SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
[x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1996
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 0-23802
MK RAIL CORPORATION
-------------------
(Exact name of registrant as specified in its charter)
Delaware 82-0461010
-------- ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1200 Reedsdale Street, Pittsburgh, PA 15233
- ------------------------------------- -----
(Address of principal executive offices) (Zip Code)
(412) 237-2250
--------------
(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.
Class Outstanding at July 31, 1996
----- ----------------------------
Common stock, $.01 par value 17,562,793
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MK RAIL CORPORATION
Quarterly Report Form 10-Q for the
Three and Six Months Ended June 30, 1996
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements PAGE
Consolidated Statements of Operations for the Three and Six
Months Ended June 30, 1995 and 1996 ................................. 3
Consolidated Balance Sheets at December 31, 1995 and June 30, 1996 ... 4
Condensed Consolidated Statements of Cash Flows for the Six
Months Ended June 30, 1995 and 1996 ................................. 5
Notes to Consolidated Financial Statements ........................... 6
Item 2. Management's Discussion and Analysis of Results
of Operations and Financial Condition .............. 17
PART II. OTHER INFORMATION
Item 1 Legal Proceedings ......................................... 20
Item 2 Changes in Securities ..................................... 21
Item 3 Defaults upon Senior Securities ........................... 24
Item 4 Submission of Matters to a Vote of Security Holders ....... 24
Item 5 Other Information ......................................... 24
Item 6 Exhibits and Reports on Form 8-K .......................... 25
Signature .............................................. 26
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PART I. FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
MK RAIL CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
THREE AND SIX MONTHS ENDED JUNE 30, 1995 AND 1996
(Thousands of dollars except share data)
(Unaudited) (Unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------- ----------------------------
1995 1996 1995 1996
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Sales ............................. $ 60,669 $ 66,581 $ 139,073 $ 136,236
Cost of sales ..................... (58,247) (58,960) (133,424) (120,044)
General and administrative expense (4,937) (2,359) (8,357) (5,368)
Loss on disposition of discontinued
Australian operations ........... (2,849) -- (2,849) --
------------ ------------ ------------ ------------
Operating income (loss) ........... (5,364) 5,262 (5,557) 10,824
Interest income ................... 225 661 298 1,243
Interest expense .................. (1,201) (2,641) (3,794) (5,647)
Other income ...................... -- 765 -- 1,428
Foreign exchange gain (loss) ...... 635 36 (700) 54
------------ ------------ ------------ ------------
Income (loss) before income taxes . (5,705) 4,083 (9,753) 7,902
Income tax benefit (expense) ...... 1,970 (1,646) 1,863 (2,881)
------------ ------------ ------------ ------------
Net income (loss) ................. $ (3,735) $ 2,437 $ (7,890) $ 5,021
============ ============ ============ ============
Weighted average shares outstanding 17,149,000 17,562,793 17,149,000 17,562,793
Earnings (loss) per share ......... $ (.22) $ .14 $ (.46) $ .29
Dividends per share ............... -- -- .04 --
</TABLE>
The accompanying notes are an integral part of the financial statements.
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<TABLE>
<CAPTION>
MK RAIL CORPORATION
CONSOLIDATED BALANCE SHEETS
At December 31, 1995 and June 30, 1996
(Thousands of dollars except share data)
(Unaudited)
December 31, June 30,
ASSETS 1995 1996
--------- ---------
Current Assets:
<S> <C> <C>
Cash and cash equivalents ............................................................ $ 5,696 $ 3,815
Receivables from customers:
Billed, net of allowance for doubtful accounts of $531 and $308, respectively ..... 29,684 32,108
Unbilled .......................................................................... 3,922 5,248
Inventories .......................................................................... 99,459 93,134
Deferred income taxes ................................................................ 1,082 1,062
Assets held for sale ................................................................. -- 3,297
Other current assets ................................................................. 2,903 3,582
--------- ---------
Total current assets ........................................................... 142,746 142,246
Locomotive lease fleet, net .......................................................... 14,840 4,220
Property, plant and equipment, net ................................................... 46,747 44,790
Underbillings ........................................................................ 10,328 15,342
Deferred income taxes ................................................................ 27,530 25,589
Goodwill and other intangibles ....................................................... 27,789 26,080
Other ................................................................................ 10,968 10,285
--------- ---------
Total assets ................................................................... $ 280,948 $ 268,552
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Current portion of long-term debt .................................................... $ 978 $ 1,509
Current portion of note payable to Morrison Knudsen .................................. 10,440 52,095
Accounts payable:
Trade ............................................................................. 18,509 17,139
Morrison Knudsen .................................................................. 2,348 4,506
Accrued expenses and other current liabilities ....................................... 33,271 34,637
Income taxes payable ................................................................. 249 478
Revolving credit agreement ........................................................... 59,847 17,520
Advances from customers .............................................................. -- 17,671
--------- ---------
Total current liabilities ...................................................... 125,642 145,555
Long-term debt ....................................................................... 7,198 11,894
Note payable to Morrison Knudsen ..................................................... 41,655 --
Commitments and contingencies ........................................................ 9,299 8,834
Other ................................................................................ 1,602 1,662
--------- ---------
Total liabilities .............................................................. 185,396 167,945
--------- ---------
Redeemable Preferred Stock, par value $.10 per share, authorized 10,000,000 shares,
redemption price $100 per share; issued 10,000 shares Class A, at December 31, l995,
issued 10,000 shares Class B at June 30, 1996 ...................................... 1,025 1,012
--------- ---------
Stockholders' Equity:
Common Stock, par value $.01 per share, authorized 55,000,000 shares;
issued 17,562,793 shares ........................................................ 176 176
Additional paid-in capital ........................................................ 186,681 186,681
Deficit ........................................................................... (87,107) (82,073)
Cumulative translation adjustments, net of tax .................................... (5,105) (5,105)
Deferred compensation ............................................................. (118) (84)
--------- ---------
Total stockholders' equity ..................................................... 94,527 99,595
--------- ---------
Total liabilities and stockholders' equity ........................................... $ 280,948 $ 268,552
========= =========
</TABLE>
The accompanying notes are an integral part of the financial statements.
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MK RAIL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
SIX MONTHS ENDED JUNE 30, 1995 AND 1996
(Thousands of dollars)
(Unaudited)
Six Months Ended
June 30,
--------------------
1995 1996
-------- --------
Operating Activities
- --------------------
Net income (loss) ..................................... $ (7,890) $ 5,021
-------- --------
Adjustments to reconcile net income (loss)
to net cash (used in) provided byoperating activities:
Depreciation .................................... 4,348 3,285
Amortization .................................... 1,823 1,707
Receivables from customers ...................... 2,126 (5,362)
Inventories ..................................... (13,975) 4,691
Underbillings ................................... (2,895) (5,014)
Accounts payable and accrued expenses ........... (4,582) 746
Advances from customers ......................... -- 17,671
Other, net ...................................... (3,656) 3,208
-------- --------
Net cash (used in) provided by operating activities ... (24,701) 25,953
-------- --------
Investing Activities
- --------------------
Additions to property, plant and equipment ............ (4,523) (1,313)
Proceeds from (additions to) to locomotive
lease fleet, net ..................................... (909) 10,056
Other, net ............................................ 1,022 743
-------- --------
Net cash (used in) provided by investing activities ... (4,410) 9,486
-------- --------
Financing Activities
- --------------------
Increase in intangibles ............................... (212) (220)
Dividends paid ........................................ (1,372) --
Payments of long-term debt ............................ (157) (51)
Change in payable to Morrison Knudsen ................. 11,733 --
Net borrowings (repayments) under credit agreements ... 9,865 (37,049)
-------- --------
Net cash (used in) provided by financing activities ... 19,857 (37,320)
Effect of exchange rates on cash ...................... (531) --
-------- --------
Net decrease in cash and cash equivalents ............. (9,785) (1,881)
Cash and cash equivalents at beginning of period ...... 12,459 5,696
-------- --------
Cash and cash equivalents at end of period ............ $ 2,674 $ 3,815
======== ========
Supplemental Disclosures of Cash Flow Information
- -------------------------------------------------
Interest paid ......................................... $ 1,940 $ 273
Income taxes paid (refunded), net ..................... 173 61
Reduction of payable to Morrison Knudsen:
Payable to Morrison Knudsen .................... 29,500 --
Paid-in capital ................................ (18,600) --
Deferred taxes ................................. (10,900) --
The accompanying notes are an integral part of the financial statements.
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MK RAIL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Organization and Basis of Presentation
The accompanying consolidated financial statements include the accounts
of MK Rail Corporation ("the Company") and its majority-owned subsidiaries.
The Company was formed in April 1993 as a wholly-owned subsidiary of
Morrison Knudsen Corporation ("Morrison Knudsen"). The Company acquired certain
assets of the Rail Systems Group of Morrison Knudsen, including the Locomotive
Division, which have been included in the financial statements for all periods
presented on a pooling-of-interests basis. On April 26, 1994, the Company
commenced an initial public offering ("IPO") of 6,000,000 shares of its common
stock at an offering price of $16 a share which decreased Morrison Knudsen's
interest in the Company to 65%. Such interest has subsequently been reduced to
63% as a result of a litigation settlement (see Note 7). The Company designs,
manufactures and distributes engineered locomotive component parts; provides
locomotive fleet maintenance; and overhauls, remanufactures and manufactures
locomotives.
The Company recognizes revenues on locomotive contracts on the
percentage of completion-units delivered method and on component part sales when
product is shipped to the customer. Contract revenues and cost estimates are
reviewed and revised periodically, and adjustments are reflected in the
accounting period when known. Provisions are made currently for estimated losses
on uncompleted contracts. Unbilled accounts receivable represent shipments for
which invoices have not been processed.
Revenues recognized on long-term maintenance contracts are based upon a
percentage of the expected gross margin. Under the terms of the maintenance
contracts, significant costs are incurred in the early years (for locomotive
overhauls and fleet normalization), while payments from the customers remain
relatively constant throughout the life of the contract. By using a percentage
of the expected gross margin to recognize revenues under the maintenance
contracts, appropriate consideration is given to the risks associated with the
contracts. Costs and estimated earnings in excess of billings ("Underbillings")
and billings in excess of costs and estimated earnings ("Overbillings") on
contracts in progress are recorded on the consolidated balance sheet and are
classified as current or non-current based upon the expected timing of their
realization or liquidation.
Remanufactured locomotives are warranted for a period from one to three
years, and component parts are warranted for a period from one to four years.
Additionally, the Company provides an overhaul reserve on locomotives. Estimated
costs for product warranty are recognized at the time the products are sold.
Overhaul reserves are recorded on a straight-line basis over the period of time
from acquisition of the locomotive to the estimated date of the related
overhaul. Warranty and overhaul reserves of $4.4 million and $6.2 million at
December 31, 1995 and June 30, 1996, respectively, are included in accrued
expenses and other current liabilities in the consolidated balance sheets.
In October 1995, Statement of Financial Accounting Standards No. 123
"Accounting for Stock- Based Compensation" ("SFAS 123") was issued. SFAS 123 is
effective for transactions entered into in fiscal years that begin after
December 15, 1995. The Company adopted SFAS No. 123 as of January 1, 1996. As
permitted by SFAS 123 the Company will continue to apply APB Opinion 25 and
related Interpretations in accounting for its plans.
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
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assets and liabilities at the date of the financial statements and the reported
amounts of revenue and expenses during the reporting period. Actual results
could differ from those estimates.
The interim consolidated financial statements have been prepared
without audit, pursuant to the rules and regulations of the Securities and
Exchange Commission. Certain financial information and footnote disclosures
normally included in financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted pursuant to such
rules and regulations. These consolidated financial statements should be read in
conjunction with the audited consolidated financial statements and notes thereto
for the year ended December 31, 1995 included on Form 10-K.
The unaudited consolidated financial statements included herein reflect
all adjustments consisting of normal recurring adjustments which are, in the
opinion of management, necessary for a fair presentation of the results of
operations and cash flows for the interim period. The results of operations for
the six months ended June 30, 1996 are not necessarily indicative of the results
to be expected for the full year.
The interim consolidated financial statements for the three and six
months ended June 30, 1995 have been restated for certain accounting
adjustments.
2. Divestitures
Alert Manufacturing and Supply Co.
On July 26, 1996, the Company entered into an agreement with All-State
Industrial Rubber Co., Inc. ("All-State") to sell substantially all of the
assets of the Company's subsidiary Alert Manufacturing and Supply Co. ("Alert")
for a purchase price of $3.86 million after closing adjustments and subject to
certain post closing adjustments, and the assumption by All-State of trade
payables of Alert in an amount not to exceed $750,000. The assets of Alert, net
of applicable liabilities, have been reclassified as assets held for sale in the
consolidated balance sheet at June 30, 1996. The net assets of Alert included in
the June 30, 1996 consolidated balance sheet are summarized as follows:
(Unaudited)
June 30,
1996
(In thousands)
--------------
Current assets .................. $ 3,276
Property plant and equipment, net 549
Other assets .................... 222
Current liabilities ............. (750)
---------
Net assets ...................... $ 3,297
=========
7
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Morrison Knudsen of Australia Limited
On July 6, 1995, the Company completed the sale of Morrison Knudsen
Corporation of Australia Limited ("MKA"), its Australian operations. Under the
terms of its agreement with Morrison Knudsen dated June 15, 1995, the Company
(i) transferred to MKA certain locomotive assets, (ii) assigned all of the
common stock of MKA to Morrison Knudsen, (iii) discharged all of MKA's
indebtedness to the Company and (iv) granted to MKA an exclusive three-year
distributorship for the Company's products in Australia, New Zealand and
Malaysia, subject to the satisfaction of certain volume requirements. In
consideration, the Company received a nominal cash payment and $3 million in
liquidation value of MKA's redeemable preferred stock bearing a 9% cumulative
dividend. Due to the business uncertainties associated with MKA, the Company has
valued this stock at zero.
3. Inventories
Inventories consist of the following:
(Unaudited)
December 31, June 30,
1995 1996
-------- ---------
(In thousands)
Raw materials........... $ 74,251 $ 63,154
Work in progress......... 14,279 18,751
Finished goods........... 10,929 11,229
-------- ---------
$ 99,459 $ 93,134
======== =========
Approximately $37 million of total inventories at December 31, 1995 and
June 30, 1996 were valued on the LIFO cost method. The excess current
replacement cost of these inventories over the stated LIFO value was $3.6
million and $3.7 million, respectively. Two of the Company's domestic
subsidiaries value inventory on the LIFO basis.
4. Indebtedness
On September 30, 1994, the Company and several of its domestic
subsidiaries entered into a $50 million Revolving Credit and Letter of Credit
Facility and Receivables Purchase Agreement (the "Facility") with a domestic
bank. Amounts due under the Facility were repaid and the Facility was terminated
on August 31, 1995.
On August 31, 1995, the Company and its domestic subsidiaries entered
into a $75 million Loan and Security Agreement (the "Loan Agreement") with
BankAmerica Business Credit ("BABC"). Principal outstanding under the Loan
Agreement is due August 31, 1998. Subject to the modifications detailed below,
outstanding borrowings are subject to interest, payable monthly, at the bank's
Base Rate (8.25% at June 30, 1996), as defined in the Loan Agreement, plus
1.25%, or the Company may elect to convert outstanding borrowings, in amounts
not less than $5 million, and in increments of $1 million in excess thereof,
into LIBOR Rate Loans. The LIBOR Rate Loans bear interest at LIBOR plus 3.0%
with interest due in periods ranging from one to six months. Additionally, the
Company pays a monthly fee
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of .25% per annum on the unused portion of the loan amount. Available advances
under the Loan Agreement are based on the amount of eligible accounts
receivable, inventory and certain other assets. Borrowings under the facility
are secured by substantially all of the domestic inventory, accounts receivable,
property, plant and equipment, and certain other assets of the Company and its
domestic subsidiaries. Interest is not paid in cash but added to the balance
outstanding. The balance outstanding at December 31, 1995 and June 30, 1996 was
$59.8 million and $17.5 million, respectively.
In November 1995, the Financial Accounting Standards Board Emerging
Issues Task Force reached a consensus on issue number 95-22 "Balance Sheet
Classification of Borrowings Outstanding under Revolving Credit Agreements that
Include both a Subjective Acceleration Clause and a Lock-Box Arrangement" ("EITF
95-22"). In accordance with EITF 95-22 the Company has classified the balance
due under the Loan Agreement as current. At December 31, 1995 and June 30, 1996,
the Company had $3.1 million and $34.6 million, respectively, of unused
borrowing capacity under the Loan Agreement.
The Loan Agreement provides for a maximum of $10 million of letters of
credit, of which approximately $3.4 million and $4.5 million was outstanding at
December 31, 1995 and June 30, 1996, respectively. The Company pays a monthly
fee of 1.5% per annum on the undrawn amount of outstanding letters of credit.
The Loan Agreement provides certain restrictive covenants, including
attaining a minimum consolidated tangible net worth, fixed charge coverage,
limitations on capital expenditures, restrictions on the payment of dividends
and other financial covenants.
Under the terms of the Waiver and First Amendment to the Loan and
Security Agreement ("Amended Loan Agreement"), dated November 7, 1995 the
Company's bank suspended the Company's ability to utilize the LIBOR Rate Loans
feature, increased the interest rate to the Base Rate plus 1.5% (the interest
may be further adjusted downward by .25% or upward by .50% based upon future
adjusted operating income, as defined in the Amended Loan Agreement) and reset
certain financial covenants.
On January 22, 1996, the Company entered into the Second Amendment to
Loan and Security Agreement. This Second Amendment allowed the Company to enter
into various agreements related to locomotive manufacturing contracts.
On February 15, 1996 and March 22, 1996, the Company entered into the
Waiver and Amendment No. 3 to Loan and Security Agreement, and the Amendment No.
4 to Loan and Security Agreement, respectively. These amendments waived
instances of noncompliance and reset certain financial covenants.
On April 30, 1996, the Company entered into the Waiver and Fifth
Amendment to Loan and Security Agreement. This Fifth Amendment waived instances
of noncompliance and reset certain covenants relating to locomotive
manufacturing contracts and the settlement of shareholder litigation (see Note
7).
On July 6, 1995, the Company's Mexican subsidiary, MK Gain S.A. de C.V.
("MK Gain"), entered into a $30 million Loan Agreement (the "Agreement") with
Bancomer, S.A. ("Bancomer"), a Mexican bank. Under this Agreement, Bancomer will
advance up to $30 million to finance 85% of the purchase price of
U.S.-manufactured locomotive parts and components exported to Mexico for use in
the overhaul of locomotives in connection with the Mexican National Railway
contract. Each advance under the Agreement is subject to interest at the Funding
Rate (5.6875% to 6.3750% at June 30, 1996), as defined in the Agreement plus
2.5%. The Canadian Imperial Bank of Commerce ("CIBC") has agreed to fund
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Bancomer in connection with this transaction. The Export-Import Bank of the
United States ("Eximbank") has issued a credit guarantee which covers repayment
risk between Bancomer and CIBC. Upon funding, Eximbank receives an Exposure Fee
equal to 4.14% of each advance under the Agreement.
Advances under the Agreement will be drawn over a period of up to 36
months as documents evidencing MK Gain's receipt of U.S. exports are presented
to the satisfaction of Bancomer, CIBC and Eximbank. Principal and interest
payments on each advance are to be made in 10 semi-annual installments due on
May 15 and November 15 of each year with interest payments beginning May 15,
1996 and principal payments beginning November 15, 1996. Additionally, MK Gain
may be required to pay a semi-annual Success Fee equal to 5.56% of Net After-Tax
Cash Flow, as defined in the Agreement (no Success Fee was due or had been paid
as of June 30, 1996). The Agreement provides for a prepayment penalty under
certain circumstances. The balance outstanding at December 31, 1995 and June 30,
1996 was $6 million and $11.3 million, respectively. Maturities under the
Agreement are as follows: 1996 - $1,127,000; 1997 to 2000 -$2,254,800; 2001 -
$1,127,000.
The Agreement contains certain covenants, including a requirement that
MK Gain maintain specified cash flow-to-debt service and debt-to-equity ratios.
Additionally, the repayment of $13.7 million of amounts due to the Company from
MK Gain is restricted by a subordination agreement. If MK Gain maintains
specified operating and financial ratios, the subordination agreement permits
payments of interest and principal on the intercompany debt concurrently with
payments to Bancomer under the Agreement.
In connection with the Agreement, MK Gain entered into an Irrevocable
Investment, Administration and Payment Trust Agreement ("Trust Agreement") with
a Mexican multiple banking institution ("Trustee"). Pursuant to the Trust
Agreement, all moneys received from the Mexican National Railway contract are to
be deposited into the Trust. The Trustee is required to maintain a Reserve Fund
within the Trust with an average balance equal to the greater of 10% of the
outstanding loan balance under the Agreement, or the aggregate of all amounts of
principal and interest due and payable within 150 days following the date on
which the balance of the Reserve Fund is determined, multiplied by 1.5. On a
monthly basis, funds held in the Trust will be disbursed by the Trustee to pay
required debt service, taxes and any fees or expenses due to the Trustee or
other third parties. Once required payments have been made, any remaining
amounts in excess of the Reserve Fund requirements are returned to MK Gain.
Amounts held in trust at the balance sheet date are classified as restricted
cash and have been included in other non-current assets in the accompanying
consolidated balance sheets at December 31, 1995 and June 30, 1996.
At December 31, 1995 and June 30, 1996, a domestic subsidiary of the
Company had debt obligations in the amount of $2.2 million and $2.1 million,
respectively. These obligations consist primarily of Industrial Revenue Bonds
("IRB") for the construction of manufacturing buildings and acquisition of
equipment in the amount of $1.6 million in 1995 and $1.9 million in 1994, and
bear interest at rates ranging from 4.5% to 10%. Maturities under these
obligations are as follows: 1996 - $327,600; 1997 - $410,800; 1998 - $443,800;
1999 - $477,400; 2000 - $470,500.
Total maturities under long-term obligations are as follows: 1996 -
$1,454,600; 1997 - $2,665,600; 1998 - $2,698,600; 1999 - $2,732,200; 2000 -
$2,725,300; 2001 - $1,127,000.
5. Related Party Transactions
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As of December 31, 1995 and June 30, 1996, the Company's indebtedness
to Morrison Knudsen was $54 million and $57 million, respectively.
On June 15, 1995, the Company and Morrison Knudsen entered into an
agreement under which the Company's amount of indebtedness was reduced by $29.5
million (from $81.7 million as of May 31, 1995 to $52.2 million).
The $52.2 million original balance of the indebtedness is evidenced by
an unsecured promissory note, due May 31, 2000, bearing interest at the prime
rate and payable in annual installments equal to the lesser of (I) $10.4 million
or (ii) such amount as the Company is permitted to pay under any credit
facility, payable on the last business day of each March (or as soon thereafter
as is permitted under any credit facility). At June 30, 1996, the Company was
not permitted to make any payments to Morrison Knudsen under its credit
facilities.
On June 20, 1996, the Company executed a definitive agreement to
repurchase the debt the Company owes to Morrison Knudsen, pursuant to a Note
Cancellation and Restructuring Agreement (the "Note Cancellation Agreement")
dated June 20, 1996 by and among the Company and Morrison Knudsen. Under the
Note Cancellation Agreement, the Company is to repurchase the debt, which had as
of June 1, 1996 an outstanding balance including accrued interest of
approximately $56.2 million ($56.6 at June 30, l996), for a total of $34.5
million.
The net reduction in the debt of $21.7 million, net of deferred taxes
and transaction costs, will be recorded as a capital contribution. Pro forma
balance sheet information, assuming the transaction had closed on June 20, 1996,
would be as follows:
June 30,
June 30, Pro forma 1996
1996 adjustment Pro forma
---- ---------- ---------
(In millions)
Other current assets ................ $ 3.6 $ (.6) $ 3.0
Deferred income tax asset ........... 25.6 (8.5) 17.7
Current portion of note payable to
Morrison Knudsen ................... (52.1) 52.1 --
Revolving credit agreement .......... (17.5) (34.5) (52.0)
Accounts payable - Morrison Knudsen . (4.5) 4.5 --
Equity .............................. (99.6) (13.0) (113.2)
The Note Cancellation Agreement provides that a first installment of $6.9
million (plus interest calculated at prime from the date of execution of the
Note Cancellation Agreement) is to be paid 10 days after Morrison Knudsen has
obtained either Bankruptcy Court approval of the transaction ("Bankruptcy Court
Approval") or 10 days after confirmation of a Plan of Reorganization that
includes certain provisions integrating the transactions into the Plan (a
"Conforming Plan"). In the event that Bankruptcy Court Approval is obtained and
is appealed during the 10-day period, the $6.9 million is to be paid into a
court-approved escrow to be held pending finalization of the Bankruptcy Court
Approval or the expiration of 10 days following confirmation of a Conforming
Plan, or termination of the Note Cancellation Agreement. A second installment in
the amount of $27.6 million is to be paid either when
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the Bankruptcy Court Approval is a final order or 10 days after confirmation of
a Conforming Plan (referred to in either case as the "Disbursement Condition").
In addition, the Company's obligation to pay the installment is subject to a
condition, which the Company can waive, that the Company has sold Alert and MK
Gain pursuant to terms and at prices satisfactory to the Company in its sole
discretion. The Company has entered into an agreement to sell the assets of
Alert. MK Rail and Morrison Knudsen are currently discussing certain technical
amendments to the Note Cancellation Agreement relating to the bankruptcy
proceeding (as had been contemplated at the time the Note Cancellation Agreement
was executed).
The Note Cancellation Agreement also provides that if the Company has
not consummated the Alert and MK Gain transactions on or before the later of
August 30, l996 or the date the Disbursement Condition is satisfied, the Company
must waive the condition that those transactions be consummated and close the
note cancellation, or Morrison Knudsen can terminate the Note Cancellation
Agreement. If, by December 31, l996, the transaction has not fully closed for
any reason other than a default by Morrison Knudsen, subject to certain
notification provisions, Morrison Knudsen can terminate the Note Cancellation
Agreement if the Company does not elect to proceed and close the transactions.
The Company leases certain facilities from certain directors and former
officers of the Company. Lease payments, including utilities, totaled $463,000
and $234,000 for the six months ended June 30, 1995 and 1996, respectively.
The Company incurred $1.7 million and $1.1 million of legal fees and
expenses for the six months ended June 30, 1995 and 1996, respectively, from a
firm in which an officer of the Company is a shareholder.
6. Redeemable Preferred Stock
In October 1994, the Company and certain of its current and former
officers and directors, the managing underwriters for the Company's April 1994
initial public offering of common stock, Morrison Knudsen and certain of its
current and former officers and directors were named as defendants in two
complaints (the "Class Action Suits") filed in the United States District Court
for the District of Idaho, which suits were settled in March 1996. The approved
settlement agreements for the Class Action Suits provided for, inter alia, the
Company, at its election, to either contribute $1 million in cash to the
plaintiffs or issue $1 million in redemption value of a new Class A Preferred
Stock. In September 1995, pending its decision as to this election and court
approval of the settlement terms of the Class Action Suits, the Company
deposited 10,000 shares of Class A Preferred Stock into a joint settlement
account. As previously disclosed, under certain circumstances, the Company was
permitted to substitute a like number of shares of a new Class B Preferred Stock
(having rights and preferences identical to those of the Class A Preferred
Stock) for the Class A Preferred Stock. Effective as of May 15, 1996, the
Company elected to contribute $1 million in cash to the plaintiffs. To
effectuate this election, as previously contemplated, the Company issued 10,000
shares of Class B Preferred Stock to The Fidelity & Casualty Company of New York
in consideration of $1 million, which was in turn paid to the plaintiff's to
satisfy the Company's obligations to settle the Class Action Suits, and all of
the previously issued shares of Class A Preferred Stock were simultaneously
canceled.
The Class B Preferred Stock earns dividends at the rate per annum of
$10 per share. Dividends accrue from the date of issuance whether or not
declared, and are cumulative. The Board has no obligation to declare dividends
on the Class B Preferred Stock. The Class B Preferred Stock has a liquidation
value of $100 per share plus all dividends accrued and unpaid (whether or not
declared). The
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Class B Preferred Stock is subject to redemption at the Company's option at any
time and must be redeemed on the earliest of September 1, 1999, the occurrence
of certain specified extraordinary transactions involving the Company or its
capital stock, or 18 months after the occurrence of certain other specified
extraordinary transactions. In any case, the redemption price is equal to $100
per share plus all dividends accrued and unpaid on each share (whether or not
declared) through the redemption date. Except as otherwise provided by law, the
holders of the Class B Preferred Stock have no voting rights. As a result of the
issuance of the Class B Preferred Stock, the Board cannot declare or pay
dividends in respect of the Company's Common Stock if any deficiency exists in
the payment of cumulated dividends (whether or not declared) in respect of the
Class B Preferred Stock.
7. Commitments and Contingencies
The Company has commitments and performance guarantees arising from
locomotive remanufacturing contracts and maintenance agreements, and warranties
from the sale of new locomotives, remanufactured locomotives and locomotive
components.
Environmental: The Company is subject to a RCRA Part B Post Closure Permit (the
"Permit") issued by the Environmental Protection Agency and the Idaho Department
of Health and Welfare, Division of Environmental Quality relating to the
monitoring and treatment of groundwater contamination on, and adjacent to, the
Company's Boise Locomotive facility. In compliance with the Permit, the Company
has drilled wells onsite to retrieve and treat contaminated groundwater, and
onsite and offsite to monitor the amount of hazardous constituents. The Company
has estimated the expected aggregate undiscounted costs to be incurred over the
next 25 years, adjusted for inflation at 3% per annum, to be $5.1 million, based
on the Permit's Corrective Action Plan, and $4.4 million for contingent
additional Permit compliance requirements related to off-site groundwater
contamination. The discounted liability at June 30, 1996, using a discount rate
of 6.5%, was $2.1 million based on the Permit's Corrective Action Plan, and $1.9
million for contingent additional Permit compliance requirements related to
off-site groundwater contamination. The estimated outlays for each of the five
succeeding years from 1996 to 2000 are: $245,000, $253,000, $260,000, $268,000
and $317,000. The Company was in compliance with the Permit at December 31, 1995
and June 30, 1996.
Legal Proceedings: In February 1995, certain of the current and former directors
and officers of the Company and Morrison Knudsen Corporation ("Morrison
Knudsen") were named as defendants in a complaint (the "Derivative Suit") filed
in the District Court of the Fourth Judicial District of the State of Idaho in a
derivative action brought by a stockholder on behalf of the Company and Morrison
Knudsen. The complaint alleges, among other things, that the defendants
intentionally and negligently breached their fiduciary duties to, abused their
influence over and grossly mismanaged the Company and Morrison Knudsen.
In September 1995, attorneys or representatives for all of the parties
to the Derivative Suit entered into a memorandum of understanding in which they
agreed to settle this litigation, which was subsequently formalized in a
stipulation submitted to the court for approval. The final hearing on the
Derivative Suit was held on May 21, 1996, at which time the court approved the
terms of settlement.
The settlement agreement for the Derivative Suit provides, among other
things, that (i) all Board of Directors meetings will be held in Pittsburgh,
Pennsylvania or other locations where there are significant Company facilities,
(ii) the proper location for the annual meetings of stockholders for 1996 and
1997 will be presumed to be in Pittsburgh, Pennsylvania, (iii) the annual
meeting of stockholders for 1996 will be held within the time period required by
Delaware law, (iv) unless the stockholders determine otherwise, the majority of
the Company's Board will be comprised of persons who are not full-time
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employees of the Company or Morrison Knudsen, (v) the Compensation Committee
(constituted solely of outside directors) shall approve all senior executive
compensation, (vi) subject to limited exceptions, the Company's Form 10-K, proxy
statement and annual report to stockholders will disclose common membership of
any Board members or members of their immediate families as officers or members
of any governing board of any for-profit or not-for-profit organization, (vii)
the Company will not make any payments to William J. Agee, formerly the
Company's Chairman and Chief Executive Officer, and (viii) the Company's Chief
Financial Officer shall present at all regularly scheduled Board meetings a
report on the Company's financial condition.
No admission of liability or wrongdoing was made by any party in the
Derivative Suit.
In December 1995, Morrison Knudsen, the Company and certain of Morrison
Knudsen's directors and officers were named as defendants in a complaint (the
"Pilarczyk Lawsuit") filed in the United States District Court for the Northern
District of New York by plaintiffs who were principals in and/or held
substantial stock in TMS, Inc. ("TMS"), a New York corporation acquired by
Morrison Knudsen on December 30, 1992. The complaint alleges, among other
things, violations of Section 10(b), Rule 10b-5 and Section 20(a) of the
Securities Exchange Act of 1934, breach of contract, unjust enrichment,
negligent misrepresentation and common law fraud during Morrison Knudsen's
acquisition of TMS in 1992. Plaintiffs assert that the Company, which was not
formed by Morrison Knudsen until 1993, is fully responsible for the acts of
Morrison Knudsen as a transferee of its assets and as the successor in interest
of Morrison Knudsen's locomotive business, including the business previously
conducted by TMS. Moreover, plaintiffs claim that the Company is fully
responsible for the acts of Morrison Knudsen under the "instrumentality rule,"
and that the Company aided and abetted Morrison Knudsen in its actions set forth
in the complaint. However, the actions complained of occurred before the Company
was formed. Furthermore, the Company did not assume such liabilities of Morrison
Knudsen pursuant to any agreement between the Company and Morrison Knudsen.
A motion to dismiss was filed in April 1996 on behalf of all defendants
to the Pilarczyk Lawsuit. Counsel to the Company has advised that such counsel
believes the causes of action in the Pilarczyk Lawsuit relating to the Company
are without merit and the Company expects that it will be successful on this
motion, even if the suit is not dismissed as to all defendants. If the Company
is successful, the Company intends to make appropriate requests to the court to
seek to require the plaintiff to pay the Company's legal fees and costs.
In June 1995, the Company was named as defendant in a complaint filed
with the Idaho Human Rights Commission (the "Idaho Commission") and the Equal
Employment Opportunity Commission by a female employee on behalf of herself and
other women employed by the Company alleging discrimination based on sex in
violation of Title VII of the Civil Rights Act of 1964, Title 57 of Chapter 59
of the Idaho Code and the Federal Equal Pay Act. The complaint asserts that the
Company failed to pay women equally with males holding similar and comparable
positions and that the Company failed to promote women equally with males who
have equal or less qualifications. In December 1995, the plaintiff amended the
complaint to include allegations of retaliatory discharge. In June 1996, the
Idaho Commission announced that it had found no probable cause to believe that
discrimination had occurred as alleged in the original complaint. Management of
the Company believes that the claims in the original and amended complaints are
without merit and plans to vigorously defend its position.
On April 16, 1996, the Company filed suit in the United States District
Court for the Central District of California, Western Division, against Samyoung
(America), Inc. and Samyoung Machinery Industrial Co. (collectively, "Samyoung")
alleging, inter alia, that Samyoung had delivered to the Company defective
diesel engine assembly liners in breach of a contract between the Company and
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Samyoung. The Company claims to have suffered damages in excess of $1 million as
a result of the alleged breach. Samyoung has denied that the liners were
defective and has filed a counterclaim against the Company seeking recovery of
$300,000 alleged to be due under the contract, plus interest, fees and costs,
and damages in excess of $10 million for trade libel and interference with
prospective economic relationships as a result of the Company's allegedly making
false disparaging statements concerning the liners to rail customers and others.
The Company believes that Samyoung's claims are without merit. The Company
intends to vigorously prosecute its own claims and defend against Samyoung's
counterclaims.
In the ordinary course of its business, the Company is involved in
litigation relating to its operations and products, which may include
allegations as to safety and design, and labor and employment matters.
Management of the Company believes that the outcome of lawsuits of this type
currently pending will not have a material adverse effect on the consolidated
operations or financial condition of the Company.
8. Stock Option Plans
The Company has established two stock option plans. In the MK Rail
Corporation Stock Incentive Plan (the "Incentive Plan"), a maximum of 1.5
million shares may be issued upon the exercise of stock options granted or
through limited stock appreciation rights. Officers and other key employees of
the Company or its affiliates are eligible to receive awards. The exercise
price, term and other conditions applicable to each award are determined by the
Compensation Committee at the time of the grant of each award and may vary with
each award granted. Awards, which are made at not less than current market
prices at date of grant, have been granted to executives and directors under the
Incentive Plan in the form of stock options. Options granted generally vest
either over a five-year period, 20% on each anniversary date following the
grant, or a four-year period 25% on each anniversary date following the grant.
All unexercised options expire 10 years from the date of grant, subject to
acceleration in certain cases.
In the MK Rail Corporation Stock Option Plan for Non-Employee Directors
(the "Non-Employee Directors Plan") a maximum of 100,000 shares may be granted.
The price per share of the options shall be equal to 50% of the fair market
value of the stock on the grant date. All options granted shall vest over a
three-year period, one-third on each anniversary date. Unearned compensation,
representing the difference between the fair market value at the grant date and
the exercise price is charged to income over the vesting period.
Details of stock options are as follows:
Non-
Employee Incentive Option Price
Directors Plan Range per
Options Options Share
------- ------- -----
Low High
--- ----
December 31, 1995, outstanding $ 36,000 $ 1,235,000 $ 4.44 $ 16.00
Granted ....................... -- 222,500 $ 3.38 $ 3.81
Canceled ...................... (12,000) (156,250) $ 4.44 $ 10.13
----------- -----------
June 30, 1996, outstanding .... $ 24,000 $ 1,301,250 $ 3.38 $ 16.00
=========== ===========
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The Company applies APB Opinion 25 and related Interpretations in
accounting for its plans. The compensation cost that has been charged against
income for those plans was $34,248 and $21,360 for the six-month periods ended
June 30, 1996 and 1995, respectively. Compensation cost for the Company's plans
based on the fair value at the grant dates for awards under those plans
consistent with the method of FASB Statement 123 is immaterial.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF
OPERATIONS AND FINANCIAL CONDITION
GENERAL
The Company designs, manufactures and distributes engineered locomotive
component parts; provides locomotive fleet maintenance; and overhauls,
remanufactures and manufactures locomotives. The Company operates principally
through two business units, the Components Group and the Locomotive Group.
In 1996, the Company initiated a restructuring plan designed to return
the Company to profitability by cutting costs and reducing debt, in part by
selling non-essential assets. Accordingly, through the first six months of 1996
the Company has reduced its general and administrative expenses by approximately
36% and reduced corporate debt by 31%, primarily by selling most of its
locomotive lease fleet and by generating cash from operations. As a result, the
Company has recorded net income of $5 million, or 29 cents per share, through
the first six months of the year.
Although the Company's restructuring plan has been successful to date,
there can be no assurance that the Company's results of operations for the
second half of the year will be similar to its results of operations in the
first half of the year. The following factors could have a negative impact on
the Company's results of operations: a decrease in rail traffic, a reduction in
railroads' capital and maintenance spending plans for their locomotive fleets,
increased competition in the locomotive or locomotive components segments, the
Company's inability to complete planned asset sales, the Company's inability to
complete an agreement of repurchase debt from Morrison Knudsen, technological
developments that render existing industry technology obsolete, the Company's
inability to maintain profit margins on existing contracts, adverse general
economic conditions, or changes in laws or regulations affecting the industry.
RESULTS OF OPERATIONS
Consolidated Operations
Net sales increased 10% to $66.6 million in the second quarter of 1996
from $60.7 million in the second quarter of 1995. The increase is due to a $7.3
million increase in sales in the Locomotive Group, offset by a $1 million sales
decrease in the Components Group. Net sales decreased 2% to $136.2 million in
the first half of 1996 from $139.1 million in the first half of 1995. The
decrease is primarily attributed to the completion of a large remanufacturing
contract in the Locomotive Group in the first quarter of 1995 partially offset
by a sales increase of $8.5 million at MK Gain.
Cost of sales as a percentage of sales was 88.6% for the second quarter
of 1996 compared to 96% for the second quarter of 1995, resulting in gross
profit margins of 11.4% and 4%, respectively. The increase in gross margin is
attributed to the overall sales volume increase in addition to improved
operating efficiencies and the impact of cost reductions resulting from the
Company's restructuring plan. Cost of sales as a percentage of sales was 88.1%
for the first half of 1996 compared to 95.9% for the first half of 1995,
resulting in gross profit margins of 11.9% and 4.1%, respectively. The increase
in gross margin is primarily the result of the disposition of the Company's
Australian operations, which had a $4.5 million loss in the first half of 1995,
and improved operating results at the Boise locomotive facility and in the
Components Group through cost reductions in accordance with the Company's
restructuring plan.
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General and administrative expense for the second quarter of 1996
decreased 52% to $2.4 million from $4.9 million in the second quarter of 1995.
General and administrative expense for the first half of 1996 decreased 36% to
$5.4 million from $8.4 million in the first half of 1995. The decreases are
primarily attributed to the elimination of $1.8 million of costs incurred in the
first half of 1995 associated with the decision of Morrison Knudsen to sell its
ownership in the Company and cost reductions.
Interest income for the second quarter of 1996 increased $436,000 to
$661,000 compared to the second quarter of 1995. Interest income for the first
half of 1996 increased $945,000 to $1.2 million compared to the first half of
1995. These increases are primarily the result of interest received on funds
invested at MK Gain.
Interest expense for the second quarter of 1996 increased $1.4 million
to $2.6 million compared to the second quarter of 1995. Interest expense for the
first half of 1996 increased $1.9 million to $5.6 million compared to the first
half of 1995. The increases are the result of increased borrowings under
financing established for MK Gain and certain project financing at the Boise
locomotive facility, in addition to increased interest expense on the Morrison
Knudsen note payable.
Other income of $765,000 in the second quarter of 1996 and $1.4 million
in the first half of 1996 is the result of funds received through the Company's
previously restructured investments in Argentina.
A foreign exchange gain of $36,000 was realized in the second quarter
of 1996 compared to a foreign exchange gain of $635,000 in the second quarter of
1995. A foreign exchange gain of $54,000 was realized in the first half of 1996
compared to a foreign exchange loss of $700,000 in the first half of 1995. The
changes are a direct result of fluctuations in the valuation of the Mexican
peso.
Income tax expense for the second quarter of 1996 was $1.6 million
compared to an income tax benefit of $2 million in the second quarter of 1995.
Income tax expense for the first half of 1996 was $2.9 million compared to an
income tax benefit of $1.9 million in the first half of 1995. The changes are a
direct result of the increase in pre-tax income.
Components Group
For the three months ended June 30, l996, the Components Group's gross
sales decreased by 2% to $39.7 million and operating income increased by 50% to
$5.1 million compared to the three months ended June 30, 1995. For the six
months ended June 30, l996, the Components Group gross sales decreased by 4% to
$84.5 million and operating income increased by 23% to $11.3 million compared to
the six months ended June 30, 1995. The sales decreases are principally the
result of reduced sales to the Locomotive Group. The increases in operating
income are primarily the result of the continued decrease in general and
administrative expenses through the Company's restructuring plan, and
improvement in gross margins.
Locomotive Group
For the three months ended June 30, 1996, the Locomotive Group's gross
sales increased by 29% to $32.6 million and operating income increased by 170%
to $2.5 million compared to the three months ended June 30, l995. For the six
months ended June 30, l996, the Locomotive Group gross sales decreased 7% to
$62.8 million and operating income increased 181% to $4.8 million compared to
the six months ended June 30, l995. The increase in gross sales for the three
months ended June 30, l996 is attributed to an increase in locomotive overhauls
in the Boise locomotive facility and sales increases at MK Gain. The increase in
operating profit for the three months ended June 30, l996 is attributed to
improvement in gross margin at the Boise locomotive facility resulting from the
increased sales volume and cost reductions through the Company's restructuring
plan. In addition, gross margin improvement
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was realized at MK Gain. The decrease in gross sales for the six months ended
June 30, l996 is primarily attributed to the completion of a large
remanufacturing contract in the first quarter of 1995 which produced sales of
$10.7 million. In addition, the Company's Australian operations, which were
disposed of in July 1995, had sales of $1.8 million in the six months ended June
30, 1995. The increase in operating income is attributed to the improved
operating results at the Boise locomotive facility and MK Gain, in addition to
the disposition to the Company's Australian operations which had a $4.5 million
operating loss in the six months ended June 30, l995.
FINANCIAL CONDITION AND LIQUIDITY
As part of its restructuring plan, the Company has taken actions to
improve its liquidity and further reduce debt, including a reduction of overhead
expense, the sale of non-essential assets, the closing and planned sale of its
Mountaintop, Pa., locomotive facility and improved operating results.
The Company's management believes its overall indebtedness continues to
be lowered as planned and its financing is adequate to support its normal
operations and capital spending requirements.
The following table summarizes the net changes in cash flows:
Six Months Ended
June 30,
-----------------------
1995 1996
---- ----
(In thousands)
Net cash provided by (used in):
Operating activities ...................... (24,701) 25,953
Investing activities ...................... (4,410) 9,483
Financing activities ...................... 19,857 (37,320)
Effect of exchange rates on cash .......... (531) --
-------- --------
Net decrease in cash and cash equivalents .......... $ (9,785) $ (1,881)
======== ========
Cash and cash equivalents at end of period ......... $ 2,674 $ 3,815
======== ========
Net cash provided by operating activities totaled $25.9 million for the
first half of 1996 compared to net cash used in operations of $24.7 million for
the first half of 1995. The net cash provided by operations was primarily the
result of the Company's net income of $5 million, advances from customers of
$17.7 million and a decrease in inventories of $4.7 million. The Company had
depreciation and amortization expense of $5 million during the first half of
1996.
Net cash provided by investing activities totaled $9.5 million for the
first half of 1996 compared to net cash used in investing activities of $4.6
million for the first half of 1995. The net cash provided by investing
activities is principally the result of the sale of the locomotive lease fleet.
Net cash used in financing activities totaled $37.3 million for the
first half of 1996 compared to net cash provided by financing activities of
$20.1 million for the first half of 1995. In the first half of 1996, the Company
had net repayments under credit agreements of $37 million as a result of
proceeds received from the sale of the lease fleet, advances received from
project financing, cash transfers from MK Gain and the improved operating
performance of the Company.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In February 1995, certain of the current and former directors and
officers of the Company and Morrison Knudsen Corporation ("Morrison Knudsen")
were named as defendants in a complaint (the "Derivative Suit") filed in the
District Court of the Fourth Judicial District of the State of Idaho in a
derivative action brought by a stockholder on behalf of the Company and Morrison
Knudsen. The complaint alleges, among other things, that the defendants
intentionally and negligently breached their fiduciary duties to, abused their
influence over and grossly mismanaged the Company and Morrison Knudsen.
In September 1995, attorneys or representatives for all of the parties
to the Derivative Suit entered into a memorandum of understanding in which they
agreed to settle this litigation, which was subsequently formalized in a
stipulation submitted to the court for approval. The final hearing on the
Derivative Suit was held on May 21, 1996, at which time the court approved the
terms of settlement.
The settlement agreement for the Derivative Suit provides, among other
things, that (i) all Board of Directors meetings will be held in Pittsburgh,
Pennsylvania or other locations where there are significant Company facilities,
(ii) the proper location for the annual meetings of stockholders for 1996 and
1997 will be presumed to be in Pittsburgh, Pennsylvania, (iii) the annual
meeting of stockholders for 1996 will be held within the time period required by
Delaware law, (iv) unless the stockholders determine otherwise, the majority of
the Company's Board will be comprised of persons who are not full-time employees
of the Company or Morrison Knudsen, (v) the Compensation Committee (constituted
solely of outside directors) shall approve all senior executive compensation,
(vi) subject to limited exceptions, the Company's Form 10-K, proxy statement and
annual report to stockholders will disclose common membership of any Board
members or members of their immediate families as officers or members of any
governing board of any for-profit or not-for-profit organization, (vii) the
Company will not make any payments to William J. Agee, formerly the Company's
Chairman and Chief Executive Officer, and (viii) the Company's Chief Financial
Officer shall present at all regularly scheduled Board meetings a report on the
Company's financial condition.
No admission of liability or wrongdoing was made by any party in the
Derivative Suit.
In December 1995, Morrison Knudsen, the Company and certain of Morrison
Knudsen's directors and officers were named as defendants in a complaint (the
"Pilarczyk Lawsuit") filed in the United States District Court for the Northern
District of New York by plaintiffs who were principals in and/or held
substantial stock in TMS, Inc. ("TMS"), a New York corporation acquired by
Morrison Knudsen on December 30, 1992. The complaint alleges, among other
things, violations of Section 10(b), Rule 10b-5 and Section 20(a) of the
Securities Exchange Act of 1934, breach of contract, unjust enrichment,
negligent misrepresentation and common law fraud during Morrison Knudsen's
acquisition of TMS in 1992. Plaintiffs assert that the Company, which was not
formed by Morrison Knudsen until 1993, is fully responsible for the acts of
Morrison Knudsen as a transferee of its assets and as the successor in interest
of Morrison Knudsen's locomotive business, including the business previously
conducted by TMS. Moreover, plaintiffs claim that the Company is fully
responsible for the acts of Morrison Knudsen under the "instrumentality rule,"
and that the Company aided and abetted Morrison Knudsen in its actions set forth
in the complaint. However, the actions complained of occurred before the Company
was formed. Furthermore, the Company did not assume such liabilities of Morrison
Knudsen pursuant to any agreement between the Company and Morrison Knudsen.
A motion to dismiss was filed in April 1996 on behalf of all defendants
to the Pilarczyk Lawsuit. Counsel to the Company has advised that such counsel
believes the causes of action in the Pilarczyk
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<PAGE>
Lawsuit relating to the Company are without merit and the Company expects that
it will be successful on this motion, even if the suit is not dismissed as to
all defendants. If the Company is successful, the Company intends to make
appropriate requests to the court to seek to require the plaintiff to pay the
Company's legal fees and costs.
In June 1995, the Company was named as defendant in a complaint filed
with the Idaho Human Rights Commission (the "Idaho Commission") and the Equal
Employment Opportunity Commission by a female employee on behalf of herself and
other women employed by the Company alleging discrimination based on sex in
violation of Title VII of the Civil Rights Act of 1964, Title 57 of Chapter 59
of the Idaho Code and the Federal Equal Pay Act. The complaint asserts that the
Company failed to pay women equally with males holding similar and comparable
positions and that the Company failed to promote women equally with males who
have equal or less qualifications. In December 1995, the plaintiff amended the
complaint to include allegations of retaliatory discharge. In June 1996, the
Idaho Commission announced that it had found no probable cause to believe that
discrimination had occurred as alleged in the original complaint. Management of
the Company believes that the claims in the original and amended complaints are
without merit and plans to vigorously defend its position.
On April 16, 1996, the Company filed suit in the United States District
Court for the Central District of California, Western Division, against Samyoung
(America), Inc. and Samyoung Machinery Industrial Co. (collectively, "Samyoung")
alleging, inter alia, that Samyoung had delivered to the Company defective
diesel engine assembly liners in breach of a contract between the Company and
Samyoung. The Company claims to have suffered damages in excess of $1 million as
a result of the alleged breach. Samyoung has denied that the liners were
defective and has filed a counterclaim against the Company seeking recovery of
$300,000 alleged to be due under the contract, plus interest, fees and costs,
and damages in excess of $10 million for trade libel and interference with
prospective economic relationships as a result of the Company's allegedly making
false disparaging statements concerning the liners to rail customers and others.
The Company believes that Samyoung's claims are without merit. The Company
intends to vigorously prosecute its own claims and defend against Samyoung's
counterclaims.
In the ordinary course of its business, the Company is involved in
litigation relating to its operations and products, which may include
allegations as to safety and design, and labor and employment matters.
Management of the Company believes that the outcome of lawsuits of this type
currently pending will not have a material adverse effect on the consolidated
operations or financial condition of the Company.
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ITEM 2. CHANGES IN SECURITIES
In October 1994, the Company and certain of its current and former
officers and directors, the managing underwriters for the Company's April 1994
initial public offering of common stock, Morrison Knudsen and certain of its
current and former officers and directors were named as defendants in two
complaints (the "Class Action Suits") filed in the United States District Court
for the District of Idaho, which suits were settled in March 1996. The approved
settlement agreements for the Class Action Suits provided for, inter alia, the
Company, at its election, to either contribute $1 million in cash to the
plaintiffs or issue $1 million in redemption value of a new Class A Preferred
Stock. In September 1995, pending its decision as to this election and court
approval of the settlement terms of the Class Action Suits, the Company
deposited 10,000 shares of Class A Preferred Stock into a joint settlement
account. As previously disclosed, under certain circumstances, the Company was
permitted to substitute a like number of shares of a new Class B Preferred Stock
(having rights and preferences identical to those of the Class A Preferred
Stock) for the Class A Preferred Stock. Effective as of May 15, 1996, the
Company elected to contribute $1 million in cash to the plaintiffs. To
effectuate this election, as previously contemplated, the Company issued 10,000
shares of Class B Preferred Stock to The Fidelity & Casualty Company of New York
in consideration of $1 million, which was in turn paid to the plaintiff's to
satisfy the Company's obligations to settle the Class Action Suits, and all of
the previously issued shares of Class A Preferred Stock were simultaneously
canceled.
Effective as of January 19, 1996, the Board of directors of the Company
adopted a Stockholder Rights Plan and declared that a dividend of one share
purchase right ("Right") be distributed on each outstanding share of the
Company's Common Stock to stockholders of record as of the close of business on
January 30, 1996. The complete terms of the Rights are set forth in a Rights
Agreement (the "Rights Agreement") dated January 19, 1996 between the Company
and Chase Mellon Shareholder Services, L.L.C., formerly known as Chemical Mellon
Shareholder Services, L.L.C. Each Right entitles the registered holder to
purchase from the Company one one-hundredth of a share of Series C Junior
Participating Preferred Stock, par value $0.01 per share ("Preferred Stock"),
or, in certain circumstances, shares of Common Stock, other securities, and/or
cash or other property, at a purchase price of $16.00 per share of Preferred
Stock (or, when applicable, Common Stock, securities, cash, and/or other
property), subject to adjustment.
On April 5, 1996, the Company entered into an Amendment to the Rights
Agreement (the "First Amendment"). The First Amendment provides that certain
creditors of Morrison Knudsen will not be deemed to be affiliates or associates
of each other or of Morrison Knudsen (and thus will not be treated as having
common ownership of the Company's common stock for purposes of calculating
beneficial ownership under the Rights Agreement) solely by reason of any
negotiations among such creditors and/or Morrison Knudsen in connection with a
restructuring or reorganization of Morrison Knudsen. The First Amendment also
confers upon the Company's Board of Directors exclusive authority to interpret
and administer the Rights Agreement and to make all determinations deemed
necessary or advisable for its administration, including a determination to
redeem or not redeem the Rights, to exchange or not exchange the Rights or to
supplement or amend the Rights Agreement.
On June 20, 1996, the Company entered into a Second Amendment to the
Rights Agreement (the "Second Amendment"). As a result of the Second Amendment,
the Rights will be exercisable and will trade separately from the Company's
common stock if a person or a group of persons becomes the beneficial owner of
15 percent or more of the Company's common stock (rather than 10 percent or
more, as was previously provided), or if a person commences a tender offer or
exchange offer, the consummation of which would result in such person being the
beneficial owner of 15 percent or more of the common stock (rather than 10
percent or more, as was previously provided). The Second
22
<PAGE>
Amendment also provides that a merger of Morrison Knudsen will not constitute a
"change of control event" as defined in the Rights Agreement, provided certain
conditions are satisfied, including prompt distribution of the Company's common
stock. In addition, the Second Amendment permits the solicitation of votes and
the voting with respect to the plan of reorganization of Morrison Knudsen and
the execution of the Note Cancellation Agreement described in Note 5 to the
consolidated financial statements.
23
<PAGE>
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
24
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
Exhibits:
3.1 Certificate of Designations of Class B Preferred Stock (incorporated by
reference to the Company's Current Report on Form 8-K filed with the
Commission on April 18, 1995).
4.1 Amendment to Rights Agreement dated as of April 5, 1996 between the Company
and Chase Mellon Shareholder Services, L.L.C. (formerly Chemical Mellon
Shareholder Services, L.L.C.) (incorporated by reference to the Company's
Amendment No. 1 to Form 8-A/A filed with the Commission on April 25, 1996).
4.2 Second Amendment to Rights Agreement dated as of June 20, 1996 between the
Company and Chase Mellon Shareholder Services, L.L.C. (incorporated by
reference to the Company's Amendment No. 2 to Form 8-A/A filed with the
Commission on July 3, 1996).
10.1 Note Cancellation and Restructuring Agreement dated as of June 20, 1996, by
and among MK Rail Corporation, Morrison Knudsen Corporation, a Delaware
corporation, and Morrison Knudsen Corporation, an Ohio corporation
(incorporated by reference to the Company's Current Report on Form 8-K
filed with the Commission on July 3, 1996).
10.2 Stockholders Agreement dated as of June 20, 1996 between MK Rail
Corporation and Morrison Knudsen Corporation (incorporated by reference to
the Company's Current Report on Form 8-K filed with the Commission on July
3, 1996).
10.3 Agreement for the Purchase and Sale of Assets dated June 27, 1996 by and
among MK Rail Corporation, Alert Manufacturing & Supply Co. and All-State
Industrial Rubber Co., Inc. (incorporated by reference to the Company's
Current Report on Form 8-K filed with the Commission on July 3, 1996).
10.4 Closing Agreement dated July 29, 1996 among the Company, Alert
Manufacturing & Supply Co. and All-State Industrial Rubber Co., Inc.
Reports on Form 8-K
During the quarter ended June 30, 1996, the Company did not file any
Current Reports on Form 8-K with the Commission.
25
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
MK RAIL CORPORATION
By:\s\ William D. Grab
----------------------
William D. Grab
Vice President, Controller and
Principal Accounting Officer
Date: July 31, 1996
26
<PAGE>
Exhibit 10.4
CLOSING AGREEMENT
This Closing Agreement dated July 26, 1996 between MK Rail Corporation,
a Delaware corporation ("MKR"), Alert Manufacturing & Supply Co., an Illinois
corporation ("Alert") (collectively "Sellers") and All-State Industrial Rubber
Co., Inc., an Iowa corporation ("Buyer").
W I T N E S S E TH
WHEREAS, Sellers and Buyer entered into an Agreement for the Purchase
and Sale of Assets dated June 25, 1996 (the "Agreement") pursuant to which
Sellers agreed to sell substantially all of the assets of Alert to Buyer (the
"Transaction"); and
WHEREAS, the Sellers and the Buyer desire to close the Transaction as
contemplated in the Agreement on July 26, 1996; and
WHEREAS, in connection with closing the Transaction the parties desire
to agree to take certain actions after the Closing;
NOW, THEREFORE, in consideration of the promises, covenants and
agreements hereinafter set forth, and intending to be legally bound hereby, the
parties hereto agree as follows:
1. Notwithstanding any provision of the Agreement to the contrary, for
purposes of closing the Transaction, the Sellers and the Buyer agree that the
Final Purchase Price shall be the amount set forth on the Statement of
Calculation of the Closing Purchase Price attached as Exhibit A hereto ("Closing
Purchase Price").
2. Notwithstanding the foregoing, the Sellers and the Buyer agree that
commencing July 27, 1996 the Sellers and the Buyer shall have representatives
jointly confirm the determination of the Total Closing Net Accounts Receivable
and the Closing Inventory Amounts. During normal business hours, Buyer shall
provide access to the Alert facilities and Sellers and Buyer shall provide
access to each others books, records, and work papers to enable the Sellers' and
the Buyer's representatives regarding Alert's business to complete their review.
Sellers and Buyer shall work in good faith diligently to complete their review
and confirmation as soon as possible, but in no event later than August 9, 1996
(the "Final Determination Date"). Sellers agree that, in connection with their
review, William Grab and Tom Donato will be primarily responsible. Before
interviewing any of Buyer's employees, Sellers shall first notify and obtain the
prior consent of Sherry Wilkerson or her designee. Buyer shall have the right to
have a representative present during any discussions with Buyer's employees.
Sellers shall limit the number of representatives at Buyer's facilities to two.
Sellers' representatives, after advising Sherry Wilkerson, shall first attempt
to obtain the necessary information from Gary Schoenbeck, Jairo Naranjo, and
Jack MacGregor.
3. Upon certification of the Closing Net Accounts Receivable and the
Closing Inventory Amounts (collectively "Adjusted Closing Accounts Receivable
and Inventory Amount") by the Sellers and the Buyer in accordance with paragraph
2 hereof, Buyer shall pay to Sellers the amount, if any, by which the amount of
the Adjusted Closing Accounts Receivable and Inventory Amount exceeds the sum of
the Total Closing Net Accounts Receivable Amount ($1,319,000) plus the Closing
Inventory Amount ($1,233,243). Similarly, Sellers shall pay to Buyer the amount,
if any, by which the amount of the
27
<PAGE>
Exhibit 10.4
Adjusted Closing Accounts Receivable and Inventory Amount is less than the sum
of the Total Closing Net Accounts Receivable Amount ($1,319,000) plus the
Closing Inventory Amount ($1,233,243).
4. If the representatives of the Sellers and the Buyer are unable to
mutually confirm prior to the Final Determination Date with respect to any
determination of the fair market value or quantities of any items of the
Inventories for the purpose of determining the Closing Inventory Amount or the
determination of the Total Closing Net Accounts Receivable, the Sellers and the
Buyer hereby agree that such determination shall be referred to Price Waterhouse
(or, if such accounting firm has been employed by any party hereto (or an
affiliate thereof) during the five (5) years preceding the date of such referral
or cannot for any reason serve to resolve the dispute, then to an independent
public accounting firm of national stature mutually approved by the parties
hereto) (the "Selected Accountants"), which shall promptly make such a
determination. The determination of the Selected Accountants shall be conclusive
and binding on both the Sellers and the Buyer. One half of the fees of the
Selected Accountants shall be borne by the Sellers, and one half thereof shall
be borne by the Buyer. Within five (5) business days following the determination
of the adjustment by the Selected Accountants, the amount of any further
adjustments to the Final Purchase Price paid at the Closing because of the
determination by the Selected Accountants, plus interest from and after the
Final Determination Date to and including the date of payment of such
adjustments at the rate of 5.0 percent per annum, shall be paid by the Buyer to
the Seller in immediately available funds, or, alternatively, to the Buyer by
the Escrow Agent (as defined hereafter) immediately in the amount of such
further adjustments payable to the Buyer.
5. The Sellers shall pay to the Buyer within one day of receipt all
payments received by Sellers for Net Accounts Receivable whether in Seller's
lock box or otherwise. The Buyer shall pay to Sellers within one day of receipt
all payments received by Buyer for Excluded Accounts Receivable whether in
Buyer's lock box or otherwise.
6. All capitalized terms used herein and not otherwise defined shall
have the meanings ascribed to them in the Agreement.
28
<PAGE>
Exhibit 10.4
IN WITNESS WHEREOF, the undersigned, intending to be legally bound
hereby, have duly executed and delivered this Agreement as of the date first
above written.
MK RAIL CORPORATION
By: __________________________________
Name: __________________________________
Title: __________________________________
ALERT MANUFACTURING AND SUPPLY CO.
By: _________________________________
Name: _________________________________
Title: _________________________________
ALL-STATE INDUSTRIAL RUBBER CO., INC.
By: __________________________________
Name: __________________________________
Title: __________________________________
29
<PAGE>
Exhibit 10.4
STATEMENT OF CALCULATION OF
CLOSING PURCHASE PRICE
The undersigned hereby agree that the numbers set forth below shall
be used for calculating the Closing Purchase Price for purposes of Article II of
the Agreement for the Purchase and Sale of Assets dated as of June 25, 1996, by
and between MK Rail Corporation, Alert Manufacturing & Supply Co., and All-State
Industrial Rubber Co, Inc.
Estimated Purchase Price ............................. $4,500,000
Total Closing Net Accounts Receivable ................ + $1,319,000
----------
Closing Inventory Amount (lesser of the Inventory
Amount or $1,565,000) .................... + $1,233,243
----------
- $3,200,000
==========
CLOSING PURCHASE PRICE ............................... $3,852,243
IN WITNESS WHEREOF, the undersigned have set their hands and seals this 26th day
of July, 1996.
MK RAIL CORPORATION
By:______________________________
ALERT MANUFACTURING & SUPPLY CO.
By:______________________________
ALL-STATE INDUSTRIAL RUBBER CO.
By:______________________________
30
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED FINANCIAL STATEMENTS FOR THE PERIOD ENDED JUNE 30, 1996 AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> JUN-30-1996
<CASH> 3815
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<RECEIVABLES> 37356
<ALLOWANCES> 308
<INVENTORY> 93134
<CURRENT-ASSETS> 142246
<PP&E> 92994
<DEPRECIATION> 43984
<TOTAL-ASSETS> 268552
<CURRENT-LIABILITIES> 145555
<BONDS> 0
1012
0
<COMMON> 176
<OTHER-SE> 99419
<TOTAL-LIABILITY-AND-EQUITY> 268552
<SALES> 136236
<TOTAL-REVENUES> 136236
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<TOTAL-COSTS> 120044
<OTHER-EXPENSES> 0
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<INTEREST-EXPENSE> 5647
<INCOME-PRETAX> 7902
<INCOME-TAX> 2881
<INCOME-CONTINUING> 5021
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<NET-INCOME> 5021
<EPS-PRIMARY> 0.29
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