<PAGE> 1
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark one)
(X) Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 For the Quarterly Period Ended March 31, 1999
or
( ) Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 For the transition period from to
Commission File Number 1-13041
WATERLINK, INC.
(Exact Name of Registrant as Specified in its Charter)
Delaware 34-1788678
(State or Other Jurisdiction (I.R.S. Employer Identification No.)
of Incorporation or Organization)
---------------------------------
4100 Holiday Street N.W., Suite 201
Canton, Ohio 44718
(Address of Principal Executive Offices)
(Zip Code)
---------------------------------
330-649-4000
(Registrant's Telephone Number, Including Area Code)
----------------------------------------------------------
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 the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Common Stock, $.001 par value -12,635,861 shares outstanding as of April 30,
1999
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<PAGE> 2
INDEX
WATERLINK, INC. AND SUBSIDIARIES
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Consolidated balance sheets - September 30, 1998 and
March 31, 1999 3 - 4
Consolidated statements of income - Three months
ended March 31, 1998 and 1999; Six months ended
March 31, 1998 and 1999 5
Consolidated statements of cash flows - Six months
ended March 31, 1998 and 1999 6
Notes to consolidated financial statements 7 - 10
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 11
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 23
Signatures 24
</TABLE>
2
<PAGE> 3
PART I, ITEM I - FINANCIAL STATEMENTS
WATERLINK, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS-UNAUDITED
<TABLE>
<CAPTION>
September 30, March 31,
1998 1999
------------- ---------
ASSETS (In thousands)
<S> <C> <C>
Current Assets:
Cash and cash equivalents $ 3,925 $ 3,530
Accounts receivable:
Trade, net 29,906 27,372
Other 2,757 3,367
Inventories 22,160 22,863
Costs in excess of billings 17,195 20,088
Refundable income taxes 840 170
Other current assets 3,111 3,408
-------- --------
Total Current Assets 79,894 80,798
Property, plant and equipment, at cost:
Land, buildings and improvements 4,095 2,825
Machinery and equipment 8,293 7,236
Office equipment 2,899 3,750
-------- --------
15,287 13,811
Less accumulated depreciation 1,557 2,098
-------- --------
13,730 11,713
Other assets:
Goodwill, net 79,936 78,547
Patents, net 1,408 1,381
Other assets 8,593 9,584
-------- --------
89,937 89,512
-------- --------
Total Assets $183,561 $182,023
======== ========
</TABLE>
See notes to consolidated financial statements
3
<PAGE> 4
PART I, ITEM I - FINANCIAL STATEMENTS
WATERLINK, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS-UNAUDITED (CONTINUED)
<TABLE>
<CAPTION>
September 30, March 31,
1998 1999
------------- ---------
(In thousands,
LIABILITIES AND SHAREHOLDERS' EQUITY except share data)
<S> <C> <C>
Current Liabilities:
Accounts payable-trade $ 15,133 $ 17,034
Accrued expenses 18,881 19,070
Additional purchase price payable 1,000 500
Billings in excess of cost 3,392 2,218
Accrued income taxes 1,158 1,443
Deferred income taxes 164 177
Current portion of long-term debt 9,429 8,448
-------- --------
Total Current Liabilities 49,157 48,890
Long-term obligations:
Long-term debt 73,639 74,441
Convertible subordinated notes-related parties 4,250 3,250
Other long-term obligations 1,637 1,140
-------- --------
79,526 78,831
Shareholders' equity:
Preferred Stock, $.001 par value, 10,000,000 shares
authorized, none issued and outstanding - -
Common Stock, voting, $.001 par value,
authorized - 40,000,000 shares,
issued and outstanding - 12,225,604 shares
at September 30, 1998 and 12,635,861
at March 31, 1999 12 13
Additional paid-in capital 71,973 72,965
Accumulated other comprehensive income (loss) 231 (2,741)
Accumulated deficit (17,338) (15,935)
-------- --------
Total Shareholders' Equity 54,878 54,302
-------- --------
Total Liabilities and Shareholders' Equity $183,561 $182,023
======== ========
</TABLE>
See notes to consolidated financial statements
4
<PAGE> 5
PART I, ITEM I - FINANCIAL STATEMENTS
WATERLINK, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME-UNAUDITED
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
March 31, March 31,
1998 1999 1998 1999
-------- -------- -------- --------
(In thousands, except per share data)
<S> <C> <C> <C> <C>
Net sales $ 27,250 $ 44,407 $ 59,330 $ 85,775
Cost of sales 17,224 29,590 37,210 57,478
-------- -------- -------- --------
Gross Profit 10,026 14.817 22,120 28,297
Selling, general and
administrative expenses 8,683 10,910 16,752 21,229
Special charges - 484 - 703
Amortization 410 517 842 1,054
-------- -------- -------- --------
Operating Income 933 2,906 4,526 5,311
Other income (expense):
Interest expense (430) (1,590) (719) (3,390)
Other - net (46) (111) (19) (16)
-------- -------- -------- --------
Income Before Income Taxes 457 1,205 3,788 1,905
Income taxes 240 331 1,556 502
-------- -------- -------- --------
Net Income $ 217 $ 874 $ 2,232 $ 1,403
======== ======== ======== ========
Earnings per Common Share:
Basic $ 0.02 $ 0.07 $ 0.19 $ 0.11
Assuming dilution $ 0.02 $ 0.07 $ 0.18 $ 0.11
Weighted Average Common Shares
Outstanding:
Basic 11,981 12,636 11,943 12,475
Assuming dilution 12,637 12,874 12,700 12,530
</TABLE>
See notes to consolidated financial statements.
5
<PAGE> 6
PART I, ITEM I - FINANCIAL STATEMENTS
WATERLINK, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS-UNAUDITED
<TABLE>
<CAPTION>
Six Months Ended
March 31,
1998 1999
-------- --------
(In thousands)
OPERATING ACTIVITIES
<S> <C> <C>
Net income $ 2,232 $ 1,403
Adjustments to reconcile net income to net cash
provided (used) by operating activities:
Depreciation and amortization 1,380 2,166
Deferred income taxes 702 13
Changes in working capital:
Accounts receivable 5,494 1,940
Inventories (748) (873)
Costs in excess of billings (6,495) (3,223)
Refundable income taxes 139 670
Other assets (4,178) 6
Accounts payable (1,675) 1,878
Accrued expenses (1,967) 48
Billings in excess of cost (646) (1,142)
Accrued income taxes 969 305
-------- --------
Net cash provided (used) by operating activities (4,793) 3,191
INVESTING ACTIVITIES
Purchases of equipment (1,175) (1,298)
Proceeds from sale of building - 519
Purchases of subsidiaries, net of cash acquired (8,412) (1,477)
-------- --------
Net cash used in investing activities (9,587) (2,256)
FINANCING ACTIVITIES
Proceeds from long-term borrowings 20,625 1,109
Payments on long-term borrowings (535) (1,289)
Proceeds from sale of common stock 414 -
-------- --------
Net cash provided (used) by financing activities 20,504 (180)
Effect of exchange rate changes on cash (236) (1,150)
-------- --------
Increase (decrease) in cash and cash equivalents 5,888 (395)
Cash and cash equivalents at beginning of period 2,482 3,925
-------- --------
Cash and cash equivalents at end of period $ 8,370 $ 3,530
======== ========
</TABLE>
See notes to consolidated financial statements.
6
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PART I, ITEM I - FINANCIAL STATEMENTS
WATERLINK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 1999
(INFORMATION AS OF MARCH 31, 1999 AND FOR THE THREE AND SIX-MONTH PERIODS
ENDED MARCH 31, 1998 AND 1999 IS UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the three and six-month periods ended March
31, 1999 are not necessarily indicative of the results that may be expected for
the year ending September 30, 1999. For further information, refer to the
consolidated financial statements and footnotes thereto included in the
Company's Annual Report on Form 10-K for the fiscal year ended September 30,
1998.
2. INVENTORIES
Inventories consisted of the following (thousands of dollars):
<TABLE>
<CAPTION>
September 30, March 31,
1998 1999
---- ----
<S> <C> <C>
Raw materials and supplies $11,843 $14,977
Work in process 3,500 3,351
Finished goods 6,817 4,535
------- -------
$22,160 $22,863
======= =======
</TABLE>
3. CONTRACT BILLING STATUS
Information with respect to the billing status of contracts in process is as
follows (thousands of dollars):
<TABLE>
<CAPTION>
September 30, March 31,
1998 1999
---- ----
<S> <C> <C>
Contract costs incurred to date $57,435 $54,456
Estimated profits 24,497 22,374
------- -------
Contract revenue earned to date 81,932 76,830
Less billings to date 68,129 58,960
------- -------
Cost and estimated earnings in excess of billings, net $13,803 $17,870
======= =======
</TABLE>
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<PAGE> 8
The above amounts are included in the accompanying consolidated balance sheets
as follows (in thousands):
<TABLE>
<CAPTION>
September 30, March 31,
1998 1999
------------- ---------
<S> <C> <C>
Costs in excess of billings $ 17,195 $ 20,088
Billings in excess of cost 3,392 2,218
-------- ---------
$ 13,803 $ 17,870
======== =========
</TABLE>
4. CAPITALIZATION
During December 1998 the Company entered into an agreement with one of its
existing holders of convertible subordinated notes to reduce the note principal
amount from $2,000,000 to $1,000,000 in exchange for 410,257 shares of Common
Stock. In addition, the maturity date of the $1,000,000 principal amount of the
convertible subordinated note was extended from September 30, 1999 to October 1,
2000; the interest rate on the remaining note balance was increased from 5.81%
to 6.06%; and the conversion rate was decreased from $22.25 per share to $6.75
per share.
A progression of shareholders' equity follows (thousands of dollars):
<TABLE>
<CAPTION>
Accumulated
Additional Other Accumu- Total
Common Paid-in Comprehensive lated Shareholders'
Stock Capital Income Deficit Equity
----- ------- ------ ------- ------
<S> <C> <C> <C> <C> <C>
Balance at September 30, 1998 $ 12 $71,973 $ 231 $(17,338) $54,878
Net income 1,403 1,403
Foreign currency translation
adjustments (2,972) (2,972)
-------
Comprehensive income (loss) ( 1,569)
Issuance of 410,257 shares of common
stock in connection with the conversion
of convertible subordinated notes 1 999 1,000
Other (7) ( 7)
------ ------- ------- -------- -------
Balance at March 31, 1999 $ 13 $72,965 $(2,741) $(15,935) $54,302
====== ======= ======= ======== =======
</TABLE>
5. SPECIAL CHARGES
During the fourth quarter of fiscal 1998, the Company's Board of Directors
approved the 1999 Strategic Operating Plan (the "1999 Plan"), which is designed
to restructure the Company from a holding company with 23 operating companies
into five integrated divisions that focus on specific market segments. The 1999
Plan, which will eliminate redundant costs and improve operating efficiencies,
is expected to be substantially completed by the end of fiscal 1999. The plan
includes costs associated with the exiting and consolidation of certain
facilities and employee termination costs. In conjunction with the 1999 Plan,
the Company expects to reduce
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<PAGE> 9
the Company's domestic and foreign workforce by approximately 100 people and
eliminate certain administrative and production-related functions no longer
required. Through March 31, 1999, 94 employees have been terminated in
conjunction with the 1999 Plan, of which 70 people received, or are currently
receiving, termination benefits in accordance with Company guidelines or local
laws. Further, five facilities have been closed or relocated as of March 31,
1999. Due to the timing of certain termination benefits and facility
consolidation costs, the reserve is expected to be utilized throughout fiscal
1999 and 2000. Other costs associated with the 1999 Plan of approximately
$1,300,000, which did not meet the criteria for recognition at September 30,
1998, are expected to be incurred during fiscal 1999, of which, the Company
incurred $484,000 and $703,000 during the quarter and six months ended March 31,
1999, respectively. The following table summarizes the provisions, payments and
remaining reserves associated with the 1999 Plan:
<TABLE>
<CAPTION>
TERMINATIONS OTHER EXIT
BENEFITS COSTS TOTAL
------------ ---------- -----
(In thousands)
<S> <C> <C> <C>
Provision in fiscal 1998 $ 1,076 $ 1,782 $ 2,858
Payments in fiscal 1998 (120) (480) (600)
------- ------- -------
Reserve at September 30, 1998 956 1,302 2,258
Provision in fiscal 1999 191 512 703
Payments in fiscal 1999 (737) (842) (1,579)
------- ------- -------
Reserve at March 31, 1999 $ 410 $ 972 $ 1,382
======= ======= =======
</TABLE>
6. EARNINGS PER SHARE
The following table sets forth the computation of basic and assuming dilution
earnings per share (in thousands, except per share data):
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
March 31, March 31,
1998 1999 1998 1999
------- ------- ------- -------
<S> <C> <C> <C> <C>
Numerator:
Numerator for basic earnings per share-net income $ 217 $ 874 $ 2,232 $ 1,403
Effect of dilutive securities-interest on convertible subordinated
notes, net of tax - 10 - -
------- ------- ------- -------
Numerator for diluted earnings per share-income available to
common stockholders after assumed conversions $ 217 $ 884 $ 2,232 $ 1,403
======= ======= ======= =======
Denominator:
Average shares outstanding- basic 11,981 12,636 11,943 12,475
Effect of dilutive securities:
Stock options and warrants 656 90 757 55
Convertible subordinated notes - 148 - -
------- ------- ------- -------
Denominator for diluted earnings per share-
weighted average shares and assumed conversions 12,637 12,874 12,700 12,530
======= ======= ======= =======
Earnings per common share:
Basic $ 0.02 $ 0.07 $ 0.19 $ 0.11
Assuming dilution $ 0.02 $ 0.07 $ 0.18 $ 0.11
</TABLE>
9
<PAGE> 10
For all periods presented, certain issuances of potential common stock and
certain outstanding convertible subordinated notes were excluded from the
computation of earnings per share, assuming dilution, since their inclusion in
the computation would have an anti-dilutive effect.
10
<PAGE> 11
PART I, ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
WATERLINK, INC. AND SUBSIDIARIES
OVERVIEW
Waterlink is an international provider of integrated water purification
and wastewater treatment solutions, principally to industrial and municipal
customers. Waterlink was incorporated in Delaware on December 7, 1994 and has
grown externally by completing thirteen acquisitions and internally through
industry wide expansion as well as Waterlink sponsored programs.
The current focus of Waterlink is the implementation of its 1999
Strategic Operating Plan (the "1999 Plan"). The 1999 Plan is being implemented
in three phases: the restructuring phase, the cost reduction phase, and the
growth phase.
The restructuring phase was completed prior to October 1, 1998, the
beginning of Waterlink's fiscal year, and restructured Waterlink from 23
separate operating companies into the following five fully integrated divisions
that are focused on their specific markets:
- Biological Wastewater Treatment Division
- Separations Division
- Pure Water Division
- Specialty Products Division
- European Water and Wastewater Division
This divisional structure allows Waterlink to utilize the strengths of
its complementary product lines and work closer with customers through the
Waterlink brand name.
The cost reduction phase established goals of reducing selling, general
and administrative expenses by $4.3 million in fiscal 1999, principally by
reducing the number of employees by 75, or 10% of the work force, and by closing
seven facilities. To date, the total number of employees has been reduced by 94
people, in excess of the 75 originally contemplated by the 1999 Plan, and the
annualized cost savings goal of $4.3 million has been surpassed by at least $1
million. With regard to facilities, five have been closed and the remaining two
are scheduled to close before September 30, 1999, the end of Waterlink's fiscal
year.
The cost reduction phase also includes an initiative to reduce
production costs by identifying common suppliers among divisions and
consolidating purchases to increase Waterlink's purchasing power. These supply
contracts with vendors are expected to provide cost savings to help Waterlink
remain competitive in the long term.
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<PAGE> 12
Waterlink is now focused on implementing the growth phase of the 1999
Plan, which calls for adding at least 25 sales and marketing professionals this
fiscal year, eight of whom have already accepted positions, in order to improve
revenue performance over the long term. These additional costs will be funded,
in part, by the additional $1 million of savings realized to date during the
cost reduction phase of the 1999 Plan.
The improved communications and specific identification of markets and
products resulting from the restructuring of Waterlink, together with the
reinvestment in sales and marketing professionals, will allow Waterlink to
increase its sales efforts. Two specific areas of focus are the implementation
of our strategic alliance program with selected design and engineering firms to
increase recognition of the Waterlink brand name, and our integrated systems
effort that is expected to provide more interdivisional cross selling
opportunities with certain key customers. Waterlink is also developing sales
strategies in continents where we do not currently have a significant presence.
The growth phase of the 1999 Plan is expected to help build Waterlink into a
sales, marketing and engineering leader in the industry, focused on profitable
growth over the long term.
Waterlink's new organization is also designed to more efficiently
integrate future acquisitions. Acquisitions are expected to continue to play a
strategic role in Waterlink's future to increase competitiveness, spur revenue
and earnings growth, and enhance its total solutions capability.
All acquisitions have been accounted for under the purchase method of
accounting and are included in the results of operations for the period
subsequent to the effective date of acquisition. Due to the timing and magnitude
of these acquisitions, results of operations for the periods presented are not
necessarily comparable or indicative of operating results for current or future
periods.
The majority of the systems and equipment produced by Waterlink are
custom designed and take a number of months to produce. Revenues from large
contracts are recognized using the percentage of completion method of accounting
in the proportion that costs incurred bear to total estimated costs at
completion. Revisions of estimated costs or potential contract losses, if any,
are recognized in the period in which they are determined. Provisions are made
currently for all known or anticipated losses. Variations from estimated
contract performance could result in a material adjustment to operating results
for any fiscal quarter or year. Claims for extra work or changes in scope of
work are included in revenues when collection is probable. Revenues from
remaining systems and equipment sales are recognized when shipped.
In the past Waterlink has experienced quarterly fluctuations in
operating results due to the contractual nature of its business and the
consequent timing of these orders. As part of its strategic plan, Waterlink
expects that it may receive contracts that are significantly larger than those
received by Waterlink historically. In addition, certain of the contracts will
be subject to the customer's ability to finance, or fund from government
sources, the actual costs of completing the project as well as the ability to
receive any necessary permits to commence the project. Therefore, Waterlink
expects that its future operating results could fluctuate
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<PAGE> 13
significantly, especially on a quarterly basis, due to the timing of the
awarding of such contracts, the ability to fund project costs, and the
recognition by Waterlink of revenues and profits. In addition, Waterlink has
historically operated with a moderate backlog. However, as a result of its
strategic plan, Waterlink anticipates that both the dollar volume and number of
contracts in its backlog will increase significantly. As of March 31, 1999,
Waterlink's backlog was approximately $32.5 million. In addition, Waterlink also
had $5.9 million of firm commitments to purchase recurring revenue products from
its Specialty Products Division at March 31, 1999. Therefore, quarterly sales
and operating results may be affected by the volume and timing of contracts
received and performed within the quarter, which are difficult to forecast. Any
significant deferral or cancellation of a contract could have a material adverse
effect on Waterlink's operating results in any particular quarter. Because of
these factors, Waterlink believes that period-to-period comparisons of its
operating results are not necessarily indicative of future performances.
RESULTS OF OPERATIONS
The following table sets forth for the periods indicated, statements of
operations data as a percentage of net sales:
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
March 31, March 31,
1998 1999 1998 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net sales 100.0% 100.0% 100.0% 100.0%
Cost of sales 63.2 66.6 62.7 67.0
----- ----- ----- -----
Gross Profit 36.8 33.4 37.3 33.0
Selling, general and administrative expenses 31.9 24.6 28.2 24.8
Special charges - 1.1 - 0.8
Amortization 1.5 1.2 1.5 1.2
----- ----- ----- -----
Operating Income 3.4 6.5 7.6 6.2
Other income (expense):
Interest expense (1.6) (3.6) (1.2) (4.0)
Interest income and other items - net (0.1) (0.2) - -
----- ----- ----- -----
Income Before Income Taxes 1.7 2.7 6.4 2.2
Income taxes 0.9 0.7 2.6 0.6
----- ----- ----- -----
Net Income 0.8% 2.0% 3.8% 1.6%
===== ===== ===== =====
</TABLE>
Three Months Ended March 31, 1999 Compared to Three Months Ended March 31, 1998
Net Sales: Net sales for the three months ended March 31, 1999 were $44,407,000,
an increase of $17,157,000 from the comparable prior period. The increase was
due to the acquisition of Chemitreat Services, Inc, on March 2, 1998; of
Aquafine Engineering Services Limited and Purac Engineering Incorporated in a
single transaction on March 25, 1998; and of Barnebey & Sutcliffe Corporation,
Sutcliffe Speakman Carbons Limited and Sutcliffe Croftshaw Limited,
(collectively referred to as the "Specialty Products Division") in a single
transaction on June 5, 1998. Waterlink experienced negative internal growth for
the quarter of 2.4%, resulting
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<PAGE> 14
primarily from the timing of orders at two specific domestic locations.
Waterlink measures internal growth by comparing each subsidiary's net sales from
the months subsequent to their respective acquisition dates during the prior
year to those same months in the current year.
Gross Profit: Gross profit for the three months ended March 31, 1999 was
$14,817,000, an increase of $4,791,000 from the comparable prior period due to
the acquisitions. Gross margin was 33.4% for 1999 as compared to 36.8% for 1998.
The gross margin for 1999 has been impacted by the June 1998 acquisition of the
Specialty Products Division, which historically experiences lower margins as
compared to other Waterlink companies. In addition, the gross margin for 1999
has been negatively impacted by the disruption at one of Waterlink's facilities
due to the pending movement of a product line to another Waterlink facility,
causing additional production related costs on certain contracts. Management
expects that gross margins for this product line will be affected during the
third quarter as the relocation of the facility is completed.
Selling, General and Administrative Expenses: Selling, general and
administrative expenses for the three months ended March 31, 1999 were
$10,910,000, an increase of $2,227,000 from the comparable prior period. The
increase was primarily due to the acquisitions. Selling, general and
administrative expenses as a percentage of net sales were 24.6% in 1999 as
compared to 31.9% for the comparable prior period. This decrease primarily
reflects the costs savings realized from Waterlink's 1999 Plan; as well as the
impact of the June 1998 acquisition of the Specialty Products Division, which
historically experiences a lower percentage of selling, general and
administrative expenses as a percentage of sales than other Waterlink companies.
Special Charges: Special charges of $484,000 during the three months ended March
31, 1999 related to continuing costs associated with the implementation of
Waterlink's 1999 Plan. Additional costs associated with the 1999 Plan of
approximately $600,000 are expected to be recognized during the remainder of
fiscal 1999. Waterlink is continuing to evaluate its operating activities and
related assets that could result in additional charges during the last half of
fiscal 1999 that were not contemplated by the 1999 Plan.
Amortization: Amortization expense for the three months ended March 31, 1999 was
$517,000, an increase of $107,000 from the comparable prior period. The increase
was primarily due to the additional goodwill resulting from the acquisitions,
offset by $104,000 reduction in amortization expense resulting from the exit of
Waterlink's Bioclear business during the fourth quarter of fiscal 1998.
Interest Expense: Interest expense for the three months ended March 31, 1999 was
$1,590,000, an increase of $1,160,000 from the comparable prior period primarily
due to increased borrowings related to Waterlink's fiscal 1998 acquisitions.
Income Taxes: Waterlink recorded income taxes of $331,000 on pre-tax income of
$1,205,000 for the three months ended March 31, 1999, which was an effective tax
rate of 27.5%. This effective rate was lower than the United States federal
statutory rate of 34% since federal income taxes were not recorded on
Waterlink's domestic earnings due to the utilization of its net operating loss
carryforward. The effective income tax rate of 52.5% for the three months ended
March 31, 1998
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<PAGE> 15
exceeded the United States federal statutory rate of 34% due primarily to
non-deductible goodwill amortization related to certain acquisitions made by
Waterlink as well as state and local income taxes. The non-deductible goodwill
had a significant impact on the effective income tax rate for the three months
ended March 31, 1998 due to the low level of earnings during the period.
Six Months Ended March 31, 1999 Compared to Six Months Ended March 31, 1998
Net Sales: Net sales for the six months ended March 31, 1999 were $85,775,000,
an increase of $26,445,000 from the comparable prior period. The increase was
due to the previously mentioned acquisitions. Waterlink experienced negative
internal growth for the six months of 21.0%, resulting primarily from
significant revenues generated by German-based sales activity and a Utah-based
land development wastewater project in the comparable prior period. Excluding
these two factors, internal growth would have declined by 7.4% due to the timing
of orders at two specific domestic locations.
Gross Profit: Gross profit for the six months ended March 31, 1999 was
$28,297,000, an increase of $6,177,000 from the comparable prior period due to
the acquisitions. Gross margin was 33.0% for 1999 as compared to 37.3% for 1998.
The gross margin for 1999 has been impacted by the June 1998 acquisition of the
Specialty Products Division, which historically experiences lower margins as
compared to other Waterlink companies. In addition, the gross margin for 1999
has been negatively impacted by the disruption at one of Waterlink's facilities
due to the pending movement of a product line to another Waterlink facility,
causing additional production related costs on certain contracts. Management
expects that gross margins for this product line will be affected during the
third quarter as the relocation of the facility is completed.
Selling, General and Administrative Expenses: Selling, general and
administrative expenses for the six months ended March 31, 1999 were
$21,229,000, an increase of $4,477,000 from the comparable prior period. The
increase was primarily due to the acquisitions. Selling, general and
administrative expenses as a percentage of net sales were 24.8% in 1999 as
compared to 28.2% for the comparable prior period. This decrease primarily
reflects the costs savings realized from Waterlink's 1999 Plan; as well as the
impact of the June 1998 acquisition of the Specialty Products Division, which
historically experiences a lower percentage of selling, general and
administrative expenses as a percentage of sales than other Waterlink companies.
Special Charges: Special charges of $703,000 during the six months ended March
31, 1999 related to continuing costs associated with the implementation of
Waterlink's 1999 Plan. Additional costs associated with the 1999 Plan of
approximately $600,000 are expected to be recognized during the remainder of
fiscal 1999. Waterlink is continuing to evaluate its operating activities and
related assets that could result in additional charges during the last half of
fiscal 1999 that were not contemplated by the 1999 Plan.
Amortization: Amortization expense for the six months ended March 31, 1999 was
$1,054,000, an increase of $212,000 from the comparable prior period. The
increase was primarily due to the additional goodwill resulting from the
acquisitions, offset by $215,000 reduction in amortization
15
<PAGE> 16
expense resulting from the exit of Waterlink's Bioclear business during the
fourth quarter of fiscal 1998.
Interest Expense: Interest expense for the six months ended March 31, 1999 was
$3,390,000, an increase of $2,671,000 from the comparable prior period primarily
due to increased borrowings related to Waterlink's fiscal 1998 acquisitions.
Income Taxes: Waterlink recorded income taxes of $502,000 on pre-tax income of
$1,905,000 for the six months ended March 31, 1999, which was an effective tax
rate of 26.4%. This effective rate was lower than the United States federal
statutory rate of 34% since federal income taxes were not recorded on
Waterlink's domestic earnings due to the utilization of its net operating loss
carryforward. The effective income tax rate of 41.1% for the three months ended
March 31, 1998 exceeded the United States federal statutory rate of 34% due
primarily to non-deductible goodwill amortization related to certain
acquisitions made by Waterlink as well as state and local income taxes.
LIQUIDITY AND CAPITAL RESOURCES
Since its inception, Waterlink's primary sources of liquidity have been:
- borrowings available under credit facilities
- net proceeds from the sale of Waterlink's common and preferred stock
- issuance of common stock and seller financing incurred in connection with
Waterlink's completed acquisitions
- cash flow from certain profitable acquisitions.
Historically, Waterlink's primary uses of capital have been:
- the funding of its acquisition program
- working capital requirements including the funding for growth at certain
acquisitions
- the funding required for certain under-performing acquisitions.
Waterlink does not currently anticipate making significant capital
investments in plant and equipment due to its focus on partnering with vendors
who manufacture most of the components used in Waterlink's systems and
equipment.
For the six months ended March 31, 1999, net cash provided by operating
activities was $3,191,000. This positive cash flow, along with $519,000 of
proceeds from the sale of a building, were used primarily to fund purchases of
equipment totaling $1,298,000 and cash outlays related to the purchases of
businesses of $1,477,000.
In the fourth quarter of fiscal 1998, Waterlink's Board of Directors
approved the 1999 Plan. The 1999 Plan provides for costs associated with the
exiting of certain facilities and employee termination costs. Costs associated
with this plan totaled $2,858,000 during fiscal 1998 and $703,000 for the six
months ended March 31, 1999, of which approximately
16
<PAGE> 17
$1,382,000 remains reserved for future payment at March 31, 1999. Additional
costs associated with the 1999 Plan of approximately $600,000 are expected to be
recognized during the remainder of fiscal 1999.
Waterlink is in the process of selling and disposing of non-revenue
producing assets. A Waterlink-owned facility vacated during fiscal 1998 was sold
and the proceeds of $519,000 were received during January 1999. Waterlink is
also in the process of selling its land, building and equipment in Winnipeg,
Manitoba, Canada, the former site of its Bioclear manufacturing facility. In
addition, Waterlink is finalizing the consolidation of a leased facility outside
of Chicago, Illinois, the site of its Great Lakes Environmental facility, into
another leased facility outside of Chicago.
Additional costs associated with the 1999 Plan of approximately
$600,000 are expected to be recognized during the remainder of fiscal 1999.
Waterlink is continuing to evaluate its operating activities and related assets
that could result in additional charges during the last half of fiscal 1999 that
were not contemplated by the 1999 Plan.
During fiscal 1998 Waterlink invested in Aquatec Water Systems,
Incorporated ("Aquatec"), a designer and manufacturer of specialized
multi-chamber pumps for the pure water industry, in the form of two $700,000
principal amount of subordinated notes, convertible into approximately 30% of
the equity of Aquatec, together with other stock purchase options. Waterlink
reached an agreement to sell both notes at their face value of $700,000 each
plus interest to a group of investors. Waterlink has received payment for one of
the $700,000 notes and has received $500,000 of the other note. Waterlink
expects to collect the remaining balance of $200,000 before the end of the
quarter ending June 30, 1999.
Waterlink intends to continue pursuing attractive acquisition
opportunities. The timing, size and success of any acquisition effort and the
associated potential capital commitments are unpredictable at this time. As a
result of the Specialty Products Division acquisition and the implementation of
the 1999 Plan, Waterlink has caused its current and long-term debt to be in
excess of stockholder's equity and bears the risks associated with increased
leverage.
Acquisitions
During the six months ended March 31, 1999 Waterlink made additional
purchase consideration payments of $1,477,000 related to the achievement of
targeted operating results of two of its acquisitions. In addition, additional
purchase consideration of $500,000 in connection with one of Waterlink's
acquisitions had been earned and recorded as of March 31, 1999, to be satisfied
prior to June 30, 1999. These amounts have been recorded as additional goodwill.
Under the terms of certain of the purchase agreements, Waterlink may be
required to make additional purchase consideration payments of up to $1,483,000,
contingent upon the achievement of specified operating results through fiscal
2000. The payments that are expected to be required for meeting fiscal 1999 and
2000 targets are $483,000 and $1,000,000,
17
<PAGE> 18
respectively. Any such additional purchase consideration payments will be
treated as additional goodwill for accounting purposes.
Credit Availability
Waterlink's credit facilities are comprised of (1) an $87,000,000
domestic facility with Bank of America National Trust & Savings Association as
agent, which expires on May 19, 2003 and (2) separate facilities aggregating
$7,000,000 at three of its overseas subsidiaries. The credit facilities will be
utilized to fund operating activities of Waterlink as well as future
acquisitions.
Loans under the credit facilities bear interest at a designated
variable base rate plus spreads ranging from 0 to 25 basis points depending on a
leverage ratio of total consolidated indebtedness to Waterlink's earnings before
interest, taxes, depreciation and amortization. At Waterlink's option, the
credit facilities bear interest based on a designated London interbank offering
rate ("LIBOR") plus spreads ranging from 100 to 225 basis points, depending on
Waterlink's leverage ratio.
The credit facilities restrict or prohibit Waterlink from taking many
actions, including paying dividends and incurring or assuming other indebtedness
or liens. The banks that participate in the credit facilities also must approve
most acquisitions. Waterlink's obligations under the credit facilities are
secured by liens on substantially all of Waterlink's domestic assets, including
equipment, inventory, accounts receivable and general intangibles and the pledge
of most of the stock of Waterlink's subsidiaries. Waterlink has guaranteed the
payment by its three overseas subsidiaries of their obligations under the
overseas facilities. The three overseas subsidiaries have given a negative
pledge of their assets in connection with the overseas facilities.
Availability for future borrowings under the credit facilities is based
on a multiple of Waterlink's pro forma earnings before interest, taxes,
depreciation and amortization. At March 31, 1999, approximately $2.0 million was
available for future borrowings under the credit facilities. Availability for
future borrowings may increase or decrease based on the pro forma operating
performance of Waterlink. Waterlink's future short term operating performance as
it relates to the amount of availability for future borrowings is primarily
dependent on an assumed amount of increased business activity and order flow
during the remainder of the fiscal year. Without an increase in business
activity and order flow, Waterlink will need to raise additional capital outside
of its credit facilities and/or renegotiate certain borrowing parameters with
its existing lenders. Presently, Waterlink is exploring with certain
institutional investors financing alternatives, including the sale of equity
type securities, the proceeds of which would be used primarily to repay
indebtedness. No agreement to that effect has been reached to date.
Waterlink also has in place a $3,000,000 credit facility with Royal
Bank of Canada to fund Canadian working capital requirements including banker's
acceptances and letters of credit. Interest rates are negotiated on an
individual borrowing basis and are related to the Royal Bank of Canada's prime
rate. At March 31, 1999 the Canadian credit facility was fully utilized.
18
<PAGE> 19
Borrowings under the Canadian credit facility are payable upon demand and are
guaranteed by the real and personal property of Waterlink's Bioclear facility.
Waterlink's earnings are affected by changes in interest rates charged
on its domestic facility. During 1998, Waterlink entered into an interest rate
swap agreement with a major commercial bank to modify the interest
characteristics of its domestic facility. The agreement involves the exchange of
amounts based on a fixed rate of interest for an amount based on a LIBOR-based
floating rate over the life of the agreement without an exchange of the notional
amount upon which the payments are based. The agreement, which expires on
December 30, 1999, fixes Waterlink's LIBOR-based rate at 5.25% on a notional
amount of $75,000,000.
Waterlink also has exposure to currency rate fluctuations related
primarily to the purchases of inventory. Waterlink continues to utilize a
limited number of foreign exchange instruments, primarily forward contracts, to
manage this exposure.
Waterlink believes that through the end of fiscal 1999, assuming such
increased business activity and order flow and/or the successful raising of
equity capital occurs, sufficient funds for its working capital needs,
additional cash requirements of the 1999 Plan, acquisitions and additional
contingent consideration payments related to acquisitions will be provided by:
- future cash flow from operations
- borrowings under its credit facilities
- issuance of subordinated indebtedness, Common Stock, preferred
stock and seller financing incurred in connection with future
financings or acquisitions
- the sale of certain non-revenue producing assets
Year 2000
The Year 2000 issue, as widely reported, could cause malfunctions in
certain computer-related applications with respect to dates on or after January
1, 2000. These malfunctions could relate to Information Technology ("IT") or
non-IT environments. Due to Waterlink's decentralized IT environments,
individual assessments, in accordance with Waterlink's Year 2000 Program, have
been conducted at Waterlink's operating companies. Collectively, these
assessments indicate that Waterlink's exposure to this segment of the Year 2000
issue is not significant as Waterlink does not extensively rely on IT systems
which require modification. Waterlink's externally developed system issues have
been assessed company-wide through inquiry of external vendors and testing
procedures where necessary. The appropriate upgrades, if required, have been (or
are scheduled to be) attained in order to make these systems Year 2000
compliant. Waterlink has tested internally developed software systems where
applicable and has developed programs to make these systems Year 2000 compliant.
Testing of upgraded or modified systems has begun at Waterlink's various
operating units. Results of these testing procedures, which are scheduled to be
completed by the end of fiscal 1999, are incomplete.
The Year 2000 Program also addresses issues related to non-IT
environments. Collectively, these assessments indicate that Waterlink's exposure
to this segment of the Year
19
<PAGE> 20
2000 issue is not significant due to Waterlink's limited manufacturing
operations and related capital equipment needs. Waterlink's operating equipment
has been assessed through inquiry of external manufacturers and internal testing
procedures. Remediation efforts have begun where necessary. Collectively,
Waterlink intends to complete and test remediated assets by the end of fiscal
1999.
Waterlink's primary system interface with an external party involves
its banking institutions. Based on inquiries of its banking institutions,
Waterlink is not aware of any unresolved Year 2000 issues. Further, due to
Waterlink's decentralized operations, individual assessments, in accordance with
Waterlink's Year 2000 Program, have been conducted at Waterlink's operating
companies regarding significant suppliers and subcontractors. These assessments,
which are not complete, have been executed primarily through inquiry of its
various suppliers and subcontractors. To date, Waterlink is not aware of any
external party with an unresolved Year 2000 issue that would materially impact
Waterlink's operations and financial position. However, Waterlink has no means
of ensuring that external parties will be Year 2000 compliant. The inability of
external parties to resolve their Year 2000 issue in a timely manner could
impact Waterlink's operations and financial position. The effect of
non-compliance by external parties is not determinable.
Waterlink has utilized primarily internal resources to assess, test,
remediate and implement software and equipment related to the Year 2000. The
total cost of Waterlink's Year 2000 Program, excluding employee salaries, is
estimated at $400,000, primarily attributable to software upgrades and
modifications. Waterlink has incurred approximately $275,000 related to the
various phases of its Year 2000 Program.
Management of Waterlink believes that it has a program established to
resolve the Year 2000 issue in a timely manner. Collectively, Waterlink's Year
2000 Program has not been completed. In the event Waterlink does not complete
its remaining Year 2000 procedures, certain functions may be interrupted.
Waterlink does not have a formal contingency plan established if all phases of
its Year 2000 Program are not completed. However, appropriate actions, such as
interim manual information systems, will be instituted to mitigate such
interruption. In addition, disruptions in the economy generally resulting from
unresolved Year 2000 issues could also materially adversely affect Waterlink.
The potential liability and loss of revenue from these issues is not
determinable.
Impact of Recently Issued Accounting Standards
In June 1997, the FASB issued Statement No. 130, "Reporting
Comprehensive Income", which establishes standards for the reporting and display
of comprehensive income and its components. This Statement is intended to
address the concerns of financial statement users' for the increasing number of
items that bypass the income statement, such as foreign currency translation
adjustments. Waterlink adopted this Statement on October 1, 1998.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments
of an Enterprise and Related Information", which changes the way public
companies report segment
20
<PAGE> 21
information in annual financial statements. The Statement also requires public
companies to report selected segment information in interim financial reports to
shareholders. The Statement is effective for Waterlink's annual reporting in
fiscal 1999 and restatement of comparative information for earlier years is
required in the initial year of adoption. The implementation of the 1999
Strategic Operating Plan will require Waterlink to present segmented industry
information upon adoption of SFAS No. 131.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities", which provides a comprehensive and
consistent standard for the recognition and measurement of derivatives and
hedging activities. The Statement will require, among other things, that all
derivatives be recorded on the balance sheet at fair value. The Statement is
effective for Waterlink in fiscal 2000. Waterlink has not yet determined what
the effect of adopting SFAS No. 133 will be on its operations or financial
position.
FORWARD LOOKING STATEMENTS
With the exception of historical information, the matters discussed in
this report may include forward-looking statements that involve risks and
uncertainties. While forward-looking statements are sometimes presented with
numerical specificity, they are based on variety of assumptions made by
management regarding future circumstances over which Waterlink has little or no
control. A number of important factors, including those identified in this
section as well as factors discussed elsewhere herein, could cause Waterlink's
actual results to differ materially from those in forward-looking statements or
financial information. Actual results may differ from forward-looking results
for a number of reasons, including the following:
- changes in world economic conditions including, but not limited to,
the potential instability of governments and legal systems in
countries in which Waterlink conducts business, and significant
changes in currency valuations and the effects of military conflicts
- changes in customer demand as they affect sales and product mix
including, but not limited to, the effect of strikes at customers'
facilities, variations in backlog and the impact of changes in
industrial business cycles
- competitive factors including, but not limited to, changes in market
penetration and the introduction of new products by existing and new
competitors
- changes in operating costs including, but not limited to, the effect
of changes in Waterlink's manufacturing processes; changes in costs
associated with varying levels of operations; changes resulting from
different levels of customers demands; the effects of unplanned work
stoppages; changes in cost of labor and benefits; and the cost and
availability of raw materials and energy
- the success of Waterlink's strategic plan including, but not limited
to, its ability to achieve the total planned benefits of its 1999
Plan (including its ability to increase business activity, orders and
revenues, to eliminate costs, and to improve operating efficiencies
through the consolidation of its facilities), its ability to find and
integrate
21
<PAGE> 22
acquisitions into Waterlink operations, and the ability of recently
acquired companies to meet satisfactory operating results
- the ability to raise additional capital, if necessary
- unanticipated litigation, claims or assessments including, but not
limited to, claims or problems related to product warranty and
environmental issues
Readers are referred to the "Forward-Looking Statements" section,
commencing on page 21, in Waterlink's 1998 Annual Report on Form 10-K filed on
December 4, 1998, which identifies important risk factors that could cause
actual results to differ from those contained in the forward-looking statements
herein.
22
<PAGE> 23
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
- -----------------------------------------
(a) Exhibits
27.1 Financial Data Schedule as of and for the six months ended
March 31, 1999
(b) Reports on Form 8-K.
None.
23
<PAGE> 24
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Waterlink, Inc.
(Registrant)
By: /s/ T. Scott King
------------------
T. Scott King
President and Chief Executive Officer
By: /s/ Michael J. Vantusko
------------------------
Michael J. Vantusko
Chief Financial Officer
Dated: May 13, 1999
24
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