<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1998
Commission file number 33-96190
Aearo Corporation
(Exact name of registrant as specified in its charter)
----------
Delaware 13-3840450
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
5457 West 79th Street
Indianapolis, Indiana 46268
(Address of principal executive offices) (Zip Code)
(317) 692-6666
(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
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<PAGE> 2
AEARO CORPORATION
TABLE OF CONTENTS
FORM 10-Q FOR THE QUARTERLY PERIOD
ENDED JUNE 30, 1998
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
- ------- --------------------
CONDENSED CONSOLIDATED BALANCE SHEETS AS OF
JUNE 30, 1998 (UNAUDITED) AND SEPTEMBER 30, 1997 3-4
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
FOR THE THREE MONTH AND NINE MONTH PERIODS ENDED JUNE 30,
1998 AND 1997 5
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED) FOR THE NINE MONTHS ENDED JUNE 30, 1998 AND 1997 6
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED) 7-9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
- ------- ---------------------------------------
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 10-17
---------------------------------------------
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS 18
- ------- -----------------
ITEM 2. CHANGES IN SECURITIES 18
- ------- ---------------------
ITEM 3. DEFAULTS UPON SENIOR SECURITIES 18
- ------- -------------------------------
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS 19
- ------- ---------------------------------------------------
ITEM 5. OTHER INFORMATION 19
- ------- -----------------
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 19
- ------- --------------------------------
SIGNATURE PAGE 20
<PAGE> 3
PART I
ITEM 1. FINANCIAL STATEMENTS
AEARO CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS--ASSETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
JUNE 30, SEPTEMBER 30,
1998 1997
------------- -------------
(Unaudited)
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 5,261 $ 5,476
Accounts receivable (net of reserve for doubtful accounts
of $1,447 and $1,301, respectively) 42,699 45,876
Inventories 38,780 36,693
Deferred and prepaid expenses 3,253 3,397
-------- --------
Total current assets 89,993 91,442
-------- --------
PROPERTY, PLANT AND EQUIPMENT, NET 59,331 64,948
INTANGIBLE ASSETS, NET 138,823 146,906
OTHER ASSETS 6,151 7,580
-------- --------
Total assets $294,298 $310,876
======== ========
</TABLE>
The accompanying notes are an integral part of these financial statements.
3
<PAGE> 4
AEARO CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS--LIABILITIES AND STOCKHOLDERS' EQUITY
(CONTINUED)
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
JUNE 30, SEPTEMBER 30,
1998 1997
------------ -------------
(Unaudited)
<S> <C> <C>
CURRENT LIABILITIES:
Current portion of long-term debt $ 12,881 $ 10,937
Accounts payable and accrued liabilities 35,013 36,186
Accrued interest 6,811 3,769
U.S. and foreign income taxes 3,295 2,734
--------- ---------
Total current liabilities 58,000 53,62
LONG-TERM DEBT 219,123 233,729
DEFERRED INCOME TAXES 923 883
OTHER LIABILITIES 2,621 2,688
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock, $.01 par value-
Authorized--200,000 shares
Issued and outstanding--45,000 shares -- --
Common stock, $.01 par value-
Authorized--200,000 shares
Issued and outstanding--102,037.5 and 96,810 shares at
June 30, 1998 and September 30, 1997, respectively 1 1
Additional paid-in capital 32,335 32,476
Retained deficit (7,577) (5,269)
Cumulative foreign currency translation adjustments (11,128) (7,258)
--------- ---------
Total stockholders' equity 13,631 19,950
--------- ---------
Total liabilities and stockholders' equity $ 294,298 $ 310,876
========= =========
</TABLE>
The accompanying notes are an integral part of these financial statements.
4
<PAGE> 5
AEARO CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AND SHARE AMOUNTS)
(Unaudited)
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED FOR THE NINE MONTHS ENDED
JUNE 30, JUNE 30,
--------------------------- ---------------------------
1998 1997 1998 1997
--------------------------- ----------------------------
<S> <C> <C> <C> <C>
NET SALES $ 76,312 $ 74,911 $ 217,803 $ 211,096
COST OF SALES 43,112 41,974 121,973 121,696
---------- --------- --------- ---------
Gross profit 33,200 32,937 95,830 89,400
SELLING AND ADMINISTRATIVE 23,083 23,067 67,980 64,896
RESEARCH AND TECHNICAL SERVICES 1,266 1,314 3,577 3,911
AMORTIZATION OF INTANGIBLES 1,707 2,066 5,130 6,382
OTHER CHARGES (INCOME), NET 94 428 (549) 2,407
---------- --------- --------- ---------
Operating income 7,050 6,062 19,692 11,804
INTEREST EXPENSE, NET 6,436 6,658 19,698 19,904
---------- --------- --------- ---------
Income (loss) before provision
(benefit) for income taxes 614 (596) (6) (8,100)
PROVISION (BENEFIT) FOR INCOME TAXES 986 657 2,302 (1,166)
---------- --------- --------- ---------
Net income (loss) (372) (1,253) (2,308) (6,934)
PREFERRED STOCK DIVIDEND ACCRUED 2,037 1,794 5,925 5,218
---------- --------- --------- ---------
Earnings (loss) applicable to
Common Shareholders $ (2,409) $ (3,047) $ (8,233) $ (12,152)
========== ========= ========= =========
EARNINGS (LOSS) PER COMMON SHARE $ (23.65) $ (31.37) $ (83.25) $ (123.53)
========== ========= ========= =========
WEIGHTED AVERAGE COMMON
SHARES OUTSTANDING 101,872.7 97,146 98,890.5 98,373
========== ========= ========= =========
</TABLE>
The accompanying notes are an integral part of these financial statements.
5
<PAGE> 6
AEARO CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
(Unaudited)
<TABLE>
<CAPTION>
FOR THE NINE MONTHS ENDED
JUNE 30,
--------------------------
1998 1997
-------- --------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (2,308) $ (6,934)
Adjustments to reconcile net loss to cash provided by operating activities-
Depreciation 8,952 7,132
Amortization of intangible assets and deferred financing costs 6,562 7,805
Deferred income taxes 335 377
Other, net 131 399
Changes in assets and liabilities-
Accounts receivable 3,050 (1,002)
Inventory (2,325) 98
Accounts payable and accruals 2,076 (196)
Other, net 470 (5,858)
-------- --------
Net cash provided by operating activities 16,943 1,821
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property, plant and equipment (4,164) (6,924)
Proceeds provided by disposals of property, plant and equipment 28 815
Purchase of Shoplyne assets -- (242)
-------- --------
Net cash used by investing activities (4,136) (6,351)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from (repayment of) revolving credit facility, net (5,150) 7,200
Repayment of term loans (7,473) (5,799)
Repayment of external long-term debt (161) (677)
Sale of common stock, net 1,044 203
Increase in shareholder notes, net (1,185) (107)
-------- --------
Net cash provided (used) by financing activities (12,925) 820
-------- --------
EFFECT OF EXCHANGE RATE CHANGES ON CASH (97) 598
-------- --------
DECREASE IN CASH AND CASH EQUIVALENTS (215) (3,112)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 5,476 8,540
-------- --------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 5,261 $ 5,428
======== ========
CASH PAID FOR:
Interest $ 15,440 $ 15,494
======== ========
Income taxes $ 1,097 $ 2,007
======== ========
</TABLE>
The accompanying notes are an integral part of these financial statements.
6
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AEARO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
(1) CONSOLIDATED FINANCIAL STATEMENTS
In the opinion of management, the accompanying unaudited condensed
consolidated financial statements contain all adjustments necessary to
present fairly, in accordance with generally accepted accounting
principles, the Company's financial position, results of operations and
cash flows for the interim periods presented. Such adjustments
consisted of only normal recurring items. The results of operations for
the interim periods shown in this report are not necessarily indicative
of results for any future interim period or for the entire year. These
condensed consolidated financial statements do not include all
disclosures associated with annual financial statements and accordingly
should be read in conjunction with the consolidated financial
statements and notes thereto included in the Company's Annual Report on
Form 10K.
(2) FORMATION ACQUISITION AND FINANCING
Aearo Corporation was formed by Vestar Equity Partners, L.P. (Vestar)
in June, 1995 to effect the acquisition (the Formation Acquisition) of
substantially all of the assets and liabilities of Aearo Company
(formerly Cabot Safety Corporation) and certain affiliates (the
Predecessor). The Predecessor was wholly owned by Cabot Corporation
(Cabot) prior to the Formation Acquisition. The Formation Acquisition
closed on July 11, 1995, when Aearo Corporation acquired substantially
all of the assets and certain liabilities of the Predecessor for cash,
preferred stock and a 42.5% common equity interest in Aearo
Corporation. Aearo Corporation immediately contributed the acquired
assets and liabilities to Aearo Company, a wholly owned subsidiary of
Aearo Corporation, pursuant to an asset transfer agreement dated June
13, 1995. Aearo Corporation has no other material assets, liabilities
or operations other than those that result from its ownership of the
common stock of Aearo Company.
The Formation Acquisition has been accounted for as a purchase
transaction effective as of July 11, 1995, in accordance with
Accounting Principles Board Opinion No. 16, Business Combinations, and
EITF Issue No. 88-16, Basis in Leveraged Buyout Transactions, and
accordingly, the consolidated financial statements for the periods
subsequent to July 11, 1995 reflect the purchase price, including
transaction costs, allocated to tangible and intangible assets acquired
and liabilities assumed, based on a portion of their estimated fair
values as of July 11, 1995. The valuation of assets and liabilities
acquired reflect carryover basis for the percentage ownership retained
by Cabot.
(3) USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ
from those estimates.
7
<PAGE> 8
AEARO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
(4) SIGNIFICANT ACCOUNTING POLICIES
Income Taxes. Deferred tax assets and liabilities are determined based
on the difference between the financial statement and tax bases of
assets and liabilities using enacted tax rates in effect for the year
in which the differences are expected to reverse.
Intangible Assets. Intangible assets consist primarily of the costs of
goodwill, patents, and trademarks purchased in business acquisitions.
Intangible assets are amortized on the straight-line basis over either
25 years or an estimated useful life, whichever is shorter.
Loss per Common Share. Loss per common share has been computed by
dividing loss applicable to common shareholders for the period by the
weighted average number of common shares outstanding during the period.
On October 1, 1997, the Company adopted Statement of Financial
Accounting Standards (SFAS) No. 128, Earnings per Share, which improves
the earnings per share information provided in the financial statements
by simplifying the existing computational guidelines, revising the
disclosure requirements and increasing the comparability of earnings
per share on an international basis. SFAS No. 128 requires restatement
of all prior-period earnings per share data presented. Prior period
earnings (loss) per share in these financial statements were not
affected under this new pronouncement.
(5) INVENTORIES
Inventories consisted of the following (dollars in thousands):
JUNE 30, SEPTEMBER 30,
1998 1997
----------- -------------
(unaudited)
Raw materials $11,125 $10,031
Work in process 9,433 9,982
Finished goods 18,222 16,680
------- -------
$38,780 $36,693
======= =======
Inventories are stated at the lower of cost or market, cost being
determined using the first-in, first-out method.
(6) DEBT
The Company's debt structure includes $100.0 million of Senior
Subordinated Notes (Notes) due 2005, as well as a senior bank facility
comprised of (i) term loans denominated in U.S., Canadian, British and
German currencies (Term Loans) and (ii) a revolving credit facility
providing for up to $25.0 million (Revolving Credit Facility)
(collectively, the Senior Bank Facilities). Under the terms of both the
Senior Bank Facilities and the Notes indenture, Aearo Company is
required to comply with certain financial
8
<PAGE> 9
AEARO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
(UNAUDITED)
covenants and restrictions, with which Aearo Company was in compliance
at June 30, 1998. At June 30, 1998, the amounts outstanding on the Term
Loans and the Revolving Credit Facility were $122.3 million and $5.1
million, respectively.
(7) COMMITMENTS AND CONTINGENCIES
The Company is a defendant in various lawsuits and administrative
proceedings which are being handled in the ordinary course of business.
In the opinion of management of the Company, these suits and claims
should not result in final judgments or settlements which, in the
aggregate, would have a material adverse effect on the Company's
financial condition or results of operations.
During fiscal 1997 the Company received a complaint from Gargoyles,
Inc. (Gargoyles) alleging that one of the Company's recently introduced
plano eyewear products (Fectoids) infringes a patented lens shape
utilized in the plaintiff's sun and sporting glasses. The Company is
defending this allegation vigorously. On May 19, 1998, a Federal
district court in Massachusetts issued a pre-trial ruling that the
Fectoids line of eyewear infringes a patent held by Gargoyles. The
Company has asked the court to reconsider this ruling. A final trial to
resolve all issues in the case may be held this summer or early next
year. Among other issues, the court still has to determine whether
Gargoyles' patent is in fact a validly issued patent, and the extent to
which Gargoyles may be entitled to any damage award. The Company has
been manufacturing the Fectoids line of eyewear since October 1996 and
currently this line accounts for less than two percent of the Company's
sales. The ultimate outcome of this case and its impact on the
Company's financial condition and results of operations cannot
currently be determined.
9
<PAGE> 10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the Consolidated
Financial Statements of the Company, including notes thereto, appearing
elsewhere in this Report. This Report contains forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934. The Company's actual results could differ
materially from those set forth in such forward-looking statements. The factors
that might cause such a difference include, among others, the following: risks
associated with indebtedness; risks related to acquisitions; risks associated
with the conversion to a new management information system; high level of
competition in the Company's markets; importance and costs of product
innovation; risks associated with international operations; product liability
exposure; unpredictability of patent protection and other intellectual property
issues; dependence on key personnel; the risk of adverse effect of economic and
regulatory conditions on sales; and risks associated with environmental matters.
1998 COMPARED TO 1997 RESULTS
THREE MONTHS ENDED JUNE 30
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
Three Months Ended Three Months Ended Change - Favorable
----------------------- ----------------------- (Unfavorable)
June 30, Percent of June 30, Percent of ---------------------
1998 Net Sales 1997 Net Sales Amount Percent
<S> <C> <C> <C> <C> <C> <C>
Net Sales:
Safety Products $ 66,542 87.2 $ 65,329 87.2 $ 1,213 1.9
Specialty Composites 9,770 12.8 9,582 12.8 188 2.0
-------- -------- -------- -------- --------
Total net sales 76,312 100.0 74,911 100.0 1,401 1.9
Cost of Sales 43,112 56.5 41,974 56.0 (1,138) (2.7)
-------- -------- -------- -------- --------
Gross Profit 33,200 43.5 32.937 44.0 263 0.8
Operating Expenses:
Selling and administrative 23,083 30.3 23.067 30.8 (16) (0.1)
Research and technical services 1,266 1.7 1,314 1.7 48 3.7
Amortization of intangibles 1,707 2.2 2,066 2.8 359 17.4
Other charges, net 94 0.1 428 0.6 334 78.0
-------- -------- -------- -------- -------
Operating income 7,050 9.2 6,062 8.1 988 16.3
Interest expense, net 6,436 8.4 6,658 8.9 222 3.3
-------- -------- -------- -------- --------
Income (loss) before provisions
for income taxes 614 0.8 (596) (0.8) 1,210 203.0
Provision for income taxes 986 1.3 657 0.9 (329) (50.1)
-------- -------- -------- -------- --------
Net loss (372) (0.5) (1,253) (1.7) 881 70.3
Preferred stock dividend accrued 2,037 2.7 1,794 2.4 (243) (13.5)
-------- -------- -------- -------- --------
Loss applicable to common
shareholders $ (2,409) (3.2) $ (3,047) (4.1) $ 638 20.9
======== ======== ======== ======== ========
Loss per common share $ (23.65) $ (31.37) $ 7.72 24.6
======== ========
EBITDA $ 11,970 15.7 $ 10,461 14.0 $ 1,509 14.4
======== ======== ======== ======== ========
</TABLE>
10
<PAGE> 11
RESULTS OF OPERATIONS -- THREE MONTHS ENDED JUNE 30, 1998 COMPARED TO THREE
MONTHS ENDED JUNE 30, 1997
Net Sales. Net sales in the three months ended June 30, 1998 increased 1.9% to
$76.3 million from $74.9 million in the three months ended June 30, 1997. Both
operating segments enjoyed growth with Safety Products net sales in the three
months ended June 30, 1998 increasing 1.9% to $66.5 million from $65.3 million
in the three months ended June 30, 1997 as growth with U.S. Consumer and North
American and European Industrial accounts more than offset the negative effect
of a stronger U.S. Dollar and decline in business with customers in Asia.
Specialty Composites' net sales in the three months ended June 30, 1998
increased 2.0% to $9.8 million from $9.6 million in the three months ended June
30, 1997. The increase was primarily driven by the strengthening general
aviation and Class 8 truck markets.
Gross Profit. Gross profit in the three months ended June 30, 1998 increased
0.8% to $33.2 million from $32.9 million in the three months ended June 30,
1997. Gross Profit as a percentage of net sales in the three months ended June
30, 1998 was 43.5% as compared to 44.0% in the three months ended June 30, 1997.
This decline was largely attributed to the impact of the stronger US Dollar on
the Company's European business.
Selling and Administrative Expenses. Selling and administrative expenses in the
three months ended June 30, 1998 were at the same level of $23.1 million as they
were in the three months ended June 30, 1997 even though net sales were up 1.9%.
In the 1998 period, a decrease of $1.1 million in selling expenses was offset by
an increase of $1.1 million in administrative expenses. The higher 1998
administrative expenses included an accrual for potential costs related to a
pre-trial ruling on a patent infringement claim by Gargoyles, Inc. and
normalized incentive accruals. Selling and administrative expenses as a
percentage of net sales in the three months ended June 30, 1998 decreased to
30.3% of net sales as compared to 30.8% of net sales in the three months ended
June 30, 1997.
Amortization of Intangibles. Amortization expense in the three months ended June
30, 1998 decreased 17.4% to $1.7 million from $2.1 million in the three months
ended June 30, 1997. The decrease was due to final purchase accounting
adjustments associated with the acquisition of Peltor.
Other Charges (Income), Net. Other Charges (Income), Net improved to $0.1
million of expense for the three months ended June 30, 1998 as compared to $0.4
million of expense for the three months ended June 30, 1997. This change was
primarily a result of foreign currency transaction gains in the three months
ended June 30, 1998 as compared to foreign currency transaction losses in the
three months ended June 30, 1997.
Operating Income. Primarily as a result of the factors discussed above,
operating income increased 16.3% to $7.1 million in the three months ended June
30, 1998 from $6.1 million in the three months ended June 30, 1997. Operating
income as a percentage of net sales in the three months ended June 30, 1998 was
9.2% as compared to 8.1% in the three months ended June 30, 1997.
Interest Expense, Net. Interest expense, net in the three months ended June 30,
1998 decreased 3.3% to $6.4 million from $6.7 million in the three months ended
June 30, 1997.
Income Before Provision for Income Taxes. Income before provision for income
taxes improved by $1.2 million in the three months ended June 30, 1998 to income
of $0.6 million from a loss of $0.6 million in the three months ended June 30,
1997 due to the higher operating income and lower interest expense.
Provision (Benefit) For Income Taxes. The provision for income taxes in the
three months ended June 30, 1998 increased 50.1% to $1.0 million from $0.7
million in the three months ended June 30, 1997. The Company's foreign
subsidiaries have taxable income in their jurisdictions, but the domestic
subsidiaries have a loss for
11
<PAGE> 12
income tax purposes in the U.S. In the results for the three months ended June
30, 1998, the Company has not recognized any of the tax benefits which will
occur in future periods if there is taxable income in the U.S.
Net Loss. For the three months ended June 30, 1998, the Company had a net loss
of $0.4 million as compared to a net loss of $1.3 million for the three months
ended June 30, 1997.
EBITDA. EBITDA is defined as earnings before interest, taxes, depreciation,
amortization, and non-operating income or expense. Non-operating income or
expense is further defined as extraordinary gains or losses, or gains or losses
from disposition of assets other than in the ordinary course of business. While
the Company believes EBITDA is a useful indicator of its ability to service
debt, EBITDA should not be considered as a substitute for net income determined
in accordance with generally accepted accounting principles as an indicator of
operating performance or as an alternative to cash flow as a measure of
liquidity. Investors should be aware that EBITDA as presented below may not be
comparable to similarly titled measures presented by other companies and
comparisons could be misleading unless all companies and analysts calculate this
measure in the same fashion.
EBITDA CALCULATION
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
Three Months Ended Change
June 30, Favorable (Unfavorable)
1998 1997 Amount Percent
---- ---- ------ -------
<S> <C> <C> <C> <C>
Operating Income $ 7,050 $ 6,062 $ 988 16.3%
Add Backs:
Depreciation 3,079 2,439 640 26.2%
Amortization of Intangibles 1,707 2,066 (359) (17.4%)
Non-operating Costs (Income) (1) 134 (106) 240 226.4%
-------- -------- -------
EBITDA $ 11,970 $ 10,461 $ 1,509 14.4%
======== ======== =======
(1) Other Charges (Income), Net Summary:
------------------------------------
Non-operating Costs (Income), Net $ 134 $ (106) $ 240 226.4%
Foreign Transaction (Gains) Losses (40) 534 (574) (107.5%)
-------- -------- -------
Total Other Charges (Income), Net $ 94 $ 428 $ (334) (78.0%)
======== ======== =======
</TABLE>
EBITDA for the three months ended June 30, 1998 was $12.0 million as compared to
$10.5 million for the three months ended June 30, 1997. This increase was due
primarily to the $1.0 million increase in operating income described previously,
and to $0.6 million in higher depreciation. EBITDA as a percentage of net sales
in the three months ended June 30, 1998 was 15.7% as compared to 14.0% in the
three months ended June 30, 1997.
12
<PAGE> 13
1998 COMPARED TO 1997 RESULTS
NINE MONTHS ENDED JUNE 30
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
Nine Months Ended Nine Months Ended Change - Favorable
------------------------- -------------------------- (Unfavorable)
June 30, Percent of June 30, Percent of ---------------------
1998 Net Sales 1997 Net Sales Amount Percent
<S> <C> <C> <C> <C> <C> <C>
Net Sales:
Safety Products $ 188,106 86.4 $ 183,972 87.2 $ 4,134 2.3
Specialty Composites 29,697 13.6 27,124 12.8 2,573 9.5
--------- ------- --------- ------- -------
Total net sales 217,803 100.0 211,096 100.0 6,707 3.2
Cost of Sales 121,973 56.0 121,696 57.7 (277) (0.2)
--------- ------- --------- ------- -------
Gross profit 95,830 44.0 89,400 42.3 6,430 7.2
Operating Expenses:
Selling and administrative 67,980 31.2 64,896 30.7 (3,084) (4.8)
Research and technical services 3,577 1.6 3,911 1.9 334 8.5
Amortization of intangibles 5,130 2.4 6,382 3.0 1,252 19.6
Other charges (income), net (549) (0.2) 2,407 1.1 2,956 122.8
--------- ------- --------- ------- -----
Operating income 19,692 9.0 11,804 5.6 7,888 66.8
Interest expense, net 19,698 9.0 19,904 9.4 206 1.0
--------- ------- --------- ------- -------
Loss before provision (benefit)
for income taxes (6) (0.0) (8,100) (3.8) 8.094 99.9
Provision (benefit) for income taxes 2,302 1.1 (1,166) (0.5) (3,468) (297.4)
--------- ------- --------- ------- -------
Net loss (2,308) (1.1) (6,934) (3.3) 4,626 66.7
Preferred stock dividend accrued 5,925 2.7 5,218 2.5 (707) (13.5)
--------- ------- --------- ------- -------
Loss applicable to common
shareholders $ (8,233) (3.8) $ (12,152) (5.8) $ 3,919 32.2
========= ======= ========= ======= =======
Loss per common share $ (83.25) $ (123.53) $ 40.28 32.6
========= ========= =======
EBITDA $ 33,870 15.6 $ 25,681 12.2 $ 8,189 31.9
========= ======= ========= ======= =======
</TABLE>
RESULTS OF OPERATIONS -- NINE MONTHS ENDED JUNE 30, 1998 COMPARED TO NINE MONTHS
ENDED JUNE 30, 1997
Net Sales. Net sales in the nine months ended June 30, 1998 increased 3.2% to
$217.8 million from $211.1 million in the nine months ended June 30, 1997. Both
operating segments enjoyed growth with Safety Products net sales in the nine
months ended June 30, 1998 increasing 2.3% to $188.1 million from $184.0 million
in the nine months ended June 30, 1997 as growth with U.S. Consumer and North
American and European Industrial accounts more than offset the negative effect
of a stronger U.S. Dollar and decline in business with customers in Asia.
Specialty Composites' net sales in the nine months ended June 30, 1998 increased
9.5% to $30.0 million from $27.1 million in the nine months ended June 30, 1997.
The increase was primarily driven by the strengthening general aviation and
Class 8 truck markets.
Gross Profit. Gross profit in the nine months ended June 30, 1998 increased 7.2%
to $95.8 million from $89.4 million in the nine months ended June 30, 1997.
Gross Profit as a percentage of net sales in the nine months ended June 30, 1998
was 44.0% as compared to 42.3% in the nine months ended June 30, 1997. The Gross
Profit amount was favorably impacted by the increased net sales, and the
realization of operating improvements as the Company overcame the difficulties
triggered by the conversion to a new management information system and the
changes in manufacturing processes at the Southbridge, Massachusetts facility.
These improvements have resulted in decreased spending at the Southbridge
facility, predominantly in the first quarter of 1998 and to lesser extents in
the second and third quarters. These decreased operating costs were the main
determinants in the improvement in the gross profit as a percent of net sales.
13
<PAGE> 14
Selling and Administrative Expenses. Selling and administrative expenses in the
nine months ended June 30, 1998 increased 4.8% to $68.0 million from $64.9
million in the nine months ended June 30, 1997. Within this increase is a
reduction of $0.2 million of distribution expenses. Although net sales were up
3.2%, distribution expenses decreased as the Company continued to improve
service levels and overcame the difficulties triggered by the conversion to the
new management information system. Sales and marketing expenses decreased by
$2.1 million. These reductions were more than offset by normalized incentive
accruals, an accrual for potential costs related to a pre-trial ruling on a
patent infringement claim by Gargoyles, Inc., and $1.6 million for severance and
associated charges relative to changes in senior management and the closing of
the Company's Boston headquarters in the current period compared to the year ago
period. Selling and administrative expenses as a percentage of net sales in the
nine months ended June 30, 1998 increased to 31.2% of net sales as compared to
30.7% of net sales in the nine months ended June 30, 1997.
Research and Technical Services Expenses. Research and technical services
expenses in the nine months ended June 30, 1998 decreased 8.5% to $3.6 million
from $3.9 million in the nine months ended June 30, 1997. This decrease was due
primarily to the timing of European development activities during these interim
periods, and to a lesser extent the effect of a stronger U.S. dollar relative to
the Swedish Krona.
Amortization of Intangibles. Amortization expense in the nine months ended June
30, 1998 decreased 19.6% to $5.1 million from $6.4 million in the nine months
ended June 30, 1997. The decrease was due to final purchase accounting
adjustments associated with the acquisition of Peltor.
Other Charges (Income), Net. Other Charges (Income), Net improved to income of
$0.5 million for the nine months ended June 30, 1998 as compared to expense of
$2.4 million for the nine months ended June 30, 1997. This change was primarily
a result of foreign currency transaction gains in the nine months ended June 30,
1998 as compared to foreign currency transaction losses and charges related to
the abandonment of two automation related capital projects totaling
approximately $0.5 million at the Company's Indianapolis, Indiana facility in
the nine months ended June 30, 1997.
Operating Income. Primarily as a result of the factors discussed above,
operating income increased 66.8% to $19.7 million in the nine months ended June
30, 1998 from $11.8 million in the nine months ended June 30, 1997. Operating
income as a percentage of net sales in the nine months ended June 30, 1998 was
9.0% as compared to 5.6% in the nine months ended June 30, 1997.
Interest Expense, Net. Interest expense, net in the nine months ended June 30,
1998 decreased 1.0% to $19.7 million from $19.9 million in the nine months ended
June 30, 1997.
Income Before Provision for Income Taxes. Income before provision for income
taxes improved $8.1 million in the nine months ended June 30, 1998 to
essentially a break even position from a loss of $8.1 million in the nine months
ended June 30, 1997 due to the higher operating income and lower interest
expense.
Provision (Benefit) For Income Taxes. The provision for income taxes in the nine
months ended June 30, 1998 was $2.3 million compared to a benefit of $1.2
million in the nine months ended June 30, 1997. The Company's foreign
subsidiaries have taxable income in their jurisdictions, but the domestic
subsidiaries have a loss for income tax purposes in the U.S. In the results for
the nine months ended June 30, 1998, the Company has not recognized any of the
tax benefits which will occur in future periods if there is taxable income in
the U.S.
Net Loss. For the nine months ended June 30, 1998, the Company had a net loss of
$2.3 million as compared to a net loss of $6.9 million for the nine months ended
June 30, 1997.
14
<PAGE> 15
EBITDA. EBITDA is defined as earnings before interest, taxes, depreciation,
amortization, and non-operating income or expense. Non-operating income or
expense is further defined as extraordinary gains or losses, or gains or losses
from disposition of assets other than in the ordinary course of business. While
the Company believes EBITDA is a useful indicator of its ability to service
debt, EBITDA should not be considered as a substitute for net income determined
in accordance with generally accepted accounting principles as an indicator of
operating performance or as an alternative to cash flow as a measure of
liquidity. Investors should be aware that EBITDA as presented below may not be
comparable to similarly titled measures presented by other companies and
comparisons could be misleading unless all companies and analysts calculate this
measure in the same fashion.
EBITDA CALCULATION
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
Three Months Ended Change
June 30, Favorable (Unfavorable)
1998 1997 Amount Percent
---- ---- ------ -------
<S> <C> <C> <C> <C>
Operating Income $ 19,692 $11,804 $ 7,888 66.8%
Add Backs:
Depreciation 8,952 7,132 1,820 25.5%
Amortization of Intangibles 5,130 6,382 (1,252) (19.6%)
Non-operating Costs (Income) (1) 96 363 (267) (73.6%)
-------- ------- -------
EBITDA $ 33,870 $25,681 $ 8,189 31.9%
-------- ------- -------
(1) Other Charges (Income), Net Summary:
-----------------------------------
Non-operating Costs (Income), Net $ 96 $ 363 $ (267) (73.6%)
Foreign Transaction (Gains) Losses (645) 2,044 (2,689) (131.6%)
-------- ------- -------
Total Other Charges (Income), Net $ (549) $ 2,407 $(2,956) (122.8%)
======== ======= =======
</TABLE>
EBITDA for the nine months ended June 30, 1998 was $33.9 million as compared to
$25.7 million for the nine months ended June 30, 1997. This increase was due
primarily to the increase in operating income described previously. EBITDA as a
percentage of net sales in the nine months ended June 30, 1998 was 15.6% as
compared to 12.2% in the nine months ended June 30, 1997. Excluding the $1.6
million of severance and associated charges related to changes in senior
management and the closing of the Company's Boston headquarters, EBITDA would
have been $35.5 million, or 16.3% of net sales for the nine months ended June
30, 1998.
EFFECTS OF CHANGES IN EXCHANGE RATES
In general, the Company's results of operations are affected by changes in
exchange rates. Subject to market conditions, the Company prices its products in
Europe and Canada in local currency. While many of the Company's selling and
distribution costs are also denominated in these currencies, a large portion of
product costs are U.S. Dollar denominated. As a result, a decline in the value
of the U.S. Dollar relative to other currencies can have a favorable impact on
the profitability of the Company and an increase in the value of the U.S. Dollar
relative to these other currencies can have a negative effect on the
profitability of the Company. The Company's operations are also affected by
changes in exchange rates relative to the Swedish Krona. A decline in the value
of the Krona relative to other currencies can have a favorable impact on the
profitability of the Company and an increase in the value of the Krona relative
to other currencies can have a negative impact
15
<PAGE> 16
on the profitability of the Company. During the fourth quarter of fiscal 1997,
the Company initiated the use of forward foreign currency contracts to mitigate
the effects of changes in foreign currency rates on profitability.
EFFECTS OF INFLATION
In recent years, inflation has been modest and has not had a material impact
upon the results of the Company's operations.
LIQUIDITY AND CAPITAL RESOURCES
The Company's sources of funds have consisted primarily of operating cash flow
and debt financing. The Company's uses of those funds consist principally of
debt service, capital expenditures and acquisitions.
The Company's debt structure includes $100.0 million of Senior Subordinated
Notes (Notes) due 2005, as well as a senior bank facility comprised of (i) term
loans denominated in U.S., Canadian, British and German currencies (Term Loans)
and (ii) a revolving credit facility providing for up to $25.0 million
(Revolving Credit Facility) (collectively, the Senior Bank Facilities). Under
the terms of both the Senior Bank Facilities and the Notes indenture, Aearo
Company is required to comply with certain financial covenants and restrictions,
with which Aearo Company was in compliance at June 30, 1998. At June 30, 1998,
the amounts outstanding on the Term Loans and the Revolving Credit Facility were
$122.3 million and $5.1 million, respectively.
Maturities under the Company's Term Loans are: $3.1 million for the remainder of
fiscal 1998, $13.0 million in fiscal 1999, $16.0 million in fiscal 2000, $20.7
million in fiscal 2001, $34.2 million in fiscal 2002 and $35.3 million in fiscal
2003. Other than upon a change of control or as a result of certain asset sales,
or in the event that certain excess funds exist at the end of a fiscal year, the
Company will not be required to make any principal payments in respect of the
Notes until maturity. The Company is required to make interest payments with
respect to both the Senior Bank Facilities and the Notes.
The Company's net cash provided by operating activities for the nine months
ended June 30, 1998 totaled $16.9 million as compared to $1.8 million for the
nine months ended June 30, 1997. The primary factors leading to this improvement
include: (i) improved operations which decreased the net loss by $4.6 million,
(ii) comparative improvements in accounts receivable collections of $4.1
million, and (iii) a favorable $6.3 million change in other assets and
liabilities primarily related to income taxes payable in the year ago period.
Net cash used by investing activities, primarily for capital expenditures, was
$4.1 million for the nine months ended June 30, 1998 as compared to $6.4 million
for the nine months ended June 30, 1997. The nine months ended June 30, 1997
included proceeds of $0.8 million from the sale of the Rhode Island facility of
Peltor, Inc. as those operations were consolidated into the Company's
Southbridge, Massachusetts and Indianapolis, Indiana facilities. Generally, the
capital spending is of a relatively short duration, with the complete commitment
process typically involving less than one year. The major items included in
capital expenditures over the past three years were an aggregate of $5.6 million
for a casting line at the Newark, Delaware facility and $8.0 million for the new
management information system.
Net cash used by financing activities for the nine months ended June 30, 1998
was $12.9 million as the Company reduced the borrowings under the Revolving
Credit Facility by $5.2 million and made scheduled principal repayments on the
Term Loans totaling $7.5 million. Net cash provided by financing activities for
the nine months ended June 30, 1997 was $0.8 million as borrowings under the
Revolving Credit Facility increased by $7.2 million, more than offsetting the
scheduled principal repayments on the Term Loans of $5.8 million.
16
<PAGE> 17
The Company has a substantial amount of indebtedness. The Company relies on
internally generated funds, and to the extent necessary, on borrowings under the
Revolving Credit Facility (subject to certain customary drawing conditions) to
meet its liquidity needs. Throughout most of fiscal 1997, borrowing levels
remained high until the difficulties associated with the conversion to the new
management information system were largely resolved and the improvements in
production planning were beginning to be realized. The Company anticipates that
operating cash flow will be adequate to meet its debt service and capital
expenditure requirements for the next several years, although there can be no
assurances that existing levels of sales and normalized profitability, and
therefore cash flow, will be maintained in the future. Levels of sales and
profitability may be impacted by service levels, continued new product
development, worldwide economic conditions and competitive pressures. In
addition, the Company may make additional acquisitions in the future and would
rely on internally generated funds and, to the extent necessary, on borrowings
to finance such acquisitions.
17
<PAGE> 18
PART II
ITEM 1. LEGAL PROCEEDINGS
Various lawsuits and claims arise against the Company in the ordinary course of
its business. Most of these lawsuits and claims relate to the Company's safety
eyewear and respiratory product lines and primarily involve accidents and/or
exposures occurring after the Company's predecessor acquired the AOSafety
Division from American Optical Corporation in April 1990. The Company is
contingently liable with respect to numerous lawsuits involving respirators
manufactured by American Optical Corporation prior to the acquisition of the
AOSafety Division in April 1990. These lawsuits typically involve plaintiffs
alleging that they suffer from asbestosis or silicosis, and that such condition
results in part from respirators which were negligently designed or
manufactured. The defendants in these lawsuits are often numerous, and include,
in addition to respirator manufacturers, employers of the plaintiffs and
manufacturers of sand (used in sand blasting) and asbestos. Responsibility for
legal costs, as well as for settlements and judgments, is shared contractually
by the Company, American Optical Corporation and a prior owner of American
Optical Corporation. The Company and Cabot have entered into an arrangement
relating to certain respirator claims asserted after July 11, 1995 (the date of
the Company's formation) whereby, so long as the Company pays to Cabot an annual
fee of $400,000, which the Company has elected to pay, Cabot will retain
responsibility and liability for, and indemnify the Company against, certain
legal claims alleged to arise out of the use of respirators manufactured prior
to July 1995. The Company has the right to discontinue the payment of such
annual fee at any time, in which case the Company will assume responsibility for
and indemnify Cabot with respect to such claims.
During fiscal 1997 the Company received a complaint from Gargoyles, Inc.
(Gargoyles) alleging that one of the Company's recently introduced plano eyewear
products (Fectoids) infringes a patented lens shape utilized in the plaintiff's
sun and sporting glasses. The Company is defending this allegation vigorously.
On May 19, 1998, a Federal district court in Massachusetts issued a pre-trial
ruling that the Fectoids line of eyewear infringes a patent held by Gargoyles.
The Company has asked the court to reconsider this ruling. A final trial to
resolve all issues in the case may be held this summer or early next year. Among
other issues, the court still has to determine whether Gargoyles' patent is in
fact a validly issued patent, and the extent to which Gargoyles may be entitled
to any damage award. The Company has been manufacturing the Fectoids line of
eyewear since October 1996 and currently this line accounts for less than two
percent of the Company's sales. The ultimate outcome of this case and its impact
on the Company's financial condition and results of operations cannot currently
be determined.
ITEM 2. CHANGES IN SECURITIES
Effective May 1, 1998 the Company sold 500 shares of its common stock to James
M. Phillips, its Vice President, Human Resources, at a purchase price per share
of $200 in a combination of cash and loans from the Company. The loans are
secured by the purchased shares, have a term of 5 years and bear interest at an
annual rate of 7%. The issuance of the above shares was made pursuant to the
Company's 1995 Employee Stock Purchase Plan and was exempt from the registration
requirements of the Securities Act of 1933, as amended (the "Act"), by virtue of
Section 4(2) of the Act.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS
None.
18
<PAGE> 19
ITEM 5. OTHER INFORMATION
COMPANY HEADQUARTERS
Effective June 30, 1998, the Company closed the Boston headquarters and
relocated it to Indianapolis, where the Company has substantial operations.
DIRECTORS
John W. Priesing and Samuel L. Hayes, III resigned from the Company's Board of
Directors on April 7, 1998 and July 23, 1998, respectively. Effective July 28,
1998, William E. Kassling, Chairman and CEO of Westinghouse Air Brake Company,
was elected to the Company's Board of Directors.
YEAR 2000 COMPLIANCE
The "Year 2000 problem" is a flaw existing in many computer hardware and
software programs caused by historical use of dates represented by only two
digits (for example, 98 rather than 1998). This causes computer programs (both
system and application) that perform arithmetic operations, comparisons, or
sorting of data fields to yield incorrect results when working with years
outside the range of 1900-1999. The Company's recent conversion to a new
management information system has brought the advantage of year 2000 compliance
to the bulk of the internal systems that could potentially otherwise have
material adverse impacts on the Company's operations. However, there can be no
assurance that year 2000 deficiencies in the systems of other companies on which
the Company's systems rely, for example its vendors, will be timely corrected or
that any such failure by another company to correct its deficiencies would not
have an adverse effect on the Company's systems, business or results of
operations. The Company is continuing its assessment of the remainder of its
internal systems and that of other companies on which the Company's systems
rely.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27.1 -- Financial Data Schedule.
(b) Reports on Form 8-K
None.
19
<PAGE> 20
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Date: August 7, 1998 AEARO CORPORATION
/s/ Bryan J. Carey
-------------------------------------------------------
Bryan J. Carey
Vice President, Chief Financial Officer, Treasurer and
Assistant Secretary
20
<PAGE> 21
EXHIBIT INDEX
EXHIBITS DESCRIPTION
- -------- -----------
27.1* -- Financial Data Schedule.
*Filed herewith.
21
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE CONDEN-
SED CONSOLIDATED BALANCE SHEETS OF AEARO CO. AS OF 6-30-98 (UNAUDITED) AND 9-30
- -97 AND THE CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) FOR THE
9 MOS. ENDED 6-30-98 AND 1997 CONTAINED IN AEARO CO.'S FORM 10-Q FOR THE QUARTER
ENDED 6-30-98, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH 10-Q.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> SEP-30-1997
<PERIOD-START> OCT-01-1997
<PERIOD-END> JUN-30-1998
<CASH> 5,261
<SECURITIES> 0
<RECEIVABLES> 44,146
<ALLOWANCES> (1,447)
<INVENTORY> 38,780
<CURRENT-ASSETS> 89,993
<PP&E> 85,901
<DEPRECIATION> (26,570)
<TOTAL-ASSETS> 294,298
<CURRENT-LIABILITIES> 58,000
<BONDS> 219,123
0
0
<COMMON> 1
<OTHER-SE> 13,630
<TOTAL-LIABILITY-AND-EQUITY> 294,298
<SALES> 217,803
<TOTAL-REVENUES> 217,803
<CGS> 121,973
<TOTAL-COSTS> 121,973
<OTHER-EXPENSES> 76,138
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 19,698
<INCOME-PRETAX> (6)
<INCOME-TAX> 2,302
<INCOME-CONTINUING> (2,308)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,308)
<EPS-PRIMARY> (83.25)
<EPS-DILUTED> (83.25)
</TABLE>
