UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-K/A
(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, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER: 000-23231
INNOVATIVE VALVE TECHNOLOGIES, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 76-0530346
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
2 NORTHPOINT DRIVE, SUITE 300 77060
HOUSTON, TEXAS ZIP CODE
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE): (281) 925-0300
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED
- ------------------- -----------------------------------------
None Not applicable
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
Common Stock, par value $.001 per share
(Title of class)
Rights to Purchase Series A Junior
Participating Preferred Stock
(Title of class)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ].
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the 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. [ ]
As of March 24, 1998, there were 8,698,026 shares of common stock, par
value $.001 per share, of the Registrant issued and outstanding, 3,852,500 of
which, having an aggregate market value of $64,067,075, based on the closing
price per share of the common stock of the Registrant reported on the Nasdaq
National Market on that date, were held by non-affiliates of the Registrant. For
purposes of the above statement only, all directors and executive officers of
the Registrant are assumed to be affiliates.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement related to the Registrant's 1998 Annual
Stockholders Meeting are incorporated by reference into Part III of this report.
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TABLE OF CONTENTS
PAGE
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PART I
Item 1. Business............................. 1
Item 2. Properties........................... 16
Item 3. Legal Proceedings.................... 16
Item 4. Submission of Matters to a Vote of
Security Holders................... 16
PART II
Item 5. Market for Registrant's Common Equity
and Related Stockholder Matters.... 17
Item 6. Selected Financial Data.............. 18
Item 7. Management's Discussion and Analysis
of Financial Condition and Results
of Operations...................... 19
Item 8. Financial Statements and
Supplementary Data................. 22
Item 9. Changes in and Disagreements with
Accountants on Accounting and
Financial Disclosure............... 22
PART III
Item 10. Directors and Executive Officers of
the Registrant..................... 22
Item 11. Executive Compensation............... 22
Item 12. Security Ownership of Certain
Beneficial Owners and Management... 22
Item 13. Certain Relationships and Related
Transactions....................... 22
PART IV
Item 14. Exhibits, Financial Statement
Schedules, and Reports on Form
8-K................................ 22
( i )
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PART I
ITEM 1. BUSINESS
GENERAL
Innovative Valve Technologies, Inc. ("Invatec") was formed in March 1997
to create the leading single-source provider of comprehensive maintenance,
repair, replacement and value-added distribution services for industrial valves,
piping systems and other process-system components (collectively, "repair and
distribution services") throughout North America. To achieve this goal, Invatec
has embarked on an aggressive acquisition program and is implementing a national
operating strategy it has designed to enhance internal growth, market share and
profitability.
On October 28, 1997, Invatec (i) closed its initial public offering (the
"IPO") of its common stock ("Common Stock") and (ii) consolidated seven
established businesses (the "Initial Acquired Businesses") providing various
repair and distribution services by means of two purchase transactions and a
merger (the "SSI Merger") in which its affiliate, The Safe Seal Company, Inc.
("SSI"), became its subsidiary. Prior to those transactions, SSI had purchased
three Initial Acquired Businesses in the first half of 1997 and Invatec had
purchased one of these businesses in July 1997, but otherwise had not conducted
any operations of its own. See "The Acquired Businesses" elsewhere in this
Item 1.
A holding company, Invatec conducts its business through its operating
subsidiaries. Unless otherwise indicated, references herein to (i) "Invatec"
mean Innovative Valve Technologies, Inc. and (ii) the "Company" mean Invatec
and its subsidiaries.
Since October 1997 and through March 24, 1998, Invatec has purchased seven
additional repair and distribution services businesses (the "Additional
Acquired Businesses" and, together with the Initial Acquired Businesses, the
"Acquired Businesses"). See "The Acquired Businesses" elsewhere in this Item
1. During the years ended December 31, 1996 and 1997, the Company's unaudited
pro forma combined revenues were as follows (in thousands):
1996 1997
---------- ----------
Initial Acquired Businesses............. $ 77,508 $ 90,901
Additional Acquired Businesses.......... 56,202 71,358
---------- ----------
Total Company........................... $ 133,710 $ 162,259
========== ==========
See Note 3 of the Notes to Consolidated Financial Statements of the Company in
Item 14 of this Report and Items 6 and 7 in this Report.
The Acquired Businesses have been in business an average of 32 years, and
the Company currently has 52 operating locations in the United States, one in
Canada, two in Europe and one in the Middle East. Its principal executive
offices are located at 2 Northpoint Drive, Suite 300, Houston, Texas 77060, and
its telephone number at that address is (281) 925-0300. Invatec is a Delaware
corporation.
INDUSTRY BACKGROUND
OVERVIEW. Petrochemical and other chemical plants, petroleum refineries,
pulp and paper mills, electric and other utilities and other industrial process
facilities use industrial valves to direct and regulate the flow of feedstocks,
intermediates, products and fuels in their process piping systems. Industrial
valves, ranging in diameter from less than 1/2" to over 20 feet, serve as
mechanical control, blocking and pressure-relief devices in piping applications
involving a myriad of liquids, gases, dry materials, slurries and other
substances. The service environments for industrial valves range from relatively
benign to severe, and the useful life of an industrial valve can range from
several hours to 30 years or more depending on the severity of its service and
other factors. These factors include the materials comprising the valve, the
quality of its manufacture and the frequency and quality of its repair.
Classified by how they are powered, industrial valves may be divided into two
broad categories: (i) those powered manually ("standard" valves); and (ii) those
operated by actuators using electric, hydraulic or pneumatic power ("actuated"
valves). Actuated
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valves include those originally installed as such and standard valves that have
been upgraded. Valves of both types include rising stem valves ("RSVs"), such
as globe, gate and diaphragm valves, and pressure safety, relief and
safety-relief valves ("PRVs"). Process industries use PRVs to relieve excess
pressure in process equipment, pressure vessels, boilers and pipelines in order
to prevent explosions or other system damage. PRVs typically are designed to
contain pressure up to a predetermined level (which is individually set for each
valve) and then to open and relieve excess pressure in a controlled manner.
Standard PRVs are self-operating and typically are spring loaded, while actuated
PRVs typically are operated by a pilot controller that actuates the valve.
Process systems consist of discrete units or trains of units which
generally operate continuously under pressure. In many process industries, these
systems handle corrosive substances and are subject to high cycling rates and
extremes of pressure and temperature. Leaks occur as a result, and a principal
source of leaks are valves using rising stems to direct their opening and
closing. Original equipment manufacturers ("OEMs") use various packing
materials to seal the stem area in RSVs, but these seals are vulnerable to the
effects of friction and pressure and, in many cases, normal packing shrinkage
and deterioration.
The process systems in the industries the Company serves generally require
emergency work and comprehensive scheduled periodic off-line repairs (called
"turnarounds"). Emergency work is performed, if practicable, while the
affected unit remains in operation and under pressure. On-line repairs
historically have consisted of sealing leaking pipes and flanges with various
enclosures and clamps and repacking leaking valves as interim measures pending
the next scheduled turnaround. Turnarounds typically involve the shutdown of an
entire process unit or trains of process units to permit the disassembly, repair
and/or replacement and reassembly of component parts (including industrial
valves), a process that can take from a few days to several months.
The Company believes that the repair and distribution services sectors of
its industry represent a current worldwide annual market of approximately $20.6
billion, of which North America accounts for approximately $9.2 billion,
including approximately $3.7 billion attributable to repair services and
approximately $5.5 billion attributable to distribution services.
Manufacturers ("OEMs") of industrial valves generally sell their products
through various independent distribution channels. The Company believes
independent distributors and independent sales representatives selling directly
to small retailers or to end users account for approximately 75% of new
industrial valve sales in the United States, while direct sales by OEMs account
for the balance. The types of distributors include (i) wholesalers selling
commodity-type valves primarily to retailers, (ii) valve and pipefitting
stocking distributors selling standard RSVs and quarter-turn valves, (iii)
speciality flow control distributors selling actuated valves packaged with other
control products as complete systems and (iv) full-line distributors selling all
types of valves and valve-control systems. Value-added distribution services
include the assembly, testing, sealing and certification of PRVs and customizing
original equipment to meet the customer's specifications.
Repair services include "on-line" repairs of valves, piping systems and
other process-system components that continue to operate under pressure while
the repair is made and "off-line" repairs involving the repair of valves and
other process-system components that have been temporarily removed from a
process system. Off-line repairs are made either at the customer's facility (an
"on-site" repair) or in the repair service company's facility (an "in-shop"
repair).
In the United States, end users, distributors and repair companies perform
most repair and distribution services, while OEMs generally offer these services
only on a limited basis. The Company believes, on the basis of available market
data, that (i) the independent repair and distribution services sectors include
approximately 1,200 companies, consisting predominantly of small businesses
operating in single geographic areas in proximity to their customers, and (ii)
most of these companies have limited access to capital for modernization and
expansion and limited exit strategies for their owners. The Company also
believes that, as part of an overall emphasis on reducing operating costs, many
end users are increasing their outsourcing of various non-revenue-producing
activities, such as plant maintenance (including outsourcing of entire valve
maintenance and management programs).
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The Company believes significant opportunities are available in the repair
and distribution services sectors of its industry to a well-capitalized national
company employing professionally trained service technicians and machinists and
providing a full complement of on-line, on-site and in-shop repair services. It
also believes the fragmented nature of its industry will provide it with
significant opportunities to consolidate the capabilities and resources of a
large number of existing repair and distribution services businesses.
MARKET ENVIRONMENT AND TRENDS. The Company has targeted selected groups of
end users in the following three categories of process industries in the United
States, Canada and Mexico as its initial primary market for expanding its repair
and distribution services: (i) petrochemical and other chemical plants,
petroleum refineries and pulp and paper mills (process manufacturers); (ii)
conventional and nuclear electric power plants and cogenerators and water and
wastewater utilities (utilities); and (iii) crude oil and natural gas producers,
gas processing plants and oil, gas and products pipelines (resource industries).
The Company believes these targeted groups account for substantially all the
approximately 140 million RSVs the Company believes currently are in service in
North America and are heavy users of PRVs and other valves. These groups also
are characterized by severe service applications in their processes which
require valves that can endure corrosive substances, flammable and explosive
materials, high cycling rates and extremes of pressure and temperature. The
Company believes economic conditions (generally and in these targeted groups),
technological developments and health, safety and environmental concerns drive
the markets for repair services and value-added distribution services in these
groups.
The Company's targeted industries use industrial valves currently ranging
in cost from less than $10 to more than $100,000. Historically, the extent to
which general and specific industry economic conditions or forecasts spurred the
construction of new plants or expansions of existing plant capacities has
determined the demand for new industrial valves. The Company believes that (i)
for a number of years, many companies in these industries lengthened the period
of time between turnarounds to minimize the economic costs associated with
turnarounds and delayed construction of new plant facilities and outlays of
capital expenditures for improvements of existing facilities and, as a result,
(ii) they are using a large population of aged valves which will require
increasing levels of repair and replacement. In recent years, various factors
have led companies in these industries to undertake capital expenditure programs
to retool their existing process operations with new or improved labor-, time-
and other cost-reducing devices. The Company believes this trend has
strengthened both the replacement market for industrial valves and the market
for independent, comprehensive repair services.
Because the Company's targeted industries generally manufacture or produce
commodities, they compete generally on the basis of price with each other and,
in many cases, with overseas companies having lower-cost labor pools or raw
material or other competitive advantages. The downward pressure this competition
places on prices has led to the trend in these industries to attempt to achieve
operating efficiencies as a means of preserving or enhancing operating margins
while remaining competitive in their markets. Also contributing to this trend
are various technological developments that enable these industries to reduce
operating costs by modernizing existing process systems and other plant
operations or replacing existing process systems with new, more efficient
systems. For example, some industries have developed new process technologies
requiring equipment to operate under higher pressures and thus entailing the
replacement or pressure-resetting of installed PRVs. Similarly, automation of
valve and other process control devices and computerized information management
systems enable these industries to use a smaller work force to perform essential
non-revenue-producing services, while the emergence of reliable independent
service providers using new technologies in areas such as valve repair service,
inventory management and turnaround planning enables these industries
increasingly to outsource these services, typically at a net savings. The
Company believes that many companies in these industries have eliminated or
severely reduced the size of their own repair crews and engineering staffs. In
addition, in order to reduce the size of their purchasing departments and the
costs of contract administration, these companies are trending towards using
fewer in-house administrators overseeing a reduced number of vendors performing
an increasing amount of services.
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The efforts of the Company's targeted industries to reduce their costs have
led OEMs to design and tool for the manufacture of more energy-efficient and
reliable valves. Because valve design and manufacture is capital intensive and
price is a primary competitive factor in the sale of new valves, the Company
believes that valve OEMs are under pressure to reduce their own costs and
increasingly will evaluate the potential cost savings from outsourcing their
assembly, sales and other functions and reducing the number of distributors they
utilize and are required to monitor.
Another factor driving certain of the Company's targeted industries towards
spending for new valves and related products and new valve repair service
technologies is the mandate of the federal Clean Air Act, as amended in 1990,
that various process industries, including most of those the Company serves, use
the maximum achievable control technology ("MACT") available (i) to minimize
the occurrences of fugitive emissions from their process systems of certain
volatile organic compounds or other hazardous air pollutants and (ii) to control
the emissions that do occur. Regulations promulgated by the United States
Environmental Protection Agency currently require the phase-in (first in newly
constructed, reconstructed or modified process systems and then in existing
unmodified systems) of MACT performance standards for all major source
categories of hazardous air pollutants. To achieve compliance with the
applicable performance standards, federal and state regulations require the
process industries covered thereby to establish leak detection and repair
programs incorporating specified protocols.
The Company believes that increasingly stringent federal and state
regulations and performance standards will increase demand for the Company's
products and services. Industries subject to these standards now can monitor
valves to quantify the amount of feedstock, intermediates, products or fuel
which is being lost attributable to leaking valves and quantify the costs
associated with these leaks. The Company believes these industries increasingly
will seek to prevent and remedy leaking valves as efficiently and expeditiously
as possible.
BUSINESS STRATEGIES
To enhance its market position as a leading national provider of repair and
distribution services, the Company is emphasizing growth through acquisitions of
additional repair and distribution services businesses and is implementing a
national operating strategy aimed at increasing internal growth and market share
and enhancing profitability. These growth strategies focus on capitalizing on
certain trends in the Company's targeted industries, including increased
outsourcing, increased focus on reducing economic losses attributable to leaking
valves and increasingly more stringent regulatory requirements applicable to
process-system facilities.
ACQUISITION STRATEGY. The Company has implemented an aggressive
acquisition program to expand into additional markets and enhance its position
in existing markets. Given the large size and fragmentation of the repair and
distribution services industry, the Company believes there are numerous
potential acquisition candidates in both the markets the Company currently
serves and new markets.
The Company seeks to acquire well established repair and distribution
services companies in significant centers of its targeted process industries in
North American markets. It also intends to make tuck-in acquisitions that
provide access to additional customers, specialized services, new products or
other strategic synergies. The Company evaluates the extent to which its
acquisition candidates demonstrate the potential for substantial revenue and
earnings growth when combined with the Company's existing operations. An
important criterion for the Company's acquisition candidates (particularly
candidates in new markets) is high-quality operating management and the desire
of those persons to remain in place and continue running the acquired operations
for an extended period of time. The Company employs a stock-based compensation
program designed to help the Company retain its operating management personnel,
develop a sense of proprietorship of those persons in the Company and align the
interests of those persons with those of the Company's stockholders generally.
The Company believes it is well positioned to implement its acquisition
strategy because of: (i) its decentralized operating strategy; (ii) its
visibility and access to financial resources as a public company; and (iii) its
ability to provide acquired businesses and their owners with both liquidity and
the opportunity to
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participate in the Company's growth and expansion. The Company cannot, however,
predict the timing or success of, or the potential capital commitments
associated with, its acquisition program. The Company's acquisition strategy
presents risks that, singly or in any combination, could have a material adverse
effect on its business and financial performance, and the success of that
strategy depends on the extent to which the Company is able to acquire,
successfully integrate and profitably manage additional businesses. See
"Factors That May Affect Future Results" elsewhere in this Item 1.
The consideration for each acquisition varies on a case-by-case basis, with
the major factors being historical operating results, the future prospects of
the business to be acquired and the ability of that business to complement the
services offered by the Company. As consideration for acquisitions, the Company
uses various combinations of Common Stock, cash, convertible notes and
promissory notes. To facilitate the use of Common Stock in acquisitions, the
Company intends to register 5 million shares of Common Stock in April 1998 under
the Securities Act of 1933, as amended (the "Securities Act") pursuant to a
shelf registration statement on Form S-4. The extent to which the Company will
be able or willing to use Common Stock in making future acquisitions, however,
will depend on its market value from time to time and the willingness of
potential sellers to accept it as full or partial payment. The Company has a $60
million revolving credit facility (the "Credit Facility") with a syndicate of
commercial banks which it may use for acquisitions, working capital and other
corporate purposes. At March 24, 1998, outstanding borrowings under the Credit
Facility totaled $49.1 million. The Company's ability to finance future
acquisitions may be limited by the extent to which it is able to raise capital
for financing acquisitions, as well as to expand existing operations, through
equity or debt financings. See "Factors That May Affect Future Results"
elsewhere in this Item 1.
The Company has not acquired and presently does not intend to acquire any
valve manufacturing operations.
NATIONAL OPERATING STRATEGY. The principal elements of the Company's
national operating strategy are: (i) cross-selling repair and distribution
services; (ii) capitalizing on the Company's geographic diversity to develop
national and regional customer and OEM relationships; (iii) achieving cost
efficiencies and standardizing and implementing "best practices;" and (iv)
increasing internal growth through the roll-out of the Company's proprietary
SafeSeal on-line valve repair system. See "Repair Services," "Distribution
Services," "Operations" and "Sales and Marketing" elsewhere in this Item 1.
Various factors may affect the extent to which the Company is able to implement
this strategy successfully. See "Factors That May Affect Future Results"
elsewhere in this Item 1.
THE ACQUIRED BUSINESSES
INITIAL ACQUIRED BUSINESSES. The Initial Acquired Businesses are, in
addition to SSI, Harley Industries, Inc. ("Harley"), Steam Supply & Rubber
Co., Inc. and three related entities (collectively, "Steam Supply"),
Industrial Controls & Equipment, Inc. and three related entities (collectively,
"ICE/VARCO"), GSV, Inc. ("GSV"), Plant Specialties, Inc. ("Plant
Specialties"), and Southern Valve Service, Inc. (collectively with a related
entity, "SVS").
The Initial Acquired Businesses provide various repair and distribution
services from locations in seventeen states and Canada to power and other
utilities, petroleum refineries, petrochemical and other chemical plants, pulp
and paper mills and other process industries. With the exception of SSI's
on-line leak sealing and valve-packing restoration services, on-site and in-shop
off-line repair services historically constituted substantially all the repair
services the Initial Acquired Businesses performed.
ADDITIONAL ACQUIRED BUSINESSES. Since the IPO and through March 24, 1998,
the Company purchased seven Additional Acquired Businesses. See Notes 2, 3, and
18 of the Notes to Consolidated Financial Statements of the Company in Item 14
of this Report. As a result of these acquisitions, the Company has expanded its
business to include on-line hot tapping and line stopping services both in the
United States and abroad, repair and replacement of steam turbines and other
repair services.
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REPAIR SERVICES
The Company provides a variety of off-line repair services (including both
on-site and in-shop repair services) and on-line repair services for valves,
piping systems and other process-system components. These services vary by
industry and by process applications within each industry.
OFF-LINE SERVICES. The Company's off-line services include: diagnosis and
testing of valve performance, including nondestructive examination using dye
penetrants and mag-particle testing; repair, rebuilding and replacement of RSVs,
PRVs and other valves; custom-designing, machining and plating of pressure-
sealed gaskets; repair and upgrading of standard valves of various types; repair
and replacement of actuators and positioners used with actuated valves; and
cleaning of valves used in chlorine, oxygen and other service applications;
inspection, repair and replacement of steam turbine components; and
reconditioning and casting babbitted bearings used as linings between stationary
bearings and rotating shafts. Valve repair services include: replacing broken
stems and other components with OEMs' parts or equivalent parts that the Company
machines and fabricates; blasting valve interiors with metal shot to remove
process residue and corroded material; welding overlays to refinish valve seats
and other worn areas; upgrading standard valves with actuators and related
parts; and modifying existing components to meet OEMs' specifications for
repacking with new, pliable packing materials. In some locations, the Company
also reconditions its customers' used valves, and remanufactures used valves
(other than PRVs) it has purchased, typically at scrap metal value, to equal or
exceed the original OEMs' specifications. It typically sells its remanufactured
valves under a one-year warranty at a discount from the price of a comparable
new valve. The Company intends to expand these services throughout its
operations. As part of the repair process, the Company uses high-pressure air,
steam and liquid lines and related instrumentation to test and certify the
performance capabilities of the valves and other equipment it repairs.
An important part of the Company's repair services is providing detailed
documentation of the sources and types of the materials and components used to
make repairs, the repair methods applied, the design specifications adhered to
and test results. Customers can use this information in connection with their
planning for future turnarounds and repairs. In addition, customers subject to
federal and state fugitive emissions control regulations are required to
maintain this information in their corrective action files.
ON-LINE SERVICES. The Company's on-line services include (i) hot tapping
and line stopping services; (ii) using conventional technologies to seal leaking
pipes, flanges and valves as interim measures pending the affected system's next
scheduled shutdown and turnaround and (iii) in the case of RSVs leaking as a
result of the deterioration of their stem-packing materials, using the SafeSeal
system to restore the packing materials generally to their original performance
capabilities.
Hot tapping involves the use of special equipment to cut into a piping
system operating under pressure in order to connect a new pipe or other
process-system component. Line stopping is a means of stopping flow and
providing a shut-off in a piping system where none exists. This service enables
the customer to isolate piping system lines for repairs, alterations or
relocations. The Company provides these services to offshore pipelines as well
as to onshore plants and pipeline systems.
In performing interim on-line repairs, the Company designs line enclosures
and flange clamps to meet customer-specific technical and engineering objectives
and applicable industry and regulatory code requirements.
In SafeSeal valve restorations, the Company uses a valveless injection
fitting and a combination of specialized tools to inject the appropriate pliable
(or "nonhardening") compound into the valve's packing gland. The compound
supplements the existing packing to stop the leak and restore the sealing
capability of the packing. Except in severe operating conditions, a trained
technician using the SafeSeal system can complete an on-line restoration in less
than one hour. In certain limited cases, two fittings and injections are
required to seal the leak. The Company believes the SafeSeal system is safer,
more effective and more cost-efficient than conventional on-line valve-repacking
methods.
OPERATING HAZARDS. The Company performs a significant portion of its
repair services in refineries, chemical plants and other industrial facilities
that process, produce, store, transport or handle potentially
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hazardous substances, including highly corrosive, flammable or explosive
substances kept at extremes of temperature and pressure. These services are
subject to the usual hazards associated with providing on-site services in these
types of facilities. See "Litigation and Insurance" and "Factors That May
Affect Future Results" elsewhere in this Item 1.
DISTRIBUTION SERVICES
The Company currently sells new valves and related instrumentation and
other process-system components directly to its process-industry customers from
a majority of its sales and service locations. In addition to purchasing valves
from OEMs for resale, the Company also acts as a sales representative for a
number of OEMs. In this capacity, it typically promotes the sale and
distribution of the OEMs' products in designated territories for direct factory
shipment to the customer and is compensated by the OEMs on a commission basis.
At each sales location, the Company maintains inventories of valves and
other equipment typically used by the process industries it serves from that
location. Because customers place many of their orders in connection with new
construction or planned turnarounds, the Company often is able to arrange for
just-in-time deliveries of the original equipment required to fill these orders.
The Company's value-added valve distribution services primarily involve the
assembly, setting, testing and sealing of spring-loaded and pilot-operated PRVs
and also include: assembling other original valves with optional components
supplied by the same or different OEMs; customizing the original equipment for
installation in the customer's process unit; combining two or more valves in
configurations designed for specific process applications; and testing and
calibrating, as applicable, individual components and accessories and complete
equipment packages. As a part of its standard quality assurance program, the
Company supplements the positive material identification information OEMs
furnish to trace all materials they use in manufacturing their valves and other
equipment with its own material certifications, testing certificates and
full-assembly and test reports. Compiling this information (i) enables customers
to comply with applicable internal and regulatory recordkeeping requirements and
to demonstrate compliance with applicable industry and regulatory performance
standards, (ii) facilitates the repair or replacement of component parts, and
the reconditioning of entire valve assemblies, to the original design
specifications and (iii) provides the initial step in a predictive valve
maintenance program that uses actual operating histories to plan turnarounds
and, by isolating the reasons for equipment failures, spurs the use of different
or new materials and technologies.
OPERATIONS
The Company operates on a decentralized basis, and the management of each
operating company and each regional operating group is responsible for its
day-to-day operations, growth and profitability. The Company has centralized and
manages its cash management, auditing and internal control, employee benefits,
financing, financial reporting, risk management and business acquisition
activities at its corporate headquarters. It coordinates the sharing among its
operating locations of financial resources for improved systems and expansion of
services, training programs, financial controls, purchasing information and
operating expertise. The Company's executive management team directs the
development of the Company's marketing strategies and programs and is
responsible for key national supplier and customer relationships. The Company
has established standard reporting mechanisms to enhance its ability to monitor
each local or regional operation and assimilate acquired businesses and is
implementing performance-based incentive plans keyed to defined operational and
productivity measurements and benchmarks. The Company periodically reviews the
operations of the Company and other repair and distribution services businesses
in order to identify the "best practices" the Company will implement
throughout its operations. In order to reduce traditional corporate headquarters
expenses (as a percentage of revenues) and increase efficiencies, the Company
outsources various functions, including various personnel management and other
human resource services, legal and tax services, risk management and management
information systems design and implementation.
The Company conducts its repair and distribution services operations
through its local sales and service centers. It typically staffs its service
centers with customer service and order entry personnel, repair
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coordinators and inventory, shipping and receiving and office personnel. The
Company currently performs in-shop valve and other equipment assembly, testing
and certification at many of its operating facilities. Most of these locations
are authorized by various OEMs as centers for the assembly, sale and repair of
their valves and other products and maintain various professional certifications
by organizations such as the American Society of Mechanical Engineers ("ASME")
and the National Board of Boiler & Professional Vessel Inspectors.
The Company performs most of its on-site repair services on a scheduled
basis in response to the customer's call. The Company also offers 24-hour
emergency on-line and on-site repair services from many of its service
locations.
The Company operates mobile machine shops that allow its technicians to
perform repair and installation functions at the facilities of its customers.
These shops typically are self-contained trucks or trailers the Company equips
with various combinations of lathes, milling machines, grinders, welding
equipment, drill presses, test stands, work benches and hand tools. The Company
maintains its mobile shops at various locations, and from time to time it will
maintain a shop indefinitely at a customer's facility if the work so warrants.
The Company utilizes its repair and maintenance personnel to remanufacture
valves for sale at times of decreased demand for repair and maintenance
activities. This incremental activity enables the Company to maintain sufficient
staff to meet the high level of activity associated with turnarounds and to
produce a valuable product in times of decreased activity. The Company has no
significant new manufacturing operations.
SALES AND MARKETING
The Company employs a direct sales force to conduct its marketing and sales
activities. Most product and service orders are awarded by plant maintenance
managers to a small number of pre-approved vendors, with little direct bidding
for each job. More recently, plant owners have begun establishing sole-source
relationships with large, well-insured vendors with reputations for efficient
response, safe technicians and comprehensive service. The Company's sales and
marketing efforts typically focus on one-on-one relationships with plant
maintenance managers and turnaround planners and include regular visits to
customer plants to ensure client satisfaction. Initial visits also typically
involve demonstration of the Company's technical abilities at the plant or the
Company's shop facilities. The Company regularly advertises in trade journals,
participates in trade shows and conducts customer appreciation functions. The
Company also has an organized national accounts program that targets large
multi-location industrial customers.
Many of the Company's customers are regional and national companies in the
petroleum refining, chemical and pulp and paper industries and utilities.
For 1997, none of the Company's customers accounted for 10% or more of the
Company's pro forma combined revenues. While the Company is not dependent on any
one customer, the loss of one of its significant customers could, at least on a
short-term basis, have an adverse effect on the Company's results of operations.
The Company generally seeks to enter into national or regional "blanket"
contracts with its large customers. These contracts function to designate the
Company as an approved service provider for a customer and establish certain
standard terms and conditions for providing service to plants or other
facilities owned or operated by that customer. Although these blanket contracts
generally do not establish the Company as an exclusive provider of repair and
distribution services, the Company believes they are an important consideration
for plant managers and other decision makers in the usual process of selecting a
vendor of the services the Company provides.
SUPPLIERS
VALVES, PARTS AND FITTINGS. The Company purchases substantially all the
new valves and other process-system components it distributes from OEMs. Its
principal suppliers include Crosby Valve & Gauge Co., a unit of FMC Corporation,
and units of Dresser Industries, Inc.
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RELATIONSHIPS WITH OEMs. The success of the Company as a value-added
distributor of new valves and other process-system components and as a
factory-authorized repair service provider depends on its relationships with the
OEMs of these products. Except for its distribution agreements with OEMs, the
Company generally has no contractual repair-services contracts with OEMs.
The typical distribution agreement in the Company's industry specifies the
territory or territories in which the distributor has the right and obligation
to sell the OEM's products and the services (sales, assembly or repair) the
distributor is authorized to, or must, perform. An OEM may (i) assign a
territory on an exclusive or a nonexclusive basis, (ii) limit the range of the
OEM's products the distributor may sell or service, (iii) authorize or restrict
sales or services by the distributor outside the assigned territory, (iv) refuse
to assign the distributor additional territories and (v) reserve to itself the
right to deal exclusively with specified customers or classes of customers (for
example, national accounts or engineering and construction companies) in the
assigned territory. The Company believes the current fragmentation of the
distribution sector of its industry reflects the traditional assignment by OEMs
of territories on generally a local basis to distributors operating from a
single facility.
The typical distribution agreement may limit the distributor's role to that
of sales representative acting on a commission basis or provide for purchases by
the distributor for resales to end users. It also may impose requirements on the
distributor concerning such matters as (i) minimum individual or annual purchase
orders, (ii) maintenance of minimum inventories, (iii) establishment and
maintenance of facilities and equipment to perform specified services and (iv)
training of sales personnel and service technicians. Many OEMs closely monitor
compliance with these requirements. The distribution agreement also typically
(i) grants the distributor the nonexclusive right to use and display the OEM's
trademarks and service marks in the form and manner approved by the OEM and (ii)
prohibits the distributor from offering products that compete with the OEM's
products the distributor is authorized to sell.
The Company's distribution agreements generally have indefinite terms and
are subject to termination by either party on prior notice generally ranging
from 30 to 90 days.
The Company's business strategy could conflict with existing or future OEM
distributor policies or programs. The Company believes, however, that it offers
attractive benefits to OEMs. For large OEMs, it offers a cost-effective
distribution alternative that promotes consistent quality and possesses
significant financial and human resources. For small and mid-sized OEMs, it
offers access to broader markets and expertise in marketing. In addition, the
Company offers to all OEMs (i) a central source of market and usage data,
including complete life histories of valves and other products, and (ii) a means
of reducing their own selling costs through additional outsourcing of their
assembly, testing, repair and certification services, reducing the number of
distributors they are required to monitor and eliminating transition problems
associated with local owner-operated distributorships. Although no assurance can
be given that OEMs will not take actions that could materially adversely affect
the Company's ability to implement its growth strategies and maintain its
existing distribution services business, the Company believes that the
combination of (i) the advantages it offers to OEMs and (ii) the desire of end
users to reduce the number of their vendors should result in these issues being
resolved on a mutually satisfactory basis.
HIRING, TRAINING AND SAFETY
The Company seeks to ensure through its hiring procedures and continuous
training programs and the training programs its OEMs offer that (i) its
product-assembly and service technicians and machinists meet the performance and
safety standards the Company and its OEMs, professional and industry codes and
federal, state and local laws and regulations have established and possess the
required ASME, factory or other certifications and (ii) its sales personnel are
trained thoroughly in the selection, application, adaptation and customization
of the products it distributes and types of repair services it offers.
Because on-line and on-site repair services often are performed in
emergency situations under dangerous circumstances, the Company provides its
technicians with extensive classroom and field training and supervision and
establishes and enforces strict safety and competency requirements, including
physical exams and periodic drug testing in some cases. The Company's training
programs for its on-site repair
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technicians must meet requirements of the Occupational Safety and Health
Administration ("OSHA") respecting, among other matters, release detection
procedures, appropriate work practices, emergency procedures and other measures
these technicians can take to protect themselves and the environment.
COMPETITION
The markets for the Company's repair and distribution services generally
are highly competitive. The Company believes the principal competitive factors
in a distributor's sale of new valves and other process-system components
directly to industries in the distributor's market include price and the ability
of the distributor to offer on a timely basis a wide selection of the new,
better-performing valves and components OEMs have designed to meet the needs of
these industries. Factors affecting delivery time include inventory size and
accessibility and whether, in the case of PRVs and certain other valves, the OEM
or the distributor assembles, sets, tests and seals, or otherwise customizes,
the valve. The Company believes its assembly and testing facilities enable it
generally to deliver valves ready for installation faster than the relevant OEM.
In the case of repair services, the Company believes the principal competitive
factors are quality and availability of service (including emergency service and
documentation of valve histories), price, use of OEM-approved replacement parts,
familiarity with the OEMs' products and local brand equity of the repair
business.
In its distribution operations, the Company competes with the direct sales
forces and distribution networks of OEMs offering the same or comparable lines
of products. The success of the Company as a provider of value-added
distribution services depends on the extent to which the OEMs with which it has
distribution arrangements are able to create a demand for their products in the
territories they assign the Company. Factors affecting this demand include, in
addition to price, product quality and performance (including durability and
safety), delivery time and the relative strengths of the brand name and
marketing ability of the OEM.
The Company competes for repair services business with other repair service
businesses and, to a lesser extent, with OEMs, and customers' in-house
maintenance crews. Some of its competitors may have lower overhead cost
structures and, consequently, may be able to provide their services at lower
rates than the Company. The Company's competitors for on-line repairs include
two national competitors (the Furmanite Division of Kaneb Services, Inc. and
Team, Inc.) and several regional competitors. Competition in the market for
off-line repair services is highly fragmented, although certain competitors may
have dominant positions in some of the local markets they serve.
RESEARCH AND DEVELOPMENT
The Company conducts research and development to improve the quality and
efficiency of its services. Research and development activities include (i)
developing new technologies and compounds for repairs, (ii) both in-house and
extensive field testing of new technology to be used in conjunction with the
Company's repair service operations and (iii) assisting the Company's sales
organization and customers with special projects.
Through its research and development efforts, the Company is developing an
air-driven friction welding device and related processes it intends to market as
the SafeWeld system. Although there can be no assurance the SafeWeld system will
be commercially successful, the Company believes this system will be a
significant enhancement to the SafeSeal system.
INTELLECTUAL PROPERTY
The Company holds various United States and foreign patents, including some
relating to the Safe Seal system. It does not consider any individual patent to
be presently material to its consolidated business and believes its future
success will depend more on its technological capabilities and the application
of know-how in the conduct of that business. The Company enjoys service and
product name recognition, principally through various common law trademarks.
10
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For information respecting a license to certain of the Company's technology
under certain of its patents pertaining to the SafeSeal system. See "Factors
That May Affect Future Results" elsewhere in this Item 1.
EMPLOYEES
At December 31, 1997, the Company had approximately 800 full-time
employees. Approximately 15 are members of the United Steelworkers of America,
AFL/CIO union. None of the Company's other employees are represented by a union.
Management believes the Company's relations with its employees are satisfactory.
The Company's future success will depend, in part, on its ability to attract,
retain and motivate highly qualified technical, marketing, engineering and
management personnel.
The repair services business is characterized by high turnover rates among
field service technicians. Although the Company believes its turnover rate for
field service technicians is below the industry average, the Company's turnover
rate for these employees is high relative to the Company's other employees. The
Company seeks to attract and retain qualified service technicians and other
technical field personnel by providing competitive compensation packages. It has
never experienced a prolonged shortage of qualified personnel in any of its
operations (and does not currently anticipate any such shortage), but if demand
for repair services were to increase rapidly, retention of qualified field
personnel might become more difficult without significant increases in
compensation.
FACILITIES
The Company leases or owns 52 operating facilities in the United States,
one in Canada, two in Europe and one in the Middle East. It holds most of these
facilities under lease. The facilities consist principally of sales and
services, remanufacturing and administrative facilities. The Company believes
its facilities are adequately maintained and sufficient for its planned
operations at each location.
The Company's prinicpal executive and administrative offices are located in
Houston, Texas.
GOVERNMENTAL REGULATION AND ENVIRONMENTAL MATTERS
A wide range of federal, state and local regulations relating to health,
safety and environmental matters applies to the Company's business. The
Company's in-shop reconditioning and remanufacturing of used valves frequently
involves the use, handling, storage and contracting for the disposal or
recycling of a variety of substances or wastes considered hazardous or toxic.
Environmental laws are complex and subject to frequent change. These laws impose
"strict liability" in some cases without regard to negligence or fault.
Sanctions for noncompliance may include revocation of permits, corrective action
orders, administrative or civil penalties and criminal prosecution. Certain
environmental laws provide for joint and several strict liability for
remediation of spills and releases of hazardous substances. In addition,
businesses may be subject to claims alleging personal injury or property damage
as a result of alleged exposure to hazardous substances, as well as damage to
natural resources. These laws and regulations also may expose the Company to
liability for the conduct of or conditions caused by others, or for acts of the
Company which complied with all applicable laws when performed. No assurance can
be given the Company's compliance with amended, new or more stringent laws or
regulations, stricter interpretations of existing laws or the future discovery
of environmental conditions will not require additional, material expenditures
by the Company. OSHA regulations also apply to the Company's business, including
requirements the Company's training programs must meet. See "Hiring, Training
and Safey" elsewhere in this Item 1. Future acquisitions by the Company also
may be subject to regulation, including antitrust reviews.
The Company believes it has all material permits and licenses required to
conduct its operations and is in substantial compliance with applicable
regulatory requirements relating to its operations. The Company's capital
expenditures relating to environmental matters were not material on a pro forma
combined basis in 1997. The Company does not currently anticipate any material
adverse effect on its business or financial position as a result of its future
compliance with existing environmental laws and regulations controlling the
discharge of materials into the environment.
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LITIGATION AND INSURANCE
Steam Supply and a Mobil Corp. unit are named defendants in a proceeding
initiated by the City of Long Beach, California in October 1997 in a Long Beach
municipal court. The complaint arises from an in-shop repair Steam Supply
performed in February 1997, alleges the repair involved a release of hydrogen
sulfide gas into the atmosphere in violation of the California Health & Safety
Code and seeks monetary sanctions. Management of the Company believes this
proceeding will not have any material adverse effect on its financial condition
or operating results.
The Company is, from time to time, a party to litigation arising in the
normal course of its business, most of which involves claims for personal injury
and property damage allegedly incurred in connection with its operations. It
currently is not involved in any litigation it believes will have a material
adverse effect on its financial condition or results of operations.
The Company maintains insurance in such amounts and against such risks as
it deems prudent, although no assurance can be given that such insurance will be
sufficient under all circumstances to protect the Company against significant
claims for damages. The occurrence of a significant event not fully insured
against could materially and adversely affect the Company's financial condition
and results of operations. Moreover, no assurance can be given that the Company
will be able to maintain adequate insurance in the future at commercially
reasonable rates or on acceptable terms.
YEAR 2000 ISSUE
The Company is reviewing its computer programs and systems to ensure that
the programs and systems will function properly and be Year 2000 compliant. In
this process, the Company expects to replace some existing systems and upgrade
others. The Company presently believes that, with modifications to existing
software and converting to new software, the Year 2000 problem will not pose
significant operational problems for the Company's computer systems. The
estimated cost of these efforts are not expected to be material to the Company's
financial position or any year's results of operations.
FACTORS THAT MAY AFFECT FUTURE RESULTS
This report contains statements of management's plans and objectives and
other "forward-looking statements" that involve a number of risks,
uncertainties and assumptions. No assurance can be given that actual results
will not differ materially from these statements as a result of various factors,
including the following:
The ability of the Company to improve its operating results depends on the
extent to which its business strategies for growth succeed. No assurance can be
given that the Company will not encounter unforeseen costs, delays or
impediments in implementing these strategies, that these strategies will produce
the benefits management expects or that these strategies will be successful.
The Company's business strategies for growth focus primarily on acquiring
additional businesses providing repair and distribution services. This
acquisition strategy presents risks that, singly or in any combination, could
materially adversely affect the Company's business and financial performance.
These risks include (i) the adverse effects on existing operations which could
result from the diversion of management attention and resources to acquisitions,
(ii) the possible loss of acquired customer or supplier bases and key personnel,
including service technicians and machinists, and (iii) the contingent and
latent risks (including environmental risks) associated with the past operations
of and other unanticipated problems arising in the acquired businesses. The
success of the Company's acquisition strategy will depend on the extent to which
the Company is able to acquire, successfully integrate and profitably manage
additional businesses. In this connection, if competition for acquisition
candidates develops, the cost of acquiring businesses could increase materially,
and some competitors may have greater resources than the Company to finance
acquisition opportunities and may be willing to pay higher prices than the
Company for the same opportunities. Acquisitions accounted for as purchases may
result in substantial annual non-cash amortization charges for goodwill and
other intangible assets in the Company's statements of operations.
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The Company's acquisition strategy will require substantial capital. The
Company intends to finance future acquisitions with future free cash flow, by
borrowing under the Credit Facility and through issuances of shares of Common
Stock or debt securities, including convertible debt securities. Using
internally generated cash or debt to complete acquisitions could substantially
limit the Company's operational and financial flexibility. The extent to which
the Company will be able or willing to use shares of Common Stock to consummate
acquisitions will depend on its market value from time to time and the
willingness of potential sellers to accept it as full or partial payment. No
assurance can be given the Company will be able to obtain the capital it will
need to finance a successful acquisition program and its other cash needs. If
the Company is unable to obtain additional capital on acceptable terms, it may
be required to reduce the scope of the expansion it presently anticipates, which
could materially adversely affect its growth. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Liquidity and
Capital Resources" in Item 7 of this Report.
Factors affecting the Company's ability to generate internal growth include
the extent to which it is able to (i) establish efficient centralized financial
and other administrative systems to replace the separate systems the businesses
it acquires have used and otherwise integrate these businesses into a cohesive,
efficient enterprise, (ii) expand the range of repair services of the Acquired
Businesses and other businesses it may acquire, (iii) leverage its relationships
with customers in existing markets into work for those customers in other
markets where they currently use the services of competitors and (iv) reduce
overhead costs of acquired businesses. No assurance can be given the Company
will be able to market its SafeSeal technology successfully as being safer, more
effective and more cost-efficient than other available on-line valve repair
methods. Factors affecting the Company's ability to expand services include the
extent to which it is able to attract and retain qualified operating management,
service technicians and machinists in existing and new areas of operation and
train its technicians to use the SafeSeal technology and other new technologies
that become available.
The businesses of most of the Company's industrial customers, particularly
refineries and chemical, power and pulp and paper plants, tend to be cyclical.
Margins in those industries are highly sensitive to demand cycles, and the
Company's customers in those industries historically have tended to delay large
capital projects, including expensive turnarounds, during down cycles. As a
result, the Company's business and results of operations may reflect the
cyclical nature of the various industries it serves.
The Company performs a significant portion of its repair services in
refineries, chemical plants and other industrial facilities that process,
produce, store, transport or handle potentially hazardous substances, including
highly corrosive, flammable or explosive substances kept at extremes of
temperature and pressure. These services (i) include sealing leaks and repairing
valves on process units operating under pressure, (ii) typically involve a
combination of individuals and machinery operating in restricted work areas and
(iii) are subject to the usual hazards associated with providing on-site
services in these types of facilities, such as pipeline leaks and ruptures,
explosions, fires, oil and chemical spills, discharges or releases of toxic
substances or gases. These hazards can cause personal injury and loss of life,
severe damage to or destruction of property and equipment and environmental
damage and may result in suspension of operations of all or part of the facility
being serviced. If a catastrophic event occurs at a plant to which the Company
provides services, the Company may have to defend itself against large claims.
It maintains insurance coverage in the amounts and against the risks it believes
accord with industry practice, but this insurance does not cover all types or
amounts of liabilities. No assurance can be given either (i) this insurance will
be adequate to cover all losses or liabilities the Company may incur in its
operations or (ii) the Company will be able to maintain insurance of the types
or at levels it deems necessary or adequate or at rates it considers reasonable.
The markets for the Company's repair and distribution services generally
are highly competitive. Some of its competitors may have lower overhead cost
structures and, consequently, may be able to provide their services at lower
rates than the Company or require the Company to lower its gross margins.
The success of the Company may depend in part on its ability to obtain and
protect patents and other intellectual property rights covering its products and
services. One of the Company's customers has a
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license to certain of the Company's technology under certain of its patents
pertaining to the SafeSeal system. Although, to the knowledge of the Company,
that customer has not pursued the development of technology that would compete
with the SafeSeal system (and instead has opted to continue outsourcing on-line
valve repair service work to the Company), there can be no assurance it will not
elect to do so in the future. Moreover, there can be no assurance others will
not independently develop substantially equivalent or better technology that
would be free of the Company's patents and other intellectual property rights.
See "Intellectual Property" elsewhere in this Item 1.
A wide range of federal, state and local regulations relating to health,
safety and environmental matters applies to the Company's business. See
"Governmental Regulation and Environmental Matters" elsewhere in this Item 1.
No assurance can be given the Company's compliance with current, amended, new or
more stringent laws or regulations, stricter interpretations of existing laws or
the future discovery of environmental conditions will not require additional,
material expenditures by the Company. Future acquisitions by the Company also
may be subject to regulation, including antitrust reviews.
The success of the Company's operations will depend on the continuing
efforts of its executive officers and the senior management of the Acquired
Businesses and likely will depend on the senior management of any significant
businesses the Company acquires in the future. The business or prospects of the
Company could be affected adversely if any of these persons do not continue in
their respective management roles after joining the Company and the Company is
unable to attract and retain qualified replacements. The ability of the Acquired
Businesses (other than SSI) and any additional repair services companies the
Company may acquire to include the SafeSeal system in their services will
require the training of their service technicians in the use of the technology,
and the success of the Company's growth strategy generally, as well as the
Company's current operations, will depend on the extent to which it is able to
retain, recruit and train qualified sales personnel, service technicians and
machinists who meet the Company's standards of service to customers.
The success of the Company as a value-added distributor of new valves and
other process-system components depends on its relationships with the OEMs for
which it distributes products. In these relationships, the Company acts either
as a sales representative on a commission basis for direct sales by the OEM to
the end user or purchases products on a discount basis for resale, generally on
a value-added basis. OEMs typically exercise a great deal of control over their
distributors. An OEM may assign a territory to a distributor on an exclusive or
nonexclusive basis, refuse to assign additional territories to its distributors
and reserve the right to sell directly to customers in an assigned territory.
The typical distribution agreement is terminable at will on relatively short
prior notice and restricts the ability of the distributor to offer similar
products made by another OEM. The Company's business strategy has caused concern
by some OEMs and could conflict with existing or future OEM distributor policies
or programs. Actions taken by OEMs to exploit their bargaining positions with
the Company could materially adversely affect the Company's ability to implement
its growth strategies and maintain its existing distribution services business.
See "Suppliers -- Relationships With OEMs" elsewhere in this Item 1.
The success of the Company as a value-added distributor also depends on the
extent to which its OEMs are able to create demand for their products in the
markets the Company serves. Factors affecting this demand include, in addition
to price, product quality and performance (including durability and safety) and
delivery time, the relative strengths of the brand names and the marketing
abilities of the OEMs. See "Competition" elsewhere in this Item 1.
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EXECUTIVE OFFICERS
The following table sets forth certain information as of March 1, 1998
concerning each of the executive officers of Invatec:
NAME AGE POSITION
- ------------------------------ --- ------------------------------
William E. Haynes............. 54 Chairman of the Board,
President and Chief Executive
Officer
Charles F. Schugart........... 38 Chief Financial Officer,
Senior Vice
President -- Corporate
Development, Treasurer and
Secretary
Denny A. Rigas................ 53 Senior Vice
President -- Technology and
Marketing
Pliny L. Olivier.............. 52 Senior Vice
President -- Operations
Douglas R. Harrington, Jr..... 33 Vice President and Corporate
Controller
John L. King.................. 27 Vice President -- Corporate
Development
Timothy M. LeFevre............ 35 Vice President -- Corporate
Marketing Programs
Frank L. Lombard.............. 54 Vice President -- Corporate
Development
Curry B. Walker............... 62 Vice President -- Quality,
Safety and Engineering
Invatec's executive officers are appointed annually by the Invatec Board of
Directors (the "Board of Directors") to serve for the ensuing year or until
their respective successors have been duly appointed. The executive officers
listed above have had the business experience indicated below during the last
five years.
WILLIAM E. HAYNES has been Chairman of the Board since May 1997 and
President and Chief Executive Officer since March 1997. He also has served as
President and Chief Executive Officer of SSI from November 1996 until 1997. From
July 1992 through December 1995, Mr. Haynes served as President and Chief
Executive Officer of LYONDELL-CITGO Refining Company Ltd. He served in various
executive capacities for Lyondell Petrochemical Company from 1985 to 1993 and in
various technical, management and executive positions with Atlantic Richfield
commencing in 1967. Mr. Haynes is also a director of Philip Services Corp., an
industrial and environmental services company.
CHARLES F. SCHUGART has been Chief Financial Officer since March 1997 and
has been Senior Vice President -- Corporate Development since July 1997. He
previously served for over 12 years in a variety of capacities with Arthur
Andersen LLP, including most recently as Senior Manager. Mr. Schugart is a
Certified Public Accountant.
DENNY A. RIGAS has been Senior Vice President -- Technology and Marketing
since May 1997. From 1993 to May 1997, Mr. Rigas served as an executive vice
president and general manager of the Triconex Corporation, a manufacturer of
integrated safety systems for process-system industries. Mr. Rigas has a total
of 30 years of domestic and international experience in the oil and gas
hydrocarbon processing, process, pipeline, power, marine and other industries.
He has served in executive and sales/marketing management positions in the last
18 years with, among others, a subsidiary of Rockwell International Corporation,
Lummus Crest and Foster Wheeler. Mr. Rigas is a registered professional engineer
in the State of Texas.
PLINY L. OLIVIER has been Senior Vice President -- Operations of Invatec
since March 1998. Prior thereto Mr. Olivier had been President of GSV since
November 1985.
DOUGLAS R. HARRINGTON, JR. has been Vice President and Corporate Controller
since March 1997 and has served in the same capacities for SSI since February
1997. Prior to February 1997, he served in various capacities, including most
recently as Controller -- U.S. Operations for Gundle/SLT Environmental, Inc.
from March 1992 through May 1995 and from January 1996 until February 1997. From
May 1995 through December 1995, Mr. Harrington served as Senior
Manager -- Accounting for BSG Consulting, Inc. Prior to March 1992, he served
for more than five years in a variety of capacities with Arthur Andersen LLP,
including most recently as an audit manager. Mr. Harrington is a Certified
Public Accountant.
JOHN L. KING has been Vice President -- Corporate Development since March
1997. Prior to March 1997, he served for over five years in a variety of
capacities with Arthur Andersen LLP, including most recently as an audit
manager. Mr. King is a Certified Public Accountant.
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TIMOTHY M. LEFEVRE has been Vice President -- Corporate Marketing Programs
since June 1997. From 1994 through June 1997, he served as Vice
President -- Corporate Marketing of Triconex Corporation. From 1992 through
1994, Mr. LeFevre served in a variety of technical and marketing capacities for
Allen-Bradley Company, a subsidiary of Rockwell International Corporation.
FRANK L. LOMBARD has been Vice President -- Corporate Development since
March 1997 and has served in the same capacity for SSI from August 1993 until
March 1997. From 1982 until joining SSI in 1993, he served as President of
Westheimer Financial Group, Inc., a privately held investment banking and
corporate finance advisory firm in Houston, Texas.
CURRY B. WALKER has been Vice President -- Quality, Safety and Engineering
since July 1997. Prior to July, Mr. Walker served as President of Plant
Specialties for over 10 years.
ITEM 2. PROPERTIES
This item incorporates by this reference the information appearing under
the caption "Facilities" in Item 1 of this Report.
ITEM 3. LEGAL PROCEEDINGS
This Item incorporates by this reference the information appearing under
the caption "Litigation and Insurance" in Item 1 of this Report.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of the Company's security holders during
the fourth quarter of 1997.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Since October 1997, the Common Stock of Invatec has been quoted on the
Nasdaq National Market under the symbol "IVTC." As of March 24, 1998, there
were 8,698,026 shares of Common Stock outstanding, held by approximately
fifty-five stockholders of record. The number of record holders does not
necessarily bear any relationship to the number of beneficial owners of the
Common Stock.
The following table sets forth the range of high and low sale prices for
the Common Stock on the Nasdaq National Market for the periods indicated:
HIGH LOW
--------- ---------
Year ended December 31, 1997
4th quarter (October 23 to
December 31).................... $ 20.25 $ 15.75
The last reported sale price of the Common Stock on the Nasdaq National
Market on March 24, 1998 was $16.63 per share.
Invatec has not paid or declared any dividends since its formation and
currently intends to retain earnings to finance the expansion of its business.
Any future dividends will be at the discretion of the Board of Directors after
taking into account various factors deemed relevant by the Board of Directors,
including the Company's financial condition and performance, cash needs and
expansion plans, income tax consequences and the restrictions Delaware and other
applicable laws and its credit facilities then impose. The Credit Facility
prohibits the payment of dividends. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations -- Liquidity and Capital
Resources" in Item 7 of this Report and Note 7 of the Notes to Consolidated
Financial Statements of the Company in Item 8 of this Report.
During the period from the closing of the IPO on October 28, 1997 to
December 31, 1997, Invatec issued 70,278 shares of Common Stock and $6.4 million
aggregate principal amount of promissory notes convertible into shares of Common
Stock (the "Convertible Notes") that were not registered under the Securities
Act. Invatec issued those securities as part of the purchase prices it paid in
separate acquisitions of Additional Acquired Businesses. The closing date of
those acquisitions was December 17, 1997. These sales were exempt from the
registration requirements of the Securities Act by virtue of Section 4(2)
thereof as transactions not involving any public offering. Each acquisition
involved a limited number of owners.
The shares of Common Stock issued and sold in the IPO were registered under
the Securities Act pursuant to a Registration Statement on Form S-1 (Reg. No.
333-31617) which the Securities and Exchange Commission (the "Commission")
declared effective on October 21, 1997. That Registration Statement initially
registered an indeterminate number of shares of Common Stock having a maximum
aggregate offering price of $59,386,400. Subsequently, Invatec determined to
offer 3,350,000 shares of Common Stock in the IPO and granted the underwriters a
30-day option to purchase up to 502,500 additional shares to cover
over-allotments. The IPO was completed through a syndicate of underwriters for
which NationsBanc Montgomery Securities LLC and Furman Selz LLC acted as
representatives.
The expenses Invatec incurred for its account in connection with the IPO
consisted of a total underwriting discount of $3,505,775 and audit, legal,
printing and other expenses of $2,554,819. Invatec's payment of these expenses
did not constitute direct or indirect payments to any of its directors or
officers or their associates, any person owning 10% or more of the Common Stock
or any of its affiliates, except as follows: these expenses included
approximately $1,500,000 paid to unrelated parties with a loan from Philip
Services Corp. (collectively with its subsidiaries, "Philip") which Invatec
repaid with proceeds from the IPO.
17
<PAGE>
Invatec's net offering proceeds from the IPO totaled $44,021,906 after
deducting the $6,060,594 of offering expenses. Invatec applied these proceeds as
follows: (in thousands):
Repayment of indebtedness(2)............ $ 29,745
Acquisitions of other businesses(1)..... 12,491
Working capital......................... 833
Payment of insurance premiums........... 423
Payment of bonuses to executive
officers.............................. 330
Advances to an executive officer for
moving costs.......................... 100
Loan to an executive officer............ 100
---------
Total.............................. $ 44,022(3)
=========
- ------------
(1) Included $3,628 used to pay indebtedness of acquired businesses.
(2) Included $2,982 paid to Philip, but excluded $1,500 paid to Philip and
classified as offering expenses.
(3) Except for the payment to Philip referred to in Note (2) and the $530 paid
to or for the account of executive officers, Invatec's application of its
net offering proceeds did not constitute direct or indirect payments to any
of its officers or directors or their associates, any person owning 10% or
more of the Common Stock or any of its affiliates.
ITEM 6. SELECTED FINANCIAL DATA
The Company's financial statements present SSI as the "accounting
acquirer" in the acquisitions Invatec effected through October 31, 1997.
Consequently, the Company's historical financial statements for periods ended on
or before that date are SSI's historical consolidated financial statements, and
in this Item 6 the term "Company" means (i) SSI and its consolidated
subsidiaries prior to that date and (ii) Invatec and its consolidated
subsidiaries on that date and thereafter. The following selected historical
financial information derives from the Company's audited financial statements
for each year in the four-year period ended December 31, 1997 and the Company's
unaudited financial statements for the year ended December 31, 1993. The Company
prepared the audited statements and the unaudited statements on the same basis.
See the historical financial statements and notes thereto included elsewhere
herein.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
-----------------------------------------------------
1993 1994 1995 1996 1997(1)
--------- --------- --------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
HISTORICAL STATEMENT OF OPERATIONS
INFORMATION:
Revenues............................ $ 1,787 $ 2,547 $ 2,852 $ 3,888 $ 58,621
Gross profit........................ 959 1,276 1,268 1,512 18,800
Selling, general and administrative
expenses.......................... 1,221 1,268 1,853 1,917 16,805
Special compensation expense (1).... -- -- -- 38 7,614
Income (loss) from operations....... (262) 8 (585) (443) (5,619)
Interest income (expense), net...... (1) (7) 10 28 (2,901)
Other income (expense), net......... -- (282) (930) -- (3)
Loss before income taxes............ (263) (281) (1,505) (415) (8,523)
Net loss............................ $ (263) $ (281) $ (1,505) $ (415) $ (7,500)
========= ========= ========= ========= =========
HISTORICAL BALANCE SHEET INFORMATION:
Working capital (deficit)........... $ 163 $ (202) $ 823 $ (13) $ 21,232
Total assets........................ 623 668 23,109 2,228 105,432
Total debt, including current
portion........................... 25 93 -- 589 29,527
Stockholders' equity (deficit)...... 44 (75) (1,075) (1,394) 59,869
</TABLE>
- ------------
(1) Non-cash, non-recurring special compensation expenses of $7.6 million
attributable to certain awards of stock and stock options and certain stock
sales and financing fees of $1.0 million (included in interest expense)
related to guarantees by Philip. See Note 2 of the Notes to Consolidated
Financial Statements of the Company.
18
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The Company derives its revenues principally from (i) its sales of
industrial valves and other process-system components to its process-industry
customers and its commissions manufacturers of these products pay in connection
with their direct sales of their products and (ii) performance of comprehensive,
maintenance, repair, replacement and value-added distribution services of
industrial valves and process-system components for these customers. Cost of
operations consists principally of direct costs of valves and components sold,
coupled with labor and overhead costs connected with the performance of repair
services. Selling, general and administrative expenses consist principally of
compensation and benefits payable to owners and to sales, management and
administrative personnel and insurance, depreciation and amortization and other
related expenses.
Invatec is in the process of integrating the Acquired Businesses and their
operations and administrative functions. This process may present opportunities
to reduce costs through eliminating duplicative functions and operating
locations and developing economies of scale, particularly as a result of the
Company's ability to (i) consolidate insurance programs, (ii) borrow at lower
interest rates than the Acquired Businesses, (iii) obtain greater discounts from
suppliers and (iv) generate savings in other general and administrative areas.
The Company cannot currently quantify these anticipated savings and expects
these savings will be partially offset by incremental costs that the Company
expects to incur, but also cannot currently quantify accurately. These costs
include those associated with corporate management and administration, being a
public company, systems integration and facilities expansions and
consolidations. The expected savings and incremental costs may render historical
operating results not comparable to, or indicative of, future performance.
The Company's financial statements present SSI as the "accounting
acquirer" in the acquisitions Invatec effected through October 31, 1997.
Consequently, the Company's historical financial statements for periods ended on
or before that date are SSI's historical consolidated financial statements, and
in this discussion the term "Company" means (i) SSI and its consolidated
subsidiaries prior to that date and (ii) Invatec and its consolidated
subsidiaries on that date and thereafter.
RESULTS OF OPERATIONS
HISTORICAL
The following table sets forth selected financial information of the
Company and that information as a percentage of the Company's revenues for the
years indicated (dollars in thousands):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
----------------------------------------------------------------
1995 1996 1997
-------------------- -------------------- --------------------
<S> <C> <C> <C> <C> <C> <C>
Revenues............................. $ 2,852 100% $ 3,888 100% $ 58,621 100%
Cost of operations................... 1,584 56 2,376 61 39,821 68
--------- --- --------- --- --------- ---
Gross profit......................... 1,268 44 1,512 39 18,800 32
Selling, general and administrative
expenses........................... 1,853 65 1,917 49 16,805 29
Special compensation expense......... -- -- 38 1 7,614 13
--------- --- --------- --- --------- ---
Loss from operations................. $ (585) (21) $ (443) (11) $ (5,619) (10)
========= === ========= === ========= ===
</TABLE>
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996
REVENUES -- Revenues increased $54.7 million, or 1,408%, from $3.9 million
in 1996 to $58.6 million in 1997. This increase resulted from the inclusion of
the results of the Acquired Businesses purchased in 1997 from their respective
dates of acquisition.
GROSS PROFIT -- Gross profit increased $17.3 million, or 1,143%, from $1.5
million in 1996 to $18.8 million in 1997, primarily as a result of the
incremental gross margins generated by the Acquired
19
<PAGE>
Businesses Invatec purchased in 1997. As a percentage of revenues, gross profit
decreased from 39% in 1996 to 32% in 1997. This decrease reflects the expansion
of the Company's consolidated operations to include the off-line distribution
and related services operations of the businesses purchased in 1997 which
historically have generated lower gross margins than SSI's gross margins
attributable to its on-line repair services operations.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES -- This increase primarily
reflects the incremental selling, general and administrative expenses of the
businesses acquired in 1997 and the building of the Company's corporate
management team. As a percentage of revenues, these expenses decreased from 49%
in 1996 to 29% in 1997 as a result of being spread over a larger revenue base
coupled with the implementation of the Company's cost reduction strategies.
SPECIAL COMPENSATION EXPENSE -- Special compensation expense increased $7.6
million, or 19,937%, from $38,000 in 1996 to $7.6 million in 1997. In 1996,
these non-cash expenses related to the issuance by SSI of its common stock and
options to purchase its common stock under employee benefit programs. In 1997,
these non-cash expenses related to an SSI issuance of shares of its common
stock, sales by Invatec of Common Stock and certain options granted by Invatec
to purchase Common Stock. See Note 2 of the Notes to Consolidated Financial
Statements of the Company in Item 8 of this Report.
YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995
REVENUES -- Revenues increased $1.0 million, or 36%, from $2.9 million in
1995 to $3.9 million in 1996. This increase resulted primarily from SSI
obtaining, in early 1996, sole-source contracts to provide leak sealing and
related services to two significant petrochemical companies located in the
United States Gulf Coast region. An expansion of SSI's sales force during 1996
also contributed to the increase in revenues in fiscal 1996.
GROSS PROFIT -- Gross profit increased $0.2 million, or 19%, from $1.3
million in 1995 to $1.5 million in 1996. As a percentage of revenues, gross
profits decreased from 44% in 1995 to 39% in 1996, principally as a result of:
(i) aggressive pricing offered by SSI to obtain the sole-source contracts
referred to above; (ii) a marginal increase in the cost of certain raw materials
utilized in its leak sealing business; and (iii) increases in staffing levels in
1996 in preparation for higher future levels of business activity.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES -- Selling, general and
administrative expenses remained consistent at $1.9 million in both 1995 and
1996. As a percentage of revenues, these expenses decreased from 65% in 1995 to
49% in 1996 as a result of being spread over a larger revenue base.
LIQUIDITY AND CAPITAL RESOURCES
The following table sets forth selected information from the Company's
statements of cash flows (in millions):
YEAR ENDED DECEMBER 31
-------------------------------
1995 1996 1997
--------- --------- ---------
Net cash used in operating
activities......................... $ (1.1) $ (0.9) $ (0.3)
Net cash used in investing
activities......................... -- (0.2) (52.6)
Net cash provided by financing
activities......................... 2.5 -- 55.0
--------- --------- ---------
Net change in cash................... $ 1.4 $ (1.1) $ 2.1
========= ========= =========
For the period from January 1, 1995 through December 31, 1997, the
Company's operations used $2.3 million of cash primarily as a result of its
losses in 1995 and 1996 and the 1997 increase in inventory levels required to
support the Company's internal sales growth programs. Cash used in investing
activities of $52.8 million in the same period consisted primarily of $51.6
million used to purchase the Acquired Businesses in 1997. Cash provided from
financing activities in the same period of $57.5 million primarily reflects net
proceeds from the Company's IPO of $44.0 million and net borrowings under credit
facilities of $11.8 million offset by repayments of debt to Philip of $3.0
million.
20
<PAGE>
The Company's Credit Facility is a three-year revolving credit facility of
up to $60.0 million the Company may use for acquisitions and general corporate
purposes. Invatec's present and future subsidiaries will guarantee the repayment
of all amounts due under the facility, and the facility is secured by the
capital stock of those subsidiaries and the Company's accounts receivable and
inventories. The Credit Facility requires the consent of the lenders for
acquisitions exceeding a certain level of cash consideration, prohibits the
payment of cash dividends by Invatec, restricts the ability of the Company to
incur other indebtedness and requires the Company to comply with certain
financial covenants.
The Company anticipates that its cash flow from operations will provide
cash in excess of the Company's normal working capital needs, debt service
requirements and planned capital expenditures for property and equipment for at
least the next several years.
The Company intends to pursue attractive acquisition opportunities during
the foreseeable future. The timing, size or success of its acquisition efforts
and the associated potential capital commitments are unpredictable. The Company
expects to fund future acquisitions through the issuance of additional equity as
well as through a combination of cash flow from operations and borrowings,
including borrowings under the Credit Facility.
FLUCTUATIONS IN OPERATING RESULTS
The Company's results of operations may fluctuate significantly from
quarter to quarter or year to year because of a number of factors, including the
timing of future acquisitions, seasonal fluctuations in the demand for repair
and distribution services (particularly the demand attributable to scheduled
turnarounds in the power industry, which typically are scheduled for
mild-weather months) and competitive factors. Accordingly, quarterly comparisons
of the Company's revenues and operating results should not be relied on as an
indication of future performance, and the results of any quarterly period may
not be indicative of results to be expected for a full year.
21
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements of Invatec and certain of its
subsidiaries, together with the related report of independent public
accountants, are set forth on pages F-1 through F-18 hereof. Separate financial
statements of Invatec and certain of its subsidiaries, together with the related
reports of independent public accountants, are set forth on pages F-19 through
F-116 hereof. (See Item 14 for Index.)
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
ITEM 11. EXECUTIVE COMPENSATION
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
For the information called for by Item 10 (other than the information
regarding Executive Officers, which is set forth in "Item 1.
Business -- Executive Officers") and Items 11, 12 and 13, reference is made to
the Company's definitive proxy statement for its 1998 Annual Meeting of
Stockholders, which will be filed with the Commission within 120 days after
December 31, 1997, and which is incorporated herein by reference (except for the
material included under the captions "Report on Compensation Committee" and
"Performance Graph").
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a)(1) Financial Statements.
INDEX TO FINANCIAL STATEMENTS
PAGE
------
Innovative Valve Technologies,
Inc. and Subsidiaries
Report of Independent
Public Accountants......... F-1
Consolidated Balance
Sheets..................... F-2
Unaudited Pro Forma
Combined Statement of
Operations................. F-3
Consolidated Statements of
Operations................. F-4
Consolidated Statements of
Stockholders' Equity
(Deficit).................. F-5
Consolidated Statements of
Cash Flows................. F-6
Notes to Consolidated
Financial Statements....... F-7
Innovative Valve Technologies,
Inc. and Subsidiary
Report of Independent
Public Accountants......... F-19
Consolidated Balance
Sheet...................... F-20
Consolidated Statement of
Operations................. F-21
Consolidated Statement of
Stockholders' Deficit...... F-22
Consolidated Statement of
Cash Flows................. F-23
Notes to Consolidated
Financial Statements....... F-24
The Safe Seal Company, Inc. and
Subsidiaries
Report of Independent
Public Accountants......... F-28
Consolidated Balance
Sheets..................... F-29
Consolidated Statements of
Operations................. F-30
Consolidated Statements of
Stockholders' Equity
(Deficit).................. F-31
Consolidated Statements of
Cash Flows................. F-32
Notes to Consolidated
Financial Statements....... F-33
22
<PAGE>
PAGE
------
Harley Industries, Inc. and
Subsidiaries
Independent Auditors'
Reports.................... F-42
Consolidated Balance
Sheets..................... F-44
Consolidated Statements of
Operations................. F-45
Consolidated Statements of
Stockholders' Equity....... F-46
Consolidated Statements of
Cash Flows................. F-47
Notes to Consolidated
Financial Statements....... F-48
Steam Supply Group
Report of Independent
Public Accountants......... F-57
Combined Balance Sheets.... F-58
Combined Statements of
Operations................. F-59
Combined Statements of
Stockholders' Equity
(Deficit).................. F-60
Combined Statements of Cash
Flows...................... F-61
Notes to Combined Financial
Statements................. F-62
ICE/VARCO Group
Report of Independent
Public Accountants......... F-69
Combined Balance Sheets.... F-70
Combined Statements of
Operations................. F-71
Combined Statements of
Stockholders' Deficit...... F-72
Combined Statements of Cash
Flows...................... F-73
Notes to Combined Financial
Statements................. F-74
GSV, Inc.
Independent Auditors'
Report..................... F-80
Balance Sheets............. F-81
Statements of Operations... F-82
Statements of Stockholders'
Equity..................... F-83
Statements of Cash Flows... F-84
Notes to Financial
Statements................. F-85
Plant Specialties, Inc.
Report of Independent
Public Accountants......... F-89
Balance Sheets............. F-90
Statements of Operations... F-91
Statements of Stockholders'
Equity..................... F-92
Statements of Cash Flows... F-93
Notes to Financial
Statements................. F-94
Southern Valve Group
Report of Independent
Public Accountants......... F-99
Combined Balance Sheets.... F-100
Combined Statements of
Operations................. F-101
Combined Statements of
Stockholders' Equity....... F-102
Combined Statements of Cash
Flows...................... F-103
Notes to Combined Financial
Statements................. F-104
Dalco, Inc.
Report of Independent
Public Accountants......... F-108
Balance Sheets............. F-109
Statements of Operations... F-110
Statements of Stockholders'
Equity..................... F-111
Statements of Cash Flows... F-112
Notes to Financial
Statements................. F-113
23
<PAGE>
(2) Financial Statement Schedules.
All financial statement schedules are omitted because they are not required
or the required information is shown in the Company's consolidated financial
statements or the notes thereto.
(3) Exhibits.
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- ------------------------ ------------------------------------------------------------------------------------------
<C> <S>
2.1* -- Stock Purchase Agreement dated as of December 28, 1996 by and among The Safe Seal Company,
Inc. ("SSI"), certain stockholders of Harley Industries, Inc. ("Harley") and Harley
(Form S-1 (Reg. No. 333-31617), Ex. 2.1).
2.2* -- Stock Transfer Agreement dated as of January 24, 1997 by and among SSI, an individual
stockholder of Harley, Harley and Harley Equipment Corporation (Form S-1 (Reg. No.
333-31617), Ex. 2.2).
2.3* -- Stock Purchase Agreement entered into on June 23, 1997 by and among Invatec, Puget
Investments, Inc., Flickinger-Benicia Inc. and the stockholders named therein (Form S-1
(Reg. No. 333-31617), Ex. 2.3).
2.4* -- Stock Purchase Agreement dated as of July 15, 1997 by and among Invatec, Industrial
Controls & Equipment, Inc., Valve Actuation & Repair Co., Rickco Acquisition, Inc., BAS
Technical Employment Placement Company and the stockholders named therein (Form S-1 (Reg.
No. 333-31617), Ex. 2.4).
2.5* -- Stock Purchase Agreement dated as of February 26, 1997 by and among SSI and the
stockholders of GSV, Inc. (Form S-1 (Reg. No. 333-31617), Ex. 2.5).
2.6* -- Stock and Real Estate Purchase Agreement dated as of May 22, 1997 by and among SSI, Plant
Specialties, Inc. and the stockholders named therein (Form S-1 (Reg. No. 333-31617), Ex.
2.6).
2.7* -- Agreement and Plan of Reorganization dated as of June 27, 1997 by and among Invatec, SVSI
Acquisition, Inc., Southern Valve Service, Inc. and the stockholders named therein (Form
S-1 (Reg. No. 333-31617), Ex. 2.7).
2.8* -- Stock Redemption and Purchase Agreement dated as of June 27, 1997 by and among Invatec,
Lee Roy Jordan, Ralph Buffkin and 55 Leasing and Sales, Inc. (Form S-1 (Reg. No.
333-31617), Ex. 2.8).
2.9* -- Agreement and Plan of Merger dated as of June 27, 1997 by and among Invatec, IVT
Acquisition, Inc. and SSI, as amended as of August 15, 1997 (Form S-1 (Reg. No.
333-31617), Ex. 2.9).
2.10* -- Uniform Provisions for Acquisitions (incorporated into the agreements incorporated herein
as Exhibits 2.3, 2.4 and 2.7) (Form S-1 (Reg. No. 333-31617), Ex. 2.10).
2.11* -- Merger Agreement dated as of December 17, 1997 by and among Invatec, DIVT Acquisition,
LLC, Dalco, Inc. and the stockholders named therein (Form 8-K dated December 17, 1997
(File No. 000-23231), Ex. 2).
2.12* -- Stock Purchase Agreement dated as of February 27, 1998 by and among Invatec, Cypress
Industries, Inc. and the Stockholders named therein (Form 8-K dated February 27, 1998
(File No. 000-23231), Ex. 2).
Pursuant to Item 601(b)(2) of Regulation S-K, certain schedules and exhibits to the
agreements filed or incorporated by reference as Exhibits 2.1 through 2.12 (all of which
are listed therein) have been omitted. Invatec hereby agrees to furnish supplementally a
copy of any such omitted item to the SEC on request.
3.1* -- Certificate of Incorporation of Invatec (Form S-1 (Reg. No. 333-31617), Ex. 3.1).
3.2* -- Bylaws of Invatec (Form S-1 (Reg. No. 333-31617), Ex. 3.2).
4.1* -- Form of Certificate representing Common Stock (Form S-1 (Reg. No. 333-31617), Ex. 4.1).
4.2* -- Registration Rights Agreement dated as of June 9, 1997 by and among Invatec and the
stockholders listed on the signature pages thereto (Form S-1 (Reg. No. 333-31617), Ex.
4.2).
4.3* -- Registration Rights Agreement dated as of June 12, 1997 by and among Invatec and the
persons listed on the signature pages thereto (Form S-1 (Reg. No. 333-31617), Ex. 4.3).
24
<PAGE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- ------------------------ ------------------------------------------------------------------------------------------
4.4* -- Addendum to Registration Rights Agreement dated as of July 28, 1997 by and among Invatec
and the holders listed on the signature pages thereto (Form S-1 (Reg. No. 333-31617), Ex.
4.4).
4.5* -- Rights Agreement by and between the Company and ChaseMellon Shareholder Services, L.L.C.,
including form of Rights Certificate attached as Exhibit B thereto (Form 10-Q for the
quarterly period ended September 30, 1997 (File No. 000-23231), Ex. 4.5).
4.6* -- Loan Agreement among Invatec, Chase Bank of Texas, National Association, as Agent and as a
lender, and the other lenders referred to therein (Form 10-Q for the quarterly period
ended September 30, 1997 (File No. 000-23231), Ex. 4.6).
Invatec and certain of its subsidiaries are parties to certain debt instruments under
which the total amount of securities authorized does not exceed 10% of the total assets of
Invatec and its subsidiaries on a consolidated basis. Pursuant to paragraph 4(iii)(A) of
Item 601(b) of Regulation S-K, Invatec agrees to furnish a copy of those instruments to
the SEC on request.
10.1* -- 1997 Incentive Plan of Invatec (Form S-1 (Reg. No. 333-31617), Ex. 10.1).
10.2* -- Form of Employment Agreement dated as of January 27, 1997, between SSI and William E.
Haynes (Form S-1 (Reg. No. 333-31617), Ex. 10.2).
10.3* -- Form of Employment Agreement dated as of January 27, 1997, between SSI and Charles F.
Schugart (Form S-1 (Reg. No. 333-31617), Ex. 10.3).
10.4* -- Form of Employment Agreement dated as of May 6, 1997, between Invatec and Denny A. Rigas
(Form S-1 (Reg. No. 333-31617), Ex. 10.4).
10.5* -- Consulting Agreement dated as of March 27, 1997 by and between Wasatch Capital Corporation
and Invatec (Form S-1 (Reg. No. 333-31617), Ex. 10.5).
10.6* -- Form of Indemnification Agreement between Invatec and each of its directors and officers
(Form S-1 (Reg. No. 333-31617), Ex. 10.6).
21.1 -- List of Subsidiaries.
23.1 -- Consent of Arthur Andersen LLP.
23.2 -- Consents of Deloitte & Touche LLP.
27.1 -- Financial Data Schedule.
</TABLE>
- ------------
* Incorporated by reference.
Management contract or compensatory plan or arrangement required to be filed as
an exhibit to this form pursuant to Item 14(c) of this Form 10-K.
(b) Reports on Form 8-K.
During the fourth quarter of 1997, Invatec filed a Current Report on
Form 8-K dated December 17, 1997 to report its acquisition of Dalco,
Inc. ("Dalco"). That Form 8-K, as amended on March 2, 1998, included
(i) the balance sheets of Dalco at October 31, 1996 and 1997, (ii) the
statements of operations, stockholders' equity and cash flows of Dalco
for the years ended October 31, 1996 and 1997, (iii) the unaudited pro
forma combined balance sheet of the Company as of September 30, 1997
and (iv) the unaudited pro forma statements of operations of the
Company for the year ended December 31, 1996 and the nine months ended
September 30, 1997.
25
<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.
INNOVATIVE VALVE TECHNOLOGIES, INC.
Date: April 8, 1998 By:/s/ WILLIAM E. HAYNES
WILLIAM E. HAYNES
PRESIDENT AND 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 indicated on April 8, 1998.
SIGNATURE TITLE
- ---------------------- -------------------------------------
/s/ WILLIAM E. HAYNES Chairman of the Board, President and
WILLIAM E. HAYNES Chief Executive Officer (Principal
Executive Officer)
/s/CHARLES F. SCHUGART Chief Financial Officer and Senior
CHARLES F. SCHUGART Vice President-Corporate Development,
Treasurer and Secretary (Principal
Financial Officer and Principal
Accounting Officer)
Director
MICHAEL A. BAKER
/s/ROBERT M. CHISTE Director
ROBERT M. CHISTE
/s/ARTHUR L. FRENCH Director
ARTHUR L. FRENCH
/s/TOMMY E. KNIGHT Director
TOMMY E. KNIGHT
Director
PIERRE R. LATOUR
/s/T. WAYNE WREN Director
T. WAYNE WREN
26
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Innovative Valve Technologies, Inc.:
We have audited the accompanying consolidated balance sheets of Innovative
Valve Technologies, Inc. and subsidiaries, (a Delaware corporation), as of
December 31, 1996 and 1997, and the related statements of operations,
stockholders' deficit and cash flows for each of the three years in the period
ended December 31, 1997. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statements presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position,
of Innovative Valve Technologies, Inc. and Subsidiaries, as of December 31,
1997, and the results of their operations and their cash flows for each of the
three years in the period ended December 31, 1997, in conformity with generally
accepted accounting principles.
ARTHUR ANDERSEN LLP
Houston, Texas
March 10, 1998
F-1
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31
-------------------------------
1996 1997
-------------- ---------------
ASSETS
CURRENT ASSETS:
Cash............................... $ 396,637 $ 2,544,450
Accounts receivable, net of
allowance of $25,000 and
$1,079,857....................... 535,647 17,680,697
Inventories, net................... 36,140 15,987,765
Prepaid expenses and other current
assets........................... 111,638 1,171,090
Deferred tax asset................. -- 3,723,448
-------------- ---------------
Total current assets..... 1,080,062 41,107,450
PROPERTY AND EQUIPMENT, net............. 140,449 11,474,701
GOODWILL, net........................... -- 48,387,981
PATENT COSTS, net....................... 741,611 682,436
OTHER NONCURRENT ASSETS, net............ 325,993 3,780,115
-------------- ---------------
$ 2,288,115 $ 105,432,683
============== ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
(DEFICIT)
CURRENT LIABILITIES:
Short-term debt.................... $ -- $ 4,660,924
Current maturities of long-term
debt............................. -- 304,310
Accounts payable and accrued
expenses......................... 1,092,891 14,910,638
-------------- ---------------
Total current
liabilities........... 1,092,891 19,875,872
LONG TERM DEBT, net of current
maturities............................ 588,970 318,911
CREDIT FACILITY......................... -- 11,750,000
CONVERTIBLE SUBORDINATED DEBT........... -- 12,493,178
OTHER LONG TERM LIABILITIES............. -- 1,125,417
COMMITMENTS AND CONTINGENCIES
REDEEMABLE PREFERRED STOCK.............. 2,000,000 --
STOCKHOLDERS' EQUITY (DEFICIT):
Common stock, $0.001 par value,
30,000,000 shares authorized,
1,481,919 and 7,890,198 issued
and outstanding.................. 1,482 7,890
Additional paid-in capital......... 1,298,471 70,212,035
Retained deficit................... (2,693,699) (10,350,620)
-------------- ---------------
Total stockholders'
equity (deficit)...... (1,393,746) 59,869,305
-------------- ---------------
$ 2,288,115 $ 105,432,683
============== ===============
The accompanying notes are an integral part of these consolidated financial
statements.
F-2
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
UNAUDITED PRO FORMA COMBINED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
YEAR ENDED
DECEMBER 31
--------------------
1996 1997
--------- ---------
REVENUES............................. $ 79,540 $ 92,782
COST OF OPERATIONS................... 55,735 63,835
--------- ---------
Gross profit.................... 23,805 28,947
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES........................... 19,918 24,169
--------- ---------
Income from operations.......... 3,887 4,778
OTHER INCOME (EXPENSE):
Interest, net................... (439) (354)
Other........................... 14 8
--------- ---------
INCOME FROM CONTINUING OPERATIONS
BEFORE INCOME TAXES................ 3,462 4,432
PROVISION FOR INCOME TAXES........... 1,490 1,988
--------- ---------
INCOME FROM CONTINUING OPERATIONS.... $ 1,972 $ 2,444
========= =========
EARNINGS PER SHARE -- Basic.......... $ 0.25 $ 0.31
========= =========
EARNINGS PER SHARE -- Diluted........ $ 0.24 $ 0.30
========= =========
WEIGHTED AVERAGE SHARES
OUTSTANDING -- Basic............... 7,825 7,825
========= =========
WEIGHTED AVERAGE SHARES
OUTSTANDING -- Diluted............. 8,088 8,088
========= =========
The accompanying notes are an integral part of these
unaudited pro forma combined financial statements.
F-3
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
--------------------------------------------
1995 1996 1997
-------------- ------------ --------------
<S> <C> <C> <C>
REVENUES................................ $ 2,852,356 $ 3,887,761 $ 58,620,946
COST OF OPERATIONS...................... 1,583,940 2,375,245 39,820,941
-------------- ------------ --------------
Gross profit.................. 1,268,416 1,512,516 18,800,005
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES.............................. 1,852,895 1,917,063 16,805,309
SPECIAL COMPENSATION EXPENSE............ -- 38,048 7,613,386
-------------- ------------ --------------
Loss from operations.......... (584,479) (442,595) (5,618,690)
OTHER INCOME (EXPENSE):
Patent defense costs............... (880,068) -- --
Interest income (expense), net..... 10,181 27,703 (2,901,039)
Other.............................. (50,126) 393 (2,957)
-------------- ------------ --------------
(920,013) 28,096 (2,903,996)
-------------- ------------ --------------
LOSS BEFORE INCOME TAXES................ (1,504,492) (414,499) (8,522,686)
BENEFIT FOR INCOME TAXES................ -- -- (1,022,722)
-------------- ------------ --------------
NET LOSS................................ $ (1,504,492) $ (414,499) $ (7,499,964)
============== ============ ==============
NET LOSS BEFORE DIVIDENDS APPLICABLE TO
PREFERRED STOCK....................... (1,504,492) (414,499) (7,499,964)
PREFERRED STOCK DIVIDENDS............... (41,123) (191,854) (156,957)
-------------- ------------ --------------
NET LOSS APPLICABLE TO COMMON SHARES.... $ (1,545,615) $ (606,353) $ (7,656,921)
============== ============ ==============
Loss Per Share:
Basic and Diluted............. $ (1.17) $ (0.42) $ (2.25)
============== ============ ==============
Weighted average common shares
outstanding -- Basic and
Diluted.......................... 1,320,439 1,441,135 3,397,980
============== ============ ==============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL
--------------------- PAID-IN RETAINED
SHARES AMOUNT CAPITAL DEFICIT TOTAL
---------- -------- ----------- ------------ --------------
<S> <C> <C> <C> <C> <C>
BALANCE, December 31, 1994........... 1,288,451 $ 1,288 $ 465,117 $ (541,731) $ (75,326)
SSI preferred stock dividends... -- -- -- (41,123) (41,123)
Sale of SSI common stock
warrant....................... -- -- 100,000 -- 100,000
Issuance of SSI common stock.... 144,500 145 445,355 -- 445,500
Net loss........................ -- -- -- (1,504,492) (1,504,492)
---------- -------- ----------- ------------ --------------
BALANCE, December 31, 1995........... 1,432,951 1,433 1,010,472 (2,087,346) (1,075,441)
SSI preferred stock dividends... -- -- -- (191,854) (191,854)
Issuances of SSI common stock... 60,868 61 357,987 -- 358,048
Retirement of SSI common
stock......................... (11,900) (12) (69,988) -- (70,000)
Net loss........................ -- -- -- (414,499) (414,499)
---------- -------- ----------- ------------ --------------
BALANCE, December 31, 1996........... 1,481,919 1,482 1,298,471 (2,693,699) (1,393,746)
SSI preferred stock dividends... -- -- -- (156,957) (156,957)
Issuances of SSI common stock... 222,650 223 2,604,782 -- 2,605,005
Exercise of SSI common stock
warrant and options........... 714,769 715 4,554,141 -- 4,554,856
Issuance of common stock to
certain executives............ 242,839 243 5,008,675 -- 5,008,918
Public offering, net of offering
costs......................... 3,852,500 3,853 44,018,053 -- 44,021,906
Issuances of common stock in
acquisitions.................. 185,661 185 2,129,794 -- 2,129,979
Redemption of SSI redeemable
preferred stock and payment of
indebtedness to Philip........ 1,189,860 1,189 10,598,119 -- 10,599,308
Net loss........................ -- -- -- (7,499,964) (7,499,964)
---------- -------- ----------- ------------ --------------
BALANCE, December 31, 1997........... 7,890,198 $ 7,890 $70,212,035 $(10,350,620) $ 59,869,305
========== ======== =========== ============ ==============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
-------------------------------------------
1995 1996 1997
------------ ------------ -------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss........................... $ (1,504,492) $ (414,499) $ (7,499,964)
Adjustments to reconcile net loss
to net cash
used in operating activities --
Depreciation and
amortization................ 28,525 31,183 1,235,940
Deferred taxes................. -- -- 4,982,917
Special compensation expense... -- 38,048 7,613,386
Gain on sale of property and
equipment................... (1,879) -- --
(Increase) decrease in --
Accounts receivable......... (145,835) (49,736) (1,219,537)
Inventories................. -- (13,660) (4,187,410)
Prepaid expenses and other
current assets............ 35,402 (66,161) 424,535
Other noncurrent assets,
net....................... -- (324,246) 1,141,616
Increase (decrease) --
Accounts payable and accrued
expenses.................. 493,084 (91,195) (2,806,726)
------------ ------------ -------------
Net cash used in operating
activities.............. (1,095,195) (890,266) (315,243)
------------ ------------ -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property and
equipment........................ (7,530) (128,309) (1,062,366)
Additions to patent costs.......... (3,384) (46,030) --
Proceeds from sale of property and
equipment........................ 10,500 -- 17,137
Business acquisitions, net of cash
acquired of $499,436............. -- -- (51,555,833)
------------ ------------ -------------
Net cash used in investing
activities.............. (414) (174,339) (52,601,062)
------------ ------------ -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings of debt................. -- 265,000 29,348,272
Repayments of debt................. (93,333) -- (27,981,507)
Net borrowings under Credit
Facility......................... -- -- 11,750,000
Payments on non-compete
obligations...................... -- -- (152,662)
Repayment of debt to Philip........ -- -- (2,981,789)
Proceeds from sale/exercise of SSI
common stock warrant............. 100,000 -- 1,216,855
Proceeds from sale of common stock,
net of offering costs............ 445,500 -- 44,021,906
SSI common stock repurchases....... -- (70,000) --
Proceeds from sale of redeemable
SSI preferred stock.............. 2,000,000 -- --
Preferred stock dividends.......... -- (191,854) (156,957)
------------ ------------ -------------
Net cash provided by
financing activities.... 2,452,167 3,146 55,064,118
------------ ------------ -------------
NET INCREASE (DECREASE) IN CASH...... 1,356,558 (1,061,459) 2,147,813
CASH, beginning of period............ 101,538 1,458,096 396,637
------------ ------------ -------------
CASH, end of period.................. $ 1,458,096 $ 396,637 $ 2,544,450
============ ============ =============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BUSINESS AND ORGANIZATION:
Innovative Valve Technologies, Inc. ("Invatec" or the "Company") was
incorporated in Delaware in March 1997 to create the leading single-source
provider of comprehensive maintenance, repair, replacement and value-added
distribution services for industrial valves and related process-system
components throughout North America. Except for its purchase of Steam Supply &
Rubber Co., Inc. and three related entities (collectively, "Steam Supply") in
July 1997, Invatec conducted no operations of its own prior to the closing on
October 28, 1997 of (i) its initial public offering (the "IPO") of its common
stock, par value $.001 per share ("Common Stock"), (ii) its purchase of
Industrial Controls & Equipment, Inc. and three related entities (collectively,
"ICE/VARCO") and Southern Valve Services, Inc. and a related entity
(collectively, "SVS") and (iii) a merger (the "SSI Merger") in which The
Safe Seal Company, Inc. ("SSI") became its subsidiary. Earlier in 1997, SSI
had purchased Harley Industries, Inc. ("Harley"), GSV, Inc. ("GSV") and
Plant Specialities, Inc. ("PSI"). SSI and its subsidiaries were affiliates of
Invatec prior to the SSI Merger.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
BASIS OF PRESENTATION
For financial reporting purposes, SSI is presented as the "accounting
acquirer" of Steam Supply, ICE/VARCO, SVS, Harley, GSV and PSI (collectively,
the "Initial Acquired Businesses"), and, as used herein, the term "Company"
means (i) SSI and its consolidated subsidiaries prior to October 31, 1997 and
(ii) Invatec and its consolidated subsidiaries (including SSI) on that date and
thereafter.
For accounting purposes, the effective dates of the acquisitions of the
Initial Acquired Businesses in 1997 are as follows: (i) Harley -- January 31;
(ii) GSV -- February 28; (iii) PSI -- May 31; (iv) Steam Supply -- July 31, and
(v) ICE/VARCO and SVS -- October 31. Following the IPO, the Company acquired
Dalco, Inc. ("Dalco") and three other additional businesses (together with the
Initial Acquired Businesses, the "Acquired Businesses") in 1997. The Company
accounted for the Acquired Businesses in accordance with the purchase method of
accounting. The allocation of the purchase prices paid to the assets acquired
and the liabilities assumed in the acquisitions of the Acquired Businesses has
been recorded initially on the basis of preliminary estimates of fair value and
may be revised as additional information concerning the valuation of those
assets and liabilities becomes available.
The financial statements include the accounts of the Company and its wholly
owned subsidiaries. All significant intercompany accounts and transactions have
been eliminated in consolidation.
UNAUDITED PRO FORMA COMBINED STATEMENTS OF OPERATIONS
The unaudited pro forma combined statements of operations give effect to
the following events and transactions as if they had occurred on January 1,
1996: (i) the formation and organizational financing of Invatec; (ii) the SSI
Merger; (iii) the acquisitions of the Initial Acquired Businesses and the
financing of those acquisitions; (iv) reverse stock splits of the outstanding
Common Stock and the SSI common stock effected in connection with the IPO; (v)
the IPO and Invatec's application of its net proceeds therefrom; and (vi) the
issuance of shares of Common Stock to repay indebtedness the Company owed to
subsidiaries of Philip Services Corp. (collectively with its subsidiaries,
"Philip"). These statements include the results of operations of the other
Acquired Businesses purchased in 1997 from their respective acquisition dates
and also include pro forma adjustments (i) to selling, general and
administrative expenses to reflect (a) the decrease in salaries and benefits
associated with certain owners and managers of the Acquired Businesses who
either were not employed by the Company after the acquisition of their Acquired
Businesses and will not be replaced or agreed prospectively to the decrease
prior to the acquisition of their Acquired Businesses and (b) the elimination of
certain excess administrative support service fees charged by ICE/VARCO's former
parent, (ii) to depreciation and amortization expense to reflect purchase price
allocations and (iii) to
F-7
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
the provision for income taxes to provide for incremental income taxes as if all
Acquired Businesses had been subject to federal and state income taxes during
the periods presented. The per share information in these statements has been
calculated in accordance with Statement of Financial Accounting Standards
("SFAS") No. 128, "Earnings Per Share."
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost, and depreciation is computed
using the straight-line method over the estimated useful lives of the assets.
The costs of major improvements are capitalized. Expenditures for maintenance,
repairs and minor improvements are expensed as incurred. When property and
equipment are sold or retired, the cost and related accumulated depreciation are
removed and the resulting gain or loss is included in results of operations.
GOODWILL
Goodwill represents the excess of the aggregate purchase price paid by the
Company in the acquisition of businesses accounted for as purchases over the
fair market value of the net assets acquired. Goodwill is amortized on a
straight-line basis over 40 years. As of December 31, 1997, accumulated
amortization was approximately $467,000.
The Company periodically evaluates the recoverability of intangibles
resulting from business acquisitions and measures the amount of impairment, if
any, by assessing current and future levels of income and cash flows as well as
other factors, such as business trends and prospects and market and economic
conditions.
DEBT ISSUE COSTS
Debt issue costs related to the Company's Credit Facility (see Note 7) are
included in other noncurrent assets and are amortized to interest expense over
the scheduled maturity of the debt. As of December 31, 1997, accumulated
amortization was approximately $31,000.
EARNINGS PER SHARE
The Company adopted SFAS No. 128 in 1997, and all earnings per share
previously reported have been restated. Basic earnings per share is computed by
dividing net income by the weighted average common shares outstanding. Diluted
earnings per share is computed by dividing net income by the weighted average
number of common and common equivalent shares outstanding. Common Share
equivalents including options to purchase 1,395,748 shares of Common Stock and
$12.5 million of subordinated debt convertible into Common Shares at prices
ranging between $16.90 and $22.90 per share, outstanding at December 31, 1997
were not included in the computation of diluted EPS as their effect on EPS was
antidilutive.
STOCK-BASED COMPENSATION
In accordance with SFAS No. 123, the Company has elected to use the method
APB Opinion No. 25 prescribes to measure its compensation costs attributable to
stock-based compensation and to include in Note 12 of these Notes the pro forma
effect on those costs using the fair value approach that SFAS No. 123 would
have.
INCOME TAXES
The Company follows the liability method of accounting for income taxes in
accordance with SFAS No. 109. Under this method, deferred income taxes are
recorded based upon differences between the financial reporting and tax bases of
assets and liabilities and are measured using the enacted tax rates and laws
that will be in effect when the underlying assets or liabilities are recovered
or settled.
F-8
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Prior to the Acquisitions, certain Acquired Businesses' stockholders were
taxed under the provisions of subchapter S of the Internal Revenue Code. Under
these provisions, the stockholders paid income taxes on their proportionate
share of their companies' earnings. Because the stockholders were taxed
directly, their businesses paid no federal income tax and only certain state
income taxes.
The Company intends to file a consolidated federal income tax return that
will include the operations of the Acquired Businesses for periods subsequent to
their respective acquisitions dates.
REVENUE RECOGNITION
Revenue is recognized as products are sold and as services are performed.
CASH
Cash payments for interest during 1995, 1996 and 1997 were approximately
$8,000, $4,000, and $1,954,000 respectively. Cash payments for taxes during
1995, 1996 and 1997 were $0, $0, and $306,000, respectively. Noncash activities
for the year ended December 31, 1997 consisted of approximately $10.6 million of
obligations and preferred stock owned by a related party which were converted
into Common Stock.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
SPECIAL COMPENSATION EXPENSE
In 1996, the SSI recorded a special non-cash compensation expense of
$38,048 related to the issuance of 4,513 shares of its common stock, $0.01 par
value ("SSI Common Stock"), and options to purchase 1,955 shares of that stock
under employee benefit programs.
In 1997, SSI recorded a special non-cash compensation expense of
approximately $2.6 million related to the issuance of 221,595 shares of Common
Stock to three members of executive management and to Computerized Accounting &
Tax Services, Inc. ("CATS"), a related party, to attract such individuals and
CATS to effect the IPO. For financial statement presentation purposes, these
shares were valued at approximately $11.70 per share.
During 1997, Invatec recorded a special non-cash compensation expense of
approximately $5.0 million related to (i) its issuance of 242,839 shares of
Common Stock to six members of executive management and CATS to attract them to
effect the IPO and (ii) its grant to certain of its officers of options to
purchase 202,589 shares of Common Stock at an exercise price of $1.00 per share.
For financial statement presentation purposes, the shares were valued at
approximately $11.70 per share and the options were valued at approximately
$10.70 per option share.
NEW ACCOUNTING PRONOUNCEMENT
SFAS No. 130, "Reporting Comprehensive Income" issued in June 1997,
establishes standards for the reporting of comprehensive income in a company's
financial statements. Comprehensive Income includes all changes in the equity of
a company during the period which result from the Company's transactions with
its stockholders. For the Company, SFAS No. 130 will be effective for the year
beginning January 1, 1998. The Company has not completed its analysis of the
impact of this new pronouncement. On the basis of a preliminary review, the
Company believes implementation of SFAS No. 130 will not have a material effect
on its financial statements.
F-9
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
3. ACQUISITIONS:
In November 1996, the Company acquired The Spin Safe Corporation, Inc.
("Spin Safe") in exchange for 54,400 shares of Common Stock, valued at $5.88
per share, and noninterest-bearing notes payable of $400,000 and an agreement to
pay certain royalties. The notes are due in four equal annual installments
beginning January 15, 1998. Additionally, the Company entered into an agreement
with the former stockholders of Spin Safe, pursuant to which the Company will
make royalty payments to them based on the number of times in excess of a
specified base the Safe SealE system is used by the Company through 2011. The
cost of this acquisition is recorded as patent costs.
The aggregate consideration paid by the Company to purchase Acquired
Businesses in 1997 (as described in Note 1) was $52.2 million in cash and
assumed debt, $17.2 million in the form of short-term notes and subordinated
notes convertible into common shares and 185,661 shares of Common Stock.
Of the total purchase price paid for the Acquisitions, $23.2 million has
been allocated to net assets acquired, and the remaining $48.9 million has been
recorded as goodwill. On the basis of management's preliminary analysis, the
Company expects the historical carrying values of the Acquired Businesses'
assets and liabilities will approximate fair value, but this analysis is subject
to revision as more information regarding asset and liability valuations becomes
available.
The following table reflects, on an unaudited pro forma basis, the combined
operations of the Company as if the IPO, the SSI Merger, the Company's 1997
acquisitions of Acquired Businesses and certain other events and transactions
discussed under " -- Unaudited Pro Forma Combined Statements of Operations" in
Note 2 also had taken place on January 1, 1996. These pro forma results have
been prepared for comparative purposes only and do not purport to be indicative
of the results of operations the Company would have obtained had these events
and transactions actually taken place when assumed, has obtained since the dates
of acquisition or may obtain in the future.
1996 1997
---------- ----------
(UNAUDITED AND IN
THOUSANDS)
Revenues............................. $ 102,110 $ 116,670
Income before income taxes........... 4,352 5,043
Net income........................... 2,481 2,875
Basic income per share............... $ .31 $ .36
========== ==========
Diluted income per share............. $ .31 $ .35
========== ==========
See discussion of the pro forma adjustments, reflected in the above amounts
in Note 2 under "Unaudited Pro Forma Combined Statements of Operations."
F-10
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
4. PROPERTY AND EQUIPMENT:
Property and equipment consist of the following:
DECEMBER 31
ESTIMATED ---------------------------
USEFUL LIVES 1996 1997
------------ ---------- ---------------
Land.............................. -- $ -- $ 1,616,660
Buildings......................... 30 years -- 4,232,884
Leasehold improvements............ 30 years -- 988,561
Furniture and fixtures............ 3-5 years 126,262 3,175,375
Machinery and equipment........... 5 years 60,650 16,632,340
---------- ---------------
186,912 26,645,820
Less -- Accumulated
depreciation............... (46,463) (15,171,119)
---------- ---------------
Property and equipment, net.. $ 140,449 $ 11,474,701
========== ===============
5. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS:
Activity in the Company's allowance for doubtful accounts consists of the
following:
DECEMBER 31
----------------------------------
1995 1996 1997
--------- --------- ------------
Balance, at beginning of year........ $ 25,000 $ 25,000 $ 25,000
Additions............................ -- -- 102,243
Deductions........................... -- -- (80,810)
Allowance for doubtful accounts at
acquisition dates.................. -- -- 1,033,424
--------- --------- ------------
Balance, at end of year.............. $ 25,000 $ 25,000 $ 1,079,857
========= ========= ============
Accounts payable and accrued expenses consist of the following:
DECEMBER 31
----------------------------
1996 1997
------------ --------------
Accounts payable, trade.............. $ 287,165 $ 8,553,604
Accrued compensation and benefits.... 120,567 1,904,116
Accrued insurance.................... -- 1,277,637
Accrued legal fees................... 170,696 140,696
Due to Philip........................ 287,195 --
Other accrued expenses............... 227,268 3,034,585
------------ --------------
$ 1,092,891 $ 14,910,638
============ ==============
6. SHORT-TERM DEBT:
In connection with the Company's purchase of Dalco, two short-term notes
totalling $4.7 million were issued to the former owners of Dalco. The notes bore
interest at a rate of 5.5% per annum, were unsecured and were repaid on January
2, 1998.
7. CREDIT FACILITY:
Contemporaneously with the closing of the IPO, Invatec entered into a new
revolving credit facility (the "Credit Facility") with a syndicate of
commercial banks. The Credit Facility replaced SSI's commercial credit
facilities theretofore in effect.
F-11
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Credit Facility is a three-year revolving credit facility pursuant to
which Invatec may borrow up to $60.0 million to finance acquisitions and for
general corporate purposes, including refinancing of borrowed-money indebtedness
of businesses acquired and funding working capital needs. Loans under the Credit
Facility will bear interest at a designated variable base rate plus a margin
ranging from 0 to 100 basis points depending on the ratio of the Company's
borrowed money and certain other indebtedness to its trailing pro forma
consolidated earnings before interest, income taxes, depreciation and
amortization. At Invatec's option, loans may bear interest based on a designated
London interbank offering rate plus a margin ranging from 100 to 275 basis
points depending on the same ratio. The margin is subject to being reset from
time to time. Commitment fees of 25 to 50 basis points per annum are payable on
the unused portion of the line of credit. The Credit Facility has a $5.0 million
sublimit for standby letters of credit. It requires the consent of the lenders
for any acquisition involving a purchase price of greater than $5.0 million,
prohibits the payment of dividends by Invatec, limits the amount of indebtedness
the Company may incur and requires the Company to comply with certain financial
covenants. The Credit Facility will terminate and all amounts outstanding, if
any, thereunder, will be due and payable in September 2000. The Company's
subsidiaries have guaranteed the repayment of, and the capital stock of those
subsidiaries and the Company's accounts receivable and inventories will be
collateral security for, all amounts owed under the Credit Facility. At December
31, 1997, the Company had $11,750,000 outstanding under the Credit Facility at
an interest rate of 8.5%.
8. LONG-TERM DEBT:
Long-term debt consists of the following at December 31:
1996 1997
---------- ----------
Revolving line of credit payable to a
bank, due June 30, 2002, with
interest due monthly at 1.25% over
cost (as defined) (6.75% at
December 31, 1996), secured by
assignment of all assets. The
available borrowing capacity at
December 31, 1996 was
$1,735,000......................... $ 265,000 --
Notes payable to former stockholders
of Spin Safe, with annual
installments of $100,000 beginning
January 15, 1998, non-interest
bearing, due January 15, 2001,
unsecured.......................... 323,970 358,125
Installment notes payable; interest
ranging from 6.06% to 10%, payable
in monthly installments through
2001; secured by certain assets.... -- 265,096
---------- ----------
588,970 623,221
Less: current maturities............. -- 304,310
---------- ----------
$ 588,970 $ 318,911
========== ==========
9. CONVERTIBLE SUBORDINATED DEBT:
At December 31, 1997, outstanding convertible subordinated debt consisted
of approximately $5.1 million aggregate principal amount of 5.0% notes due in
2002, $2.8 million aggregate principal amount of 5.5% notes due in 2004 and,
$4.6 million aggregate principal amount of 5.0% notes due in 2002. These notes
are convertible at initial conversion prices ranging from $16.90 to $22.20 per
share at the option of the holder in whole at any time.
F-12
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
10. INCOME TAXES:
The provision (benefit) for income taxes consisted of:
YEAR ENDED DECEMBER 31,
----------------------------------------------
1995 1996 1997
-------------- -------------- --------------
Current:
U.S. Federal.............. $ -- $ -- $ (1,026,565)
State..................... -- -- 513,854
-------------- -------------- --------------
Total current provision... -- -- (512,711)
Deferred:
U.S. Federal.............. -- -- (478,127)
State..................... -- -- (31,884)
-------------- -------------- --------------
Total deferred provision.. -- -- (510,011)
-------------- -------------- --------------
Total income tax provision..... $ -- $ -- $ (1,022,722)
============== ============== ==============
Actual income tax expense differs from income tax expense computed by
applying the U.S. federal statutory corporate tax rate to income before income
taxes as follows:
YEAR ENDED DECEMBER 31
-------------------------------------
1995 1996 1997
----------- ----------- -----------
Statutory federal income tax
benefit............................ (34)% (34)% (34)%
Special compensation charge.......... -- -- 22%
Nondeductible goodwill............... -- -- 2%
Nondeductible expenses............... -- -- 3%
State taxes, net of federal benefit
of 34%............................. -- -- 4%
Other................................ -- -- 1%
Valuation allowance.................. 34 34 (10)%
--- --- ---
Effective income tax rate............ 0% 0% (12)%
=== === ===
Net deferred tax assets consist of the following:
DECEMBER 31
--------------------------
1996 1997
------------ ------------
Current deferred tax assets:
Accrued liabilities and
valuation allowances not
currently deductible.......... $ 160,910 $ 3,723,448
------------ ------------
160,910 3,723,448
Noncurrent deferred tax assets:
Net operating losses............ 686,316 172,893
Special compensation charge..... -- 802,050
Amortization of intangibles..... -- 149,871
Other........................... -- 266,210
------------ ------------
686,316 1,391,024
Valuation allowance.................. (847,226) --
------------ ------------
Total deferred tax assets............ $ -- $ 5,114,472
============ ============
Noncurrent deferred tax
liabilities........................ -- (131,555)
------------ ------------
Net deferred tax assets.............. $ -- $ 4,982,917
============ ============
F-13
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company records a valuation allowance for deferred tax assets when
management believes it is more likely than not the asset will not be realized.
Management believes that the Company's deferred tax asset will be fully realized
due to its acquisition strategy and therefore has eliminated the valuation
allowance for this asset as of December 31, 1997.
Deferred income tax provisions result from temporary differences in the
recognition of income and expenses for financial reporting purposes and for tax
purposes. The tax effects of these temporary differences representing deferred
tax assets and liabilities result principally from the following:
YEAR ENDED DECEMBER 31
----------------------------------------
1995 1996 1997
------------ ------------ ------------
Deferred tax provision during the
year
Net operating loss.............. $ 304,600 $ 107,301 $ 644,022
Special compensation charge..... -- -- (802,050)
Depreciation.................... 53,093 (2,520) 128,843
Accrued expenses not deductible
for tax......................... 95,065 25,168 366,400
Valuation allowance............. (452,758) (129,949) (847,226)
------------ ------------ ------------
Total...................... $ -- $ -- $ (510,011)
============ ============ ============
Certain deferred tax assets and liabilities were recorded with respect to
purchase accounting for the Acquired Business during the year ended December 31,
1997.
11. STOCKHOLDERS' EQUITY:
SSI COMMON STOCK
In 1995, the Company implemented an employee benefit award program. Under
this program, the Company awarded 4,726 shares of Common Stock to employees. In
1996, employees forfeited 816 of these shares and the Company recorded non-cash
compensation expense of $11,500 with respect to the 1,955 of these shares that
had vested. The Company discontinued the program in 1997 and cancelled the
remaining unvested shares.
REVERSE STOCK SPLIT
Prior to the SSI Merger, SSI and Invatec each effected a 0.68-for-one
reverse stock split of its outstanding common stock. The accompanying financial
statements have been prepared as if these splits had been effected as of the
beginning of the earliest period presented.
SSI MERGER
As a result of the SSI Merger: (i) the shares of SSI Common Stock and
redeemable preferred stock outstanding as of October 31, 1997 were converted
into shares of Common Stock; (ii) outstanding options and a warrant to purchase
shares of SSI Common Stock were converted into options to purchase Common Stock;
and (iii) SSI's authorized capital stock became 1,000 shares of SSI Common
Stock, par value $1.00 per share, all of which have been issued and are
outstanding and owned by Invatec. All share and per share information for the
periods shown, except authorized shares, have been restated to reflect the
merger as of the beginning of the earliest period presented.
INVATEC COMMON STOCK
Invatec sold 3,852,500 shares of Common Stock in the IPO. The initial price
to the public in the IPO was $13.00, and Invatec's proceeds from the IPO, net of
an underwriting discount of $3.5 million and IPO expenses of $2.6 million,
including approximately $1.5 million of expenses which were initially funded
through advances obtained from Philip, totaled $44.0 million.
F-14
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
At December 31, 1997, the Company had reserved 650,140 shares of Common
Stock for issuance on conversion of its outstanding convertible subordinated
notes described in Note 9 and 1,395,748 shares of Common Stock for issuance on
the exercise of stock options then outstanding under Invatec's 1997 Incentive
Plan, of which options to purchase a total of 533,873 shares then were
exercisable at exercise prices ranging from $1.00 per share to $13.00 per share.
Invatec's certificate of incorporation authorizes the issuance of up to
30.0 million shares of Common Stock, of which 7,890,198 shares were issued and
outstanding as of December 31, 1997, and 5.0 million shares of preferred stock,
none of which has been issued.
STOCK OPTIONS
In 1996, the Company began a management stock option program that was
discontinued in 1997. Under this program, the Company granted both shares of
Common Stock and options to purchase shares of Common Stock to certain members
of management. The options vested monthly and were exercisable at any time
following the six-month period ending June 30 or December 31 in which the
options were earned. The Company had reserved 200,000 shares of Common Stock for
issuance in this program. During 1996, the Company granted 4,513 shares of
Common Stock and options to purchase 71,899 shares of Common Stock. The options
had an exercise price of $10.00 per share and are exercisable through July 1,
2001. In 1996, the Company recorded non-cash compensation expense of $26,548 for
the 4,513 shares issued with a fair market value of $5.88 per share. No
compensation expense was recorded for the options granted in 1996 because their
exercise price exceeded the fair market value of the underlying shares ($5.88
per share). Prior to 1996, the Company had, from time to time, granted options
to key employees at or above the market value of the Common Stock. The options
granted had exercise prices ranging from $5.00 to $20.00 per share. All but
50,000 options expired in 1996. The remaining options were exercised in June
1997.
1997 INCENTIVE PLAN
The Company has adopted an incentive plan (the "Incentive Plan") that
provides for the granting or awarding of stock options and other
performance-based awards to key employees, nonemployee directors and independent
contractors of the Company and its subsidiaries. The Incentive Plan aims to
attract and retain the services of key employees and qualified independent
directors and contractors by making stock option and other performance-based
awards tied to the growth and performance of the Company. At December 31, 1997,
Invatec had reserved 1,500,000 shares of Common Stock for use under the
Incentive Plan. Beginning in the second quarter of 1998, the number of shares
available for that use will be the greater of 1,500,000 or 15% of the number of
shares of Common Stock outstanding on the last day of the preceding quarter.
F-15
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following table summarizes the stock options outstanding at December
31, 1997 and changes during the three years then ended:
WEIGHTED-
SHARES UNDER AVERAGE
OPTION EXERCISE PRICE
------------- ---------------
Balance at December 31, 1994......... 121,000 $ 13.18
Granted......................... -- --
Exercised....................... -- --
-------------
Balance at December 31, 1995......... 121,000 13.18
Granted......................... 71,899 10.00
Exercised....................... -- --
Cancelled....................... (71,000) 18.94
-------------
Balance at December 31, 1996......... 121,899 7.94
Warrants converted to options... 15,000 10.00
Granted......................... 1,310,389 9.97
Exercised....................... (50,000) 5.00
Cancelled....................... (1,540) 10.00
-------------
Balance at December 31, 1997......... 1,395,748 9.97
=============
Available for grant at December 31,
1997............................... 104,252
=============
Options exercisable at December 31,
1997............................... 533,873 7.03
=============
The options outstanding at December 31, 1997 have exercise prices from
$1.00 to $17.125 per share, with a weighted average exercise price of $9.97 and
a weighted average remaining contractual life of 6.92 years.
The Company accounts for options by applying APB Opinion No. 25, under
which no compensation expense (other than described in Note 2) has been
recognized. The Company's pro forma compensation expense for 1996 is zero as
options were determined to be without value under SFAS No. 123, "Accounting for
Stock-Based Compensation," using the minimum value option method.
If the Company had recorded 1997 compensation cost for option grants
consistent with SFAS No. 123, 1997 net loss and loss per share would have been
increased by the following pro forma amounts (in thousands, except per share
data):
YEAR ENDED
DECEMBER 31, 1997
------------------
Net Loss:
As Reported..................... $ (7,499,964)
Pro forma....................... $ (8,350,661)
Loss Per Share:
Basic
As Reported..................... $ (2.25)
Pro forma....................... $ (2.50)
The pro forma compensation cost may not be representative of that to be
expected in future years because options vest over several years and additional
awards may be made each year.
F-16
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option pricing model, with the following weighted average
assumptions used for grants in 1997: dividend yield of 0%; expected volatility
of 48.43%; risk-free interest rate of 6.09%; and expected lives of 6.92 years.
WARRANTS
During 1997, Philip exercised warrants to purchase 680,768 shares of SSI
Common Stock at an exercise price of $6.32 per share. Consideration for the
exercise consisted of approximately $3.3 million of Philip promissory notes and
approximately $1.2 million in cash. The Company used the Philip notes as part of
the consideration it paid for Harley.
STOCK REPURCHASES
In December 1996, the Company purchased 11,900 shares of SSI Common Stock
from certain stockholders for $70,000 ($5.88 per share). It subsequently
canceled these shares.
12. REDEEMABLE PREFERRED STOCK:
In 1995, SSI issued and sold 20,000 shares of its redeemable preferred
stock to Philip for $2.0 million ($100 per share). In the SSI Merger, these
shares, together with accrued dividends thereon, converted into 154,958 shares
of Common Stock.
13. COMMITMENTS AND CONTINGENCIES:
OPERATING LEASES
The Company leases warehouse space, office facilities and vehicles under
noncancelable leases. Rental expense for 1995, 1996 and 1997 was approximately
$90,300, $162,400, and $822,400 respectively. The following represents future
minimum rental payments under noncancelable operating leases:
Year ending December 31 --
1998............................... $ 910,403
1999............................... 760,615
2000............................... 656,017
2001............................... 519,120
2002............................... 325,011
Thereafter......................... 500,275
------------
$ 3,671,441
============
LITIGATION
In the ordinary course of its business, the Company has become involved in
various legal actions. Management, after consultation with legal counsel, does
not believe that the outcome of these legal actions will have a material effect
on the Company's financial position or results of operations.
14. CERTAIN TRANSACTIONS:
The Company had a management agreement with CATS, an entity then related by
common ownership. Management fee expense for 1995, 1996, and 1997 was
approximately $120,000, $108,000, and $353,000, respectively. This agreement
terminated in 1997.
F-17
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
15. EMPLOYEE BENEFIT PLANS:
The Company maintains certain 401(k) plans which allow eligible employees
to defer a portion of their income through contributions to the plans. No
contributions were required or made to these plans during 1995 or 1996. The
Company contributed approximately $59,000 to its plans during the year ended
December 31, 1997.
16. RELATIONSHIP WITH PHILIP:
In 1996, Philip agreed to make certain advances to SSI to enable SSI, or
its successors, to pursue a possible initial public offering. As a result of
Philip's financial support of SSI's acquisition of Harley, Philip became a
related party of the Company for financial statement presentation purposes
effective January 31, 1997. In June 1997, Invatec entered into a funding
arrangement with Philip pursuant to which Philip advanced funds to Invatec to
pay costs related to the IPO and Invatec assumed SSI's obligation to repay the
Philip advances and the related deferred offering costs funded with these
advances.
In connection with the IPO, Invatec issued 1,036,013 shares of Common Stock
to Philip as payment of $8.6 million of indebtedness owed to Philip. Immediately
after the IPO, Invatec repaid the remaining $3.0 million of indebtedness owed to
Philip in cash.
17. SERVICE AND DISTRIBUTION AGREEMENTS:
The Company purchases, sells and services various products under service
and distribution agreements with its major suppliers. In general, these
agreements are cancelable by the suppliers upon 30 to 60 days' notice.
Management does not anticipate cancelation of these agreements.
18. SUBSEQUENT EVENTS:
During the first quarter of 1998 (through March 24) the Company purchased
three additional businesses providing services in its industry for a total
consideration (subject to certain adjustments) consisting of approximately $20.0
million in cash, $9.2 million aggregate principal amount of assumed debt,
807,828 shares of Common Stock, and $0.4 million aggregate principal amount of
convertible subordinated notes. The Company used borrowings under the Credit
Facility to fund the cash portions of the purchase prices.
F-18
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Innovative Valve Technologies, Inc.:
We have audited the accompanying consolidated balance sheet of Innovative
Valve Technologies, Inc. and subsidiaries (a Delaware corporation), as of
September 30, 1997, and the related consolidated statements of operations,
stockholders' deficit and cash flows for the period from inception (March 16,
1997) through September 30, 1997. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
Innovative Valve Technologies, Inc. and subsidiaries, as of September 30, 1997,
and the results of their operations and their cash flows for the period from
inception (March 16, 1997) through September 30, 1997, in conformity with
generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Houston, Texas
March 10, 1998
F-19
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET -- SEPTEMBER 30, 1997
ASSETS
CURRENT ASSETS:
Trade accounts receivable, net of
allowance of $46,578.............. $ 2,717,617
Inventories, net................... 1,647,347
Prepaid expenses and other......... 138,876
--------------
Total current assets.......... 4,503,840
PROPERTY AND EQUIPMENT, net............. 1,379,245
RECEIVABLE FROM THE SAFE SEAL COMPANY,
INC................................... 6,414,636
GOODWILL, net........................... 7,959,884
OTHER NONCURRENT ASSETS................. 2,085,042
--------------
$ 22,342,647
==============
LIABILITIES AND STOCKHOLDERS' DEFICIT
CURRENT LIABILITIES:
Short-term debt.................... $ 4,791,764
Current maturities of long-term
debt.............................. 818,993
Credit facility.................... 2,522,895
Accounts payable and accrued
expenses.......................... 9,904,055
--------------
Total current liabilities..... 18,037,707
CONVERTIBLE SUBORDINATED DEBT........... 6,143,180
OTHER LONG-TERM LIABILITIES............. 710,528
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' DEFICIT:
Common stock, $0.001 par value,
30,000,000 shares authorized,
242,839 shares issued and
outstanding....................... 243
Additional paid-in capital......... 5,008,672
Retained deficit................... (7,557,683)
--------------
Total stockholders' deficit... (2,548,768)
--------------
$ 22,342,647
==============
The accompanying notes are an integral part of this consolidated financial
statement.
F-20
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE PERIOD FROM INCEPTION (MARCH 16, 1997)
THROUGH SEPTEMBER 30, 1997
REVENUES............................. $ 2,414,324
COST OF OPERATIONS................... 1,749,628
--------------
Gross profit.................... 664,696
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES........................... 2,564,748
SPECIAL COMPENSATION EXPENSE......... 5,008,381
--------------
LOSS FROM OPERATIONS................. (6,908,433)
INTEREST EXPENSE..................... 638,638
OTHER EXPENSE........................ 10,612
--------------
LOSS FROM OPERATIONS BEFORE INCOME
TAXES.............................. (7,557,683)
PROVISION FOR INCOME TAXES........... --
--------------
NET LOSS............................. $ (7,557,683)
==============
The accompanying notes are an integral part of this consolidated financial
statement.
F-21
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' DEFICIT
FOR THE PERIOD FROM INCEPTION (MARCH 16, 1997)
THROUGH SEPTEMBER 30, 1997
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL
------------------ PAID-IN RETAINED
SHARES AMOUNT CAPITAL DEFICIT TOTAL
------- ------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
BALANCE, March 16, 1997.............. -- $ -- $ -- $ -- $ --
Issuance of Common Stock........ 242,839 243 2,840,973 -- 2,841,216
Issuance of stock options to
certain executives............ -- -- 2,167,699 -- 2,167,699
Net loss........................ -- -- -- (7,557,683) (7,557,683)
------- ------- ----------- ----------- -----------
BALANCE, September 30, 1997.......... 242,839 $ 243 $ 5,008,672 $(7,557,683) $(2,548,768)
======= ======= =========== =========== ===========
</TABLE>
The accompanying notes are an integral part of this consolidated financial
statement.
F-22
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
FOR THE PERIOD FROM INCEPTION (MARCH 16, 1997)
THROUGH SEPTEMBER 30, 1997
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Loss................................ $ (7,557,683)
Adjustments to reconcile net loss to net
cash used in operating activities --
Depreciation and amortization...... 91,044
Special compensation expense....... 5,008,558
(Increase) decrease in --
Receivable from The Safe Seal
Company, Inc. ............... 362,612
Trade accounts receivable..... (974,753)
Inventories................... (285,565)
Prepaid expenses and other
current assets............... 79,924
Other noncurrent assets....... (3,135,829)
Accounts payable and accrued
expenses..................... 7,980,650
---------------
Net cash provided by
operating activities......... 1,568,958
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property and
equipment......................... (549,812)
Net proceeds from property and
equipment sales................... (9,095)
Business acquisitions.............. (6,809,946)
---------------
Net cash used in investing
activities................... (7,368,853)
CASH FLOWS FROM FINANCING ACTIVITIES
Borrowings of debt................. 4,976,689
Borrowings under credit facility... 2,522,895
Proceeds from the issuance of
common stock...................... 357
Funding of deferred offering
costs............................. (1,700,046)
---------------
Net cash provided by financing
activities................... 5,799,895
NET CHANGE IN CASH...................... --
CASH, beginning of period............... --
---------------
CASH, end of period..................... $ --
===============
The accompanying notes are an integral part of this consolidated financial
statement.
F-23
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BUSINESS AND ORGANIZATION:
BACKGROUND
Innovative Valve Technologies, Inc. (the "Company" or "Invatec") was
established as a Delaware corporation on March 16, 1997, to create the leading
single-source provider of comprehensive maintenance, repair and value-added
distribution services for industrial valves and related process-system
components throughout North America. Except for its purchase of Steam Supply &
Rubber Co., Inc. and three related entities (collectively, "Steam Supply") in
July 1997, Invatec conducted no operations of its own prior to the closing on
October 28, 1997 of (i) its initial public offering (the "IPO") of its common
stock, par value $.001 per share ("Common Stock"), (ii) its purchase of two
value repair and distribution companies and (iii) a merger (the "SSI Merger")
in which The Safe Seal Company, Inc. ("SSI") became its subsidiary. Pursuant
to the SSI Merger each outstanding share of SSI common stock will be converted
into 1/2 of a share of Common Stock and the redemption of SSI preferred stock
for shares of Common Stock at the initial offering price of $13. Prior to the
SSI Merger, Invatec and SSI were under the common voting control of the trustee
of a voting trust establish in May 1997.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
BASIS OF PRESENTATION
The financial statements include the accounts of the Company and its wholly
owned subsidiaries. All significant intercompany accounts and transactions have
been eliminated in consolidation.
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost, and depreciation is computed
using the straight-line method over the estimated useful lives of the assets.
The costs of major improvements are capitalized. Expenditures for maintenance,
repairs and minor improvements are expensed as incurred. When property and
equipment are sold or retired, the cost and related accumulated depreciation are
removed and the resulting gain or loss is included in results of operations.
GOODWILL
Goodwill represents the excess of the aggregate purchase price paid by the
Company in the acquisition of businesses accounted for as purchases over the
fair market value of the net assets acquired. Goodwill is amortized on a
straight-line basis over 40 years.
The Company periodically evaluates the recoverability of intangibles
resulting from business acquisitions and measures the amount of impairment, if
any, by assessing current and future levels of income and cash flows as well as
other factors, such as business trends and prospects and market and economic
conditions.
INCOME TAXES
Invatec follows the liability method of accounting for income taxes in
accordance with Statement of Financial Accounting Standards ("SFAS") No. 109.
Under this method, deferred income taxes are recorded based upon differences
between the financial reporting and tax bases of assets and liabilities and are
measured using the enacted tax rates and laws that will be in effect when the
underlying assets or liabilities are recovered or settled. Invatec has recorded
a full valuation allowance against all deferred tax assets due to the
uncertainty of ultimate realizability. Accordingly, no income tax benefit has
been recorded for current year losses.
SPECIAL COMPENSATION EXPENSE ON COMMON STOCK ISSUANCE
The Company recorded a special non-cash compensation expense of
approximately $2.8 million related to the issuance of 242,839 shares of Common
Stock to six members of executive management and a
F-24
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
related party to attract such individuals and that party to effect the IPO (see
Note 1). For financial statement presentation purposes, these shares were valued
at approximately $11.70 per share.
SUPPLEMENTAL CASH FLOW INFORMATION
During the period from inception (March 16, 1997) through September 30,
1997, the Company had non-cash activities consisting of the assumption of
approximately $6,777,000 of notes issued by SSI in connection with SSI's
acquisition of Plant Specialties, Inc. ("Plant Specialties") and assumption of
the indebtedness (including accrued interest) owed to Philip.
The Company did not pay taxes or interest during the period from inception
through September 30, 1997.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
3. PROPERTY AND EQUIPMENT:
Property and equipment at September 30, 1997 consist of the following:
ESTIMATED DECEMBER 31,
USEFUL LIVES 1996
------------ --------------
Land................................. -- $ 167,095
Buildings............................ 30 years 610,952
Leasehold improvements............... 30 years 57,843
Furniture and fixtures............... 3-5 years 2,424,264
Machinery and equipment.............. 5 years 397,095
--------------
3,657,249
Less -- Accumulated
depreciation.................. (2,278,004)
--------------
Property and equipment, net..... $ 1,379,245
==============
4. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS:
Accounts payable and accrued expenses at September 30, 1997 consist of the
following:
Accrued interest..................... 1,031,057
Accounts payable, trade.............. 6,851,078
Accrued compensation and benefits.... 441,075
Other accrued expenses............... 1,580,845
------------
$ 9,904,055
============
5. DEBT:
In June 1997, Invatec entered into a funding arrangement with Philip
pursuant to which Philip advanced funds to Invatec (the "Philip Advances") to
pay costs related to the IPO and Invatec assumed SSI's obligation to repay the
Philip Advances and the related deferred offering costs funded with the Philip
Advances. Pursuant to this arrangement, $2,128,935 of short-term debt and
$484,000 of accrued financing charges incurred by SSI prior to the funding
arrangement were transferred to Invatec. The Philip Advances
F-25
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
have been included in short-term debt and bear interest at 8% per annum and may
be converted into Common Stock. The Philip Advances were due at the closing of
the IPO, and were repaid with Common Stock valued at the IPO initial offering
price of $13.
Long-term debt consists of a $853,186 note payable to a former stockholder
of Plant Specialties issued in connection with SSI's acquisition of Plant
Specialties. The note was assumed from SSI by Invatec in June 1997. The note
bears interest at 9.0% per annum and is secured by real estate. Principal and
interest was paid monthly and the note was paid in full in December 1997.
6. CONVERTIBLE SUBORDINATED NOTES PAYABLE:
At September 30, 1997, outstanding convertible subordinated debt consisted
of approximately $3.3 million aggregate principal amount of 5.0% notes due in
2002 (issued by SSI as part of the purchase price for PSI and thereafter assumed
by Invatec) and $2.8 million aggregate principal amount of 5.5% notes due in
2004 (issued by Invatec as part of the purchase price for Steam Supply). As a
result of the IPO, these notes are convertible into Common Stock, at the option
of the holders, at an initial conversion price of $16.90 per share.
7. CAPITAL STOCK AND STOCK OPTIONS:
COMMON STOCK
In connection with the organization and initial capitalization of Invatec,
Invatec issued and sold 242,839 shares of Common Stock in March and June 1997 to
certain members of its management and a related party for $357. For financial
statement presentation purposes, this Common Stock was valued at $11.70 per
share, resulting in a special non-cash compensation expense of $2,840,859.
PREFERRED STOCK
Invatec's charter authorizes the issuance of up to 5,000,000 shares of
preferred stock. As of September 30, 1997, no shares of preferred stock had been
issued.
1997 INCENTIVE PLAN
The Company has adopted an incentive plan (the "Plan") that provides for
the granting or awarding of stock options and other performance-based awards to
key employees, nonemployee directors and independent contractors of the Company
and its subsidiaries. In general, the terms of the options awards (including
vesting schedules) granted after the IPO will be established by the Compensation
Committee of the Company's board of directors. In August 1997, options to
purchase 202,589 shares of Common Stock were granted to certain members of
management at an exercise price of $1.00 per share, resulting in a special
non-cash non-recurring charge of approximately $2.2 million. As of October 27,
1997 Plan options to purchase approximately 1.3 million shares of Common Stock
were outstanding.
8. ACQUISITION OF STEAM SUPPLY:
In July 1997, Invatec acquired Steam Supply & Rubber Co., Inc. and three of
its affiliated companies (collectively, "Steam Supply") for total
consideration of $10.6 million, comprised of $2.7 million of cash, $2.8 million
aggregate principal amount of Invatec's seven-year 5.5% convertible subordinated
notes and the assumption of $5.1 million of debt and other non-current
liabilities. Invatec is accounting for this acquisition in accordance with the
purchase method of accounting, and the effective date of this acquisition is
July 31, 1997 for financial statement presentation purposes.
On June 29, 1997, in connection with the acquisition of Steam Supply, the
Company borrowed $2.0 million from Philip and paid the proceeds into escrow
pursuant to the definitive agreement to purchase Steam Supply. The note due to
Philip bears interest at Philip's borrowing rate plus 10.0% (approximately 18%
at June 30, 1997) and was paid upon the closing of the IPO.
F-26
<PAGE>
INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
9. NEW ACCOUNTING PRONOUNCEMENT:
SFAS No. 123, "Accounting for Stock-Based Compensation," allows entities
to choose between a new fair-value-based method of accounting for employee stock
options or similar equity instruments and the current intrinsic-value-based
method of accounting prescribed by Accounting Principles Board Opinion No. 25
("APB No. 25"). Entities electing to remain with the accounting in APB No. 25
must make pro forma disclosures of net income and earnings per share as if the
fair value method of accounting had been applied. The Company will provide pro
forma disclosure of net income and earnings per share, as applicable, in the
notes to future consolidated financial statements.
10. ACQUISITIONS:
The Company has signed definitive agreements to acquire Industrial Controls
& Equipment, Inc. and three affiliated companies (collectively, "ICE/VARCO")
and Southern Valve Service, Inc. and one affiliated company (collectively,
"SVS"). The aggregate consideration the Company will pay in these acquisitions
is $11.1 million, comprised of $9.6 million in cash and assumed debt and $1.5
million in Common Stock valued for this purpose at the initial public offering
price per share in the IPO. The closings of these acquisitions are conditioned
on the completion of the IPO. The total consideration payable in each
acquisition is subject to an increase in total consideration contingent on the
operating results achieved in the first 12 months after acquisition. The
contingent payment for ICE/VARCO would consist of options to purchase 40,000
shares of Common Stock at an exercise price per share equal to the initial
public offering price of $13 per share, while the contingent payment for SVS
would be payable in a combination of Common Stock and cash in an amount that is
not presently determinable.
11. SUBSEQUENT EVENTS:
REVERSE STOCK SPLIT
In October 1997, Invatec effected a 0.68-for-one reverse stock split of
each share of Common Stock then outstanding. The accompanying financial
statements have been prepared as if such reverse split had been effected at
inception (March 16, 1997).
IPO AND MERGER
On October 28, 1997, Invatec (i) closed its IPO of its Common Stock and
(ii) consolidated seven established businesses providing various repair and
distribution services by means of two purchase transactions and a merger in
which its affiliate, SSI became its subsidiary.
F-27
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To The Safe Seal Company, Inc. and Subsidiaries:
We have audited the accompanying consolidated balance sheets of The Safe
Seal Company, Inc. (a Texas corporation) and subsidiaries, as of December 31,
1995 and 1996, and the related consolidated statements of operations,
stockholders' equity (deficit) and cash flows for each of the three years in the
period ended December 31, 1996. 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 in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
The Safe Seal Company, Inc. and subsidiaries, as of December 31, 1995 and 1996,
and the results of their operations and their cash flows for each of the three
years in the period ended December 31, 1996, in conformity with generally
accepted accounting principles.
ARTHUR ANDERSEN LLP
Houston, Texas
February 14, 1997
F-28
<PAGE>
THE SAFE SEAL COMPANY, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31
------------------------------
1995 1996
-------------- --------------
ASSETS
CURRENT ASSETS:
Cash............................... $ 1,458,096 $ 396,637
Accounts receivable, net of
allowance of $25,000 and
$25,000........................... 485,911 535,647
Inventories........................ 17,480 36,140
Prepaid expenses and other current
assets............................ 45,477 111,638
-------------- --------------
Total current assets..... 2,006,964 1,080,062
PROPERTY AND EQUIPMENT, net............. 32,502 140,449
GOODWILL, net........................... -- --
PATENT COSTS, net....................... 56,833 741,611
OTHER NONCURRENT ASSETS, net............ 12,346 325,993
-------------- --------------
$ 2,108,645 $ 2,288,115
============== ==============
LIABILITIES AND STOCKHOLDERS' EQUITY
(DEFICIT)
CURRENT LIABILITIES:
Short-term debt.................... $ -- $ --
Current maturities of long-term
debt.............................. -- --
Accounts payable and accrued
expenses.......................... 1,184,086 1,092,891
Other current liabilities.......... -- --
-------------- --------------
Total current
liabilities.......... 1,184,086 1,092,891
LONG TERM DEBT, net of current
maturities............................ -- 588,970
PAYABLE TO INNOVATIVE VALVE
TECHNOLOGIES, INC..................... -- --
COMMITMENTS AND CONTINGENCIES
REDEEMABLE PREFERRED STOCK.............. 2,000,000 2,000,000
STOCKHOLDERS' EQUITY (DEFICIT):
Common stock, $0.01 par value,
10,000,000 shares authorized,
2,865,902 shares and 2,963,838
shares issued and outstanding..... 28,659 29,638
Additional paid-in capital......... 983,246 1,270,315
Retained deficit................... (2,087,346) (2,693,699)
-------------- --------------
Total stockholders'
equity (deficit)..... (1,075,441) (1,393,746)
-------------- --------------
$ 2,108,645 $ 2,288,115
============== ==============
The accompanying notes are an integral part of these consolidated financial
statements.
F-29
<PAGE>
THE SAFE SEAL COMPANY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31
--------------------------------------
1994 1995 1996
----------- ------------ -----------
REVENUES............................... $ 2,547,360 $ 2,852,356 $ 3,887,761
COST OF OPERATIONS..................... 1,270,788 1,583,940 2,375,245
----------- ------------ -----------
Gross profit.................. 1,276,572 1,268,416 1,512,516
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES............................. 1,267,899 1,852,895 1,917,063
SPECIAL COMPENSATION EXPENSE ON COMMON
STOCK ISSUANCE....................... -- -- 38,048
----------- ------------ -----------
Income (loss) from
operations.................. 8,673 (584,479) (442,595)
OTHER INCOME (EXPENSE):
Patent defense costs............... (168,705) (880,068) --
Interest income (expense), net..... (7,048) 10,181 27,703
Other.............................. (113,635) (50,126) 393
----------- ------------ -----------
(289,388) (920,013) 28,096
----------- ------------ -----------
LOSS BEFORE INCOME TAXES............... (280,715) (1,504,492) (414,499)
PROVISION (BENEFIT) FOR INCOME TAXES... -- -- --
----------- ------------ -----------
NET LOSS............................... $ (280,715) $ (1,504,492) $ (414,499)
=========== ============ ===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-30
<PAGE>
THE SAFE SEAL COMPANY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL
--------------------- PAID-IN RETAINED
SHARES AMOUNT CAPITAL DEFICIT TOTAL
--------- -------- ----------- ----------- --------------
<S> <C> <C> <C> <C> <C>
BALANCE, December 31, 1993........... 2,463,424 $ 24,634 $ 268,801 $ (249,016) $ 44,419
Preferred stock dividends....... -- -- -- (12,000) (12,000)
Issuance of common stock........ 62,478 625 22,345 -- 22,970
Conversion of redeemable
preferred stock to common
stock......................... 51,000 510 149,490 -- 150,000
Net loss........................ -- -- -- (280,715) (280,715)
--------- -------- ----------- ----------- --------------
BALANCE, December 31, 1994........... 2,576,902 25,769 440,636 (541,731) (75,326)
Preferred stock dividends....... -- -- -- (41,123) (41,123)
Sale of common stock warrant.... -- -- 100,000 -- 100,000
Issuance of common stock........ 289,000 2,890 442,610 -- 445,500
Net loss........................ -- -- -- (1,504,492) (1,504,492)
--------- -------- ----------- ----------- --------------
BALANCE, December 31, 1995........... 2,865,902 28,659 983,246 (2,087,346) (1,075,441)
Preferred stock dividends....... -- -- -- (191,854) (191,854)
Issuances of common stock....... 121,736 1,217 356,831 -- 358,048
Retirement of stock............. (23,800) (238) (69,762) -- (70,000)
Net loss........................ -- -- -- (414,499) (414,499)
--------- -------- ----------- ----------- --------------
BALANCE, December 31, 1996........... 2,963,838 $ 29,638 $ 1,270,315 $(2,693,699) $ (1,393,746)
========= ======== =========== =========== ==============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-31
<PAGE>
THE SAFE SEAL COMPANY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31
--------------------------------------
1994 1995 1996
----------- ------------ -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss........................... $ (280,715) $ (1,504,492) $ (414,499)
Adjustments to reconcile net loss
to net cash
provided by (used in) operating
activities --
Depreciation and
amortization................ 27,179 28,525 31,183
Special compensation expense on
issuance of common stock.... -- -- 38,048
(Gain) loss on sale of property
and equipment............... 13,196 (1,879) --
(Increase) decrease in --
Accounts receivable......... (87,683) (145,835) (49,736)
Inventories................. -- -- (13,660)
Prepaid expenses and other
current assets............ (23,767) 35,402 (66,161)
Other noncurrent assets..... (39,544) -- (324,246)
Increase (decrease) --
Accounts payable and accrued
expenses.................. 399,318 493,084 (91,195)
Payable to Innovative Valve
Technologies, Inc......... -- -- --
----------- ------------ -----------
Net cash provided by (used
in) operating
activities.............. 7,984 (1,095,195) (890,266)
----------- ------------ -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property and
equipment........................ (28,593) (7,530) (128,309)
Additions to patent costs.......... (75,570) (3,384) (46,030)
Proceeds from sale of property and
equipment........................ 40,000 10,500 --
Proceeds from sale of
investments...................... 53,107 -- --
Business acquisitions, net of cash
acquired of $135,109............. -- -- --
----------- ------------ -----------
Net cash used in investing
activities.............. (11,056) (414) (174,339)
----------- ------------ -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings of debt................. 100,000 -- 265,000
Repayments of debt................. (31,667) (93,333) --
Proceeds from sale/exercise of
common stock warrant............. -- 100,000 --
Proceeds from sale of common
stock............................ -- 445,500 --
Stock repurchases.................. -- -- (70,000)
Proceeds from sale of redeemable
preferred stock.................. -- 2,000,000 --
Preferred stock dividends.......... (12,000) -- (191,854)
----------- ------------ -----------
Net cash provided by (used
in) financing
activities.............. 56,333 2,452,167 3,146
----------- ------------ -----------
NET INCREASE (DECREASE) IN CASH...... 53,261 1,356,558 (1,061,459)
CASH, beginning of period............ 48,277 101,538 1,458,096
----------- ------------ -----------
CASH, end of period.................. $ 101,538 $ 1,458,096 $ 396,637
=========== ============ ===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-32
<PAGE>
THE SAFE SEAL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BUSINESS AND ORGANIZATION:
The Safe Seal Company, Inc. (the "Company" or "SSI") was incorporated
in the State of Texas in January 1991 and is principally engaged in the business
of providing on-line leak sealing and valve maintenance and repair services to
industrial customers in the Gulf Coast area of the United States.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
BASIS OF PRESENTATION
The financial statements include the accounts of the Company and its wholly
owned subsidiaries. All significant intercompany accounts and transactions have
been eliminated in consolidation.
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost, and depreciation is computed
using the straight-line method over the estimated useful lives of the assets.
The costs of major improvements are capitalized. Expenditures for maintenance,
repairs and minor improvements are expensed as incurred. When property and
equipment are sold or retired, the cost and related accumulated depreciation are
removed and the resulting gain or loss is included in results of operations.
INCOME TAXES
The Company follows the liability method of accounting for income taxes in
accordance with Statement of Financial Accounting Standards ("SFAS") No. 109.
Under this method, deferred income taxes are recorded based upon differences
between the financial reporting and tax bases of assets and liabilities and are
measured using the enacted tax rates and laws that will be in effect when the
underlying assets or liabilities are recovered or settled.
REVENUE RECOGNITION
Revenue is recognized as products are sold and as services are performed.
CASH
Cash payments for interest during 1994, 1995 and 1996 were approximately
$7,000, $8,000 and $4,000, respectively.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
SPECIAL COMPENSATION EXPENSE ON COMMON STOCK ISSUANCE
In 1996, the Company recorded a special compensation expense of $38,048
related to the issuance of its common stock, $0.01 par value (the "Common
Stock"), and options to purchase Common Stock under employee benefit programs.
See Note 8 for further discussion.
In the six months ended June 30, 1997, the Company recorded a special
non-cash compensation expense of approximately $2.6 million on common stock
issuance related to the issuance of 443,190 shares of Common Stock to three
members of executive management and to Computerized Accounting & Tax Services,
Inc. ("CATS"), a related party owned by Roger L Miller (see Note 11), to
attract such individuals and CATS to effect the Offering (see Note 13). For
financial statement presentation purposes, these shares were valued at
approximately $5.85 per share.
F-33
<PAGE>
THE SAFE SEAL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NEW ACCOUNTING PRONOUNCEMENT
Effective January 1, 1995, the Company adopted SFAS No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of." Accordingly, in the event that facts and circumstances indicate that
property and equipment, and intangible or other assets, may be impaired, an
evaluation of recoverability would be performed. If an evaluation is required,
the estimated future undiscounted cash flows associated with the asset are
compared to the asset's carrying amount to determine if a write-down to market
value or discounted cash flow value is necessary. Adoption of this standard did
not have a material effect on the financial position or results of operations of
the Company.
3. ACQUISITION OF THE SPIN SAFE CORPORATION, INC.:
In November 1996, the Company acquired The Spin Safe Corporation, Inc.
("Spin Safe") in exchange for 108,800 shares of Common Stock, valued at $2.94
per share, and noninterest-bearing notes payable of $400,000. The notes are due
in four equal annual installments beginning January 15, 1998. Additionally, the
Company entered into an agreement with the former stockholders of Spin Safe,
pursuant to which the Company will make royalty payments to them based on the
number of times in excess of a specified base the Safe SealE system is used by
the Company through 2011. The cost of this acquisition is recorded as patent
costs.
4. PROPERTY AND EQUIPMENT:
Property and equipment consist of the following:
DECEMBER 31
ESTIMATED ----------------------
USEFUL LIVES 1995 1996
------------ ---------- ----------
Vehicles............................. 5 years $ -- $ 5,904
Furniture and fixtures............... 3-5 years 41,423 126,262
Machinery and equipment.............. 5 years 17,180 54,746
---------- ----------
58,603 186,912
Less -- Accumulated
depreciation.................. (26,101) (46,463)
---------- ----------
Property and equipment, net..... $ 32,502 $ 140,449
========== ==========
5. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS:
Activity in the Company's allowance for doubtful accounts consists of the
following:
DECEMBER 31
-------------------------------
1994 1995 1996
--------- --------- ---------
Balance, at beginning of year........ $ 25,000 $ 25,000 $ 25,000
Additions............................ -- -- --
Deductions........................... -- -- --
--------- --------- ---------
Balance, at end of year.............. $ 25,000 $ 25,000 $ 25,000
========= ========= =========
F-34
<PAGE>
THE SAFE SEAL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Accounts payable and accrued expenses consist of the following:
DECEMBER 31
--------------------------
1995 1996
------------ ------------
Accounts payable, trade.............. $ 278,457 $ 287,165
Accrued compensation and benefits.... 74,583 120,567
Accrued legal fees................... 593,311 170,696
Accrued dividends.................... 65,123 47,500
Accrued royalties.................... 56,833 70,117
Due to Philip Services Corp.
subsidiary ........................ -- 287,195
Other accrued expenses............... 115,779 109,651
------------ ------------
$ 1,184,086 $ 1,092,891
============ ============
6. LONG-TERM DEBT:
Long-term debt consists of the following at December 31, 1996:
Revolving line of credit payable to a
bank, due June 30, 2002, with
interest due monthly at 1.25% over
cost (as defined) (6.75% at
December 31, 1996), secured by
assignment of all assets. The
available borrowing capacity at
December 31, 1996 was
$1,735,000......................... $ 265,000
Notes payable to former stockholders
of Spin Safe, with annual
installments of $100,000 beginning
January 15, 1998, non-interest
bearing, due January 15, 2001,
unsecured.......................... 323,970
----------
$ 588,970
==========
7. INCOME TAXES:
Actual income tax expense differs from income tax expense computed by
applying the U.S. federal statutory corporate tax rate to income before income
taxes as follows:
YEAR ENDED DECEMBER 31
-------------------------------------
1994 1995 1996
----------- ----------- -----------
Statutory federal income tax
benefit............................ (34)% (34)% (34)%
Valuation allowance.................. 34 34 34
--- --- ---
Effective income tax rate............ 0% 0% 0%
=== === ===
Net deferred tax assets consist of the following:
DECEMBER 31
--------------------------
1995 1996
------------ ------------
Current deferred tax assets.......... $ 135,741 $ 160,910
Noncurrent deferred tax assets....... 581,536 686,316
Valuation allowance.................. (717,277) (847,226)
------------ ------------
Total deferred tax
assets.................. $ -- $ --
============ ============
The Company records a valuation allowance for deferred tax assets when
management believes it is more likely than not the asset will not be realized.
Because of the Company's history of generating significant taxable losses, a
valuation allowance equal to its deferred tax assets has been established.
F-35
<PAGE>
THE SAFE SEAL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Deferred income tax provisions result from temporary differences in the
recognition of income and expenses for financial reporting purposes and for tax
purposes. The tax effects of these temporary differences representing deferred
tax assets and liabilities result principally from the following:
YEAR ENDED DECEMBER 31
--------------------------------------
1994 1995 1996
---------- ------------ ------------
Depreciation and amortization........ $ (15,235) $ 53,093 $ (2,520)
Net operating loss................... 74,051 304,600 107,301
Accrued expenses not deducted for
tax................................ -- 95,065 25,168
Change in valuation allowance........ (58,816) (452,758) (129,949)
---------- ------------ ------------
$ -- $ -- $ --
========== ============ ============
8. STOCKHOLDERS' EQUITY:
COMMON STOCK
In 1995, the Company implemented an employee benefit award program. Under
this program, the Company awarded 9,452 shares of Common Stock to employees. The
shares vested 50 percent at December 31, 1996, and the remainder were to become
fully vested on December 31, 1997. The Company recorded compensation expense,
equal to the fair value of the shares, on the date the shares vested. During
1996, 1,632 shares were forfeited by employees. In 1996, the Company recorded
non-cash compensation expense of $11,500 for the 3,910 shares that vested
related to this program, which was discontinued in 1997, and all remaining
unvested shares were cancelled.
STOCK OPTIONS
In 1996, the Company began a management stock option program that was
discontinued in 1997. Under this program, the Company granted both shares of
Common Stock and options to purchase shares of Common Stock to certain members
of management. The options vested monthly and were exercisable at any time
following the six-month period ending June 30 or December 31 in which the
options were earned. The Company had reserved 400,000 shares of Common Stock for
issuance in this program. During 1996, the Company granted 9,026 shares of
Common Stock and options to purchase 143,798 shares of Common Stock. The options
had an exercise price of $5.00 per share and are exercisable through July 1,
2001. In 1996, the Company recorded non-cash compensation expense of $26,548 for
the 9,026 shares issued with a fair market value of $2.94 per share. No
compensation expense was recorded for the options granted in 1996 because their
exercise price exceeded the fair market value of the underlying shares ($2.94
per share). Prior to 1996, the Company had, from time to time, granted options
to key employees at or above the market value of the Common Stock. The options
granted had exercise prices ranging from $2.50 to $10.00 per share. All but
100,000 options expired in 1996. The remaining options were exercised in June
1997.
The Company accounts for options by applying APB Opinion No. 25, under
which no compensation expense has been recognized. The Company's pro forma
compensation expense is zero as options were determined to be without value
under SFAS No. 123, "Accounting for Stock-Based Compensation," using the
minimum value option method with the following assumptions, as prescribed by
SFAS No. 123:
Remaining life.......................... 4.5 years
Exercise price.......................... $5.00/share
Risk-free rate of return................ 7%
F-36
<PAGE>
THE SAFE SEAL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
A summary of the stock options at December 31, 1996 and changes during the
three years then ended is presented in the table and narrative below:
WEIGHTED-
SHARES UNDER AVERAGE
OPTION EXERCISE PRICE
------------- ---------------
Balance at December 31, 1993......... 27,000 $ 10.00
Granted......................... 215,000 6.16
-------------
Balance at December 31, 1994......... 242,000 6.59
Granted......................... -- --
Exercised....................... -- --
-------------
Balance at December 31, 1995......... 242,000 6.59
Granted......................... 143,798 5.00
Exercised....................... -- --
Cancelled....................... (142,000) 9.47
-------------
Balance at December 31, 1996......... 243,798 3.97
=============
Available for grant at December 31,
1996................................. 256,202
=============
Shares exercisable at December 31,
1996................................. 243,798 3.97
=============
The options outstanding at December 31, 1996 have exercise prices from
$2.50 to $5.00 per share, with a weighted average exercise price of $3.97 and a
weighted average remaining contractual life of three years. All these options
are exercisable.
WARRANTS
In 1995, the Company sold to a subsidiary of Philip Services Corp.
(collectively with its subsidiaries, "Philip") a warrant entitling Philip to
purchase newly issued shares of Common Stock in such number as would equal 35
percent of the outstanding Common Stock, on a fully diluted basis, at $3.68 per
share. During 1996, the Company granted Philip a warrant to purchase additional
newly issued shares of Common Stock in such number as would equal 1.5 percent of
outstanding Common Stock, on a fully diluted basis, at $3.68 per share. The
warrants were exercisable, at Philip's discretion, through January 8, 1999. In
September 1996, the Company agreed to adjust the warrants' exercise price to
$3.16 in return for accelerated exercise and on January 31, 1997, Philip
exercised the warrants. Consideration for the exercise of the warrants consisted
of the issuance of approximately $3.3 million of promissory notes issued by
Philip (the "Philip Notes") and cash of approximately $1,216,855 paid during
the six months ended June 30, 1997. The exercise of these warrants and issuance
of the promissory notes occurred concurrently with the Company's purchase of
Harley Industries, Inc. ("Harley") (see Note 12), in connection with which the
Company assigned the Philip Notes to the sellers of Harley.
In 1995, the Company granted a consultant a warrant entitling its holder to
purchase 15,000 shares of Common Stock at $10.00 per share. The warrant is
exercisable, at the option of its holder, through the year 2000. The consultant
subsequently became an officer of Philip and a director of the Company.
STOCK REPURCHASES
In December 1996, the Company purchased 23,800 shares of Common Stock from
certain stockholders for total cash consideration of $70,000 ($2.94 per share).
The shares repurchased by the Company were subsequently canceled.
F-37
<PAGE>
THE SAFE SEAL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
9. REDEEMABLE PREFERRED STOCK:
In 1995, the Company authorized the issuance of 1,000,000 shares of
preferred stock with a par value of $0.01 per share. Of the authorized shares,
20,000 were designated as Class A redeemable preferred stock (the "Class A
Preferred Stock"). Holders of Class A Preferred Stock are entitled to receive
preferential dividends, in cash or Common Stock (with an agreed value of $1.84
per common share), at an annual rate of $9.50 per share. The Company is required
to redeem the Class A Preferred Stock at $100 per share by October 12, 1999. The
Company sold the Class A Preferred Stock in 1995 for $2,000,000 to Philip.
10. COMMITMENTS AND CONTINGENCIES:
OPERATING LEASES
The Company leases warehouse space, office facilities and vehicles under
noncancelable leases. Rental expense for 1994, 1995 and 1996 was approximately
$91,700, $90,300 and $162,400, respectively. The following represents future
minimum rental payments under noncancelable operating leases:
Year ending December 31 --
1997............................... $ 133,900
1998............................... 102,300
1999............................... 52,400
2000............................... 28,800
2001............................... 24,000
Thereafter......................... --
----------
$ 341,400
==========
LITIGATION
In the ordinary course of its business, the Company has become involved in
various legal actions. Management does not believe that the outcome of these
legal actions will have a material effect on the Company's financial position or
results of operations.
11. CERTAIN TRANSACTIONS:
The Company has had a management agreement with CATS, an entity related by
common ownership. Management fee expense for 1994, 1995 and 1996 was
approximately $119,000, $120,000 and $108,000, respectively. This agreement was
terminated in 1997.
12. ACQUISITION OF HARLEY:
Effective January 31, 1997, the Company acquired all the outstanding stock
of Harley in a purchase transaction. Concurrent with the purchase of Harley, the
Company sold a division of Harley ("Harley Equipment") for $1.9 million in
cash and a receivable of $1.9 million, subject to final adjustment. The total
purchase price for Harley was $14.0 million of cash and assumed debt, including
a contingent cash payment of $1.0 million due upon the completion of the
Offering and $3.3 million of notes issued by Philip (see Note 8) and excluding
$3.8 million in cash and notes received from the sale of Harley Equipment.
Harley is principally engaged in the repair and distribution of valves, gauges,
measurement instruments and related parts for chemical manufacturing and power
industries located primarily in the midwestern and southeastern United States.
F-38
<PAGE>
THE SAFE SEAL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
13. SUBSEQUENT EVENTS (UNAUDITED):
REVERSE STOCK SPLIT
In October 1997, the Company effected a 0.68-for-one reverse stock split of
the outstanding Common Stock. The accompanying financial statements have been
prepared as if such reverse split had been effected as of the beginning of the
earliest period presented.
ACQUISITIONS
Effective February 28, 1997, SSI acquired all the outstanding stock of GSV,
Inc. ("GSV") in a purchase transaction for approximately $7.3 million of cash
and debt assumed. GSV machines, repairs and sells valves and valve components in
Florida.
Effective May 31, 1997, SSI acquired all the outstanding stock of Plant
Specialties, Inc. ("Plant Specialties") and certain assets and real estate
owned by a former stockholder of Plant Specialties in a purchase transaction for
total consideration of $7.6 million, which consisted of $3.4 million in cash and
assumed debt, the issuance of $3.3 million of convertible notes and the issuance
of a $0.9 million note secured by real property. In June 1997, Innovative Valve
Technologies, Inc. ("Invatec"), a related party (see below), assumed the
Company's obligations on these notes. Plant Specialties sells and repairs valves
and instrumentation and provides engineering services to petrochemical and
oilfield industries in Louisiana and the Gulf Coast area.
The following table reflects, on an unaudited pro forma basis, the combined
operations of SSI, Harley, GSV and Plant Specialties, as if the acquisition of
these companies (the "Acquisitions") had taken place on January 1, 1996.
Adjustments have been made to reflect the accounting basis used in recording the
Acquisitions. These pro forma results have been prepared for comparative
purposes only and do not purport to be indicative of the results of operations
the Company would have obtained had the Acquisitions taken effect on January 1,
1996, has obtained since the date of acquisition or may obtain in the future.
YEAR ENDED
DECEMBER 31,
1996
------------
(UNAUDITED
AND IN
THOUSANDS)
Revenues............................. $ 45,670
Income before income taxes........... 2,551
Net income........................... 1,036
To partially fund the Acquisitions, the Company entered into two separate
credit facilities (the "Facilities"). One of the Facilities provides for loans
of approximately $17.5 million, consisting of $7.5 million of fixed-term loans
($4.8 million of which have been guaranteed by Philip) and up to $10.0 million
of revolving credit loans keyed to a borrowing base of, and secured by, accounts
receivable and inventories. The other Facility is a $7.0 million advancing line
of credit which has been guaranteed by Philip. As of June 30, 1997,
approximately $19.1 million was outstanding under the Facilities, including
approximately $1.4 million of current maturities. The Company anticipates that
the Facilities will be replaced with a new credit facility after the Merger and
Offering described below.
RELATIONSHIP WITH INVATEC
In March 1997, certain holders of the outstanding Common Stock organized
Invatec to become the Company's parent corporation by means of a merger (the
"Merger") to be effected concurrently with the closing by Invatec of an
initial public offering (the "Offering") of its common stock (the "Invatec
Common Stock"). As a result of the Merger, the outstanding Class A Preferred
Stock and Common Stock will be converted into the right to receive shares of
Invatec Common Stock.
F-39
<PAGE>
THE SAFE SEAL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Since May 1997, the Company and Invatec have been under the common control
of a voting trustee pursuant to voting trust agreements covering a majority of
the outstanding Common Stock and most outstanding shares of Invatec Common
Stock.
RELATIONSHIP WITH PHILIP
In 1996, Philip agreed to make certain advances (the "Philip Advances")
to the Company to enable the Company, or its successors, to pursue a possible
initial public offering. At December 31, 1996, the Company owed Philip $287,195
under this agreement, and the Company's other noncurrent assets included
$259,929 representing deferred offering costs funded with the Philip Advances.
As a result of Philip's financial support of the Company's acquisition of
Harley, Philip became a related party of the Company for financial statement
presentation purposes effective January 31, 1997.
In June 1997, Invatec entered into a funding arrangement with Philip
pursuant to which Philip has advanced funds to Invatec to pay costs related to
the Offering and Invatec has assumed the Company's obligation to repay the
Philip Advances and the related deferred offering costs funded with the Philip
Advances. Pursuant to that agreement, $2,128,935 of short-term debt and $484,000
of accrued financing charges were transferred to Invatec.
14. SUPPLEMENTAL UNAUDITED PRO FORMA COMBINED FINANCIAL INFORMATION:
Concurrently with the Merger and the closing of the Offering, Invatec
acquired in separate purchase transactions (i) Industrial Controls & Equipment,
Inc. and three affiliated companies (collectively, "ICE/VARCO") and (ii)
Southern Valve Service, Inc. and one affiliated company (collectively, "SVS").
In July 1997, Invatec acquired in a purchase transaction Steam Supply & Rubber
Co., Inc. and three of its affiliates (collectively, "Steam Supply" and,
together with ICE/VARCO, SVS, Harley, GSV and Plant Specialties, the "Acquired
Businesses"). For financial statement presentation purposes, the Company is the
"accounting acquirer" of the Acquired Businesses, and the following
supplemental unaudited pro forma combined financial information gives effect to
the acquisitions as if they had taken place on January 1, 1996 and as restated
to convert the results of operations of Acquired Businesses whose historical
fiscal periods were not on a calendar year basis to a calendar year basis. The
combined results of operations for the periods presented below do not purport to
be comparable to and may not be indicative of the Company's post-combination
results of operations because (i) SSI and the Acquired Businesses were not under
common control or management and (ii) a new basis of accounting was established
to record the purchase of the Acquired Businesses under the purchase method of
accounting.
YEAR ENDED
DECEMBER 31, 1996
-----------------
(UNAUDITED AND
IN THOUSANDS)
Revenues............................. $77,508
Cost of operations................... 54,613
-----------------
Gross profit......................... 22,895
Selling, general and administrative
expenses........................... 19,307
-----------------
Income from operations............... $ 3,588
=================
F-40
<PAGE>
THE SAFE SEAL COMPANY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
15. EVENTS SUBSEQUENT TO DATE OF AUDITOR'S REPORT (UNAUDITED)
On October 28, 1997, Invatec (i) closed its initial public offering of its
common stock and (ii) consolidated seven established businesses providing
various repair and distribution services by means of two purchase transactions
and a merger in which its affiliate SSI, became its subsidiary.
F-41
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
Harley Industries, Inc.:
We have audited the accompanying consolidated balance sheets of Harley
Industries, Inc. and subsidiaries as of October 31, 1995 and 1996, and the
related consolidated statements of operations, stockholders' equity, and cash
flows for each of the three years in the period ended October 31, 1996. 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 in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of Harley Industries, Inc. and
subsidiaries as of October 31, 1995 and 1996, and the results of their
operations and their cash flows for each of the three years in the period ended
October 31, 1996 in conformity with generally accepted accounting principles.
As discussed in Note 2, in December 1996 the Company's stockholders entered
into agreements for the sale of the Company's outstanding common stock.
Deloitte & Touche LLP
Tulsa, Oklahoma
January 17, 1997
(January 31, 1997 as to Notes 2 and 7)
F-42
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders of
Harley Industries, Inc.:
We have audited the accompanying consolidated statement of operations,
stockholders' equity and cash flows of Harley Industries, Inc. and subsidiaries
for the period from November 1, 1996 through January 31, 1997. 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 audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated results of operations and cash flows
of Harley Industries, Inc. and subsidiaries for the period from November 1, 1996
through January 31, 1997, in conformity with generally accepted accounting
principles.
ARTHUR ANDERSEN LLP
Houston, Texas
March 19, 1998
F-43
<PAGE>
HARLEY INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
OCTOBER 31
------------------------------
1995 1996
-------------- --------------
ASSETS
CURRENT ASSETS:
Cash............................... $ 21,738 $ 37,250
Accounts receivable, less allowance
for doubtful accounts of $100,000
and $117,000...................... 3,394,506 4,391,442
Inventories........................ 3,612,653 3,258,243
Prepaid expenses and other current
assets............................ 40,141 33,358
Deferred income tax assets......... 151,000 315,000
-------------- --------------
Total current assets.......... 7,220,038 8,035,293
NET ASSETS OF DISCONTINUED OPERATIONS... 3,876,294 3,114,979
PROPERTY, PLANT AND EQUIPMENT -- Net.... 1,731,368 2,630,489
OTHER ASSETS............................ 1,710,279 1,825,809
-------------- --------------
$ 14,537,979 $ 15,606,570
============== ==============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued
expenses.......................... $ 1,731,291 $ 2,424,408
Current portion of long-term
debt.............................. 445,528 477,309
Current portion of non-compete
obligations....................... 142,617 151,504
-------------- --------------
Total current liabilities..... 2,319,436 3,053,221
LONG-TERM DEBT.......................... 7,653,798 8,245,087
OBLIGATIONS UNDER NON-COMPETE
AGREEMENTS............................ 267,490 112,809
-------------- --------------
Total liabilities............. 10,240,724 11,411,117
-------------- --------------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Common stock, $.01 stated value:
Authorized, 3,000,000 shares;
issued and outstanding, 780,428
shares.......................... 7,804 7,804
Additional paid-in capital......... 5,555,273 5,555,273
Accumulated deficit................ (1,265,822) (1,367,624)
-------------- --------------
Total stockholders' equity.... 4,297,255 4,195,453
-------------- --------------
$ 14,537,979 $ 15,606,570
============== ==============
See notes to consolidated financial statements.
F-44
<PAGE>
HARLEY INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
THREE MONTHS
YEAR ENDED OCTOBER 31 ENDED
---------------------------------------------- JANUARY 31,
1994 1995 1996 1997
-------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
REVENUES................................ $ 16,621,198 $ 18,990,013 $ 21,391,102 $5,987,992
COST OF OPERATIONS...................... 12,325,705 14,024,693 15,447,669 4,415,807
-------------- -------------- -------------- --------------
Gross profit....................... 4,295,493 4,965,320 5,943,433 1,572,185
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES.............................. 4,530,176 4,383,840 5,563,334 1,845,477
-------------- -------------- -------------- --------------
Income (loss) from operations...... (234,683) 581,480 380,099 (273,292)
INTEREST EXPENSE........................ 408,518 539,215 527,188 152,660
-------------- -------------- -------------- --------------
INCOME (LOSS) FROM CONTINUING OPERATIONS
BEFORE INCOME TAXES................... (643,201) 42,265 (147,089) (425,952)
PROVISION (BENEFIT) FOR INCOME TAXES.... (270,000) 15,000 (57,000) (150,212)
-------------- -------------- -------------- --------------
INCOME (LOSS) FROM CONTINUING
OPERATIONS............................ (373,201) 27,265 (90,089) (275,740)
INCOME (LOSS) FROM DISCONTINUED
OPERATIONS, NET OF PROVISION (BENEFIT)
FOR TAXES OF $180,800, $35,000,
$(9,000) and $(33,991)................ 265,044 58,719 (11,713) (53,166)
-------------- -------------- -------------- --------------
NET INCOME (LOSS)....................... $ (108,157) $ 85,984 $ (101,802) $ (328,906)
============== ============== ============== ==============
</TABLE>
See notes to consolidated financial statements.
F-45
<PAGE>
HARLEY INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL TOTAL
------------------ PAID-IN ACCUMULATED STOCKHOLDERS'
SHARES AMOUNT CAPITAL DEFICIT EQUITY
--------- ------ ------------ -------------- -------------
<S> <C> <C> <C> <C> <C>
BALANCE, OCTOBER 31, 1993............ 786,428 $7,864 $ 5,781,034 $ (1,243,649) $ 4,545,249
Purchase and retirement of
treasury stock................ (6,000) (60) (30,761) -- (30,821)
Capital distributions........... -- -- (60,000) -- (60,000)
Net loss........................ -- -- -- (108,157) (108,157)
--------- ------ ------------ -------------- -------------
BALANCE, OCTOBER 31, 1994............ 780,428 7,804 5,690,273 (1,351,806) 4,346,271
Capital distributions........... -- -- (135,000) -- (135,000)
Net income...................... -- -- -- 85,984 85,984
--------- ------ ------------ -------------- -------------
BALANCE, OCTOBER 31, 1995............ 780,428 7,804 5,555,273 (1,265,822) 4,297,255
Net loss........................ -- -- -- (101,802) (101,802)
--------- ------ ------------ -------------- -------------
BALANCE, OCTOBER 31, 1996............ 780,428 7,804 5,555,273 (1,367,624) 4,195,453
Net loss........................ -- -- -- (328,906) (328,906)
--------- ------ ------------ -------------- -------------
BALANCE, JANUARY 31, 1997............ 780,428 $7,804 $ 5,555,273 $ (1,696,530) $ 3,866,547
========= ====== ============ ============== =============
</TABLE>
See notes to consolidated financial statements.
F-46
<PAGE>
HARLEY INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
THREE MONTHS
YEARS ENDED OCTOBER 31 ENDED
------------------------------------------ JANUARY 31,
1994 1995 1996 1997
------------ ------------- ------------- --------------
<S> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)................... $ (108,157) $ 85,984 $ (101,802) $ (328,906)
Reconciliation of net income (loss)
to net cash provided by (used in)
operating activities:
Discontinued operations........... (265,044) (58,719) 11,713 53,166
Depreciation and amortization..... 493,708 519,793 535,212 156,135
(Gain) loss on sale of property,
plant and equipment............ -- 610 (15,187) --
Deferred taxes.................... (214,000) 15,000 (166,000) (64,000)
Changes in operating assets and
liabilities:
Accounts receivable............ (558,983) (465,426) (996,936) 904,159
Inventories.................... (80,862) 120,375 322,954 (344,443)
Prepaid expenses and other
current assets............... 35,680 31,060 6,783 (77,331)
Other non-current assets....... -- (22,620) 7,870 (37,220)
Accounts payable and accrued
expenses..................... 44,271 237,673 693,117 (775,557)
------------ ------------- ------------- --------------
Net cash provided by (used
in) operating activities
of:
Continuing operations...... (653,387) 463,730 297,724 (513,997)
Discontinued operations.... (150,395) (264,084) 669,702 (803,582)
------------ ------------- ------------- --------------
Net cash provided by
(used in) operating
activities............ (803,782) 199,646 967,426 (1,317,579)
------------ ------------- ------------- --------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of business................ -- -- (1,382,470) --
Capital expenditures................ (488,195) (156,373) (73,694) (1,275)
Proceeds from sale of property,
plant, and equipment.............. -- 23,952 26,974 3,599
------------ ------------- ------------- --------------
Net cash provided by (used in)
investing activities......... (488,195) (132,421) (1,429,190) 2,324
------------ ------------- ------------- --------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings (repayments) under
revolving credit agreements....... 1,126,050 168,233 1,071,827 1,354,949
Principal payments on other
long-term debt.................... (1,595,682) (363,045) (448,757) --
Borrowings under term loan
agreements........................ 1,988,573 400,000 -- --
Principal payments on non-compete
obligations....................... (131,001) (138,175) (145,794) (37,694)
Purchase and retirement of treasury
stock............................. (30,821) -- -- --
Capital distributions............... (60,000) (135,000) -- --
------------ ------------- ------------- --------------
Net cash provided by (used in)
financing activities......... 1,297,119 (67,987) 477,276 1,317,255
------------ ------------- ------------- --------------
INCREASE (DECREASE) IN CASH............. 5,142 (762) 15,512 2,000
CASH, BEGINNING OF PERIOD............... 17,358 22,500 21,738 37,250
------------ ------------- ------------- --------------
CASH, END OF PERIOD..................... $ 22,500 $ 21,738 $ 37,250 $ 39,250
============ ============= ============= ==============
</TABLE>
See notes to consolidated financial statements.
F-47
<PAGE>
HARLEY INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED OCTOBER 31, 1994, 1995, AND 1996
1. DESCRIPTION OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of Harley
Industries, Inc. (the "Company") and its operative divisions, Harley Equipment
and Harley Valve and Instrument Company ("Harley Valve"), and other minor
subsidiaries. All material intercompany profits, transactions and balances have
been eliminated.
DESCRIPTION OF BUSINESS
The Company conducts its business activities through two operating
divisions, Harley Equipment and Harley Valve. Harley Equipment sells, customizes
and repairs engines, industrial vehicles, pumps and related parts. Harley Valve
customizes, repairs, tests and sells valves, gauges, measurement instruments and
related parts. The Company's principal customers are in the aircraft, chemical
manufacturing and power industries located primarily in the midwestern and
southeastern United States. The majority of sales of products and service
billings are made on account to customers based on pre-approved unsecured credit
terms determined by the Company. Allowances for uncollectible accounts are
established based on several factors which include, but are not limited to,
analysis of specific customers, historical trends, current economic conditions
and other information.
BASIS OF PRESENTATION
Due to the transactions described in Note 2, the accompanying consolidated
financial statements reflect the Company's Harley Equipment division as a
discontinued operation.
CASH
Cash consists of cash on hand and on deposit in banks.
INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out method) or
market. Inventories not expected to be sold or utilized within one year are
recorded at estimated net realizable values and are included in the financial
statements as non-current assets.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are reported at cost, net of accumulated
depreciation. Depreciation is computed using the straight-line method based on
the estimated useful lives of the related assets, which are 15 to 30 years for
buildings, 7 years for machinery and equipment, 3 to 5 years for furniture and
fixtures and 3 years for other assets. During 1996 the Company determined the
estimated useful lives of certain of its buildings should be extended from 15
years to 30 years. The effect of this change in estimate was to decrease
depreciation expense and the net loss for the year ended October 31, 1996 by
approximately $52,000 and $31,200, respectively.
INTANGIBLE ASSETS
Intangible assets are reported at cost, net of accumulated amortization.
The costs of non-compete agreements entered into in connection with acquisitions
of businesses are amortized on the straight-line basis over their ten- and
five-year terms. Other intangible assets consist of the excess of cost over the
fair value of the net assets of acquired businesses, which is amortized on the
straight-line basis over 40 years. Management periodically evaluates the
recoverability of intangible asset carrying values based on projected operations
and other relevant factors of the acquired businesses. No valuation reserves
have been provided as a result of these evaluations. Amortization expense was
$171,720, $179,220, $172,426 and $40,431 for the years ended October 31, 1994,
1995, 1996 and the three months ended January 31, 1997, respectively.
F-48
<PAGE>
HARLEY INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NEW ACCOUNTING STANDARD
The Company has adopted, effective November 1, 1995, the provisions of
Statement of Financial Accounting Standards No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of".
Accordingly, in the event that facts and circumstances indicate that property
and equipment, and intangible or other assets, may be impaired, an evaluation of
recoverability would be performed. If an evaluation is required, the estimated
future undiscounted cash flows associated with the asset are compared to the
asset's carrying amount to determine if a write-down to market value or
discounted cash flow value is necessary. Adoption of this standard did not have
a material effect on the financial position or results of operations of the
Company.
REVENUE RECOGNITION
Revenue on sales of products is recognized upon shipment to customers.
Revenue on service work is recognized upon completion of the service.
INCOME TAXES
The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards No. 109, "Accounting for Income Taxes" ("FAS
109"). Under FAS 109, deferred income taxes reflect the net tax effects of (a)
temporary differences between the carrying amounts of assets and liabilities for
financial reporting purposes and the amounts used for income tax purposes, and
(b) operating loss and tax credit carryforwards.
MANAGEMENT ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the balance sheet date and
the reported amounts of revenue and expenses during the reporting period. Actual
results will be determined based on the outcome of future events and could
differ from the estimates.
2. SUBSEQUENT EVENTS AND DISCONTINUED OPERATIONS
In December 1996, the Company's stockholders entered into agreements with
The Safe Seal Company, Inc. ("Safe Seal") under which Safe Seal acquired 100%
of the outstanding common stock of the Company effective January 31, 1997 for
cash and notes of approximately $8,600,000, including a $1,000,000 cash payment
due upon the successful completion of a public stock offering by Safe Seal or
its successor company. Concurrent with the acquisition, Safe Seal entered into
an agreement to transfer certain assets and certain liabilities to Harley
Equipment and sell the stock of Harley Equipment for cash and notes to an
employee/minority stockholder of the Company. The Company's primary bank debt,
which was recorded on the records of Harley Equipment, was transferred to Harley
Valve and refinanced by Safe Seal (Note 7) in conjunction with the sale and
purchase transactions described above. The ultimate Harley Equipment purchase
price, estimated to be $3,100,000 to $3,800,000, will be based on the historical
carrying values of such assets and liabilities as of January 31, 1997 and is
subject to adjustment by the parties. Subsequent to January 31, 1997, the
parties entered into discussions to determine the final adjustments to the
purchase price. The Company believes that the ultimate adjustment made to the
purchase price will not have a material impact on the Company's financial
position or results of operation. For financial reporting purposes, the net
assets, results of operations and cash flows of Harley Equipment are included in
the Company's consolidated financial statements as discontinued operations.
Harley Equipment had revenues of $10,240,000, $10,318,000, $11,301,000 and
$2,518,000 for the years ended October 31, 1994, 1995,
F-49
<PAGE>
HARLEY INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
1996 and the three months ended January 31, 1997, respectively. Net assets of
these discontinued operations at October 31, 1995 and 1996 are as follows:
OCTOBER 31
--------------------------
1995 1996
------------ ------------
Current assets.......................... $ 3,245,417 $ 3,581,497
Property, plant and equipment -- net.... 630,563 583,052
Other assets............................ 751,241 635,227
------------ ------------
Total assets.................. 4,627,221 4,799,776
Current liabilities..................... 750,927 1,684,797
------------ ------------
Net assets.................... $ 3,876,294 $ 3,114,979
============ ============
This historical financial information may not necessarily be indicative of
the conditions that would have existed if Harley Equipment had been operated as
an unaffiliated entity.
Interest expense has been allocated to discontinued operations based on the
ratio of net assets of discontinued operations to consolidated net assets.
Interest expense of $163,431, $245,057, $208,491 and $75,966 has been allocated
to discontinued operations in 1994, 1995, 1996 and the three months ended
January 31, 1997, respectively. Interest payments for the Company were $552,095,
$787,795, $735,632 and $164,826 in 1994, 1995, 1996 and the three months ended
January 31, 1997, respectively. In addition, certain additional compensation of
$475,000 (Note 13), which will be paid from the assets of Harley Equipment, has
been allocated to discontinued operations in 1996.
The Company's stockholders have indemnified Safe Seal for various
contingencies, including environmental and income tax matters. The stockholders
have also entered into agreements not-to-compete with Safe Seal.
3. PURCHASE OF VALVE BUSINESS
Effective June 4, 1996, the Company acquired certain assets of Henze
Services, Inc. for cash and direct acquisition costs of $1,382,470. The assets
acquired consisted of six branches primarily engaged in repair and servicing of
used valves and related products. Management subsequently consolidated two
locations into the operations of existing Harley Valve facilities. The
acquisition was accounted for using purchase accounting. The purchase price was
allocated to equipment acquired based on independent appraisals. In conjunction
with the acquisition, an escrow fund of $150,000 has been established pending
resolution of certain matters. The escrow fund is included in other noncurrent
assets pending its resolution. The results of operations of the Henze locations
are included in the accompanying consolidated statement of operations from the
acquisition date. The following pro forma information has been prepared assuming
that this acquisition had taken place as of November 1, 1994. The pro forma
information includes adjustments for interest expense that would have been
incurred to finance the purchase, depreciation based on the purchase price
allocation, and related income tax effects. The pro forma financial information
is not necessarily indicative of the results of operations that would have been
reported had the transaction been effected on November 1, 1994 (000's omitted).
YEAR ENDED OCTOBER
31
--------------------
1995 1996
--------- ---------
Revenues................................ $ 33,557 $ 27,382
Loss from continuing operations......... (396) (381)
Net loss................................ (337) (393)
F-50
<PAGE>
HARLEY INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
4. INVENTORIES
Inventories consist of the following:
OCTOBER 31
--------------------------
1995 1996
------------ ------------
Gauges, valves, measurement instruments
and related parts..................... $ 3,883,361 $ 3,461,662
Work in process......................... -- 98,745
------------ ------------
3,883,361 3,560,407
Less: amount classified as non-current
assets................................ 270,708 302,164
------------ ------------
Inventories classified as current
assets................................ $ 3,612,653 $ 3,258,243
============ ============
Inventories are stated net of valuation reserves of $295,000 and $374,000
at October 31, 1995 and 1996, respectively. Management estimates that
inventories of $270,708 and $302,164 at October 31, 1995 and 1996, respectively,
are in excess of Harley Valve's current sales and service work requirements.
Such inventories include used valves, replacement parts and other items which
are reported as non-current assets. Management has developed programs to reduce
these inventories to desired levels over the near term and believes the carrying
values of such inventories, net of valuation reserves, will ultimately be
recovered.
5. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consists of the following:
OCTOBER 31
------------------------------
1995 1996
-------------- --------------
Land.................................... $ 347,625 $ 347,625
Buildings............................... 1,027,956 1,008,375
Machinery and equipment................. 1,726,616 3,017,651
Furniture and fixtures.................. 361,957 328,169
Other................................... 282,398 282,264
-------------- --------------
3,746,552 4,984,084
Less accumulated depreciation........... (2,015,184) (2,353,595)
-------------- --------------
$ 1,731,368 $ 2,630,489
============== ==============
Depreciation expense was $321,988, $340,573, $362,786 and $115,704 for the
years ended October 31, 1994, 1995, 1996, and the three months ended January 31,
1997, respectively.
F-51
<PAGE>
HARLEY INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
6. OTHER ASSETS
Other assets consist of the following:
OCTOBER 31
--------------------------
1995 1996
------------ ------------
Non-current inventories, net............ $ 270,708 $ 302,164
Non-compete agreements, net of
accumulated amortization of $389,097
and $542,510.......................... 385,918 232,505
Other intangible assets, net of
accumulated amortization of $192,398
and $211,411.......................... 733,033 714,020
Escrow fund............................. -- 150,000
Other non-current assets................ 22,620 47,120
Deferred income tax assets.............. 298,000 380,000
------------ ------------
$ 1,710,279 $ 1,825,809
============ ============
7. DEBT
Debt consists of the following:
OCTOBER 31
--------------------------
1995 1996
------------ ------------
Revolving credit agreement.............. $ 5,889,000 $ 6,960,827
Term note agreement; interest at New
York prime rate plus .75% (9% at
October 31, 1996), payable in monthly
installments of $40,821 through April
1, 2000 when the remaining balance is
due................................... 1,493,806 1,127,719
Term note agreement; interest at New
York prime rate plus .75% (9% at
October 31, 1996), payable in monthly
installments of $7,734 through June 1,
1996 and $5,067 through April 1, 2000
when the remaining balance is due..... 447,566 407,695
Note payable to bank; interest at the
bank's base rate plus 1.5% (9.75% at
October 31, 1996), payable in monthly
installments of $2,020 through October
2000 when the remaining balance is
due; secured by first mortgage on land
and building with a carrying value of
$316,000.............................. 186,380 154,452
Note payable to individual; interest at
9%, payable in monthly installments
through October 2001; secured by real
estate with a carrying value of
$177,000.............................. 82,574 71,703
------------ ------------
8,099,326 8,722,396
Less current portion of long-term
debt.................................. (445,528) (477,309)
------------ ------------
Long-term debt.......................... $ 7,653,798 $ 8,245,087
============ ============
REVOLVING CREDIT AND TERM NOTE AGREEMENT
In May 1995, the Company restructured its borrowing facilities and executed
an amendment to its revolving credit and term note agreement (the "Agreement")
with a bank. The amended Agreement provides for two term notes, original
principal amounts totaling $2,102,356, and borrowings under a revolving facility
to the lesser of $7,000,000 or the Company's borrowing base (as defined) of
qualified accounts receivable and inventories. In July 1996, the Company
increased the borrowings under the revolving facility up to the lesser of
$7,500,000 or the Company's borrowing base. At October 31, 1996, remaining
borrowing capacity under the revolving facility was $539,000. The revolving
facility provides for
F-52
<PAGE>
HARLEY INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
interest at the New York prime rate plus .625% (8.875% at October 31, 1996), and
is due for renewal on March 1, 1997. The assets of the Company and 681,506
shares of Company common stock are pledged as collateral under the Agreement.
The Agreement contains various restrictive financial covenants including
maintaining net worth of $4.1 million, working capital of $3 million, a current
ratio of 1.25 to 1.0, maximum liabilities to tangible net worth of 3.25 to 1.0,
and minimum cash flow, as defined, of 1.4 to 1.0. In addition, the agreement
prohibits dividends, limits salaries and bonuses and requires bank consent on
ownership changes. As of October 31, 1996, the Company was not in compliance
with the working capital, current ratio, liabilities to net worth or cash flow
financial covenants, exceeded the salary and bonus limits and had entered into
agreements for ownership changes as described in Note 2. The bank has
temporarily waived these covenant violations contingent upon the transfer of
ownership.
The borrowings under the Company's revolving credit agreement and term
notes were repaid on January 31, 1997 in conjunction with the transfer of
ownership and replaced with bank debt issued by The Safe Seal Company, Inc. (See
Note 2). The borrowings under the Company's revolving credit agreement and term
notes have been classified based on their original maturities as of October 31,
1996 in the accompanying consolidated financial statements.
Principal payments on long-term debt (based on the original maturities) and
non-compete obligations (Note 8) are as follows:
YEAR ENDING LONG-TERM NON-COMPETE
OCTOBER 31 DEBT OBLIGATIONS TOTAL
- -------------------------------- ---------- ------------- ------------
1997.......................... $ 477,309 $ 151,504 $ 628,813
1998.......................... 7,482,904 86,537 7,569,441
1999.......................... 366,957 15,255 382,212
2000.......................... 379,872 11,017 390,889
2001.......................... 15,354 -- 15,354
---------- ------------- ------------
$8,722,396 $ 264,313 $ 8,986,709
========== ============= ============
8. OBLIGATIONS UNDER NON-COMPETE AGREEMENTS
In connection with the acquisitions of businesses, Harley Valve assumed
certain obligations under non-compete agreements and entered into additional
agreements whereby the former owners agreed not to compete with Harley Valve for
a five-year period. The agreements require monthly payments totaling $13,508 at
various maturities through 2000. At October 31, 1995 and 1996, the obligations
consist of the following:
1995 1996
------------ ------------
Total obligations, net of imputed
interest of $22,608 and $13,577
at 6% at October 31, 1995 and 1996,
respectively.......................... $ 410,107 $ 264,313
Current portion......................... (142,617) (151,504)
------------ ------------
Long-term portion....................... $ 267,490 $ 112,809
============ ============
F-53
<PAGE>
HARLEY INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
9. INCOME TAXES
The provision (benefit) for income taxes associated with continuing
operations consists of the following:
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31
----------------------------------- THREE MONTHS ENDED
1994 1995 1996 JANUARY 31, 1997
------------ --------- ---------- ------------------
<S> <C> <C> <C> <C>
Current:
Federal............................ $ (42,000) $ -- $ 29,000 $ (70,000)
State.............................. (14,000) -- 7,000 (16,000)
------------ --------- ---------- ------------------
(56,000) -- 36,000 (86,000)
Deferred expense (benefit).............. (214,000) 15,000 (93,000) (64,000)
------------ --------- ---------- ------------------
Provision (benefit) for income taxes.... $ (270,000) $ 15,000 $ (57,000) $ (150,000)
============ ========= ========== ==================
</TABLE>
The provisions (benefits) for income taxes vary from federal statutory
rates on earnings before income taxes due to the following:
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31
------------------------------- THREE MONTHS ENDED
1994 1995 1996 JANUARY 31, 1997
--------- --------- --------- ------------------
<S> <C> <C> <C> <C>
Income tax provision (benefit) at U.S.
Federal statutory rate, considering
surtax exemptions..................... (34.0)% 34.0% (34.0)% (34.0)%
State taxes, net of Federal tax
benefit............................... (5.0)% 5.0% (5.0)% (4.0)%
Amortization of goodwill................ 1.0% -- -- --
Other, net.............................. (4.0)% (3.5)% -- 2.7%
--------- --------- --------- ------
Effective tax rate...................... (42.0)% 35.5% (39.0)% (35.3)%
========= ========= ========= ======
</TABLE>
The sources of deferred income tax assets consist of available net
operating loss carryforwards and temporary differences between the financial and
tax bases of assets and liabilities, as follows:
<TABLE>
<CAPTION>
OCTOBER 31
---------------------- THREE MONTHS ENDED
1995 1996 JANUARY 31, 1997
---------- ---------- ------------------
<S> <C> <C> <C>
Loss carryforwards................... $ 72,000 $ -- $--
Accounts receivable reserves......... 39,000 46,000 70,000
Inventories.......................... 100,000 170,000 200,000
Property, plant and equipment........ 78,000 80,000 145,000
Intangible assets.................... 126,000 155,000 122,000
Accrued expenses and other........... 34,000 244,000 192,000
---------- ---------- ------------------
Deferred tax assets.................. $ 449,000 $ 695,000 $729,000
========== ========== ==================
Classified as:
Current......................... $ 151,000 $ 315,000 $262,000
Non-current..................... 298,000 380,000 467,000
---------- ---------- ------------------
$ 449,000 $ 695,000 $729,000
========== ========== ==================
</TABLE>
At October 31, 1995 and 1996, there are no material deferred tax
liabilities. Realization of the deferred tax assets is dependent on generating
sufficient taxable income in the future. Although realization is not assured,
management believes it is more likely than not that all of the deferred tax
assets will be realized. The amount of the deferred tax assets considered
realizable, however, could be reduced in the near term if
F-54
<PAGE>
HARLEY INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
estimates of future taxable income during the carryforward period are reduced or
should tax authorities disallow tax deductions.
The Company utilized $326,000, $326,000, and $254,000 of net operating loss
carryforwards in 1994, 1995, and 1996, respectively, to reduce taxable income
and current income tax liabilities. Utilization of net operating loss
carryforwards was limited to $326,000 annually due to the purchase of the
Company's preferred stock in 1991. The Company made income tax payments of
$31,840, $3,531, and $16,488 in 1994, 1995, and 1996, respectively.
The Company's 1993 and 1994 Federal income tax returns are currently being
examined by the Internal Revenue Service (the "IRS"). The Company and the IRS
are disputing certain purchase price allocations related to a 1993 acquisition.
The Company believes its positions are sustainable and additional taxes,
penalties or interest, if any, should not be material.
10. STOCKHOLDERS' EQUITY
The Company has authorized 1,950,000 shares of preferred stock, none of
which is issued or outstanding.
Options for the purchase of 20,000 shares of common stock at $4.45 have
been granted to a key employee. As of October 31, 1996, none of these options
have been exercised. The effects of these options are not material. These
options were terminated in conjunction with the transfers of ownership described
in Note 2.
In 1994, the Company purchased 6,000 shares of the Company's common stock
from an officer for approximately $31,000 and retired the shares.
11. RETIREMENT PLAN
The Company has a defined contribution retirement savings plan (the
"Retirement Plan") covering substantially all employees who meet certain
eligibility requirements as to age and length of service. The Retirement Plan
incorporates the salary reduction provisions of Section 401(k) of the Internal
Revenue Code and employees may contribute up to 15% of their compensation. The
Company may elect to match a percentage of the employees' contributions. There
were no Company contributions for the years ended October 31, 1996 and 1994.
Contributions charged to operations were $8,180 for the year ended October 31,
1995.
12. SERVICE AND DISTRIBUTION AGREEMENTS
Harley Valve purchases, sells and services various products under service
and distribution agreements with its major suppliers. The agreement with one key
supplier has a five-year term through April 1998. Approximately 50% of revenues
during each of the years ended October 31, 1994, 1995, and 1996 were derived
from sales of products purchased or services rendered under the agreement with
this supplier. Other agreements with major suppliers are generally cancelable by
the suppliers upon thirty to sixty days' notice. Management does not anticipate
cancellation of these agreements.
13. RELATED PARTY TRANSACTIONS
At October 31, 1995 and 1996, other assets of Harley Equipment include
notes receivable of $150,000 from the Company's president/majority stockholder.
The President's notes bear interest at the statutory rate required by the
Internal Revenue Service and are payable on demand. Interest income on the
President's notes totaled $9,375, $10,200, $10,200 and $0 for the years ended
October 31, 1994, 1995, 1996 and the three months ended January 31, 1997,
respectively.
In conjunction with the sale of the Company described in Note 2, additional
compensation totaling approximately $475,000 for various employees and fees
related to the sale of $150,000 charged to the
F-55
<PAGE>
HARLEY INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Company by a stockholder were incurred. The additional compensation is to be
paid from the assets of Harley Equipment and has been allocated to discontinued
operations. In November 1996, certain assets of Harley Equipment were sold to a
stockholder for $150,000, which represented their carrying values at October 31,
1996.
The Company has also entered into a contingent incentive award agreement
with a key Harley Valve employee which provides for a $50,000 payment upon
consummation of the sale of the Company and $50,000 payable ratably over the
following six months. No amounts related to this agreement were recorded by the
Company as of October 31, 1996.
14. LEASES
Harley Valve leases certain equipment and office and warehouse facilities.
Minimum rental commitments for Harley Valve under all operating leases with
noncancelable terms in excess of one year at October 31, 1996 were payable as
follows:
YEAR ENDING OCTOBER 31,
- ----------------------------------------
1997............................... $ 450,564
1998............................... 140,528
1999............................... 56,756
2000............................... 51,286
2001............................... 36,000
----------
$ 735,134
==========
Commencing in the year ended October 31, 1996, Harley Valve subleased
certain of its facilities to a third party under short-term leases.
Total rental expense amounted to approximately $281,000, $216,000, $274,000
and $92,000 for the years ended October 31, 1994, 1995, 1996 and the three
months ended January 31, 1997, respectively. Sublease income was approximately
$44,000 and $33,000 for the year ended October 31, 1996 and the three months
ended January 31, 1997, respectively.
15. ENVIRONMENTAL CONTINGENCIES
The Company is investigating various of its facilities for potential
environmental contamination and remediation, including an underground storage
tank at its Norfolk, Virginia location. Based on soil samples completed through
January 10, 1997, minimal contamination is indicated. Management believes costs,
if any, for environmental remediation at the Norfolk or other facilities will
not be material.
F-56
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Steam Supply Group:
We have audited the accompanying combined balance sheets of Steam Supply
Group (as defined in Note 1) as of October 31, 1995 and 1996, and the related
combined statements of operations, stockholders' equity (deficit) and cash flows
for each of the three years in the period ended October 31, 1996 and for the
nine months ended July 31, 1997. These financial statements are the
responsibility of the Group's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the combined financial statements referred to above present
fairly, in all material respects, the combined financial position of Steam
Supply Group as of October 31, 1995 and 1996, and the combined results of their
operations and their combined cash flows for each of the three years in the
period ended October 31, 1996 and for the nine months ended July 31, 1997, in
conformity with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Houston, Texas
March 10, 1998
F-57
<PAGE>
STEAM SUPPLY GROUP
COMBINED BALANCE SHEETS
OCTOBER 31
--------------------------
1995 1996
------------ ------------
ASSETS
CURRENT ASSETS:
Cash............................... $ -- $ --
Accounts receivable, net of
allowance of $15,000 and $9,080... 1,854,097 2,007,558
Inventories........................ 1,843,530 2,083,181
Prepaid expenses................... 241,574 277,174
Current portion of related-party
notes receivable.................. 22,266 25,500
------------ ------------
Total current assets.......... 3,961,467 4,393,413
PROPERTY AND EQUIPMENT, net............. 787,592 1,123,146
RELATED-PARTY NOTES RECEIVABLE, net of
current portion....................... 587,731 647,871
OTHER NONCURRENT ASSETS, net............ 329,465 379,490
------------ ------------
$ 5,666,255 $ 6,543,920
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Short-term debt.................... $ 2,432,000 $ 2,062,683
Current maturities of long-term
debt.............................. 148,000 245,400
Accounts payable and accrued
expenses.......................... 1,409,478 1,341,730
------------ ------------
Total current liabilities..... 3,989,478 3,649,813
LONG-TERM DEBT, net of current
maturities............................ 916,160 2,131,891
COMMITMENTS AND CONTINGENCIES
REDEEMABLE PREFERRED STOCK.............. 710,528 710,528
STOCKHOLDERS' EQUITY (DEFICIT):
Common stock....................... 173 173
Additional paid-in capital......... 17,958 17,958
Retained earnings.................. 31,958 33,557
------------ ------------
Total stockholders' equity.... 50,089 51,688
------------ ------------
$ 5,666,255 $ 6,543,920
============ ============
The accompanying notes are an integral part of these combined financial
statements.
F-58
<PAGE>
STEAM SUPPLY GROUP
COMBINED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31 NINE MONTHS
---------------------------------------------- ENDED
1994 1995 1996 JULY 31, 1997
-------------- -------------- -------------- -------------
<S> <C> <C> <C> <C>
REVENUES............................. $ 14,777,360 $ 15,407,681 $ 15,078,741 $ 11,790,649
COST OF OPERATIONS................... 9,702,561 10,092,443 9,573,560 8,218,844
-------------- -------------- -------------- -------------
Gross profit.................... 5,074,799 5,315,238 5,505,181 3,571,805
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES........................... 5,022,066 4,825,535 5,107,379 3,475,888
-------------- -------------- -------------- -------------
Income from operations.......... 52,733 489,703 397,802 95,917
OTHER INCOME (EXPENSE):
Interest, net................... (244,611) (282,004) (303,482) (245,997)
Other........................... (52,512) 7,121 (9,881) (72,982)
-------------- -------------- -------------- -------------
(297,123) (274,883) (313,363) (318,979)
-------------- -------------- -------------- -------------
INCOME (LOSS) BEFORE INCOME TAXES.... (244,390) 214,820 84,439 (223,062)
PROVISION (BENEFIT) FOR INCOME
TAXES.............................. 2,185 97,900 33,100 (85,711)
-------------- -------------- -------------- -------------
NET INCOME (LOSS).................... $ (246,575) $ 116,920 $ 51,339 $ (137,351)
============== ============== ============== =============
</TABLE>
The accompanying notes are an integral part of these combined financial
statements.
F-59
<PAGE>
STEAM SUPPLY GROUP
COMBINED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
<TABLE>
<CAPTION>
COMMON PAID-IN RETAINED
STOCK CAPITAL EARNINGS (DEFICIT) TOTAL
------ --------- ------------------- ------------
<S> <C> <C> <C> <C>
BALANCE, October 31, 1993............... $ 173 $ 17,958 $ 261,167 $ 279,298
Preferred dividends................ -- -- (49,817) (49,817)
Net loss........................... -- -- (246,575) (246,575)
------ --------- ------------------- ------------
BALANCE, October 31, 1994............... 173 17,958 (35,225) (17,094)
Preferred dividends................ -- -- (49,737) (49,737)
Net income......................... -- -- 116,920 116,920
------ --------- ------------------- ------------
BALANCE, October 31, 1995............... 173 17,958 31,958 50,089
Preferred dividends................ -- -- (49,740) (49,740)
Net income......................... -- -- 51,339 51,339
------ --------- ------------------- ------------
BALANCE, October 31, 1996............... 173 17,958 33,557 51,688
Preferred dividends................ -- -- (49,737) (49,737)
Net loss........................... -- -- (137,351) (137,351)
------ --------- ------------------- ------------
BALANCE, July 31, 1997.................. $ 173 $ 17,958 $(153,531) $ (135,400)
====== ========= =================== ============
</TABLE>
The accompanying notes are an integral part of these combined financial
statements.
F-60
<PAGE>
STEAM SUPPLY GROUP
COMBINED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31 NINE MONTHS
------------------------------------ ENDED
1994 1995 1996 JULY 31, 1997
---------- ------------ ---------- ---------------
<S> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)................ $ (246,575) $ 116,920 $ 51,339 $(137,351)
Adjustments to reconcile net
income (loss) to net cash
provided by (used in) operating
activities --
Depreciation and
amortization.............. 278,954 270,111 208,304 125,448
(Increase) decrease in --
Accounts receivable....... (173,560) (138,995) (153,461) 161,512
Inventories............... 175,605 56,528 (239,651) 348,144
Prepaid expenses and other
assets.................. (79,395) 81,422 (85,625) 104,073
Accounts payable and accrued
expenses.................. 165,685 123,792 (67,748) (306,068)
---------- ------------ ---------- ---------------
Net cash provided by
(used in) operating
activities......... 120,714 509,778 (286,842) 295,758
---------- ------------ ---------- ---------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property and
equipment...................... (133,067) (117,445) (543,852) (68,906)
Advances on notes receivable..... (16,044) (138,334) (60,000) --
Collections on notes
receivable..................... 119,416 24,207 23,221 72,066
---------- ------------ ---------- ---------------
Net cash provided by
(used in) investing
activities......... (29,695) (231,572) (580,631) 3,160
---------- ------------ ---------- ---------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings of debt............... 819,633 831,681 1,215,683 --
Repayments of debt............... (848,570) (1,072,415) (298,470) (249,181)
Preferred dividends paid......... (49,817) (49,737) (49,740) (49,737)
---------- ------------ ---------- ---------------
Net cash provided by
(used in) financing
activities......... (78,754) (290,471) 867,473 (298,918)
---------- ------------ ---------- ---------------
NET CHANGE IN CASH................... 12,265 (12,265) -- --
CASH, beginning of period............ -- 12,265 -- --
---------- ------------ ---------- ---------------
CASH, end of period.................. $ 12,265 $ -- $ -- $ --
========== ============ ========== ===============
</TABLE>
The accompanying notes are an integral part of these combined financial
statements.
F-61
<PAGE>
STEAM SUPPLY GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS
1. BUSINESS, ORGANIZATION AND BASIS OF PRESENTATION:
The accompanying combined balance sheets and related combined statements of
operations, stockholders' equity and cash flows include Puget Investments, Inc.
("Puget"), Steam Supply & Rubber Co., Inc. ("Steam Supply"), Flickinger
Company and Flickinger-Benicia, Inc. ("Benicia"). Steam Supply and Flickinger
Company are wholly owned subsidiaries of Puget and are consolidated with the
accounts of Puget. Benicia is owned directly by the stockholders of Puget. As
Puget and Benicia (together, "Steam Supply Group" or the "Company") have
common ownership and management, the financial statements of each entity have
been combined for financial reporting reasons. All intercompany balances and
transactions have been eliminated.
Steam Supply Group services, repairs, sells and distributes industrial
valves and instruments. Steam Supply Group's customers primarily are
petrochemical, electric power and pulp and paper industries located in the
western continental United States and Alaska.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
CASH
Cash payments for interest during fiscal 1994, 1995 and 1996 were
approximately $272,878, $312,643 and $336,432, respectively. Cash payments for
taxes during fiscal 1995 and 1996 were approximately $65,286 and $107,310,
respectively. During fiscal 1994, the Company received $86,157 in income tax
refunds.
INVENTORIES
Inventories are valued at the lower of cost or market utilizing the
last-in, first-out method ("LIFO") and primarily consist of industrial valves,
valve parts and instrumentation. The excess of current costs determined using
the first-in, first-out method basis over the carrying values of LIFO
inventories was approximately $559,963 and $614,769 at October 31, 1995 and
1996, respectively.
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost, and depreciation is computed
using the straight-line method over the estimated useful lives of the assets.
The costs of major improvements are capitalized. Expenditures for maintenance,
repairs and minor improvements are expensed as incurred. When property and
equipment are sold or retired, the cost and related accumulated depreciation are
removed and the resulting gain or loss is included in results of operations.
OTHER NONCURRENT ASSETS
Other noncurrent assets primarily consist of a noncompete covenant with a
former stockholder, which is being amortized on a straight-line basis over 10
years. Accumulated amortization as of October 31, 1995 and 1996 was $130,625 and
$159,125, respectively.
REVENUE RECOGNITION
Service revenue is recognized upon performance of the service, and product
sales revenue is recognized as products are shipped or delivered.
INCOME TAXES
Puget files a consolidated income tax return and follows the liability
method of accounting for income taxes in accordance with Statement of Financial
Accounting Standards ("SFAS") No. 109. Under this method, deferred income
taxes are recorded based upon differences between the financial reporting and
tax bases of assets and liabilities and are measured using the enacted tax rates
and laws that will be in effect when the underlying assets or liabilities are
recovered or settled. Benicia is an S Corporation for federal
F-62
<PAGE>
STEAM SUPPLY GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
income tax purposes and, in accordance with the S Corporation provisions of the
Internal Revenue Code, the earnings of Benicia are included in the personal tax
returns of its stockholders. Accordingly, no federal income tax expense is
recorded in the financial statements relative to Benicia. Benicia does record
California state income tax expense.
STOCKHOLDERS' EQUITY
The common stock ownership of the Company as of October 31, 1995 and 1996
includes the following:
PAR VALUE SHARES SHARES
PER SHARE AUTHORIZED OUTSTANDING
---------- ---------- -----------
Puget................................ $ 1.00 500 173
Benicia.............................. -- 50,000 20,000
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
NEW ACCOUNTING PRONOUNCEMENT
Effective November 1, 1995, the Company adopted SFAS No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of." Accordingly, in the event that facts and circumstances indicate that
property and equipment, and intangible or other assets, may be impaired, an
evaluation of recoverability would be performed. If an evaluation of an asset is
required, the estimated future undiscounted cash flows associated with the asset
are compared to the asset's carrying amount to determine if a writedown to
market value or discounted cash flow value is necessary. Adoption of this
standard did not have a material effect on the combined financial position or
results of operations of the Company.
3. PROPERTY AND EQUIPMENT:
Property and equipment consists of the following:
OCTOBER 31
ESTIMATED --------------------------
USEFUL LIVES 1995 1996
------------ ------------ ------------
Land............................... $ 167,095 $ 167,095
Buildings.......................... 30 years 609,949 609,949
Office and shop equipment.......... 7 years 1,105,165 1,128,581
Computer equipment................. 5 years 338,578 698,583
Vehicles........................... 5 years 301,212 384,970
Furniture and fixtures............. 7 years 185,340 186,572
Leasehold improvements............. 20 years 10,410 50,481
------------ ------------
2,717,749 3,226,231
Less -- Accumulated depreciation... 1,930,157 2,103,085
------------ ------------
Property and equipment, net........ $ 787,592 $ 1,123,146
============ ============
F-63
<PAGE>
STEAM SUPPLY GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
4. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS:
Activity in the Company's allowance for doubtful accounts for fiscal 1994,
1995 and 1996 consists of the following:
1994 1995 1996
--------- --------- ---------
Balance at beginning of fiscal
year................................. $ 15,000 $ 15,000 $ 15,000
Amounts charged (credited) to results
of operations...................... -- -- (5,920)
--------- --------- ---------
Balance at end of fiscal year........ $ 15,000 $ 15,000 $ 9,080
========= ========= =========
Accounts payable and accrued expenses as of October 31, 1995 and 1996
consist of the following:
1995 1996
------------ ------------
Accounts payable..................... $ 1,167,042 $ 1,170,774
Bank overdraft....................... 167,710 106,332
Accrued expenses..................... 74,726 64,624
------------ ------------
$ 1,409,478 $ 1,341,730
============ ============
5. RELATED-PARTY NOTES RECEIVABLE:
The Company's related-party notes receivable consist of the following:
OCTOBER 31
----------------------
1995 1996
---------- ----------
Unsecured notes receivable from
stockholders, balloon payment,
including accrued interest at prime
(8.25% at October 31, 1996), due
October 1999.......................... $ 306,842 $ 393,440
Note receivable from King-Ries
Partnership ("KRP"), an affiliate
related through common ownership, due
in monthly installments of $2,800
including interest at 12.5%,
collateralized by a second mortgage on
certain real estate, due November
1998.................................. 209,822 202,012
Unsecured note receivable from KRP, due
in monthly installments of $1,370
including interest at prime, due April
2002.................................. 81,876 72,019
Unsecured note receivable from KRP due
in monthly installments of $508
including interest at 6%, due October
1997.................................. 11,457 5,900
---------- ----------
609,997 673,371
Less -- Current portion................. 22,266 25,500
---------- ----------
$ 587,731 $ 647,871
========== ==========
Interest income on these related-party notes totaled $44,000, $54,000 and
$60,000 for fiscal 1994, 1995 and 1996, respectively.
6. PREFERRED STOCK:
Puget has 896 shares of $793 par value cumulative preferred stock
outstanding. The preferred shares yield a 7 percent dividend. The shares are
callable and redeemable at a 10 percent premium over par value. The shares can
be called or redeemed at any time by Puget. The preferred shares have no voting
rights, except in the event of nonpayment of dividends for two years, in which
case the preferred stock shall vote with the common stock on a one share, one
vote basis.
F-64
<PAGE>
STEAM SUPPLY GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
7. DEBT:
SHORT-TERM DEBT
The Company's short-term debt consists of the following:
OCTOBER 31
--------------------------
1995 1996
------------ ------------
Revolving line of credit with Union Bank
of California, N.A. ("Union Bank"),
bearing interest at prime plus 0.50%
(8.75% at October 31, 1996), $2.2
million facility, collateralized by
substantially all the Company's assets
and guaranteed by stockholders,
expired April 1997 (See Note 11)...... $ 1,532,000 $ 2,062,683
Note payable to Union Bank with interest
payable monthly at prime plus 0.75%
(9.00% at October 31, 1996),
collateralized
by real estate and guaranteed by
stockholders, refinanced as
long-term debt during 1996............ 900,000 --
------------ ------------
$ 2,432,000 $ 2,062,683
============ ============
The Company's long-term debt consists of the following:
OCTOBER 31
--------------------------
1995 1996
------------ ------------
Note payable to Union Bank in monthly
installments of $9,640 including
interest at prime plus 0.75% (9.00% at
October 31, 1996), collateralized by
real estate and guaranteed by
stockholders, due May 2003............ $ -- $ 1,094,907
Note payable to Union Bank in monthly
installments of $8,860 plus interest
at prime plus 0.75% (9.00% at October
31, 1996), collateralized by computer
equipment and guaranteed by
stockholders, due July 1, 2000........ -- 398,420
Note payable to Union Bank in monthly
installments of $4,200 plus interest
at prime plus 0.50% (8.75% at October
31, 1996), collateralized by
substantially all assets and
guaranteed by stockholders, due April
1998.................................. 124,800 74,400
Note payable to West One Bank, due in
monthly installments of $3,425
including interest at 9.25%,
collateralized by real estate,
refinanced with Union Bank during
1996.................................. 148,204 --
Note payable to former stockholder in
monthly installments of $9,463
including interest at 10%,
collateralized by common stock,
subordinated to notes payable to Union
Bank, due June 2001................... 484,314 416,124
Unsecured notes payable to stockholders,
subordinated to notes payable to Union
Bank, balloon payment including
interest at prime, due October 1999... 306,842 393,440
------------ ------------
1,064,160 2,377,291
Less -- Current portion................. 148,000 245,400
------------ ------------
$ 916,160 $ 2,131,891
============ ============
F-65
<PAGE>
STEAM SUPPLY GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
Maturities of the Company's long-term debt are as follows:
Year ending October 31 --
1997............................... $ 245,400
1998............................... 228,200
1999............................... 607,800
2000............................... 197,840
2001............................... 84,300
Thereafter......................... 1,013,751
------------
$ 2,377,291
============
Interest expense totaled $288,922, $336,041 and $363,030 in fiscal 1994,
1995 and 1996, respectively. Management estimates that the fair value of its
debt obligations approximates the carrying value at October 31, 1996.
At October 31, 1996, the Company's debt with Union Bank was subject to a
credit agreement that included certain restrictive covenants relating to such
matters as dividends and capital expenditures. This credit agreement also
required the Company to maintain minimum levels of profitability, net worth and
working capital ratios. At October 31, 1996, the Company was in compliance with
or had received waivers of noncompliance with respect to all restrictive
covenants.
On May 1, 1997, the Company and Union Bank entered into an amended and
restated credit agreement. The amended and restated credit agreement modified
the repayment terms and covenants of the Company's debt. See Note 11 for
additional information respecting the amended and restated credit agreement.
8. INCOME TAXES:
The Company's income tax provision included the following:
YEAR ENDED OCTOBER 31
---------------------------------
1994 1995 1996
---------- ---------- ---------
Federal, current........................ $ -- $ 88,100 $ 25,900
State, current.......................... 2,185 9,800 7,200
---------- ---------- ---------
$ 2,185 $ 97,900 $ 33,100
========== ========== =========
Actual income tax expense differs from income tax expense computed by
applying the U.S. federal statutory corporate tax rate to income before income
taxes as follows:
YEAR ENDED OCTOBER 31
------------------------
1994 1995 1996
---- ---- ----
Statutory federal income tax rate....... (34 )% 34 % 34 %
Valuation allowance..................... 34 -- --
Effect of federal graduated tax rate.... -- (5 ) (5 )
State and local taxes................... (1 ) 3 5
Effect of nondeductible meals and
entertainment......................... -- 4 11
Effect of excluding S Corporation....... -- 11 (8 )
Other................................... -- (1 ) 2
---- ---- ----
Effective income tax rate............... (1 )% 46 % 39 %
==== ==== ====
F-66
<PAGE>
STEAM SUPPLY GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
Deferred income taxes consist of the following:
OCTOBER 31
----------------------
1995 1996
---------- ----------
Current deferred tax assets.......... $ 24,400 $ 29,600
Noncurrent deferred tax assets....... 36,800 33,800
Valuation allowance.................. (52,200) (52,200)
---------- ----------
Total deferred tax
assets.................. 9,000 11,200
---------- ----------
Current deferred tax liabilities..... -- (3,100)
Noncurrent deferred tax
liabilities.......................... (9,000) (8,100)
---------- ----------
Total deferred tax
liabilities............. (9,000) (11,200)
---------- ----------
Net deferred tax
liabilities............. $ -- $ --
========== ==========
9. COMMITMENTS AND CONTINGENCIES:
OPERATING LEASES
The Company leases warehouse space, office facilities and vehicles under
noncancelable operating leases which expire at various dates. Future minimum
lease payments at October 31, 1996 are as follows:
1997................................. $ 247,200
1998................................. 214,700
1999................................. 121,600
2000................................. 114,000
2001................................. 114,000
Rent expense for fiscal 1994, 1995 and 1996 was $247,600, $240,300 and
$259,200, respectively.
The Company leases certain facilities from stockholders and KRP under
operating leases. Rental expense related to these leases was $138,800 for fiscal
1994 and 1995 and $139,200 for fiscal 1996.
EMPLOYEE BENEFIT PLANS
The Company sponsors a 401(k) profit-sharing plan covering all eligible
employees. The plan allows employee contributions, whereby eligible employees
may elect to defer a portion of their annual compensation. The Company matches
50 percent of each employee's contribution up to 4 percent of employee
compensation. Additional contributions by the Company are discretionary. The
Company contributed approximately $50,600, $28,400 and $28,800 for fiscal 1994,
1995 and 1996, respectively.
LITIGATION
In the ordinary course of its business, the Company has become involved in
various legal matters. Management does not believe that the outcome of these
legal matters will have a material effect on the Company's combined financial
position or results of operations.
10. DISTRIBUTION AGREEMENTS:
The Company purchases, sells and services various products under service
and distribution agreements with its major suppliers. Approximately 39 percent
of revenues during each of fiscal 1994, 1995 and 1996 was derived from sales of
products purchased or services rendered under the agreement with one supplier.
The agreements with major suppliers are generally cancelable by the suppliers
upon 30 to 60 days' notice. Management does not anticipate cancellation of these
agreements.
F-67
<PAGE>
STEAM SUPPLY GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
11. SUBSEQUENT EVENTS:
DEBT REFINANCING
On May 1, 1997, the Company entered an agreement to amend and restate its
credit agreement with Union Bank. This new credit facility provides a line of
credit due November 1, 1997, which is subject to a borrowing base with maximum
borrowings of $2,500,000. Interest accrues at Union Bank's reference rate. This
new credit facility has certain restrictive covenants similar to the previous
credit facility.
SALE OF COMMON SHARES
Effective August 1, 1997, the stockholders of the Company sold the common
equity ownership of the Company to Innovative Valve Technologies, Inc. for total
consideration in excess of the recorded amounts of the Company's net assets.
F-68
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To ICE/VARCO Group:
We have audited the accompanying combined balance sheets of ICE/VARCO Group
(as defined in Note 1) as of September 30, 1996 and 1997 and the related
combined statements of operations, stockholder's deficit and cash flows each of
the three years in the period ended September 30, 1997 and for the month ended
October 31, 1997. 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 in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the combined financial statements referred to above present
fairly, in all material respects, the combined financial position of ICE/VARCO
Group as of September 30, 1996 and 1997, and the combined results of their
operations and their combined cash flows for each of the three years in the
period ended September 30, 1997 and for the month ended October 31, 1997, in
conformity with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Houston, Texas
March 10, 1998
F-69
<PAGE>
ICE/VARCO GROUP
COMBINED BALANCE SHEETS
SEPTEMBER 30
--------------------------
1996 1997
------------ ------------
ASSETS
CURRENT ASSETS:
Cash............................ $ 46,117 $ 136,429
Accounts receivable, net of
allowance of $47,713
and $38,494.................... 1,747,859 1,600,972
Inventories..................... 1,275,325 1,369,258
Prepaid expenses and other
current assets.................. 16,350 24,738
------------ ------------
Total current assets....... 3,085,651 3,131,397
PROPERTY AND EQUIPMENT, net.......... 979,926 952,760
INTANGIBLES AND OTHER NONCURRENT
ASSETS, net........................ 238,450 212,532
------------ ------------
$ 4,304,027 $ 4,296,689
============ ============
LIABILITIES AND STOCKHOLDER'S DEFICIT
CURRENT LIABILITIES:
Short-term debt................. $ 769,300 $ 1,371,553
Current maturities of long-term
debt............................ 203,961 85,205
Accounts payable and accrued
expenses........................ 1,695,637 1,603,252
------------ ------------
Total current
liabilities.................. 2,668,898 3,060,010
AMOUNTS DUE TO AFFILIATES, net....... 1,284,288 1,136,246
LONG-TERM DEBT, net of current
maturities......................... 457,229 202,144
STOCKHOLDER'S DEFICIT................ (106,388) (101,711)
------------ ------------
$ 4,304,027 $ 4,296,689
============ ============
The accompanying notes are an integral part of these combined financial
statements.
F-70
<PAGE>
ICE/VARCO GROUP
COMBINED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
ONE MONTH
YEAR ENDED ENDED
SEPTEMBER 30 OCTOBER 31
-------------------------------------------- ----------
1995 1996 1997 1997
------------ -------------- -------------- ----------
<S> <C> <C> <C> <C>
REVENUES................................ $ 9,128,032 $ 12,744,465 $ 14,395,081 $1,390,773
COST OF OPERATIONS...................... 6,517,438 9,452,991 11,075,524 1,125,676
------------ -------------- -------------- ----------
Gross profit....................... 2,610,594 3,291,474 3,319,557 265,097
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES.............................. 2,346,117 2,858,694 3,240,315 225,401
------------ -------------- -------------- ----------
Income (loss) from operations...... 264,477 432,780 79,242 39,696
OTHER INCOME (EXPENSE):
Interest, net...................... (117,886) (112,105) (144,435) (2,917)
Other.............................. 11,123 (13,861) 73,697 6,669
------------ -------------- -------------- ----------
(106,763) (125,966) (70,738) 3,752
------------ -------------- -------------- ----------
INCOME (LOSS) BEFORE INCOME TAXES....... 157,714 306,814 8,504 43,448
PROVISION (BENEFIT) FOR INCOME TAXES.... 70,100 138,359 3,827 19,552
------------ -------------- -------------- ----------
NET INCOME.............................. $ 87,614 $ 168,455 $ 4,677 $ 23,896
============ ============== ============== ==========
</TABLE>
The accompanying notes are an integral part of these combined financial
statements.
F-71
<PAGE>
ICE/VARCO GROUP
COMBINED STATEMENTS OF STOCKHOLDER'S DEFICIT
BALANCE, September 30, 1995............. $ (274,843)
Net income......................... 168,455
------------
BALANCE, September 30, 1996............. (106,388)
Net income......................... 4,677
------------
BALANCE, September 30, 1997............. (101,711)
Net income......................... 23,896
------------
BALANCE, October 31, 1997............... $ (77,815)
============
The accompanying notes are an integral part of these combined financial
statements.
F-72
<PAGE>
ICE/VARCO GROUP
COMBINED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
ONE MONTH
YEAR ENDED ENDED
SEPTEMBER 30 OCTOBER 31
---------------------------------------- -----------
1995 1996 1997 1997
------------ ------------ ------------ -----------
<S> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income............................ $ 87,614 $ 168,455 $ 4,677 $ 23,896
Adjustments to reconcile net income
(loss) to net cash provided by
(used in) operating activities --
Depreciation and amortization.... 131,635 147,011 203,295 16,832
(Increase) decrease in --
Accounts receivable........... (376,087) 60,629 146,887 (397,807)
Inventories................... (433,685) (212,374) (93,933) (122,709)
Prepaid expenses and other
assets..................... (29,490) 2,435 6,751 (3,306)
Increase (decrease) in --
Accounts payable and accrued
expenses................... 446,100 (35,671) (92,385) 252,427
Amounts due to affiliates,
net........................ (254,719) 259,758 (148,042) 2,033,964
------------ ------------ ------------ -----------
Net cash provided by (used
in) operating
activities............... (428,632) 390,243 27,250 1,803,297
------------ ------------ ------------ -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property and equipment... (99,181) (214,915) (165,350) (3,233)
Business acquisition, net of cash
acquired........................... -- 45,516 -- --
------------ ------------ ------------ -----------
Net cash used in investing
activities............... (99,181) (169,399) (165,350) (3,233)
------------ ------------ ------------ -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings of debt.................... 552,940 3,856 602,253 (1,371,553)
Repayments of debt.................... (47,721) (198,144) (373,841) (217,824)
------------ ------------ ------------ -----------
Net cash provided by (used
in) financing
activities............... 505,219 (194,288) 228,412 (1,589,377)
------------ ------------ ------------ -----------
NET INCREASE (DECREASE) IN CASH......... (22,594) 26,556 90,312 210,687
CASH, beginning of period............... 42,155 19,561 46,117 136,429
------------ ------------ ------------ -----------
CASH, end of period..................... $ 19,561 $ 46,117 $ 136,429 $ 347,116
============ ============ ============ ===========
</TABLE>
The accompanying notes are an integral part of these combined financial
statements.
F-73
<PAGE>
ICE/VARCO GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS
1. BUSINESS, ORGANIZATION AND BASIS OF PRESENTATION:
The accompanying combined balance sheets and related combined statements of
operations, stockholder's deficit and cash flows include Industrial Controls &
Equipment, Inc. ("ICE"), Valve Actuation & Repair Company, Inc. ("VARCO")
and BAS Technical Services Inc. ("BAS"). ICE, VARCO and BAS (collectively,
"ICE/VARCO Group" or the "Company") are wholly owned subsidiaries of
Synergistic Partners Inc. ("SPI"), a Pennsylvania corporation. As ICE/VARCO
Group has common ownership and management, the financial statements of these
entities have been combined for financial reporting purposes. All significant
intercompany transactions and balances have been eliminated in combination.
ICE (a Pennsylvania corporation) and VARCO (a West Virginia corporation)
are principally engaged in the business of repairing, testing and distributing
manual, control and safety relief valves, related parts and instrumentation to
the pulp and paper, chemical, power generation and petrochemical industries in
Pennsylvania and West Virginia. BAS (a West Virginia corporation), acquired in
August 1996 in a purchase transaction, provides value-added electrical and
mechanical engineering services and electrical panel construction, primarily to
the same customer base served by ICE and VARCO.
In July 1997, pursuant to a definitive agreement, SPI agreed to sell the
entire equity ownership of the Company to Innovative Valve Technologies, Inc.
("Invatec"), for total consideration in excess of the recorded amounts of the
Company's net assets. Among other customary matters, the definitive agreement
provides for the removal of the Company's guarantees of debt obligations of SPI,
its affiliates and subsidiaries. The closing of the transaction was completed on
the successful consummation of Invatec's initial public offering in October
1997.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
CASH
Cash payments for interest during fiscal 1995, 1996 and 1997 were
approximately $108,000, $96,000 and $144,000, respectively.
INVENTORIES
Inventories are valued at the lower of cost or market utilizing the
average-cost method applied on a first-in, first-out ("FIFO") basis and
primarily consist of valves, valve parts and related instrumentation.
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost, and depreciation is computed
using the straight-line method over the estimated useful lives of the assets.
The costs of major improvements are capitalized. Expenditures for maintenance,
repairs and minor improvements are expensed as incurred. When property and
equipment are sold or retired, the cost and related accumulated depreciation are
removed and the resulting gain or loss is included in results of operations.
INCOME TAXES
The Company was included in SPI's consolidated federal income tax returns
for 1995, 1996, and 1997. The Company follows the liability method of accounting
for income taxes in accordance with Statement of Financial Accounting Standards
("SFAS") No. 109, "Accounting for Income Taxes." Under this method, deferred
income taxes are recorded based upon differences between the financial reporting
and tax bases of assets and liabilities and are measured using the enacted tax
rates and laws that will be in effect when the underlying assets or liabilities
are recovered or settled.
F-74
<PAGE>
ICE/VARCO GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
INTANGIBLES AND OTHER NONCURRENT ASSETS
Intangibles and other noncurrent assets primarily consists of goodwill and
is amortized using the straight-line method over 15 years. Accumulated
amortization at September 30, 1996 and 1997 was $7,883 and $22,811,
respectively. There was no accumulated amortization at September 30, 1995.
REVENUE RECOGNITION
Service revenue is recognized upon performance, and sales revenue is
recognized as products are shipped or delivered.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
NEW ACCOUNTING PRONOUNCEMENT
Effective October 1, 1995, the Company adopted SFAS No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of." Accordingly, in the event that facts and circumstances indicate that
property and equipment, and intangible or other noncurrent assets, may be
impaired, an evaluation of recoverability would be performed. If an evaluation
is required, the estimated future undiscounted cash flows associated with the
asset are compared to the asset's carrying amount to determine if a write-down
to market value or discounted cash flow value is necessary. Adoption of this
standard did not have a material effect on the combined financial position or
results of operations of the Company.
3. ACQUISITION OF BAS:
In August 1996, SPI acquired BAS in a purchase transaction. The financial
results of the acquisition have been included in the combined financial
statements of the Company from the date of acquisition. The pro forma effect of
the acquisition was not material to the results of operations or financial
position of the Company. The fair value of assets acquired is summarized as
follows:
Cash.................................... $ 45,516
Accounts receivable..................... 144,869
Property and equipment.................. 57,593
Intangible assets....................... 223,926
Accounts payable........................ (67,707)
Accrued liabilities..................... (86,031)
Debt assumed............................ (218,166)
------------
Net assets acquired................ 100,000
Less -- Debt issued..................... (100,000)
------------
Cash paid for acquisition.......... $ --
============
F-75
<PAGE>
ICE/VARCO GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
4. PROPERTY AND EQUIPMENT:
Property and equipment consists of the following:
<TABLE>
<CAPTION>
SEPTEMBER 30
ESTIMATED ----------------------------------------
USEFUL LIVES 1995 1996 1997
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Buildings............................... 31 years $ 193,047 $ 193,047 $ 193,047
Vehicles................................ 3-5 years 129,295 162,797 211,813
Furniture and fixtures.................. 5-7 years 129,573 148,007 150,352
Office equipment........................ 5-7 years 237,757 344,993 402,612
Machinery and equipment................. 5-7 years 299,163 325,798 345,921
Leasehold improvements.................. 7-31 years 317,456 385,900 422,147
------------ ------------ ------------
1,306,291 1,560,542 1,725,892
Less -- Accumulated depreciation........ (455,806) (580,616) (773,132)
------------ ------------ ------------
Property and equipment, net............. $ 850,485 $ 979,926 $ 952,760
============ ============ ============
</TABLE>
5. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS:
Activity in the Company's allowance for doubtful accounts for the years
ended September 30, 1995, 1996 and 1997 consists of the following:
1995 1996 1997
--------- --------- ---------
Balance at beginning of year......... $ 17,000 $ 40,000 $ 47,713
Additions charged to results of
operations........................... 23,000 7,713 (9,219)
--------- --------- ---------
Balance at end of year............... $ 40,000 $ 47,713 $ 38,494
========= ========= =========
Accounts payable and accrued expenses as of September 30, 1995, 1996 and
1997 consist of the following:
1995 1996 1997
------------ ------------ ------------
Accounts payable..................... $ 1,243,559 $ 1,252,390 $ 1,147,221
Accrued salaries, bonuses and
profit-sharing..................... 297,344 335,292 363,153
Income and other taxes payable....... 36,667 107,955 92,878
------------ ------------ ------------
$ 1,577,570 $ 1,695,637 $ 1,603,252
============ ============ ============
6. SHORT-TERM DEBT:
The Company had three revolving credit arrangements. ICE and VARCO had
revolving credit facilities with a bank which was secured by accounts receivable
and inventory. These facilities bore interest, payable monthly, at a rate of
prime plus 0.50% (9.25% at September 30, 1996). A total of approximately
$733,000 and $594,000 was drawn for the two facilities at September 30, 1995 and
1996, respectively. BAS was party to a $200,000 commercial revolving note
agreement, which was secured by accounts receivable and bore interest, due
monthly, at prime plus 1.50% (9.75% at September 30, 1996). At September 30,
1996, approximately $175,000 was drawn on the line.
In July 1997, SPI refinanced its revolving credit arrangements, including
the Company's revolving facilities. The new facilities have terms similar to the
previous revolving credit agreements. The new facilities mature in July 1999,
bear interest at prime plus 0.25% (8.75% at September 30, 1997) and are secured
by accounts receivable and inventory.
F-76
<PAGE>
ICE/VARCO GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
In connection with the purchase of the Company by Invatec in October 1997,
certain debt of the Company was paid and replaced with borrowings from Invatec.
These borrowings with Invatec are classified as amounts due to affiliates at
October 31, 1997.
7. LONG-TERM DEBT:
Long-term debt consists of the following:
SEPTEMBER 30
--------------------------------------
1995 1996 1997
------------ ------------ ----------
Note payable to former SPI
stockholder, monthly installments
of principal and interest in the
amount of $4,805, bearing interest
at 9.50%, secured by general
Company assets..................... $ 150,000 $ 127,861 $ 80,312
Note payable to a bank, monthly
principal installments of $3,300,
bearing interest at 7.75% secured
by general Company assets.......... 192,500 152,900 --
Note payable to a government agency,
monthly installments of principal
and interest of $1,592, bearing
interest at 5.01% secured by
general Company assets............. 139,702 128,643 115,618
Notes payable, due in monthly
installments, bearing interest from
8.00% to 9.50%, secured by certain
vehicles and certain equipment..... 89,308 146,786 23,000
Unsecured note payable to
employee-consultant and former
owner of BAS, annual installments
of principal and interest in the
amount of $13,011, bearing interest
at 8.00%........................... -- 75,000 68,419
Unsecured note payable to former
employee, noninterest-bearing...... -- 30,000 --
------------ ------------ ----------
571,510 661,190 287,349
Less -- Current maturities........... (116,155) (203,961) (85,205)
------------ ------------ ----------
Total long-term debt............ $ 455,355 $ 457,229 $ 202,144
============ ============ ==========
Management estimates that the fair value of its debt obligations
approximates the historical value at September 30, 1995, 1996 and 1997.
Maturities of long-term debt are as follows:
Year ending September 30 --
1998............................ $ 85,205
1999............................ 61,963
2000............................ 23,977
2001............................ 25,463
2002............................ 27,044
Thereafter...................... 63,697
----------
$ 287,349
==========
F-77
<PAGE>
ICE/VARCO GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
8. INCOME TAXES:
The Company is included in the consolidated federal income tax return of
SPI. SPI pays the federal income tax liability for all its subsidiaries for any
period in which an amount is due. Each subsidiary, including each company within
ICE/VARCO Group, pays to SPI the amount of federal income tax liability it would
have owed on a stand-alone basis, and SPI pays to each subsidiary the amount of
any federal income tax benefit attributable to each such subsidiary.
Federal and state income tax provision (benefit) are as follows:
YEAR ENDED SEPTEMBER 30
---------------------------------
1995 1996 1997
---------- ---------- ---------
Federal --
Current............................ $ 69,500 $ 108,592 $ 2,917
Deferred........................... (13,200) 3,157 336
State --
Current............................ 16,600 26,053 515
Deferred........................... (2,800) 557 59
---------- ---------- ---------
$ 70,100 $ 138,359 $ 3,827
========== ========== =========
Actual income tax provision differs from income tax provision computed by
applying the U.S. federal statutory corporate tax rate to income before income
taxes as follows:
YEAR ENDED
SEPTEMBER 30
-------------------------------
1995 1996 1997
--------- --------- ---------
Statutory federal income tax rate....... 34% 34% 34%
State and local taxes................... 6 6 6
Effect of nondeductible meals and
entertainment......................... 4 5 5
--------- --------- ---------
Effective income tax rate............... 44% 45% 45%
========= ========= =========
Deferred income taxes consist of the following:
YEAR ENDED SEPTEMBER 30
----------------------------------
1995 1996 1997
---------- ---------- ----------
Current deferred tax assets............. $ 16,000 $ 12,286 $ 11,891
Noncurrent deferred tax assets.......... -- -- --
---------- ---------- ----------
Net deferred tax assets............ $ 16,000 $ 12,286 $ 11,891
========== ========== ==========
9. COMMITMENTS AND CONTINGENCIES:
LITIGATION
In the ordinary course of its business, the Company has become involved in
various legal matters. Management does not believe that the outcome of these
legal matters will have a material effect on the Company's combined financial
position or results of operations.
GUARANTEES OF AFFILIATED COMPANIES' DEBT
The Company's assets are pledged as collateral under certain credit
arrangements entered into by SPI and certain of its other subsidiaries, and the
Company is jointly and severally liable for any defaults under those
arrangements. SPI's new credit facilities include covenants requiring that
certain financial ratios be maintained. Management does not believe, if the
Company were required to perform under such guarantees,
F-78
<PAGE>
ICE/VARCO GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
any losses from these agreements would be material. To date, the Company has not
been required to perform under these guarantees.
In connection with the purchase of the Company by Invatec in October 1997,
the guarantees referred to above were terminated.
LEASES
Aggregate minimum rental commitments under significant noncancelable
operating leases with lease terms in excess of one year as of September 30, 1997
are as follows:
Year ending September 30 --
1998............................... $ 85,200
1999............................... 85,200
2000............................... 85,200
2001............................... 85,200
2002............................... 85,200
Thereafter......................... 619,300
------------
$ 1,045,300
============
The Company incurred total rental expense of approximately $132,000,
$131,000 and $135,000 for fiscal 1995, 1996 and 1997, respectively.
EMPLOYEE BENEFITS
The Company participates in a profit sharing plan offered by SPI to all
salaried employees who have met certain length-of-service requirements.
Employees can contribute up to 4 percent of their salary, which is matched 100
percent by the Company. For fiscal 1995, 1996 and 1997 the Company also made
discretionary contributions. The Company's total contributions for fiscal 1995,
1996 and 1997 were $92,000, $133,000 and $119,000, respectively.
10. RELATED-PARTY TRANSACTIONS:
As described in Note 1, the Company is a wholly owned part of an affiliated
group of companies owned by SPI operating in the valve repair and distribution
services business. Certain selling, general and administrative expenses incurred
by SPI have been allocated to the Company for fiscal 1995, 1996 and 1997 in the
amounts of approximately $228,000, $263,000 and $548,000, respectively. The
Company also purchases and sells valve and valve repair parts, materials and
services from other subsidiaries of SPI. During fiscal 1996 and 1997, its total
purchases from the other SPI subsidiaries approximated $311,000 and $506,000,
respectively. Total sales by the Company to the other SPI subsidiaries
approximated $1,527,000 and $1,917,000.
11. SIGNIFICANT CUSTOMER:
During fiscal 1995, 1996 and 1997, the Company had one customer that
accounted for approximately 13%, 19% and 13%, respectively, of the Company's
combined revenues.
F-79
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Stockholders of
GSV, Inc.:
We have audited the accompanying balance sheets of GSV, Inc. (the Company)
as of December 31, 1995 and 1996, and the related statements of operations,
stockholders' equity, and cash flows for each of the three years in the period
ended December 31, 1996. We have also audited the statements of operations,
stockholders' equity, and cash flows of GSV, Inc. for the two months ended
February 28, 1997. 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 in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of the Company as of December
31, 1995 and 1996, and the results of its operations and its cash flows for each
of the three years in the period ended December 31, 1996, and for the two months
ended February 28, 1997, in conformity with generally accepted accounting
principles.
Deloitte & Touche LLP
Orlando, Florida
February 20, 1998
F-80
<PAGE>
GSV, INC.
BALANCE SHEETS
DECEMBER 31
--------------------------
1995 1996
------------ ------------
ASSETS
CURRENT ASSETS:
Cash............................ $ 11,059 $ 10,084
Accounts receivable............. 1,509,218 1,612,693
Inventories..................... 833,332 1,079,493
Prepaid expenses and other
current assets................. 27,883 32,213
------------ ------------
Total current assets....... 2,381,492 2,734,483
------------ ------------
PROPERTY AND EQUIPMENT -- Net........ 1,058,170 1,177,044
------------ ------------
OTHER NONCURRENT ASSETS.............. 43,976 27,869
------------ ------------
$ 3,483,638 $ 3,939,396
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Note payable to bank............ $ 362,000 $ 426,000
Accounts payable................ 615,484 494,688
Accrued expenses and other
current liabilities............ 402,669 253,444
Stockholders' distributions
payable........................ -- 200,500
Current maturities of long-term
debt........................... 183,378 193,372
------------ ------------
Total current
liabilities.................. 1,563,531 1,568,004
------------ ------------
LONG-TERM DEBT -- Less current
portion.............................. 384,214 267,899
------------ ------------
Total liabilities.......... 1,947,745 1,835,903
------------ ------------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Common stock, $.10 par value,
5,000,000 shares authorized,
3,865,489 shares issued........ 386,549 386,549
Additional paid-in capital...... 765,211 765,211
Retained earnings............... 384,133 951,733
Treasury stock -- at cost,
10,000 shares.................. -- --
------------ ------------
Total stockholders'
equity....................... 1,535,893 2,103,493
------------ ------------
$ 3,483,638 $ 3,939,396
============ ============
See notes to financial statements.
F-81
<PAGE>
GSV, INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 TWO MONTHS
------------------------------------------ ENDED
1994 1995 1996 FEBRUARY 28, 1997
------------ ------------ -------------- -----------------
<S> <C> <C> <C> <C>
REVENUES............................. $ 8,922,688 $ 8,653,737 $ 10,227,117 $ 1,636,716
COST OF OPERATIONS................... 7,190,890 6,661,559 7,688,077 1,258,288
------------ ------------ -------------- -----------------
Gross profit............... 1,731,798 1,992,178 2,539,040 378,428
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES........................... 1,521,956 1,481,704 1,276,112 243,132
------------ ------------ -------------- -----------------
INCOME FROM OPERATIONS............... 209,842 510,474 1,262,928 135,296
OTHER INCOME (EXPENSES):
Interest expense................ (92,558) (98,073) (78,365) (17,040)
Other, net...................... 9,740 (31,130) 5,817 (3,209)
------------ ------------ -------------- -----------------
Other income (expenses),
net........................ (82,818) (129,203) (72,548) (20,249)
------------ ------------ -------------- -----------------
NET INCOME........................... $ 127,024 $ 381,271 $ 1,190,380 $ 115,047
============ ============ ============== =================
</TABLE>
See notes to financial statements.
F-82
<PAGE>
GSV, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
ADDITIONAL TOTAL
COMMON PAID-IN RETAINED TREASURY STOCKHOLDERS'
STOCK CAPITAL EARNINGS STOCK EQUITY
---------- ---------- ------------ -------- -------------
<S> <C> <C> <C> <C> <C>
BALANCE, JANUARY 1, 1994................ $ 386,549 $ 765,211 $ 1,162 $ -- $ 1,152,922
Net income......................... -- -- 127,024 -- 127,024
Distributions to stockholders...... -- -- (125,324) -- (125,324)
---------- ---------- ------------ -------- -------------
BALANCE, DECEMBER 31, 1994.............. 386,549 765,211 2,862 -- 1,154,622
Net income......................... -- -- 381,271 -- 381,271
---------- ---------- ------------ -------- -------------
BALANCE, DECEMBER 31, 1995.............. 386,549 765,211 384,133 -- 1,535,893
Net income......................... -- -- 1,190,380 -- 1,190,380
Distributions to stockholders...... -- -- (622,780) -- (622,780)
---------- ---------- ------------ -------- -------------
BALANCE, DECEMBER 31, 1996.............. $ 386,549 $ 765,211 $ 951,733 -- 2,103,493
Net income......................... -- -- 115,047 -- 115,047
Distributions to stockholders...... -- -- (24,500) -- (24,500)
Purchase of treasury stock......... -- -- -- (20,000) (20,000)
---------- ---------- ------------ -------- -------------
BALANCE, FEBRUARY 28, 1997.............. $ 386,549 $ 765,211 $ 1,042,280 $(20,000) $ 2,174,040
========== ========== ============ ======== =============
</TABLE>
See notes to financial statements.
F-83
<PAGE>
GSV, INC.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 TWO MONTHS
----------------------------------- ENDED
1994 1995 1996 FEBRUARY 28, 1997
---------- ---------- ----------- -----------------
<S> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income....................... $ 127,024 $ 381,271 $ 1,190,380 $ 115,047
Adjustments to reconcile net
income to net cash provided by
operating activities:
Depreciation and
amortization................ 419,723 433,441 186,986 34,106
(Gain) loss on sale of property
and equipment............... 3,504 -- (789) 4,873
(Increase) decrease in accounts
receivable.................. (287,517) 136,231 (103,475) 267,138
(Increase) decrease in
inventories................. 65,160 (58,546) (246,161) (393,423)
(Increase) decrease in prepaid
expenses and other current
assets...................... 9,770 10,700 (4,330) (46,668)
Increase (decrease) in accounts
payable..................... 422,422 (351,578) (2,539) 328,227
Increase (decrease) in accrued
expenses and other current
liabilities................. 85,247 (26,427) 68 24,703
---------- ---------- ----------- -----------------
Net cash provided by
operating activities...... 845,333 525,092 1,020,140 334,003
---------- ---------- ----------- -----------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and
equipment...................... (616,772) (143,234) (292,414) (53,003)
Proceeds from sale of property
and equipment.................. 3,596 -- 3,450 --
Purchase of intangible assets.... (32,062) -- -- (3,010)
---------- ---------- ----------- -----------------
Net cash used in investing
activities................ (645,238) (143,234) (288,964) (56,013)
---------- ---------- ----------- -----------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Increase (decrease) in cash
overdrafts..................... (255,355) 232,375 (118,257) 165,243
Loan proceeds.................... 463,115 -- 83,704 --
Principal payments on long-term
debt........................... (165,263) (201,776) (190,025) (36,026)
Payments under covenant
obligations.................... (348,354) (116,118) (149,293) (82,944)
Net change in demand note payable
to bank........................ 181,000 (164,000) 64,000 (86,000)
Stockholder distributions........ (75,194) (125,324) (422,280) (225,000)
Purchase of treasury stock....... -- -- -- (20,000)
---------- ---------- ----------- -----------------
Net cash used in financing
activities................ (200,051) (374,843) (732,151) (284,727)
---------- ---------- ----------- -----------------
NET INCREASE (DECREASE) IN CASH...... 44 7,015 (975) (6,737)
CASH, BEGINNING OF PERIOD............ 4,000 4,044 11,059 10,084
---------- ---------- ----------- -----------------
CASH, END OF PERIOD.................. $ 4,044 $ 11,059 $ 10,084 $ 3,347
========== ========== =========== =================
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION -- Cash paid during the
period for interest................ $ 87,465 $ 102,711 $ 78,573 $ 15,008
========== ========== =========== =================
SUPPLEMENTAL DISCLOSURE OF NONCASH
FINANCING AND INVESTING
ACTIVITIES -- Accrual of
distributions payable to
stockholders....................... $ 125,324 $ -- $ 200,500 $ --
========== ========== =========== =================
</TABLE>
See notes to financial statements.
F-84
<PAGE>
GSV, INC.
NOTES TO FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 1994, 1995, AND 1996
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION AND OPERATIONS
GSV, Inc. (the "Company") is incorporated in the State of Florida and is
comprised of three operating divisions: Gould Machine, Southern Valve, and Ash
Tool. Gould Machine provides contract machining, Southern Valve repairs and
sells valves, and Ash Tool sells certain parts primarily associated with the
industries serviced by the other divisions. All interdivisional transactions and
balances have been eliminated from the financial statements. The Company's main
office is located in Tampa, Florida. On April 26, 1994, the Company purchased a
new facility and moved the Southern Valve Division to this facility in September
of 1994. Costs incurred in moving this division were charged to operations and
amounted to $60,931 for the year ended December 31, 1994. Each division's
business activity is primarily in the State of Florida.
ACCOUNTS RECEIVABLE
There is no allowance for doubtful accounts at December 31, 1995 or 1996.
INVENTORIES
Inventories at December 31, 1995 and 1996 consist of the following:
1995 1996
---------- ------------
Raw materials........................... $ 691,950 $ 791,056
Work-in-process......................... 51,792 206,206
Tool division supplies.................. 89,590 82,231
---------- ------------
Total.............................. $ 833,332 $ 1,079,493
========== ============
Inventories are valued at the lower of cost (first-in, first-out) or
market. Work-in-process inventories are comprised of direct materials, direct
labor, and manufacturing overhead.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation is computed using
both accelerated and straight-line methods, using useful lives ranging from 3 to
40 years.
CASH OVERDRAFTS
Accounts payable in the accompanying balance sheets are inclusive of cash
overdrafts of approximately $316,900 and $198,700 as of December 31, 1995 and
December 31, 1996, respectively.
REVENUE RECOGNITION
Revenue is recognized as services are performed and products are shipped.
INCOME TAXES
The stockholders of the Company elected in 1990 to be taxed under the
Subchapter S provisions of the Internal Revenue Code. Under this section,
taxable income and applicable tax credits are deemed to flow to the individual
stockholders, and no state or federal income taxes are imposed on the Company.
Accordingly, no provision has been made for income taxes.
Under current tax law, whenever an enterprise converts from a taxable C
corporation status to S status, the enterprise may be subject to a corporate
level tax if certain built-in gains present at the date of conversion are
realized within a ten-year period following the conversion elections. The
built-in gain remaining as of February 28, 1997 from the Company's conversion to
S status was approximately $907,000. Management does not presently anticipate
that the assets subject to built-in gains tax will be sold or disposed of within
the ten-year period.
F-85
<PAGE>
GSV, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
FAIR VALUE OF FINANCIAL INSTRUMENTS
Management of the Company believes that the carrying value of its financial
instruments is a reasonable estimate of their fair value.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
NEW ACCOUNTING PRONOUNCEMENT
Effective January 1, 1995, the Company adopted Statement of Financial
Accounting Standards No. 121, ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS
AND FOR LONG-LIVED ASSETS TO BE DISPOSED OF. Accordingly, in the event that
facts and circumstances indicate that property and equipment, and intangible or
other assets, may be impaired, an evaluation of recoverability would be
performed. If an evaluation is required, the estimated future undisclosed cash
flows associated with the asset are compared to the asset's carrying amount to
determine if a write-down to market value or discounted cash flow value is
necessary. Adoption of Statement 121 did not have an effect on the financial
position or results of operations of the Company.
2. PROPERTY AND EQUIPMENT
Property and equipment consist of the following at December 31, 1995 and
1996:
1995 1996
-------------- --------------
Land and building.................... $ 384,634 $ 521,918
Machinery and equipment.............. 2,105,916 2,160,202
Vehicles............................. 505,767 536,012
Leasehold improvements............... 349,976 349,976
Office furniture and equipment....... 168,705 175,735
-------------- --------------
Total cost........................... 3,514,998 3,743,843
Less accumulated depreciation........ (2,456,828) (2,566,799)
-------------- --------------
Total........................... $ 1,058,170 $ 1,177,044
============== ==============
Property and equipment depreciation and amortization expense for the years
ended December 31, 1994, 1995, 1996 and for the two months ended February 28,
1997, amounted to $164,631, $180,311, $170,879 and $32,197, respectively.
3. OTHER ASSETS
COVENANTS NOT-TO-COMPETE
On December 19, 1990, the Company entered into four covenants
not-to-compete with four former shareholders, who are also current employees.
Under the terms of the agreements, total noncompete payments amounting to
$1,161,181 are payable to the employees under a cash available formula. Each
agreement was for a sixty-month period which expired December 31, 1995.
Amortization of the covenants, which is included in selling, general, and
administrative expenses in the statements of operations, is computed on the
straight-line method over the covenant period, and amounted to $232,236,
$232,237, $-0-and $-0- for the years ended December 31, 1994, 1995, 1996 and for
the two months ended February 28, 1997, respectively.
F-86
<PAGE>
GSV, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
4. NOTE PAYABLE TO BANK
The Company has available two lines of credit from a financial institution
in the total maximum amount of $600,000, payable on demand and renewable
annually. Draws under the lines are limited to the lesser of 75% of accounts
receivable with balances outstanding less than 90 days or $600,000. The lines
bear interest at the prime rate plus 1% (9.25% at December 31, 1996), with
interest payable monthly. The lines are collateralized by accounts receivable,
inventory, and an unconditional guarantee from the Company's president. The
balances outstanding at December 31, 1995 and 1996 amounted to $362,000 and
$426,000, respectively.
5. LONG-TERM DEBT
Long-term debt at December 31, 1995 and 1996 consists of the following:
1995 1996
---------- ----------
Note payable in the original amount
of $535,000, interest at prime plus
.5% (8.75% at December 31, 1996),
collateralized by all equipment,
inventory, a life insurance policy,
and a cross-collateralization which
was secured in favor of the line of
credit, payable in monthly
principal installments of $8,925
plus interest, final principal
payment due in full on or before
February 15, 1999.................. $ 339,150 $ 232,050
Mortgage note payable in the original
amount of $168,000, interest at 7%,
collateralized by land and
buildings with a carrying amount of
approximately $503,000 at December
31, 1996, payable in monthly
installments of principal and
interest of $3,327 through May
1999............................... 120,994 88,516
Installment loans, interest at
varying rates of 7.5% to 11.3%
collateralized by vehicles with a
carrying amount of approximately
$159,000 at December 31, 1996,
payable in monthly installments of
principal and interest totaling
$7,891 through October 2000, when
final payment is due on the last
installment note................... 107,448 140,705
---------- ----------
567,592 461,271
Less current maturities.............. 183,378 193,372
---------- ----------
$ 384,214 $ 267,899
========== ==========
Maturities of long-term debt are as
follows:
1997............................ $ 193,372
1998............................ 193,033
1999............................ 64,158
2000............................ 10,708
----------
Total........................... $ 461,271
==========
F-87
<PAGE>
GSV, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
6. OPERATING LEASE COMMITMENTS
The Company is obligated under an operating lease agreement for its
facility in Tampa which expires in June 2001. The Company is obligated on
various equipment leases which expire from 1997 to 2000. At December 31, 1996,
the future minimum rental payments required under the leases are as follows:
YEAR ENDING
DECEMBER 31,
---------------
1997.................................. $ 67,711
1998.................................. 68,028
1999.................................. 69,433
2000.................................. 70,006
2001.................................. 34,000
----------
$ 309,178
==========
Total rent expense charged to operations under these agreements amounted to
$64,172, $61,786, $62,634 and $12,253 during 1994, 1995, 1996 and for the two
months ended February 28, 1997, respectively.
7. EMPLOYEE BENEFIT PLANS
401(K) SAVINGS PLAN
The Company sponsors a participant directed cash deferred 401(k) plan (the
Plan). Employees who are employed for one full year and complete 1,000 hours of
service may elect to participate in the Plan. The Company elected to match
employee deferrals at a rate of 40% on the first 6% during 1994, 33 1/3% on the
first 6% during 1995 and 50% on the first 6% deferred during 1996 and 1997,
which amounted to $38,553, $27,046, $45,288 and $8,588 during 1994, 1995, 1996
and for the two months ended February 28, 1997, respectively.
HEALTH INSURANCE PLAN
On November 1, 1995, the Company began providing certain benefits to
employees under a health insurance plan. Prior to November 1, 1995, the Company
provided healthcare benefits under a plan that was primarily self-funded except
for two reinsurance policies. Healthcare expenses incurred under these plans
amounted to $173,254, $234,019, $116,175 and $23,109 during 1994, 1995, 1996 and
for the two months ended February 28, 1997, respectively.
8. COMMITMENTS AND CONTINGENCIES
On November 20, 1992, the Company was notified by the EPA of its potential
liability for the generation of potentially hazardous waste under the Bay Drum
Superfund Site. Management believes that the Company is a de micromis potential
responsible party at the site, and any liability of the Company related to this
matter is insignificant. The Company is one of hundreds of parties which have
been identified with the site. The Company received no correspondence from any
parties regarding this matter during 1994, 1995, 1996 or 1997.
9. SIGNIFICANT CUSTOMERS
No customers generated greater than 10% of the Company's revenue for the
years ended December 31, 1994 and 1995. Two customers generated revenue to the
Company representing 11% and 10%, respectively, of total revenues for the year
ended December 31, 1996. One customer generated revenue to the Company
representing 11.7% of total revenues for the two months ended February 28, 1997.
10. SUBSEQUENT EVENT
Effective March 1, 1997, the entire equity ownership of the Company was
acquired by The Safe Seal Company for total consideration in excess of the
recorded amounts of the Company's net assets.
F-88
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Plant Specialties, Inc.:
We have audited the accompanying balance sheets of Plant Specialties, Inc.
(a Louisiana corporation), as of October 31, 1995 and 1996, and the related
statements of operations, stockholders' equity and cash flows for each of the
three years in the period ended October 31, 1996 and for the period from
November 1, 1996 through May 31, 1997. 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 in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Plant Specialties, Inc., as
of October 31, 1995 and 1996, and the results of its operations and its cash
flows for each of the three years in the period ended October 31, 1996 and for
the period from November 1, 1996 through May 31, 1997, in conformity with
generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Houston, Texas
March 10, 1998
F-89
<PAGE>
PLANT SPECIALTIES, INC.
BALANCE SHEETS
OCTOBER 31
--------------------------
1995 1996
------------ ------------
ASSETS
CURRENT ASSETS:
Cash............................... $ 6,019 $ 18,811
Accounts receivable, net of
allowance of $24,924 and
$21,168........................... 2,484,846 2,111,448
Inventories........................ 1,485,546 1,681,887
Prepaid expenses and other current
assets............................ 76,220 87,291
------------ ------------
Total current assets.......... 4,052,631 3,899,437
PROPERTY AND EQUIPMENT, net............. 2,102,708 2,003,345
OTHER NONCURRENT ASSETS................. 147,917 160,960
------------ ------------
$ 6,303,256 $ 6,063,742
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued
expenses.......................... $ 1,300,821 $ 1,061,771
Short-term debt.................... 1,809,984 1,428,453
Current maturities of long-term
debt.............................. 163,230 112,392
------------ ------------
Total current liabilities..... 3,274,035 2,602,616
LONG-TERM DEBT, net of current
maturities............................ 579,149 916,332
DEFERRED INCOME TAXES................... 102,830 89,233
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Common stock, no par value,
2,000,000 shares authorized,
1,000,000 shares issued and
outstanding....................... 8,500 8,500
Retained earnings.................. 2,338,742 2,447,061
------------ ------------
Total stockholders' equity.... 2,347,242 2,455,561
------------ ------------
$ 6,303,256 $ 6,063,742
============ ============
The accompanying notes are an integral part of these financial statements.
F-90
<PAGE>
PLANT SPECIALTIES, INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31 SEVEN MONTHS
------------------------------------------ ENDED
1994 1995 1996 MAY 31, 1997
------------ -------------- ------------ ------------
<S> <C> <C> <C> <C>
REVENUES................................ $ 9,687,963 $ 11,526,424 $ 8,500,741 $6,699,460
COST OF OPERATIONS...................... 6,429,080 7,377,424 5,620,159 4,058,814
------------ -------------- ------------ ------------
Gross profit.................. 3,258,883 4,149,000 2,880,582 2,640,646
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES.............................. 2,590,125 2,991,155 2,489,494 1,659,679
------------ -------------- ------------ ------------
Income (loss) from
operations................. 668,758 1,157,845 391,088 980,967
OTHER INCOME (EXPENSE):
Interest, net...................... (149,556) (186,706) (188,116) (143,638)
Other.............................. 22,010 23,768 29,622 13,892
------------ -------------- ------------ ------------
(127,546) (162,938) (158,494) (129,746)
------------ -------------- ------------ ------------
INCOME (LOSS) BEFORE INCOME TAXES....... 541,212 994,907 232,594 851,221
PROVISION FOR INCOME TAXES.............. 202,590 374,605 124,275 321,612
------------ -------------- ------------ ------------
NET INCOME.............................. $ 338,622 $ 620,302 $ 108,319 $ 529,609
============ ============== ============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-91
<PAGE>
PLANT SPECIALTIES, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
COMMON STOCK
----------------- RETAINED
SHARES AMOUNT EARNINGS TOTAL
------ ------ ---------- ------------
<S> <C> <C> <C> <C>
BALANCE, October 31, 1993............... 1,000 $8,500 $1,379,818 $ 1,388,318
Net income......................... -- -- 338,622 338,622
------ ------ ---------- ------------
BALANCE, October 31, 1994............... 1,000 8,500 1,718,440 1,726,940
Net income......................... -- -- 620,302 620,302
------ ------ ---------- ------------
BALANCE, October 31, 1995............... 1,000 8,500 2,338,742 2,347,242
Net income......................... -- -- 108,319 108,319
------ ------ ---------- ------------
BALANCE, October 31, 1996............... 1,000 8,500 2,447,061 2,455,561
Net income......................... -- -- 529,609 529,609
------ ------ ---------- ------------
BALANCE, May 31, 1997................... 1,000 $8,500 $2,976,670 $ 2,985,170
====== ====== ========== ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-92
<PAGE>
PLANT SPECIALTIES, INC.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE
YEAR ENDED OCTOBER 31 SEVEN MONTHS
----------------------------------------------- ENDED
1994 1995 1996 MAY 31, 1997
-------------- --------------- -------------- -------------
<S> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income............................ $ 338,622 $ 620,302 $ 108,319 $ 529,609
Adjustments to reconcile net income
(loss) to net cash provided by
(used in) operating activities --
Depreciation and amortization.... 351,000 384,430 412,725 237,721
(Increase) decrease in --
Accounts receivable, net...... (438,502) (453,231) 373,398 (654,025)
Inventories................... 3,142 (222,584) (196,341) (208,337)
Prepaid expenses and other
assets..................... (151,791) 141,405 (24,114) (189,046)
Increase (decrease) in accounts
payable, accrued expenses and
deferred income taxes......... (42,259) 190,620 (252,647) (93,672)
-------------- --------------- -------------- -------------
Net cash provided by (used in)
operating activities....... 60,212 660,942 421,340 (377,750)
-------------- --------------- -------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property and equipment... (571,036) (993,985) (313,564) (166,129)
-------------- --------------- -------------- -------------
Net cash used in investing
activities................. (571,036) (993,985) (313,564) (166,129)
-------------- --------------- -------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings of debt.................... 220,618 651,231 947,966 72,333
Repayments of debt.................... (278,202) (424,756) (661,620) (65,562)
Borrowings (repayments) on line of
credit facility.................... 566,953 107,586 (381,330) 653,406
-------------- --------------- -------------- -------------
Net cash provided by (used in)
financing activities....... 509,369 334,061 (94,984) 660,177
-------------- --------------- -------------- -------------
NET INCREASE (DECREASE) IN CASH......... (1,455) 1,018 12,792 116,298
CASH, beginning of period............... 6,456 5,001 6,019 18,811
-------------- --------------- -------------- -------------
CASH, end of period..................... $ 5,001 $ 6,019 $ 18,811 $ 135,109
============== =============== ============== =============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-93
<PAGE>
PLANT SPECIALTIES, INC.
NOTES TO FINANCIAL STATEMENTS
1. BUSINESS AND ORGANIZATION:
Plant Specialties, Inc. (the "Company"), was incorporated in the State of
Louisiana in 1972 and is principally engaged in the business of selling new
valves, instrumentation automation, engineering services and repair services for
valves and instrumentation to the petrochemical and oil field industries. The
Company's fiscal year-end is October 31.
On June 16, 1997, the stockholders of the Company sold the entire equity
ownership of the Company to Innovative Valve Technologies, Inc. for total
consideration in excess of the recorded amounts of the Company's net assets.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost, and depreciation is computed
using the straight-line method over the estimated useful lives of the assets.
The costs of major improvements are capitalized. Expenditures for maintenance,
repairs and minor improvements are expensed as incurred. When property and
equipment are sold or retired, the cost and related accumulated depreciation are
removed and the resulting gain or loss is included in results of operations. The
Company capitalized interest related to construction-in-progress projects which
amounted to approximately $39,000 and $21,000 in fiscal 1995 and 1996,
respectively.
INCOME TAXES
The Company follows the liability method of accounting for income taxes in
accordance with Statement of Financial Accounting Standards ("SFAS") No. 109.
Under this method, deferred income taxes are recorded based upon differences
between the financial reporting and tax bases of assets and liabilities and are
measured using the enacted tax rates and laws that will be in effect when the
underlying assets or liabilities are realized or settled.
REVENUE RECOGNITION
Revenue is recognized as services are completed and products are shipped.
INVENTORIES
Inventories are valued at the lower of cost or market utilizing the
last-in, first-out method and primarily consist of raw materials and finished
goods. If the first-in, first-out method had been used for costing inventories,
the valuation assigned to inventories would have been approximately $1,700,000
and $1,902,000 as of October 31, 1995 and 1996, respectively.
CASH
Cash payments for interest during fiscal 1994, 1995 and 1996 were
approximately $155,000, $231,000 and $208,000, respectively. Cash payments for
taxes during fiscal 1994, 1995 and 1996 were approximately $172,000, $206,000
and $159,000, respectively.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
F-94
<PAGE>
PLANT SPECIALTIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
NEW ACCOUNTING PRONOUNCEMENT
Effective November 1, 1995, the Company adopted SFAS No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of." Accordingly, in the event that facts and circumstances indicate that
property and equipment, and intangible or other assets, may be impaired, an
evaluation of recoverability would be performed. If an evaluation is required,
the estimated future undiscounted cash flows associated with the asset are
compared to the asset's carrying amount to determine if a write-down to market
value or discounted cash flow value is necessary. Adoption of this standard did
not have a material effect on the financial position or results of operations of
the Company.
3. PROPERTY AND EQUIPMENT:
Property and equipment consists of the following:
ESTIMATED OCTOBER 31
USEFUL ------------------------------
LIVES 1995 1996
----------- -------------- --------------
Buildings......................... 15-30 years $ 381,056 $ 896,422
Vehicles.......................... 5 years 405,073 411,527
Furniture and fixtures............ 3-5 years 22,957 22,957
Machinery and equipment........... 5 years 1,872,871 2,554,336
Leasehold improvements............ 20 years 614,615 649,508
Construction in progress.......... -- 925,114 --
-------------- --------------
4,221,686 4,534,750
Less -- Accumulated depreciation.. (2,118,978) (2,531,405)
-------------- --------------
Property and equipment, net....... $ 2,102,708 $ 2,003,345
============== ==============
4. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS:
Activity in the Company's allowance for doubtful accounts consists of the
following:
OCTOBER 31
--------------------------------
1994 1995 1996
--------- ---------- ---------
Balance at beginning of year............ $ 16,022 $ 19,728 $ 24,924
Additions (recovery) charged (credited)
to results of operations.............. 3,706 89,654 (1,019)
Deductions for uncollectible accounts
written off........................... -- (84,458) (2,737)
--------- ---------- ---------
$ 19,728 $ 24,924 $ 21,168
========= ========== =========
Inventories at LIFO consist of the following:
OCTOBER 31
--------------------------
1995 1996
------------ ------------
Raw material and work in process........ $ 1,422,617 $ 850,733
Finished goods.......................... 62,929 831,154
------------ ------------
$ 1,485,546 $ 1,681,887
============ ============
F-95
<PAGE>
PLANT SPECIALTIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Accounts payable and accrued expenses consist of the following:
OCTOBER 31
--------------------------
1995 1996
------------ ------------
Accounts payable, trade................. $ 603,877 $ 484,945
Accrued compensation and benefits....... 137,575 69,329
Accrued insurance....................... 49,963 56,463
Income taxes............................ 262,210 195,410
Other accrued expenses.................. 247,196 255,624
------------ ------------
$ 1,300,821 $ 1,061,771
============ ============
5. SHORT- AND LONG-TERM DEBT:
Short-term debt consists of a revolving credit facility with a bank, due
May 20, 1997, with interest due monthly at prime (8.25% at October 31, 1996).
The revolving debt is secured by accounts receivable and inventory. The
available borrowing capacity at October 31, 1996 was $2,000,000.
Long-term debt consists of the following:
OCTOBER 31
--------------------------
1995 1996
------------ ------------
Notes payable, monthly installments of
principal and interest of $34,000,
bearing interest at 7.50% to 11.00%,
collateralized by land, vehicles and
equipment............................. $ 742,379 $ 1,028,724
Less -- Current maturities......... (163,230) (112,392)
------------ ------------
Long-term debt.......................... $ 579,149 $ 916,332
============ ============
Pursuant to the revolving credit facility agreement, the Company is subject
to financial covenants relating to net worth, leverage ratios and debt service
coverage. At October 31, 1995 and 1996, the Company was in compliance with these
covenants.
The aggregate maturities of the long-term debt as of October 31, 1996 are
as follows:
1997................................. $ 112,392
1998................................. 108,358
1999................................. 110,997
2000................................. 86,527
2001................................. 610,450
Thereafter........................... --
------------
$ 1,028,724
============
Interest expense recorded pursuant to these debt agreements totaled
approximately $155,000, $192,000 and $213,000 in fiscal 1994, 1995 and 1996,
respectively. Management estimates that the fair value of its debt obligations
approximates historical value at October 31, 1996.
F-96
<PAGE>
PLANT SPECIALTIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
6. INCOME TAXES:
The Company's provision (benefit) for income taxes is as follows:
YEAR ENDED OCTOBER 31
----------------------------------
1994 1995 1996
---------- ---------- ----------
Federal --
Current......................... $ 190,004 $ 362,993 $ 112,912
Deferred........................ (1,810) (15,138) (11,252)
State --
Current......................... 14,534 27,758 23,679
Deferred........................ (138) (1,008) (1,064)
---------- ---------- ----------
$ 202,590 $ 374,605 $ 124,275
========== ========== ==========
Actual income tax expense differs from income tax expense computed by
applying the U.S. federal statutory corporate tax rate to income before income
tax as follows:
YEAR ENDED OCTOBER 31
-------------------------------
1994 1995 1996
--- --- ---
Statutory federal income tax rate.... 34% 34% 34%
State and local taxes................ 3 3 3
Effect of nondeductible meals and
entertainment........................ -- -- 10
Other................................ -- 1 6
--- --- ---
Effective income tax rate............ 37% 38% 53%
=== === ===
Deferred income taxes consist of the following:
OCTOBER 31
---------------------
1995 1996
---------- ---------
Current deferred tax assets............. $ 8,000 $ 6,403
Noncurrent deferred tax assets.......... -- --
---------- ---------
Total deferred tax assets..... 8,000 6,403
---------- ---------
Current deferred tax liabilities........ -- --
Noncurrent deferred tax liabilities..... 102,830 89,233
---------- ---------
Total deferred tax
liabilities................ 102,830 89,233
---------- ---------
Net deferred tax
liabilities................ $ 94,830 $ 82,830
========== =========
7. EMPLOYEE BENEFIT PLANS:
The Company sponsors a 401(k) profit-sharing plan covering all eligible
employees. The plan allows employee contributions under Section 401(k) of the
Internal Revenue Code. Eligible employees may elect to contribute up to 20
percent of eligible compensation on a pretax basis, subject to IRS limits. The
Company provides matching contributions of 50 percent of employee contributions
up to 6 percent of employee compensation. The Company contributed approximately
$36,000, $39,000 and $38,000 for fiscal 1994, 1995 and 1996, respectively.
F-97
<PAGE>
PLANT SPECIALTIES, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
8. COMMITMENTS AND CONTINGENCIES:
OPERATING LEASES
The Company leases warehouse, office facilities and vehicles under
operating leases which expire at various dates through 1999. Future minimum
lease payments at October 31, 1996 are as follows:
1997.................................... $ 140,943
1998.................................... 42,535
1999.................................... 24,813
Rent expense for fiscal 1994, 1995 and 1996 was approximately $289,000,
$361,000 and $240,000, respectively.
The Company leases its facilities from its president and majority
stockholder under an operating lease requiring monthly payments of approximately
$16,000 expiring April 30, 1997. The Company is responsible for all taxes,
insurance and maintenance. Rent expense pursuant to this lease for fiscal 1994,
1995 and 1996 was $191,000, $197,000 and $197,000, respectively.
LITIGATION
In the ordinary course of its business, the Company has become involved in
various legal matters. Management does not believe that the outcome of these
legal matters will have a material effect on the Company's financial position or
results of operations.
9. RELATED-PARTY TRANSACTIONS:
As of October 31, 1995 and 1996, the Company had a note receivable from the
president and majority stockholder of the Company in the amount of $80,080 and
$82,237, respectively. The note bears interest at 7 percent, payable in monthly
installments of $1,000.
10. REVENUES FROM SIGNIFICANT CUSTOMERS:
During fiscal 1996, five customers accounted for approximately 54 percent
of the Company's revenues. During fiscal 1995, five customers accounted for
approximately 67 percent of the Company's revenues. During fiscal 1994, four
customers accounted for approximately 77 percent of the Company's revenues.
F-98
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Southern Valve Group:
We have audited the accompanying combined balance sheet of Southern Valve
Group (as defined in Note 1) as of October 31, 1996, and the related combined
statements of operations, stockholders' equity and cash flows for each of the
two years in the period ended October 31, 1997. These combined financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the combined financial statements referred to above present
fairly, in all material respects, the combined financial position of Southern
Valve Group as of October 31, 1996, and the results of their operations and
their cash flows for each of the two years in the period ended October 31, 1997
in conformity with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Houston, Texas
March 10, 1998
F-99
<PAGE>
SOUTHERN VALVE GROUP
COMBINED BALANCE SHEETS
OCTOBER 31,
1996
-----------
ASSETS
CURRENT ASSETS:
Cash............................... $ 21,874
Accounts receivable, net of
allowance of $11,861.............. 473,581
Inventories........................ 1,301,987
Notes receivable................... 168,779
Prepaid expenses and other current
assets............................ 22,362
-----------
Total current assets.......... 1,988,583
PROPERTY AND EQUIPMENT, net............. 1,055,716
-----------
$ 3,044,299
===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current maturities of long-term
debt.............................. $ 517,105
Accounts payable and accrued
expenses.......................... 309,570
Note payable to stockholder........ 76,994
-----------
Total current liabilities..... 903,669
LONG-TERM DEBT, net of current
maturities............................ 1,363,166
DEFERRED INCOME TAXES................... 12,913
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Common stock, $10.00 par value,
1,000 shares authorized, 1,000
shares issued and outstanding..... 10,000
Additional paid-in capital......... 5,860
Retained earnings.................. 748,691
-----------
Total stockholders' equity.... 764,551
-----------
$ 3,044,299
===========
The accompanying notes are an integral part of these combined financial
statements.
F-100
<PAGE>
SOUTHERN VALVE GROUP
COMBINED STATEMENTS OF OPERATIONS
YEAR ENDED
OCTOBER 31
----------------------------
1996 1997
------------ -----------
REVENUES............................. $ 4,404,717 $ 4,033,016
COST OF OPERATIONS................... 2,962,337 2,712,458
------------ -----------
Gross profit.................... 1,442,380 1,320,558
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES........................... 1,175,487 1,180,360
------------ -----------
Income from operations.......... 266,893 140,198
OTHER INCOME (EXPENSE), net:
Interest........................... (177,123) (170,790)
Other.............................. 45,571 (38,500)
------------ -----------
(131,552) (209,290)
------------ -----------
INCOME BEFORE INCOME TAXES........... 135,341 (69,092)
PROVISION FOR INCOME TAXES........... 29,056 (14,510)
------------ -----------
NET INCOME (LOSS).................... $ 106,285 $ (54,582)
============ ===========
The accompanying notes are an integral part of these combined financial
statements.
F-101
<PAGE>
SOUTHERN VALVE GROUP
COMBINED STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL
----------------- PAID-IN RETAINED
SHARES AMOUNT CAPITAL EARNINGS TOTAL
------ ------- ---------- --------- ----------
<S> <C> <C> <C> <C> <C>
BALANCE, October 31, 1995............ 1,000 $10,000 $5,860 $ 642,406 $ 658,266
Net income...................... -- -- -- 106,285 106,285
------ ------- ---------- --------- ----------
BALANCE, October 31, 1996............ 1,000 10,000 5,860 748,691 764,551
Net loss........................ -- -- -- (54,582) (54,582)
------ ------- ---------- --------- ----------
BALANCE, October 31, 1997............ 1,000 $10,000 $5,860 $ 694,109 $ 709,969
====== ======= ========== ========= ==========
</TABLE>
The accompanying notes are an integral part of these combined financial
statements.
F-102
<PAGE>
SOUTHERN VALVE GROUP
COMBINED STATEMENTS OF CASH FLOWS
YEAR ENDED
OCTOBER 31
--------------------------
1996 1997
------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)..................... $ 106,285 $ (54,582)
Adjustments to reconcile net income to
net cash provided by (used in)
operating activities --
Depreciation and amortization.... 155,874 143,750
Loss on disposal of assets....... -- 38,500
Change in deferred income
taxes........................... 2,589 --
(Increase) decrease in --
Accounts receivable........... (188,676) 32,534
Inventories................... 60,920 (320,820)
Notes receivable.............. (10,957) 118,731
Prepaid expenses and other
current assets............ 17,094 (20,658)
Increase (decrease) in --
Accounts payable and accrued
expenses.................. 96,166 (72,238)
------------ ------------
Net cash provided by (used in)
operating activities............ 239,295 (134,783)
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property and equipment... (308,362) (6,420)
------------ ------------
Net cash used in investing
activities...................... (308,362) (6,420)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Borrowings of debt.................... 738,512 482,814
Repayments of debt.................... (752,633) (121,838)
------------ ------------
Net cash provided by (used in)
financing activities............ (14,121) 360,976
------------ ------------
NET INCREASE (DECREASE) IN CASH......... (83,188) 219,773
CASH, beginning of period............... 105,062 21,874
------------ ------------
CASH, end of period..................... $ 21,874 $ 241,647
============ ============
The accompanying notes are an integral part of these combined financial
statements.
F-103
<PAGE>
SOUTHERN VALVE GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS
1. BUSINESS AND ORGANIZATION:
The accompanying combined balance sheets and related combined statements of
operations, stockholders' equity and cash flows include Southern Valve Service,
Inc. ("Southern Valve") and 55 Leasing and Sales Company, Inc. ("55
Leasing"). As Southern Valve and 55 Leasing (together, "Southern Valve Group"
or the "Company") have common ownership and management, the financial
statements of each entity have been consolidated for financial reporting
purposes. All intercompany transactions and balances have been eliminated.
Southern Valve was incorporated in the State of Alabama in 1984 and is
principally engaged in the business of repairing, testing and selling manual,
control and safety relief valves to customers in the pulp and paper, chemical,
power generation and petrochemical industries in Alabama, Mississippi and
Georgia.
55 Leasing is an Alabama S Corporation organized in 1995 primarily to lease
equipment to Southern Valve.
In June 1997, pursuant to a definitive agreement, the stockholders of the
Company agreed to sell the entire equity ownership of the Company to Innovative
Valve Technologies, Inc. (Invatec), for total consideration in excess of the
recorded amounts of the Company's net assets. The transaction closed on the
consummation of Invatec's initial public offering.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
PROPERTY AND EQUIPMENT
Property and equipment is recorded at cost, and depreciation is computed
using the straight-line method over the estimated useful lives of the assets.
The costs of major improvements are capitalized. Expenditures for maintenance,
repairs and minor improvements are expensed as incurred. When property and
equipment is sold or retired, the cost and related accumulated depreciation is
removed and the resulting gain or loss is included in results of operations.
INCOME TAXES
The Company follows the liability method of accounting for income taxes in
accordance with Statement of Financial Accounting Standards ("SFAS") No. 109.
Under this method, deferred income taxes are recorded based upon differences
between the financial reporting and tax bases of assets and liabilities and are
measured using the enacted tax rates and laws that will be in effect when the
underlying assets or liabilities are recovered or settled. 55 Leasing is an S
Corporation for federal income tax purposes and, in accordance with the S
Corporation provisions of the Internal Revenue Code, the earnings of 55 Leasing
are included in the personal tax returns of its stockholders. Accordingly, no
federal or state income tax expense is recorded in the accompanying consolidated
financial statements for 55 Leasing.
REVENUE RECOGNITION
Service revenue is recognized upon completion of the service, and product
sales revenue is recognized as products are shipped or delivered.
CASH
Cash payments for interest during fiscal 1996 were approximately $178,000.
Cash payments for taxes during fiscal 1996 were approximately $15,000.
INVENTORIES
Inventories are valued at the lower of cost or market utilizing the
first-in, first-out method and primarily consist of valves and valve parts.
F-104
<PAGE>
SOUTHERN VALVE GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
NEW ACCOUNTING PRONOUNCEMENT
Effective November 1, 1995, the Company adopted SFAS No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of." Accordingly, in the event that facts and circumstances indicate that
property and equipment, and intangible or other assets, may be impaired, an
evaluation of recoverability would be performed. If an evaluation is required,
the estimated future undiscounted cash flows associated with the asset are
compared to the asset's carrying amount to determine if a writedown to market
value or discounted cash flow value is necessary. Adoption of this standard did
not have a material effect on the financial position or results of operations of
the Company.
3. PROPERTY AND EQUIPMENT:
Property and equipment consists of the following:
ESTIMATED OCTOBER 31,
USEFUL LIVES 1996
------------ -----------
Land.................................... -- $ 171,682
Buildings and improvements.............. 18-40 years 533,015
Vehicles................................ 5 years 433,900
Furniture and fixtures.................. 5-10 years 180,782
Machinery and equipment................. 5-10 years 688,398
-----------
2,007,777
Less -- Accumulated depreciation........ (952,061)
-----------
$ 1,055,716
===========
4. DETAIL OF CERTAIN BALANCE SHEET ACCOUNTS:
Activity in the Company's allowance for doubtful accounts for the year
ended October 31, 1996, consists of the following:
Balance at beginning of year....... $ 8,759
Additions charged to results of
operations........................ 3,102
---------
Balance at end of year............. $ 11,861
=========
Accounts payable and accrued expenses as of October 31, 1996, consist of
the following:
Accounts payable................... $ 177,383
Customer deposits.................. 30,943
Accrued employee compensation and
benefits........................... 27,447
Other accrued expenses............. 73,797
----------
$ 309,570
==========
F-105
<PAGE>
SOUTHERN VALVE GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
5. DEBT:
As of October 31, 1996, debt consists of the following:
Lines of credit, aggregate borrowing
capacity of $350,000 with a commercial
bank, bearing interest at prime plus
1.00% (9.25% at October 31, 1996),
collateralized by inventory and
accounts receivable................... $ 190,000
Notes payable to banks, monthly
installments of principal and interest
in the amount of $34,264, bearing
interest at 7.00% to 10.00%,
collateralized by accounts receivable,
inventory, land, equipment and
vehicles.............................. 1,690,271
Unsecured demand note, payable to
stockholder, bearing interest at
8.00%................................. 76,994
------------
1,957,265
Less -- Current maturities.............. (594,099)
------------
Total long-term debt, net of
current maturities................ $ 1,363,166
============
In January 1997, the Company refinanced its notes payable to banks. The
refinanced debt is payable to one bank, bearing interest of 8.50% with monthly
installments of principal and interest. There was no significant change in
amount of the debt financed and no gain or loss on debt extinguishment to be
recognized. In addition, the Company's lines of credit have been replaced by a
$300,000 line of credit; as of April 18, 1997, there was no outstanding balance
due under the line of credit.
The aggregate maturities of the refinanced debt and unsecured demand note
are as follows:
For the Year Ending October 31 --
1997............................... $ 105,064
1998............................... 151,856
1999............................... 993,226
2000............................... 92,545
2001............................... 46,637
Thereafter......................... 465,145
------------
$ 1,854,473
============
Interest expense recorded pursuant to these debt agreements totaled
approximately $177,000 in fiscal 1996. Management estimates that the fair value
of its debt obligations approximates the historical value at October 31, 1996.
6. INCOME TAXES:
The income tax provision for fiscal 1996 is as follows:
Federal --
Current............................ $ 22,366
Deferred........................... 2,243
State --
Current............................ 4,101
Deferred........................... 346
---------
$ 29,056
=========
F-106
<PAGE>
SOUTHERN VALVE GROUP
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
Actual income tax expense differs from income tax expense computed by
applying the U.S. federal statutory corporate tax rate to income before income
taxes for fiscal 1996, as follows:
Statutory federal income tax rate....... 34%
Effect of federal graduated tax rate.... (12)
State and local taxes................... 3
Effect of S Corporation election........ (7)
Effect of nondeductible meals and
entertainment......................... 2
Other................................... 2
---
Effective income tax rate............... 22%
===
Deferred income taxes as of October 31, 1996, consist of the following:
Current deferred tax assets.......... $ 7,143
----------
Total deferred tax
assets................ 7,143
----------
Noncurrent deferred tax
liabilities.......................... (12,913)
----------
Total deferred tax
liabilities........... (12,913)
----------
Net deferred tax
liabilities........... $ (5,770)
==========
7. COMMITMENTS AND CONTINGENCIES:
LITIGATION
In the ordinary course of its business, the Company has become involved in
various legal matters. Management does not believe that the outcome of these
legal matters will have a material effect on the Company's consolidated
financial position or results of operations.
8. RELATED-PARTY TRANSACTIONS:
As of October 31, 1996, the Company had a note receivable from a
stockholder in the amount of $161,279. The note receivable bears interest
equivalent to the short-term federal treasury rate and is payable on demand.
9. SIGNIFICANT CUSTOMERS:
For fiscal 1996, the Company had two customers that comprised approximately
19% and 12%, respectively, of total revenues.
F-107
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders of Dalco, Inc.:
We have audited the accompanying balance sheets of Dalco, Inc. (a Kentucky
corporation), as of October 31, 1996 and 1997, and the related statements of
operations, stockholders' equity and cash flows for each of the two years in the
period ended October 31, 1997. 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 in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Dalco, Inc., as of October
31, 1996 and 1997, and the results of its operations and its cash flows for each
of the two years in the period ended October 31, 1997 in conformity with
generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Houston, Texas
December 23, 1997
F-108
<PAGE>
DALCO, INC.
BALANCE SHEETS
OCTOBER 31
--------------------------
1996 1997
------------ ------------
ASSETS
CURRENT ASSETS:
Cash............................... $ 68,547 $ 240,810
Accounts receivable................ 1,362,091 1,281,887
Inventories........................ 976,790 1,142,249
Prepaid expenses and other current
assets.......................... 8,168 7,993
------------ ------------
Total current assets....... 2,415,596 2,672,939
PROPERTY AND EQUIPMENT, net.......... 375,782 308,496
OTHER NONCURRENT ASSETS, net......... 35,783 45,542
------------ ------------
Total assets............... $ 2,827,161 $ 3,026,977
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued
expenses........................ $ 643,068 $ 696,593
Line of credit..................... 187,000 100,000
Current maturities of long-term
debt............................ 72,787 78,801
Current portion of obligations
under capital leases............ 19,856 21,670
------------ ------------
Total current
liabilities.................. 922,711 897,064
------------ ------------
LONG-TERM DEBT, net of current
maturities......................... 124,288 45,493
OBLIGATIONS UNDER CAPITAL LEASES, net
of current portion................. 58,209 36,541
------------ ------------
182,497 82,034
------------ ------------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Common stock, no par value, 2,000
shares authorized, 300 shares
issued and outstanding.......... 1,050 1,050
Treasury stock..................... (22,054) (22,054)
Retained earnings.................. 1,742,957 2,068,883
------------ ------------
Total stockholders'
equity....................... 1,721,953 2,047,879
------------ ------------
Total liabilities and
stockholders' equity... $ 2,827,161 $ 3,026,977
============ ============
The accompanying notes are an integral part of these financial statements.
F-109
<PAGE>
DALCO, INC.
STATEMENTS OF OPERATIONS
YEAR ENDED OCTOBER 31
--------------------------
1996 1997
------------ ------------
REVENUES................................ $ 8,832,810 $ 9,620,492
COST OF OPERATIONS...................... 6,429,440 6,816,752
------------ ------------
Gross profit.................. 2,403,370 2,803,740
SELLING, GENERAL AND ADMINISTRATIVE
EXPENSES.............................. 1,717,885 1,777,291
------------ ------------
Income from operations........ 685,485 1,026,449
OTHER INCOME (EXPENSE):
Interest expense................... (40,688) (28,557)
Other.............................. 7,020 5,435
------------ ------------
INCOME BEFORE INCOME TAXES.............. 651,817 1,003,327
PROVISION FOR INCOME TAXES.............. 5,428 12,372
------------ ------------
NET INCOME.............................. $ 646,389 $ 990,955
============ ============
The accompanying notes are an integral part of these financial statements.
F-110
<PAGE>
DALCO, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
COMMON STOCK
---------------- TREASURY RETAINED
SHARES AMOUNT STOCK EARNINGS TOTAL
------ ------ -------- ---------- ------------
<S> <C> <C> <C> <C> <C>
BALANCE, October 31, 1995............... 300 $1,050 $(22,054) $1,497,954 $ 1,476,950
Stockholder distributions.......... -- -- -- (401,386) (401,386)
Net income......................... -- -- -- 646,389 646,389
------ ------ -------- ---------- ------------
BALANCE, October 31, 1996............... 300 1,050 (22,054) 1,742,957 1,721,953
Stockholder distributions.......... -- -- -- (665,029) (665,029)
Net income......................... -- -- -- 990,955 990,955
------ ------ -------- ---------- ------------
BALANCE, October 31, 1997............... 300 $1,050 $(22,054) $2,068,883 $ 2,047,879
====== ====== ======== ========== ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-111
<PAGE>
DALCO, INC.
STATEMENTS OF CASH FLOWS
YEAR ENDED OCTOBER 31
--------------------------
1996 1997
------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income...................... $ 646,389 $ 990,955
Adjustments to reconcile net
income to net cash provided by
operating activities --
Depreciation and
amortization............ 123,814 107,203
Gain on disposal of
property and
equipment............... (1,723) --
(Increase) decrease in --
Accounts receivable........ (227,699) 80,204
Inventories................ (66,602) (165,459)
Prepaid expenses and other
current assets.......... 664 175
Other noncurrent assets.... 5,694 (9,759)
Accounts payable and
accrued expenses........ (73,806) 53,525
------------ ------------
Net cash provided by
operating
activities......... 406,731 1,056,844
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property and
equipment...................... (22,091) (39,917)
Proceeds from sale of property
and equipment.................. 3,000 --
------------ ------------
Net cash used in
investing
activities......... (19,091) (39,917)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings (repayments) on
line of credit................. 67,000 (87,000)
Payments on capital leases...... (14,490) (19,856)
Repayments of long-term debt.... (67,130) (72,779)
Stockholder distributions....... (401,386) (665,029)
------------ ------------
Net cash used in
financing
activities......... (416,006) (844,664)
------------ ------------
NET INCREASE (DECREASE) IN CASH...... (28,366) 172,263
CASH, beginning of year.............. 96,913 68,547
------------ ------------
CASH, end of year.................... $ 68,547 $ 240,810
============ ============
SUPPLEMENTAL DISCLOSURES:
Interest paid................... $ 42,750 $ 29,161
Income taxes paid............... 3,691 6,328
The accompanying notes are an integral part of these financial statements.
F-112
<PAGE>
DALCO, INC.
NOTES TO FINANCIAL STATEMENTS
1. BUSINESS AND ORGANIZATION:
Dalco, Inc. ("Dalco" or the "Company") was incorporated in Kentucky in
1971. Dalco assembles, distributes and repairs industrial valves (including
pressure relief valves and control valves) and related products (including
pneumatic and electric actuators and controls). The Company serves industrial
customers throughout Kentucky and the southern regions of Indiana and Ohio.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost. Depreciation is computed over
the estimated useful lives of the assets, primarily using accelerated methods.
Leasehold improvements to the Company's facility, which is leased from the
stockholders, are amortized over the estimated useful life as used for federal
income tax purposes. The costs of major improvements are capitalized.
Expenditures for maintenance, repairs and minor improvements are expensed as
incurred. When property and equipment are sold or retired, the cost and related
accumulated depreciation are removed and the resulting gain or loss is included
in results of operations.
Leases having the substance of financing transactions have been capitalized
and the related lease obligations have been included in obligations under
capital leases. The leased assets are depreciated over their estimated useful
lives. Accumulated amortization of equipment under capital leases was $50,188
and $78,101 at October 31, 1996 and 1997, respectively.
INCOME TAXES
The stockholders of the Company elected to be taxed under the Subchapter S
provisions of the Internal Revenue Code. Under these provisions, taxable income
and applicable tax credits are attributed directly to the stockholders, and no
federal income taxes are imposed on the Company. Accordingly, a provision for
federal and state income taxes has not been established. The income tax
provision consists of local income taxes. The Company has filed to terminate its
S Corporation status effective November 1, 1998.
REVENUE RECOGNITION
Revenue is recognized as products are sold and as services are performed.
CASH
The Company considers all short-term debt securities purchased with a
maturity of three months or less to be cash equivalents.
INVENTORY
Inventories are valued at the lower of cost or market using the first-in,
first-out method of accounting.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
F-113
<PAGE>
DALCO, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
3. PROPERTY AND EQUIPMENT:
Property and equipment consist of the following:
OCTOBER 31
----------------------
1996 1997
---------- ----------
Machinery and equipment................. $ 375,821 $ 388,117
Leasehold improvements.................. 158,817 158,817
Vehicles................................ 109,678 124,955
Office furniture and equipment.......... 112,572 124,916
Equipment under capital leases.......... 106,674 106,674
---------- ----------
863,562 903,479
Less -- Accumulated depreciation and
amortization.......................... 487,780 594,983
---------- ----------
$ 375,782 $ 308,496
========== ==========
Depreciation and amortization expense was $123,814 and $107,203 for the
years ended October 31, 1996 and 1997, respectively.
4. ACCOUNTS PAYABLE AND ACCRUED EXPENSES:
Accounts payable and accrued expenses consist of the following:
OCTOBER 31
----------------------
1996 1997
---------- ----------
Accounts payable........................ $ 448,383 $ 517,034
Accrued profit-sharing contribution..... 115,000 78,055
Accrued payroll......................... 74,951 91,095
Other................................... 4,734 10,409
---------- ----------
$ 643,068 $ 696,593
========== ==========
5. LINE OF CREDIT:
The Company has a credit agreement with a bank. The agreement allows the
Company to borrow up to $750,000. Borrowings bear interest at prime (8.5 percent
at October 31, 1997), with interest payable monthly. The line of credit is
unsecured. Borrowings under this line were $187,000 and $100,000 at October 31,
1996 and 1997, respectively.
F-114
<PAGE>
DALCO, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
6. LONG-TERM DEBT:
Long-term debt consists of the following:
OCTOBER 31
----------------------
1996 1997
---------- ----------
Notes payable to bank --
Notes due in monthly installments of
$6,254, with interest due monthly
at 8.75% through June 1999; secured
by inventory....................... $ 168,840 $ 106,264
Notes due in monthly installments of
$538, with interest due monthly at
8.24% through June 1999; secured by
vehicle............................ 15,405 10,020
Notes due in monthly installments of
$475, with interest due monthly at
8.2% through April 1999; secured by
vehicle............................ 12,830 8,010
---------- ----------
197,075 124,294
Less -- Current maturities........... 72,783 78,801
---------- ----------
$ 124,292 $ 45,493
========== ==========
Principal payments on long-term debt are due as follows:
Year ending October 31 --
1998............................ $ 78,801
1999............................ 45,493
----------
$ 124,294
==========
At October 31, 1997, the note payable secured by inventory was subject to a
credit agreement that requires the Company to maintain minimum levels of net
worth and working capital and to maintain minimum ratios of interest coverage
and net worth. At October 31, 1997, the Company was in compliance with respect
to all covenants.
Management estimates that the fair value of its debt obligations
approximates the historical value at October 31, 1997 and 1996.
7. OBLIGATIONS UNDER CAPITAL LEASES:
The Company leases certain telephone and computer equipment under capital
leases. The following is a schedule of future minimum lease payments under
capital leases, together with the present value of the net minimum lease
payments as of October 31, 1997:
1998................................. $ 25,876
1999................................. 23,753
2000................................. 15,590
----------
Total minimum lease payments.... 65,219
Less -- Amount representing
interest............................. 7,009
----------
Present value of net minimum
lease payments................ $ 58,210
==========
8. PROFIT-SHARING PLAN:
The Company has a profit-sharing plan covering all employees who meet
certain requirements as to service and age. Profit-sharing contributions are
made at the discretion of the Company. Profit-sharing contributions for the
years ended October 31, 1996 and 1997, were $115,000 and $115,000, respectively.
F-115
<PAGE>
DALCO, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
9. SERVICE AND DISTRIBUTION AGREEMENTS:
The Company purchases, sells and services various products under service
and distribution agreements with certain suppliers. These agreements are
generally cancelable upon 30 to 60 days notice.
10. COMMITMENTS AND CONTINGENCIES:
The Company leases its facilities and certain vehicles under operating
leases. The Company's headquarters in Louisville is leased from the Company's
two stockholders. Rental commitments under noncancelable operating leases are as
follows:
LEASE WITH
STOCKHOLDERS OTHER TOTAL
------------ ---------- ------------
Year ending October 31 --
1998......................... $ 81,996 $ 29,439 $ 111,435
1999......................... 81,996 25,490 107,486
2000......................... 81,996 18,812 100,808
2001......................... 81,996 18,240 100,236
2002......................... 81,996 18,240 100,236
Thereafter................... 757,164 -- 757,164
------------ ---------- ------------
$ 1,167,144 $ 110,221 $ 1,277,365
============ ========== ============
Rent expense under the above leases was $89,304 for each of the years ended
October 31, 1996 and 1997, including $60,000 paid in each of those years to the
Company's two stockholders.
11. SIGNIFICANT CUSTOMER:
During fiscal 1996 and 1997, one customer accounted for approximately 34
percent of the Company's revenues.
12. SUBSEQUENT EVENT:
On December 17, 1997, Innovative Valve Technologies, Inc. ("Invatec")
acquired all the outstanding stock of Dalco through a merger of Dalco with an
Invatec subsidiary. The total consideration was in excess of the recorded
amounts of the Company's net assets.
F-116
EXHIBIT 21.1
SUBSIDIARIES OF INNOVATIVE VALVE TECHNOLOGIES, INC.
<TABLE>
<CAPTION>
PERCENTAGE OF PERCENTAGE OF
JURISDICTION VOTING SECURITIES OWNED VOTING SECURITIES
OF INCORPORATION BY INNOVATIVE VALVE OWNED BY
NAME OF SUBSIDIARY OR ORGANIZATION TECHNOLOGIES, INC. IMMEDIATE PARENT
- ------------------------------------- ---------------- ------------------------ ------------------
<S> <C>
The Safe Seal Company, Inc........... Texas 100%
Harley Industries, Inc............. California 100%
GSV, Inc. (d/b/a Southern Valve
Co., and Gould Machine and
Fabrication).................... Florida 100%
Plant Specialties, Inc............. Louisiana 100%
Puget Investments, Inc............... Washington 100%
Steam Supply & Rubber Co., Inc.
(d/b/a Steam Supply)............ Washington 100%
Flickinger Company (d/b/a
Flickinger Valve Company)....... Washington 100%
Flickinger-Benicia Inc............... Washington 100%
Industrial Controls & Equipment,
Inc................................ Pennsylvania 100%
Valve Actuation & Repair Co.......... West Virginia 100%
Rickco Acquisition, Inc.............. West Virginia 100%
BAS Technical Employment Placement
Company............................ West Virginia 100%
Southern Valve Services, Inc......... Alabama 100%
55 Leasing & Sales, Inc.............. Alabama 100%
Dalco, LLC........................... Kentucky 100%
Cypress Industries, Inc.............. Illinois 100%
IPSCO Holding, Inc................... Delaware 100%
International Piping Services
Company....................... Illinois 100%
IPSCO (U.K.) Limited............ England 100%
Mid-America Energies, Corp...... Delaware 100%
IPSCO-Florida, Inc.............. Florida 100%
</TABLE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the incorporation
of our reports included in this Form 10-K/A, into the Company's previously filed
registration statement on Form S-8 (333-40023).
ARTHUR ANDERSEN LLP
Houston, Texas
April 8, 1998
EXHIBIT 23.2
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in Registration Statement No.
333-40023 of Innovative Valve Technologies, Inc. on Form S-8 of our report dated
January 17, 1997 (January 31, 1997 as to Notes 2 and 7) on Harley Industries,
Inc. and Subsidiaries appearing in this Annual Report on Form 10-K/A of
Innovative Valve Technologies, Inc. for the year ended December 31, 1997.
DELOITTE & TOUCHE LLP
Tulsa, Oklahoma
April 8, 1998
<PAGE>
EXHIBIT 23.2
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in Registration Statement No.
333-40023 of Innovative Valve Technologies, Inc. (Invatec) on Form S-8 of our
report dated February 20, 1998, appearing in this Annual Report on Form 10-K/A
of Invatec for the year ended December 31,1997.
DELOITTE & TOUCHE LLP
Orlando, Florida
April 8, 1998
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THE FINANCIAL DATA SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION
EXTRACTED FROM INNOVATIVE VALVE TECHNOLOGIES, INC. AND SUBSIDIARIES
FORM 10K FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997
</LEGEND>
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> DEC-31-1997
<CASH> 2,544,450
<SECURITIES> 0
<RECEIVABLES> 18,760,554
<ALLOWANCES> 1,079,857
<INVENTORY> 15,987,765
<CURRENT-ASSETS> 41,107,450
<PP&E> 26,645,820
<DEPRECIATION> 15,171,119
<TOTAL-ASSETS> 105,432,683
<CURRENT-LIABILITIES> 19,875,872
<BONDS> 0
0
0
<COMMON> 7,890
<OTHER-SE> 59,861,415
<TOTAL-LIABILITY-AND-EQUITY> 105,432,683
<SALES> 58,620,946
<TOTAL-REVENUES> 58,620,946
<CGS> 39,820,941
<TOTAL-COSTS> 64,239,636
<OTHER-EXPENSES> 2,957
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<INTEREST-EXPENSE> 2,901,039
<INCOME-PRETAX> 8,522,686
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<INCOME-CONTINUING> 7,499,964
<DISCONTINUED> 0
<EXTRAORDINARY> 0
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<NET-INCOME> 0
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</TABLE>
