UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

For the quarterly period ended September 30, 2014

or

For the transition period from                      to                      

Commission File No. 001-32999

 

FUEL SYSTEMS SOLUTIONS, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

 

780 Third Avenue 25^th Floor New York, NY 10017

(Address of Principal Executive Offices) (Zip Code)

Registrant’s Telephone Number, Including Area Code: (646) 502-7170

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.        Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).      Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).      Yes  ¨    No  x

Number of shares outstanding of each of the issuer’s classes of common stock as of October 31, 2014:

20,105,520 shares of Common Stock, $0.001 par value per share.

 

 

 

 

 

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FUEL SYSTEMS SOLUTIONS, INC.

INDEX

 

 

 

 

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PART I—FINANCIAL INFORMATION

 

FUEL SYSTEMS SOLUTIONS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per share data)

(Unaudited)

 

 

See accompanying notes to condensed consolidated financial statements.

 

 

 

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FUEL SYSTEMS SOLUTIONS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except share and per share data)

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

See accompanying notes to condensed consolidated financial statements.

 

 

 

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FUEL SYSTEMS SOLUTIONS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS) INCOME

(In thousands); (Unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

See accompanying notes to condensed consolidated financial statements.

 

 

 

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FUEL SYSTEMS SOLUTIONS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands); (Unaudited)

 

See accompanying notes to condensed consolidated financial statements.

 

 

 

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FUEL SYSTEMS SOLUTIONS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2014

(Unaudited)

 

1. Basis of Presentation

The accompanying condensed consolidated balance sheet as of December 31, 2013 has been derived from the audited consolidated financial statements included in the Fuel Systems Solutions, Inc. (“Fuel Systems” or “the Company”) 2013 Annual Report on Form 10-K. The accompanying condensed consolidated financial statements as of and for the periods ended September 30, 2014 and 2013 are unaudited and reflect all adjustments (including normal recurring adjustments) which are, in the opinion of management, necessary for a fair statement of the financial position and operating results for the interim periods. The condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto, together with Management’s Discussion and Analysis of Financial Condition and Results of Operations, contained in Fuel Systems’ Annual Report on Form 10-K for the fiscal year ended December 31, 2013.

The Company designs, manufactures and supplies alternative fuel components and systems for use in the transportation, industrial and power generation industries on a global basis. The Company’s components and systems control the pressure and flow of gaseous alternative fuels, such as propane and natural gas used in internal combustion engines.

The Consolidated Financial Statements include the accounts of the Company and our majority-owned subsidiaries. All intercompany transactions, including intercompany profits and losses and intercompany balances, have been eliminated in consolidation. Investments in unconsolidated joint ventures or affiliates (“joint ventures”) are accounted for under the equity method of accounting, whereby the investment is initially recorded at the cost of acquisition and adjusted to recognize the Company’s share in undistributed earnings or losses since acquisition.

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires that management make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could materially differ from those estimates.

The results of operations for the three and nine months ended September 30, 2014 are not necessarily indicative of the results that may be expected for the twelve months ending December 31, 2014, or for any future period. Certain prior period amounts have been reclassified to conform to the current period presentation.

 

 

2. Recent Accounting Standards

In April 2014, the Financial Accounting Standards Board (“FASB”) issued a new accounting standard update that improves the definition of discontinued operations by limiting discontinued operations reporting to disposals of components of an entity that represent strategic shifts that have, or will have, a major effect on an entity’s operations and financial results.  The amendments in this update are effective prospectively for fiscal years, and interim periods within those years, beginning after December 15, 2014.  Early adoption is permitted.  The adoption of this standard is not expected to have a material impact on the Company’s financial statements.

In May 2014, the FASB issued a new accounting standard update providing additional guidance for revenue recognition in relation to contractual arrangements with customers.  The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for the goods or services.  The amendments in this update are effective retrospectively for fiscal years, and interim periods within those years, beginning after December 15, 2016.  Early adoption is not permitted. The Company is currently defining the approach and planning the initial review activities necessary for the transition to the new standard.

In June 2014, the FASB issued a new accounting standard update providing additional guidance on how to account for share-based payments where the terms of an award may provide that the performance target could be achieved after an employee completes the requisite service period.  The amendments require that a performance target that affects vesting and that could be achieved after the requisite period is treated as a performance condition.  The amendments in this update are effective for fiscal years, and interim periods within those years beginning after December 15, 2015, and may be applied (a) prospectively to all awards granted or modified after the effective date or (b) retrospectively to all awards with performance targets that are outstanding as of the beginning of the earliest annual period presented in the financial statements and to all new or modified awards thereafter. Earlier adoption is permitted.  The adoption of this standard is not expected to have a material impact on the Company’s financial statements.

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In August 2014, the FASB issued a new accounting standard update intended to define management’s responsibility to evaluate whether there is substantial doubt about an organization’s ability to continue as a going concern and to provide related footnote disclosures. Under Generally Accepted Accounting Principles (GAAP), financial statements are prepared under the presumption that the reporting organization will continue to operate as a going concern, except in limited circumstances. Financial reporting under this presumption is commonly referred to as the going concern basis of accounting. The going concern basis of accounting is critical to financial reporting because it establishes the fundamental basis for measuring and classifying assets and liabilities. The amendments in this update apply to all companies and not-for-profit organizations. They become effective in the annual period ending after December 15, 2016, with early application permitted. The adoption of this standard is not expected to have a material impact on the Company’s financial statements.

 

 

3. Acquisitions

Acquisition of additional equity interest in Rohan BRC

On September 13, 2013, the Company acquired an additional 44.89% equity interest in Rohan BRC Gas Equipment Private Limited (“Rohan BRC”), an Indian company that assembles, sells and services Liquefied Petroleum Gas (“LPG”) and Compressed Natural Gas (“CNG”) equipment for automotive or other use, for both Original Equipment Manufacturers (“OEM”) and retrofit markets. This acquisition was justified by business and operations opportunities. The aggregate purchase price for the acquisition of the additional ownership interest in Rohan BRC totaled approximately $1.2 million (€0.9 million), net of cash acquired of $0.1 million (€0.1 million), of which $0.8 million (€0.6 million) was paid at closing, with the remainder to be settled within two years from the acquisition date.

The Company previously owned an equity interest of 50.01% in Rohan BRC and accounted for it under the equity method due to a lack of control on its board of directors and on the majority of its operations. Consequently, the acquisition of the additional 44.89% qualified as a step-acquisition. In accordance with the step-acquisition authoritative guidance, the previously held equity interest in Rohan BRC, including inventory on consignment, was re-measured at fair value on the date of acquisition resulting in a fair value of $2.0 million (€1.5 million), and then the total consideration paid for the additional equity interest acquired was compared to its fair value on the date of acquisition. The re-measurement resulted in a loss of $2.0 million (€1.5 million), recorded in cost of revenue for the year ended December 31, 2013.

The results of operations of Rohan BRC have been included in the accompanying consolidated statements of operations from the date of acquisition within the FSS Automotive operating segment.

The Company has determined that the acquisition of the additional 44.89% equity interest in Rohan BRC was a non-material business combination.

 

4. Cash and Investments

All highly liquid investments with maturities of three months or less at the date of purchase are classified as cash equivalents. The Company’s marketable securities have been classified and accounted for as available-for-sale. Management determines the appropriate classification of its investments at the time of purchase and reevaluates the designations at each balance sheet date. The Company classifies its marketable securities as either short-term or long-term based on each instrument’s underlying contractual maturity date. Marketable securities with maturities of 12 months or less are classified as short-term and marketable securities with maturities greater than 12 months are classified as long-term. The Company’s marketable securities are carried at fair value, with the unrealized gains and losses, net of taxes, reported as a component of shareholders’ equity. The Company determines realized gains and losses on the sale of marketable securities on a specific identification method, and reflects such gains and losses as a component of interest and other income, net, in the accompanying Consolidated Statements of Operations.

The Company maintains investments in trading securities in connection with its non-qualified Deferred Compensation Plan, whereby selected key employees and directors may elect to defer a portion of their compensation each year. The Company’s investments associated with its Deferred Compensation Plan consist of mutual funds that are publicly traded and for which inputs are directly or indirectly observable in the marketplace. These trading securities are reported at fair value, with unrealized gains and losses included in earnings. In addition, the Deferred Compensation liability includes the value of deferred shares of the Company’s common stock, which is publicly traded and for which current market prices are readily available. The fair market value of the investments in the Deferred Compensation Plan is included in short-term investments starting from the second quarter of 2014 (following termination of the plan, as discussed below), with the corresponding deferred compensation obligation included in accrued expenses on the Condensed Consolidated Balance Sheets. Changes in the fair value of the benefits payable to participants and investments are both recognized as components of compensation expense. The net impact of changes in fair value was not material. The Deferred Compensation Plan was terminated during the second quarter of 2014 and the funds will be distributed within one year.

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Cash, cash equivalents, and marketable securities consist of the following (in thousands):

 

Notes:

(1): The contractual maturity date is October 10, 2014. Upon expiration the liquidity was temporarily invested in a high-yield deposit.

(2): Represents two Bank of America certificates of deposit each with an interest rate of 0.26% (no interest if withdrawn before maturity): a $2 million certificate of deposit with a maturity date of January 16, 2015, and a $3 million certificate of deposit with a maturity date of January 22, 2015.

The following table summarizes unrealized gains and losses related to the Company’s investments designated as available-for-sale (in thousands):

 

 

In the nine months ended September 30, 2013, there were realized gains of approximately $0.4 million pertaining to €5.0 million of notional amount of German Government bonds acquired above par at 100.435 in June of 2012 for $6.3 million, with a maturity date of March 14, 2014, and sold before maturity at 100.09 on February 8, 2013 for approximately $6.8 million.

Unrealized gains and losses on trading securities pertaining to the Company’s Deferred Compensation Plan included in earnings for the three and nine months ended September 30, 2014 and 2013 were less than $0.1 million in all periods.

As of September 30, 2014 and 2013, the Company did not have any investments in available for sale marketable securities that were in an unrealized loss position for a period of 12 months or greater.

At September 30, 2014 and December 31, 2013, restricted cash balance was approximately $0.4 million and $0.5 million, respectively, included in other assets.

 

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5. Fair Value Measurements

The Company applies fair value accounting for all financial assets and liabilities and non-financial assets and liabilities that are recognized or disclosed at fair value in the financial statements on a recurring basis. The Company defines fair value as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements for assets and liabilities, which are required to be recorded at fair value, the Company considers the principal or most advantageous market in which the Company would transact and the market-based risk measurements or assumptions that market participants would use in pricing the asset or liability, such as risks inherent in valuation techniques, transfer restrictions and credit risk. Fair value is estimated by applying the following hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measurement:

Level 1 - Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets.

Level 2 - Include other inputs that are directly or indirectly observable in the marketplace.

Level 3 - Unobservable inputs that are supported by little or no market activities.

The fair value hierarchy also requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.

The Company classifies its cash equivalents and securities within Level 1 or Level 2. This is because the Company values its cash equivalents, available for sale and trading securities using quoted market prices or alternative pricing sources and models utilizing market observable inputs.

 

 

 

 

6. Inventories

Inventories, consisting of raw materials and parts, work-in-process, and finished goods are stated at the lower of cost or market value. Cost is determined by the first-in, first-out, or the FIFO method, while market value is determined by replacement cost for raw materials and parts and net realizable value for work-in-process and finished goods.

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Inventories are comprised of the following (in thousands):

 

 

 

7. Equipment and Leasehold Improvements, Net

Equipment and leasehold improvements, net, consist of the following (in thousands):

 

Depreciation expense related to equipment and leasehold improvements was approximately $2.7 million and $2.7 million for the three months ended September 30, 2014 and 2013, respectively. Depreciation expense related to equipment and leasehold improvements was $8.2 million and $8.1 million for the nine months ended September 30, 2014 and 2013, respectively.

 

8. Goodwill and Intangibles

The changes in the carrying amount of goodwill by business segment for the nine months ended September 30, 2014 are as follows (in thousands):

 

Note (1): see Note 14 Impairments

At September 30, 2014 and December 31, 2013, intangible assets consisted of the following (in thousands):

 

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Amortization expense related to existing technology and customer relationships of $0.4 million and $0.6 million for the three months ended September 30, 2014 and 2013, respectively, and of $1.4 million and $1.7 million for the nine months ended September 30, 2014 and 2013, respectively, is reported as a component of cost of revenue. Amortization expense related to trade name and non-compete agreements of $0.1 million and $0.1 million for three months ended September 30, 2014 and 2013, respectively, and of $0.4 million and $0.5 million for the nine months ended September 30, 2014 and 2013, respectively, is reported as a component of operating expenses.

Amortization expense for the remaining lives of the intangible assets is estimated to be as follows (in thousands):

 

 

 

9. Warranties

Estimated future warranty obligations related to certain products are provided by charges to operations in the period in which the related revenue is recognized. Estimates are based, in part, on historical experience.

Changes in the Company’s product warranty liability, included within Accrued expenses on the Condensed Consolidated Balance Sheets, during the three and nine months ended September 30, 2014 and 2013 are as follows (in thousands):

 

 

 

10. Income Taxes

The Company’s effective tax rate for the three months ended September 30, 2014 was (209.5)% compared to an effective tax rate of 46.8% for the three months ended September 30, 2013. The Company’s effective tax rate for the nine months ended September 30, 2014 was 0.8% compared to an effective tax rate of 56.8% for the nine months ended September 30, 2013.

The Company operates in an international environment with significant operations in various locations outside of the United States, which have statutory tax rates that are different from the United States tax rate. Accordingly, the consolidated income tax rate is a composite rate reflecting the earnings in the various locations and the applicable rates. The change in the effective tax rate is primarily a result of the fluctuation of earnings in the various jurisdictions and losses incurred in the United States and certain foreign jurisdictions (“loss jurisdictions”) for which no tax benefit has been recorded. For the three months ended September 30, 2014 and 2013 the Company incurred a pre-tax loss of approximately $4.1 million and $0.9 million, respectively, in the loss jurisdictions. For the nine months ended September 30, 2014 and 2013, the Company incurred a pre-tax loss of approximately $7.2 million and $5.0 million, respectively, in the loss jurisdictions. The Company continues to believe that the likelihood of recoverability of the net deferred tax assets in the loss jurisdictions is less than the “more likely than not” threshold, therefore, a valuation allowance is maintained on the entire domestic and certain foreign jurisdictions deferred tax assets.

As of September 30, 2014, the Company had approximately $13.0 million of unrecognized tax benefits. There was no significant change in unrecognized tax benefits for the three and nine months ended September 30, 2014. Although it is reasonably possible that our unrecognized tax benefits will change over the next 12 months, the Company does not anticipate such changes to have a significant impact on our income tax expense due to the valuation allowance position maintained in certain jurisdictions.

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11. Debt Payable

The Company’s outstanding debt is summarized as follows (in thousands):

 

At September 30, 2014, the Company’s weighted average interest rate on outstanding debt was 0.9%. The Company is party to numerous credit agreements and other borrowings. All foreign denominated revolving lines of credit have been converted using the average interbank currency rate at September 30, 2014. The fair value of the debt obligations approximated the recorded value as of September 30, 2014 and December 31, 2013 and represents a level 3 measurement within the fair value hierarchy (see Note 5).

(a) Revolving Lines of Credit – Italy and Argentina

The Company maintains various revolving lines of credit in Italy and Argentina. The revolving lines of credit in Italy include $6.4 million which is unsecured and $3.7 million which is collateralized by accounts receivable. The interest rates on these revolving lines of credit are fixed and variable and range from 1.1% to 4.1% as of September 30, 2014. At September 30, 2014 and December 31, 2013, there were no balances outstanding.

The revolving lines of credit in Argentina consist of two lines for a total amount of availability of approximately $1.9 million. These lines are unsecured with no balance outstanding at September 30, 2014 and December 31, 2013. At September 30, 2014, the interest rates for the lines of credit in Argentina ranged from 4.5% to 30.0%.

All lines are callable on demand.

(b) Revolving Line of Credit – USA

As of September 30, 2014, the Company and IMPCO Technologies, Inc. (“IMPCO”) maintain an unsecured, revolving short term credit facility with Intesa SanPaolo S.p.A. (“Intesa”) amounting to $20.0 million. IMPCO intends to use the borrowings for its general corporate purposes and Fuel Systems guarantees IMPCO’s payments. At September 30, 2014 and December 31, 2013, there were no balances outstanding. The maximum aggregate principal amount of loans available at any time was originally $13.0 million with a maturity date of April 30, 2014, which was subsequently renewed to April 30, 2015 with a new aggregate principal amount of loans available at any time increased to $20.0 million. At the Company’s option, the loans will bear interest on either the applicable LIBOR rate plus 2.0%, the bank’s prime rate plus 1.0% or the bank’s cost of funds rate plus 2.0%. The bank’s prime rate is a floating interest rate that may change as often as once a day. If any amounts under a loan remain outstanding after the loan’s maturity date, such amounts will bear interest at the bank’s prime rate plus 2.0%. In addition, this revolving credit facility carries a commitment fee of 0.5% of the average daily unused amount. The line of credit contains quarterly covenants, which require the Company to maintain (1) a ratio of Net Debt/EBITDA for the then most recently concluded period of four consecutive fiscal quarters of the Company to be less than 2, (2) a consolidated net worth of at least $135.0 million, and (3) the Company shall not, and shall not permit any of its subsidiaries to create, incur, assume or permit to exist any Debt other than (i) debt of any such subsidiary owing to any other subsidiary or to the Company or (ii) debt for borrowed money in a total aggregate principal amount, the U.S. Dollar equivalent of which does not exceed $75.0 million. At September 30, 2014, the Company was in compliance with these covenants.

(c) Other indebtedness

Other indebtedness includes capital leases and various term loans and lines of credits involving the Company’s foreign subsidiaries. These term loans and lines of credit are used primarily to fund the operations of these subsidiaries and bear interest ranging from 0.50% to 6.95%.

 

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12. Changes and Reclassifications in Accumulated Other Comprehensive Loss by Component

 

 

 

 

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(b) Reclassifications out of Accumulated Other Comprehensive Loss

 

For the three months ended September 30, 2014 and 2013, there were no reclassifications out of Accumulated Other Comprehensive Loss.

Reclassifications for the nine month periods ended September 30, 2014 and 2013 were as follows:

 

 

 

13. Stock-Based Compensation

The Company has two stock option plans that provide for the issuance of options to key employees and directors of the Company at the fair market value at the time of grant. Options previously granted under these plans generally vest in four or five years and are generally exercisable while the individual is an employee or a director, or ordinarily within one month following termination of employment. In no event may options be exercised more than ten years after date of grant. Under the Company’s 2009 Restricted Stock Bonus Plan, the Company’s Board of Directors may grant restricted stock to officers, employees and non-employee directors.

Stock-based compensation expense for the three and nine months ended September 30, 2014 and 2013 was allocated as follows (in thousands):

 

Excess tax benefits are realized tax benefits from tax deductions for exercised options in excess of the deferred tax asset attributable to stock compensation costs for such options. The Company has not recorded any excess tax benefits as a result of the net operating loss carry-forward position for United States income tax purposes.

Stock-Based Compensation Activity – Stock Options

Shares of common stock issued upon exercise of stock options are from previously unissued shares. The following table displays stock option activity including the weighted average stock option prices for the nine months ended September 30, 2014:

 

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The aggregate intrinsic value as of a particular date is calculated as the difference between the exercise price of the underlying awards and the quoted price of the Company’s common stock for the options that were in-the-money at each respective period.

During the three months ended September 30, 2014 and 2013, the aggregate intrinsic value of options exercised under the Company’s stock option plans was $0.0 million and $0.1 million, respectively, determined as of the date of option exercise. During the nine months ended September 30, 2014 and 2013, the aggregate intrinsic value of options exercised under the Company’s stock option plans was $0.0 million and $0.2 million, respectively, determined as of the date of option exercise.

As of September 30, 2014, total unrecognized stock-based compensation cost related to unvested stock options was $0.8 million, expected to be recognized over a weighted-average period of 3.63 years. As of September 30, 2013, total unrecognized stock-based compensation cost related to unvested stock options was $0.8 million, expected to be recognized over a weighted-average period of 3.9 years.

Stock-Based Compensation Activity – Restricted Stock

A summary of unvested restricted stock awards as of September 30, 2014 and changes during the nine month period then ended are presented below.

 

As of September 30, 2014, total unrecognized stock-based compensation cost related to unvested restricted stock was $0.2 million, which is expected to be recognized over a weighted-average period of approximately 0.9 year. As of September 30, 2013, total unrecognized stock-based compensation cost related to unvested restricted stock was $0.1 million, which is expected to be recognized over a weighted-average period of approximately 0.8 year.  

 

 

14. Impairments

In accordance with Accounting Standard Codification (“ASC”) Topic 350, “Intangibles – Goodwill and Other”, the Company performs its annual impairment test during the fourth quarter, after the annual budgeting process is completed. Furthermore, goodwill is reviewed for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Each interim period, management assesses whether or not an indicator of impairment is present that would necessitate that a goodwill impairment analysis be performed in an interim period other than during the fourth quarter.

During the second quarter of 2014, the Company determined that sufficient indicators of potential impairment existed to require an interim goodwill impairment analysis. These indicators included the recent trading values of the Company’s stock, and corresponding decline in the Company’s market capitalization, coupled with market conditions and business trends within the Company’s various reporting units. As a result, the Company examined the Italian reporting units of its FSS Automotive segment, as well as the Canadian and Netherlands reporting units of its FSS Industrial segment.

Due to the complexity and the effort required to estimate the fair value of the reporting units in the step one of the impairment test and to estimate the fair values of all assets and liabilities of the reporting units in the second step of the test, the fair value estimates were derived based on preliminary assumptions and analyses that are subject to change. Based on the Company’s preliminary analyses, the implied fair value of goodwill was substantially lower than the carrying value of goodwill for the two reporting units within the FSS Automotive segment, as well as for the two reporting units within the FSS Industrial segment.

As a result, during the second quarter of 2014, the Company recognized, based on its best estimate, impairment charges of $33.1 million and $2.6 million, respectively, in relation with its two reporting units located in Italy within its FSS Automotive segment, and impairment charges of $3.1 million and $1.1 million, respectively, in relation with its two reporting units located in Canada and in the Netherlands within its FSS Industrial segment. During the three months ended September 30, 2014, the impairment analysis was finalized and no changes were identified. These impairment charges are included as a separate component of operating income on the condensed consolidated statement of operations for the nine months ended September 30, 2014.

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In addition, in accordance with ASC Topic 360, “Impairment and Disposal of Long-Lived Asset”, the Company concluded a triggering event occurred, requiring the assessment of impairment for certain of its long-lived assets. Upon completion of the assessment, the Company concluded that long-lived assets were impaired and recorded a $4.4 million impairment charge associated with intangible assets and equipment and leasehold improvements within its FSS Automotive segment.

These impairments were measured, depending on the asset, either under an income approach utilizing forecasted discounted cash flows or a market approach utilizing an appraisal to determine fair values of the impairment assets. The inputs and assumptions utilized in the analyses are classified as Level 3 inputs within the fair value hierarchy as defined by ASC 820.

As a result, as of September 30, 2014, the Company had $7.4 million of goodwill on its Consolidated Balance Sheet.

During the fourth quarter of 2014, the Company will perform its annual goodwill impairment review for all of its remaining reporting units as of October 1, 2014.

The following table summarizes the impairment charges for each reporting unit by asset category (in thousand):

 

In connection with these impairment charges, the Company recognized a tax benefit of approximately $1.1 million for the nine months ended September 30, 2014.

 

15. Earnings Per Share

The following table sets forth the computation of unaudited basic and diluted earnings per share (in thousands, except share and per share data):

 

The following table represents the numbers of anti-dilutive instruments excluded from the computation of diluted earnings per share:

 

 

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16. Related Party Transactions

The following table sets forth amounts (in thousands) that are included within the captions noted on the Condensed Consolidated Balance Sheets at September 30, 2014 and December 31, 2013 representing related party transactions with the Company:

 

 

 

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The following table sets forth amounts (services and goods) purchased from and sold to related parties (in thousands).

 

 

Other Transactions with Related Parties

The Company leases buildings under separate facility agreements from IMCOS Due S.r.L., a real estate investment company owned 100% by Messrs. Mariano Costamagna, Pier Antonio Costamagna and members of their immediate families. The terms of these leases reflect the fair market value of such properties based upon appraisals. These lease agreements begin to expire in 2015, with the last agreement ending in 2020. The Company paid IMCOS Due S.r.L. lease payments of $2.0 million and $1.6 million for the nine months ended September 30, 2014 and 2013, respectively. In April 2014, IMCOS Due S.r.L. purchased two properties from a third party, which are currently being leased by the Company. The Company leases a building from Immobiliare 4 Marzo S.a.s., a real estate investment company owned 40% by Messrs. Mariano Costamagna, Pier Antonio Costamagna and one employee of the Company. The Company paid Immobiliare 4 Marzo S.a.s. lease payments of $0.3 million and $0.3 million for the nine months ended September 30, 2014 and 2013, respectively. The terms of these leases reflect the fair market value of such properties based upon appraisals.

The Company entered into an agreement with PDVSA to develop the basic and detailed engineering, and outfit the facility for the installation of an integrated production plant for natural gas vehicles for SICODA in Venezuela. The Company accounts for this project under the completed contract method. As of September 30, 2014, the total amount of cost (included in other current assets) and revenue (included in accrued expenses) deferred under this project totals approximately $6.6 million and $5.2 million, respectively. As of December 31, 2013, the total amount of cost (included in other current assets) and revenue (included in accrued expenses) deferred under this project totals approximately $5.6 million and $5.5 million, respectively. At September 30, 2014 and December 31, 2013, an advance payment from PDVSA of $1.0 million and $1.0 million, respectively, is included in accrued expenses.

 

17. Commitments and Contingencies

Contingencies

From time to time, the Company may be involved in litigation relating to claims arising out of the ordinary course of its business including, but not limited to, product liability, asbestos related liability, employment matters, patent and trademarks, and customer account collections. The Company is not a party to, and, to our knowledge, there are not threats of any claims or actions against us, the ultimate disposition of which would have a material adverse effect on our consolidated results of operations or liquidity.

The Company is currently party to claims for wages brought by former DOEM temporary employees. At December 31, 2011, the Company had accrued $2.4 million (€1.8 million) in relation to such claims. During 2012, the Company settled claims for an amount equal to approximately $1.5 million (€1.1 million), while reversing excess accruals for approximately $0.9 million (€0.7 million). During the fourth quarter of 2013, the Company accrued approximately $0.4 million (€0.3 million) for additional claims. During the nine months ended September 30, 2014 the Company settled claims for approximately $0.4 million (€0.3 million) and accrued approximately $0.2 million (€0.2 million) for additional claims. As of September 30, 2014 the Company has approximately $0.2 million (€0.1 million) accrued for additional claims.

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Due to changes in the economic environment, and ensuing updated business strategies, during the nine months ended September 30, 2014, the Company went through a rationalization of its operations. The Company incurred costs associated with work force reduction, as well as closing of a facility. For the three and nine months ended September 30, 2014, the Company has incurred and paid approximately the following amounts in relation with the above-mentioned rationalization of operations, recorded within selling, general, and administrative expenses on the Company’s Condensed Statement of Operations (amounts in thousands):

 

    ___________

 

 

18. Business Segment Information

Business Segments. FSS Industrial consists of the Company’s industrial mobile and stationary equipment and auxiliary power unit (APU), and the Company’s heavy duty commercial transportation operations. FSS Automotive consists of the Company’s passenger and light duty commercial transportation (automotive OEM and aftermarket) and transportation infrastructure operations (compressors).

Corporate expenses consist of general and administrative expenses at the Fuel Systems corporate level. Intercompany sales between FSS Industrial and FSS Automotive have been eliminated in the results reported.

The Company evaluates performance based on profit or loss from operations before interest and income taxes. The accounting policies of the reportable segments are the same as those described in the Summary of Significant Accounting Policies contained in the Fuel Systems’ Annual Report on Form 10-K for the fiscal year ended December 31, 2013.

Financial Information by Business Segments. Financial information by business segment follows (in thousands):

 

 

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19. Concentrations

Revenue

The Company routinely sells products to a broad base of domestic and international customers, which includes distributors and original equipment manufacturers. Based on the nature of these customers, credit is generally granted without collateral being required.

For the three and nine months ended September 30, 2014 and 2013, no customers represented more than 10.0% of consolidated sales.

Accounts Receivable

At September 30, 2014, no customer represented more than 10.0% of consolidated accounts receivable. At December 31, 2013, no customers represented more than 10.0% of consolidated accounts receivable.

 

20. Subsequent Events

 

On November 3, 2014, the Company’s Board of Directors approved a share repurchase program for up to $25.0 million of the Company’s common stock. The program is expected to continue for up to one year. Purchases under the repurchase program may be made from time to time in open-market transactions, block transactions on or off an exchange, or in privately negotiated transactions. The Company expects shares to be repurchased at prevailing market prices based on management’s evaluation of market conditions and other factors.  

 

 

 

 

 

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In this report, references to “Fuel Systems” or the “Company” and to first-person pronouns, such as “we”, “our” and “us”, refer to Fuel Systems Solutions, Inc. and its consolidated subsidiaries, unless the context otherwise requires.

This discussion and analysis should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations set forth in Fuel Systems’ Annual Report on Form 10-K for the year ended December 31, 2013.

The Company’s business is subject to seasonal influences. Therefore, operating results for any quarter are not indicative of the results that may be achieved for any subsequent quarter or for a full year.

Forward-looking Statements

This Quarterly Report on Form 10-Q, both in the Management’s Discussion and Analysis of Financial Condition and Results of Operations that follows and elsewhere, contains certain forward-looking statements within the meaning of the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995. These statements may be found throughout this Form 10-Q. These statements are not historical facts, but instead involve known and unknown risks, uncertainties and other factors that may cause our or our company’s actual results, levels of activity, performance or achievements to be materially different from the information expressed or implied by these forward looking statements. Statements in this Form 10-Q that are not historical facts are hereby identified as “forward-looking statements” for the purpose of the safe harbor provided by Section 21E of the Securities Exchange Act of 1934, as amended, and Section 27A of the Securities Act of 1933, as amended. Words such as: “may,” “will,” “would,” “should,” “could,” “expect,” “anticipate,” “intend,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “potential,” “continue,” “seeks,” “on-going” or the negative of these terms or other comparable terminology often identify forward-looking statements, although not all forward-looking statements contain these words. You should consider statements that contain these words carefully because they describe our expectations, plans, strategies and goals and beliefs concerning future business conditions, our results of operations, financial position and our business outlook, or state other “forward-looking” information based on currently available information. There are a number of important factors that could cause actual results to differ materially from the results anticipated by these forward-looking statements. These risks and uncertainties and certain other factors which may impact our continuing business financial condition or results of operations, or which may cause actual results to differ from such forward-looking statements, include, but are not limited to, the unpredictable nature of the developing alternative fuel U.S. automotive market, customer dissatisfaction with our products or services, the inability to deliver our products on schedule, a further slowing of economic activity, our ability to maintain customer program relationships, potential changes in tax policies and government incentives and their effect on the economic benefits of our products to consumers, the continued weakness in financial and credit markets, the growth of non-gaseous alternative fuel products and other new technologies, the price differential between alternative gaseous fuels and gasoline, and the repeal or implementation of government regulations relating to reducing vehicle emissions, economic uncertainties caused by political instability in certain of the markets we do business in, the impact of the Argentinean debt crisis on our business, our ability to realign costs with current market conditions, as well as the risks and uncertainties included in our Annual Report on Form 10-K for the year ended December 31, 2013 and our other periodic reports filed with the SEC. These forward-looking statements are not guarantees of future performance. We cannot assure you that the forward-looking statements in this Form 10-Q will prove to be accurate. Furthermore, if our forward-looking statements prove to be inaccurate, the inaccuracy may be material. In light of the significant uncertainties in these forward-looking statements, you should not place undue reliance on these forward looking statements. The forward-looking statements made in this Form 10-Q relate to events and state our beliefs, intent and our view of future events only as of the date of the filing of this Form 10-Q. We undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date on which the statement is made or to reflect the occurrence of unanticipated events.

Overview

We design, manufacture and supply alternative fuel components and systems for use in the transportation and industrial markets on a global basis. Our components and systems control the pressure and flow of gaseous alternative fuels, such as propane and natural gas used in internal combustion engines. Our products improve efficiency, enhance power output and reduce emissions by electronically sensing and regulating the proper proportion of fuel and air required by the internal combustion engine. We also provide engineering and systems integration services to address our individual customer requirements for product performance, durability and physical configuration. For over 50 years, we have developed alternative fuel products. We supply our products and systems to the market place through a global distribution network of distributors and dealers in more than 60 countries and numerous original equipment manufacturers, or OEMs.

We offer an array of components, systems and fully integrated solutions for our customers, including:

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Manufacturers of industrial mobile equipment and stationary engines are among the most active customers for our industrial products. Users of small and large industrial engines capitalize on the lower cost and pollutant benefits of using alternative fuels. For example, forklift and other industrial equipment users often use our products to operate equipment indoors resulting in lower toxic emissions. The wide availability of gaseous fuels in world markets combined with their lower emissions and cost compared to gasoline and diesel fuels is driving growth in the global alternative fuel industry. Automobile manufacturers, taxi companies, transit and shuttle bus companies, and delivery fleets are among the most active customers for our transportation products where our largest markets are currently outside the United States.

Our U.S. automotive business has the capabilities necessary to be a leader in this market. We believe Fuel Systems is positioned to compete in the dedicated and dual-fuel natural gas vehicle (NGV) OEM market emerging in the United States. We maintain certain key technology and industry relationships to further our North American OEM and fleet market strategy. Our vehicle modification and systems integration capabilities for a variety of alternative fuel applications, CNG, propane and dual-fuel diesel present us with a unique advantage in the market. While we have limited visibility with respect to the evolving US automotive market, we continue to believe fleet vehicles may offer attractive opportunities for our gaseous fuel solutions in the U.S. We now have a full suite of automotive capabilities in this market, including a CARB certified, dedicated systems product line and in-house OEM systems engineering platform, enhancing our ability to leverage our existing relationships with fleet customers and other manufacturers as they roll out CNG and LPG versions of key fleet vehicles.

For the three months ended September 30, 2014 revenue decreased approximately $12.5 million, or 12.8%, operating income became an operating loss of $1.4 million, and diluted earnings per share (“EPS”) decreased by $0.21 compared to the prior year’s period. These results were driven primarily by decreases in automotive OEM and DOEM sales across many geographic areas, as well as decreases in sales of most of our industrial products. Lower sales at our FSS Automotive segment were primarily attributable to the conclusion of certain OEM/DOEM programs that were not renewed because of the automakers’ decisions, partly influenced by economic conditions and partly by increased competitive pressure, to either in-source systems or source from other suppliers. Lower sales at our FSS Industrial segment were primarily affected by increased competition, which resulted in the loss of a large customer. These decreases were partially offset by increased sales of compressors and of auxiliary power units, both with lower margins, as well as increased aftermarket sales in Argentina and India. The aforementioned change in the product/geographic mix and the ensuing lower revenue negatively impacted our operating income, which in the three months ended September 30, 2014 was also further impacted by work force reduction expenses of approximately $2.4 million incurred in connection with rationalization of activities at both our divisions.

For the nine months ended September 30, 2014 revenue decreased approximately $53.5 million, or 17.4%, operating income became an operating loss of $51.6 million, including impairment charges of $44.3 million, and diluted EPS decreased by $2.60 compared to the prior year’s period. These results were driven primarily by decreases in automotive OEM, DOEM and aftermarket sales across many geographic areas, as well as decreases in sales of most of our industrial products. Lower sales at our FSS Automotive segment were primarily attributable to the conclusion of certain OEM/DOEM programs that were not renewed because of the automakers’ decisions, partly influenced by economic conditions and partly by increased competitive pressure, to either in-source systems or source from other suppliers. Furthermore, the aftermarket business in key areas such as Europe, and particularly Italy, is experiencing year-over-year considerable contraction. Lower sales at our FSS Industrial segment were primarily affected by increased competition, which resulted in the loss of a large customer. These decreases were partially offset by increased sales of compressors and by sales of auxiliary power units, both with lower margins. The aforementioned change in the product/geographic mix and the ensuing lower revenue negatively impacted our operating income, which in the nine months ended September 30, 2014 was also further impacted by work force reduction and facility closing expenses of approximately $4.1 million incurred in connection with rationalization of activities at both our divisions. Additionally, in the nine months ended September 30, 2014, we recognized impairment charges of approximately $44.3 million, associated with goodwill and long-lived assets, for a total consolidated EPS impact of approximately $2.15 per share, net of a tax benefit of approximately $1.1 million recognized in connection with these impairment charges.

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Due to the decrease in revenue compared to the prior year, as well as the expected near-term pressure on revenue, we are analyzing further ways to reduce costs.

Net cash provided by operations was $12.0 million and $9.5 million for the three and nine months ended September 30, 2014, respectively. Our net cash position of $90.1 million, including marketable securities and debt (excluding Deferred Compensation Plan assets), provides us with the adequate capital for working capital and general corporate purposes, which may include expansion of our business, and financing of future acquisitions of companies or assets.

Critical Accounting Policies and Estimates

The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these consolidated financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to bad debts, goodwill, taxes, inventories, warranty obligations, and contingencies and litigation. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ materially from these estimates under different assumptions or conditions. We believe that we have considered relevant circumstances that we may be currently subject to and the financial statements accurately reflect our estimate of the results of our operations, financial condition and cash flows for the periods presented. Our accounting for acquisitions involves significant judgments and estimates, including the fair value of certain forms of consideration, the fair value of acquired intangible assets, which involve projections of future revenue and cash flows, the fair value of other acquired assets and assumed liabilities, including potential contingencies, and the useful lives and, as applicable, the reporting unit, of the assets. Our financial position or results of operations may be materially impacted by changes in our initial assumptions and estimates relating to prior or future acquisitions. Our critical accounting policies are described in Management’s Discussion and Analysis of Financial Condition included in our Annual Report on Form 10-K for the year ended December 31, 2013. There have been no material changes, subsequent to December 31, 2013, to information previously disclosed in our Annual Report on Form 10-K with respect to our critical accounting policies, except for the following:

Goodwill—Impairment Assessments

Goodwill is not subject to amortization and is tested for impairment annually and whenever events or changes in circumstances indicate that impairment may have occurred. We perform our annual impairment test during the fourth quarter, after the annual forecasting process is completed. Furthermore, goodwill is reviewed for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Each interim period, management assesses whether or not an indicator of impairment is present that would necessitate that a goodwill impairment analysis be performed in an interim period other than during the fourth quarter.

During the second quarter of 2014, we determined that sufficient indicators of potential impairment existed to require an interim goodwill impairment analysis. These indicators included the recent trading values of our stock, and corresponding decline in our market capitalization, coupled with market conditions and business trends within our various reporting units. As a result, we examined the Italian reporting units of our FSS Automotive segment, as well as the Canadian and Netherlands reporting units of our FSS Industrial segment.

Management reviews goodwill for impairment at the reporting unit level. Our reporting units are identified in accordance with Accounting Standard Codification (“ASC”) Topic 350, “Intangibles—Goodwill and Other”. As of the current annual impairment date we had six reporting units.

The goodwill impairment analysis is a three-step process, with an optional (under certain circumstances) qualitative analysis, known as “step 0”, based on relevant event and circumstances that may be performed ahead of such two steps to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If step 0 passes, the two-steps impairment process is not required. If step 0 fails, the two-steps process analysis is required. Step one compares the carrying amount of the reporting unit to its estimated fair value. To the extent that the carrying value of the reporting unit exceeds its estimated fair value, step two is performed, where the reporting unit’s carrying value of goodwill is compared to the implied fair value of goodwill. To the extent that the carrying value of goodwill exceeds the implied fair value of goodwill, impairment exists and must be recognized.

We prepare our goodwill impairment analysis by comparing the estimated fair value of each reporting unit, determined using an income approach, with its carrying value. The carrying value of a reporting unit is based on the assets and liabilities associated with the operations of that reporting unit, which often requires allocation of shared or corporate items among reporting units.

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The income approach requires several assumptions including future sales growth, EBIT (earnings before interest and taxes) margins, and capital expenditures. These assumptions are the basis for the information used in the discounted cash flow model. The discounted cash flow model also requires the use of a discount rate and a terminal revenue growth rate (the revenue growth rate for the period beyond the five years forecasted by the reporting units), as well as projections of future gross and operating margins (for the period beyond the forecasted five years).  During the second quarter of 2014, in relation with the above-mentioned reporting units, management used discount rates ranging from 13.75% to 19.25% and terminal growth rates of 3% (the differences in discount rates reflect considerations about differences in the underlying businesses, as well as local economic conditions/environments). The discount rates used for the above-mentioned reporting units increased significantly from the fourth quarter of 2013 analysis due to the decrease in our market capitalization. The inputs utilized in the analyses are classified as Level 3 inputs within the fair value hierarchy as defined in ASC 820 “Fair Value Measurements and Disclosures.”

Due to the complexity and the effort required to estimate the fair value of the reporting units in the step one of the impairment test and to estimate the fair values of all assets and liabilities of the reporting units in the second step of the test, the fair value estimates were derived based on preliminary assumptions and analyses that are subject to change. Based on our preliminary analyses, the implied fair value of goodwill was substantially lower than the carrying value of goodwill for the two reporting units within our FSS Automotive segment, as well as for the two reporting units within our FSS Industrial segment.

As a result, during the second quarter of 2014, we recognized, based on our best estimate, impairment charges of approximately $33.1 million and $2.6 million, respectively, in relation with our two reporting units located in Italy within our FSS Automotive segment, and impairment charges of $3.1 million and $1.1 million, respectively, in relation with our two reporting units located in Canada and in the Netherlands within our FSS Industrial segment.  During the three months ended September 30, 2014,  the impairment analysis was finalized and no changes were identified. These impairment charges are included as a separate component of operating income in the condensed consolidated statement of operations for the nine months ended September 30, 2014.

As a result, as of September 30, 2014, we had $7.4 million of goodwill on our Consolidated Balance Sheet (See Note 14—Impairments in this Form 10-Q for the three months ended September 30, 2014).

During the fourth quarter of 2014, we will perform our annual goodwill impairment review for all of our remaining reporting units as of October 1, 2014. If there are any changes in our stock price, or significant changes in the business climate or operating results of our reporting units, we may incur additional goodwill impairment charges.

Long-lived assets—Impairment Assessments

In accordance with ASC Topic 360, “Impairment and Disposal of Long-Lived Asset”, we make judgments about the recoverability of purchased finite lived intangible assets and equipment and leasehold improvements whenever events or changes in circumstances indicate that impairment may exist. We consider several indicators of impairment, among which: a significant decrease in the market price of a long-lived asset (asset group); a significant adverse change in the extent or manner in which a long-lived asset (asset group) is being used or in its physical condition; a significant adverse change in legal factors or in the business climate that could affect the value of a long-lived asset (asset group), including an adverse action or assessment by a regulator; an accumulation of costs significantly in excess of the amount originally expected for the acquisition or construction of a long-lived asset (asset group); a current-period operating or cash flow loss combined with a history of operating or cash flow losses or a projection or forecast that demonstrates continuing losses associated with the use of a long-lived asset (asset group); a current expectation that, more likely than not, a long-lived asset (asset group) will be sold or otherwise disposed of significantly before the end of its previously estimated useful life.

Each period we evaluate the estimated remaining useful lives of purchased intangible assets and whether events or changes in circumstances warrant a revision to the remaining periods of amortization. Recoverability of long-lived assets is measured by comparison of the carrying amount of the asset to the future undiscounted cash flows the asset is expected to generate. Undiscounted cash flows are estimated through several assumptions including future sales growth, EBIT, margins, and capital expenditures.

Assumptions and estimates about future values and remaining useful lives of our intangible and other long-lived assets are complex and subjective. They can be affected by a variety of factors, including external factors such as industry and economic trends, and internal factors such as changes in our business strategy and our internal forecasts.

In the second quarter of 2014, we found an indicator of possible impairment of long-lived assets in the operating and cash flow trends, both current and forecasted, which were evidenced by the goodwill impairment analysis in four of our reporting units, two in Italy, within the FSS Automotive segments, and one in Canada, and one in the Netherlands within the FSS Industrial segment. In addition to these units, we examined the US Automotive operations due to continuing negative cash flows from the business. In its analysis, management determined that the lowest level asset group, for which identifiable cash flows are largely independent of the cash flows of other groups of assets and liabilities, is represented by the respective reporting unit for one of its Italian reporting units and for its US, Canadian, and Netherlands reporting unit, whereas for the other Italian reporting unit, the lowest level identifiable asset groups are two, in connection with the core business and compressor business, respectively. Our recoverability test included some of the same assumptions used in the goodwill impairment tests, with additional considerations to determine future cash flows that are directly associated with, and that are expected to arise as a direct result of the use and eventual disposition of the asset group. Considerations on terminal value,

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adjusted to exclude growth beyond the existing service potential of the asset group, were also factored in under both a growth model and a multiple of earnings scenario. The inputs utilized in the analyses are classified as Level 3 inputs within the fair value hierarchy as defined in ASC 820 “Fair Value Measurements and Disclosures”. As a result of the long-lived assets impairment analysis, we recognized impairment charges of approximately $2.7 million and $1.7 million against the carrying values of equipment and leasehold improvements and intangible assets, respectively, at our Italian compressor business asset group and our US Automotive reporting unit within our FSS Automotive segment.  These impairment charges are included as a separate component of operating income in the condensed consolidated statement of operations for the nine months ended September 30, 2014.

As a result, as of September 30, 2014, we had approximately $53.4 million and $7.7 million of equipment and leasehold improvements and intangible assets, respectively, on our Consolidated Balance Sheet (See Note 14—Impairments in this Form 10-Q for the three months ended September 30, 2014).  

Although we believe the historical assumptions and estimates we have made are reasonable and appropriate, different assumptions and estimates could materially impact our reported financial results.

Results of Operations

FSS Automotive consists of our passenger and light duty commercial transportation (automotive OEM and aftermarket) and transportation infrastructure operations (compressors). FSS Industrial consists of our industrial mobile and stationary equipment and auxiliary power unit (APU), and the heavy duty commercial transportation operations.

Results of Operations – Three Months Ended September 30, 2014

(Amounts in tables in thousands, except percentages)

REVENUES

 

FSS Industrial. The decrease in revenue is primarily attributable to a decrease of mobile kits in North America of approximately $4.3 million, as well as a decrease in the heavy duty business in Asia of approximately $1.1 million, which were partially offset by an increase of approximately $1.0 million in our auxiliary power units business. Our mobile kits business was significantly affected by increased competition that resulted in the loss of a large customer, while our heavy duty business was negatively impacted by current political unrest in Thailand.  We expect the pressure on revenue attributable to increased competition to continue in the near term. Included in the results discussed above is the weakening of local currencies compared to the US dollar, which negatively impacted revenue by approximately $0.6 million for the three months ended September 30, 2014.

FSS Automotive. The decrease in revenue is primarily attributable to lower DOEM sales of approximately $10.9 million, due to lower demand in North America and to loss of customers in Europe (primarily Italy) in connection with their change in product strategies, as well as decreases in OEM sales of approximately $2.7 million. The OEM sales decreases were the result of an increasingly competitive environment, as well as weak economic conditions, which are affecting most of our markets (primarily Italy). These decreases were partially offset by an increase in sales of compressors of approximately $2.8 million, which have lower margins, as well as increased aftermarket sales of approximately $2.4 million, primarily attributable to Argentina. We continue to expect pressure on revenue to continue in the near future due to increased competition in the markets we operate in and to shifting strategies at some of our customers. Included in the results discussed above is the weakening of local currencies compared to the US dollar, which negatively impacted revenue by approximately $3.2 million for the three months ended September 30, 2014.

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The following represents revenues by geographic location for the three months ended September 30, 2014 and 2013:

 

The increase in the “All other” locations within Europe primarily relates to higher sales of other products with lower margins, primarily in Russia, while the increase in Latin America is primarily attributable to aftermarket sales in Argentina. Russia is currently experiencing economic sanctions and management is not able to anticipate the future impact of such sanctions. All other geographic locations experienced decreases in revenue when compared to the prior year period, primarily in relation with the items discussed above for both FSS Industrial and FSS Automotive. Included in the results discussed above is the negative impact of the changes of local currencies compared to the US Dollar, which negatively impacted revenue by approximately $3.8 million.

COST OF REVENUE

 

FSS Industrial. The decrease in cost of revenue is primarily attributable to lower material costs of approximately $4.3 million associated with lower volumes. While gross profit decreased due to the effect of lower volumes, gross margin for the three months ended September 30, 2014 increased, due to the positive effect associated with the loss of the sales to the above-mentioned customer, which historically had low margins. Included in the results discussed above is the weakening of local currencies compared to the US dollar, which had a positive impact on cost of revenue of approximately $0.5 million for the three months ended September 30, 2014.

FSS Automotive. The decrease in cost of revenue is primarily attributable to lower material costs of approximately $4.6 million, lower compensation expense due to decreased headcount of approximately $0.6 million, decreased amortization expense of approximately $0.4 million in connection with previously recorded impairments, as well as an approximately $1.7 million loss recorded in the previous year in connection with the acquisition of an additional 44.89% equity interest in Rohan BRC. All these decreases were partially offset by higher warranty expense of approximately $1.5 million compared to same period in the prior year. The above-mentioned shift in product and geographic mix resulted in lower gross margin compared to the prior year period. Included in the results discussed above is the weakening of local currencies compared to the US dollar, which had a positive impact on cost of revenue of approximately $2.7 million for the three months ended September 30, 2014.

RESEARCH & DEVELOPMENT

 

FSS Industrial. The increase primarily relates to higher project related expenditures when compared to the prior year period, as we continue to invest in research to enhance our current products and look into new ways to expand our current product offerings with new solutions and alternatives.

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FSS Automotive. The decrease primarily relates to cost savings activities in the current period, which resulted in lower outside service expense of less than $0.7 million. We remain focused on rationalizing costs, while continuing to work on advancing our existing product lines and developing various projects for possible new product offerings.

SELLING, GENERAL & ADMINISTRATIVE

 

FSS Industrial. The increase primarily relates to a voluntary work force reduction initiative in the current period of approximately $0.6 million, which was partially offset by lower compensation and related expenses of approximately $0.1 million in connection with decreased headcount.

FSS Automotive. The increase primarily relates to facility closing expenses, as well as work force reduction in the current period of approximately $1.7 million, incurred in relation with rationalization of activities at our Italian operations, partially offset by lower outside service expenses of approximately $0.7 million, as well as savings obtained through various cost reduction activities throughout the division of approximately $0.5 million.

Corporate Expenses. Corporate expenses consist of general and administrative expenses at the corporate level to support our business segments in areas such as executive management, finance, human resources, management information systems, legal and accounting services and investor relations. The increase in corporate expenses is primarily due to higher outside service expenses incurred in the three months ended September 30, 2014 compared to the prior year period.

OPERATING (LOSS) / INCOME

 

 

Operating income for the three months ended September 30, 2014 decreased to an operating loss for the reasons stated above.

Other Income (Expense), Net.

Other income (expense) includes foreign exchange gains and losses between various other assets and liabilities to be settled in other currencies. For the three months ended September 30, 2014 we recognized approximately $0.3 million in net gains on foreign exchange, primarily due to the strengthening of the US dollar against foreign currencies, compared to less than $0.1 million in losses on foreign exchange for the three months ended September 30, 2013. We routinely conduct transactions in currencies other than our reporting currency, the U.S. dollar. We cannot estimate or forecast the direction or the magnitude of any foreign exchange movements and currency devaluation with any currency that we transact in; therefore, we do not hedge or predict the future impact of foreign currency exchange rate movements on our consolidated financial statements.

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Benefit/(Provision) for Income Taxes.

Income tax expense for the three months ended September 30, 2014 was approximately $2.2 million, representing an effective tax rate of (209.5)%, compared with income tax expense for the three months ended September 30, 2013 of $0.9 million, representing an effective tax rate of 46.8%. The change in the effective tax rate is primarily a result of fluctuation of earnings in the various jurisdictions and of losses incurred in the United States and certain foreign jurisdictions for which no tax benefit has been recorded. A full valuation allowance is maintained against the income tax benefits generated in the United States and certain foreign jurisdictions (“loss jurisdictions”) due to cumulative losses incurred in those loss jurisdictions, as we cannot conclude that such tax benefits meet the more likely than not threshold for realization. For the three months ended September 30, 2014 and 2013, we incurred a pre-tax loss of approximately $4.1 million and $0.9 million, respectively, in the loss jurisdictions. Accordingly, for the three months ended September 30, 2014, we have not recorded income tax benefits for losses incurred or significant income tax expense for income generated for such jurisdictions as such amounts will be offset by the valuation allowance. We operate in an international environment with significant operations in various locations outside of the United States, which have statutory tax rates that are different from the United States tax rate. Accordingly, the consolidated income tax rate is a composite rate reflecting the earnings in the various locations and the applicable rates.

Results of Operations – Nine Months Ended September 30, 2014

(Amounts in tables in thousands, except percentages)

REVENUES

 

FSS Industrial. The decrease in revenue is primarily attributable to a decrease of our industrial products in North America of approximately $9.4 million, as well as lower heavy duty business in Asia of approximately $5.2 million. Our industrial business was significantly affected by increased competition resulting in the loss of a significant customer, as well as changing purchasing strategies at some of our customers as they worked off excess inventory from previous periods, while our heavy duty business was negatively impacted by current political unrest in Thailand.  We expect the pressure on revenue attributable to increased competition to continue in the near term. Included in the results discussed above is the weakening of local currencies compared to the US dollar, which negatively impacted revenue by approximately $2.6 million for the nine months ended September 30, 2014.

FSS Automotive. The decrease in revenue is primarily attributable to lower DOEM sales of approximately $30.4 million, primarily due to loss of customers in the European (primarily Italian) markets in connection with their change in products strategies, and lower volumes in the North American market, decreases in OEM sales of approximately $15.1 million affecting most geographic areas, as well as net decreases in aftermarket sales of approximately $1.4 million, primarily in Europe and in the US, despite an increase in aftermarket sales in Argentina. The OEM and aftermarket decreases were the result of an increasingly competitive environment, as well as weak economic conditions, which are affecting most of our markets (primarily Italian). These decreases were partially offset by an increase in sales of compressors of approximately $7.0 million, which have lower margins, as well as increase in mobile equipment sales of approximately $1.4 million. We expect the pressure on revenue to continue in the near term due to increased competition in the markets we operate in and to shifting strategies at some of our customers. Included in the results discussed above is the weakening of local currencies compared to the US dollar, which negatively impacted revenue by approximately $3.8 million for the nine months ended September 30, 2014.  

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The following represents revenues by geographic location for the nine months ended September 30, 2014 and 2013:

 

The increase in the “All other” locations within Europe primarily relates to higher sales of other products with lower margins, primarily in Russia, which is currently experiencing economic sanctions and management is not able to anticipate the future impact of such sanctions. All other geographic locations experienced decreases in revenue when compared to the prior year, primarily in relation with the items discussed above for both FSS Industrial and FSS Automotive. Included in the results discussed above is the negative impact of the changes of local currencies compared to the US Dollar, which negatively impacted revenue by approximately $6.4 million.

COST OF REVENUE

 

FSS Industrial. The decrease in cost of revenue is primarily attributable to lower material costs of approximately $12.8 million associated with lower volumes. While gross profit decreased due to the effect of lower volumes, gross margin for the nine months ended September 30, 2014 increased, due to the positive effect associated with the loss of the sales to the above-mentioned customer, which historically had low margins. Included in the results discussed above is the weakening of local currencies compared to the US dollar, which had a positive impact on cost of revenue of approximately $2.2 million for the nine months ended September 30, 2014.

FSS Automotive. The decrease in cost of revenue is primarily attributable to lower material costs of approximately $20.2 million and lower compensation expense and related costs and outside service expenses of approximately $6.1 million, all associated with lower volumes, which were partially offset by an increase in warranty expense of approximately $0.9 million. The above-mentioned shift in product and geographic mix resulted in lower gross margin compared to the prior year period. Included in the results discussed above is the weakening of local currencies compared to the US dollar, which positively impacted cost of revenue by approximately $3.4 million for the nine months ended September 30, 2014.

RESEARCH & DEVELOPMENT

 

FSS Industrial. The increase primarily relates to higher compensation and related expense due to increased headcount from the prior year period, and higher project related expenditures as we continue to invest in research to enhance our current products and look into new ways to expand our current product offerings with new solutions and alternatives.

FSS Automotive. The decrease primarily relates to cost savings activities in the current period, which resulted in lower outside service and related expense of approximately $1.0 million, lower salary and related expenses of approximately $0.2 million (in connection with lower headcount), as well as lower supplies of approximately $0.1 million compared to the prior year period, when

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higher costs were incurred in connection with prototyping activities on a project for a customer. We remain focused on rationalizing costs, while continuing to work on advancing our existing product lines and develop various projects for possible new offerings.

SELLING, GENERAL & ADMINISTRATIVE

 

FSS Industrial. The increase primarily relates to a voluntary work force reduction initiative in the current period of approximately $0.6 million, which was partially offset by lower compensation and related expenses of approximately $0.5 million in connection with decreased headcount.

FSS Automotive. The increase primarily related to facility closing and work force reduction expenses in the current period of approximately $3.5 million, incurred in relation with rationalization of activities at our Italian operations, as well as prior year reversal of contingent consideration of approximately $0.4 million, which were partially offset primarily by lower outside service expenses of approximately $2.4 million, and by cost savings of approximately $1.2 million achieved through process streamlining and increased efficiencies mostly at our Italian subsidiary.

Corporate Expenses. Corporate expenses consist of general and administrative expenses at the corporate level to support our business segments in areas such as executive management, finance, human resources, management information systems, legal and accounting services and investor relations. Corporate expenses increased mostly due to higher outside service expenses.

IMPAIRMENTS

 

FSS Industrial. During the nine months ended September 30, 2014, we recorded an impairment charge of approximately $4.2 million, representing the write-off of goodwill associated with our reporting units located in Canada and in the Netherlands. Due to the recent trading values of our stock, coupled with market conditions and business trends resulting in lower earnings and cash flow forecasts, we determined that the reporting units could not support the carrying value of their respective goodwill, intangibles and equipment and leasehold improvements. Refer to Note 14—Impairments in the Notes to Consolidated Financial Statements for additional discussion.

FSS Automotive. During the nine months ended September 30, 2014, we recorded impairment charges of approximately $35.8 million, $1.7 million and $2.7 million representing the write-off of goodwill, intangible assets, and equipment and leasehold improvements, respectively, associated with our Italian and US reporting units. Due to the recent trading values of our stock, coupled with market conditions and business trends resulting in lower earnings and cash flow forecasts, we determined that the reporting units could not support the carrying value of their respective goodwill, intangibles and equipment and leasehold improvements. Refer to Note 14—Impairments in the Notes to Consolidated Financial Statements for additional discussion.

OPERATING (LOSS) / INCOME 

 

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Operating income for the nine months ended September 30, 2014 decreased to an operating loss for the reasons stated above.

Other Income (Expense), Net.

Other income (expense) includes foreign exchange gains and losses between various other assets and liabilities to be settled in other currencies. For the nine months ended September 30, 2014 we recognized approximately $1.5 million in net gains on foreign exchange, primarily due to the strengthening of the US dollar against foreign currencies, compared to $1.5 million in losses on foreign exchange for the nine months ended September 30, 2013. We routinely conduct transactions in currencies other than our reporting currency, the U.S. dollar. We cannot estimate or forecast the direction or the magnitude of any foreign exchange movements and currency devaluation with any currency that we transact in; therefore, we do not hedge or predict the future impact of foreign currency exchange rate movements on our consolidated financial statements.

Benefit/(Provision) for Income Taxes.

Income tax benefit for the nine months ended September 30, 2014 was approximately $0.4 million, which includes approximately $1.1 million benefit associated with impairment charges, representing an effective tax rate of 0.8%. Income tax expense for the nine months ended September 30, 2013 was approximately $3.8 million, representing an effective tax rate of 56.8%. The change in the effective tax rate is primarily a result of fluctuation of earnings in the various jurisdictions and of losses incurred in the United States and certain foreign jurisdictions for which no tax benefit has been recorded. A full valuation allowance is maintained against the income tax benefits generated in the United States and certain foreign jurisdictions (“loss jurisdictions”) due to cumulative losses incurred in those loss jurisdictions, as we cannot conclude that such tax benefits meet the more likely than not threshold for realization. For the nine months ended September 30, 2014 and 2013, we incurred a pre-tax loss of approximately $7.2 million and $5.0 million, respectively, in the loss jurisdictions. Accordingly, for the nine months ended September 30, 2014, we have not recorded income tax benefits for losses incurred or significant income tax expense for income generated for such jurisdictions as such amounts will be offset by the valuation allowance. We operate in an international environment with significant operations in various locations outside of the United States, which have statutory tax rates that are different from the United States tax rate. Accordingly, the consolidated income tax rate is a composite rate reflecting the earnings in the various locations and the applicable rates.

Liquidity and Capital Resources

Overview— Our primary sources of liquidity are cash provided by operating activities and debt financing. Additionally from time to time we raise funds from the equity capital markets to fund our working capital and general corporate purposes, which may include expansion of our business, additional repayment of debt and financing of future acquisitions of companies or assets. We believe the amounts available to us under our various credit agreements together with cash on hand will continue to allow us to meet our needs for working capital and other cash needs for worldwide operations for at least the next 12 months. For periods beyond 12 months, although we do not have any plans to do so, we may seek additional financing to fund future operations through future offerings of equity or debt securities or through agreements with corporate partners with respect to the development of our technologies and products. We can offer no assurances that we will be able to obtain additional funds on acceptable terms, if at all. However, our ability to satisfy our working capital requirements will substantially depend upon our future operating performance (which may be affected by prevailing economic conditions), and financial, business and other factors, some of which are beyond our control. We continue to evaluate our liquidity needs.

On November 3, 2014, our Board of Directors approved a share repurchase program for up to $25.0 million of our common stock. The program is expected to continue for up to one year. Purchases under the repurchase program may be made from time to time in open-market transactions, block transactions on or off an exchange, or in privately negotiated transactions. We expect shares to be repurchased at prevailing market prices based on management’s evaluation of market conditions and other factors.  

We earn a significant amount of our operating income outside the U.S., which is deemed to be permanently reinvested in foreign jurisdictions; however, we have accrued (as a reduction to net operating loss carry-forwards) residual U.S. taxes on approximately $26.7 million of earnings not considered to be indefinitely reinvested. This amount was deemed to be a constructive dividend creating taxable income for US income tax purposes; upon distribution of earnings in the form of dividend, or otherwise, in excess of these amounts, we may be subject to United States income taxes. In addition, we would be subject to withholding taxes payable to various foreign countries. In June 2012, our FSS Automotive segment purchased approximately an additional $6.3 million of prime-rated German government bonds with a maturity date of March 14, 2014, which were subsequently sold before maturity on February 8, 2013 for approximately $6.8 million. The related proceeds, as well as additional cash, were reinvested into a new purchase of prime-rated German government bonds for approximately $12.6 million, with a maturity date of October 10, 2014. After maturity of this German bond, the liquidity was temporarily invested in a high-yield deposit. These investments were placed in the available for sale category. As of September 30, 2014 we had approximately $72.3 million of cash and marketable securities held in accounts outside the U.S., primarily in Europe. We currently intend to repatriate a portion of these funds; however, we do not intend nor foresee the

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need to repatriate funds in excess of the $26.7 million of earnings not considered to be indefinitely reinvested. We expect existing cash and cash equivalents and cash flows from operations to continue to be sufficient to fund our operating activities and cash commitments for investing and financing activities, such as regular material capital expenditures, for at least the next 12 months.

Should we require more capital in the U.S. than is generated by our operations domestically, for example to fund significant discretionary activities, such as acquisitions of businesses, we could elect to repatriate future earnings from foreign jurisdictions. This could result in higher effective tax rates since the foreign jurisdiction may impose a tax on the distribution. We have the ability to borrow funds domestically at reasonable interest rates. See “Risk Factors” in Part I, Item 1A our Annual Report on Form 10-K for the year ended December 31, 2013 and Part II, Item 1A of this Quarterly Report on Form 10-Q for additional information that could impact our liquidity and capital resources.

Our ratio of current assets to current liabilities was approximately 3:1 at both September 30, 2014 and December 31, 2013, respectively. At September 30, 2014, our total working capital decreased by $18.2 million, to $185.9 million from $204.1 million at December 31, 2013. This decrease is primarily due to the following: (1) a decrease of $11.8 million in accounts receivable attributable to our FSS Automotive division as a result of lower sales; (2) a decrease of $7.5 million in cash mostly attributable to the net effect of our investing and operating activities; (3) a decrease of $6.6 million in inventory attributable to both our divisions and primarily to our FSS Automotive operations, which were all partially offset by: (a) a decrease of $5.2 million in accounts payable attributable to our FSS Automotive operations in relation with decreased business activity; and (b) a net increase of $2.4 million in short term investments primarily attributable to additional investments in time deposit at our FSS Industrial division. Included in the net decrease commented above were also decreases attributable to changes in foreign currency exchange rates.

The following table provides a summary of our operating, investing and financing activities as follows (in thousands):

 

Cash Flow from Operating Activities. We prepare our statement of cash flows using the indirect method. Under this method, we reconcile net income to cash flows from operating activities by adjusting net income for those items that impact net income but may not result in actual cash receipts or payments during the period. These reconciling items include but are not limited to depreciation and amortization, provisions for inventory reserves and doubtful accounts; gains and losses from various transactions and changes in the consolidated balance sheet for working capital from the beginning to the end of the period.

2014 compared to 2013. In 2014, our net cash flow provided by operating activities was $9.5 million, compared to net cash flow provided by operating activities of $9.8 million in the nine months ended September 30, 2013. This decrease was primarily driven by changes in net working capital and other balance sheet changes: decreases in operating cash flows associated with accounts receivable (primarily due to lower revenue), as well as with other current assets (primarily due to advances, VAT receivables and tax prepayments), were partially offset by increases in operating cash flows associated with lower inventory (primarily due to lower inventory increases due to decreased level of sales).

Cash Flow from Investing Activities. Our net cash used in investing activities consisted primarily of investments in available for sale German government bonds, property, plant and equipment (“PP&E”) expenditures.

In 2014, our PP&E additions were approximately $10.9 million, which were primarily for leasehold improvements and acquisitions of machinery and equipment in connection with our normal business operations, principally in our FSS Automotive operations. In April 2014, our FSS Industrial operations invested an additional $3.0 million in time deposits.

In 2013, our PP&E additions were approximately $5.8 million. In February 2013, we sold our investment in prime-rated German government bonds acquired in June 2012 for approximately $6.8 million. In February 2013, we also purchased prime-rated German government bonds for which we paid approximately $12.6 million. Additionally, in September 2013, we spent approximately $0.8 million on the acquisition of an additional 44.89% equity interest in Rohan BRC.

Cash Flow from Financing Activities. Our capitalization and financing strategy is intended to ensure that we are properly capitalized with the appropriate level of debt and available credit.

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In 2014, our financing activities refer mostly to payments of term loans and other loans. In 2013, our financing activities refer mostly to payments of term loans and other loans, as well as proceeds from exercise of stock options.

Credit Agreements

At September 30, 2014, our weighted average interest rate on outstanding debt was 0.9%. We are party to numerous credit agreements and other borrowings. All foreign denominated revolving lines of credit have been converted using the average interbank currency rate at September 30, 2014. The fair value of the debt obligations approximated the recorded value as of September 30, 2014 and December 31, 2013.

(a) Revolving Lines of Credit – Italy and Argentina

We maintain various revolving lines of credit in Italy and Argentina. The revolving lines of credit in Italy include $6.4 million which is unsecured and $3.7 million which is collateralized by accounts receivable. The interest rates on these revolving lines of credit are fixed and variable and range from 1.1% to 4.1% as of September 30, 2014. At September 30, 2014 and December 31, 2013, there were no balances outstanding.  

The revolving lines of credit in Argentina consist of two lines for a total amount of availability of approximately $1.9 million. These lines are unsecured with no balance outstanding at September 30, 2014 and December 31, 2013. At September 30, 2014, the interest rates for the lines of credit in Argentina ranged from 4.5% to 30.0%.

All lines are callable on demand.

(b) Revolving Line of Credit – USA

As of September 30, 2014, the Company and IMPCO Technologies, Inc. (“IMPCO”) maintain an unsecured, revolving short term credit facility with Intesa SanPaolo S.p.A. (“Intesa”) amounting to $20.0 million. IMPCO intends to use the borrowings for its general corporate purposes and Fuel Systems guarantees IMPCO’s payments. At September 30, 2014 and December 31, 2013, there were no balances outstanding. The maximum aggregate principal amount of loans available at any time was originally $13.0 million with a maturity date of April 30, 2014, which was subsequently renewed to April 30, 2015 with a new aggregate principal amount of loans available at any time increased to $20.0 million. At our option, the loans will bear interest on either the applicable LIBOR rate plus 2.0%, the bank’s prime rate plus 1.0% or the bank’s cost of funds rate plus 2%. The bank’s prime rate is a floating interest rate that may change as often as once a day. If any amounts under a loan remain outstanding after the loan’s maturity date, such amounts will bear interest at the bank’s prime rate plus 2.0%. In addition, this revolving credit facility carries a commitment fee of 0.5% of the average daily unused amount. The line of credit contains quarterly covenants, which require us to maintain (1) a ratio of Net Debt/EBITDA for the then most recently concluded period of four consecutive fiscal quarters of the Company to be less than 2, (2) a consolidated net worth of at least $135.0 million, and (3) the Company shall not, and shall not permit any of its subsidiaries to create, incur, assume or permit to exist any Debt other than (i) debt of any such subsidiary owing to any other subsidiary or to the Company or (ii) debt for borrowed money in a total aggregate principal amount, the U.S. Dollar equivalent of which does not exceed $75.0 million. At September 30, 2014, we were in compliance with these covenants.

(c) Other indebtedness

Other indebtedness includes capital leases and various term loans and lines of credits involving the Company’s foreign subsidiaries. These term loans and lines of credit are used primarily to fund the operations of these subsidiaries and bear interest ranging from 0.50% to 6.95%.

Off-Balance Sheet Arrangements

As of September 30, 2014, we had no off-balance sheet arrangements.

Recent Accounting Pronouncements

In April 2014, the Financial Accounting Standards Board (“FASB”) issued a new accounting standard update that improves the definition of discontinued operations by limiting discontinued operations reporting to disposals of components of an entity that represent strategic shifts that have, or will have, a major effect on an entity’s operations and financial results.  The amendments in this update are effective prospectively for fiscal years, and interim periods within those years, beginning after December 15, 2014.  Early adoption is permitted.  The adoption of this standard is not expected to have a material impact on our financial statements.

In May 2014, the FASB issued a new accounting standard update providing additional guidance for revenue recognition in relation to contractual arrangements with customers.  The core principle of the guidance is that an entity should recognize revenue to

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depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for the goods or services.  The amendments in this update are effective retrospectively for fiscal years, and interim periods within those years, beginning after December 15, 2016.  Early adoption is not permitted. We are currently defining the approach and planning the initial review activities necessary for the transition to the new standard.

In June 2014, the FASB issued a new accounting standard update providing additional guidance on how to account for share-based payments where the terms of an award may provide that the performance target could be achieved after an employee completes the requisite service period.  The amendments require that a performance target that affects vesting and that could be achieved after the requisite period is treated as a performance condition.  The amendments in this update are effective for fiscal years, and interim periods within those years beginning after December 15, 2015, and may be applied (a) prospectively to all awards granted or modified after the effective date or (b) retrospectively to all awards with performance targets that are outstanding as of the beginning of the earliest annual period presented in the financial statements and to all new or modified awards thereafter. Earlier adoption is permitted.  The adoption of this standard is not expected to have a material impact on our financial statements.

In August 2014, the FASB issued a new accounting standard update intended to define management’s responsibility to evaluate whether there is substantial doubt about an organization’s ability to continue as a going concern and to provide related footnote disclosures. Under Generally Accepted Accounting Principles (GAAP), financial statements are prepared under the presumption that the reporting organization will continue to operate as a going concern, except in limited circumstances. Financial reporting under this presumption is commonly referred to as the going concern basis of accounting. The going concern basis of accounting is critical to financial reporting because it establishes the fundamental basis for measuring and classifying assets and liabilities. The amendments in this update apply to all companies and not-for-profit organizations. They become effective in the annual period ending after December 15, 2016, with early application permitted. The adoption of this standard is not expected to have a material impact on our financial statements.

 

Foreign Currency Management. We operate on a global basis and are exposed to currency fluctuations related to the manufacture, assemble and sale of our products in currencies other than the U.S. Dollar. The major foreign currencies involve the markets in the European Union, Argentina, Canada and Australia. Movements in currency exchange rates may affect the translated value of our earnings and cash flow associated with our foreign operations as well as the translation of the net asset or liability positions that are denominated in foreign currencies. In addition, we are exposed to significant volatility from countries that could devalue their currencies, such as Argentina. In countries outside of the United States, we generally generate revenues and incur operating expenses denominated in local currencies. These revenue and expenses are translated using the average rates during the period in which they are recognized and are impacted by changes in currency exchange rates. We monitor this risk and attempt to minimize the exposure to our net results through the management of cash disbursements in local currencies.

We prepared sensitivity analyses to determine the impact of hypothetical changes in foreign currency exchange rates on our results of operations. The foreign currency rate analysis assumed a uniform movement in currencies by 10% relative to the U.S. Dollar on our results. Based upon the results of these analyses, a 10% change in currency rates would have resulted in an increase or decrease in our earnings for the three and nine months ended September 30, 2014 (excluding impairments) of less than $0.1 million and of approximately $0.3 million, respectively. We may seek to hedge our foreign currency economic risk by minimizing our U.S. dollar investment in foreign operations using foreign currency term loans to finance our foreign subsidiaries when necessary. The term loans are denominated in local currencies and translated to U.S. dollars at period end exchange rates.

 

Disclosure Controls and Procedures

We have established disclosure controls and procedures designed to ensure that information required to be disclosed in the reports that we file or submit under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) is recorded, processed, summarized, and reported within the time periods specified in SEC rules and forms and is accumulated and communicated to management, including the principal executive officer and principal financial officer, to allow timely decisions regarding required disclosure.

Our principal executive officer and principal financial officer, with the assistance of other members of our management, have evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this quarterly report. Based upon such evaluation, our principal executive officer and principal financial officer have concluded that our disclosure controls and procedures are effective as of the end of the period covered by this quarterly report.

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During the nine months ended September 30, 2014, we implemented a new enterprise resource planning (ERP) system at certain subsidiaries and, accordingly, made changes in our internal control over financial reporting including the modification of certain existing control processes as well as the implementation of new control processes to adapt to changes for our new ERP system. Other than these new control procedures relating to the ERP system, there was no other change in our internal control over financial reporting (as such term is defined in Rule 13a-15(f) under the Exchange Act) that occurred during the quarter ended September 30, 2014 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

Our management, including our principal executive officer and principal financial officer, recognize that any disclosure controls and procedures or internal controls, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because there are inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been or will be detected.

 

 

 

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PART II—OTHER INFORMATION

 

From time to time, we may be involved in litigation relating to claims arising out of the ordinary course of our business including, but not limited to, product liability, asbestos related liability, employment matters, patent and trademarks, and customer account collections. We are not a party to, and, to our knowledge, there are not threats of any claims or actions against us, the ultimate disposition of which would have a material adverse effect on our consolidated results of operations or liquidity.

 

In addition to the other information set forth in this report, you should carefully consider Part I, Item 1A. “Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013. The risk factors contained in that report could materially affect our business, financial position and results of operations. Except as set forth below, there are no material changes from the risk factors set forth in Part I, Item 1A., “Risk Factors,” of the Company’s Annual Report on Form 10-K for the year ended December 31, 2013.

The debt default by the Government of Argentina could have a material adverse effect on our business, financial condition and liquidity.

We operate a subsidiary in Argentina which has significant sales to customers in Argentina and elsewhere in South America.  We also sell inventory from our facility in Italy to our subsidiary in Argentina.

The default by the Government of Argentina on its debt obligations has negatively impacted economic conditions in Argentina.  In addition, the debt crisis in Argentina subjects us to risks related to fluctuations in currency values, restrictions on imports and exports, trade limitations, restrictions on the ability to repatriate funds and other potentially detrimental governmental practices or policies impacting companies doing business in Argentina.  The continued uncertainty caused by the debt crisis may materially disrupt our markets in Argentina and possibly elsewhere in South America.  If economic conditions in Argentina remain uncertain or deteriorate further, customer demand for our products could decline, and we may experience a material adverse effect on our business, financial condition and liquidity.

 

During the three months ended September  30, 2014, we did not sell any equity securities not registered under the Securities Act of 1933, as amended.

The following table provides information on purchases of our common shares outstanding made by us during the three months ended September 30, 2014.

ISSUER PURCHASES OF EQUITY SECURITIES

 

 

None.

 

Not applicable.

 

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None.

 

The following documents are filed as exhibits to this Quarterly Report:

 

We will furnish any exhibit upon the payment of a reasonable fee, which fee shall be limited to our reasonable expenses in furnishing such exhibit. Requests for copies should be directed to: Corporate Secretary, Fuel Systems Solutions, Inc., 780 Third Avenue 25^th Floor New York, NY 10017

 

 

 

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SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

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