets will be 8.00%, and
this expected rate of return has been used for many years. Because the Company's
pension plan assets have earned substantially less than 8.00% in the last two
years, the Company reduced the expected long-term rate of return to 7.00% in
2003 and no adjustment has been made for the six months ended June 30, 2004.
Should the downward trend in return on pension assets continue, future pension
expense would likely increase. The net effect of changes in the discount rate,
as well as the effect of differences between the expected return and the actual
return on plan assets, have been deferred in accordance with SFAS No. 132 and
will ultimately affect future pension expense.
Derivative Instruments and Hedging
The Company manages risks associated with foreign exchange rates and
interest rates with derivative instruments. The Company does not use derivative
instruments for trading or speculative purposes, and only uses derivatives when
there is an underlying exposure. The evaluation of hedge effectiveness is
subject to assumptions based on the terms and the timing of the underlying
exposures. All derivative instruments are recognized in the Consolidated Balance
Sheet at fair value, which is generally based on quoted market prices.
Forward-Looking Statements
Forward-looking statements, within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934
under the Private Securities Litigation Reform Act of 1995, are made throughout
this Management's Discussion and Analysis. The Company's results may differ
materially from those in the forward-looking statements. Forward-looking
statements are based on management's current views and assumptions, and involve
risks and uncertainties that significantly affect expected results. For example,
operating results may be affected by external factors such as: changes in laws
and regulations, changes in accounting standards, fluctuations in demand in
14
markets served by the Company, particularly the computer and telecommunications
markets, fluctuations in the cost and availability of the supply chain
resources, and foreign economic conditions, including currency rate
fluctuations.
Item 3. Quantitative and Qualitative Disclosure About Market Risk.
Reference is made to Part 2, Item 7A of the Company's Form 10-K Annual
Report for the year ended December 31, 2003. There has been no material change
in the information reported in that report.
Item 4. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
As required by Rule 13a-15 under the Securities Exchange Act of 1934,
as of the end of the period covered by this report, the Company carried out an
evaluation, under the supervision and with the participation of the Company's
management, including the Chief Executive Officer and the Chief Financial
Officer, of the effectiveness of the design and operation of the Company's
disclosure controls and procedures. Based on this evaluation, the Company's
management, including the Chief Executive Officer and the Chief Financial
Officer, concluded that the Company's disclosure controls and procedures are
effective for recording, processing, summarizing, and reporting the information
the Company is required to disclose in the reports it files under the Securities
Exchange Act of 1934, within the time periods specified in the SEC's rules and
forms.
Changes in Internal Control Over Financial Reporting
There have been no significant changes in the Company's internal
controls over financial reporting (as such term is defined in Rules 13a-15 and
15d-15) during the three months and six months ended June 30, 2004 that have
materially affected, or are reasonably likely to materially affect, the
Company's internal control over financial reporting.
15
PART II OTHER INFORMATION
Item 1. Legal Proceedings.
Reference is made to Part 1, Item 3 of the Company's Form 10-K Annual
Report for the year ended December 31, 2003.
Item 2. Changes in Securities, Use of Proceeds, and Issuer Purchases of
Equity Securities.
Not applicable.
Item 3. Defaults upon Senior Securities.
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders.
The Company held its 2004 Annual Meeting of Stockholders (the "Annual
Meeting") on April 29, 2004. The matter voted upon at the Annual Meeting and the
respective results were as follows:
1. The election of three Class A Directors of the Company to hold
office until the Annual Meeting to be held in 2007 and until
their successors are duly elected.
Name of Nominee For Withheld
----------------- --------- --------
Martin Bidart 3,135,588 86,828
Maurice D. Oaks 3,211,396 11,020
Charles R. Smith 3,218,196 4,220
2. The Directors whose term of office continued after the Annual
Meeting were:
Class B Directors:
------------------
Kenneth A. Swanstrom
Mark W. Simon
John J. Sickler
Class C Directors:
------------------
Daryl L. Swanstrom
Andrew B. Williams
Item 5. Other Information.
Not applicable.
16
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
Exhibit No. Description
----------- --------------------------------------
3.1 Restated Certificate of Incorporation
(Incorporated by reference to Exhibit
3.1 of the Company's Form 10-Q
Quarterly Report for the period ended
March 31, 2001.)
3.3 By-laws, as amended (Incorporated by
reference to Exhibit 3.2 of the
Company's Form 10-K Annual Report for
the year ended December 31, 2001.)
31.1 Certification pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
31.2 Certification pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
32.1 Certification pursuant to 18 U.S.C.
Section 1350, As Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act
of 2002.
32.2 Certification pursuant to 18 U.S.C.
Section 1350, As Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act
of 2002.
(b) Reports on Form 8-K
Form 8-K filed on May 4, 2004, reporting under Item 7 the
Company's issuance of a press release regarding the Company's results for its
first quarter ended March 31, 2004.
17
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Company has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Dated: August 9, 2004 PENN ENGINEERING & MANUFACTURING CORP.
By: /s/ Kenneth A. Swanstrom
-----------------------------------
Kenneth A. Swanstrom
Chairman of the Board and
Chief Executive Officer
Dated: August 9, 2004 By: /s/ Mark W. Simon
-----------------------------------
Mark W. Simon
Senior Vice President and
Chief Financial Officer
18
PENN ENGINEERING & MANUFACTURING CORP.
EXHIBIT INDEX
Exhibit No. Description
----------- --------------------------------------
3.1 Restated Certificate of Incorporation
(Incorporated by reference to Exhibit
3.1 of the Company's Form 10-Q
Quarterly Report for the period ended
March 31, 2001.)
3.3 By-laws, as amended (Incorporated by
reference to Exhibit 3.2 of the
Company's Form 10-K Annual Report for
the year ended December 31, 2001.)
31.1 Certification pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
31.2 Certification pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
32.1 Certification pursuant to 18 U.S.C.
Section 1350, As Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act
of 2002.
32.2 Certification pursuant to 18 U.S.C.
Section 1350, As Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act
of 2002.
19