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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from __________ to __________
Commission file number 333-2600
ALVEY SYSTEMS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
Delaware 43-0157210
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER
OF INCORPORATION OR IDENTIFICATION NUMBER)
ORGANIZATION)
9301 Olive Blvd.
St. Louis, Missouri 63132
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (314) 993-4700
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
None None
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: NONE
INDICATE BY CHECK MARK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS
REQUIRED TO BE FILED BY SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934 DURING THE PRECEDING 12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE
REGISTRANT WAS REQUIRED TO FILE SUCH REPORTS), AND (2) HAS BEEN SUBJECT TO
SUCH FILING REQUIREMENTS FOR THE PAST 90 DAYS. YES /X/ NO
INDICATE BY CHECK MARK IF DISCLOSURE OF DELINQUENT FILERS PURSUANT TO
ITEM 405 OF REGULATION S-K (229.405 OF THIS CHAPTER) IS NOT CONTAINED HEREIN,
AND WILL NOT BE CONTAINED, TO THE BEST OF REGISTRANT'S KNOWLEDGE, IN
DEFINITIVE PROXY OR INFORMATION STATEMENTS INCORPORATED BY REFERENCE IN PART
III OF THIS FORM 10-K OR ANY AMENDMENT TO THIS FORM 10-K. /X/
The aggregate market value of the voting stock held by non-affiliates of
the Registrant is zero as all of the outstanding shares of the Company's
Common Stock, $0.01 par value per share (the "Common Stock"), are held by
Pinnacle Automation, Inc., a Delaware corporation.
The number of shares of Common Stock outstanding on March 26, 1999 was
1,000 shares.
DOCUMENTS INCORPORATED BY REFERENCE
None
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PART I.......................................................................1
ITEM 1. BUSINESS.....................................................1
ITEM 2. PROPERTIES...................................................8
ITEM 3. LEGAL PROCEEDINGS............................................8
ITEM 4. SUBMISSION OF MATTERS TO
A VOTE OF SECURITY HOLDERS.................................9
PART II......................................................................9
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
AND RELATED STOCKHOLDER MATTERS............................9
ITEM 6. SELECTED FINANCIAL DATA......................................9
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF
OPERATIONS................................................12
ITEM 8. FINANCIAL STATEMENTS AND
SUPPLEMENTARY DATA........................................21
ITEM 9. CHANGE IN AND DISAGREEMENTS WITH
ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE ...............................................22
PART III................................................................... 22
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS
OF THE REGISTRANT..........................................22
ITEM 11. EXECUTIVE COMPENSATION......................................25
ITEM 12. SECURITY OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS AND MANAGEMENT...........................27
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED
TRANSACTIONS..............................................28
PART IV ...................................................................30
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES,
AND REPORTS ON FORM 8-K...................................30
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PART I
ITEM 1. BUSINESS
OVERVIEW
Alvey Systems, Inc., a Delaware corporation ("Alvey", or the "Company")
and a wholly-owned subsidiary of Pinnacle Automation, Inc., a Delaware
corporation ("Pinnacle"), together with its three operating subsidiaries, is
a leading provider of automated materials handling systems for manufacturing
plants, warehouses and distribution centers. The Company's proprietary
systems combine palletizers, depalletizers, conveyors, carousels, sorters and
other equipment manufactured by the Company with advanced software and
controls designed by the Company. These horizontally integrated systems
automate the physical acts of loading, unloading, sorting and transporting
materials and, in addition, collect data, analyze information and provide
real-time feedback on equipment and systems performance and materials
processing. Approximately 52% of the Company's net sales in 1998 were derived
from the manufacture and sale of equipment. The other 48% of revenues were a
result of system and product service, including engineering, after-market
support, resale of purchased products, system installation and system
integration.
The Company's sales have increased from $138.8 million in 1993 to $299.7
million in 1998, while earnings before interest, taxes, depreciation and
amortization ("EBITDA") increased from $9.2 million to $24.6 million over the
same period. At December 31, 1998, the Company's backlog was $99.4 million.
The principal factors contributing to the growth in sales and improvement in
operating performance include the development of new systems, management
initiatives to increase revenues and reduce costs and acquisitions of
complementary businesses.
Alvey operates directly with and through three other operating
companies: (i) The Buschman Company, located in Cincinnati, Ohio and acquired
by Alvey in October 1992 ("Buschman"); (ii) White Systems, Inc., located in
Kenilworth, New Jersey and acquired by Alvey in December 1993 ("White") and
(iii) Real Time Solutions, Inc., located in Napa, California and acquired by
Alvey in December 1996 ("RTS"). On October 27, 1998, Alvey's former wholly
owned subsidiary, McHugh Software International, Inc. ("McHugh"), was
spun-off from Alvey to Pinnacle and from Pinnacle to its common stockholders
(the "Spin-Off"). In addition, the decision was made to divest Busse in 1998.
(See Note 4 to the Consolidated Financial Statements.) Accordingly, McHugh
and Busse are treated as divested operations for purposes of this report and
are not incorporated as part of the Company except as discussed under
Divested Operations in the Business Section of this document. The Company's
executive offices are located at 9301 Olive Boulevard, St. Louis, Missouri
63132, and its phone number is (314) 993-4700.
BUSINESS GOALS AND STRATEGIES
The Company's goal is to build on its position as a leading provider of
materials handling systems and related services. To achieve this goal, the
Company intends to pursue the following strategies:
- AGGRESSIVE GROWTH IN CORE MARKETS THROUGH ACQUISITIONS. Alvey will
consider attractive acquisition opportunities within the materials handling
industry, which remains highly fragmented. The industry includes a
significant percentage of small- to medium-sized equipment manufacturers
focusing on highly specific market niches. The Company intends to expand its
core markets by making selective acquisitions of niche players in the
industry. Selective acquisitions in the Company's core markets could increase
its system capabilities as well as broaden its geographic coverage. With a
solid capitalization and strong equity sponsorship, the Company is in a
position to capitalize on the continuing consolidation of the materials
handling industry.
- SALES FOCUS ON OPEN SYSTEMS INCLUDING BEST-OF-BREED
COMPONENTS AND EXTENSIVE SOFTWARE COMPATIBILITY. After completion of the
Spin-Off, the Company's marketing efforts are no longer constrained by
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the need to sell McHugh's software products in conjunction with the Company's
integrated systems solutions. Instead, the Company offers customers systems
that are compatible with a full menu of software solutions designed by
various independent software firms. The Company intends to assemble and
provide systems that incorporate the best available solution for the project.
These include equipment and controls manufactured by the Company, management
information software applications designed by independent software firms, and
in some cases, certain other components manufactured by outside firms and
resold by the Company.
- MARGIN ENHANCEMENT ON EXISTING PRODUCTS. The Company intends to
continue to improve gross margins by consolidating certain manufacturing
facilities, reducing production cycle times, redesigning and standardizing
product lines, eliminating redundant support services, reducing marketing
costs by identifying synergies between product lines and emphasizing the sale
of high value-added products.
- MANAGEMENT FOCUS ON CORE MARKETS. With the completion of the Spin-Off,
the Company can now better focus management's time and the Company's
resources on the remaining business, particularly, in consumer products and
distribution logistics. Prior to the Spin-Off, significant operating issues
relating to McHugh diverted considerable executive time and investment away
from the remainder of the Company. Without the responsibility for McHugh,
management is now better able to devote its full time efforts to increasing
efficiencies, enhancing market share and product development in the consumer
products and distribution logistics markets.
PRODUCTS AND SERVICES
The Company believes that each of its operating entities is a leading
supplier in its principal markets. Primary operating entities are described
below, along with a description of integrated systems that the Company has
implemented, engineering and support services which the Company provides and
the Company's Customer One Protection Program.
OPERATING ENTITIES
ALVEY SYSTEMS, INC.: Alvey manufactures and sells material flow systems
comprised of conventional and robotic case palletizers and depalletizers,
case and pallet conveyors, related custom products and software and controls.
Alvey distributes these products through an international network of direct
sales personnel and independent representatives. Palletizers are large
machines, operated by programmable controls, that receive packaged products
(typically case goods) from a conveyor delivery system and deliver them to a
pallet conveyor "take away" system. The palletizer sequentially arranges
individual packages and groups them into rows and layers to form
predetermined patterns which are stacked onto a pallet or into a unit load,
producing a stable cube for efficient handling and shipping. Depalletizers
unload palletized products for further handling in the distribution process.
Conveyor systems are used to move products from one location to another and
can be designed to sort, feed or perform a number of different applications.
Alvey primarily serves the consumer products segment of the materials
handling market that focuses on manufacturers of food, beverages, paper,
soap, electronic and other consumer product.
THE BUSCHMAN COMPANY: Buschman manufactures and sells a broad range of case
conveyors, controls, related products and software which are sold to end users
through (i) its direct sales force, (ii) independent distributors and systems
integrators and (iii) Alvey's and White's sales forces. Buschman sells standard
conveyor and sortation products and modified conveyor equipment as well as
high-speed sortation systems, controls, outside-purchased subsystems (such as
bar code scanners), engineering and/or installation services. In addition,
Buschman sells materials flow systems for warehouses and distribution centers
which are more complex in design, include high-speed sortation and sophisticated
control software and involve engineering, project management and installation
services. These systems are often designed to customer and/or consultant
specifications through Buschman's "design and build" process. Buschman primarily
serves the warehouse and distribution systems markets that perform the logistics
operations required to deliver a finished product from a warehouse or
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distribution center to a retail store. Buschman also provides case conveyors
used in systems sold both by Alvey and White (to the extent the conveyors
used in such Alvey systems are not directly manufactured by Alvey).
REAL TIME SOLUTIONS: RTS designs and sells paperless inventory picking
systems to end users through (i) its direct sales force and (ii) Buschman's
and White's sales forces. Paperless picking systems are used to facilitate
the retrieval (picking) and storage (putting) of inventory in warehouses and
distribution centers. Inventory quantities and information are updated
immediately upon input of completed transactions. RTS believes its systems
eliminate the need for paper picklists, increase the productivity of a
customer's work force and improve a customer's control over its inventory.
RTS markets its products under the trade names EASYpick-TM-, EASYput,
EASYpick-DMS and SORTpro. EASYpick, RTS's order-filling system and software
(known as a "pick-to-light system"), is currently installed in over 185 sites
and is its leading product. EASYput addresses the growing market for
put-to-light systems and EASYpick-DMS, a warehouse control software, enables
customers without sophisticated warehouse management systems to more easily
install automated systems, such as pick-to-light. Many of RTS's current
customers are also customers of Buschman and White.
WHITE SYSTEMS, INC.: White manufactures a broad line of horizontal and
vertical carousels, power columns and related software and controls and sells
such products through both its direct sales force and a national dealer
network. Horizontal carousels are rotating storage devices that store and
move parts to the point of need, whether an operator workstation, an
automated inserter/extractor or another robotic interface device. Vertical
carousels are similar to horizontal carousels except that the carousel
travels in a vertical plane, like a ferris wheel. The power column for these
carousels is a modular automated vertical lift device within which an
inserter/extractor retrieves trays from internal shelving and delivers them
to an accessible location. White also manufactures a heavy-duty pallet
moveable aisle system for warehousing applications which utilizes a
customer's existing pallets or racking. White serves the warehouse and
distribution systems markets, and, in addition, its storage and retrieval
products are used in a broad range of manufacturing applications.
INTEGRATED SYSTEMS
For integrated systems, where the products and expertise of the
Company's subsidiaries are combined, a conveyor is typically the linkage that
permits the movement of products through the manufacturing line or
distribution system and software is the enabler that drives the entire system
and provides needed information. The Company's systems typically include
significant design and engineering work and turnkey installation services.
Examples of some of the most common integrated systems sold by the Company
include:
CONSUMER PRODUCT MANUFACTURING LINES: Systems used by beverage
manufacturers including Coca-Cola, food manufacturers such as Con Agra and
consumer product manufacturers such as Motorola. These systems could include
case palletizers, AEC (a division of Alvey) robotic palletizers, Buschman
conveyors and related software designed by Alvey or Buschman. Revenues per
system typically exceed $2 million and may reach $10 million.
WAREHOUSE AND DISTRIBUTION SYSTEMS: Systems used by retailers including
Sears, Target and Wal-Mart or by independent wholesalers or manufacturers in
conjunction with a consumer product manufacturing line. A typical system
could include Buschman and/or Alvey conveyors, White carousels and related
software designed by RTS, Alvey or Buschman. Revenues per system typically
exceed $2 million and may reach $15 million.
MEAT PRODUCTION SYSTEMS: Systems used by each of the four industry
leaders in meat production. These specialized distribution systems could
include Alvey case palletizers and depalletizers, Buschman conveyors, White
carousels and related software designed by Alvey, McHugh or other third-party
providers. Such systems typically range in price from $10 million to $15
million. The Company's successful installation of a revolutionary frozen meat
distribution system for ConAgra's Monfort Beef division in 1994 is an example
of the opportunities available in integrated systems. After the development
and implementation of the integrated system for ConAgra, the Company received
orders for approximately $40 million of similar systems from ConAgra and
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other industry participants.
The company provides its customers comprehensive total solutions from
one single source by integrating (i) study group consulting services for
industry specific solutions that are "best practice"; (ii) proven
technologies and software expertise for the integration of material and
information flow; and (iii) flexible partnerships with its customers over the
life of their system. The first two of the integrated systems described above
are examples of horizontal (peer-to-peer) integrations, while the third is a
vertical (decision support-to-peer) integration.
ENGINEERING AND SUPPORT SERVICES
Approximately 48% of the Company's net sales result from product support
functions and non-manufactured products delivered in connection with sales of
the Company's equipment. Such revenues are generated from engineering,
after-market services, resale of purchased products and the integration and
installation of these products. The Company's sales process generally starts
with a consultation between Company engineers and a customer during which the
Company assesses the customer's specific materials handling needs and
identifies or designs a system consisting of the Company's equipment,
including related software and controls, specifically tailored to meet such
needs. The Company typically installs the system and works with the customer
to ensure the system performs to the customer's expectations. After the
system is operational, the Company continues to provide ongoing support and
maintenance and works with the customer in response to changes in the
customer's materials handling needs. These services are regularly provided to
the Company's customers, including through the value-added partnerships the
Company has formed with certain large customers. See "Customers."
CUSTOMER ONE PROTECTION.
As part of the support services described above, the Company provides
substantial ongoing support and maintenance for its installed base of
equipment and integrated systems through its Company-wide Customer One
Protection ("COP") program. The COP program provides the Company's customers
with comprehensive service and support, including 24-hour assistance by
phone, on-site service, user training, replacement parts, audits, software
support agreements, equipment remanufacture, maintenance programs and
equipment and systems upgrades. The COP program generated approximately $35.3
million of revenues in 1998 (or 11.8% of total net sales).
DIVESTED OPERATIONS
Following is a brief discussion of the operations that were divested or
for which a decision was made to divest in 1998 and, therefore, have not been
included in other discussion throughout this document.
MCHUGH SOFTWARE INTERNATIONAL, INC.: With and through its subsidiaries,
Weseley Software Development Corp. ("Weseley" or "WSDC"), Software
Architects, Inc. ("SAI") and Gagnon & Associates, Inc. ("Gagnon") McHugh
develops, markets and supports warehouse management software systems,
transportation management software and labor management and reporting
software for the logistics execution portion of the supply chain market. To
prevent future earnings constraints caused by high levels of investments in
product, system and market development with respect to McHugh, management
decided to separate McHugh from the Company through the spin-off of McHugh to
Pinnacle's stockholders. The spin-off was consummated on October 27, 1998.
(See Note 4 to the Consolidated Financial Statements.)
BUSSE BROS. INC.: Busse manufactures bulk palletizing and depalletizing
systems. Its bulk palletizers accumulate and arrange empty containers, such
as cans and bottles, for shipment to consumer product manufacturers, by
building layers of containers separated by plastic or paperboard sheets.
Busse's bulk depalletizers accept a pallet of containers and systematically
sweep each layer of containers off the pallet and onto conveyors that take
the containers into the production line. During 1998, Pinnacle decided to
divest Busse since it
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was determined that Busse was not strategically aligned with the supply chain
focus of the remainder of the business. (See Note 4 to the Consolidated
Financial Statements.)
INDUSTRY OVERVIEW
Management believes sales of automated material handling systems,
integration services and related after-market support in the United States
will exceed $18 billion in 1999 and will grow by 7% to 10% annually through
the year 2007, as a result of two principal trends. First, businesses are
increasingly driven to respond to the demands of their customers for faster,
more efficient and customized product delivery. This is becoming more
significant with the emergence of E-Commerce. Second, as competition in many
industries makes it increasingly difficult to achieve revenue growth,
businesses are focusing on minimizing logistics costs and invested capital as
they optimize their productivity and service level.
Frequent changes in consumer demands and buying trends offer new
opportunities for materials handling and information systems applications as
the need for a quick response to satisfy consumer needs is heightened. Trends
such as third-party distribution, point-of-sale ordering, mixed-load
shipments and more frequent, smaller-quantity deliveries create new
opportunities while enhancing the need for advanced software and integrated
systems. Similarly, changes in packaging shapes and the elimination of
secondary packaging create new challenges for manufacturers and distributors
alike. The Company believes that the need to increase employee productivity,
improve worker safety, improve margins and meet customer demands are factors
which lead manufacturers and distributors to upgrade and replace their
existing materials handling equipment.
The materials handling industry is highly fragmented with many small,
single-product companies providing storage, transportation, software and
other products and services. Customers increasingly seek to satisfy their
materials handling requirements through fully integrated solutions consisting
of the equipment necessary to load, unload, sort and transport raw materials
and finished products, as well as related software and controls to monitor,
optimize and execute the movement and shipment of products. Companies that
are able to provide complex, integrated systems to satisfy materials handling
and logistics management requirements are experiencing new growth
opportunities, and the Company believes that its broad range of products and
services provides it with a distinct competitive position.
CUSTOMERS
The Company's systems and product leadership have resulted in sales to a
diverse customer base which includes many of the largest U. S. corporations.
In addition, the Company has successfully forged important value-added
partnerships with customers such as Anheuser-Busch, ConAgra, Staples,
McKesson, Target and Wal-Mart. Many of the Company's customers have reduced
their engineering staffs and consequently look to the Company for design and
engineering services with respect to their materials handling requirements.
The Company has a large installed base of equipment and systems with these
customers which provides reference sites that are critical for attracting
potential new customers. The Company believes that its value-added
partnerships are a significant competitive advantage as they serve as sources
of new product ideas, generate ongoing, relatively high-margin sales and
demonstrate proven systems capabilities to potential new customers. The
Company expects to create additional value-added relationships as it extends
its product offerings and installs new, integrated systems that can serve as
additional reference sites. Each of the customers listed below (which are
sorted by industry group) was one of the top 30 customers of one of the
Company's operating subsidiaries during the last three years. While the
Company may not currently have an active contract with each of the companies
listed below, management has no reason to believe that all of the companies
listed below will not continue to be customers in the future.
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<TABLE>
<S> <C> <C>
BREWING SOFT DRINKS GENERAL DISTRIBUTION/RETAIL
Anheuser-Busch Coca-Cola AAFES
Labatt Brewing Company Pepsi-Cola Avon
Miller Brewing Consolidated Stores
Dollar General
PAPER PRODUCTS CONSUMER PRODUCTS Dollar Tree
Fort James Char-Broil Family Dollar
Kimberly Clark Motorola Famous Footwear
Weyerhaeuser Russell Corp Footlocker
Procter & Gamble Footstar
J.C. Penney
FOOD Meijer
Campbell INDUSTRIAL DISTRIBUTION Michaels Stores
Con-Agra /MANUFACTURING Sears
Dean Foods Ball-Foster Glass Container Co. Staples
Farmland Canadian Tire Target Stores
Hershey Foods Chrysler Wal-Mart
Kellogg Intel
M&M Mars Kent Electronics
Nestle McKesson
Quaker Oats Thomas & Betts
Tropicana
</TABLE>
For the years ended December 31, 1998 and 1997, the Company's largest
customer accounted for 4.7% and 6.7% of total revenues, respectively. The
Company's ten largest customers represented 29.3% of total revenues in 1998,
down from 29.5% in 1997. The Company believes that it has excellent working
relationships with its customers. These relationships include proprietary
accounts where projects are generally awarded without a competitive bid
process and non-proprietary accounts where projects are typically awarded
through a bid process among two or three potential suppliers.
SALES AND DISTRIBUTION
The Company has developed strong domestic sales channels, with
approximately 75 direct salespeople and approximately 215 independent
distributors and independent manufacturer's representatives. This sales force
covers the entire United States, with especially strong coverage in the major
industrial centers. Management believes the Company has the strongest
combination of direct and independent sales networks in the materials
handling industry. Internationally, the Company utilizes both direct and
independent sales channels.
BACKLOG
The Company's backlog is based upon firm customer orders that are
supported by purchase orders, other contractual documents and cash payments.
As of December 31, 1998, the Company's backlog was $99.4 million. While the
level of backlog at any particular time may be an indication of future sales,
it is not necessarily indicative of the Company's future operating
performance. Additionally, certain backlog orders may be subject to
cancellation in certain circumstances. The Company believes that
substantially all of its orders in backlog at December 31, 1998 will be
recorded as revenue within one year.
RESEARCH AND DEVELOPMENT
Research and development efforts are the basis of the Company's product
and market leadership. By utilizing customer inputs, research with respect to
competitors and research with respect to externally available engineering to
establish future product needs, the Company focuses its research and
development on key customers and applications. Based on such data and
subsequent analysis, the Company establishes product plans that are
continually reviewed and updated. The Company incurred $2.0 million of
research and development
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expense in 1996, $3.1 million in 1997 and $4.6 million in 1998. In addition
to these research and development expenses, customers serve as a significant
funding source for other research and development efforts, with much of such
costs funded through customer contracts that focus on solving specific
problems or technical requirements. These contracts also provide the Company
with opportunities to enhance its competitive position without additional
capital investments.
INTELLECTUAL PROPERTY
The Company holds 32 active U.S. patents, 11 active foreign patents, 20
U.S. registered trademarks and 17 active foreign trademarks with 19 patent
applications and 10 trademark applications pending. In addition to its
extensive patent and trademark portfolio, the Company also licenses certain
intellectual property rights from third parties and utilizes a wide array of
unpatented proprietary engineering. The Company's U.S. patents have remaining
terms ranging from one to 16 years.
RAW MATERIALS AND COMPONENTS
The Company's principal raw materials and components purchased from
third parties are steel, electric motors and reducers. The Company minimizes
changing prices for these products by purchasing most of its requirements
through annual contracts. The Company does not rely on any single supplier
for these materials and believes it has the ability to quickly switch sources
for any of these materials should the need arise.
ENVIRONMENTAL MATTERS
The Company's operations are subject to a variety of federal, state and
local environmental laws and regulations which have become increasingly
stringent. The Company believes its current operations are in material
compliance with current environmental laws and regulations. However, the
scope of environmental laws is very broad and subject to change.
COMPETITION
The materials handling and related information systems industry is
highly fragmented and very competitive. The industry includes numerous small
to medium size suppliers who focus on specific market niches and/or singular
applications. The suppliers in this group generally do not offer systems or
integrated solutions, but instead offer individual kits, machines and
applications. Certain other competitors offer materials handling systems and
integrated solutions. Although the Company believes it is one of the leading
suppliers of integrated materials handling systems, many of the Company's
competitors are large and have significant financial, marketing and technical
resources. In addition, the Company may encounter competition from new market
entrants.
EMPLOYEES
As of December 31, 1998, the Company had approximately 1,700 employees,
approximately 650 of whom are engineers and other professional staff. The
Company is subject to collective bargaining at all of its manufacturing
facilities except the RTS, Alvey St. Peters and Alvey Corsicana facilities.
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ITEM 2. PROPERTIES
The Company occupies approximately 1,000,000 square feet of
manufacturing, assembly and office space. Its primary production and
engineering facilities are located in Cincinnati, Ohio; St. Louis, Missouri;
and Kenilworth, New Jersey. The Company's primary software development
facilities are located in Grand Rapids, Michigan and Napa, California. The
location, size and certain other data of each of the Company's significant
facilities are set forth below:
<TABLE>
<CAPTION>
OPERATING SIZE OWNED/
COMPANY LOCATION (SQ. FT.) LEASED LEASE EXPIRATION
- --------- ---------------------- --------- ------ ----------------
<S> <C> <C> <C> <C>
Alvey St. Louis, Missouri 250,000 Owned --
Alvey St. Peters, Missouri 82,000 Owned --
Alvey Corsicana, Texas 22,000 Leased December 2000
Buschman Cincinnati, Ohio 287,000 Owned --
Buschman Cincinnati, Ohio 86,000 Leased March 2000
RTS Napa, California 21,000 Leased July 2003
RTS Berkeley, California 9,000 Leased Monthly
White Kenilworth, New Jersey 202,000 Leased December 2006
</TABLE>
ITEM 3. LEGAL PROCEEDINGS
On January 13, 1998, Mitchell J. Weseley, former President and Chief
Executive Officer of WSDC, commenced an arbitration in Connecticut Superior
Court against WSDC alleging breach of contract and violation of the
Connecticut Unfair Trade Practices Act ("CUTPA"). On January 28, 1998, WSDC
filed counterclaims against Mr. Weseley principally alleging that he had
breached his contractual obligations and fiduciary duty to WSDC by soliciting
WSDC employees to resign from WSDC, by disparaging the management of Pinnacle
and McHugh and by breaching the terms of a covenant not to compete contained
in Mr. Weseley's employment contract. Arbitration proceedings concluded on
June 3, 1998 and on August 31, 1998, a decision was rendered in the
arbitration hearings in favor of Mr. Weseley. McHugh has resumed payments to
Mr. Weseley of his salary, bonus and benefits, of which future payments will
total approximately $2.2 million. The liability for such payments was
previously recorded in the restructuring accrual related to the McHugh
reorganization as discussed in Note 5 to the Consolidated Financial
Statements. Effective with the McHugh spin-off, such liability was recorded
at McHugh and is no longer included in the Company's financial statements.
Damages, if any, will be determined by the arbitrator either ex parte or as
part of a second hearing. To the extent such amounts paid pursuant to
judgements related to lawsuits with Mr. Weseley exceed $3.4 million, Alvey
has agreed to pay any such excess liability up to a maximum of $4.0 million,
and McHugh has agreed to deliver a promissory note evidencing McHugh's
obligation to repay Alvey any amounts so paid by Alvey.
On April 16, 1998, Mannesmann Dematic Rapistan Corp. ("Rapistan") filed
suit against Buschman in the United States District Court for the Western
District of Michigan alleging infringement of three Rapistan patents relating
to Buschman induction systems (the "Rapistan Dispute"). Rapistan was seeking
to permanently enjoin Buschman from infringing those patents and both
compensatory and treble damages. Related to Buschman's counterclaims and
affirmative defenses raised in this litigation, on June 5, 1998 the Company
filed a separate suit against Mannesmann Corporation ("Mannesmann") in the
United States District Court for the Southern District of New York on the
basis of the representations, warranties and disclosure obligations of
Mannesmann with respect to the patents subject to the Rapistan Dispute at the
time the Company acquired Buschman from Mannesmann in 1992. A settlement
agreement was executed between Alvey, Buschman, Mannesmann and Rapistan on
January 4, 1999. On January 27, 1999, the court formally entered an order of
dismissal of the Rapistan litigation.
In February 1999, the Chapter 7 Trustee for Foxmeyer Corporation,
Foxmeyer Drug Company, Healthcare Transportation System, Inc., Merchandise
Coordinator Services Corporation, Foxmeyer Software, Inc., and Health Mart,
Inc. (collectively, "Foxmeyer") filed suit against Buschman, White, Pinnacle,
Alvey and
8
<PAGE>
McHugh in the United States District Court for the District of Delaware
alleging fraud, negligence and breach of contract relating to conveyor,
carousel and warehouse management systems delivered and installed in
Foxmeyer's distribution warehouse at Washington Court House, Ohio. Only
McHugh and Buschman (with White as its subcontractor) had contracts with
Foxmeyer. The monetary relief sought by the Foxmeyer complaint is
unspecified; however compensatory and punitive damages are claimed. At this
time, the Company has not been served and therefore answers and affirmative
defenses have not been filed on behalf of the Company. Discovery has not
commenced and a trial date has not been set, but the Company intends to
contest the allegations made and vigorously defend the matter.
The Company is involved in various other legal proceedings arising in
the ordinary course of business. None of the matters in which the Company is
currently involved, either individually or in the aggregate, is expected to
have a material adverse effect on the Company's business, financial condition
or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Other than certain actions taken by Pinnacle as the sole stockholder of
the Company in connection with the spin-off of McHugh, no matters were
submitted to a vote of security holders during the fourth quarter of the
fiscal year ended December 31, 1998.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
There is no established public market for the Company's Common Stock.
All of the Company's Common Stock is held by Pinnacle.
ITEM 6. SELECTED FINANCIAL DATA
The selected historical consolidated financial data presented below at
and for the five years ended December 31, 1998 have been derived from Alvey's
historical Consolidated Financial Statements which have been audited by
PricewaterhouseCoopers LLP, independent accountants. Alvey's Consolidated
Financial Statements as of and for each of the three years ended December 31,
1998, 1997 and 1996 are included elsewhere in this Form 10-K. The results of
operations for McHugh, Busse and the loss on sale for one discontinued
product line at White are included in the table below as operating loss
(income) from divested operations.
The information below is qualified in its entirety by the detailed
information included elsewhere herein and should be read in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," the Consolidated Financial Statements and related Notes included
elsewhere in this Form 10-K.
9
<PAGE>
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------------------------------------
1998 1997 1996 1995 1994
----------- ----------- ----------- ----------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
RESULTS OF OPERATIONS (1):
Net sales..................................... $ 299,749 $ 287,669 $ 267,123 $ 231,453 $ 206,371
Cost of goods sold............................ 223,277 224,458 212,522 176,447 159,863
----------- ----------- ----------- ----------- -----------
Gross profit.............................. 76,472 63,211 54,601 55,006 46,508
Selling, general and administrative
expenses.................................... 51,654 47,296 46,716 43,487 36,394
Research and development expenses............. 4,614 3,058 2,029 1,759 1,834
Amortization expense.......................... 780 776 877 1,382 1,362
Operating loss (income) from divested
operations(2)............................... 12,934 (2,651) 9,574 (7,083) (4,323)
Write-off of goodwill(3)...................... -- -- 11,491 -- --
Restructuring expense(4)...................... -- 11,334 -- -- --
Write-off of purchased in-process research and
development costs(5)........................ -- -- 1,000 -- --
Other expense (income), net(6)................ (440) 60 1,425 50 2,126
----------- ----------- ----------- ----------- -----------
Operating income (loss)................... 6,930 3,338 (18,511) 15,411 9,115
Interest expense.............................. 12,478 13,756 12,301 6,896 5,921
Expenses associated with the spin-off of
McHugh(7)................................... 1,220 -- -- -- --
Discontinued public offering(8)............... -- 958 -- -- --
----------- ----------- ----------- ----------- -----------
Income (loss) before income taxes and
extraordinary item.......................... (6,768) (11,376) (30,812) 8,515 3,194
Income tax expense (benefit).................. 1,585 (4,057) (1,909) 4,109 1,516
----------- ----------- ----------- ----------- -----------
Income (loss) before extraordinary item....... (8,353) (7,319) (28,903) 4,406 1,678
Extraordinary item, net(9).................... 8,748 -- 1,993 -- --
----------- ----------- ----------- ----------- -----------
Net income (loss)........................... $ (17,101) $ (7,319) $ (30,896) $ 4,406 $ 1,678
----------- ----------- ----------- ----------- -----------
----------- ----------- ----------- ----------- -----------
Earnings per share(10).......................... -- -- -- -- --
</TABLE>
<TABLE>
<CAPTION>
AT DECEMBER 31,
---------------------------------------------------------------
1998 1997 1996 1995 1994
----------- ----------- ----------- ----------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
BALANCE SHEET DATA(1):
Working capital (deficit)(11)................. $ (13,173) $ (10,239) $ (7,475) $ (3,865) $ 6,945
Total assets(11).............................. 121,004 137,436 141,607 129,270 122,573
Long-term debt, less current maturities(11)... 76,696 106,758 100,493 42,405 54,607
Redeemable preferred stock(12)................ -- -- -- 27,322 23,435
Net investment of Parent(13).................. (47,082) (48,528) (41,129) (15,719) (16,332)
</TABLE>
10
<PAGE>
SELECTED CONSOLIDATED FINANCIAL DATA OF ALVEY
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------------------------------
1998 1997 1996 1995 1994
--------- --------- --------- --------- ---------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
OTHER CONSOLIDATED FINANCIAL DATA(1):
Depreciation expense(11)(14).......................... $ 3,917 $ 3,401 $ 3,337 $ 2,293 $ 2,418
Capital expenditures, net(11)(14)..................... 3,673 3,190 7,403 3,189 3,472
OTHER PERFORMANCE MEASURES (NON-GAAP)(15):
EBITDA(11)(16)........................................ 24,561 16,198 9,213 11,753 10,746
Ratio of EBITDA to cash interest expense(17)(18)...... 2.15 1.99 1.16 3.27 2.77
Ratio of long-term debt to EBITDA(18)................. 3.12 4.25 7.68 2.11 3.45
</TABLE>
(1) Results include various acquisitions from the date of such
acquisition, including RTS in 1996. Results of Weseley which was
acquired in 1996 and SAI and Gagnon which were acquired in 1998 are
included in operating loss (income) from divested operations from the
dates of acquisition.
(2) Amount represents the operating loss (income) of divested operations.
See Note 4 to the Consolidated Financial Statements.
(3) Amount represents the write-off of the remaining goodwill balance at
one subsidiary, which was considered to be impaired due to historical
losses and uncertainty regarding future income and cash flows.
(4) Amount reflects non-recurring restructuring charges as described in
Note 5 to the Consolidated Financial Statements.
(5) Amount relates to $1.0 million of the purchase price of RTS which was
allocated to purchased in-process research and development and
immediately expensed in the fourth quarter of 1996.
(6) Amount in fiscal 1996 includes a $1.4 million one-time charge for the
termination of a management agreement. Amount in fiscal 1994 includes the
payment of a one-time stay bonus in the amount of $2.2 million to an
executive of White in connection with the acquisition of White.
(7) Amount represents certain expenses incurred in connection with the
spin-off of McHugh. See Note 4 to the Consolidated Financial Statements.
(8) Amount reflects the write-off of legal and accounting costs associated
with a discontinued public offering as described in Note 5 to the
Consolidated Financial Statements.
(9) Amount reflects the write-off of unamortized deferred financing fees, net
of applicable income tax benefits, resulting from the early
extinguishment of debt during 1998 and 1996. Amount in 1998 also includes
a consent premium of $2.8 million, a premium related to the repurchase of
Senior Subordinated Notes of $2.3 million, the write-off of preferred
stock issuance costs related to stock that was exchanged of $659,000, all
net of applicable income taxes and all that were incurred in connection
with the spin-off of McHugh. See Notes 4, 8 and 9 to the Consolidated
Financial Statements.
(10) Given Alvey's historical organization and capital structure, earnings per
share information is not considered meaningful or relevant and therefore
has not been presented.
(11) Amounts exclude balances related to divested operations which pertain
to McHugh and Busse.
(12) Amount represents previously outstanding redeemable preferred stock of
Pinnacle. Due to the exchangeable feature of the preferred stock which
allowed the holder to exchange the preferred stock for subordinated notes
of Alvey, the preferred stock was pushed down to the financial statements
of Alvey at December 31, 1995 and 1994. Outstanding redeemable preferred
stock of Pinnacle at December 31, 1998, 1997 and 1996 has not been pushed
down to the financial statements of Alvey as it is not exchangeable into
debt of Alvey.
(13) Net investment of Parent represents the basis of Pinnacle's investment in
Alvey, which has been pushed down to the financial statements of Alvey,
and includes cumulative contributions of capital and cumulative losses
before extraordinary items, extraordinary items and aggregate
accreted/paid preferred stock dividends. The historical amount at
December 31, 1998 consists of cumulative contributions of capital to
Alvey by Pinnacle of $10.5 million, cumulative losses of $43.2 million,
including extraordinary items of $18.3 million, and an aggregate
accretion/payment of $14.3 million of paid-in-kind dividends on preferred
stock.
(14) Capital expenditures and related depreciation expense include amounts
related to investments in fixed assets and costs of software
11
<PAGE>
development. In 1996, this includes $659,000 related to the write-off of
capitalized software costs (See Note 2 to the Consolidated Financial
Statements).
(15) Other performance measures such as EBITDA (discussed further below)
should not be construed as an alternative to operating income or net
income calculated in accordance with generally accepted accounting
principles ("GAAP") or as an indicator of operating performance or
liquidity. However, the Company believes such non-GAAP performance
measures are commonly used to evaluate a company's ability to service
debt.
(16) EBITDA consists of earnings before interest, income taxes, extraordinary
items, divested operations and depreciation and amortization expense.
In 1998, EBITDA excluded $1.2 million of costs associated with the
spin-off of McHugh. (See Note 4 to the Consolidated Financial
Statements.) In 1997, EBITDA excluded $11.3 million of restructuring
charges and $958,000 of discontinued IPO costs. (See Note 5 to the
Consolidated Financial Statements .) In 1996, EBITDA excluded an $11.5
million write-off of goodwill, a $1.4 million one-time charge for the
termination of a management agreement which is included in "Other
expense (income), net" above and a $1.0 million one-time write-off of
purchased in-process research and development costs. In 1994, EBITDA
excluded a $2.2 million one-time payment of a stay bonus in connection
with the acquisition of White which is included in "Other expense
(income), net" above.
(17) For purposes of this computation, interest expense consists of interest
on indebtedness and does not include amortization of deferred financing
fees and other noncash charges to interest.
(18) For years prior to 1998, ratios are presented at historical ratios which
include the EBITDA of divested operations. Such ratios would not be
meaningful if calculated with adjusted EBITDA levels.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
When used in the following discussion, the words "believes", "anticipates"
and similar expressions are intended to identify forward-looking statements.
Such statements are subject to certain risks and uncertainties which could cause
actual results to differ materially from those projected. Readers are cautioned
not to place undue reliance on these forward-looking statements, which speak
only as of the date hereof. The Company undertakes no obligation to publicly
release the result of any revisions to these forward-looking statements which
may be made to reflect events or circumstances after the date hereof or to
reflect the occurrence of unanticipated events.
GENERAL OVERVIEW
The following discussion summarizes the significant factors affecting the
consolidated operating results and financial condition of the Company for the
three fiscal years in the period ended December 31, 1998.
Subsequent to the acquisition of Alvey by Pinnacle in August 1988, Alvey,
Pinnacle and their subsidiaries completed a succession of complementary
acquisitions which has resulted in expanded product lines and an ability to
provide integrated solutions in a wide range of manufacturing and distribution
applications. The Company believes that its emphasis on acquisitions of
companies serving either targeted markets or providing niche products has
enabled it to provide customers a single source for complete integrated
materials handling and information flow systems. Further, the Company believes
that it benefits from productivity and integration gains resulting from its
succession of complementary acquisitions combined with a strategy of integrating
the operations of each newly-acquired company with the operations of Alvey and
its other operating subsidiaries, which strategy is more fully described in the
following paragraph.
Shortly after acquiring each of its operating subsidiaries, management
reviewed each newly acquired subsidiary with respect to the possible integration
of operations with Alvey and its other operating subsidiaries in order to
improve operating efficiencies. As a result of such reviews, the Company has
initiated changes in the operating subsidiaries' production processes that are
targeted at the improvement of production efficiencies, the increase in facility
capacity and ultimately the reduction of product cost. Additionally, in recent
years, management has undertaken a number of programs targeted at reducing the
cost to produce a specific product by simplifying and standardizing components
and assemblies, thereby improving the productivity of the manufacturing process.
On October 27, 1998, McHugh was spun-off from Alvey to Pinnacle and from
Pinnacle to its common stockholders. In addition, the decision was made to
divest Busse in 1998. (See Note 4 to the Consolidated Financial Statements.)
The operating results of divested operations, including McHugh, Busse and the
loss from the disposition of a product line, are reflected in the Company's
consolidated statement of operations as operating loss (income) from divested
operations. Financial information of prior years has been reclassified to be
consistent with the current year with respect to divested operations.
12
<PAGE>
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, net sales and
categories of expenses, in thousands of dollars and as a percentage of net
sales.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------------------------
1998 1997 1996
----------------------- --------------------- --------------------
<S> <C> <C> <C> <C> <C> <C>
Net sales...................................... $299,749 100.0% $287,669 100.0% $267,123 100.0%
Cost of goods sold............................. 223,277 74.5 224,458 78.0 212,522 79.6
-------- ----- -------- ----- -------- -----
Gross profit................................... 76,472 25.5 63,211 22.0 54,601 20.4
Selling, general & administrative expenses..... 51,654 17.2 47,296 16.4 46,716 17.5
Research & development expenses................ 4,614 1.5 3,058 1.1 2,029 0.8
Amortization expense........................... 780 0.3 776 0.3 877 0.3
Operating loss (income) from divested
operations................................... 12,934 4.3 (2,651) (0.9) 9,574 3.6
Write-off of goodwill.......................... -- 0.0 -- 0.0 11,491 4.3
Restructuring expense.......................... -- 0.0 11,334 3.9 -- 0.0
Write-off of purchased in-process research &
development costs............................ -- 0.0 -- 0.0 1,000 0.4
Other expense (income), net.................... (440) (0.1) 60 0.0 1,425 0.5
-------- ----- -------- ----- -------- -----
Operating income (loss)........................ 6,930 2.3 3,338 1.2 (18,511) (7.0)
Interest expense............................... 12,478 4.2 13,756 4.8 12,301 4.6
Expenses associated with the spin-off of
McHugh....................................... 1,220 0.4 -- 0.0 -- 0.0
Discontinued public offering................... -- 0.0 958 0.3 -- 0.0
-------- ----- -------- ----- -------- -----
Loss before income taxes and extraordinary
item......................................... (6,768) (2.3) (11,376) (3.9) (30,812) (11.6)
Income tax expense (benefit)................... 1,585 0.5 (4,057) (1.4) (1,909) (0.7)
-------- ----- -------- ----- -------- -----
Loss before extraordinary item................. (8,353) (2.8) (7,319) (2.5) (28,903) (10.9)
Extraordinary item, net........................ 8,748 2.9 -- 0.0 1,993 0.7
-------- ----- -------- ----- -------- -----
Net loss....................................... $(17,101) (5.7)% $ (7,319) (2.5)% $(30,896) (11.6)%
-------- ----- -------- ----- -------- -----
-------- ----- -------- ----- -------- -----
</TABLE>
COMPARISON OF THE YEAR ENDED DECEMBER 31, 1998 TO THE YEAR ENDED DECEMBER 31,
1997
NET SALES were $299.7 million for the year ended December 31, 1998,
representing an increase of $12.1 million, or 4.2%, over net sales of $287.7
million for the year ended December 31, 1997. Volume levels for distribution
systems and paperless picking systems increased substantially, while sales of
palletizing systems and storage and retrieval systems decreased somewhat.
Volume increases were adversely affected by a four-week work stoppage at
Buschman during the third quarter of 1998.
New order bookings were $288.3 million for 1998, a decrease of $16.2
million or 5.3% from 1997. Decreases in palletizing systems bookings and
storage and retrieval systems bookings totaling $27.3 million were offset in
part by increases in distribution systems bookings and paperless picking
systems bookings. Lower booking levels for palletizing systems and storage
and retrieval systems generally reflect a lower level of customer demand
combined with the impacts of discontinuing a product line at White in 1998
and the discontinuance of certain product offerings in connection with the
1997 restructuring efforts.
Consolidated backlog at year-end 1998 decreased $16.1 million
compared to year-end 1997. Such decrease is primarily attributable to
decreased backlog levels for distribution and storage and retrieval systems,
offset in part by increases in the backlog of palletizing systems and
paperless picking systems. This year-over-year decrease reflects the overall
industry weakness experienced in the last half of 1998.
13
<PAGE>
GROSS PROFIT was $76.5 million in 1998, an increase of $13.3
million, or 21.0%, over $63.2 million of gross profit in 1997. Gross margins,
as a percentage of sales, increased to 25.5% from 22.0% in 1997. Gross profit
increases were particularly strong for distribution systems and storage and
retrieval systems which experienced increases of $6.3 million and $5.4
million, respectively. Such increases were primarily attributable to (i)
increased volume and productivity, (ii) the significant year-over-year
improvement in project execution virtually eliminating project overruns and
(iii) the absence of $2.2 million of asset write-down and related
non-recurring charges recorded in the second quarter of 1997. Gross profit
increases at Buschman were adversely affected by the impacts of a four-week
work stoppage, but continue to show substantial increases over 1997.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES were $51.7 million in
1998, representing an increase of $4.4 million, or 9.2%, over $47.3 million
of such expenses in 1997. As a percentage of sales, selling, general and
administrative (SG&A) expenses were 17.2% in 1998 as compared to 16.4% in
1997. This increase is primarily attributable to increased staffing,
primarily related to distribution systems where new direct sales offices have
been established to support current and future sales volumes, and incentives
reflecting improved performance.
RESEARCH AND DEVELOPMENT EXPENSES were $4.6 million for 1998,
representing an increase of $1.6 million, or 50.9%, compared to $3.1 million
in 1997. This increase is primarily the result of increased activities
related to the development of the next generation of sortation equipment and
systems development to automate various aspects of the order/production
cycle, both related to distribution systems.
OPERATING LOSS (INCOME) FROM DIVESTED OPERATIONS was a loss of $12.9
million in 1998 as compared to income of $2.7 million in 1997. This decrease
is primarily attributable to a loss on impaired assets at Busse of $3.2
million in the fourth quarter of 1998, a write-off of $2.8 million of
purchased research and development costs in the second quarter of 1998
related to the acquisitions of SAI and Gagnon and a $798,000 loss on a
discontinued product line recorded in the fourth quarter of 1998. These
one-time charges were combined with a lower level of high-margin license fee
revenues at McHugh in 1998, lower sales volumes at Busse in 1998, and
increasing SG&A and research and development costs to support McHugh's
growing infrastructure. Those impacts were partially offset by the absence in
1998 of $4.0 million of restructuring charges that were recorded in 1997.
(See explanation of restructuring costs below.)
RESTRUCTURING EXPENSE totaling $11.3 million was recorded in the
second quarter of 1997 as described in the comparison of the year ended
December 31, 1997 to the year ended December 31, 1996.
OTHER EXPENSE (INCOME), NET was income of $440,000 in 1998, compared
to expense of $60,000 in 1997. This improvement of $500,000 is almost
entirely attributable to income recognized from the proceeds of a life
insurance settlement in the first quarter of 1998.
OPERATING INCOME was $6.9 million in 1998, an increase of $3.6
million, or 108%, over $3.3 million in 1997. As a percentage of net sales,
operating income increased to 2.3% in 1998 from 1.2% in 1997. However,
excluding divested operations and $13.6 million of 1997 non-recurring charges
comprised of the restructuring charges of $11.3 million and $2.3 million of
asset write-down and other non-recurring charges, operating income increased
from $14.3 million in 1997 to $19.9 million in 1998, representing a 38.9%
increase. As a percentage of sales, operating income excluding non-recurring
charges and divested operations increased from 5.0% in 1997 to 6.6% in 1998.
The increase in operating income reflects the various factors described above.
INTEREST EXPENSE was $12.5 million in 1998 representing a decrease
of $1.3 million, or 9.3%, from $13.8 million in 1997. This decrease reflects
decreased average borrowings under the Company's credit facility, a decrease
in interest expense related to the Senior Subordinated Notes attributable to
the repurchase of $30.0 million of such Notes in November 1998 (See Note 8 to
the Consolidated Financial Statements) and a decrease in non-cash charges
related to the amortization of debt issuance costs attributable to the
refinancing in 1998 (See Note 8 to the Consolidated Financial Statements).
EXPENSES ASSOCIATED WITH THE SPIN-OFF OF MCHUGH were $1.2 million in
1998 compared to $0 in 1997. In the fourth quarter of 1998, legal, accounting
and other costs associated with the spin-off of McHugh were charged to income
when the spin-off occurred. (See Note 4 to the Consolidated Financial
Statements.)
14
<PAGE>
DISCONTINUED PUBLIC OFFERING was $0 in 1998 compared to $958,000 in
1997. In the fourth quarter of 1997, legal, accounting and various other
charges related to a planned initial public offering of common stock by
McHugh were charged to income as the Company decided not to proceed with the
initial public offering. (See Note 5 to the Consolidated Financial
Statements.)
INCOME TAX EXPENSE (BENEFIT) was expense of $1.6 million in 1998, an
increase of $5.6 million from $4.1 million of tax benefit in 1997. The
significant differences between the effective tax rate on loss before income
taxes and the expected statutory rates are attributable to the
non-deductibility of expenses related to the write-off of purchased research
and development costs related to the divested operations, a valuation
allowance recorded in 1998 related to the loss on impairment of assets at a
divested operation, non-deductible expenses related to the spin-off of
McHugh, a taxable distribution to a shareholder that occurred in connection
with the spin-off of McHugh and the amortization of goodwill.
EXTRAORDINARY ITEM, NET was $8.7 million in 1998 and there was no
extraordinary item in 1997. This extraordinary item represents costs
associated with the spin-off of McHugh which include the write-off of debt
and preferred stock issuance costs totaling $3.6 million; a consent premium
paid to the bondholders of $2.8 million; and a premium paid on the repurchase
of Senior Subordinated Notes of $2.3 million, all net of related tax benefits.
COMPARISON OF THE YEAR ENDED DECEMBER 31, 1997 TO THE YEAR ENDED DECEMBER 31,
1996
NET SALES were $287.7 million for the year ended December 31, 1997,
representing an increase of $20.5 million, or 7.7%, over net sales of $267.1
million for the year ended December 31, 1996. Excluding RTS, which was
acquired in December 1996, "same store" sales increased $4.4 million or 1.6%
over 1996. Sales of distribution systems increased $8.6 million, which was
offset primarily by decreased volume related to storage and retrieval systems
and, to a much lesser degree, a decrease in volume related to palletizing
systems.
New order bookings were $304.5 million for 1997, an increase of
$62.5 million or 25.8% from 1996. RTS contributed $19.0 million to the
overall growth in bookings in 1997. Bookings of distribution systems and
palletizing systems drove the remainder of the change, up 26.4% and 20.0%,
respectively, over 1996. Increases in palletizing systems are attributable to
numerous new and enhanced products introduced in late 1996, cycle-time
reductions and improved worldwide sales coverage resulting in record
bookings in terms of dollars and units.
The Company realized a $16.4 million increase in consolidated
backlog to $115.5 million at year-end 1997 compared to $99.1 million at
year-end 1996. Backlog of distribution systems and paperless picking systems
increased $9.7 million and $2.8 million, respectively, while, to a lesser
degree, increases were realized in each of the remaining product lines.
Increased backlog at December 31, 1997 as compared to December 31, 1996 is
primarily attributable to record 1997 bookings for most product lines.
GROSS PROFIT was $63.2 million in 1997, an increase of $8.6 million,
or 15.8%, over $54.6 million of gross profit in 1996. The gross profit
margin, as a percentage of sales, increased to 22.0% from 20.4% in 1996.
Excluding the effects of the first-time inclusion of RTS, gross profit
increased $3.8 million and as a percentage of sales, was 21.5%. Additionally,
gross margins were adversely affected by project overruns primarily
attributable to supporting customer production during the start-up and
commissioning phase of a number of major projects. Despite the high level of
project overruns and excluding the one-time asset write-down and other
non-recurring charges described below, "same store" gross profit for 1997 was
$60.5 million, or 22.3% of sales. This represents an increase of 10.9% and
1.9 percentage points, as a percent of sales, over 1996. Gross margins
related to storage and retrieval systems were adversely affected by asset
write-down and other non-recurring
15
<PAGE>
charges totaling $2.2 million, which primarily included a write-down in the
carrying value of inventory at a restructured subsidiary, employee relocation
costs associated with exiting certain product offerings and the costs
associated with bringing restructured production facilities up to Company
standards. Margins related to distribution systems increased $3.3 million or
15.6% over 1996 due primarily to increased volume combined with continuing
engineering and productivity gains.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES were $47.3 million in
1997, representing an increase of $580,000, or 1.2%, over $46.7 million of
such expenses in 1996. As a percentage of sales, SG&A expenses decreased to
16.4% in 1997 from 17.5% in 1996. Excluding RTS, "same store" SG&A decreased
by $2.4 million from 1996, and as a percentage of sales, was 16.3% or 1.2
percentage points lower than 1996. Such decreases are primarily attributable
to lower charges for annual bonus and profit sharing expense combined with
favorable impacts from the June 1997 restructuring.
RESEARCH AND DEVELOPMENT EXPENSES were $3.1 million for 1997,
representing an increase of $1.0 million, or 50.7%, compared to $2.0 million
in 1996. This increase is primarily due to the first-time inclusion of
the results of RTS and increased development activities related to
distribution systems.
OPERATING LOSS (INCOME) FROM DIVESTED OPERATIONS was income of $2.7
million in 1997 as compared to a loss of $9.6 million in 1996. This increase
is primarily attributable to the absence in 1997 of a write-off of $11.7
million of purchased in-process research development costs related to the 1996
acquisition of Weseley, partially offset by $4.0 million of restructuring
charges that were recorded in 1997. (See explanation of restructuring costs
below.) Additionally, 1997 profitability improved due to increased levels of
high margin license fee revenues at McHugh, the impacts of which were
constrained by increasing SG&A and research and development costs to support
McHugh's growing infrastructure.
WRITE-OFF OF GOODWILL was $0 in 1997 compared to $11.5 million in
1996. In 1996, remaining goodwill of one of the Company's subsidiaries was
written-off as it was considered to be impaired due to historical losses and
uncertainty regarding future income and cash flows.
RESTRUCTURING EXPENSE totaling $11.3 million was recorded in the
second quarter of 1997. During this quarter, the Board of Directors initiated
a plan to reorganize and streamline the Company's corporate structure and to
restructure certain business entities within Pinnacle. In connection with
this plan, the Board established management priorities as (1) satisfactory
completion and elimination of specific projects with continuing cost overruns
primarily related to products to be discontinued, (2) restructuring or
elimination, when appropriate, of products that are not strategic or
profitable, (3) restructuring and streamlining the Company's corporate
organization and (4) elimination of redundancies and streamlining of the
organizational structure of McHugh by further consolidation of the operations
of McHugh and Weseley. The restructuring charge included costs to discontinue
offering certain proprietary systems software products at one subsidiary, to
reorganize and reduce the size of the Company's corporate organization and to
restructure and streamline the executive and marketing functions at McHugh.
Costs to discontinue certain proprietary software products consist primarily
of costs to complete specific projects incorporating this software, payroll
and facility charges during the phase-out of the product, severance charges,
sales returns and allowances (relative to prior period sales) anticipated as
a result of the discontinuance, the write-off of assets that became obsolete
or slow-moving as a result of the discontinuance and other miscellaneous
restructuring costs. The corporate reorganization and McHugh reorganization
charges are primarily severance costs. It is anticipated that costs accrued
as restructuring by non-divested operations will be fully paid by December
31, 1999, and costs accrued as restructuring by divested operations will be
fully paid by April 30, 2004. (See Note 5 to the Consolidated Financial
Statements for further discussion.) Restructuring costs related to the McHugh
restructuring of $4.0 million are classified in operating loss (income) from
divested operations in the Consolidated Financial Statements.
WRITE-OFF OF PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT COSTS was
$0 in 1997 as compared to $1.0 million in 1996. In connection with the
acquisition of RTS during 1996, $1.0 million of the purchase price was
allocated to purchased in-process research and development costs at the date
of acquisition and immediately expensed as a write-off of purchased
in-process research and development costs. (See Note 3 to the Consolidated
Financial Statements for further discussion.)
OTHER EXPENSE (INCOME), NET was expense of $60,000 in 1997, compared
to expense of $1.4 million in 1996. This improvement of $1.4 million is
primarily attributable to a one-time charge related to the termination of a
management agreement in 1996. (See Note 12 to the Consolidated Financial
Statements for further discussion.)
OPERATING INCOME (LOSS) improved to income of $3.3 million in 1997
from a loss of $18.5 million in 1996. As a percentage of net sales, operating
income increased to 1.2% in 1997 from (6.9%) in 1996. However,
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<PAGE>
excluding divested operations and $13.6 million of 1997 non-recurring charges
comprised of the $11.3 million restructuring charge and $2.3 million of asset
write-down and other non-recurring charges, 1997 operating income was $14.3
million. Additionally, excluding divested operations and $14.6 million of
non-recurring charges resulting from an $11.5 million write-off of goodwill,
the $1.4 million expense associated with the termination of a consulting
agreement, the $1.0 million write-off of purchased in-process research and
development costs associated with the acquisition of RTS and the $0.7 million
related to the write-off of capitalized software costs (See Note 2 to the
Consolidated Financial Statements for further discussion), 1996 operating
income was $5.7 million. Operating income in 1997, after exclusions,
represents an increase of $8.6 million, or 153%, compared to operating income
after exclusions in 1996. As a percentage of sales, and excluding divested
operations and the non-recurring charges, operating income increased to 5.0%
in 1997 compared to 2.1% in 1996. The increase in operating income reflects
the various factors described above.
INTEREST EXPENSE was $13.8 million in 1997 representing an increase
of $1.5 million, or 11.8%, from $12.3 million in 1996. This increase reflects
the issuance of the Company's $100 million Senior Subordinated Notes (the
"Notes") on January 24, 1996 (the "Debt Offering"), the higher interest rate
on these notes for an additional month in 1997 as compared to 1996, the
increase in non-cash charges related to the amortization of debt issuance
costs and increased borrowings under the Company's credit facility.
DISCONTINUED PUBLIC OFFERING, as described in the comparison of the
Year Ended December 31, 1998 to the Year Ended December 31, 1997 was $958,000
in 1997 compared to $0 in 1996.
INCOME TAX BENEFIT was $4.1 million in 1997, representing an
increase of $2.1 million from $1.9 million in 1996. The related effective
income tax rate increased to 35.7% in 1997 from 6.2% in 1996, primarily as a
result of the absence of the $25.5 million of non-deductible expenses related
to the amortization and write-off of goodwill and the write-off of purchased
in-process research and development costs incurred in 1996.
EXTRAORDINARY ITEM, NET was $2.0 million in 1996 and there was no
extraordinary item in 1997. This extraordinary item represents the write-off
of debt issuance cost and related debt prepayment penalties, net of tax,
resulting from the early extinguishment of the Company's debt as part of the
recapitalization. (See the "Liquidity and Capital Resources" section.)
LIQUIDITY AND CAPITAL RESOURCES
WORKING CAPITAL. During the three years ended December 31, 1998, the
Company generated $22.0 million of cash from operations, which when combined
with funds from the revolving line of credit, has been sufficient to fund the
Company's ongoing working capital, capital expenditures and debt service
requirements. In recent years, the Company has reduced working capital and
improved cash flow through management initiatives to reduce inventory levels,
focus on timely billings and emphasize the collection of aged receivables as
well as other enhanced cash management techniques.
CASH PROVIDED (USED) BY OPERATIONS. Cash flows from (for) operations
were $12.4 million, ($1.3) million and $10.8 million for the years ended
December 31, 1998, 1997 and 1996, respectively. The $13.7 million increase in
cash provided by operations during 1998 is primarily attributable to a focus
on timely billings and the collection of aged receivables combined with
decreased spending related to restructuring efforts, offset by cash used by
divested operations. The $12.1 million increase in the use of cash during
1997 as compared to 1996, is primarily attributable to an interest payment of
$5.7 million on the $100 million Senior Subordinated Notes, the payment of
$4.5 million associated with the previously described 1997 restructuring and
the payment of a $625,000 stay bonus at McHugh, all of which occurred in
1997, but were not present in 1996. First quarter funding of annual profit
sharing plan contributions, incentive compensation and bonus plans,
disproportionate tax withholding requirements and certain professional
services historically result in a significant use of cash in the first
quarter.
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<PAGE>
CAPITAL EXPENDITURES. Capital expenditures for the years ended
December 31, 1998, 1997 and 1996 were approximately $3.7 million, $3.2
million and $7.2 million, respectively. These expenditures were used
primarily to finance a new facility for Alvey in 1996 and normal recurring
replacements of machinery and equipment.
ACQUISITIONS AND DIVESTITURES. The Company expended $3.4 million of
cash for the acquisitions of SAI and Gagnon in 1998 and $19.0 million of cash
in 1996 for the acquisitions of Weseley and RTS. Acquisitions in 1998 were
financed through the Company's working capital facility. Acquisitions in 1996
were financed primarily with proceeds from the Debt Offering.
DEBT OFFERING AND RECAPITALIZATION OF PINNACLE. Concurrently with
the Debt Offering in January 1996, the Company entered into a senior bank
credit agreement with NationsBank, N.A. consisting of a $30 million revolving
credit facility which matures in 2001 (the "Revolving Credit Facility").
Borrowings under the Revolving Credit Facility bear interest at a rate based
upon, at Alvey's option, the Base Rate (as defined in the Revolving Credit
Facility) plus 1.0% or the Euro-dollar Rate (as defined in the Revolving
Credit Facility) plus 2.0%, subject to 0.25% adjustments upward or downward
based upon Alvey's achievement of predefined earnings objectives. Borrowings
under the Revolving Credit Facility are guaranteed by Pinnacle and
subsidiaries of Alvey and secured by substantially all of the assets of Alvey
and its subsidiaries. At December 31, 1998, there was $6.4 million
outstanding under the Revolving Credit Facility.
In the Debt Offering, Alvey issued $100 million of 11.375% Senior
Subordinated Notes which are due in January 2003. In accordance with the
terms of the Debt Offering, Alvey filed a registration statement with the
Securities and Exchange Commission with respect to an offer to exchange the
11.375% Senior Subordinated Notes for a new issue of registered debt
securities of Alvey with terms substantially identical to those of the
11.375% Senior Subordinated Notes. Such registration statement was declared
effective on May 9, 1996 and the exchange of $100 million in principal amount
of the original notes for $100 million in principal amount of registered
notes was completed on June 11, 1996. Interest payments on such notes, which
are payable semiannually, commenced in July 1996.
Concurrent with the Debt Offering, Pinnacle sold $23 million of
Pinnacle Series A Preferred Stock, $7.0 million of Pinnacle Series C
Preferred Stock and approximately $11.3 million of Pinnacle Series B
Preferred Stock (collectively, the "Pinnacle Preferred Stock"), together with
warrants to purchase up to 256,075 shares of Pinnacle Common Stock (the
"Preferred Stock Offering"). Dividends on the Pinnacle Series A, B and C
Preferred Stock are payable quarterly. While Alvey has not guaranteed nor is
it contingently obligated with respect to any such series of Preferred Stock,
Pinnacle has no financial resources, other than from Alvey and Alvey's
operating subsidiaries, to satisfy cash requirements relative to these
preferred shares.
The Company applied the net proceeds of the Debt Offering in the
following manner: (i) approximately $46.2 million was used to repay the
Company's outstanding senior indebtedness; (ii) approximately $2.3 million
was used to repay the Company's outstanding 11.95% subordinated debt; (iii)
approximately $21.6 million was distributed as a dividend from Alvey to
Pinnacle which, together with the net proceeds from the Pinnacle Preferred
Stock Offering, was used by Pinnacle to fund, in part, the cash necessary to
buy back certain shares of Pinnacle's outstanding common stock ($23.8
million) and to redeem certain shares of Pinnacle's outstanding preferred
stock ($25.3 million); (iv) approximately $7.5 million was used to pay
transaction costs; and (v) approximately $8.9 million was used for general
corporate purposes (including capital expenditures). Prepayment penalties of
$371,000 were incurred in connection with the repayment of the subordinated
debt. In addition, the Company used $15.0 million of the proceeds of the Debt
Offering to consummate the Weseley acquisition in January 1996.
SPIN-OFF OF MCHUGH AND RELATED DEBT AND EQUITY TRANSACTIONS. During
October 1998, the Company issued as a dividend its previously held shares in
McHugh to Pinnacle. On October 27, 1998, Pinnacle effected a spin-off of the
common stock of McHugh to Pinnacle's stockholders. Subsequent to the spin-off
and a sale of a minority interest in McHugh for $50 million in cash, Alvey
received a cash payment from McHugh of
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<PAGE>
approximately $36.5 million for full payment of a note established at the
time of the spin-off representing McHugh's intercompany debt to Alvey
totaling approximately $34.8 million and the payment of a tax free dividend
from McHugh to Alvey of approximately $1.7 million.
In connection with the spin-off of McHugh, the holders of the Notes
consented to an amendment of the indenture for the Notes to, among other
things, (i) permit the spin-off of McHugh, (ii) permit Alvey to increase
borrowings under the Revolving Credit Facility by $10 million, and (iii) make
modifications to certain covenants. Alvey and the trustee for the bondholders
entered into the First Supplemental Indenture evidencing such terms on
September 30, 1998. To obtain the consent of its bondholders, among other
things, Alvey (i) paid a consent premium of $46.00 in cash for each $1,000
principal (approximately $4.6 million) and (ii) purchased $30 million in
aggregate principal amount of the Notes for $33.9 million (113% of the
principal amount thereof representing a premium of $3.9 million).
Effective October 26, 1998, the Revolving Credit Facility was
amended to (i) allow the spin-off of McHugh, (ii) allow a $10 million
increase in the commitment amount of the facility within 60 days of the
consummation of the spin-off with certain restrictions, and (iii) amend
certain debt covenants. Effective December 3, 1998, the Company increased the
commitment amount under the Revolving Credit Facility to $35 million.
During October 1998, the Company purchased 343,545 shares of newly
issued McHugh common stock for $3,435 which were issued as a dividend by
Alvey to Pinnacle. As part of the spin-off of McHugh, the holders of Pinnacle
Preferred Stock exchanged 18,600 shares of Pinnacle Preferred Stock for
343,514 shares of newly created classes of common stock of McHugh.
Additionally, all of the outstanding warrants from the Preferred Stock
Offering were exercised in connection with the spin-off of McHugh.
ONGOING CASH FLOWS FROM OPERATIONS. Based on its ability to generate
funds from operations, the Company believes that it will have sufficient
funds available to meet its currently anticipated operating, debt service and
capital expenditure requirements with minimal additional borrowings. In
addition, the Company expects to continue to evaluate and consider business
acquisition candidates. The Company believes that its funds from operations,
together with available funds under the Revolving Credit Facility, will be
sufficient to meet its capital requirements for the forseeable future. The
Company's belief regarding its capital requirements is forward-looking and
involves risks and uncertainties that could significantly impact the
Company's expected liquidity requirements in the short and long term.
BACKLOG. As of December 31, 1998, the Company had a backlog of $99.4
million, as compared to $115.5 million as of December 31, 1997. The Company's
backlog is based upon firm customer commitments that are supported by
purchase orders, other contractual documents and cash payments. While the
level of backlog at any particular time may be an indication of future sales,
it is not necessarily indicative of the Company's future operating
performance. Additionally, certain backlog orders may be subject to
cancellation in certain circumstances. The Company believes that
substantially all orders in backlog at December 31, 1998 will be recognized
as revenue within one year.
YEAR 2000. The Company utilizes computer information systems to
internally record and track information and interact with customers,
suppliers, financial institutions and other organizations. The Company also
incorporates software and computerized functions in products sold throughout
the Company. The Company has appointed a Director of Year 2000 Issues to
coordinate and lead the Year 2000 ("Y2K") project. Each Alvey subsidiary has
appointed a Year 2000 Coordinator who reports to the Director of Year 2000
and will lead the Y2K effort for that subsidiary. Additionally, the Company
has selected a law firm to consult on Y2K issues. The Company has established
a corporate definition of Y2K Readiness, and incorporated it into a position
statement now being used in response to customers' Y2K inquiries as well as
in new business proposals.
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<PAGE>
All subsidiaries have developed detailed implementation plans based
on a five phase resolution process that includes Phase I (Awareness), Phase
II (Assessment), Phase III (Renovation), Phase IV (Validation) and Phase V
(Contingency Planning). Company systems have been separated into three areas:
1) internal, 2) business partners and 3) external customers. These areas have
been subdivided to address specific issues with: A) internally engineered
systems, B) purchased systems and C) embedded systems.
Phase I is complete at all companies. Phase II is essentially
complete, with the exception of completion of assessment of some of the field
office operations, which consist primarily of small engineering and sales
functions. Throughout the assessment phase, several of the subsidiaries have
found that the types of equipment supplied to their customers typically do
not utilize date functions and therefore present only minimal Y2K issues. The
exceptions are the computer-based systems supplied with commercially
available and custom designed software packages.
Phase III work is underway, and while each subsidiary has unique
issues, on average the Company believes this phase is approximately 60%
complete. Renovations to many of the custom software packages are complete
and customer upgrades are underway or being scheduled. The Company expects
completion of all renovation to custom software packages to be complete by
the end of the second quarter 1999 and for customer upgrades to continue
through the third quarter. Renovations to personal computers will most likely
continue throughout 1999 as many "off the shelf" software manufacturers
continue to review and upgrade their products.
Phase IV testing is underway and significant progress has been made
on custom designed software packages supplied to our customers. Testing of
hardware devices, such as Programmable Logic Controllers and Human/Machine
Interfaces, utilized on the majority of our systems, is underway and has been
completed on numerous units. This testing will be ongoing throughout the year
as new and different versions of hardware are utilized. Testing of several
customer systems has also been completed with favorable results. Completion
of testing on internal systems, to the extent possible, is planned for June
1999. This will provide the second half of 1999 for re-testing and
unanticipated renovations.
Phase V has begun at several subsidiaries and it is anticipated that
much of this planning will be shared by some or all of the subsidiaries,
reducing the overall Company effort. Completion by the end of the third
quarter of 1999 is expected for all subsidiaries.
Alvey and its subsidiaries are actively pursuing compliance
statements from suppliers and business partners. Questionnaires have been
mailed to all critical vendors and responses have been received from most.
Where no response was received or the response was unacceptable second
requests have or are being mailed.
Based on our findings to-date, the Company believes its costs for
the Year 2000 project will be between $2.0 million and $2.5 million all of
which has been or is expected to be charged to operations. Approximately 40%
of these costs are considered incremental, while the remaining 60% are a
utilization of current Company employees or expenditures that would have been
made in the normal course of business but may be accelerated due to Y2K
issues.
Alvey is dependent upon its own internal computer technology, relies
upon timely performance by its business partners and provides computerized
functions to customers. A large-scale internal Year 2000 failure could, while
believed to be remote, impair the Company's ability to timely deliver
products and services to customers, resulting in potential lost sales
opportunities and additional expenses. Significant computer failures by
critical vendors could disrupt the Company's ability to produce and timely
deliver products or services. However, given the nature of the products and
services provided, the Company believes any such disruption can be minimized
through the utilization of readily available alternative sources. In the
event computerized functions provided by Alvey to its customers encounter a
Y2K failure, those customers may look to Alvey to provide assistance or
services. A large scale failure could exceed the Company's ability to timely
respond to the needs of these customers, resulting in additional expenses and
potential loss of customers. The Company's Y2K program
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<PAGE>
seeks to identify and minimize this risk and includes testing of its systems
to ensure, to the extent feasible, all such systems will function properly
before and after the Year 2000. Alvey is continually refining its
understanding of the risks posed by the Year 2000, and will continue to do so
throughout 1999.
While no assurances can be given, because of Alvey's extensive
efforts to formulate and carry-out an effective Y2K program, the Company
believes its program will be completed on a timely basis and should
effectively minimize disruption to Alvey's operations due to Year 2000 issues
and that such issues will not have a material adverse effect on the Company's
consolidated results of operation.
SEASONALITY AND QUARTERLY RESULTS
The price of certain of the Company's systems can exceed several
million dollars, and therefore a relatively small number of orders can
constitute a significant percentage of the Company's revenues in any one
period. Similarly, a relatively small reduction in the number of large orders
can have a material impact on the Company's revenues in any one quarter or
year. The timing of shipments and product revenue recognition could affect
the Company's operating results for a particular period. In addition, most of
the Company's revenues come from fixed price contracts. To the extent that
the original cost estimates prove to be inaccurate, profitability from a
particular contract may be adversely affected. As a result, the Company's
operating results can vary significantly from quarter to quarter, and the
financial results for any particular quarter are not necessarily indicative
of results in any subsequent quarter or fiscal year.
NEW ACCOUNTING STANDARDS:
In June 1998, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" (FAS 133), which establishes
accounting and reporting standards for derivative instruments as well as for
hedging activities. FAS 133 requires the recognition of all derivatives (both
assets and liabilities) in an entity's balance sheet to be measured at fair
value. The Company does not anticipate that FAS 133, which is first effective
for the Company's third quarter of 1999, will affect the Company's financial
reporting.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
In the ordinary course of business and to the extent short term
borrowings are utilized, the Company is exposed to interest rate risks by way
of changes in short-term interest rates. The Company does not have any
significant amount of export sales denominated in foreign currencies, and
acquires its raw material supply needs in U. S. dollar denominated
transactions. Therefore, the Company is not viewed as being exposed to
foreign currency fluctuation market risks.
The Company has no material derivative financial instruments as of
December 31, 1998, and does not enter into derivative financial instruments
for trading purposes. Market risks that the Company has currently elected not
to hedge primarily relate to its floating rate debt.
EFFECT OF INFLATION
Fluctuations in commodity prices may periodically affect the results
of the Company's operations. However, inflation has not had a material effect
on the Company's business or results of operations.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements required in response to this
item are included on pages F-1 through F-26 hereof.
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ITEM 9. CHANGE IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth certain information concerning Alvey's
directors and executive officers.
<TABLE>
<CAPTION>
YEARS IN
NAME AGE INDUSTRY POSITION WITH ALVEY
- ---- --- -------- -------------------
<S> <C> <C> <C>
Stephen J. O'Neill(1) 57 28 President, Chief Executive Officer and
Director
Christopher C. Cole 43 9 Executive Vice President and Director
James A. Sharp 51 15 Senior Vice President, Chief Financial
Officer, Secretary and Assistant Treasurer
William R. Michaels(1) 64 24 Chairman of the Board
Frederick R. Ulrich, Jr.(1) 55 - Director
Prakash A. Melwani(1) 40 - Director
James L. Elrod, Jr.(2) 44 - Director
Charles A. Dill(2) 59 - Director
</TABLE>
The following table sets forth certain information concerning
executive officers and directors of Pinnacle. Each of Alvey and its five
subsidiaries are managed by Pinnacle.
<TABLE>
<CAPTION>
YEARS IN PRINCIPAL POSITION IN PINNACLE
NAME AGE INDUSTRY ORGANIZATION
- ---- --- -------- -------------------------------------
<S> <C> <C> <C>
Stephen J. O'Neill(1) 57 28 President, Chief Executive Officer and
Director
Christopher C. Cole 43 9 Senior Executive Vice President and Chief
Operating Officer; Director
James A. Sharp 51 15 Executive Vice President, Chief Financial
Officer, Treasurer and Secretary
William R. Michaels(1) 64 24 Chairman of the Board
Frederick R. Ulrich, Jr.(1) 55 - Director
Prakash A. Melwani(1) 40 - Director
James L. Elrod, Jr.(2) 45 - Director
Charles A. Dill(2) 59 - Director
</TABLE>
- -----------
(1) Member of the ompensation Committee.
(2) Member of the Audit Committee.
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STEPHEN J. O'NEILL has served as Chief Executive Officer and
Director of both Alvey and Pinnacle since June 1997; as President of Pinnacle
since June 1997; as President of Alvey since November 1992; as Executive Vice
President of Pinnacle from September 1988 until June 1997; as Vice President
and Director of McHugh since May 1989; as Director of Weseley and Busse since
1996; and as Director for each of the other subsidiaries of the Company since
June 1997. Previously, Mr. O'Neill served as Senior Vice President of Alvey
from September 1988 to November 1992. Prior to joining Alvey, Mr. O'Neill
served as a Vice President of Rapistan Corp. from April 1986 to September
1988. Mr. O'Neill earned a B.S. degree in Electrical Engineering from Rose
Polytechnic Institute. Mr. O'Neill currently serves on the board of directors
of AAIM, a Quality Institute and Education Center in Missouri and of McHugh
Software International, Inc.
CHRISTOPHER C. COLE has served as Senior Executive Vice President,
Chief Operating Officer and Director of Pinnacle since June 1997; as
Executive Vice President of Alvey since February 1999; as Chief Executive
Officer of Buschman since March 1994; as Executive Vice President of Buschman
from March 1994 until June 1997; as Director of Buschman since February 1996;
as Chief Executive Officer of White since February 1998; as Executive Vice
President of White from October 1996 through February 1998; as Director of
White since October 1996; as Secretary of White since June 1997; as Executive
Vice President of Pinnacle from 1994 until June 1997; as Chief Executive
Officer and Director of RTS since its acquisition and as Director for each of
the other subsidiaries of the Company since June 1997. Previously, Mr. Cole
served as President of Buschman from March 1994 to January 1997. Prior to
joining Buschman, Mr. Cole served in a variety of executive positions at
Cincinnati Milacron, Inc. since 1979. Mr. Cole graduated from Wesleyan
University with a B.A. degree and received a M.B.A. degree from Harvard
University. Mr. Cole has served on the board of directors of the Cincinnati
chapter of the American Red Cross since 1989 and is currently Chairman of
such board.
JAMES A. SHARP has served as Secretary and Senior Vice President of
Alvey since June 1997; as Secretary and Executive Vice President of Pinnacle
since June 1997; as Chief Financial Officer of Alvey since April 1994; as
Chief Financial Officer and Treasurer of Pinnacle since April 1994; as
Assistant Treasurer of Alvey since April 1994; as Vice President and
Assistant Secretary of Alvey from April 1994 until June 1997; as Vice
President and Assistant Secretary of Pinnacle from April 1994 through June
1997; as Chief Financial Officer of each of Alvey's subsidiaries; as
Treasurer of Busse, White and Weseley since June 1997; as Secretary and
Senior Vice President of Buschman since June 1997; as Vice President of RTS
from June 1997 to February 1998 and as director of Weseley since February
1998; as Director of McHugh from June 1997 to February 1998 and as Director
of Weseley since February 1998. Previously, Mr. Sharp held various accounting
and financial positions with Pinnacle and its subsidiaries, including
Controller and Treasurer of Alvey, since 1983. Mr. Sharp graduated from
Southern Illinois University with a B.S. degree in Accounting and is a
Certified Public Accountant in Missouri.
WILLIAM R. MICHAELS has served as Chairman of the Board of both
Alvey and Pinnacle since September 1988; as Chief Executive Officer of Alvey
from 1988 until June 1997; as President and Chief Executive Officer of
Pinnacle from 1988 until June 1997; and as Chairman of the Board and Director
of each of Alvey's subsidiaries until June 1997. From 1984 to 1988, Mr.
Michaels served as the President and Chief Executive Officer of Rapistan
Corp., a manufacturer of distribution conveyor systems. Mr. Michaels is Vice
Chairman of the Board of Governors of the Material Handling Institute of
America, the materials handling industry's trade association. In addition to
his Pinnacle duties, from July 1989 to January 1992 Mr. Michaels was the
Chairman of the Board of Holophane Company, Inc., a Columbus, Ohio company in
the lighting industry. Mr. Michaels continues as a director of Holophane and
also serves as director of McHugh Software International, Inc. which was
previously a subsidiary of the Company. Mr. Michaels is a graduate of the
State University of New York.
FREDERICK R. ULRICH, JR. has been a Director of Alvey and Pinnacle since
August 1988. Mr. Ulrich has served as Chief Executive Officer of Buttonwood
Capital, Inc. since 1992 and as Chief Executive Officer of Mammoth Capital,
Inc. since 1996. Previously, Mr. Ulrich served as Chairman of the Board and
Chief Executive Officer of Raebarn Corporation from 1988 to 1995. Mr. Ulrich
is a director of Paul Sebastian, Incorporated, Oz Entertainment Corporation
and Fresh Point, Inc. Mr. Ulrich is a graduate of the United States Military
Academy and holds an M.B.A. degree from Harvard University.
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<PAGE>
PRAKASH A. MELWANI has served as a director of Alvey and Pinnacle since
January 1996. He is a Managing Director of Vestar Capital Partners
("Vestar"), an affiliate of which is a significant stockholder of Pinnacle
and with whom Mr. Melwani has been associated since its founding in 1988. Mr.
Melwani is a director of Insight Communications Company L. P., International
AirParts Corporation and McHugh Software International, Inc. and a member of
the Advisory Board of Insight Communications Company, L.P. Mr. Melwani
graduated from Cambridge University with a B.A. degree and received an M.B.A.
degree from Harvard University.
JAMES L. ELROD, JR. has served as a director of Alvey and Pinnacle since
May 1998. Mr. Elrod has served as a Managing Director of Vestar from 1998 to
the present. From 1994 through 1997, he served as the Chief Financial Officer
and Chief Operating Officer of Physicians Health Services. From 1980 to 1994,
he served as Managing Director of Dillon, Read & Co. Inc. Mr. Elrod is a
director of D. D. S. Partners, a dental practice management company. Mr.
Elrod graduated with an A.B. from Colgate University and with an M.B.A. from
Harvard University.
CHARLES A. DILL became a director of Alvey and Pinnacle in February
1996. Mr. Dill is currently a General Partner in Gateway Associates, L.P., a
leading St. Louis-based equity management partnership. Previously, from April
1991 through April 1995, Mr. Dill was President and, from October 1992
through April 1995, Chief Executive Officer of Bridge Information Systems,
Inc., a leading provider of on-line financial information and databases to
institutional securities markets. From February 1988 to September 1990, he
was President and a Director of AVX Corporation (a ceramic electronic devices
manufacturer). Mr. Dill serves as a director of Stifel Financial, a
securities brokerage and investment banking firm; of Zoltek, a specialty
producer of carbon fiber composite materials; of Transact Technologies, a
manufacturer of transaction-based printers for point-of-sale terminals and of
D. T. Industries, a manufacturer of automated production equipment. Mr. Dill
graduated from Yale University with a B.S. degree in mechanical engineering
and received an M.B.A. degree from Harvard University.
24
<PAGE>
ITEM 11. EXECUTIVE COMPENSATION
The following table sets forth, for the three years ended December 31,
1998, the earned compensation of the Chief Executive Officer and the executive
officers of Alvey (the "Named Executive Officers"):
<TABLE>
<CAPTION>
ANNUAL COMPENSATION
-------------------------------------------------
COMPENSATION
OTHER ANNUAL AWARDS -
COMPENSATION STOCK OPTIONS
NAME AND PRINCIPAL POSITION YEAR SALARY BONUS(a) (b) (# OF SHARES)(c)
- --------------------------------- ---- ------- -------- -------------- ----------------
<S> <C> <C> <C> <C> <C>
WILLIAM R. MICHAELS 1998 $100,000 $ - $246,222 -
Chairman of the Board 1997 333,550 - 46,837 -
1996 317,650 - 47,062 -
STEPHEN J. O'NEILL 1998 300,000 268,300 - -
President and Chief Executive 1997 253,625 180,000 - -
Officer 1996 205,675 100,000 - -
CHRISTOPHER C. COLE 1998 260,000 236,700 - 5,000
Executive Vice President 1997 236,958 180,000 - -
1996 194,250 168,000 - -
JAMES A. SHARP 1998 175,000 160,000 - -
Senior Vice President, Chief 1997 157,500 125,000 - -
Financial Officer and Secretary 1996 150,000 - 18,982 4,000
</TABLE>
- -----------
(a) Reflects amount earned in 1998, 1997 and 1996, respectively. All
amounts are paid in subsequent years, including portions which are
deferred subject to continued employment.
(b) Perquisites or other personal benefits which in the aggregate were less
than the lesser of $50,000 and 10% of an officer's annual salary and
bonus in 1998, 1997 and 1996, respectively, have been omitted. When
listed, these items include costs for insurance, auto, accounting fees,
club dues, spousal travel and gross ups for income tax purposes. The 1998
total for Mr. Michaels includes $237,500 of deferred compensation.
(c) The figures set forth in this column represent the number of options
granted in 1998, 1997 and 1996, respectively, to purchase the Common
Stock of the Company's parent, Pinnacle.
PENSION PLAN
The Company maintains 401(k) savings plans for virtually all
employees who meet certain eligibility requirements, except certain union
employees who participate in multi-employer pension plans. Under the plans,
the employees may defer receipt of a portion of their eligible compensation,
with the Company matching a defined percentage of the employees' deferral.
For non-divested operations, the Company's matching contributions were
$592,000, $541,000 and $478,000 for the years ended 1998, 1997 and 1996,
respectively. The Company may also elect to make discretionary profit sharing
contributions for virtually all employees, except those union employees who
participate in multi-employer pension plans.
EMPLOYMENT AGREEMENTS
On June 2, 1997, Alvey, Pinnacle and William R. Michaels entered
into a second amended and restated employment agreement pursuant to which Mr.
Michaels serves as Chairman of the Board. The agreement entitled
25
<PAGE>
Mr. Michaels to an automobile through March 1998; an annual bonus for 1997;
and club membership, disability, health insurance and other benefit plans
provided by Alvey and Pinnacle to their employees through December 31, 1997.
The agreement also provides for deferred compensation, whereby Pinnacle and
Alvey will pay to Mr. Michaels, for at least 10 years and during the
remainder of his life, an annual amount of $237,500, the payment of which
commenced on January 31, 1998. In addition, the agreement requires Pinnacle
and Alvey to provide to Mr. Michaels a $3,000,000 life insurance policy for
the remainder of his lifetime.
On June 27, 1995, Alvey entered into an amended and restated
employment agreement with Stephen J. O'Neill. Pursuant to the agreement, Mr.
O'Neill serves as President of Alvey at a base salary of $191,750. His base
salary is reviewed annually to consider an upward adjustment for each
subsequent year. The agreement entitles Mr. O'Neill to an automobile, club
membership, an annual bonus, life, disability and health insurance and to
other benefit plans provided by Alvey to their other employees. In addition,
Alvey is obliged to provide a $1,000,000 life insurance policy for Mr.
O'Neill for the remainder of his lifetime, unless he voluntarily terminates
his employment with Alvey to accept a comparable position, at which time
Alvey's obligation to pay such premiums will cease.
On March 9, 1994, Buschman entered into an employment agreement with
Christopher C. Cole, pursuant to which Mr. Cole serves as President and Chief
Executive Officer of Buschman and Executive Vice President of Pinnacle at a
base annual salary of $175,000. Mr. Cole's base salary is reviewed annually
to consider an upward adjustment for each subsequent year during the term of
the agreement. The agreement entitles Mr. Cole to an automobile, club
membership, an annual bonus, life, disability and health insurance,
reimbursement of legal and accounting services and to other benefit plans
provided by Buschman to its other employees. The agreement with Mr. Cole
contains a non-disclosure and non-competition provision which is effective
for the term of his employment with Buschman.
On September 28, 1995, Pinnacle and Alvey entered into an amended
and restated employment agreement with James A. Sharp. Pursuant to the
agreement, Mr. Sharp serves as Vice President and Chief Financial Officer of
Pinnacle at a base salary of $127,500. His base salary is reviewed annually
to consider an upward adjustment for each subsequent year. The agreement
entitles Mr. Sharp to a car allowance, an annual bonus, disability and health
insurance and to other benefit plans provided by Pinnacle to its other
employees.
BOARD OF DIRECTORS COMMITTEES AND COMPENSATION
Alvey and Pinnacle each have a Compensation Committee and an Audit
Committee. During 1998, Alvey and Pinnacle paid non-employee directors
(except directors elected or nominated by certain significant investors in
Pinnacle), an annual fee of $25,000, and reimbursed each of its directors for
their out-of-pocket expenses incurred in connection with serving as a
director. Directors who are employed by Pinnacle or the Company do not
receive a fee for serving as directors.
26
<PAGE>
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Pinnacle owns 100% of the outstanding capital stock of Alvey. The
following table sets forth certain information regarding the beneficial
ownership of Pinnacle Common Stock as of March 26, 1999 (i) by each person
who is known by the Company to own beneficially more than 5% of Pinnacle
Common Stock, (ii) by each of the directors of Alvey and Pinnacle, (iii) by
each Named Executive Officer and (iv) by all directors and executive officers
as a group.
<TABLE>
<CAPTION>
NAME AND ADDRESS OF BENEFICIAL OWNER (1)(2)
- ------------------------------------------- FULLY-DILUTED
SHARES OWNED PERCENTAGE (3) PERCENTAGE (4)
------------ -------------- --------------
<S> <C> <C> <C>
EXECUTIVE OFFICERS AND DIRECTORS
- --------------------------------
Prakash A. Melwani (5)(6)....................... 179,243 23.9% 21.3%
James L. Elrod, Jr. (5)(6)...................... 179,243 23.9 21.3
William R. Michaels ............................ 72,187 9.6 8.6
Frederick R. Ulrich, Jr. (7).................... 27,516 3.7 3.3
Charles A. Dill (8)............................. 667 0.1 0.1
Christopher C. Cole (9)......................... 21,667 2.8 2.6
Stephen J. O'Neill ............................. 48,902 6.5 5.8
James A. Sharp (10) ............................ 10,493 1.4 1.2
OTHER BENEFICIAL OWNERS
- -----------------------
Vestar Equity Partners, L.P. (5)................ 179,243 23.9 21.3
Chase Equity Associates,
A California Limited Partnership (11)........ 57,614 7.7 6.8
Michael J. Tilton (12) ......................... 47,170 6.3 5.6
All Executive Officers and Directors as a
Group (9 Persons)............................ 360,674 (13) 46.3 42.8
</TABLE>
(1) Unless otherwise noted, the address of each of the foregoing is c/o
Pinnacle at 9301 Olive Blvd., St. Louis, Missouri 63132.
(2) Unless otherwise noted, sole voting and dispositive power are possessed
with respect to all shares shown.
(3) The percentages under the heading "Percentages" are based upon 749,676
shares of Pinnacle Common Stock outstanding and takes into account all
derivative securities held by such Beneficial Owner that are exercisable
for shares of Pinnacle Common Stock within 60 days.
(4) The percentages under the heading "Fully-Diluted Percentages" are based
upon 843,154 shares of Pinnacle Common Stock outstanding, which gives
effect to the exercise of outstanding options exercisable within 60 days
to purchase 93,477 shares of Pinnacle Common Stock.
(5) Address is c/o Vestar Capital Partners, 245 Park Avenue, 41st Floor, New
York, New York 10167-4098.
(6) Includes 179,243 shares held by Vestar Equity Partners, L.P., as to which
Messrs. Melwani and Elrod disclaim beneficial ownership.
(7) Includes the following number of shares held by or in trust for Mr.
Ulrich's children: 705 shares of Pinnacle Common Stock held by the Lauren
T. Ulrich Trust '89; 706 shares of Pinnacle Common Stock held by the
Farrell Ulrich Trust '89; 1000 shares of Pinnacle Common Stock held by
the Frederick Ulrich III Trust '92; and 605 shares of Pinnacle Common
Stock held by Amy C. Ulrich.
(8) Includes 667 shares of Pinnacle Common Stock issuable upon exercise of
outstanding options.
(9) Includes 20,367 shares of Pinnacle Common Stock issuable upon exercise
of outstanding options.
(10) Includes 5,400 shares of Pinnacle Common Stock issuable upon exercise
of outstanding options.
(11) Address is c/o Chase Venture Partners, 270 Park Avenue, New York, New
York 10017.
(12) Includes 2,800 shares held by the Julie C. Tilton Trust and 2,800 shares
held by the Tracy L. Tilton Trust.
(13) The 179,243 shares of Pinnacle Common Stock held by Vestar Equity
Partners, L.P., as to which Messrs. Melwani and Elrod disclaim beneficial
ownership, are counted once in this total.
27
<PAGE>
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
STOCKHOLDERS AGREEMENT AND REGISTRATION RIGHTS
In connection with the 1988 acquisition of Alvey by Pinnacle (the "1988
Acquisition"), entities affiliated with Acadia (the "Acadia Stockholders"),
individuals affiliated with Raebarn Corporation (the "Raebarn Stockholders"),
certain management stockholders and Pinnacle entered into a Stock Purchase and
Stockholders Agreement which has been amended and restated several times through
the date hereof (the "Initial Stockholders Agreement"). In January 1996, the
Initial Stockholder Agreement was amended and restated again pursuant to the
Amended and Restated Stockholders Agreement by and among Pinnacle, the
Management Stockholders (as defined therein), the Raebarn Stockholders (as
defined therein) and the Investors (the "Amended and Restated Stockholders
Agreement").
The following is a summary of the mAended and Restated
Stockholders Agreement (certain terms used herein are defined therein):
VESTING OF MANAGEMENT STOCKHOLDER SHARES. Shares of Pinnacle Common
Stock issued to Management Stockholders (as defined in the Amended and Restated
Stockholders Agreement) vest in equal installments over a period generally
ranging between three and five years (depending on the terms set by the Board of
Directors at the time of issuance). Any shares of Pinnacle Common Stock held by
a Management Stockholder that are unvested at the time of death, permanent
disability, resignation or termination (for whatever reason) of such Management
Stockholder will remain unvested and will not vest; provided, however, that in
the event of the death or permanent disability of the holder, 50% of the shares
which are unvested at that time will become vested. In addition, all unvested
shares will become vested upon the acquisition of all of the outstanding shares
of Pinnacle by any third party or upon the sale of all of the assets of
Pinnacle.
REPURCHASE OF MANAGEMENT STOCKHOLDER SHARES. In the event of the
termination of any Management Stockholder's employment with Pinnacle, whether by
reason of death, permanent disability, termination for cause or without cause,
retirement or for any other reason, Pinnacle will have the right to repurchase
all or any portion of the unvested shares. To the extent that Pinnacle elects
not to repurchase all of the unvested shares held by a terminated Management
Stockholder, the other stockholders will have the right to purchase the
remaining shares on a PRO rata basis.
RESTRICTIONS ON TRANSFER; RIGHT OF FIRST REFUSAL. Unvested shares may
not be transferred under any circumstances. With respect to vested shares,
Pinnacle and, to the extent that Pinnacle fails to exercise its first refusal
right in full, the other Management Stockholders and Raebarn Stockholders, have
a right of first refusal if any Management Stockholder or Raebarn Stockholder
receives a bona fide offer from an independent unrelated third party that such
stockholder wishes to accept. Despite the general restrictions on transfers by
Management Stockholders and Raebarn Stockholders, transfers to affiliates,
officers, directors, certain family members or family trusts and pledges of the
shares to a bank as security for a loan used to buy the shares are expressly
permitted.
TAG-ALONG RIGHTS. The Amended and Restated Stockholders Agreement
provides that stockholders have a right to "tag along" upon the sale of Pinnacle
Common Stock or Pinnacle Warrants by any stockholder or holder of Pinnacle
Warrants prior to an initial public offering by Pinnacle and provides the
stockholders with "tag-along" rights with respect to a sale of a significant
amount of Pinnacle Common Stock or Pinnacle Warrants after an initial public
offering by Pinnacle. In addition, in the event any such sales would result in a
change of control of Pinnacle, the holders of the Pinnacle Investor Preferred
Stock and the Pinnacle Series B Preferred Stock have the right to cause any such
stock which is not redeemed by Pinnacle in accordance with its terms to be
purchased by the purchaser of such Pinnacle Common Stock or Pinnacle Warrants.
28
<PAGE>
PRIORITY SUBSCRIPTION RIGHTS. If Pinnacle decides to effect a private
placement of shares of Pinnacle Common Stock or securities convertible into
Pinnacle Common Stock for less than Fair Market Value (as defined in the Amended
and Restated Stockholders Agreement) at any time prior to its initial public
offering, the stockholders will have a right, subject to certain exceptions
including the issuance of financing warrants to institutional lenders), to
purchase their respective pro rata portions of the shares to be sold by
Pinnacle.
VOTING AGREEMENT. The Amended and Restated Stockholders Agreement
provides that the Board of Directors of Pinnacle shall initially consist of
seven members, subject to increase or decrease upon certain specified events. As
set forth in the Certificate of Designations for the Pinnacle 9% Cumulative
Series A Preferred Stock (the "Series A Preferred"), in the event Pinnacle fails
to achieve a certain level of EBITDA for a given year, the holders of the Series
A Preferred will have the right to appoint a majority of Pinnacle's board of
directors, with such newly appointed directors remaining on the board until such
time as Pinnacle achieves the threshold EBITDA level for a subsequent year.
Pinnacle did not attain the threshold EBITDA level for the years ended December
31, 1997 or 1998. The holders of the Series A Preferred waived their right to
appoint a majority of the Pinnacle directors at this time, but they retain the
right to appoint a majority of the Pinnacle directors. Pursuant to the Amended
and Restated Stockholders Agreement, Pinnacle's stockholders are required to
vote their shares to elect specified nominees to the board of directors.
On and after January 24, 2004, if any shares of Pinnacle Series A
Preferred Stock and any Pinnacle Warrants or Warrant Shares are outstanding, the
number of directors of Pinnacle shall be increased by the Control Number (as
defined below), with such additional directors to be designated by Vestar's
representatives on Pinnacle's board of directors (as long as Vestar or one of
its affiliates holds Series A Preferred or Warrant Shares at such time). From
and after the date (if any) on which a Control Number of directors are required
to be nominated and elected to the board as a result of the foregoing, if a
third party offers to acquire all outstanding shares of Pinnacle common stock,
the Required Warrantholders (as defined in the agreement) may, subject to
certain conditions, cause the other Stockholders to accept the third-party offer
and, along with the Required Warrantholders, sell all shares of Pinnacle common
stock held by them to the third party.
REGISTRATION RIGHTS. Management Stockholders shall be entitled to a
single "demand" and certain "piggyback" registration rights, subject to
customary conditions.
TERMINATION AGREEMENT WITH LAFARICK
Alvey, Pinnacle and Raebarn terminated a consulting agreement with
Raebarn Corporation or a predecessor entity ("Raebarn"), each of which is or was
beneficially owned by Mr. Ulrich and a former director of Pinnacle, in its
entirety in January 1996. In connection with such termination, Pinnacle and
Alvey agreed to make termination payments to Raebarn or its designees in the
amount of $250,000 per year through January 2004. In April 1995, Raebarn changed
its name to Lafarick, Inc. Pinnacle and Alvey expensed the payments of $2.0
million ($1.2 million net of tax), less $555,000 already accrued at December 31,
1995, in the first quarter of 1996.
CONSULTING AGREEMENT WITH MAMMOTH CAPITAL INC.
On December 31, 1995, Pinnacle and Alvey entered into a consulting
agreement with Mammoth Capital Inc., a corporation owned by Mr. Ulrich, pursuant
to which Pinnacle and Alvey agreed to pay an annual fee of $200,000, subject to
an annual increase at a rate of 3%, in addition to the reimbursement for its
out-of-pocket expenses (the "Mammoth Agreement"). The Mammoth Agreement also
provides for the payment of a transaction fee in the amount of 1% of the
aggregate consideration paid or received in connection with specified merger and
acquisition transaction (the "M&A Fee") and 1/2 of 1% of the gross proceeds
received in connection with financing transactions involving the public or
private offering of debt or equity securities of Pinnacle and Alvey or the
incurrence of bank debt, other than financing transactions solely involving
amendments, modifications or extensions of the Credit Agreement or the Notes
(the "Financing Fee"); provided, however, that the Financing Fee shall not
exceed $250,000. Pinnacle and Alvey are not obliged to pay duplicate M&A Fees
and Financing Fees in
29
<PAGE>
connection with any single transaction or series of related transactions. The
Mammoth Agreement will terminate on the earlier to occur of (i) January 24,
2004, (ii) the sale of all or substantially all of the capital stock or
assets of either Pinnacle or Alvey or (iii) the death or retirement of Mr.
Ulrich. In addition, the Mammoth Agreement will be terminable by Pinnacle and
Alvey in the event that Mr. Ulrich fails, or is otherwise unwilling, to
perform the services required by such agreement in a manner reasonably
acceptable to Pinnacle and Alvey and consistent with past practices. In
connection with the spin-off and related transactions as described in Note 4
to the Consolidated Financial Statements, Mammoth Capital Inc. received
$400,000 in fees for services rendered to Pinnacle and Alvey pursuant to such
consulting agreement.
CONSULTING AGREEMENT WITH VESTAR
On January 24, 1996, Pinnacle and Alvey entered into a consulting
agreement with Vestar Capital Partners ("Vestar Capital"), an affiliate of
Vestar, pursuant to which Pinnacle and Alvey agreed to pay an annual fee of
$150,000 to Vestar Capital (the "Vestar Agreement"). The Vestar Agreement
terminates on the earlier to occur of (i) the completion of an initial public
offering by Pinnacle of the Pinnacle Common Stock, (ii) the occurrence of a
change of control (as defined) or (iii) the date on which the Investors or
certain specified transferees cease to meet a certain minimum investment level.
In addition, upon consummation of the Pinnacle Preferred Stock and Warrants
Offering, Pinnacle paid to Vestar Capital a one-time fee of $750,000 and
reimbursed the Investors for all reasonable out-of-pocket costs and expenses
(including reasonable attorneys' fees and related expenses) incurred by the
Investors in connection with the Pinnacle Preferred Stock and Warrants Offering.
In connection with the spin-off and related transactions as described in Note 4
to the Consolidated Financial Statements, Vestar Capital Partners received
$900,000 in fees for services rendered to Pinnacle and Alvey pursuant to such
consulting agreement. In addition, pursuant to an agreement between Vestar and
the placement agent for a minority investment in McHugh, which was consummated
immediately after the spin-off, Vestar received $500,000 of the fee payable by
McHugh to the placement agent for additional services Vestar rendered to McHugh.
McHugh paid this fee to Vestar after the spin-off was consummated.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) LIST OF DOCUMENTS FILED AS PART OF THIS ANNUAL REPORT ON FORM 10-K
1. FINANCIAL STATEMENTS. The consolidated financial statements identified on
the index to consolidated financial statements and schedules on page F-1 hereof
are filed as part of this Annual Report on Form 10-K.
2. FINANCIAL STATEMENT SCHEDULES. Rule 12-09 Valuation and Qualifying
Accounts and Reserves of Registrant. See the Report of Independent
Accountants on Financial Statement Schedules.
All other schedules are omitted as the required information is inapplicable
or the information is presented in the consolidated financial statements or
related notes.
3. EXHIBITS. The following are filed as exhibits to this Annual Report on
Form 10-K:
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION REFERENCE
------- ----------- ---------
<S> <C> <C>
3.1 Certificate of Incorporation of Alvey Systems, Inc. (i)
3.2 Bylaws of Alvey Systems, Inc. (i)
10.1 Recapitalization Agreement, dated as of September 28, 1995, by and among
Pinnacle Automation, Inc., Alvey Systems, Inc. and the Selling Stockholders
listed on Schedule A thereto (i)
</TABLE>
30
<PAGE>
<TABLE>
<CAPTION>
<S> <C> <C>
10.2 Equity Purchase and Sale Agreement, dated as of December 13, 1995,
by and among Pinnacle Automation, Inc., Alvey Systems, Inc., James
M. Schloeman and each of the other persons or entities listed on
Schedule A thereto (i)
10.3 Equity Purchase and Sale Agreement, dated as of January 24, 1996, by and
among Pinnacle Automation, Inc., Alvey Systems, Inc. and Atlantic Equity
Corporation (i)
10.4 Amended and Restated Stockholders Agreement, dated as of January
11, 1996, by and among Pinnacle Automation, Inc., each of the
Management Stockholders (as defined therein), the Raebarn
Stockholders (as defined therein), the Series C Holders (as defined
therein) and the Warrant holders (as defined therein) (i)
10.5 Consulting Agreement, dated as of December 31, 1995, by and among Pinnacle
Automation, Inc., Alvey Systems, Inc. and Mammoth Capital Inc. (i)
10.6 Termination Agreement, dated as of December 31, 1995, by and among Pinnacle
Automation, Inc., Alvey Systems, Inc., and Lafarick, Inc. (i)
10.7 Investment Agreement, dated as of December 12, 1995, by and among Pinnacle
Automation, Inc., Vestar Equity Partners, L.P., Chemical Equity Associates
and Hancock Venture Partners IV--Direct Fund, L.P., as amended (i)
10.8 Registration Rights Agreement, dated as of January 24, 1996, by and among
Pinnacle Automation, Inc., Vestar Equity Partners, L.P., Chemical Equity
Associates, Hancock Venture Partners IV--Direct Fund, L.P., and the other
persons listed on the schedules thereto (i)
10.9 Consulting Agreement, dated as of January 24, 1996, by and among Pinnacle
Automation, Inc., Alvey Systems, Inc. and Vestar Capital Partners (i)
10.10 Purchase Agreement, dated January 19, 1996, by and among Alvey Systems,
Inc., Pinnacle Automation, Inc. and NationsBanc Capital Markets, Inc. (i)
10.11 Agreement, dated as of June 1, 1998, between Vestar Capital Partners and
Pinnacle Automation, Inc. (vi)
10.12 Indenture, dated as of January 24, 1996, by and between Alvey Systems, Inc.
and The Bank of New York (i)
10.13 First Supplemental Indenture, dated as of September 30, 1998, between Alvey
Systems, Inc. and the Bank of New York, as trustee. (v)
10.14 Registration Rights Agreement, dated as of January 24, 1996, by and among
Alvey Systems, Inc., Pinnacle Automation, Inc. and NationsBanc Capital
Markets, Inc. (i)
10.15 Credit Agreement, dated as of January 24, 1996, among Alvey Systems, Inc.,
the lenders named therein and NationsBank N.A. (i)
10.16 Amendment No. 1 to the Credit Agreement, dated May 15, 1996, among Alvey
Systems, Inc., the lenders named therein and NationsBank N.A. (ii)
10.17 Amendment No. 2 to the Credit Agreement, dated March 14, 1997, among Alvey
Systems, Inc., the lenders named therein and NationsBank N.A. (ii)
10.18 Amendment No. 3 to the Credit Agreement, dated August 12, 1997, among Alvey
Systems, Inc., the lenders named therein and NationsBank, N.A. (iii)
10.19 Fourth Amendment, Consent, Waiver and Release, dated as of October
26, 1998, among Alvey Systems, Inc., the Guarantors and Credit
Parties thereto and (v) NationsBank, N. A., as Agent. (v)
10.20 Pledge and Security Agreement, dated as of January 24, 1996, by Alvey
Systems, Inc., as pledgor, in favor of NationsBank, N.A. (i)
10.21 Pledge and Security Agreement, dated as of January 24, 1996, by Pinnacle
Automation, Inc., as pledgor, in favor of NationsBank, N.A. (i)
10.22 Security Agreement, dated as of January 24, 1996, by Alvey Systems, Inc.,
and its subsidiaries, in favor of NationsBank, N.A. (i)
</TABLE>
31
<PAGE>
<TABLE>
<CAPTION>
<S> <C> <C>
10.23 Non-Competition, Working Capital Guarantee and Security Agreement, dated
April 15, 1992, by and among the Company, Busse Bros, Inc., Eugene H. Busse
and First Wisconsin Trust Company (i)
10.24 Non-Competition, Working Capital Guarantee and Security Agreement, dated
April 15, 1992, by and among the Company, Busse Bros, Inc., Sheldon C. Busse
and First Wisconsin Trust Company (i)
10.25 Non-Competition, Working Capital Guarantee and Security Agreement, dated
April 15, 1992, by and among the Company, Busse Bros, Inc., Lois B. Biel and
First Wisconsin Trust Company (i)
10.26 Stock Purchase Agreement by and among Pinnacle Automation, Inc., Alvey
Systems, Inc., McHugh, Freeman & Associates, Inc., Weseley Software
Development Corp. and the other signatories thereto, dated December 20,
1995, as amended by Amendment No. 1 thereto dated January 29, 1996 (i)
10.27 Stock Purchase Agreement dated as of December 16, 1996 by and between Alvey
Systems, Inc. and UNR Industries, Inc. (ii)
10.28 Asset Purchase Agreement dated as of May 9, 1995 by and among Pinnacle
Automation, Inc., Alvey Systems, Inc., The Buschman Company, Diamond Machine
Co. and IMH of Lynchburg, Inc. (i)
10.29 Distribution Agreement, dated as of October 27, 1998, among Pinnacle
Automation, Inc., Alvey Systems, Inc. and McHugh Software International, Inc. (v)
10.30 Tax Sharing Agreement, dated as of October 27, 1998, among Pinnacle
Automation, Inc., Alvey Systems, Inc. and McHugh Software International, Inc. (v)
10.31 Second Amended and Restated Employment Agreement, dated June 2, 1997, by and
among Pinnacle Automation, Inc., Alvey Systems, Inc. and William R. Michaels. (iii)
10.32 Separation Agreement and General and Special Release dated June 2, 1997, by
and among Pinnacle Automation, Inc., Alvey Systems, Inc. and Michael J.
Tilton (iii)
10.33 Amended and Restated Employment Agreement, dated June 27, 1995, by and among
Pinnacle Automation, Inc. and Stephen J. O'Neill (i)
10.34 Employment Agreement, dated March 9, 1994, by and among The Buschman Company
and Christopher C. Cole (i)
10.35 Termination Agreement with Donald J. Weiss, dated April 26, 1996, by and
among Pinnacle Automation, Inc., Alvey Systems, Inc., White Storage &
Retrieval Systems, Inc. and Donald J. Weiss (iv)
21 List of Subsidiaries
27 Financial Data Schedule
</TABLE>
- --------------------------------
(i) Filed as an exhibit to the Company's Registration Statement on Form S-4 (No.
333-2600) and incorporated herein by reference.
(ii) Filed as an exhibit to the Company's Annual Report on Form 10K filed for
the year ended December 31, 1996 (No. 333-2600) and incorporated herein by
reference.
(iii) Filed as an exhibit to the Company's Form 10Q filed for the quarter
ended June 30, 1997 (No. 333-2600) and incorporated herein by reference.
(iv) Filed as an exhibit to the Company's Form 10Q filed for the quarter
ended March 31, 1996 (No. 333-2600) and incorporated herein by reference.
32
<PAGE>
(v) Filed on an exhibit to the Company's Form 8-K filed on October 27, 1998
(No. 333-2600) and incorporated herein by reference.
(vi) Filed as an exhibit to the Company's Form 10Q filed for the quarter
ended September 30, 1998 (No. 333-2600) and incorporated herein by reference.
(b) REPORTS ON FORM 8-K. The Company filed a current report on Form 8-K on
October 27, 1998.
(c) Refer to (a)(3) above.
(d) Refer to (a)(2) above.
33
<PAGE>
INDEX TO ALVEY SYSTEMS, INC.
CONSOLIDATED FINANCIAL STATEMENTS
PAGE
----
Report of Independent Accountants F-2
Consolidated Balance Sheet as of December 31, 1998 and 1997 F-3
Consolidated Statement of Operations for the years ended
December 31, 1998, 1997 and 1996 F-4
Consolidated Statement of Cash Flows for the years ended
December 31, 1998, 1997 and 1996 F-5
Consolidated Statement of Net Investment of Parent for
the years ended December 31, 1998, 1997 and 1996 F-7
Notes to Consolidated Financial Statements F-8
F-1
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Stockholder and
Board of Directors of
Alvey Systems, Inc.
In our opinion, the accompanying consolidated balance sheet and the related
consolidated statements of operations, of cash flows and of net investment of
parent present fairly, in all material respects, the financial position of
Alvey Systems, Inc. and its subsidiaries at December 31, 1998 and 1997 and
the results of their operations and their cash flows for each of the three
years in the period ended December 31, 1998 in conformity with generally
accepted accounting principles. These financial statements are the
responsibility of the Company's management; our responsibility is to express
an opinion on these financial statements based on our audits. We conducted
our audits of these statements in accordance with generally accepted auditing
standards which require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management,
and evaluating the overall financial statement presentation. We believe that
our audits provide a reasonable basis for the opinion expressed above.
PRICEWATERHOUSECOOPERS LLP
St. Louis, Missouri
February 11, 1999
F-2
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------
1998 1997
-------- ---------
<S> <C> <C>
ASSETS:
Current assets:
Cash and cash equivalents $ 2,499 $ 2,752
Receivables:
Trade (less allowance for doubtful accounts of $657 and
$1,069, respectively) 29,782 38,245
Unbilled and other 3,607 7,340
Accumulated costs and earnings in excess of billings
($28,577 and $28,261, respectively) on uncompleted
contracts 5,910 9,963
Inventories:
Raw materials 11,473 13,647
Work in process 5,217 2,881
Deferred income taxes 11,792 8,441
Net assets of divested operations 2,831 24,227
Prepaid expenses and other assets 2,056 862
-------- --------
Total current assets 75,167 108,358
Property, plant and equipment, net 27,058 27,431
Other assets 3,229 6,729
Goodwill 18,381 19,145
-------- --------
$123,835 $161,663
-------- --------
-------- --------
LIABILITIES AND NET INVESTMENT OF PARENT:
Current liabilities:
Current portion of long-term debt $ 185 $ 230
Accounts payable 24,288 26,406
Accrued expenses 35,382 36,455
Customer deposits 5,399 7,068
Billings in excess of accumulated costs and earnings
($81,784 and $80,586, respectively) on uncompleted
contracts 18,029 21,895
Deferred revenues 1,516 1,483
Taxes payable 710 833
-------- --------
Total current liabilities 85,509 94,370
Long-term debt 76,696 106,758
Other long-term liabilities 8,246 8,777
Deferred income taxes 466 286
Commitments and contingencies (Notes 4 and 12)
Net investment of Parent (47,082) (48,528)
-------- --------
$123,835 $161,663
-------- --------
-------- --------
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-3
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF OPERATIONS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------
1998 1997 1996
-------------- ------------- -------------
<S> <C> <C> <C>
Net sales $ 299,749 $ 287,669 $ 267,123
Cost of goods sold 223,277 224,458 212,522
-------------- ------------- -------------
Gross profit 76,472 63,211 54,601
Selling, general and administrative expenses 51,654 47,296 46,716
Research and development expenses 4,614 3,058 2,029
Amortization expense 780 776 877
Operating loss (income) from divested operations 12,934 (2,651) 9,574
Write-off of goodwill 11,491
Restructuring expense 11,334
Write-off of purchased in-process research and development costs 1,000
Other expense (income), net (440) 60 1,425
-------------- ------------- -------------
Operating income (loss) 6,930 3,338 (18,511)
Interest expense 12,478 13,756 12,301
Expenses associated with the spin-off of McHugh 1,220
Write-off of costs associated with a discontinued public offering 958
-------------- ------------- -------------
Loss before income taxes and extraordinary item (6,768) (11,376) (30,812)
Income tax expense (benefit) 1,585 (4,057) (1,909)
-------------- ------------- -------------
Loss before extraordinary item (8,353) (7,319) (28,903)
Extraordinary loss, net of income tax benefit of $5,832, $0 and
$1,328, respectively 8,748 1,993
-------------- ------------- -------------
Net loss $ (17,101) $ (7,319) $ (30,896)
-------------- ------------- -------------
-------------- ------------- -------------
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-4
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------------
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
OPERATING ACTIVITIES:
Net loss, excluding operating income (loss) from divested
operations $ (4,167) $ (9,970) $ (21,322)
Adjustments to reconcile net loss to net cash provided
by (used for) operating activities:
Depreciation 3,917 3,401 3,337
Amortization 780 776 877
Operating activities of divested operations (3,966) 1,795 (2,013)
Costs related to the spin-off of McHugh 6,628 2,963
Write-off of debt and preferred stock issuance costs 5,566
Write-off of purchased in-process research and development costs 1,000
Write-off of goodwill 11,491
Deferred taxes, net of effect of acquisitions (3,171) (3,814) (2,168)
Other 198
Decrease (increase) in current assets, excluding effect of
acquisitions:
Receivables 12,196 (1,697) (3,401)
Accumulated costs and earnings in excess of billings on
uncompleted contracts 4,053 1,905 (7,182)
Inventories (162) 1,360 2,247
Other assets 108 1,741 1,079
(Decrease) increase in current liabilities, excluding effect of
acquisitions:
Accounts payable (2,118) (1,925) 7,677
Accrued expenses (1,073) 2,254 8,963
Customer deposits (1,669) (3,351) (1,108)
Billings in excess of accumulated costs and earnings on uncompleted
contracts (3,866) 3,048 8,095
Deferred revenues 33 285 (400)
Taxes payable (123) 510 (1,773)
Other liabilities (531) 2,200 2,472
--------- --------- ---------
Net cash provided by (used for) operating activities 12,435 (1,284) 10,834
--------- --------- ---------
INVESTING ACTIVITIES:
Cash received from the spin-off of McHugh, net of related costs 32,278
Additions to property, plant and equipment, net (3,673) (3,190) (7,166)
Investing activities of divested operations (6,569) (3,087) (19,501)
Acquisition of subsidiary, net of cash acquired of $33 (4,026)
Other (421) (825)
--------- --------- ---------
Net cash provided by (used for) investing activities 22,036 (6,698) (31,518)
--------- --------- ---------
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-5
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS (CONTINUED)
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------------
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
FINANCING ACTIVITIES:
Proceeds of borrowings $ 63,410 $ 100,200 $ 132,319
Payments of debt and capital leases (93,517) (93,930) (80,828)
Payments of debt issuance costs and premium to repurchase Notes (4,551) (7,713)
Financing activities of divested operations (7) 161 (93)
Redemption of preferred stock (27,593)
Net contributions from (to) Parent (59) (80) 5,757
--------- --------- ---------
Net cash provided by (used for) financing activities (34,724) 6,351 21,849
--------- --------- ---------
Net increase (decrease) in cash and cash equivalants (253) (1,631) 1,165
Cash and cash equivalents, beginning of year 2,752 4,383 3,218
--------- --------- ---------
Cash and cash equivalents, end of year $ 2,499 $ 2,752 $ 4,383
--------- --------- ---------
--------- --------- ---------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the period for:
Interest on financings $ 12,948 $ 12,674 $ 6,777
Income taxes 594 422 1,281
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND
FINANCING ACTIVITIES:
Alvey Systems, Inc. purchased Real Time Solutions in 1996.
In conjunction with the acquisition, liabilities were assumed
as follows:
Fair value of assets acquired $ 4,547
Fair value assigned to goodwill 2,192
Cash paid concurrent with acquisition, including payment of debt of
acquired company and excluding cash acquired (4,026)
---------
Liabilities assumed $ 2,713
---------
---------
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-6
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF NET INVESTMENT OF PARENT
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
NET INVESTMENT
FOR THE YEARS ENDED DECEMBER 31, 1996, 1997 AND 1998 OF PARENT
-------------
<S> <C>
Balance December 31, 1995 $ (15,719)
Net loss (30,896)
Net investment of Parent 5,757
Preferred stock dividend declared (Note 9) (271)
-----------
Balance December 31, 1996 (41,129)
Net loss (7,319)
Net contribution to Parent (80)
-----------
Balance December 31, 1997 (48,528)
Net loss (17,101)
Spin off of McHugh 17,508
Net investment of Parent 1,039
-----------
Balance December 31, 1998 $ (47,082)
-----------
-----------
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
F-7
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION
Alvey Systems, Inc. ("Alvey") is a wholly owned subsidiary of Pinnacle
Automation, Inc. ("Pinnacle" or "Parent"). Pinnacle has no operations and no
assets other than its investment in Alvey. Alvey, with its subsidiaries (the
"Company"), is a leading materials handling and information systems company
which provides integrated solutions to a wide range of manufacturing and
distribution applications. The Company develops software and controls for
materials handling systems and manufactures a broad range of industrial
equipment such as conveyors, palletizers, depalletizers, carousels, sorters
and robotics which carry out the physical acts of loading and unloading,
sorting and transporting raw materials and finished products.
The accompanying financial statements of the Company include the
accounts of Alvey and its five operating subsidiaries: McHugh Software
International, Inc. ("McHugh"), located in Waukesha, Wisconsin, and its
wholly-owned subsidiaries, Weseley Software Development Corp. ("Weseley" or
"WSDC"), Software Architects, Inc. ("SAI") and Gagnon & Associates, Inc.
("Gagnon"); Busse Bros., Inc. ("Busse"), located in Randolph, Wisconsin; The
Buschman Company ("Buschman"), located in Cincinnati, Ohio; White Systems,
Inc. ("White") located in Kenilworth, New Jersey and Real Time Solutions,
Inc. ("RTS"), located in Napa, California. See Note 3 for additional
information on the Weseley, RTS, SAI and Gagnon acquisitions. See Note 4 for
discussion of divested operations which include the spin-off of McHugh and
its subsidiaries which was effected on October 27, 1998, the planned
divestiture of Busse and the disposition of a product line at White.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The policies utilized by the Company in the preparation of the
consolidated financial statements conform to generally accepted accounting
principles, and require management to make estimates and assumptions that
affect the reported amounts of assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses during
the reporting period. Actual amounts could differ from these estimates.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of Alvey and
Alvey's wholly owned subsidiaries: McHugh, Busse, Buschman, White and RTS.
All significant intercompany transactions, which primarily consist of sales,
have been eliminated. The operating results of divested operations, including
McHugh, Busse and the loss from the disposition of a product line, are
reflected in the Company's consolidated statement of operations as operating
loss (income) from divested operations. The net assets of divested operations
are presented as a separate line item in the Company's consolidated balance
sheet. The financial statements of prior years have been reclassified to be
consistent with the current year with respect to divested operations.
NET INVESTMENT OF PARENT
Net investment of Parent represents the net capital contributed by
Pinnacle as a result of the sales of its common stock, options and warrants
or awards of its common stock and options to certain employees of the Company
as well as cumulative results of operations and payment of preferred stock
dividends. The basis of Pinnacle's investment in Alvey has been pushed down
to the accompanying consolidated financial statements of Alvey.
At December 31, 1998, the net investment of Parent consists of
cumulative contributions of capital to Alvey by Pinnacle of $10.5 million,
cumulative losses before extraordinary losses of $25.0 million, extraordinary
losses of $18.3 million and an aggregate accretion/payment of $14.3 million
of paid-in-kind dividends on preferred stock. At December 31, 1997, the net
investment of Parent consists of cumulative contributions of capital to Alvey
by Pinnacle of $8.7 million, cumulative losses before extraordinary losses of
$33.4 million, extraordinary losses of $9.5 million and an aggregate
accretion/payment of $14.3 million of paid-in-kind dividends on preferred
stock.
F-8
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FAIR VALUE OF FINANCIAL INSTRUMENTS
For purposes of financial reporting, the Company has determined that the
fair value of financial instruments approximates book value at December 31,
1998 and 1997, based on terms available to the Company in financial markets.
REVENUE RECOGNITION
The Company utilizes the percentage-of-completion method of accounting
to recognize revenue and profits on virtually all non-software customer
contracts. For certain contracts related to equipment sales, the percentage
of completion is determined based on the ratio of the cost of equipment
shipped to date to the total estimated cost of the equipment to be shipped
under the contract. For other equipment contracts and all consulting
contracts, typically for larger machines and integrated systems, as well as
the installation phase of contracts, the percentage of completion is
determined based on the ratio of total costs incurred to date to the
estimated total costs to be incurred under the contracts. Any revisions in
the estimated total costs of the contracts during the course of the work are
reflected when the facts that require the revisions become known. Provisions
for estimated losses on uncompleted contracts are made in the period in which
such losses are determined. Revenues from maintenance and support contracts
are deferred and recognized ratably over the life of the related contract.
McHugh recognized software license fee revenue upon the later to occur
of (i) the execution of a software license agreement and (ii) delivery of the
standardized software to the customer. McHugh licensed its software to
customers on a perpetual, non-exclusive basis. Implementation, training and
consulting revenues were recognized as the services were rendered (fixed-fee
revenues were recognized on a percentage-of-completion basis). Annual
maintenance and support revenues consisted of ongoing support and product
updates and were recognized ratably over the term of the particular
maintenance agreement in place with a customer. Revenues for McHugh's
hardware and peripheral sales were recognized upon shipment.
SOFTWARE DEVELOPMENT COSTS
Certain costs incurred in developing software products for resale were
previously capitalized and amortized on a product-by-product basis using the
greater of the ratio that current gross revenues for a product bear to the
current and anticipated future gross revenues for that product or the
straight-line method over the estimated five year economic life of the
product. The costs consisted of salaries, computer expenses and other
overhead costs directly related to the development and/or major enhancement
of software products. Such costs were capitalized, to the extent they were
recoverable through future sales, from the time the product's technological
feasibility was established up to its general release to customers. Costs
incurred before or after this period were expensed as incurred except for
major product improvements, which were capitalized as described above. Net
unamortized capitalized software development costs were $414,000 at December
31, 1997 and are included in net assets of divested operations. Amortization
of capitalized software costs included in cost of goods sold in the
consolidated statement of operations totaled $864,000 in 1996, which included
the write-off of $659,000 of capitalized software development costs that were
not expected to be recoverable through future sales. Additionally, $158,000,
$189,000 and $189,000 of software amortization is included in operating loss
(income) from divested operations in the consolidated statement of operations
for the years ended December 31, 1998, 1997 and 1996, respectively.
RESEARCH AND DEVELOPMENT COSTS
Research and development costs are expensed as incurred.
F-9
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include demand deposit accounts, cash on hand
and time deposits with original maturities of less than 90 days. Such amounts
are carried at cost, which approximates market.
INVENTORY VALUATION
Work-in-process inventories consist principally of in-process
palletizing and depalletizing machines, conveyor and carousel systems, other
materials handling equipment and parts manufactured by the Company for use in
these products. Raw materials include steel, purchased parts and other
materials used in the manufacturing process. These inventories are valued at
the lower of cost (first-in, first-out) or market. Obsolete or unsalable
inventories are reflected at their estimated realizable values.
PROGRESS BILLINGS
The Company bills its customers based on the terms set forth in a sales
contract. The billing schedule does not necessarily match the stage of
completion of a customer's order for installation. As such, costs, earnings
and billings are accumulated for jobs in progress at period end and to the
extent costs and earnings exceed billings and billings exceed costs and
earnings for such jobs, an asset or liability is recorded.
Unbilled receivables are those amounts recognized in revenues for
completed portions of manufacturing contracts and software license fees which
have not been billed to the customer under the specific billing terms of the
contract or license agreement. Customer deposits represent cash received from
customers in payment of billings for equipment for which no associated
revenue or cost has been recognized.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are carried at cost. Costs assigned to
property, plant and equipment are based on estimated fair value at the date
of acquisition. Upon sale, retirement or other disposition, the cost and
related accumulated depreciation are removed from the respective accounts and
any resulting gain or loss is included in income.
Depreciation of property, plant and equipment, including equipment under
capital lease agreements, is charged to expense over the estimated useful
lives of the related assets using the straight-line method.
Useful lives by major asset category are as follows:
Building and improvements..................................7 to 25 years
Machinery and equipment....................................3 to 12 years
Office furniture and equipment.............................3 to 10 years
GOODWILL AND OTHER INTANGIBLE ASSETS
The excess of cost over the fair market value of net assets acquired in
purchase transactions has been recorded as goodwill to be amortized over a
period of 40 years, except for goodwill related to RTS, which is being
amortized over 10 years. Management assesses the carrying value of goodwill
for recoverability based on an analysis of future expected undiscounted cash
flows from the underlying operations.
At December 31, 1996 the Company recorded a charge of $11.5 million for
the write-off of goodwill at one of its subsidiaries. This write-off
represents the entire amount of remaining goodwill at December 31, 1996
recorded by that subsidiary which was considered to be impaired due to
historical losses and uncertainty regarding
F-10
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
future income and cash flows. See Note 7 for further discussion.
Debt issuance costs and agreements not to compete are amortized over the
life of the related agreements. All intangible assets are amortized using the
straight-line method.
LONG-LIVED ASSETS
Long-lived assets held and used by the Company are reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount of such assets may not be recoverable. For purposes of
evaluating the recoverability of long-lived assets, the recoverability test
is performed using undiscounted cash flows estimated to be generated by those
assets and a loss is recorded when such value is less than the assets'
carrying amount.
INCOME TAXES
As a subsidiary of Pinnacle, the Company's results of operations are
included in consolidated federal income tax returns which include the Company
and its subsidiaries; the Company could be considered jointly and severally
liable for assessments of additional tax on the consolidated group. The
Company's provision for income taxes has been presented based on income taxes
the Company would have provided on a separate company basis which approximate
those of Pinnacle as a consolidated entity.
Income taxes are based upon income for financial reporting purposes.
Deferred income taxes are provided for the temporary differences between the
financial reporting bases and the income tax bases of the Company's assets
and liabilities. The tax rates expected to be in effect when such differences
are reflected in the Company's income tax returns are used in calculating the
deferred tax asset or liability. The major temporary differences that give
rise to deferred taxes include retainage, depreciation, warranty and
inventory costs, deferred compensation, restructuring and various other
reserves. See Note 10 for additional information.
CONCENTRATIONS OF CREDIT RISK
The Company sells its products to a wide range of companies in the food,
beverage, national retailing and distribution industries, as well as certain
government entities. The Company performs ongoing credit evaluations of its
customers and generally does not require specific collateral as many
customers pay deposits to the Company prior to commencement of production in
accordance with terms of the sales contract. The Company maintains reserves
for potential credit losses based upon factors surrounding the credit risk of
specific customers, historical trends and other information; historically,
such losses have been within management's expectations.
EARNINGS PER SHARE INFORMATION
Given the historical organization and capital structure of the Company,
earnings per share information is not considered meaningful or relevant and
has not been presented in the accompanying consolidated financial statements
or the notes thereto.
NEW ACCOUNTING STANDARDS:
In June 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 130, "Reporting Comprehensive Income"
(FAS 130), which establishes standards for reporting and display of
comprehensive income and its components (revenues, expenses, gains and
losses) in a full set of general purpose financial statements. Adoption of
FAS 130 did not significantly impact the company's financial reporting.
F-11
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In June 1997, the Financial Accounting Standards Board issued Statement
of Financial Account Standards No. 131, "Disclosures about segments of an
Enterprise and Related Information" (FAS 131), which requires public entitles
to report information about operating segments in annual financial statements
and requires that selected information about operating segments be reported
in interim financial reports issued to shareholders. Adoption of FAS 131 did
not significantly impact the Company's financial reporting.
3. ACQUISITIONS
WESELEY ACQUISITION
In January 1996, McHugh purchased all of the outstanding capital stock
of Weseley for $15 million in cash. The acquisition, which was recorded
pursuant to the purchase method of accounting, was financed with a portion of
the proceeds of the Debt Offering as described in Note 8. The excess of the
cost of the acquisition over the fair value of net assets acquired (including
purchased in-process research and development, as further described below) of
$5.1 million was recorded as goodwill and is being amortized over a period of
10 years. The consolidated financial statements of the Company include the
results of operations and cash flows of Weseley from its date of acquisition
through the date of the McHugh spin-off.
Based on the results of an independent appraisal, $11.7 million of the
Weseley purchase price was allocated to in-process research and development
costs at the date of acquisition and was recorded as a write-off of purchased
in-process research and development in the Company's consolidated statement
of operations during the first quarter of 1996.
Under the terms of the purchase agreement, subject to the continued
employment of the former principal shareholder of Weseley and certain other
conditions, certain employees of Weseley had an opportunity to earn stay
bonuses in the aggregate of $625,000 per year for each of eight years
immediately following the acquisition of Weseley which will be charged to
income in the year earned and employee incentive compensation up to an
aggregate maximum of $13 million, based on Weseley's achievement of defined
levels of earnings before interest, income tax, depreciation, amortization,
management fees and extraordinary losses, which will be charged to income
when such amounts are estimable and payment thereof is deemed probable.
During 1997, the employment of the former principal shareholder of Weseley
was terminated and another former shareholder of Weseley left the Company.
See also Note 12 for related discussion. As a result, in 1998 the remaining
former shareholders of Weseley renegotiated their stay bonus agreement to
reduce the amount of the annual stay bonuses to approximately $400,000 per
year for the next four years. During 1998, 1997 and 1996, amounts of
$400,000, $275,000 and $625,000, respectively, related to the stay bonus were
charged to operating loss (income) from divested operations in the
consolidated statement of operations. No payments were made or expense
recognized in 1998, 1997 or 1996 related to the employee incentive
compensation agreement.
RTS ACQUISITION
In December 1996, Alvey purchased all of the outstanding capital stock
of RTS for $4.1 million in cash. The acquisition, which was recorded pursuant
to the purchase method of accounting, was financed through the Company's
working capital facility. The excess of the cost of the acquisition over the
fair value of net assets acquired (including purchased in-process research
and development, as further described below) of $2.2 million was recorded as
goodwill and is being amortized over a period of 10 years. The consolidated
financial statements of the Company include the results of operations and
cash flows of RTS from its date of acquisition.
Based on the results of an independent appraisal, $1.0 million of the
RTS purchase price was allocated to in-process research and development costs
at the date of acquisition and was recorded as a write-off of purchased
in-process research and development in the Company's consolidated statement
of operations during the fourth quarter of 1996.
F-12
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The pro forma results of operations of the Company for 1996 would not
have been materially different from reported results had either or both of
the Weseley and RTS acquisitions taken place on January 1, 1996. Accordingly,
pro forma financial information for the Weseley and RTS acquisitions is not
presented.
SAI ACQUISITION
On April 1, 1998, McHugh purchased all of the outstanding capital stock
of SAI for $1.5 million in cash. The acquisition was financed through the
Company's working capital facility. In addition, subject to their continued
employment, certain employees of SAI have an opportunity to earn stay bonuses
in the aggregate of $1.1 million per year for each of the next four years.
During 1998, $656,000 was charged to operating loss (income) from divested
operations in the consolidated statement of operations related to such stay
bonuses. At closing, McHugh also granted options to purchase an aggregate
number of shares equal to 1.5% of the common stock of McHugh. Additional
options in an aggregate amount corresponding to 0.5% of the common stock of
McHugh will be awarded to certain SAI employees on the first through the
fourth anniversaries of the acquisition date, commencing April 1, 1999. The
exercise price of all such options is equal to the fair market value of the
common stock of McHugh on the option grant date. The options vest ratably
over four years, expire on the eighth anniversary of the date of grant and
are only exercisable upon the occurrence of certain trigger events set forth
in the option agreements. The excess of the cost of the acquisition over the
estimated fair value of net assets acquired (including purchased in-process
research and development, as further described below) of $49,000 was recorded
as goodwill and is being amortized over a period of five years. The
consolidated financial statements of the Company include the results of
operations and cash flows of SAI from its date of acquisition through the
date of the McHugh spin-off.
Based on an independent appraisal, $1.1 million of the SAI purchase
price was allocated to in-process research and development costs at the date
of acquisition and was recorded as a write-off of purchased in-process
research and development (included in operating loss (income) from divested
operations) in the Company's consolidated statement of operations during the
second quarter of 1998.
GAGNON ACQUISITION
On May 15, 1998, McHugh purchased all of the outstanding capital stock
of Gagnon for $1.9 million in cash. The acquisition was financed through the
Company's working capital facility. In addition, subject to their continued
employment, certain employees of Gagnon have an opportunity to earn stay
bonuses in the aggregate of $600,000 per year for each of the next three
years. During 1998, $250,000 was charged to operating loss (income) from
divested operations in the consolidated statement of operations related to
such stay bonuses. At closing, McHugh also granted options to purchase an
aggregate number of shares equal to 0.25% of the common stock of McHugh.
Additional options in an aggregate amount corresponding to 0.25% of the
common stock of McHugh will be awarded to certain Gagnon employees on the
first through the third anniversaries of the acquisition date, commencing May
15, 1999. The exercise price of all such options is equal to the fair market
value of the common stock of McHugh on the option grant date. The options
vest ratably over four years, expire on the eighth anniversary of the date of
grant and are only exercisable upon the occurrence of certain trigger events
as set forth in the option agreements. The excess of the cost of the
acquisition over the estimated fair value of net assets acquired (including
purchased in-process research and development, as further described below) of
$370,000 was recorded as goodwill and is being amortized over a period of
five years. The consolidated financial statements of the Company include the
results of operations and cash flows of Gagnon from its date of acquisition
through the date of the McHugh spin-off.
Based on an independent appraisal, $1.7 million of the Gagnon purchase
price was allocated to in-process research and development costs at the date
of acquisition and was recorded as a write-off of purchased in-process
research and development (included in operating loss (income) from divested
operations) in the Company's
F-13
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
consolidated statement of operations during the second quarter of 1998.
The pro-forma results of operations of the Company would not have been
materially different from reported results had either or both of the SAI and
Gagnon acquisitions taken place on January 1, 1998, 1997 or 1996,
respectively. Accordingly, pro forma financial information for the SAI and
Gagnon acquisitions is not presented.
As described in Note 4, McHugh and its subsidiaries, including Weseley,
SAI and Gagnon, were spun-off by Alvey to Pinnacle and from Pinnacle to its
common stockholders on October 27, 1998. The operating results and net assets
of McHugh and its subsidiaries are included in the Company's consolidated
statement of operations as operating loss (income) from divested operations
and in the consolidated balance sheet as net assets of divested operations.
4. DIVESTED OPERATIONS
MCHUGH
During October 1998, the Company issued as a dividend its
previously held shares in McHugh to Pinnacle. On October 27, 1998, Pinnacle
effected a spin-off of the common stock of McHugh to Pinnacle's stockholders.
Subsequent to the spin-off and a sale of a minority interest in McHugh for
$50 million in cash, Alvey received a cash payment from McHugh of
approximately $36.5 million for full payment of a note established at the
time of the spin-off representing McHugh's intercompany debt to Alvey
totaling approximately $34.8 million on the date of the spin-off and the
payment of a tax free dividend from McHugh to Alvey of approximately $1.7
million. As discussed in Note 8, Alvey used $33.9 million of the proceeds to
repurchase $30 million of its Senior Subordinated Notes due 2003 ("the
Notes") at a premium of $3.9 million. Such payment occurred on November 25,
1998. During October 1998, the Company purchased 343,545 shares of newly
issued McHugh common stock for $3,435, which were issued as a dividend by
Alvey to Pinnacle. As discussed in Note 9, the holders of Pinnacle Series A,
Series B and Series C Preferred Stock (collectively, the "Pinnacle Preferred
Stock") exchanged 18,600 shares of Pinnacle Preferred Stock for 343,514
shares of newly created classes of common stock of McHugh.
The Company also recorded a non-recurring, non-operating charge to
income in the fourth quarter of 1998 approximating $1.2 million relative to
costs of the McHugh spin-off.
BUSSE
In 1998 the Company decided that Busse was not central to its strategic
plan, and as a result, management began the process to divest Busse. Based on
information received as a result of this process, management believes that
there has been an in impairment of Busse assets for which a charge to
operations of $3.2 million was recorded in the fourth quarter of 1998.
WHITE PRODUCT LINE
On December 28, 1998, a product line at White was sold for approximately
$1.2 million in cash. Costs incurred by the Company in connection with this
sale totaled approximately $2.0 million and a loss on sale of the product
line was recorded in the fourth quarter of 1998 totaling approximately
$798,000. Such costs incurred by the Company consisted of the book value of
the related inventory, a rental obligation, severance costs, a fixed asset
write-down and warranty costs.
The operating loss (income) of McHugh and Busse as well as the loss on
sale of the product line are reflected in the Company's consolidated
statement of operations as operating loss (income) from divested
F-14
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
operations for the years ended December 31, 1998, 1997 and 1996. The net
assets of McHugh and Busse are reflected in the Company's consolidated
balance sheet as net assets of divested operations at December 31, 1998 and
1997, respectively. Primary components of the operating (loss) income from
divested operations and net assets of divested operations are reflected below.
Operating (loss) income from divested operations for the three years
ended December 31 (in thousands):
<TABLE>
<CAPTION>
1998 1997 1996
----------- ----------- -----------
<S> <C> <C> <C>
Net sales $ 82,716 $85,553 $64,667
Cost of goods sold 59,236 54,939 44,239
----------- ----------- -----------
Gross profit 23,480 30,614 20,428
Selling, general and administrative
expenses 21,156 17,170 14,755
Research and development
expenses 7,790 6,005 2,768
Write-off of purchased in-process
research and development costs 2,800 -- 11,700
Restructuring expense -- 3,950 --
Amortization expense 660 887 826
Loss on sale of product line 798 -- --
Loss due to impairment of assets 3,200 -- --
Other expense (income), net 10 (49) (47)
----------- ----------- -----------
Operating (loss) income from
divested operations $(12,934) $ 2,651 $(9,574)
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
Net assets of divested operations at December 31 (in thousands):
<TABLE>
<CAPTION>
1998 1997
----------- ----------
<S> <C> <C>
Current assets $3,235 $27,739
Property, plant and equipment, net 3,658 8,028
Goodwill, net 1,385 6,006
Other assets 182 2,112
Less:
Current liabilities 5,472 15,658
Other liabilities 157 4,000
----------- ----------
Net assets of divested operations $2,831 $24,227
----------- ----------
----------- ----------
</TABLE>
F-15
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
5. RESTRUCTURING AND OTHER CHARGES
During the second quarter of 1997, the Company recorded a $15.3 million
restructuring charge ($9.2 million, net of tax), of which $4.0 million is
included in operating loss (income) from divested operations in the
accompanying financial statements. The restructuring charge included costs to
discontinue offering certain proprietary systems software products at one
subsidiary, to reorganize and reduce the size of the Company's corporate
organization and to restructure and streamline the executive and marketing
functions at McHugh. Costs to discontinue certain proprietary software
products consist primarily of costs to complete certain projects
incorporating this software, payroll and facility charges during the
phase-out of the product, severance charges, sales returns and allowances
(relative to prior period sales) anticipated as a result of the
discontinuance, the write-off of assets that became obsolete or slow-moving
as a result of the discontinuance and other miscellaneous restructuring
costs. The corporate reorganization and the McHugh reorganization charges are
primarily severance costs. The subsequent reduction of accrued restructuring
costs consisted primarily of the recording of sales returns and allowances,
the write-off of obsolete and slow-moving assets, payroll and facility costs
associated with the discontinued software products, costs to complete
projects involving the discontinued products, severance and other costs. It
is anticipated that costs accrued as restructuring by non-divested operations
will be fully paid by December 31, 1999 and costs accrued as restructuring by
divested operations (primarily severance) will be fully paid by April 30,
2004. Costs relative to the McHugh reorganization (included in the table
below) are included in net assets of divested operations in the consolidated
balance sheet of the Company. (See Note 4.)
The following table presents a roll-forward of the liabilities, both
current and long-term, for restructuring from the initial accrual to December
31, 1998:
<TABLE>
<CAPTION>
COSTS TO DISCONTINUE CORPORATE MCHUGH
PRODUCT OFFERINGS REORGANIZATION REORGANIZATION TOTAL
-------------------- -------------- -------------- ----------------
<S> <C> <C> <C> <C>
Initial accrual $ 8,566 $ 2,768 $ 3,950 $ 15,284
Reductions/payments (5,644) (1,352) (746) (7,742)
------------ ------------ ----------- -----------
December 31, 1997 balance 2,922 1,416 3,204 7,542
Reductions/payments (2,515) (934) (840) (4,289)
Spin-off of McHugh -- -- (2,364) (2,364)
------------ ------------ ----------- -----------
December 31, 1998 balance $ 407 $ 482 $ -- $ 889
------------ ------------ ----------- -----------
------------ ------------ ----------- -----------
</TABLE>
In addition, a one-time asset write-down and other non-recurring charge
totaling $2.3 million ($1.4 million, net of tax) were recorded in the second
quarter of 1997. These non-recurring charges to operating income primarily
include a write-down in the carrying value of inventory at a restructured
subsidiary, employee relocation costs associated with exiting certain product
offerings and costs associated with bringing restructured production
facilities up to Company standards.
In the fourth quarter of 1997, legal, accounting and other charges
totaling $958,000 related to a planned initial public offering of common
stock of McHugh were charged to income as the Company decided not to proceed
with the initial public offering.
F-16
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
6. PROPERTY, PLANT AND EQUIPMENT, NET
Property, plant and equipment, net consists of the following (in
thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------
1998 1997
------------ ------------
<S> <C> <C>
Land $ 3,129 $ 3,129
Buildings and improvements 17,773 17,512
Machinery and equipment 9,426 8,605
Office and other equipment 16,007 13,800
Property held under capital lease 949 833
------------ ------------
47,284 43,879
Less: Accumulated depreciation and amortization,
including $377 and $266, respectively, related
to property held under capital lease (20,226) (16,448)
------------ ------------
$ 27,058 $ 27,431
------------ ------------
------------ ------------
</TABLE>
Depreciation expense for leased equipment was $218,000, $126,000 and
$114,000 for the years ended December 31, 1998, 1997 and 1996, respectively.
Future minimum lease payments under the capital leases and the present value
of the net minimum lease payments at December 31, 1998 are as follows (in
thousands):
<TABLE>
<CAPTION>
<S> <C>
1999 $ 203
2000 303
-----------
Total minimum lease payments 506
Less: Amount representing interest 56
-----------
Present value of minimum lease payments at December 31,
1998, including current portion of $185 $ 450
-----------
-----------
</TABLE>
Certain other office equipment, automobiles and office space are
utilized by the Company under operating leases which resulted in rental
expense for non-divested operations of $3.7 million, $3.4 million and $2.9
million in 1998, 1997, and 1996, respectively. Commitments under these leases
total $3.3 million in 1999, $2.9 million in 2000, $2.7 million in 2001, $2.3
million in 2002, $1.9 million in 2003 and $4.0 million in the aggregate in
years thereafter.
F-17
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7. GOODWILL
Goodwill is summarized as follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------------------
1998 1997
------------ ------------
<S> <C> <C>
Goodwill $ 23,208 $ 23,208
Less: Accumulated amortization (4,827) (4,063)
------------ ------------
$ 18,381 $ 19,145
------------ ------------
------------ ------------
</TABLE>
During 1996, the Company wrote-off $11.5 million of goodwill
representing the full amount of remaining goodwill at one subsidiary which
was considered to be impaired due to historical losses, uncertainty regarding
future income and uncertainty regarding future cash flows. This impairment
was determined by analyzing future expected undiscounted cash flows from the
underlying operations. The amount of the write-off was determined using
future expected discounted cash flows from the underlying operations.
8. LONG-TERM DEBT
The detail of long-term debt follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
1998 1997
---------- ----------
<S> <C> <C>
11 3/8% Senior Subordinated Notes due
January 31, 2003 $ 70,000 $ 100,000
Revolving Credit Facility - weighted average rate of 8.05%
at December 31, 1998, due January 24, 2001 6,400 6,500
Capital lease obligations and other 481 488
---------- ----------
76,881 106,988
Less: Current portion 185 230
---------- ----------
$ 76,696 $ 106,758
---------- ----------
---------- ----------
</TABLE>
On January 24, 1996, Alvey issued and sold $100 million of 11 3/8%
Senior Subordinated Notes due 2003 (the "Debt Offering"). The proceeds of the
Debt Offering were used to repay all of the Company's outstanding senior
indebtedness and certain other indebtedness, fund the acquisition of Weseley,
pay transaction fees, fund a dividend to Pinnacle of $21.6 million and
provide working capital for ongoing operations. As a result of the repayment
of the outstanding senior indebtedness, the Company recorded an extraordinary
loss of approximately $2 million representing the write-off of related debt
issuance costs and debt repayment penalties, net of tax. In accordance with
the terms of the Debt Offering, Alvey filed a registration statement with the
Securities and Exchange Commission with respect to an offer to exchange the
11 3/8% Senior Subordinated Notes for a new issue of debt securities of Alvey
registered under the Securities Act of 1933 with terms substantially
identical to those of the 11 3/8% Senior Subordinated Notes. Such
registration statement was declared effective on May 9, 1996 and the exchange
of $100 million in principal amount of the original notes for $100 million in
principal amount of registered notes was completed on June 11, 1996.
F-18
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In connection with the spin-off of McHugh on October 27, 1998, as
described in Note 4, the holders of the Notes consented to an amendment of
the indenture for the Notes to, among other things, (i) permit the spin-off
of McHugh, (ii) permit Alvey to increase borrowings under the revolving
credit facility by $10 million, and (iii) make modifications to certain
covenants. Alvey and the trustee for the bondholders entered into the First
Supplemental Indenture evidencing such terms on September 30, 1998. To obtain
the consent of its bondholders, Alvey agreed to, among other things, (i) pay
a consent premium of $46.00 in cash for each $1,000 principal amount of Notes
for which a consent was properly delivered prior to the expiration of the
consent solicitation (approximately $4.6 million) and (ii) immediately after
the consummation of the spin-off, commence an offer to all of its
bondholders, on a pro rata basis, to purchase up to $30 million in aggregate
principal amount of the Notes at a cash purchase price equal to 113% of the
principal amount thereof plus accrued and unpaid interest thereon, if any, to
the date of purchase. On November 25, 1998, $30 million of Notes were
repurchased at a premium of $3.9 million. In connection with obtaining
bondholder consent, the Company incurred other expenses totaling $518,000.
The consent premium, the premium on the Notes repurchased and other expenses
incurred (approximating $9.0 million) along with the write-off of unamortized
costs remaining from the original indenture totaling $4.5 million, were
recorded as an extraordinary loss, less related tax benefits of $5.4 million,
in the fourth quarter of 1998. Debt issuance costs related to the indenture
amendment totaling $1.6 million are being amortized over the remaining term
of the Notes.
Concurrent with the consummation of the Debt Offering, Alvey entered
into a credit agreement (the "Credit Agreement") for a $30 million revolving
credit facility (the "Revolving Credit Facility") which is guaranteed by
Pinnacle and each direct and indirect subsidiary of Alvey. Indebtedness of
Alvey under the Credit Agreement is secured by substantially all of the
personal property of Alvey and its subsidiaries, all capital stock of Alvey
and 100% of the capital stock of its domestic subsidiaries (other than the
portion of the shares of capital stock of Busse which are pledged to secure
certain non-compete payments). Indebtedness under the Revolving Credit
Facility bears interest at a rate based upon, at Alvey's option, (i) the Base
Rate (as defined in the Revolving Credit Facility) plus 1.0% or (ii) the
Euro-dollar Rate (as defined in the Revolving Credit Facility) for one, two,
three, six or, if available, nine or twelve months, plus 2.0%; provided,
however, the interest rate margins are subject to 0.25% increases or
decreases based upon Alvey's achievement of certain performance targets.
Commitment fees accrue on the average daily unused portion of the Revolving
Credit Facility at 0.5% per annum and are payable quarterly. The Revolving
Credit Facility expires January 24, 2001. Effective October 26, 1998, the
revolving credit facility was amended to (i) allow the spin-off of McHugh as
described in Note 4, (ii) allow a $10 million increase in the commitment
amount of the facility within 60 days of the consummation of the spin-off
with certain restrictions, and (iii) amend certain debt covenants. Effective
December 3, 1998, the Company increased the commitment amount under the
revolving credit facility to $35 million. Debt issuance costs approximating
$618,000 were incurred in amending the revolving credit facility at October
26, 1998 and are being amortized with certain other costs over the life of
the remaining facility. Unamortized costs incurred in 1996 with the original
issuance of the revolving credit facility totaling $332,000, net of
applicable income tax benefits of $133,000, were written off during the
fourth quarter of 1998 and accounted for as an extraordinary loss. At
December 31, 1998, $28.0 million of borrowing capacity within the current
debt covenant limitations remained available under the Revolving Credit
Facility.
Under the Credit Agreement, the Company has provided standby letters of
credit at December 31, 1998 in the amount of $621,000 as security for payment
of the Company's workers' compensation claims. Outstanding letters of credit
bear a 2.0% per annum fee, which is payable quarterly.
Virtually all of the tangible assets of the Company are pledged as
collateral under the Credit Agreement. Restrictive covenants of outstanding
debt instruments include the maintenance of certain key ratios as well as
limitations on capital expenditures, incurrence of additional debt, stock
issuances and the payment of cash dividends. The Company was in compliance
with such financial covenants at December 31, 1998.
F-19
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
9. REDEEMABLE PREFERRED STOCK AND RECAPITALIZATION OF PINNACLE
Concurrent with the consummation of the Debt Offering (see Note 8),
Pinnacle sold redeemable preferred stock and warrants to purchase its common
stock to an investor group for $30 million in cash proceeds (the "Preferred
Stock Offering"). The proceeds of the Preferred Stock Offering, together with
a dividend from Alvey to Pinnacle, were used to repurchase certain shares of
Pinnacle's outstanding common stock and to redeem Pinnacle's Series A Senior
Cumulative Exchangeable Preferred Stock and Cumulative Exchangeable Preferred
Stock. While Alvey has not guaranteed, nor is it contingently obligated with
respect to the redeemable preferred stock and warrants issued in the
Preferred Stock Offering, Pinnacle has no financial resources, other than
from its subsidiaries' operations, to satisfy cash requirements relative to
these shares. The redeemable preferred stock and warrants from the Preferred
Stock Offering have not been pushed down to Alvey's consolidated financial
statements as such redeemable preferred stock and warrants are not
exchangeable into securities of Alvey. At December 31, 1998 and 1997,
accumulated dividends on the redeemable preferred stock totaled $10.3 million
and $11.6 million, respectively.
As part of the spin-off of McHugh as described in Note 4, the holders of
Pinnacle Preferred Stock exchanged 18,600 shares of Pinnacle Preferred Stock
for 343,514 shares of newly created classes of common stock of McHugh.
Additionally all of the outstanding warrants from the Preferred Stock
Offering were exercised in connection with the spin-off of McHugh. A portion
of the original issuance costs of the Pinnacle Preferred Stock approximating
$659,000, net of applicable tax benefits, were recorded as an extraordinary
loss in the fourth quarter of 1998.
10. INCOME TAXES
Income tax expense (benefit) relative to loss before income taxes and
extraordinary item is comprised of (in thousands):
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------ ------------
<S> <C> <C> <C>
Current
Federal $ 1,583 $ 243 $ 211
State 785 715 496
Foreign 146 130
------------ ------------ ------------
2,514 1,088 707
Deferred
Federal (116) (3,108) (1,645)
State (813) (2,037) (971)
------------ ------------ ------------
$ 1,585 $ (4,057) $ (1,909)
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
F-20
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
A reconciliation of the income tax benefit per the statutory federal
income tax rate to the reported income tax expense (benefit) on loss before
income taxes and extraordinary item is as follows (in thousands):
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------ ------------
<S> <C> <C> <C>
Income tax benefit at statutory rate $ (2,301) $ (3,868) $ (10,476)
Expense (benefit) resulting from:
Write-off of nondeductible purchased
in-process research and development 952 4,318
Valuation allowance on loss on impaired assets 1,120
Impact of McHugh spin-off 806
Write-off of nondeductible goodwill 3,907
State taxes, net of federal tax benefit (10) (852) (226)
Foreign taxes 448 (21)
Nondeductible goodwill amortization 423 433 448
Other 147 251 120
------------ ------------ ------------
$ 1,585 $ (4,057) $ (1,909)
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
the Company's deferred tax assets and liabilities (excluding those of divested
operations) are as follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------------
1998 1997
------------ -------------
<S> <C> <C>
Accrued insurance claims $ 3,085 $ 2,518
Inventory reserves 1,652 2,696
Warranty reserves 1,766 1,579
Employee cost accruals 5,614 3,103
Revenue timing differences 683 1,325
Accrued professional fees 1,255 757
Restructuring costs 380 1,778
Net operating loss carryforwards 3,414 1,833
Other 542 370
------------ -------------
Total deferred tax assets 18,391 15,959
------------ -------------
Revenue timing differences 829 1,418
Property related items 5,158 5,262
Other 1,078 1,124
------------ -------------
Total deferred tax liabilities 7,065 7,804
------------ -------------
Net deferred tax asset $ 11,326 $ 8,155
------------ -------------
------------ -------------
</TABLE>
In accordance with Statement of Financial Accounting Standards No. 109,
"Accounting for Income Taxes", management has determined that based on
expected future operating plans and tax planning strategies available to the
Company, the net deferred tax assets at December 31, 1998 will be utilized to
offset future taxes. Therefore, no valuation reserve related to such deferred
tax assets has been recorded at December 31, 1998 and 1997, respectively.
F-21
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Company's net operating loss carry forwards expire in 2000 through
2014.
During 1997, the Company established a Foreign Sales Corporation
subsidiary organized under the provisions of the Tax Reform Act of 1984.
11. EMPLOYEE BENEFIT AND STOCK OWNERSHIP PLANS
The Company maintains 401(k) savings plans for virtually all employees
who meet certain eligibility requirements, except certain union employees who
participate in multi-employer pension plans. Under the plans, the employees
may defer receipt of a portion of their eligible compensation with the
Company matching a defined percentage of the employees' deferral. The
Company's matching contributions for non-divested operations were $592,000,
$541,000 and $478,000 for the years ended December 31, 1998, 1997 and 1996,
respectively. The Company may also elect to make discretionary profit sharing
contributions for virtually all employees, except those union employees who
participate in multi-employer pension plans, for which a provision of $2.1
million, $2.1 million and $1.8 million related to non-divested operations is
included in the consolidated financial statements in 1998, 1997 and 1996,
respectively.
Contributions under the multi-employer pension plans are based on
amounts per employee as defined in the union labor agreement. Pension expense
for the union employees' pension plans was $663,000, $685,000 and $593,000
for the years ended December 31, 1998, 1997 and 1996, respectively. The
Company may be obligated, under the Multi-Employer Pension Plan Amendment Act
of 1980, for a portion of unfunded vested benefits if there is a withdrawal
or partial withdrawal from a plan, as defined within the Act. There is no
intention on the part of management to withdraw their participation from a
plan.
Alvey also provides a deferred compensation plan for its former Chief
Executive Officer. Beginning January 1998, the Company pays an annual benefit
to this individual of $237,500 for the longer of the remainder of his life
and10 years. At December 31, 1998 and 1997, $2.1 million and $2.2 million,
respectively, was accrued for such benefits. Of the total accrued for this
plan, $1.9 million was classified as a long-term obligation at each of
December 31, 1998 and 1997. Expense of $202,000, $373,000 and $260,000 was
recorded in 1998, 1997 and 1996, respectively.
Employee notes receivable outstanding related to purchases of Pinnacle
stock to Pinnacle at December 31, 1998 and 1997 totaled $1.4 million and $1.3
million, respectively, and are reflected as a reduction of the net investment
of Parent.
Management employees of the Company have received options to purchase
Pinnacle common stock which were granted at exercise prices which
approximated fair market value of the shares at the dates of grant. The
option terms expire eight to ten years subsequent to the grant date.
Immediately prior to the spin-off of McHugh as described in Note 4, the
holders of options to purchase common stock of the Company received a like
number of options to purchase McHugh's common stock. Holders of options
retained the same number of options in the Company with adjustments made to
the exercise prices to reflect, in the good faith determination of Pinnacle's
board of directors, the relative valuations of the Company and McHugh. All
1998 grants and forfeitures occurred prior to the spin-off of McHugh. Average
exercise prices below have been adjusted to reflect values as adjusted in
connection with the spin-off of McHugh. At December 31, 1998, exercise prices
of options outstanding generally ranged between $6 and $13 per share with
11,991 options at $.38 per share and 5,000 shares at $25.42 per share.
Exercise prices approximated estimated fair value at the dates of grant. The
weighted average remaining life to expiration at December 31, 1998 of options
exercisable between $6 and $13 is five years, for those at $.38 is four years
and for those at $25.42 is eight years. At December 31, 1998, options to
F-22
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
purchase 60,841 shares of common stock have vested. These options are
summarized as follows:
<TABLE>
<CAPTION>
WEIGHTED
AVERAGE SHARES
EXERCISE SUBJECT
PRICE TO OPTION
-------------- -------------
<S> <C> <C>
Outstanding at January 1, 1996 $ 6.68 36,691
Options granted in 1996 9.41 78,825
Options forfeited in 1996 6.36 (5,000)
------------
Outstanding at December 31, 1996 8.64 110,516
Options granted in 1997 8.09 5,500
Options forfeited in 1997 12.71 (3,839)
------------
Outstanding at December 31, 1997 8.47 112,177
Options granted in 1998 25.42 5,000
Options forfeited in 1998 7.15 (3,427)
------------
Outstanding at December 31, 1998 $ 9.26 113,750
------------
------------
</TABLE>
In October 1995, the Financial Accounting Standards Board issued SFAS
No. 123 "Accounting for Stock-Based Compensation" ("SFAS 123" ), which
addresses accounting for stock option, purchase and award plans. SFAS 123
specifies that companies utilize either the "fair value based method" or the
"intrinsic value based method" for valuing stock options granted. The Company
adopted SFAS 123 in 1996, and is continuing to utilize the "intrinsic value
based method" for valuing stock options granted.
Had the Company utilized the "fair value based method" to value stock
options granted, the Company's net loss for 1998 and 1997 would not have been
materially different from reported net loss for those years. The weighted
average fair value of options granted is estimated on the date of grant using
the Black-Scholes option-pricing model with the following assumptions:
<TABLE>
<CAPTION>
1998 1997
------------ ------------
<S> <C> <C>
ASSUMPTIONS
Weighted average risk-free interest rate 6.2% 6.2%
Weighted average expected life of option 5 years 6 years
</TABLE>
The Company also has agreed to provide life insurance policies, in
amounts ranging from $1 million to $3 million, for two of its executive
officers and two former executive officers for the remainder of their lives
or until such officers voluntarily resign to accept a comparable position.
Costs relative thereto are not material to the Company's consolidated
financial statements.
F-23
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
12. COMMITMENTS, CONTINGENCIES AND RELATED PARTY TRANSACTIONS
The Company is involved in various litigation consisting almost entirely
of product and general liability claims arising in the normal course of its
business. After deduction of a per occurrence self-insured retention, the
Company is insured at December 31, 1998 for losses up to $27 million per year
for product and general liability claims. The Company has provided reserves
for the estimated cost of the self-insured retention; accordingly, these
actions, when ultimately concluded, are not expected to have a material
adverse effect on the financial position, results of operations or liquidity
of the Company.
On January 13, 1998, Mitchell J. Weseley, former President and Chief
Executive Officer of WSDC, commenced an arbitration in Connecticut Superior
Court against WSDC alleging breach of contract and violation of the
Connecticut Unfair Trade Practices Act ("CUTPA"). On January 28, 1998, WSDC
filed counterclaims against Mr. Weseley principally alleging that he had
breached his contractual obligations and fiduciary duty to WSDC by soliciting
WSDC employees to resign from WSDC, by disparaging the management of Pinnacle
and McHugh and by breaching the terms of a covenant not to compete contained
in Mr. Weseley's employment contract. Arbitration proceedings concluded on
June 3, 1998 and on August 31, 1998, a decision was rendered in the
arbitration hearings in favor of Mr. Weseley. McHugh has resumed payments to
Mr. Weseley of his salary, bonus and benefits, of which future payments will
total approximately $2.2 million. The liability for such payments was
previously recorded in the restructuring accrual related to the McHugh
reorganization as discussed in Note 5 above. Effective with the McHugh
spin-off, such liability was recorded at McHugh and is no longer included in
the Company's financial statements. Damages, if any, will be determined by
the arbitrator either ex parte or as part of a second hearing. To the extent
such amounts paid pursuant to judgements related to lawsuits with Mr. Weseley
exceed $3.4 million, Alvey has agreed to pay any such excess liability up to
a maximum of $4.0 million, and McHugh has agreed to deliver a promissory note
evidencing McHugh's obligation to repay Alvey any amounts so paid by Alvey.
On April 16, 1998, Mannesmann Dematic Rapistan Corp. ("Rapistan") filed
suit against Buschman in the United States District Court for the Western
District of Michigan alleging infringement of three Rapistan patents relating
to Buschman induction systems (the "Rapistan Dispute"). Rapistan was seeking
to permanently enjoin Buschman from infringing those patents and both
compensatory and treble damages. Related to Buschman's counterclaims and
affirmative defenses raised in this litigation, on June 5, 1998 the Company
filed a separate suit against Mannesmann Corporation ("Mannesmann") in the
United States District Court for the Southern District of New York on the
basis of the representations, warranties and disclosure obligations of
Mannesmann with respect to the patents subject to the Rapistan Dispute at the
time the Company acquired Buschman from Mannesmann in 1992. A settlement
agreement was executed between Alvey, Buschman, Mannesmann and Rapistan on
January 4, 1999. On January 27, 1999, the court formally entered an order of
dismissal of the Rapistan litigation.
In February 1999, the Chapter 7 Trustee for Foxmeyer Corporation,
Foxmeyer Drug Company, Healthcare Transportation System, Inc., Merchandise
Coordinator Services Corporation, Foxmeyer Software, Inc., and Health Mart,
Inc. (collectively, "Foxmeyer") filed suit against Buschman, White, Pinnacle,
Alvey and McHugh in the United States District Court for the District of
Delaware alleging fraud, negligence and breach of contract relating to
conveyor, carousel and warehouse management systems delivered and installed
in Foxmeyer's distribution warehouse at Washington Court House, Ohio. Only
McHugh and Buschman (with White as its subcontractor) had contracts with
Foxmeyer. The monetary relief sought by the Foxmeyer complaint is
unspecified; however compensatory and punitive damages are claimed. At this
time, the Company has not been served, and therefore, answers and affirmative
defenses have not been filed on behalf of the Company. Discovery has not
commenced and a trial date has not been set, but the Company intends to
contest the allegations made and vigorously defend the matter.
On January 24, 1996, the Company established consulting agreements with
two related parties whereby the Company is obligated to make annual payments
of $350,000 plus expenses, with one contract providing for
F-24
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
annual increases of 3%. Additionally, the Company is obligated to compensate
one related party for certain merger, acquisition and financing transactions.
In connection with the spin-off and related transactions as described in Note
4, Vestar Capital Partners ("Vestar") and Mammoth Capital Inc. received
$900,000 and $400,000 in fees, respectively, for services rendered to
Pinnacle and Alvey pursuant to such consulting agreements. In addition,
pursuant to an agreement between Vestar and the placement agent for a
minority investment in McHugh, which was consummated immediately after the
spin-off, Vestar received $500,000 of the fee payable by McHugh to the
placement agent for additional services Vestar rendered to McHugh. McHugh
paid this fee to Vestar after the spin-off was consummated. Concurrent with
the Debt Offering (see Note 8) and the Preferred Stock Offering (see Note 9),
$750,000 was paid to one related party in January 1996. At December 31, 1995,
the Company had two agreements with related parties under which the Company
received investment banking and other consulting services. These agreements
were to terminate in the years 2000 and 2002, respectively, however, the
agreements were terminated in January 1996, concurrent with the Debt Offering
(see Note 8), at a cost of $1.4 million. The agreements required annual
payments by the Company totaling $500,000 plus expenses. In addition, the
Company was required to pay an aggregate 2% investment banking fee on the
total amount of consideration paid or received through a merger,
consolidation or sale of more than 10% of Alvey's assets or outstanding
securities, or the acquisition of assets or stock of another company. Costs
of these agreements, including the termination fee, are included in other
expense (income), net in the accompanying consolidated financial statements.
Pursuant to the terms of an operating lease, the Company paid $0.9
million in 1996 to a related party.
The Company has entered into employment agreements with several members
of executive management. The agreements require the Company to pay the
executive's salary for a period of up to one year should the executive's
employment be terminated. In addition, the agreements provide for annual
bonuses of up to 125% of the executive's annual salary based upon the
achievement of pre-established performance targets.
13. SUPPLEMENTAL BALANCE SHEET INFORMATION
Accrued expenses include the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------------
1998 1997
-------------- ------------
<S> <C> <C>
Project expenses $ 6,058 $ 6,354
Bonuses, incentives and profit sharing 9,244 7,625
Wages and salaries 1,315 1,942
Vacation and other employee costs 5,762 6,824
Interest expense 3,367 4,867
Accrued professional fees 2,118 831
Restructuring costs 889 3,627
Other expenses 6,629 4,385
-------------- ------------
$ 35,382 $ 36,455
-------------- ------------
-------------- ------------
</TABLE>
14. QUARTERLY FINANCIAL DATA (UNAUDITED)
The following quarterly financial information for the two years ended
December 31, 1998 is unaudited. However, in the opinion of management, such
information has been prepared on the same basis as the audited financial
statements and includes all adjustments, consisting only of normal recurring
adjustments, necessary for a fair presentation of the results for the periods
presented. The quarterly results however, are not necessarily indicative of
results for any future period.
F-25
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Summarized quarterly financial data for fiscal 1998 and 1997 appear below
(in thousands):
<TABLE>
<CAPTION>
NET INCOME
NET SALES GROSS PROFIT (LOSS)
------------ ------------ ------------
<S> <C> <C> <C>
1998
First quarter $ 72,182 $ 17,407 $ 416
Second quarter 77,941 19,691 (226)
Third quarter 70,213 19,797 (1,581)
Fourth quarter 79,413 19,577 (15,710)
------------- ------------ ------------
$ 299,749 $ 76,472 $ (17,101)
------------- ------------ ------------
------------- ------------ ------------
1997
First quarter $ 65,922 $ 15,148 $ (143)
Second quarter 69,464 13,644 (10,531)
Third quarter 73,941 16,978 1,730
Fourth quarter 78,342 17,441 1,625
------------- ------------ ------------
$ 287,669 $ 63,211 $ (7,319)
------------- ------------ ------------
------------- ------------ ------------
</TABLE>
The 1998 fourth quarter net loss includes extraordinary losses of $8.7
million, net of tax benefit, related to the write-off of debt issuance costs,
preferred stock issuance costs and other costs of the McHugh spin-off, a
non-recurring, non-operating charge to income approximating $1.2 million
relative to costs of the McHugh spin-off, a loss on impairment of assets
totaling $3.2 million and a loss on sale of a product line totaling $798,000.
Such losses are further discussed in Notes 4, 8 and 9.
The 1997 second quarter net loss includes a one-time restructuring
charge of $9.2 million, net of applicable income tax benefits, and one-time
asset write-down and other non-recurring charges totaling $1.4 million, net
of applicable income tax benefits (see Note 5).
F-26
<PAGE>
ALVEY SYSTEMS, INC. AND SUBSIDIARIES
RULE 12-09 VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
(IN THOUSANDS)
<TABLE>
<CAPTION>
Column A Column B Column C Column D Column E Column F
--------- --------- -------- -------- -------- --------
Valuation Balance at Charged to Charged to Balance at
and Reserve Beginning Costs and Other End of
Accounts of Period Expenses Accounts Deductions Period
<S> <C> <C> <C> <C> <C>
FOR THE YEAR ENDED DECEMBER 31, 1996 (a)
Accounts Receivable Reserve $ 658 $ 392 $175(1) ($ 463) $ 762
</TABLE>
(1) Reflects increase to Accounts Receivable Reserves due to acquisition
of RTS.
<TABLE>
<S> <C> <C> <C> <C> <C>
Inventory Reserve $1,924 $ 507 $176(1) ($ 360) $2,247
</TABLE>
(1) Reflects increase to Inventory Reserves due to acquistion of RTS.
FOR THE YEAR ENDED DECEMBER 31, 1997 (a)
<TABLE>
<S> <C> <C> <C> <C> <C>
Accounts Receivable Reserve $ 762 $2,694 $ 0 ($2,387) $1,069
Inventory Reserve $2,247 $1,106 $ 0 ($ 609) $2,744
</TABLE>
FOR THE YEAR ENDED DECEMBER 31, 1998 (a)
<TABLE>
<S> <C> <C> <C> <C> <C>
Accounts Receivable Reserve $1,069 $ 373 $ 0 ($ 785) $ 657
Inventory Reserve $2,744 $ 818 ($269)(1) ($ 732) $2,561
</TABLE>
(1) Reflects decrease to inventory reserves due to sale of product line.
(a) Balances and changes related to divested operations have been excluded from
this schedule.
S-1
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
ON FINANCIAL STATEMENT SCHEDULE
To the Stockholder and
Board of Directors of
Alvey Systems, Inc.
Our audits of the consolidated financial statements of Alvey Systems,
Inc. and its subsidiaries, referred to in our report dated February 11, 1999,
appearing on page F-2 of this Annual Report on Form 10-K, also included an
audit of the Financial Statement Schedule of Alvey Systems, Inc. listed at
item 14(2) of this Form 10-K. In our opinion, the Financial Statement
Schedule presents fairly, in all material respects, the information set forth
therein when read in conjunction with the related consolidated financial
statements.
PRICEWATERHOUSECOOPERS LLP
St. Louis, Missouri
February 11, 1999
S-2
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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, in
the City of Olivette, State of Missouri, on March 26, 1999.
ALVEY SYSTEMS, INC.
By: /s/ Stephen J. O'Neill
----------------------------------
Stephen J. O'Neill
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<S> <C> <C>
/s/ Stephen J. O'Neill President and Chief Executive Officer March 26, 1999
- -------------------------------- (Principal Executive Officer)
Stephen J. O'Neill
/s/ James A. Sharp Senior Vice President, Chief Financial March 26, 1999
- -------------------------------- Officer, Secretary and Assistant Treasurer
James A. Sharp (Principal Financial and Accounting Officer)
/s/ William R. Michaels Chairman of the Board March 26, 1999
- --------------------------------
William R. Michaels
/s/ Stephen J. O'Neill Director March 26, 1999
- --------------------------------
Stephen J. O'Neill
/s/ Christopher C. Cole Director March 26, 1999
- --------------------------------
Christopher C. Cole
/s/ Frederick R. Ulrich, Jr. Director March 26, 1999
- --------------------------------
Frederick R. Ulrich, Jr.
/s/ Prakash A. Melwani Director March 26, 1999
- --------------------------------
Prakash A. Melwani
/s/ James L. Elrod, Jr. Director March 26, 1999
- --------------------------------
James L. Elrod, Jr.
/s/ Charles A. Dill Director March 26, 1999
- --------------------------------
Charles A. Dill
</TABLE>
<PAGE>
EXHIBIT 21
Subsidiaries
Busse Bros., Inc., a Wisconsin corporation
The Buschman Company, an Ohio corporation
White Systems, Inc., a New Jersey corporation
Real Time Solutions, Inc., a Delaware corporation
Pinnacle Automation, Canada, Inc., located in Mississauga, Ontario, Canada
Alvey International, Inc., a foreign sales corporation
Busse UK Limited, located in West Sussex, U. K.
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 2,499
<SECURITIES> 0
<RECEIVABLES> 34,046
<ALLOWANCES> 657
<INVENTORY> 16,690
<CURRENT-ASSETS> 75,167
<PP&E> 47,284
<DEPRECIATION> 20,226
<TOTAL-ASSETS> 123,835
<CURRENT-LIABILITIES> 85,509
<BONDS> 0
0
0
<COMMON> 0
<OTHER-SE> (47,082)
<TOTAL-LIABILITY-AND-EQUITY> 123,835
<SALES> 299,749
<TOTAL-REVENUES> 299,749
<CGS> 223,277
<TOTAL-COSTS> 223,277
<OTHER-EXPENSES> 70,389
<LOSS-PROVISION> 373
<INTEREST-EXPENSE> 12,478
<INCOME-PRETAX> (6,768)
<INCOME-TAX> 1,585
<INCOME-CONTINUING> (8,353)
<DISCONTINUED> 0
<EXTRAORDINARY> 8,748
<CHANGES> 0
<NET-INCOME> (17,101)
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
</TABLE>
