<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 28, 1998
----------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______ to _______
Commission file number: 33-80701
AAF-MCQUAY INC.
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(Exact name of registrant as specified in its charter)
Delaware 41-0404230
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(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
111 South Calvert Street, Baltimore, Maryland 21202
- --------------------------------------------- ----------
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code (410) 528-2755
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Not applicable
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Former Name, Former Address and Formal Fiscal Year, if Changed Since
Last Report.
Indicate by check 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 the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date: 2,497 shares of Common Stock,
par value $100.00 per share, were outstanding as of May 8, 1998.
<PAGE>
INDEX
AAF-MCQUAY INC. AND SUBSIDIARIES
Page
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Part I - Financial Information .................................... 3
- ------
Item 1. Financial Statements (unaudited) ......................... 3
Consolidated Balance Sheets as of -
March 31, 1998 and June 30, 1997.......................... 3
Consolidated Statements of Operations -
Three months and nine months ended
March 31, 1998 and March 31, 1997......................... 4
Condensed Consolidated Statements of Cash Flows -
Nine months ended March 31, 1998 and March 31, 1997....... 5
Notes to the Consolidated Financial Statements............ 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations....................... 9
Part II - Other Information ........................................ 13
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Item 1. Legal Proceedings ....................................... 13
Item 6. Exhibits and Reports on Form 8-K ......................... 13
Signatures................................................ 14
2
<PAGE>
PART I: FINANCIAL INFORMATION
Item 1. Financial Statements
AAF-McQUAY INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(dollars in thousands, except share data)
March 31, June 30,
1998 1997
---------- --------
(unaudited)
ASSETS:
Current Assets:
Cash and cash equivalents.................. $ 10,156 $ 10,827
Accounts receivable........................ 221,230 233,405
Inventories................................ 125,793 124,192
Other current assets....................... 6,355 6,858
--------- ---------
Total current assets..................... 363,534 375,282
Property, plant and equipment, net........... 148,602 150,214
Cost in excess of net assets acquired and
other intangibles, net..................... 257,077 266,784
Other assets and deferred charges............ 18,180 18,088
--------- ---------
Total assets $ 787,393 $ 810,368
--------- ---------
--------- ---------
LIABILITIES AND STOCKHOLDERS EQUITY:
Current liabilities:
Short-term borrowings...................... $ 51,823 $ 58,703
Current maturities of long-term debt....... 10,398 12,091
Accounts payable, trade.................... 113,838 116,877
Accrued warranty........................... 14,417 12,979
Other accrued liabilities.................. 82,388 86,369
--------- ---------
Total current liabilities................ 272,864 287,019
Long-term debt............................... 198,836 217,030
Other liabilities............................ 107,687 102,038
--------- ---------
Total liabilities........................ 579,387 606,087
Stockholder's equity:
Preferred stock ($1 par value;
1,000 shares authorized, none issued).... -- --
Common stock ($100 par value; 8,000 shares
authorized, 2,497 shares issued and
outstanding).............................. 250 250
Additional paid-in capital.................. 179,915 179,915
Retained earnings........................... 34,471 29,074
Foreign currency translation adjustment..... (6,630) (4,958)
--------- ---------
Total stockholder's equity................ 208,006 204,281
Total liabilities and stockholder's equity.... $ 787,393 $ 810,368
--------- ---------
--------- ---------
See Notes To Consolidated Financial Statements
3
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AAF-McQUAY INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
(dollars in thousands)
Three months ended Nine months ended
-------------------- --------------------
March 31, March 31, March 31, March 31,
1998 1997 1998 1997
--------- --------- --------- ---------
Net Sales.......................... $ 230,882 $ 227,441 $ 709,388 $ 686,352
Cost of Sales...................... 168,975 164,750 518,610 500,809
--------- --------- --------- ---------
Gross Profit....................... 61,907 62,691 190,778 185,543
Operating Expenses:
Selling, general and
administrative.................. 50,916 50,378 159,617 149,841
Amortization of intangible assets 2,917 2,880 8,768 8,633
--------- --------- --------- ---------
53,833 53,258 168,385 158,474
--------- --------- --------- ---------
Income from operations............. 8,074 9,433 22,393 27,069
Interest expense, net.............. 6,103 6,229 19,279 19,581
Other (income) expense, net........ 173 198 (7,162) 502
--------- --------- --------- ---------
Income before income taxes......... 1,798 3,006 10,276 6,986
Minority interest earnings (loss).. (16) (325) (257) (361)
Income taxes....................... 810 1,412 4,622 3,307
--------- --------- --------- ---------
Net income......................... $ 972 $ 1,269 $ 5,397 $ 3,318
--------- --------- --------- ---------
--------- --------- --------- ---------
See Notes To Consolidated Financial Statements
4
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AAF-McQUAY INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(dollars in thousands)
Nine months ended
----------------------
March 31, March 31,
1998 1997
--------- ---------
Cash flows from operating activities:
Net income............................... $ 5,397 $ 3,318
Adjustments to reconcile to cash from
operating activities:
Depreciation and amortization............ 20,049 19,127
Foreign currency transaction
(gains) losses......................... (30) 491
Gain on sale of business................. (6,626) --
Changes in operating assets and
liabilities............................ 7,726 (6,011)
--------- ---------
Net cash from operating activities......... 26,516 16,925
Cash flows from investing activities:
Capital expenditures, net................ (17,349) (8,914)
Proceeds from sale of business........... 17,133 --
--------- ---------
Net cash from investing activities......... (216) (8,914)
Cash flows from financing activities:
Net repayments under short-term
borrowing arrangements................ (6,880) (15,128)
Payments on long-term debt.............. (19,886) (7,603)
Proceeds from issuance of
long-term debt........................ -- 1,940
--------- ---------
Net cash from financing activities........ (26,766) (20,791)
Effect of exchange rate changes on cash... (205) 141
--------- ---------
Net decrease in cash and cash equivalents. (671) (12,639)
Cash and cash equivalents at
beginning of period..................... 10,827 20,824
--------- ---------
Cash and cash equivalents at end
of period............................... $ 10,156 $ 8,185
--------- ---------
--------- ---------
See Notes To Consolidated Financial Statements
5
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Notes to the Consolidated Financial Statements (unaudited)
Note 1. Basis of Presentation:
The consolidated financial statements include the accounts of the Company
and all of its wholly-owned subsidiaries. All inter-company transactions have
been eliminated. The accompanying unaudited consolidated financial statements
contained herein have been prepared in accordance with generally accepted
accounting principles for interim reporting and with the instructions to Form
10-Q and Article 10 of Regulation S-K. Accordingly, certain information and
footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been omitted. For
further information, refer to the consolidated financial statements and
footnotes thereto included in the Company's Annual Report on Form 10-K (the
"Annual Report") for the year ended June 30, 1997. In the opinion of
management, all adjustments (consisting of normal recurring accruals) considered
necessary for a fair presentation have been included. The accompanying
financial statements reflect the statements of operations for the three and nine
month periods ended March 31, 1998 and March 31, 1997, the balance sheets at
March 31, 1998 and June 30, 1997, and the consolidated statements of cash flows
for the nine months ended March 31, 1998 and March 31, 1997.
The operating results for the nine months ended March 31, 1998 are not
necessarily indicative of the operating results that may be expected for the
full year ending June 30, 1998. The Company's period end is the closest
Saturday to the end of the month For clarity in presentation all periods
presented herein are shown to end on the last calendar day of the month.
In March 1998, the AICPA issued SOP 98-1, Accounting for the Costs of
Computer Software Developed for or Obtained for Internal Use (SOP 98-1). SOP
98-1 requires that qualifying computer software costs incurred during the
applications developmental stage be capitalized and amortized over the
software's estimated useful life. The Company has adopted the SOP 98-1
requirements effective July 1, 1997, the beginning of fiscal year 1998.
Internal payroll and payroll related cost of employees, that were expensed under
the Company's prior accounting policy, of $1.3 million were capitalized during
the quarter ended March 31, 1998. Prior quarters have not been restated as the
effect on the financial statements were not material.
Note 2. Inventories:
Inventories consist of the following:
March 31, June 30,
1998 1997
--------- ---------
(dollars in thousands)
FIFO Cost:
Raw Materials...................... $ 43,977 $ 51,393
Work-in-process.................... 37,370 27,618
Finished goods..................... 41,138 42,109
--------- ---------
122,485 121,120
LIFO adjustment...................... 3,308 3,072
--------- ---------
$ 125,793 $ 124,192
--------- ---------
--------- ---------
Note 3. Income Taxes:
The difference between the Company's reported tax provision, for the third
quarter and the nine months ended March 31, 1998 and the comparable periods of
the prior year, and the tax provision computed based on U.S. statutory rates is
primarily attributed to nondeductible goodwill amortization and unbenefitted
foreign losses.
6
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Note 4. Contingencies:
Indemnification Agreement:
On May 2, 1994, O.Y.L. Industries Berhad ("OYL") purchased all of the
outstanding stock of SnyderGeneral Corporation and SnyderGeneral Holding Company
(collectively, the "Predecessor Company"). Subsequent to this acquisition, the
names of these entities were changed to AAF-McQuay Inc. and AAF-McQuay Holdings
Inc., respectively. The purchase agreement between OYL and the former owners of
the Predecessor Company contains certain indemnifications relating to specified
contingencies that existed as of the acquisition date. Specifically, the former
owners of the Predecessor Company have an indemnification obligation for losses
relating to certain environmental, tax, and litigation matters.
On January 29, 1997, the Company instituted an action before the American
Arbitration Association in Dallas, Texas, to enforce the Company's rights to
indemnification of all its claimed losses. On January 26, 1998, the arbitration
panel issued its ruling which, among other things, limited the right of the
Company to recover certain environmental losses. The panel held that the Company
is entitled to include as indemnified losses only those remediation and related
expenses paid on or before May 2, 1999. The Company's estimate of costs
associated with the environmental, tax and litigation indemnified matters is
accrued if, in management's judgment, the likelihood of loss is probable. The
accrual is included in non-current liabilities.
Environmental Matters:
The Company is subject to potential liability under the Comprehensive
Environmental Response, Compensation, and Liability Act of 1980, as amended
(CERCLA), and other federal, state and local statutes and regulations governing
the discharge of pollutants into the environment and the handling and disposal
of hazardous substances and waste. These statutes and regulations, among other
things, impose potential liability on the Company for the cost of remediation of
contamination arising from the Company's past and present operations and from
former operations of other entities at sites later acquired and now owned by the
Company. Many of the Company's facilities have operated for many years, and
substances which are or might be considered hazardous were generated, used, and
disposed of at some locations, both on- and off-site. Therefore, it is possible
that environmental liabilities in addition to those described in note 12 of the
Annual Report may arise in the future. The Company records liabilities if, in
management's judgment, environmental assessments or remedial efforts are
probable and the costs can be reasonably estimated. These accrued liabilities
are not discounted. Such estimates are adjusted if necessary based upon the
completion of a formal study or the Company's commitment to a formal plan of
action. The Company believes that all significant environmental remediation
expenses paid on or before May 2, 1999 are subject to the indemnification
agreement with the former owners of the Predecessor Company described above.
The Company is currently a plaintiff in several legal suits, assessing
insurance coverage, or pursuing other actions in an attempt to recover the cost
associated with above liabilities. No amounts have been recorded in the
accompanying Consolidated Balance Sheets relating to any such possible
recoveries.
Income Tax:
The Predecessor Company's U.S. federal income tax returns for the taxable
years ending in 1987, 1988, 1989 and 1990 have been examined by the Internal
Revenue Service. Adjustments to the taxable income for each of these years have
been proposed. Portions of the resulting tax liabilities would be imposed
directly on the Company or its subsidiaries, and the Company may be obligated
under the tax indemnification agreement to make payments to the former owners of
the Predecessor Company to allow them to defray the remainder of the tax
liabilities which would be imposed on them under Subchapter S of the Internal
Revenue Code. That agreement may also entitle the Company to payments from the
former shareholders of certain tax benefits which the former owners may realize.
Payments by the Company under the tax indemnification agreement are indemnified
losses under the purchase agreement (as discussed above), and receipts by the
Company from the former owners, as well as certain other future tax benefits
which the Company may realize on its own tax returns may have to be subtracted
from losses which are subject to indemnification.
7
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On March 23, 1995, the Internal Revenue Service opened an examination of
the Predecessor Company's tax returns for the years ending in 1991, 1992, 1993
and 1994. Other than issues originating in earlier years which would also
affect these years, there have been no material adjustments proposed during
this examination. These tax matters are also covered by the indemnification
agreement with the former owners of the Predecessor Company.
Litigation:
The United States Court of Appeals for the Fifth Circuit has upheld
summary judgment in favor of the Company's insurance companies with regard to
environmental remediation expenses at the Visalia, California, manufacturing
site previously operated by a predecessor to the Company. The Company has
elected not to appeal to the United States Supreme Court and, therefore, is not
entitled to additional recovery from its insurance carriers with respect to
this site.
The Company has settled its claims against its excess insurer for
reimbursement of environmental remediation expenses at its former manufacturing
facility in Wilmington, North Carolina, in exchange for a payment by its excess
insurer of $3,000,000 which was received by the Company in February 1998. The
Company has filed a lawsuit against its insurers in connection with its
environmental clean up expenses at its Scottsboro, Alabama, manufacturing
facility, and trial has been scheduled for June 1998. The Company has settled
its claim against one defendant insurance company in exchange for its payment
to the Company of $400,000 which was received by the Company in February 1998.
The Company's claims against the other insurance companies remain intact.
Insurance settlements are subject to the indemnification agreement;
accordingly, the settlement payments have not been included in the Company's
earnings.
The Company is involved in various lawsuits in the ordinary course of
business. These lawsuits primarily involve claims for damages arising out of
the use of the Company's products. The Company is also involved in litigation
and administrative proceedings involving employment matters and commercial
disputes. Some of these lawsuits include claims for punitive as well as
compensatory damages. The Company is insured for product liability claims for
amounts in excess of established deductibles and accrues for the estimated
liability on a case-by-case basis up to the limits of the deductibles. All
other claims and lawsuits are also handled on a case-by-case basis.
The Company does not believe that the potential liability from the
ultimate outcome of environmental, income tax and litigation matters will have
a material adverse effect on the Company.
8
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Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
Results of Operations:
The Company's period end is the closest Saturday to the end of the month.
For clarity in presentation all periods presented herein are shown to end on
the last calendar day of the month. Unless otherwise indicated, all references
to years are to the Company's fiscal year ending on the closest Saturday to
the end of June.
Net Sales
Consolidated net sales were $230.9 million and $709.4 million for the
quarter and nine months ended March 31, 1998, respectively. This represents an
increase in net sales, as compared to the comparable periods in the prior year,
of $3.4 million or 1.5% for the third quarter and $23.0 million or 3.4% for the
nine months ended March 31, 1998. The following table presents the Company's
revenues by business segment.
(dollars in thousands)
<TABLE>
<CAPTION>
Quarter ended Nine months ended
------------------------- ---------------------------
March 31, March 31, March 31, March 31,
1998 1997 1998 1997
-------- -------- --------- ---------
<S> <C> <C> <C> <C>
Net sales:
Commercial Air
Conditioning and
Refrigeration .......... $ 148,100 $ 143,021 $ 450,354 $ 431,605
Filtration Products ...... 86,544 88,788 268,489 266,836
Eliminations/other ....... (3,762) (4,368) (9,455) (12,089)
---------- ---------- ---------- ----------
Total .................. $ 230,882 $ 227,441 $ 709,388 $ 686,352
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
Commercial Air Conditioning and Refrigeration net sales increased $5.1
million or 3.6% and $18.7 million or 4.3% for the quarter and nine month
period ended March 31, 1998, respectively, as compared to the comparable 1997
periods. This net sales growth was achieved despite the sale of the industrial
fan business in October of 1997 which contributed net sales of $4.7 million and
$7.2 million for the third quarter and nine month period ended March 31, 1997.
Domestic net sales increased 3.5% for the third quarter and 3.1% for the nine
month period ended March 31, 1998 as compared to the comparable periods in the
prior year. Applied air handling net sales increased 19.2% and 11.7% for the
third quarter and nine month period ended March 31, 1998 versus the comparable
periods in the prior year. Market demand for both the air handling rooftop
products and new air handling products continued to grow with net sales
increasing $2.9 million for the third quarter and $7.7 million for the nine
months ended March 31, 1998, respectively, versus the comparable periods ended
March 31, 1997. Terminal products net sales increased 11.8% in the third
quarter of 1998 and 2.2% for the nine months ended March 31, 1998 due to
increased prices and market demand as compared to the comparable periods in
the prior year. The sales office established by the Company in the first
quarter contributed $1.9 million and $6.0 million in net sales during the third
quarter and nine month period ended March 31, 1998. Chiller net sales
increased slightly for the third quarter of 1998 and 2.2% for the nine month
period ended March 31, 1998 versus the comparable periods in the prior year as
demand for the dual screw chiller products continued, offset by reduced exports
to the Asian market during the third quarter of 1998. The majority of the
Commercial Air Conditioning and Refrigeration segment's exports to the Asian
market are Chiller products. Accordingly, the Company expects net sales to the
Asian market to slow as a result of the weak economic conditions being
experienced in the region. International net sales for the Commercial Air
Conditioning and Refrigeration segment increased slightly for the third quarter
and 6.1% for the nine month period ended March 31, 1998 as compared to the
comparable periods in the prior year. For the third quarter, net sales
increases in the refrigeration business were offset by decreased net sales in
France resulting from non-recurring projects in 1997 and an unfavorable
currency translation of $1.5 million. Two large refrigeration contracts in the
first quarter, strong chiller sales in the UK and Italy and increased market
demand in the Middle East combined to increase net sales for the nine month
period ended March 31, 1998 versus the comparable period ended March 31, 1997
despite an unfavorable currency translation of $6.6 million for the
9
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nine month period. Backlog for the Commercial Air Conditioning and
Refrigeration segment was $145.7 million at the end of the third quarter of
1998 as compared to $150.1 million and $152.9 million at the end of the third
quarter and year end of 1997, respectively, as restated to exclude the
industrial fan business.
Filtration Products net sales decreased $2.3 million or 2.5% for the third
quarter compared to the third quarter of the prior year while net sales for the
nine month period ended March 31, 1998 increased slightly versus the nine month
period ended March 31, 1997. Domestic net sales decreased 9.7% and 7.2% for
the third quarter and nine month period ended March 31, 1998, respectively, as
compared to the comparable periods in the prior year. The decrease in domestic
net sales for the third quarter and nine month period ended March 31, 1998
versus the comparable periods in 1997 was the result of an overall weak clean
room filter market, the loss of market share in the transportation unit and the
relative flatness in the filter retail markets. Additionally, soft market
conditions resulting in lower net sales in environmental products contributed
to the decrease. International net sales in the Filtration Products segment
increased 4.7% and 8.9% for the third quarter and nine month period ended March
31, 1998, respectively, versus the comparable periods in the prior year despite
unfavorable currency translation of $3.4 million and $12.7 million,
respectively. European net sales increases of 17.0% and 10.4% for the third
quarter and nine month period ended March 31, 1998 as compared to the
comparable periods in the prior year are attributable to increased market
demand and the acquisition of an engineering company in the third quarter of
1997. Asian net sales decreased for the third quarter as weak economic
conditions in the Asian market continue. For the nine month period ended
March 31, 1998, net sales increased versus the comparable period in 1997
resulting from strong sales in the first half of the year. Due to the weak
economic conditions in the Asian market, management believes that the lower
sales activity in the Asian market will continue throughout the year.
Gross Profit
Consolidated gross margins decreased to 26.8% from 27.6% as a percentage
of net sales for the third quarter of 1998 versus the third quarter of 1997.
For the nine month period ended March 31, 1998, consolidated gross margin was
relatively flat compared to the prior year at 26.9%. In the Commercial Air
Conditioning and Refrigeration segment, gross margin as a percentage of net
sales remained flat for the third quarter and increased 0.9 percentage points
for the nine month period ended March 31, 1998 as compared to the comparable
periods in the prior year. Gains in the gross margin percentage as a
percentage of net sales resulted from increased prices in the chiller and
terminal products markets, increased sales volume from new air handling
products and product mix in the terminal products market. In the Filtration
Products segment, product mix and pricing strategies aimed at gaining market
share in the air filtration and environmental product lines contributed to
decreases of 1.1 percentage points and 1.3 percentage points for the third
quarter and nine month period ended March 31, 1998, respectively, as compared
to the comparable periods in the prior year.
Operating Expenses
Operating expenses were $53.8 million or 23.3% of net sales for the third
quarter of 1998 versus $53.3 million or 23.4% of net sales for the third
quarter of 1997. For the nine months ended March 31, 1998, operating expenses
were $168.4 million or 23.7% of net sales versus $158.5 million or 23.1% of net
sales for the comparable period in the prior year. Operating expense increases
are primarily attributable to acquisitions made in the second half of 1997
which were partially offset by the sale of the industrial fan business in the
second quarter of 1998. General and administrative expenses have increased due
to information technology costs associated with upgrading software systems to
improve business performance and expenses related to the stock option plan.
Increases in selling and warranty expenses resulting from increased volume in
the Commercial Air Conditioning and Refrigeration segment were partially offset
by Company wide spending control measures. The Company remains committed to
strategic initiatives to enhance its position in the global market and
continues to incur expenses related to these initiatives.
Income from Operations
Income from operations was $8.1 million or 3.5% of net sales and $9.4
million or 4.1% of net sales for the third quarters of 1998 and 1997,
respectively. For the nine months ended March 31, 1998 and March 31, 1997,
income from operations was $22.4 million or 3.2% of net sales versus $27.1
million or 3.9% of net
10
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sales, respectively. The Commercial Air Conditioning and Refrigeration segment
had a decrease in income from operations for the third quarter and a slight
increase in income from operations for the nine month period ended
March 31, 1998 as compared to the comparable periods in the prior year.
The Filtration Products segment had an increase in income from operations
during the third quarter of 1998, as compared to the same period in
1997, however, had a decrease for the nine month period ended March 31, 1998
versus the nine month period ended March 31, 1997.
Net Interest Expenses and Other (Income) Expense
Net interest expense was $6.1 million and $19.3 million during the third
quarter and nine months ended March 31, 1998, a decrease of $0.1 million and
$0.3 million, respectively, as compared to the comparable periods in the prior
year. The decrease in interest expense results from reduced borrowing levels
for 1998. Net other expense was not material in the third quarters of 1998 and
1997. Net other income was $7.2 million for the nine month period ended March
31, 1998 versus net other expense of $0.5 million for the nine month period
ended March 31, 1997. This increase is primarily attributable to the gain on
the sale of the industrial fan business in the second quarter of 1998 and
includes income from equity affiliates throughout the year.
Other Matters
On March 31, 1998, the union contract at the Reed facility in Louisville,
Kentucky expired and at midnight the workers went on strike. The Company has
issued a Workers Adjustment and Retraining Notification Act (WARN) notice
letter to the union stating that the Company has tentatively decided to close
permanently the Reed facility beginning June 26, 1998, due to unforeseen
business circumstances, which involve the unexpected work stoppage and adverse
economic conditions. The Company is continuing negotiations with the union and
exploring other strategic alternatives. The effect on the Company's financial
statements is uncertain due to factors such as the length of the work stoppage.
Liquidity and Capital Resources
The Company's liquidity needs are provided by cash generated from
operating activities and supplemented when necessary by short-term credit
facilities. During the first nine months of 1998, funds provided by operating
activities were $26.5 million as compared to $16.9 million in the prior year
for the comparable period. The increase in cash provided by operating
activities for the first nine months of 1998 reflects slightly higher net
income and lower working capital requirements which are largely due to the sale
of the net assets of the Company's industrial fan business which was completed
in October 1997. During the first nine months of 1998, the Company expended
approximately $9.4 million on improving its information technology systems
which represents nearly 54% of the $17.3 million in capital expenditures.
Favorable cash flow during the nine months ended March 31, 1998 combined with
the net proceeds from the asset sale resulted in debt obligations being reduced
by $26.8 million which comprises cash used by financing activities.
During the first quarter of 1998, the Company amended its bank credit
facility to restate certain financial covenants. In addition, the revolving
credit portion of the bank credit facility was reduced from $100 million to $80
million. At the end of the third quarter of 1998, the Company had
approximately $57 million in additional borrowing capacity under the amended
revolving credit facility.
During 1997, the Company entered into an agreement to sell the net assets
of the industrial fan business. The sale transaction was completed during the
second quarter of 1998 with the proceeds used to reduce debt. The Company does
not believe that the sale of the industrial fan business will have a material
effect on the Company's future financial results. On an ongoing basis the
Company strives to evaluate its various businesses and product lines with the
objective to enhance shareholder value. Consistent with this strategy, the
Company intends to pursue global business opportunities that are synergistic
with the Company's core businesses or exit low value added or non-synergistic
operations.
Management believes, based upon current levels of operations and
forecasted earnings, that cash flow from operations, together with borrowing
capacity available under the bank credit facility, will be adequate to make
payments of principal and interest on debt, to permit anticipated capital
expenditures and to fund
11
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working capital requirements and other cash needs for the forseeable future.
Nevertheless, the Company expects to remain leveraged to a significant extent
and expects its debt service obligations to continue to be substantial. If the
Company's sources of funds were to fail to satisfy the Company's requirements,
the Company may need to amend or refinance its existing debt or obtain
additional financing. There is no assurance that any such new financing
alternatives would be available, and, in any case, such new financing
(if available) would be expected to be more costly and burdensome
than the debt agreements currently in place.
Forward-Looking Statements
When used in this report by management of the Company, from time to time,
the words "believes," "anticipates," and "expects" and similar
expressions are intended to identify forward-looking statements that involve
certain risks and uncertainties. A variety of factors could cause actual
results to differ materially from those anticipated in the Company's forward-
looking statements, some of which include risk factors previously discussed
in this and other SEC reports filed by the Company. These risk factors
include, however are not limited to, general economic conditions, environmental
laws and regulations, the weakening Asian markets, unforeseen competitive
pressures, warranty expenses and market acceptance of new products. Readers
are cautioned not to place undue reliance on these forward-looking statements,
which speak only as of the date thereof. The Company undertakes no obligation
to publicly release the results of any events or circumstances after the date
hereof to reflect the occurrence of unanticipated events.
12
<PAGE>
PART II: OTHER INFORMATION
Item 1. Legal Proceedings
On January 29, 1997, the Company instituted an action before the American
Arbitration Association in Dallas, Texas, to enforce the Company's rights to
indemnification of all its claimed losses. On January 26, 1998, the arbitration
panel issued its ruling which, among other things, limited the right of the
Company to recover certain environmental losses. The panel held that the
Company is entitled to include as indemnified losses only those remediation
and related expenses paid on or before May 2, 1999.
The United States Court of Appeals for the Fifth Circuit has upheld
summary judgment in favor of the Company's insurance companies with regard to
environmental remediation expenses at the Visalia, California, manufacturing
site previously operated by a predecessor to the Company. The Company has
elected not to appeal to the United States Supreme Court and, therefore, is not
entitled to additional recovery from its insurance carriers with respect to
this site.
The Company has settled its claims against its excess insurer for
reimbursement of environmental remediation expenses at its former manufacturing
facility in Wilmington, North Carolina, in exchange for a payment by its excess
insurer of $3,000,000 which was received by the Company in February 1998. The
Company has filed a lawsuit against its insurers in connection with its
environmental clean up expenses at its Scottsboro, Alabama, manufacturing
facility, and trial has been scheduled for June 1998. The Company has settled
its claim against one defendant insurance company in exchange for its payment
to the Company of $400,000 which was received by the Company in February 1998.
The Company's claims against the other insurance companies remain intact.
Insurance settlements are subject to the indemnification agreement.
On March 31, 1998, the union contract at the Reed facility in Louisville,
Kentucky expired and at midnight the workers went on strike. The Company has
issued a Workers Adjustment and Retraining Notification Act (WARN) notice
letter to the union stating that the Company has tentatively decided to close
permanently the Reed facility beginning June 26, 1998, due to unforeseen
business circumstances, which involve the unexpected work stoppage and adverse
economic conditions. The Company is continuing negotiations with the union and
exploring other strategic alternatives. The effect on the Company's financial
statements is uncertain due to factors such as the length of the work stoppage.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
--------
Number Description
-------- -----------
Exhibit 27 Financial Data Schedule (filed herewith)
(b) Reports on Form 8-K
--------------------
There were no reports filed on Form 8-K during the period.
13
<PAGE>
SIGNATURES
- ----------
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.
AAF-MCQUAY INC.
DATE May 12, 1998 By: /S/ ANDREW R. MORRISON
------------ ------------------------
Andrew R. Morrison
Chief Financial Officer
DATE May 12, 1998 /S/ BRUCE D. KRUEGER
------------ ------------------------
Bruce D. Krueger
Controller
(Principal Accounting Officer)
14
<PAGE>
Exhibit Index
Number Description
------ -----------
27 Financial Data Schedule
15
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
COMPANY'S CONSOLIDATED FINANCIAL STATEMENTS INCLUDED IN THE COMPANY'S FORM 10-Q
FOR THE YEAR-TO-DATE AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> JUN-27-1998
<PERIOD-END> MAR-28-1998
<CASH> 10156
<SECURITIES> 0
<RECEIVABLES> 228462
<ALLOWANCES> 7232
<INVENTORY> 125793
<CURRENT-ASSETS> 363534
<PP&E> 194692
<DEPRECIATION> 46090
<TOTAL-ASSETS> 787393
<CURRENT-LIABILITIES> 272864
<BONDS> 198836
0
0
<COMMON> 250
<OTHER-SE> 207756
<TOTAL-LIABILITY-AND-EQUITY> 787393
<SALES> 709388
<TOTAL-REVENUES> 709388
<CGS> 518610
<TOTAL-COSTS> 518610
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 19279
<INCOME-PRETAX> 10276
<INCOME-TAX> 4622
<INCOME-CONTINUING> 5397
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 5397
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
</TABLE>
