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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.
FORM 10-Q
(Mark One)
[X] Quarterly report pursuant to Section 13 or 15 (d) of the Securities
Act of 1934 For the quarterly period ended January 31, 1999.
OR
[_] Transition report pursuant to Section 13 or 15 (d) of the Securities Act
of 1934 For the transition period from to
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Commission file number 33-92496
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GULF STATES STEEL, INC. OF ALABAMA
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(Exact name of registrant as specified in its charter)
Alabama 63-114 1013
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(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
174 South 26th Street
Gadsden, Alabama 35904-1935
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(Address of principal executive offices) (Zip Code)
(256) 543-6100
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(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 periods 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 class of common stock, as of
the latest practical date:
Common Stock $ .01 par value - 3,610,000 shares as of March 4, 1999
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GULF STATES STEEL, INC. OF ALABAMA
INDEX
<TABLE>
<CAPTION>
Page
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<S> <C>
PART I FINANCIAL INFORMATION
ITEM 1. Financial Statements (Unaudited)
Consolidated Statements of Operations
For the Three Months Ended January 31, 1999 and 1998...... 1
Consolidated Balance Sheets -
as of January 31, 1999 and October 31, 1998............... 2
Consolidated Statements of Cash Flows -
For the Three Months Ended January 31, 1999 and 1998...... 3
Notes to Consolidated Financial Statements (Unaudited).... 4 - 8
ITEM 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations............. 9 - 12
PART II OTHER INFORMATION
ITEM 6. Exhibits & Reports on Form 8-K............................ 13
</TABLE>
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PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)
--------------------------------
GULF STATES STEEL, INC. OF ALABAMA
Consolidated Statements of Operations (Unaudited)
(dollars in thousands except per share data)
<TABLE>
<CAPTION>
Three Months Ended Three Months Ended
January 31, 1999 January 31, 1998
---------------- ----------------
<S> <C> <C>
Net sales........................................... $ 74,623 $ 103,317
Cost of goods sold, excluding depreciation.......... 69,646 87,503
Depreciation........................................ 5,253 5,043
Selling, general and administrative expenses........ 4,668 4,263
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Operating profit (loss)............................. (4,944) 6,508
Other (income) expense:
Interest expense............................... 6,902 7,041
Interest income................................ (1) (2)
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6,901 7,039
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Loss before income taxes............................ (11,845) (531)
Income tax benefit.................................. -- --
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Loss before extraordinary item...................... (11,845) (531)
Extraordinary charge for debt refinancing (Note 4).. -- (1,044)
---------- ----------
Net loss............................................ $ (11,845) $ (1,575)
========== ==========
Basic and diluted earnings per share:
Loss before extraordinary item................. $ (3.28) $ (.15)
Extraordinary charge (Note 4).................. -- (.29)
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Net loss per share.................................. $ (3.28) $ (.44)
========== ==========
Common and common equivalent shares outstanding 3,610,000 3,610,000
========== ==========
</TABLE>
See accompanying notes
1
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GULF STATES STEEL, INC. OF ALABAMA
Consolidated Balance Sheets
(dollars in thousands except per share data)
<TABLE>
<CAPTION>
(Unaudited)
January 31, 1999 October 31, 1998
---------------- ----------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents.......................... $ 333 $ 1,990
Accounts receivable, less allowance for doubtful
accounts of $975 in 1999 and $930 in 1998......... 27,101 25,117
Inventories........................................ 65,763 60,941
Deferred income taxes.............................. 2,949 2,949
Prepaids and other current assets.................. 3,855 4,080
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Total current assets............................ 100,001 95,077
Property, plant and equipment, net................... 200,810 200,702
Deferred charges, less accumulated amortization of
$4,269 in 1999 and $3,965 in 1998................... 4,818 5,122
-------- --------
Total assets.................................... $305,629 $300,901
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable................................... $ 25,464 $ 29,832
Accrued payroll and employee benefits.............. 5,368 5,264
Accrued workers compensation....................... 2,576 2,517
Accrued gain sharing............................... 860 2,425
Accrued interest payable........................... 7,933 1,431
Other accrued liabilities.......................... 8,646 6,742
Current portion of long-term debt.................. 964 964
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Total current liabilities....................... 51,811 49,175
Long-term debt....................................... 243,482 230,123
Deferred postretirement health benefits.............. 5,440 4,862
Deferred income taxes................................ 2,949 2,949
Stockholders' equity:
Common Stock, par value $.01 per share;
4,000,000 shares authorized, 3,610,000 shares
issued and outstanding............................ 36 36
Additional paid-in capital......................... 39,050 39,050
Notes receivable from officers..................... (750) (750)
Accumulated deficit................................ (36,389) (24,544)
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Total stockholders' equity...................... 1,947 13,792
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Total liabilities and stockholders' equity...... $305,629 $300,901
======== ========
</TABLE>
See accompanying notes.
2
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GULF STATES STEEL, INC. OF ALABAMA
Consolidated Statements of Cash Flows (Unaudited)
(dollars in thousands)
<TABLE>
<CAPTION>
Three Months Ended Three Months Ended
January 31, 1999 January 31, 1998
Operating activities:
<S> <C> <C>
Net loss............................................. $(11,845) $ (1,575)
Adjustments to reconcile net loss to net cash
Provided by operating activities:
Depreciation....................................... 5,253 5,043
Amortization....................................... 374 390
Extraordinary item (Note 4)........................ -- 859
Changes in operating assets and liabilities:
Accounts receivable............................. (1,984) (2,464)
Inventories..................................... (4,822) (769)
Prepaids and other current assets............... 225 (2,126)
Accounts payable................................ (4,368) (2,962)
Accrued payroll and employee benefits........... (824) (1,136)
Accrued interest payable........................ 6,502 6,626
Other accrued liabilities....................... 1,904 1,192
Income taxes prepaid and payable................ -- (1)
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Net cash provided by (used in) operations............ (9,585) 3,077
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Investing activities:
Building and equipment purchases..................... (5,361) (7,995)
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Net cash used in investing activities................ (5,361) (7,995)
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Financing activities:
Net borrowings on revolving credit facilities........ 13,577 43,216
Prepayment of prior revolving credit facility
(Note 4)............................................ -- (37,393)
Payments on long-term debt........................... (288) (156)
Debt issuance costs.................................. -- (424)
-------- --------
Net cash provided by financing activities............ 13,289 5,243
-------- --------
Net increase (decrease) in cash and cash equivalents. (1,657) 325
Cash and cash equivalents at beginning of year....... 1,990 2,359
-------- --------
Cash and cash equivalents at end of period........... $ 333 $ 2,684
======== ========
Supplemental cash flow information:
Cash paid during the period for:
Interest........................................... $ 400 $ 787
Income taxes....................................... -- 1
Noncash investing and financing activities:
Capital lease obligations.......................... $ -- $ 319
</TABLE>
See accompanying notes.
3
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GULF STATES STEEL, INC. OF ALABAMA
Notes to Consolidated Financial Statements (Unaudited)
NOTE 1--BASIS OF PRESENTATION AND LIQUIDITY
The accompanying financial statements present the consolidated financial
position, results of operations and cash flows of Gulf States Steel, Inc. of
Alabama and its wholly-owned subsidiary (the "Company") for the fiscal three
month periods ended January 31, 1999 and 1998. All material intercompany
accounts and transactions have been eliminated.
The accompanying unaudited financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information. Accordingly, they do not include all the information and footnotes
required by generally accepted accounting principles for complete financial
statements. In the opinion of the Company, all adjustments (consisting of
normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the period November 1, 1998 to January 31,
1999 are not necessarily indicative of the results that may be expected for the
fiscal year ending October 31, 1999. For further information, refer to the
consolidated financial statements of the Company and the notes thereto included
in the Company's Form 10-K for the year ended October 31, 1998.
The Company has incurred losses in the current and prior years. During the
first quarter of fiscal 1999, orders, shipments and pricing for the Company's
products continued to be adversely affected by, among other things, increased
foreign steel imports. As a result of such increased imports and its effect on
the domestic steel market, the Company anticipates that orders, shipments and
pricing will continue to decrease significantly into fiscal 1999 and are
expected to remain at low levels throughout much of the year. Given current
market conditions, required capital expenditures and improvements and the
potential realization of loss contingencies, the Company believes that it will
continue to incur losses in fiscal 1999.
Although the Company expects to benefit from improved operating performance
related to its capital investments, there can be no assurance that any or all of
these potential cost savings will be realized. If the Company is unable to
increase sales and pricing, continue to reduce costs and implement productivity
improvements and maintain its borrowing availability under the revolving credit
facility, and if the level of foreign steel imports is not reduced, the Company
may not be able to meet the covenant requirements of the revolving credit
facility or have sufficient liquidity and capital resources to meet its
projected fiscal 1999 cash requirements, including the April 15, 1999 interest
payment of approximately $12.8 million due on the Company's First Mortgage
Notes.
The Company has met with holders of its First Mortgage Notes and, at the
Company's request, the holders have agreed to organize a committee to engage in
negotiations to include, among others, a debt restructuring, the April 15th
interest payment and additional sources of liquidity and working capital. The
Company's failure to successfully negotiate a restructuring of its debt would
have a material adverse effect on the financial condition and liquidity of the
Company.
The Company is continuing to develop a restructuring plan to improve operating
results and to increase financial flexibility. The Company has retained
financial and legal advisors to assist it in reviewing financial alternatives
available to the Company, including without limitation, raising additional
capital and a possible debt restructuring. There can be no assurance that a
restructuring is possible or that it will be successful in addressing the
Company's liquidity and capital resource needs.
The financial statements do not include any adjustments to reflect the
possible future effects on the recoverability and classification of assets or
the amounts and classification of liabilities that may result from the outcome
of this uncertainty.
4
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NOTE 2--INVENTORIES
Inventories are as follows:
<TABLE>
<CAPTION>
(Unaudited)
January 31, 1999 October 31, 1998
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(dollars in thousands)
<S> <C> <C>
Raw Materials and Supplies $12,229 $15,677
Work-in-Process 21,950 17,821
Finished Products 31,584 27,443
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Total $65,763 $60,941
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</TABLE>
The Company's inventories are valued at the lower of cost, as determined by the
first-in first-out (FIFO) method, or market.
NOTE 3--CONTINGENCIES
The Company is subject to a broad range of federal, state and local
environmental laws and regulations, including those governing discharges to the
air and water, the handling and disposal of solid and/or hazardous wastes, and
the remediation of contamination associated with releases of hazardous
substances. The Company conducts continuous environmental compliance and
monitoring programs and believes that it is currently in substantial compliance
with all known material and applicable environmental regulations, except as
follows:
The predecessor company (the "Predecessor") settled with the Alabama
Department of Environmental Management ("ADEM") during 1994 for all outstanding
air and water violations, and the Company believes that its facility now
operates, as a general matter, in substantial compliance with existing air
emission regulations and its water discharge permit, subject, however, to the
matters set forth below.
During 1992, the U.S. Environmental Protection Agency ("EPA") asserted that a
waste water ditch system on the Company's property should be remediated and
"closed" under the Resource Conservation and Recovery Act ("RCRA"). As of
October 31, 1994, the Predecessor had remediated a portion of the ditch. The
Predecessor also agreed to a $1.1 million civil penalty, of which $300,000 was
to be offset by future capital expenditures, related to this issue. As of
October 31, 1996, the $800,000 penalty had been paid. Subsequently, the
$300,000 of capital expenditures were not approved by the EPA, and during fiscal
year 1997 the Company made an additional penalty payment of that amount plus
interest. On November 26, 1997, ADEM approved the closure plan for the
wastewater ditch system. The requirements of the closure plan are: (1) sediment
sampling in the ditch system and (2) groundwater monitoring. Sixty-six sediment
samples were taken throughout the system and analyzed in March 1998. Eleven
groundwater-monitoring wells were installed and samples taken in February 1998.
On September 29, 1998, closure certification was granted by ADEM releasing the
Company from providing financial assurance of closure. The EPA has not yet
responded to the closure certification. If clean closure cannot be achieved,
the Company estimates the contingent closure costs will be $1.1 million with
post-closure costs of $2.8 million ($90,000 annually for 30 years). As part of
the settlement of this action, the Company is required to perform a RCRA
Facility Investigation of certain solid waste management units at the site. The
Company is currently preparing a workplan for this investigation.
The Company faces an enforcement action under the Clean Water Act. The U.S.
Department of Justice ("DOJ") notified the Company that it, at the request of
the EPA, was prepared to take "appropriate enforcement action in federal court"
against the Company for alleged violations of its water discharge permit, and
invited the Company to discuss a possible settlement prior to filing suit. The
Company opened discussions with the DOJ in
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an attempt to settle these claims. These discussions resulted in substantial
agreement as to certain additional upgrades to the Company's waste water
treatment system, and these upgrades have now been completed. On August 28,
1997, while negotiations were ongoing with the DOJ, a 60-day notice of intent to
file a citizen suit under the Clean Water Act was sent by one Johnny Williams, a
resident of Rainbow City, Alabama. Prior to expiration of the 60-day period, the
DOJ filed its action under the Clean Water Act, thus precluding the citizen
suit. On October 27, 1997, Mr. Williams moved to intervene in the government's
action, and this intervention was allowed by the court. On April 21, 1998, a
second motion to intervene was filed by L.E. McGriff and Herbert Patterson, and
this motion was also allowed by the court. Despite the filing of this
litigation, the Company and the DOJ continued to explore a possible settlement.
As a result of these discussions, an agreement in principle was reached with the
EPA and DOJ on September 1, 1998 pursuant to the terms of which the Company
would pay $500,000 as a cash civil penalty and would agree to implement
$4.0 million in facility improvements as Supplemental Environmental Projects
("SEPs") which offer environmental benefits. On December 27, 1998, DOJ decided
to reduce the SEP expenditures required from $4 million to $3,175,000, which was
accepted by the Company, on the condition that additional minor language
modifications be made in the proposed consent decree, which, if made, would
result in the Company's agreement to pay an additional $400,000 as a cash
penalty in 1999. On January 4, 1999, however, settlement discussions terminated
because DOJ required the Company to agree to waive certain defenses to any and
all future actions of any nature that the United States might initiate in the
future against the Company. The Company declined to agree to this unconditional
waiver. On January 8, 1999, the United States District Court for the Northern
District of Alabama convened a Status Conference, at which time a Pretrial
Conference was set for October 25, 1999. On January 22, 1999, the court issued a
scheduling order regarding dispositive motions and discovery, which are to be
completed by September 30, 1999. The Clean Water Act provides for civil
penalties of up to $25,000 per day for violations occurring before January 30,
1997 and $27,500 per day for violations occurring on or after January 30, 1997.
DOJ has alleged that over 4,000 potential violations of the Clean Water Act have
occurred. Many of these alleged violations concern temperature and dissolved
oxygen limitations, which are exceeded because of the extreme hot weather that
occurs during certain months of the year in Alabama. Therefore, on December 11,
1998, the Company filed an expedited petition with the Alabama Department of
Environmental Management for a modification of its NPDES permit. If granted, the
Company will be in a position to be in compliance with the Clean Water Act at
all times of the year. On March 3, 1999, DOJ and the Company met to discuss the
Company's financial situation and the potential resumption of settlement
discussions regarding this suit and other pending environmental matters.
In addition, on February 5, 1998, Mr. Williams instituted an action in the
Circuit Court of Etowah County, individually and as a representative of a
putative class of downstream property owners, seeking unspecified damages and
injunctive relief on a variety of theories for the alleged diminution of
downstream property values and unspecified health hazards as a result of the
Company's waste water discharges. The Company believes the claims of
Mr. Williams are without merit, and that no class should be certified. On
March 5, 1999, the Circuit Court of Etowah County issued an order removing this
matter from the active docket and placing it on the Administrative Docket.
During negotiations with the DOJ over the Clean Water Act matter described
above, the DOJ raised remediation of Black Creek as a possible issue. The EPA
investigated Black Creek and performed sampling in Black Creek and Lake Gadsden.
Sampling results thus far indicate levels of metals, primarily lead and zinc, in
the sediment of Black Creek and in certain locations in Lake Gadsden. The
levels of metals in the sediment generally increase with depth, indicating
historical discharges are a greater contributor to the elevated levels. The EPA
has made no determination of what remediation, if any, will be necessary,
although the EPA indicated that another round of sampling would be performed to
define the scope of the potential remediation. On December 23, 1998, as a
result of a routine file review at the Alabama Department of Environmental
Management, the Company was provided with the initial page of a "CERCLA Site
Investigation Report," prepared for EPA on September 30, 1998, under the
supervision of a EPA Task Monitor, together with a November 30, 1998 e-mail
message from the EPA Task Monitor addressed to a member of the public. That
e-mail reported that the Gulf States Steel Site Investigation Report was
referred from EPA's Emergency Response and Removal Branch to the EPA Superfund
Remedial Program for evaluation and potential remediation, but reported that
"the time frame for this is uncertain." Since the time that core samples were
taken at Lake Gadsden almost one year ago, EPA has initiated no further
communications with the Company regarding this
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matter. The Company was informed that when the EPA's Site Investigation Report
was completed, the Company would have an opportunity to discuss the findings
with EPA prior to the time that EPA made any future decisions regarding this
matter. Instead, the Company learned about these events through the above-
referenced file review. The Company informed the EPA that its contribution, if
any, to the sediment findings is divisible, and that apportioned, rather than
joint and several liability, is appropriate. Additionally, the Company's
relative contribution, if any, to the sediment results must be further reduced
to the extent that it is the result of a federally permitted discharge. On
February 19, 1999, DOJ released the report to the Company. The report discusses
the presence of certain deposits in Lake Gadsden but does not address the scope
or cost of any potentially required remediation of Black Creek and/or Lake
Gadsden. Therefore, it is not possible to predict the cost of any remediation
nor is it known whether the Company's analysis regarding its potential liability
will be accepted.
On February 20, 1996, ADEM issued a Notice of Violation ("NOV") to the Company
for continuing violation of opacity limits from the combustion stacks of the
coke ovens, and included in the NOV a requirement that the Company install
continuous opacity monitors in the stacks. The Company appealed this
requirement, and it was subsequently withdrawn by ADEM on the condition that the
Company employ an independent contractor to conduct visible emission readings on
the stacks. The Company complied with this condition. While there has been no
renewed request by ADEM that the Company install opacity monitors, ADEM has, in
subsequent NOV's, identified such monitors as a possible future requirement.
The Company has taken the position in its communications with ADEM that the
installation of such monitors on its existing stacks is not feasible; however,
it is not currently possible to predict whether ADEM will again attempt to
require that continuous opacity monitors be installed in the coke oven
combustion stacks.
As a result of a September 1997 inspection, ADEM determined that certain
violations of hazardous waste rules had occurred at the Company's facility and
had resulted in the release of hazardous waste from a secondary containment area
on site. The Company is addressing assessment and possible remediation of this
site area with ADEM. In August 1998, ADEM proposed a Consent Order with an
administrative penalty of $80,000. On September 28, 1998, ADEM issued a second
NOV regarding the same issue. These matters have been consolidated. The
Company has responded and has entered settlement discussions with ADEM on this
matter.
On January 27, 1999, the Company received an inquiry from EPA Region 4
regarding compliance with Section 165 of the Clean Air Act concerning the
Company's boilers. The Company is responding to this inquiry.
On April 22, 1998, the EPA issued an NOV to the Company relating to alleged
violations of the Toxic Substance Control Act ("TSCA") based on an inspection
conducted on May 16, 1996. The conditions cited in the NOV had been promptly
addressed following the May 16, 1996 inspection. On December 31, 1998 the
Company and the EPA reached an administrative settlement of these allegations
for a penalty payment of $31,813 and the voluntary replacement of four PCB
transformers at an estimated total cost of $149,500.
The solid waste permit for the on-site landfill at the facility expired on
December 31, 1988, and a renewal application has been pending since that time.
On April 21 and October 9, 1998, the Company received NOV's regarding the
submission of necessary data for renewal of the solid waste permit. The
requested data was submitted, and on November 10, 1998, ADEM issued public
notice of the application for modification and renewal of the solid waste
permit. On January 4, 1999, the Company received an NOV alleging that non-
approved garbage had been placed on the landfill, and that all material was not
being covered, in violation of the solid waste permit. These matters are being
corrected.
The Company's expenditures for environmental capital projects aggregated
$0.8 million and $0.7 million for the three months ended January 31, 1999 and
1998, respectively. As of January 31, 1999, the Company has accrued $1.9 million
for unresolved environmental matters, although the relevant agencies could
insist upon different and possibly more costly remedial measures than those
believed by the Company to be adequate or required by existing law. The ultimate
resolution of the above matters could have a material adverse effect on the
Company's financial position, results of operations, and liquidity.
7
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The Company is also involved in litigation arising from its normal operations,
including employee matters, the resolution of which is not expected to have a
significant effect on the Company's financial position, results of operations or
liquidity.
NOTE 4 EXTRAORDINARY ITEM
On November 13, 1997, the Company retired its previous $70 million Revolving
Credit Facility and entered into a new $80 million Credit Facility (the "New
Credit Facility") which includes a $70 million revolving credit facility and a
$10 million equipment financing facility. In connection with this refinancing,
the Company recorded an extraordinary expense of $1.04 million, consisting of a
noncash charge of $0.86 million to write-off of unamortized debt issuance costs
and a prepayment penalty of $0.18 million. The income tax benefit relating to
this write-off is reserved by a deferred income tax valuation allowance.
Available borrowings are subject to limits based on eligible accounts receivable
and inventories. The new Credit Facility has an original term of three years
through November 13, 2000, at which time the agreement will automatically renew
itself for one-year terms unless terminated by either party. Obligations under
the new Credit Facility are secured by inventories and accounts receivable, and
the Company is required to maintain a defined amount of consolidated adjusted
tangible net worth at all times.
NOTE 5 EARNINGS PER SHARE
Basic earnings per common share is computed by dividing net income (loss) by
the weighted average number of common shares outstanding. In addition, the
Company has outstanding common stock warrants subject to put options to purchase
190,000 shares of common stock. During periods of net losses, the warrants are
antidilutive and, therefore, are not considered common stock equivalent shares.
As a result, diluted earnings per share at January 31, 1999 and 1998 does not
differ from basic earnings per share.
8
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
---------------------------------------------------------------
RESULTS OF OPERATIONS
---------------------
Forward-Looking Statements
This Quarterly Report on Form 10-Q may contain forward-looking statements as
that term is defined in the Private Securities Litigation Reform Act of 1995.
The words "believe", "expect", "anticipate" and similar expressions identify
forward-looking statements. Such statements are based on management's current
assumptions and expectations and are subject to a number of factors and
uncertainties which could cause actual results or business conditions to differ
materially from those anticipated in the forward-looking statements. There can
be no assurance that actual results will not differ materially from those
described in such statements because of various factors, including, but not
limited to: the size and timing of significant orders, as well as deferral of
orders, over which the Company has little control; the variation in the
Company's sales cycles from customer to customer; increased competition posed by
other steel producers, both domestic and foreign; changes in pricing policies by
the Company and its competitors; the need to secure or build manufacturing
capacity in order to meet demand for the Company's products; the Company's
success in expanding its sales programs and its ability to gain increased market
acceptance for its existing product lines; the continued increase of foreign
steel imports at extremely low level prices; the Company's ability to raise
additional capital or to restructure its existing debt in order to meet its cash
flow needs and to have the funds available to implement its capital improvement
projects; the gain or loss of significant customers; the ability to complete the
Company's capital investment program and successfully produce its products;
shortages in the availability of raw materials from the Company's suppliers;
fluctuations in the price and availability of energy; the costs of environmental
compliance and the impact of government regulations; the Company's relationship
with its work force; the restrictive covenants and tests contained in the
Company's debt instruments, which could limit the Company's operating and
financial flexibility; and, general economic conditions.
Results of Operations
Results of operations for an interim period are not necessarily indicative of
results for the full year.
Three Months Ended January 31, 1999 Compared to Three Months Ended January 31,
1998
Net Sales. Net sales decreased 27.8% to $74.6 million for the 1999 period
from $103.3 million for the 1998 period. This decline is primarily the result
of a 26.0% decrease in sales volume on shipments of flat rolled products to
180,913 net tons in the 1999 period compared to 244,320 net tons in the 1998
period. This decline was primarily the result of depressed market conditions
resulting from the sharp increase in foreign steel imports. In addition,
average selling prices decreased $16 per ton in the first quarter of fiscal 1999
to $402 per ton compared to $418 per ton in 1998. This decrease is also due
primarily to unfavorable market conditions resulting from the sharp increase in
foreign imports at distressed level prices.
Cost of Goods Sold. Cost of goods sold, excluding depreciation, decreased
20.4% to $69.6 million for the 1999 period from $87.5 million for the 1998
period. This decrease is primarily due to lower production volumes in first
quarter of 1999 compared to the 1998 period. As a percentage of net sales, cost
of goods sold, excluding depreciation, increased to 93.3% from 84.7%. This
increase is due to lower selling prices resulting from the unfavorable market
conditions as well as higher average manufacturing costs resulting from lower
production volumes. Average manufacturing costs for flat rolled products
increased to $375 per ton in the 199 period from $351 per ton in the 1998
period. Depreciation expense increased to $5.3 million in the first quarter of
fiscal 1999 compared to $5.0 million in 1998.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased to $4.7 million, or 6.3% of sales, in the 1999
period from $4.3 million, or 4.1% of sales in the 1998 period. This
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increase is primarily due to additional costs incurred for financial and legal
advisors in the first quarter of 1999 as compared to the 1998 period.
Operating Profit (Loss). As a result of the changes in net sales, cost of
goods sold, selling and general and administrative expenses, operating profit
decreased $11.5 million from $6.5 million in 1998 to a loss of $4.9 million for
the 1999 period.
Interest Expense. Interest expense, net of interest income, decreased to $6.9
million in the 1999 period from $7.0 million during the comparable period in
1998. This increase is due to slightly higher interest expense resulting from
the higher average balance of borrowings under the Company's revolving credit
agreement offset by additional capitalized interest in the first quarter of 1999
as compared to 1998.
Liquidity and Capital Resources
The Company's net cash used in operations was $9.6 million during the first
three months of fiscal 1999 compared to cash provided by operations of
$3.1 million for the three months ended January 31, 1998. The primary reasons
for this decrease was the large decrease in earnings during the first quarter of
fiscal 1999 compared to fiscal 1998 and large increases in inventories and
accounts payable in first quarter 1999 compared to the same period in 1998. This
increase in inventory was in anticipation of a planned maintenance procedure to
the Company's blast furnace which has now been postponed. This effect was
partially offset by a slight increase in prepaids and other current assets in
first quarter 1999 compared to a large decrease in first quarter 1998.
The Company's current liquidity requirements include working capital needs,
cash for debt service and capital expenditures. The Company intends to finance
its current operations and investing activities with existing cash balances and
borrowing under the New Credit Facility (as defined). The Company makes capital
expenditures for the replacement of existing plant and equipment, compliance
with environmental regulations, and the upgrading and improvement of
manufacturing facilities. The Company's capital expenditures for the three
months ended January 31, 1999 were $5.4 million compared to $8.0 million in the
three months ended January 31, 1998. For fiscal year 1999, the Company expects
capital expenditures, excluding capitalized interest, to total approximately
$4.5 million for environmental projects and expenditures for the replacements,
upgrading and improvement of facilities and equipment to total approximately
$18.9 million. Although the Company expects to benefit from improved operating
performance related to its capital investments, there can be no assurance that
any or all of these potential cost savings will be realized.
On November 13, 1997, the Company retired its previous $70 million credit
facility and entered into a new $80 million credit facility (the "New Credit
Facility"). The New Credit Facility includes a $70 million revolving credit
line and a $10 million equipment financing facility. Available borrowings are
subject to limits based on eligible accounts receivable and inventories. The
New Credit Facility has an original term of three years through November 13,
2000, at which time the agreement will automatically renew itself for successive
one-year terms, unless terminated by either party. Obligations under the New
Credit Facility are secured by inventories and accounts receivable, and the
Company is required to maintain a defined amount of consolidated adjusted
tangible net worth at all times. During November 1997, the Company recorded an
extraordinary expense of $1.0 million in connection with the refinancing,
however, $0.9 million was a non-cash transaction consisting of the write-off of
prior unamortized debt issuance costs. As of January 31, 1999, approximately
$53.0 million was borrowed under the New Credit Facility, and the remaining
availability per the terms of the credit facility was $13.3 million. In
December 1998, the Company obtained an amendment to its debt covenant which
decreased the minimum consolidated adjusted tangible net worth from $(11.6)
million to $(20.0) million. The Company's minimum consolidated tangible net
worth at January 31, 1999, was $2.9 million.
The Company has used borrowing under its credit facilities to cover
outstanding commitments and to fund operating losses. As a result of the
Company's recent financial performance and operating results, the
10
<PAGE>
Company may need to seek amendments, waivers or forbearance of the terms of the
New Credit Facility. There can be, however, no assurance that the Company will
receive such waivers or forbearance, that the lenders will not require other
changes to the terms upon which borrowings under the New Credit Facility are
made or that the lenders will continue to permit borrowings thereunder. If the
Company is unable to borrow under the New Credit Facility, the Company's
liquidity, operations and financial condition will be materially adversely
affected.
On April 21, 1995 the Company completed the Acquisition (see the Business
section of Item 1 of Form 10-K for the year ended October 31, 1998) of
substantially all the assets and certain liabilities of the Gadsden, Alabama
facilities of Gulf States Steel, Inc. of Alabama (Predecessor) from the Brenlin
Group. In connection with this acquisition, $190 million in First Mortgage
Notes were issued. The Company is required to make semi-annual cash interest
payments of approximately $12.8 million ($25.7 annually). The next interest
payment date under the First Mortgage Notes Indenture is April 15, 1999.
Although the Company will not be required to make principal payments on the
First Mortgage Notes until maturity, in the event of Excess Cash Flow, as
defined by the First Mortgage Note Indenture, the Company will be required to
purchase First Mortgage Notes with 50% of such Excess Cash Flow. The First
Mortgage Notes are senior obligations of the Company and are secured by
substantially all the assets of the Company except accounts receivable and
inventories. The First Mortgage Notes impose certain limitations on the Company
including restricting the ability to incur additional indebtedness, pay
dividends, make certain restricted payments, create liens or sell substantially
all of the Company's assets.
At the time of the Acquisition, GSS Holdings Corp. issued certain promissory
notes to Capital Resource Lenders II, L.P. as a part of a related transaction.
Although the Company has no obligation with respect to the promissory notes, GSS
Holdings is required to make payments thereon in accordance with the respective
terms thereof, for which the source of funds is expected to be dividend
distributions or loans from the Company. The promissory notes require GSS
Holdings to cause the Company to pay dividends to Holdings to the maximum extent
allowed under the terms of the First Mortgage Notes Indenture and applicable law
until the GSS Holdings notes are repaid in full. No dividends are payable by
the Company as of January 31, 1999. In addition, in connection with the
Acquisition, GSS Holdings issued a promissory note to the seller for which the
source of funds for repayment is also expected to be dividend distributions or
loans from the Company. There have been no cash payments required or made on
the seller note through January 31, 1999.
Given current market conditions, required capital expenditures and
improvements and the potential realization of loss contingencies, the Company
believes that it will continue to incur losses in fiscal 1999. If the level of
foreign imports is not reduced and if the Company is unable to increase sales
and pricing, continue to reduce costs and implement productivity improvements
and maintain its borrowing availability under the New Credit Facility, the
Company may not have sufficient liquidity and capital resources to meet its
projected fiscal year 1999 requirements, including the April 15, 1999 interest
payment of approximately $12.8 million due on the Company's First Mortgage
Notes. The Company has met with holders of its First Mortgage Notes and, at the
Company's request, the holders have agreed to organize a committee to engage in
negotiations to include, among others, a debt restructuring, the April 15th
interest payment and additional resources of liquidity and working capital. The
Company's failure to successfully negotiate a restructuring of its debt would
have a material adverse effect on the financial condition and liquidity of the
Company. As a result, the Company is evaluating when it will commence the bosh
reline project, discussed under "Capital Investments" in Item 1, Part I of the
Company's Form 10-K for the year ended October 31, 1998, and is developing a
restructuring plan to improve operating results and to increase its financial
flexibility. The Company hopes to raise funds under its negotiated
restructuring agreement to complete the bosh reline project. The Company is
unable, at this time, to determine what effect failure to obtain such financing
would have on its operations.
The Company has retained financial and legal advisors to assist it in
reviewing financial alternatives available to the Company, including without
limitation, raising additional capital and a possible debt restructuring.
The Company has held discussions with certain of its trade creditors and
representatives of certain government agencies with respect to outstanding
accounts payable balances and tax payments. The terms of a
11
<PAGE>
plan have not been finalized, however, these trade creditors are continuing to
supply the Company and the Company is continuing discussions with
representations of the government agencies.
There can be no assurance that a restructuring is possible or that it will
be successful in addressing the Company's liquidity and capital resource needs.
The Company's failure to achieve its cost reduction initiatives or improve
operating performance through capital investments could also have a material
adverse effect on the financial results or liquidity of the Company in the
future. In addition, external factors affect the Company's market and related
transaction prices for its products as well as its cost structure for outside
purchases (i.e., ore, natural gas, electricity, etc.). Unfavorable price
movements for outside purchases and the impact of the Asian and eastern European
economic problems, among others, could have a material adverse effect on the
Company's financial results and its ability to maintain compliance with the
restrictive covenants in the Company's borrowing agreements. In the event that
the Company's financial results and/or borrowing availability under the New
Credit Facility were so affected, the Company's liquidity and capital resources
would be materially adversely effected which would also significantly limit the
Company's ability to withstand competitive pressures or additional adverse
economic conditions.
Year 2000 Issue
The Company has conducted an assessment of its exposure to disruption
associated with the Year 2000 issue. Many of its computer based transactional
business systems are subject to potential failure. The Company believes that it
could be materially affected by such failures. In addition, certain process
control systems are also exposed. The Company is also vulnerable to third-party
failures to correct their systems but believes that such exposure is minimal.
In order to assess third-party compliance and progress on this issue, the
Company has canvassed its suppliers. The Company believes that no material
contingencies exist that would require it to modify its products.
As previously reported in the Company's Form 10-K for the fiscal year ended
October 31, 1998, the Company has recognized the serious nature of its exposure
under the Year 2000 Issue and has developed a modification plan that will
minimize this exposure. It has budgeted approximately $8.8 million (of which
$6.2 million is expected to be capitalized) for the purchase of Year 2000
compliant software and consultant support all of which is expected to be funded
through operating cash flows. The primary purchased software is for an
enterprise resource planning system which will provide enhanced productivity and
customer service benefits in addition to mitigating potential consequences of
the Year 2000 problem. Through January 31, 1999, the Company has incurred
capital expenditures for software of $5.0 million and has spent another
$0.7 million for contractors to rewrite existing systems. Those activities were
initiated in late 1996 for all business systems. The Company believes that the
costs to rewrite existing systems, which will be expensed as incurred, are not
expected to have a material effect on its results of operations.
The Company anticipates completing the Year 2000 project by June 30, 1999,
which is prior to any anticipated impact on its operating systems. A team of
information systems personnel is evaluating the progress and has developed
contingency plans that ensure the continued operation of the business. The
Company has appointed a task force to further evaluate and develop action plans
for minimizing the impact of the Year 2000 Issue on its process control systems.
The costs of the project and the date on which the Company believes it will
complete the Year 2000 modifications are based on management's best estimates,
which were derived utilizing numerous assumptions of future events, including
the continued availability of certain resources, third-party modification plans
and other factors. There can be no guarantee that these estimates will be
achieved and actual results could differ materially from those anticipated.
Specific factors that might cause material differences include, but are not
limited to, the availability and cost of personnel trained in this area, the
ability to locate and correct all relevant computer codes, and similar
uncertainties. See also the Company's statements regarding "forward-looking
statements" contained in this Form 10-Q.
12
<PAGE>
PART II OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
--------------------------------
A. EXHIBIT: Exhibit 27 - Financial Data Schedule
B. No Exhibits on Form 8-K were filed by the Company during the three
months ended January 31, 1999.
13
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereto duly authorized.
GULF STATES STEEL, INC. OF ALABAMA
----------------------------------
(registrant)
By: /s/ Robert Schaal
--------------------------------------------
Robert Schaal
Chairman & Chief Executive Officer
(Principal Executive Officer)
Dated: March 16, 1998 By: /s/ James R. Grimm
--------------------------------------------
James R. Grimm
Senior Vice President & CFO
(Principal Financial and Accounting Officer)
14
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
Financials referenced Quarterly Report on Form 10-Q for the Quarterly Period
Ended January 31, 1999
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> OCT-31-1998
<PERIOD-START> NOV-01-1998
<PERIOD-END> JAN-31-1999
<CASH> 333
<SECURITIES> 0
<RECEIVABLES> 28,076
<ALLOWANCES> (975)
<INVENTORY> 65,763
<CURRENT-ASSETS> 100,001
<PP&E> 267,159
<DEPRECIATION> 66,349
<TOTAL-ASSETS> 305,629
<CURRENT-LIABILITIES> 51,811
<BONDS> 188,818
0
0
<COMMON> 36
<OTHER-SE> 1,911
<TOTAL-LIABILITY-AND-EQUITY> 305,629
<SALES> 74,623
<TOTAL-REVENUES> 74,623
<CGS> 69,646
<TOTAL-COSTS> 74,899
<OTHER-EXPENSES> 4,668
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 6,901
<INCOME-PRETAX> (11,845)
<INCOME-TAX> 0
<INCOME-CONTINUING> (11,845)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (11,845)
<EPS-PRIMARY> (3.28)
<EPS-DILUTED> (3.28)
</TABLE>
