United States
Securities and Exchange Commission
Washington, D.C. 20549
FORM 10-K/A
(AMENDMENT NO. 1)
|X| Annual Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the fiscal year ended: December 31, 2003
OR
|_| Transition Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
Commission file number 1-5558
Katy Industries, Inc.
(Exact name of registrant as specified in its charter)
Delaware 75-1277589
(State of Incorporation) (IRS Employer Identification Number)
765 Straits Turnpike, Suite 2000, Middlebury, CT 06762
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (203) 598-0397
Securities registered pursuant to Section 12(b) of the Act:
(Title of each class) (Name of each exchange on which registered)
Common Stock, $1.00 par value New York Stock Exchange
Common Stock Purchase Rights
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
YES |X| NO |_|
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. |X|
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2)
YES |_| NO |X|
The aggregate market value of the voting common stock held by
non-affiliates of the registrant* (based upon its closing transaction price on
the New York Stock Exchange Composite Tape on June 30, 2003), as of March 15,
2004 was $25,022,302. On that date 7,880,877 shares of common stock, $1.00 par
value, were outstanding, the only class of the registrant's common stock.
5,127,561 shares of common stock were held by non-affiliates of the registrant.
* Calculated by excluding all shares held by executive officers and directors of
the registrant without conceding that all such persons are "affiliates" of the
registrant for purposes of federal securities laws.
DOCUMENTS INCORPORATED BY REFERENCE
Proxy Statement for the 2004 annual meeting - Part III.
Exhibit index appears on page 87. Report consists of 94 pages.
EXPLANATORY NOTE
Katy Industries, Inc. ("Katy" or the "Company") is filing this Amendment
No. 1 to its Annual Report on Form 10-K/A for the fiscal year ended December 31,
2003 to correct certain typographical errors in (i) "Item 1. BUSINESS:
Restructuring of core operations" on page 3, (ii) "Selected Financial Data: 1999
(Loss) earnings per share - Diluted" on page 14, (iii) "Results of Operations:
Restructuring of core operations" on page 15, (iv) "Liquidity and Capital
Resources: percent of total capitalization at December 31, 2002" on page 23, (v)
"Note 22. Quarterly Results of Operations (Unaudited)" on page 75 and (vi) "Note
24. Supplemental Cash Flow Information: Income taxes paid and (received)" on
page 77 of its Annual Report on Form 10-K for the fiscal year ended December 31,
2003, which was originally filed with the Securities and Exchange Commission on
March 29, 2004 (the "Annual Report").
This Form 10-K/A continues to speak as of the date of the original filing
of the Annual Report and we have not updated the disclosures contained therein
to reflect any subsequent information or events that occurred at a later date.
The filing of this Form 10-K/A shall not be deemed an admission that the
original filing, when made, included any untrue statement of a material fact or
omitted to state a material fact necessary to make a statement not misleading.
PART I
Item 1. BUSINESS
Katy Industries, Inc. (Katy or the Company) was organized as a Delaware
corporation in 1967. We carry on our business through two principal operating
groups: Maintenance Products and Electrical Products. We also have a minority
interest in a seafood harvesting company. Each majority-owned company operates
within a broad framework of policies and corporate goals. Katy's corporate
management is responsible for overall planning, financial management,
acquisitions, dispositions, and other related administrative and corporate
matters.
Recapitalization
On June 28, 2001, we completed a recapitalization of the Company following
an agreement dated June 2, 2001 with KKTY Holding Company, L.L.C. (KKTY), an
affiliate of Kohlberg Investors IV, L.P. (Kohlberg) (the "Recapitalization"). On
June 28, 2001, our stockholders approved proposals to effectuate the
Recapitalization at their annual meeting, including classification of the board
of directors into two classes with staggered terms of two years. Under the terms
of the Recapitalization, directors designated by KKTY represent a majority of
our Board of Directors. The Class 1 directors include C. Michael Jacobi,
President and CEO, and three directors who were not designated by KKTY. The
Class I directors elected at the 2002 stockholders' meeting are up for election
at this year's annual meeting. The other five directors are Class II directors
and are all designees of KKTY. The Class II directors will stand for re-election
at the Company's annual meeting in 2005.
Under the terms of the Recapitalization, KKTY purchased 700,000 shares of
newly issued preferred stock, $100 par value per share (Convertible Preferred
Stock), which is convertible into 11,666,666 common shares, for an aggregate
purchase price of $70.0 million. More information regarding the Convertible
Preferred Stock can be found in Note 11 to the Consolidated Financial Statements
of Katy included in Part II, Item 8. The Recapitalization allowed us to retire
obligations we had under the then-current revolving credit agreement which was
agented by Bank of America (Bank of America Credit Agreement). In connection
with the Recapitalization, we entered into a new credit agreement, agented by
Bankers Trust Company, a subsidiary of Deutsche Bank (Deutsche Bank Credit
Agreement) to finance the future operations of Katy. Our debt obligations under
the Deutsche Bank Credit Agreement were refinanced on February 3, 2003, under a
new credit agreement agented by Fleet Capital (Fleet Credit Agreement). More
information regarding the Fleet Credit Agreement can be found in Note 10 to the
Consolidated Financial Statements of Katy included in Part II, Item 8, and in
the Liquidity and Capital Resources section of Management's Discussion and
Analysis of Financial Condition and Results of Operations, included in Part II,
Item 7
Also in connection with the Recapitalization, we entered into an agreement with
the holder of the preferred interest in one of our subsidiaries to redeem early
approximately half of such interest at a 40% discount, plus accrued
distributions thereon, which had a stated value prior to the Recapitalization of
$32.9 million. See Note 14 to the Consolidated Financial Statements of Katy
included in Part II, Item 8. We utilized approximately $10.2 million of the
proceeds from the issuance of the Convertible Preferred Stock for this purpose.
The difference between the amount paid on redemption and the stated value of
preferred interest redeemed ($6.6 million, plus the tax effect of $0.1 million)
was recognized as an increase to Additional Paid-in Capital on the Consolidated
Statements of Stockholders' Equity. This gain is also reflected in the
Consolidated Statement of Operations as a reduction in net loss attributable to
common shareholders. Following is a summary of the sources and uses of funds
from, and in connection with, the Recapitalization:
2
(Thousands of Dollars)
Sources:
Sale of Convertible Preferred Stock $ 70,000
Borrowings under the Deutsche Bank Credit Agreement 93,211
--------
$163,211
========
Uses:
Paydown of principal obligations under the Bank of America Credit Agreement $144,300
Payment of accrued interest under the Bank of America Credit Agreement 624
Purchase of one-half of preferred interest of a subsidiary at a discount 9,900
Payment of accrued distributions on one-half of preferred interest of a subsidiary 322
Certain costs associated with the Recapitalization 8,065
--------
$163,211
========
In connection with the Fleet Credit Agreement completed in February 2003,
the remainder of the preferred interest in our subsidiary with a carrying value
of $16.4 million was redeemed early at a similar 40% discount. The difference
between the amount paid on redemption and the stated value of the preferred
interest redeemed ($6.6 million) was recognized as an increase to Additional
Paid-In Capital on the Consolidated Statements of Stockholders' Equity. More
information regarding this redemption can be found in Note 14 to the
Consolidated Financial Statements of Katy included in Part II, Item 8.
Since the Recapitalization (as described above) on June 28, 2001, the
Company's management has been focused on the following initiatives:
o Restructuring of core operations: 35 facilities closed or
consolidated (including 2 to be closed by the end of 2004).
o Cost reductions: central services model, sourcing in Asia, product
re-engineering, headcount reductions, and improved management of raw
material price exposure.
o Balance sheet review: in light of ongoing business profitability and
requirements, approximately $90.0 million of obsolete assets were
impaired.
o Divestitures of non-core business: 4 businesses have been sold or
otherwise exited and proceeds have been applied to reduce debt.
o Re-development of new product pipeline: capital and management
expertise has been re-dedicated to this critical area.
o Organizational changes: across-the-board review of management talent
and key hires made.
With these initiatives accomplished or well under way, the Company's focus
has shifted to revenue growth through a variety of means (recent business "wins"
include new product introductions, introduction of products to new distribution
channels, and acquisitions). Our future cost reductions will come from process
improvements (such as Lean Manufacturing and Six Sigma), value engineering
products, improved sourcing/purchasing and lean administration.
Operations
Selected operating data for each operating group can be found in
Management's Discussion and Analysis of Financial Condition and Results of
Operations included in Part II, Item 7. Information regarding foreign and
domestic operations and export sales can be found in Note 19 to the Consolidated
Financial Statements of Katy included in Part II, Item 8. Set forth below is
information about our operating groups and investments and about our business in
general.
We are restructuring many of our operations in order to maintain a low
cost structure, which is essential for us to be competitive in the markets we
serve. These restructuring efforts include consolidation of facilities,
headcount reductions, and evaluation of sourcing strategies to determine the
lowest cost method for obtaining finished product. Costs associated with these
efforts include expenses for recording liabilities for non-cancelable leases at
facilities that are abandoned, severance and other employee termination costs,
costs to move inventory and equipment, consultant costs for sourcing strategy
evaluation, and other exit costs that may be incurred not only with
consolidation of facilities, but potentially the complete shut down of certain
manufacturing operations. We have incurred significant costs in this respect
during 2003 ($8.1 million), 2002 ($19.2 million) and 2001 ($13.4 million). We
expect to incur additional costs of approximately $4 million to $6 million in
2004, significantly lower than those recognized in each of the last three years.
Additional details regarding severance, restructuring and related charges can be
found in Note 21 to the Consolidated Financial Statements of Katy included in
Part II, Item 8.
3
Maintenance Products Group
The Maintenance Products Group's principal business is the manufacturing,
distribution and sale of sanitary maintenance supplies, professional cleaning
products, home and automotive storage products and abrasives. Total revenues
during 2003 were $285.3 million, and operating loss was ($7.9) million. The
operating loss included $11.5 million of impairments of long-lived assets, and
$5.7 million of severance, restructuring and related charges. The group
accounted for 65% of the Company's sales from continuing operations in 2003.
Total assets for the group were $176.2 million at December 31, 2003. The
Maintenance Products Group sells product to both commercial and consumer
end-users. The business units in this group are:
Continental Commercial Products, LLC (CCP) CCP is the successor entity to
Contico International, L.L.C. (Contico) and includes as divisions all the former
business units of Contico as well as the following business units: Disco
(Disco), Glit/Microtron Abrasives (Glit/Microtron), Loren Products (Loren), and
Wilen Products (Wilen). CCP is headquartered in Bridgeton, Missouri near St.
Louis, has additional operations in California, Georgia and Texas, and was
created mainly for the purpose of simplifying our business transactions and
improving our customer relationships by allowing customers to order products
from any CCP division on one purchase order.
The Janitorial/Sanitation (Jan/San) business unit is a plastics
manufacturer and a distributor of products for the commercial sanitary
maintenance and food service markets. Examples of Jan/San products are
commercial trash receptacles, bucket/wringer combo units for mops, wet
floor signs, janitorial carts, food storage bins, and other products
designed for commercial cleaning and food service. Jan/San products are
sold under the following brand names: Continental, Kleen Aire, Huskee,
SuperKan, KingKan and Tilt'N Wheel.
The Consumer/Retail (Consumer) business unit is a plastics and metals
manufacturer of home and automotive storage products, sold primarily
through major home improvement and mass market retail outlets. Examples of
Consumer products are metal and plastic storage boxes designed for pickup
trucks, shelving, drawer storage units, and clear plastic and heavy duty
storage bins. Consumer products are sold under the following brand names:
Contico, Tradesman, Tuff Box, and Tuffbin.
The Container business unit is a plastics manufacturer of drums and pails
for commercial and industrial use.
The Disco business unit, headquartered in McDonough, Georgia, is a
manufacturer and distributor of filtration, cleaning and specialty
products sold to the restaurant/food service industry. Examples of Disco
products include fryer filters, grill bricks, and other food service
items.
The Glit/Microtron business unit is headquartered in Wrens, Georgia, and
has an additional manufacturing facility in Pineville, North Carolina,
which is expected to be closed in the first half of 2004. Glit/Microtron
manufactures non- woven floor maintenance pads, abrasive hand pads,
scouring pads and specialty abrasive products for cleaning and finishing.
Products are sold primarily through commercial sanitary maintenance and
food service markets, with some products sold through consumer/retail
outlets. Glit/Microtron products are sold under the following brand names:
Kleenfast, Fiber Naturals, and Big Boss II.
The Loren business unit, headquartered in Lawrence, Massachusetts, is a
manufacturer and distributor of abrasive products and roof ventilation
products for the sanitary maintenance and construction industries. The
facility in Lawrence will be closed in the first half of 2004 and the
Loren operations will become part of the Glit/Microtron business unit.
Through licenses, Loren sells certain abrasives products under the Brillo,
Babbo, and Old Dutch brand names in commercial channels. Brillo is a
registered trademark of Church & Dwight Co., Inc.
The Wilen business unit, headquartered in Atlanta, Georgia, is a
manufacturer and distributor of professional cleaning products, including
mops, brooms, brushes, and plastic cleaning accessories. Wilen's products
are sold primarily through commercial sanitary maintenance and food
service markets, with some products sold through consumer/retail outlets.
Wilen products are sold under the following brand names: Wax-o-matic,
Wilen and Rototech.
CCP also has operations in Canada and the United Kingdom. CCP Canada is a
distributor of primarily plastic products for the commercial and sanitary
maintenance markets in Canada. Contico Manufacturing, Ltd. is a distributor of
primarily plastic products for the commercial and sanitary maintenance markets
in the UK. Contico Europe Limited (formerly Contico Europe Holdings) is a
plastics manufacturer of consumer storage products, sold primarily to major
retail outlets in the UK.
4
Glit/Gemtex, Ltd. (Gemtex) Gemtex, headquartered in Etobicoke, Ontario, Canada,
is a manufacturer and distributor of resin fiber disks and other coated
abrasives for the original equipment manufacturers (OEM), automotive,
industrial, and home improvement markets.
Electrical Products Group
The Electrical Products Group's principal business is the distribution and
sale of consumer electric corded products and electrical accessories. Revenues
in 2003 were $151.1 million and operating income was $13.0 million. Operating
income in 2003 included $0.4 million of impairments of long-lived assets, and
$2.1 million of severance, restructuring and related charges. The group
accounted for 35% of the Company's consolidated sales in 2003. Total assets for
the group were $51.4 million at December 31, 2003. Woods Industries, Inc.
(Woods) and Woods Industries (Canada), Inc. are both subject to seasonal sales
trends, with higher sales in the third and early fourth quarters in connection
with the holiday shopping season. The Electrical Products Group sells product
principally to large, national retailers, who in-turn sell to consumer
end-users. The business units in this group are:
Woods Industries, Inc. (Woods) Woods, headquartered in Carmel, Indiana,
distributes consumer electric corded products and electrical accessories.
Examples of Woods products are outdoor and indoor extension cords, cord reels,
surge protectors, power strips, and work lights. Woods products are sold under
the following brand names: Woods, Yellow Jacket, Tradesman, SurgeHawk and
AC/Delco. AC/Delco is registered trademark of The General Motors Corporation.
These products are sold primarily through major home improvement and mass market
retail outlets. Woods' products are sourced primarily from Asia.
Woods Industries (Canada), Inc. (Woods Canada) Woods Canada, headquartered
in Toronto, Ontario, Canada, distributes consumer electric corded products and
electrical accessories. In addition to products listed above for Woods, Woods
Canada's primary product offerings include garden lighting and timers. Woods
Canada products are sold under the following brand names: MoonRays, Intercept,
and Pro Power. These products are sold primarily through major home improvement
and mass market retail outlets in Canada. Woods Canada's products are sourced
primarily from Asia.
See Licenses, Patents, and Trademarks below for further discussion
regarding the trademarks used by Katy companies.
Other Operations
The businesses in this group include a 43% equity investment in a shrimp
harvesting and farming operation, Sahlman Holding Company, Inc., and a 100%
interest in Savannah Energy Systems Company, the limited partner in a
waste-to-energy facility operator.
Sahlman Holding Company, Inc. (Sahlman) Sahlman harvests shrimp off the
coast of South and Central America and owns shrimp farming operations in
Nicaragua. Sahlman has a number of competitors, some of which are larger and
have greater financial resources. Katy's interest in this company is an equity
investment. During the third quarter of 2003, after review of Sahlman's results
for 2002 (and year to date in 2003), and after study of the status of the shrimp
industry and markets in the United States, Katy determined there had been a loss
in the value of the investment that was other than temporary. As a result, Katy
concluded that $1.6 million was a reasonable estimate of the value of its
investment in Sahlman, and a charge of $5.5 million was recorded to reduce the
carrying value of the investment. See Note 6 to Consolidated Financial
Statements of Katy included in Part II, Item 8.
Savannah Energy Systems Company (SESCO). SESCO is the limited partner of
the operator of a waste-to-energy facility in Savannah, Georgia. The general
partner of the partnership is an affiliate of Montenay Power Corporation. See
Note 9 to Consolidated Financial Statements of Katy included in Part II, Item 8.
Discontinued Operations
We identified and sold certain operations that we considered non-core to
the future operations of the Company. Hamilton Precision Metals L.P. (Hamilton),
a reroller of precision metal foils and strips located in Lancaster,
Pennsylvania, was sold on October 31, 2002 for net proceeds of $13.9 million.
Hamilton was formerly part of the Electrical Products Group. Prior to its sale
in 2002, Hamilton generated $10.4 million of net sales and $1.6 million of
operating income. GC/Waldom Electronics, Inc. (GC/Waldom), a leading value-added
distributor of high quality, brand name electrical and electronic parts,
components and accessories headquartered in Rockville, Illinois, was sold on
April 2, 2003 for net proceeds of $7.4 million. GC/Waldom was formerly part of
the Electrical Products Group. Prior to its sale, GC/Waldom generated $6.0
million in net sales, and incurred a net operating loss of ($0.1) million. A
loss (net of tax) of $0.2 million was recognized in the second
5
quarter of 2003 as a result of the GC/Waldom sale. Duckback Products, Inc.
(Duckback), a manufacturer of high quality exterior transparent coatings and
water repellents located in Chico, California, was sold on September 16, 2003
for net proceeds of $16.2 million. Duckback was formerly part of the Maintenance
Products Group. Prior to its sale, Duckback generated $12.9 million of net sales
and $3.1 million of operating income during 2003. A gain (net of tax) of $7.6
million was recognized in the third quarter of 2003 as a result of the Duckback
sale.
Customers
We have several large customers in the mass merchant/discount/home
improvement retail markets. Two customers, Wal*Mart and Lowe's, accounted for
17% and 11%, respectively, of consolidated net sales. Sales to Wal*Mart are made
by the Woods, Consumer, Glit/Microtron, Woods Canada, Wilen and Jan/San business
units. Sales to Lowe's are made by the Woods and Consumer business units. A
significant loss of business at either of these customers could have a material
adverse impact on our results.
Backlog
Maintenance Products:
Our aggregate backlog position for the Maintenance Products Group was $7.8
million and $7.9 million as of December 31, 2003 and 2002, respectively. The
orders placed in 2003 are firm and are expected to be shipped during 2004.
Electrical Products:
Our aggregate backlog position for the Electrical Products Group was $6.0
million and $3.6 million as of December 31, 2003 and 2002, respectively. The
orders placed in 2003 are firm and are expected to be shipped during 2004.
Markets and Competition
Maintenance Products:
We market a variety of professional cleaning products to the commercial
janitorial/sanitation markets. Sales and marketing of these products is handled
through a combination of direct sales personnel, manufacturers' sales
representatives, and wholesale distributors. Cleaning products sold by the
Company include 1) plastic items, such as commercial trash receptacles, buckets,
carts, and signs, 2) abrasive products, including floor cleaning and polishing
pads, and hand scouring pads, 3) mops, brooms, and brushes, and 4) items for the
food service industry, including filters, grill cleaning supplies, and food
storage containers.
The commercial distribution channels for these products are highly
fragmented, resulting in a large number of small customers, mainly distributors
of janitorial cleaning products. The markets for our maintenance products are
highly competitive. Competition is based primarily on price and the ability to
provide superior customer service in the form of complete and on-time product
delivery. Other competitive factors include brand recognition and product
design, quality and performance. We compete for market share with a number of
different competitors, depending upon the specific product. In large part, our
competition is unique in each area of 1) plastics, 2) abrasives, 3) mops, brooms
and brushes and 4) food service. We believe that we have established long
standing relationships with our major customers based on quality products and
service, while continuing to strive to be a low cost provider in this industry.
Our ability to remain a low cost provider in the industry is highly dependent on
the price of our raw materials, primarily resin. Resin prices are influenced to
a certain degree by market prices for natural gas and crude oil, as well as
supply and demand factors within the plastics manufacturing industry. Being a
low cost producer is also dependent upon our ability to reduce and subsequently
control our cost structure, which is further dependent upon our ongoing
restructuring efforts.
We market branded consumer in-home and automotive storage, and to a lesser
extent, abrasive products and mops and brooms, to consumer/retail outlets in the
U.S. The consumer distribution channels for these products, especially the
in-home and automotive storage products, are highly concentrated, with several
large "mass-market" retailers representing a very significant portion of the
customer base. However, we continue to develop new markets for our products,
including sporting goods. Sales and marketing of these products is generally
handled by direct sales personnel. Our ability to remain competitive in these
consumer markets is dependent upon our position as a low cost producer, and also
upon our development of new and innovative products. Being a low cost producer
is also dependent upon our ability to reduce and subsequently control our cost
structure, which is further dependent upon our ongoing restructuring efforts.
Our restructuring efforts include consolidation of facilities and headcount
reductions.
6
Less significant amounts (based on net sales dollars) are sold to
different markets, such as roofing ventilation products to the construction
trade, and resin fiber disks and other abrasive disks to the OEM trade.
Electrical Products:
We market branded electrical products primarily in North America through a
combination of direct sales personnel and manufacturers' sales representatives.
Our primary customer base consists of major national retail chains that service
the home improvement, hardware, mass merchant, discount and automotive markets,
and smaller regional concerns serving a similar customer base.
Electrical products sold by the Company are generally used by consumers
and include such items as extension cords, work lights, surge suppressors, power
taps and strips, and outdoor lights and timers. We have entered into license
agreements pursuant to which we market certain of our products using certain
other companies' proprietary brand names. Overall demand for our products is
highly correlated with consumer demand, the performance of the general economy
and, to a lesser extent, home construction and resale activity.
The markets for our electrical products are highly competitive.
Competition is based primarily on price and the ability to provide superior
customer service in the form of complete and on-time product delivery. Other
competitive factors include brand recognition, product design, quality and
performance. Foreign competitors, especially from Asia, provide an increasing
level of competition. Our ability to remain competitive in these markets is
dependent upon continued efforts to remain a low-cost provider of these
products.
Raw Materials
Our operations have not experienced significant difficulties in obtaining
raw materials, fuels, parts or supplies for their activities during the most
recent fiscal year, but no prediction can be made as to possible future supply
problems or production disruptions resulting from possible shortages. Our
Electrical Products businesses are highly dependent upon products sourced from
Asia, and therefore remain vulnerable to potential disruptions in that supply
chain. We are also subject to uncertainties involving labor relations issues at
entities involved in our supply chain, both at suppliers and in the
transportation and shipping area. Our Jan/San and Consumer business units (and
some others to a lesser extent) use polyethylene, polypropylene and other
thermoplastic resins as raw materials in a substantial portion of its plastic
products. Prices of plastic resins, such as polyethylene and polypropylene,
increased steadily from the latter half of 2002 through the middle of 2003, then
fell slightly in the second half of the year, and have increased again during
the early months of 2004. Management has observed that the prices of plastic
resins are driven to an extent by prices for crude oil and natural gas, in
addition to other factors specific to the supply and demand of the resins
themselves. We cannot predict the direction resin prices will take during 2004
and beyond. We are also exposed to price changes for copper (used by Woods and
Woods Canada), aluminum and steel, corrugated packaging material and other raw
materials. Prices for copper, aluminum and steel have increased in recent
months. We have not employed an active hedging program related to our commodity
price risk, but are employing other strategies for managing this risk, including
contracting for a certain percentage of resin needs through supply agreements
and opportunistic spot purchases. In a climate of rising raw material costs, we
experience difficulty in raising prices to shift these higher costs to our
customers. Our future earnings may be negatively impacted to the extent
increased costs for raw materials cannot be recovered or offset.
Employees
As of December 31, 2003, we employed 1,808 people. 394 of these employees
were members of various unions. Our labor relations are generally satisfactory
and there have been no strikes in recent years. Our operations can be impacted
by labor relations issues involving other entities in our supply chain. We
recently entered into a new union contract with employees at the Wilen business
unit. The union contract with certain employees in the St. Louis area expires in
December 2004.
Regulatory and Environmental Matters
We do not anticipate that federal, state or local environmental laws or
regulations will have a material adverse effect on our consolidated operations
or financial position. We anticipate making additional expenditures for
environmental matters during 2004, in accordance with terms agreed upon with the
United States Environmental Protection Agency and various state environmental
agencies. See Note 20 to the Consolidated Financial Statements in Part II, Item
8.
7
Licenses, Patents and Trademarks
The success of our products historically has not depended largely on
patent, trademark and license protection, but rather on the quality of our
products, proprietary technology, contract performance, customer service and the
technical competence and innovative ability of our personnel to develop and
introduce salable products. However, we do rely to a certain extent on patent
protection, trademarks and licensing arrangements in the marketing of certain
products. Examples of key licensed and protected trademarks include Yellow
Jacket(R), Woods(R), Tradesman(R), AC/Delco(TM) (Woods); Contico(R) and
Continental(R) (CCP); Glit(R), Microtron(R), Brillo(TM), and Kleenfast(R)
(Glit/Microtron); Wilen(R) (Wilen); and Trim-Kut(R) (Gemtex). Companies most
reliant upon patented products and technology are CCP, Woods, and Gemtex.
Further, we are renewing our emphasis on new product development, which will
increase our reliance on patent and trademark protection across all business
units.
Since 1998, Woods Canada has used the NOMA(R) trademark in Canada under
the terms of a license with Gentek Inc. (Gentek). In October 2002, Gentek filed
a petition for reorganization under Chapter 11 of the U.S. Bankruptcy Code. In
July 2003, as part of the bankruptcy proceedings, Gentek filed a motion to
reject this trademark license agreement. On November 5, 2003, Gentek's motion
was granted by the U.S. Bankruptcy Court. As a result, the trademark license
agreement is no longer in effect. Woods Canada will use the NOMA(R) trademark
through mid-2004 and, thereafter, will lose the right to brand certain of its
product with the NOMA(R) trademark. Approximately 50% of Woods Canada's sales
are of NOMA(R) - branded products. Woods Canada will seek to replace those sales
with sales of other products and will continue to act as a supplier for the new
licensee of the NOMA(R) trademark. However, there is no guarantee that Woods
Canada will be able to replace the lost sales of NOMA(R) - branded products.
Available Information
We maintain a website at http://www.katyindustries.com. We make available,
free of charge through our website, our annual reports on Form 10-K, quarterly
reports on Form 10-Q, current reports on Form 8-K, and, if applicable, all
amendments to these reports as well as Section 16 reports on Forms 3, 4 and 5,
as soon as reasonably practicable after such reports are filed or furnished to
the SEC. The information on our website is not, and shall not be deemed to be, a
part of this report or incorporated into any other filings we make with the SEC.
8
Item 2. PROPERTIES
As of December 31, 2003, our total building floor area owned or leased was
3,749,000 square feet, of which 758,000 square feet were owned and 2,991,000
square feet were leased. The following table shows by industry segment a summary
of the size (in square feet) and character of the various facilities included in
the above totals together with the location of the principal facilities.
Industry Segment Owned Leased Total
---------------- ----- ------ -----
(In thousands of square feet)
Maintenance Products - primarily
plant and office facilities with principal
facilities located in Norwalk and
Santa Fe Springs, California; Wrens,
McDonough and Atlanta, Georgia; Bridgeton,
and Hazelwood, Missouri;
Pineville, North Carolina; Lawrence,
Massachusetts; Winters, Texas;
Etobicoke, Ontario, Canada; and
Redruth, Cornwall, England 543 2,464 3,007
Electrical Products - primarily plant and
office facilities with principal facilities
located in Carmel and Indianapolis, Indiana,
Toronto, Ontario, Canada,
and Taipei, Taiwan 215 522 737
Corporate - office facility in Middlebury, Connecticut 5 5
During 2002 and 2003, we consolidated the following into our Bridgeton,
Missouri (Bridgeton) facility: the Warson Road facility in St. Louis, Missouri
(Warson Road), the Earth City, Missouri (Earth City) facility and a portion of
the Hazelwood, Missouri (Hazelwood) facility. During 2004, we expect to
consolidate all of our abrasives operations in Lawrence, Massachusetts and
Pineville, North Carolina into our recently expanded Wrens, Georgia (Wrens)
abrasives facility. We believe that our current facilities meet our needs in our
existing markets for the foreseeable future.
9
Item 3. LEGAL PROCEEDINGS
Except as set forth below, no cases or legal proceedings are pending
against Katy, other than ordinary routine litigation incidental to Katy and our
businesses and other non-material cases and proceedings.
1. Environmental Claims - Administrative Order on Consent - W.J. Smith Wood
Preserving Company ("W.J. Smith") and Katy Industries, Inc., U.S. EPA Docket No.
RCRA-VI-7003-93-02 and Texas Water Commission Administrative Enforcement Action.
The W. J. Smith matter originated in the 1980s when the United States and
the State of Texas, through the Texas Water Commission, initiated environmental
enforcement actions against W.J. Smith alleging that certain conditions on the
W.J. Smith property (the "Property") violated environmental laws. In order to
resolve the enforcement actions, W.J. Smith engaged in a series of cleanup
activities on the Property and implemented a groundwater monitoring program.
In 1993, the United States Environmental Protection Agency (EPA) initiated
a proceeding under Section 7003 of the Resource Conservation and Recovery Act
against W.J. Smith and Katy. The proceeding sought certain actions at the site
and at certain off-site areas, as well as development and implementation of
additional cleanup activities to mitigate off-site releases. In December 1995,
W.J. Smith, Katy and USEPA agreed to resolve the proceeding through an
Administrative Order on Consent under Section 7003 of RCRA. W.J. Smith and Katy
have completed the cleanup activities required by the Order. W.J. Smith is
currently implementing an RCRA facility investigation of the site and an
investigation of certain off-site areas pursuant to a request from the U.S. EPA.
Since 1990, the Company has spent in excess of $7.0 million undertaking
cleanup and compliance activities in connection with this matter. While ultimate
liability with respect to this matter is not easy to determine, the Company has
recorded and accrued amounts that it deems reasonable for prospective
liabilities with respect to this matter and believes that any additional
liability with respect to this matter in excess of the accrual will not be
material.
In addition to the administrative claim specifically identified above, a
purported class action lawsuit was filed by twenty individuals in federal court
in the Marshall Division of the Eastern District of Texas, on behalf of
"landowners and persons who reside and/or work in" an identified geographical
area surrounding the W.J. Smith Wood Preserving facility in Denison, Texas. The
lawsuit purported to allege claims under state law for negligence, trespass,
nuisance and assault and battery. It sought damages for personal injury and
property damage, as well as punitive damages. The named defendants were Union
Pacific Corporation, Union Pacific Railroad Company, Katy Industries and W.J.
Smith Wood Preserving Company, Inc. On June 10, 2002, Katy and W.J. Smith filed
a motion to dismiss the case for lack of federal jurisdiction, or in the
alternative, to transfer the case to the Sherman Division. In response,
plaintiffs filed a motion for leave to amend the complaint to add a federal
claim under the Resource Conservation and Recovery Act. On July 30, 2002, the
court dismissed plaintiffs' lawsuit in its entirety.
On July 31, 2002, plaintiffs filed a new lawsuit against the same
defendants, again in the Marshall Division of the Eastern District of Texas,
alleging property damage class action claims under the federal Comprehensive
Environmental Response Compensation & Liability Act (CERCLA), as well as state
common law theories. While Plaintiffs' counsel has confirmed that Plaintiffs are
no longer seeking class-wide relief for personal injury claims, certain
Plaintiffs continue to allege individual common law claims for personal injury.
Because certain threshold issues, including the basis for federal jurisdiction,
statute of limitations defenses and class certification, have not yet been fully
evaluated in this litigation, it is not possible at this time for Katy to
reasonably determine an outcome or accurately estimate the range of potential
exposure. Katy and W.J. Smith filed a motion to dismiss the lawsuit or, in the
alternative, to transfer venue. In response, plaintiffs filed a motion for leave
to amend the complaint. The court granted plaintiffs' motion to amend and denied
Katy and W.J. Smith's motion to dismiss or transfer venue. On September 5, 2003,
the court entered an Amended Agreed Initial Case Management Order limiting
discovery during an initial phase to the threshold issues. The Company has
deposed all of the proposed class representatives and on October 31, 2003, filed
a motion for summary judgment on the grounds that the court lacks jurisdiction
and Plaintiffs' claims are barred by the applicable statute of limitations.
Plaintiffs filed a motion for class certification on the property damage claims
on that date as well. Both motions are fully briefed. No dates are currently set
for the Court's hearing and ruling on these motions. A determination of ultimate
liability with respect to this matter is not estimable art this time.
General Environmental Claims
Katy and certain of our current and former direct and indirect corporate
predecessors, subsidiaries and divisions have been identified by USEPA, state
environmental agencies and private parties as potentially responsible parties at
a number of waste disposal sites under the Comprehensive Environmental Response,
Compensation and Liability Act (CERCLA) or equivalent state laws, and, as such,
may be liable for the costs of cleanup and other remedial activities at these
sites. The costs involved in these matters are, by nature, difficult to estimate
and subject to substantial change as litigation or negotiations with
10
the United States, states and other parties proceed. While ultimate liability
with respect to these matters is difficult to predict, the Company has recorded
and accrued amounts that it deems reasonable for prospective liabilities and
believes that any liability with respect to such matters in excess of the
accruals will not be material.
2. Banco del Atlantico, S.A. v. Woods Industries, Inc., et al., Civil Action No.
L-96-139 (U.S. District Court, Southern District of Texas).
In December 1996, Banco del Atlantico ("plaintiff"), a bank located in
Mexico, filed a lawsuit in Texas against Woods, a subsidiary of Katy, and
against certain past and/or then present officers, directors and former owners
of Woods (collectively, "defendants"). The plaintiff alleges that the defendants
participated in violations of the Racketeer Influenced and Corrupt Organizations
Act ("RICO") involving allegedly fraudulently obtained loans from Mexican banks,
including the plaintiff, and "money laundering" of the proceeds of the illegal
enterprise. In its recently-filed Amended Complaint, the plaintiff also alleges
violations of the Indiana RICO and Crime Victims Act. All of the foregoing is
alleged to have occurred prior to Katy's purchase of Woods.
The plaintiff alleges that it made loans to a Mexican corporation
controlled by certain past officers and directors of Woods based upon fraudulent
representations and guarantees. In addition to its fraud, conspiracy, and RICO
claims, the plaintiff seeks recovery upon certain alleged guarantees purportedly
executed by Woods Wire Products, Inc., a predecessor company from which Woods
purchased certain assets in 1993. The primary legal theories under which the
plaintiff seeks to hold Woods liable for its alleged damages are respondeat
superior, conspiracy, successor liability, or a combination of the three.
On March 31, 2003, the Southern District of Texas court ordered that the
case be transferred to the Southern District of Indiana on the ground that
Indiana has a closer relationship to this case than Texas.
The case is currently pending in the Southern District of Indiana. The
plaintiff filed its Amended Complaint on December 17, 2003. Pursuant to court
order, the defendants filed motions to dismiss the Amended Complaint on February
17, 2004. All defendants have moved to dismiss the Amended Complaint and all
claims contained within it on grounds of forum non conveniens and comity. All
defendants have also moved to dismiss the Indiana RICO and Indiana Crime Victims
Act claims as barred by the applicable statutes of limitations. Additionally,
Woods and certain other defendants have separately moved to dismiss certain
claims of the Amended Complaint pursuant to Federal Rules of Civil Procedure
12(b)(6) and 9(b) for failure to state a claim upon which relief can be granted.
The plaintiff's responses to these motions to dismiss have not yet been filed.
The parties are currently engaged in discovery, and the trial of the action
(assuming any is needed) is scheduled for January 2006.
The plaintiff is claiming damages in excess of $24 million and is
requesting that damages be trebled under Indiana and federal RICO, and/or the
Indiana Crime Victims Act. Because defendants' motions to dismiss have not yet
been briefed and certain jurisdictional issues have not yet been fully
adjudicated, it is not possible at this time for the Company to reasonably
determine an outcome or accurately estimate the range of potential exposure.
Katy may have recourse against the former owner of Woods and others for, among
other things, violations of covenants, representations and warranties under the
purchase agreement through which Katy acquired Woods, and under state, federal
and common law. Woods may also have indemnity claims against the former officers
and directors. In addition, there is a dispute with the former owners of Woods
regarding the final disposition of amounts withheld from the purchase price,
which may be subject to further adjustment as a result of the claims by the
plaintiff. The extent or limit of any such adjustment cannot be predicted at
this time. An adverse judgment in this matter could have a material impact on
the Company's results of operations, liquidity and financial position if the
Company were not able to exercise recourse against the former owner of Woods.
3. General
Katy also has a number of product liability and workers' compensation
claims pending against it and its subsidiaries. Many of these claims are
proceeding through the litigation process and the final outcome will not be
known until a settlement is reached with the claimant or the case is
adjudicated. The Company estimates that it can take up to 10 years from the date
of the injury to reach a final outcome on certain claims. With respect to the
product liability and workers' compensation claims, Katy has provided for its
share of expected losses beyond the applicable insurance coverage, including
those incurred but not reported to the Company or its insurance providers, which
are developed using actuarial techniques. Such accruals are developed using
currently available claim information, and represent management's best
estimates. The ultimate cost of any individual claim can vary based upon, among
other factors, the nature of the injury, the duration of the disability period,
the length of the claim period, the jurisdiction of the claim and the nature of
the final outcome.
11
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of the security holders during
the fourth quarter of 2003.
12
PART II
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock is traded on the New York Stock Exchange (NYSE). The
following table sets forth high and low sales prices for the common stock in
composite transactions as reported on the NYSE composite tape for the prior two
years and cash dividends declared during the respective periods.
Dividends
Period High Low Declared
------ ---- --- --------
2003
First Quarter $ 3.61 $ 2.54 $.000
Second Quarter 4.89 2.40 .000
Third Quarter 5.20 4.80 .000
Fourth Quarter 6.75 5.20 .000
2002
First Quarter $ 6.75 $ 3.40 $.000
Second Quarter 6.28 4.85 .000
Third Quarter 4.99 2.90 .000
Fourth Quarter 3.70 2.50 .000
Dividends are paid at the discretion of the Board of Directors. On March
30, 2001, our Board of Directors decided to suspend quarterly dividends in order
to preserve cash for operations.
As of March 15, 2004, there were approximately 680 holders of record of
our common stock, in addition to approximately 1,500 holders in street name, and
there were 7,880,877 shares of common stock outstanding.
13
Item 6. SELECTED FINANCIAL DATA
Years Ended December 31,
-----------------------------------------------------------------------
2003 2002 2001 2000 1999
---------- ---------- ---------- ---------- -----------
(Thousands of Dollars, except per share data and ratios)
Net sales $ 436,410 $ 445,755 $ 447,108 $ 508,850 $ 511,933
========== ========== ========== ========== ===========
(Loss) income from continuing operations [a] $ (18,887) $ (53,083) $ (65,464) $ (9,111) $ 8,944
Discontinued operations [b] 9,523 (1,152) 2,202 3,653 1,511
Cumulative effect of a change in accounting
principle [b] [e] -- (2,514) -- -- --
---------- ---------- ---------- ---------- -----------
Net (loss) income $ (9,364) $ (56,749) $ (63,262) $ (5,458) $ 10,455
========== ========== ========== ========== ===========
(Loss) earnings per share - Basic:
(Loss) income from continuing operations $ (3.06) $ (7.67) $ (7.54) $ (1.08) $ 1.07
Discontinued operations 1.16 (0.14) 0.26 0.43 0.18
Cumulative effect of a change in accounting principle -- (0.30) -- -- --
---------- ---------- ---------- ---------- -----------
(Loss) earnings per common share $ (1.90) $ (8.11) $ (7.28) $ (0.65) $ 1.25
========== ========== ========== ========== ===========
(Loss) earnings per share - Diluted:
(Loss) income from continuing operations $ (3.06) $ (7.67) $ (7.54) $ (1.08) $ 0.89
Discontinued operations 1.16 (0.14) 0.26 0.43 0.15
Cumulative effect of a change in accounting principle -- (0.30) -- --
---------- ---------- ---------- ---------- -----------
(Loss) earnings per common share $ (1.90) $ (8.11) $ (7.28) $ (0.65) $ 1.04
========== ========== ========== ========== ===========
Total assets $ 241,708 $ 275,977 $ 347,955 $ 446,723 $ 493,104
Total liabilities 139,416 157,405 173,691 263,490 299,893
Preferred interest in subsidiary -- 16,400 16,400 32,900 32,900
Stockholders' equity 102,292 102,172 157,864 150,333 160,311
Long-term debt, excluding current portion 806 -- 12,474 771 150,835
Current portion of long-term debt 2,857 700 14,619 133,067 67
Revolving credit agreement, classified as current 36,000 44,751 57,000 -- --
Depreciation and amortization [c] 21,954 19,259 20,216 21,096 17,772
Capital expenditures 13,435 10,119 12,566 14,196 21,066
Working capital [d] 43,439 35,206 65,733 97,258 112,463
Ratio of debt to capitalization 27.9% 27.7% 32.5% 42.2% 43.8%
Weighted average common shares outstanding - Basic 8,214,712 8,370,815 8,393,210 8,403,701 8,366,178
Weighted average common shares outstanding -Diluted 8,214,712 8,370,815 8,393,210 8,403,701 10,015,238
Number of employees 1,808 2,261 2,922 3,509 3,834
Cash dividends declared per common share $ 0.00 $ 0.00 $ 0.00 $ 0.30 $ 0.30
[a] Includes distributions on preferred securities in 2003, 2002, 2001, 2000
and 1999.
[b] Presented net of tax.
[c] From continuing operations only.
[d] Defined as current assets minus current liabilities, exclusive of 1)
current balances of deferred tax assets and liabilities, and 2) debt
classified as current.
[e] This amount is a transitional impairment of goodwill recorded with the
adoption of SFAS No. 142, Goodwill and Other Intangible Assets.
14
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS
For purposes of this discussion and analysis section, reference is made to
the table below and the Company's Consolidated Financial Statements included in
Part II, Item 8. We have two principal operating groups: Maintenance Products
and Electrical Products. The group labeled as other consists of a minority
equity investment in a seafood harvesting and farming company, as well as the
limited partnership interest SESCO holds in the operator of a waste-to-energy
facility. Two businesses formerly included in the Electrical Products Group,
GC/Waldom and Hamilton, and one business formerly included in the Maintenance
Products Group, Duckback, have been classified as Discontinued Operations.
Duckback was sold on September 16, 2003, GC/Waldom was sold on April 2, 2003,
and Hamilton was sold on October 31, 2002.
Since the Recapitalization (as described in Item 1) on June 28, 2001, the
Company's management has been focused on the following initiatives:
o Restructuring of core operations: 35 facilities closed or
consolidated (including 2 to be closed by the end of 2004).
o Cost reductions: central services model, sourcing in Asia, product
re-engineering, headcount reductions, and improved management of raw
material price exposure.
o Balance sheet review: in light of ongoing business profitability and
requirements, approximately $90.0 million of obsolete assets were
impaired.
o Divestitures of non-core business: 4 businesses have been sold or
otherwise exited and proceeds have been applied to reduce debt.
o Re-development of new product pipeline: capital and management
expertise has been re-dedicated to this critical area.
o Organizational changes: across-the-board review of management talent
and key hires made.
With these initiatives accomplished or well under way, the Company's focus
has shifted to revenue growth through a variety of means (recent business "wins"
include new product introductions, introduction of products to new distribution
channels, and acquisitions). Our future cost reductions will come from process
improvements (such as Lean Manufacturing and Six Sigma), value engineering
products, improved sourcing/purchasing and lean administration.
Key elements in achieving profitability in the Maintenance Products Group
include 1) maintaining a low cost structure, both from a production and
administrative standpoint, and 2) providing outstanding customer service. Most
of the Maintenance Products Group products do not rely upon strong brand equity,
so achieving and maintaining a position as a low cost producer is a necessity,
given that our comparative price point on many products is below those of our
competitors. New product development is especially important in the
consumer/retail markets for Maintenance Products, as new products or beneficial
modifications of existing products increase demand from our customers, provide
novelty to the consumer, and offer an opportunity for favorable pricing from
customers in the national mass market retail area. Retention of customers, or
more specifically, product lines with those customers, is also very important in
the mass market retail area, given the vast size of these national accounts.
Prices for raw materials, especially plastic resins, have a very significant
impact on the Maintenance Products Group.
Key elements in achieving profitability in the Electrical Products Group
are in many ways similar to those mentioned for our Maintenance Products Group.
The achievement and maintenance of a low cost structure is critical given the
significant level of foreign competition, primarily from Asia and Latin America.
For this reason, in December 2002 and December 2003, Woods and Woods Canada,
respectively, ceased all manufacturing and initiated a fully outsourced strategy
for their consumer electrical products. Customer service, specifically the
ability to fill orders at a rate designated by our customers, is very important
to customer retention, given seasonal sales pressures in the consumer electrical
area. Retention of customers is critical in the Electrical Products Group, given
the size of national accounts.
15
Years Ended December 31,
-------------------------------------
2003 2002 2001
--------- --------- ---------
(Thousands of dollars)
Maintenance Products Group
Net external sales $ 285,289 $ 300,336 $ 311,574
Operating loss (7,924) (22,736) (41,589)
Operating deficit (2.8%) (7.6%) (13.3%)
Impairments of long-lived assets 11,516 20,812 36,087
Severance, restructuring and related charges 5,720 13,629 3,489
Depreciation and amortization 20,162 17,625 19,414
Capital expenditures 12,366 9,228 9,975
Total assets 176,214 195,121 228,482
Electrical Products Group
Net external sales $ 151,121 $ 144,242 $ 130,949
Operating income (loss) 13,026 2,874 (166)
Operating margin (deficit) 8.6% 2.0% (0.1%)
Impairments of long-lived assets 364 392 1,565
Severance, restructuring and related charges 2,083 5,239 1,552
Depreciation and amortization 1,217 1,484 220
Capital expenditures 833 601 301
Total assets 51,353 48,228 51,591
Total Company [a]
Net external sales [b] $ 436,410 $ 445,755 $ 447,108
Operating loss [b] (8,905) (37,849) (72,776)
Operating deficit [b] (2.0%) (8.5%) (16.3%)
Impairments of long-lived assets [b] 11,880 21,204 47,469
Severance, restructuring and related charges [b] 8,132 19,155 13,380
Depreciation and amortization [b] 21,954 19,259 20,216
Capital expenditures [c] 13,435 10,119 12,566
Total assets [c] 241,708 275,977 347,955
[a] Included in "Total Company" are certain amounts in addition
to those shown for the Maintenance Products and Electrical Products segments,
including amounts associated with 1) unallocated corporate expenses, 2) our
equity investment in a shrimp harvesting and farming operation, and 3) SESCO's
limited partnership interest in the operation of a waste-to-energy facility. See
Note 19 to Consolidated Financial Statements for detailed reconciliations of
segment information to the Consolidated Financial Statements.
[b] Excludes discontinued operations
[c] Includes discontinued operations
2003 Compared to 2002
Company Overview
Overall, net sales for the Company declined $9.3 million, or 2% from 2002
levels, due to a volume decline of 3% and lower pricing of 1%, partially offset
by favorable currency translation of 2%. Gross margins held constant at
approximately 16.2% as the benefit of implemented cost reduction strategies
offset lower pricing, higher resin costs and atypically high depreciation (see
discussion under Maintenance Products Group - Operating income (loss) below).
Selling, general and administrative expenses (SG&A) as a percentage of sales
declined from 14.3% in 2002 to 13.7% in 2003. The operating deficit was reduced
significantly from $37.8 million to $8.9 million mostly as a result of reduced
severance, restructuring and related charges and lower impairments of long-lived
assets. Excluding these charges, the Company experienced operating profit of
$11.1 million during 2003 versus $2.5 million in 2002. To provide transparency
about measures of the Company's performance, we supplement the reporting of our
financial information under generally accepted accounting principles (GAAP) with
non-GAAP information on operating income (loss) excluding severance,
restructuring and related charges and impairments of long-lived assets. We
believe the use of this measure is a better indicator of the underlying
operating performance of the Company's businesses and allows us to make
meaningful comparisons of different operating periods.
16
Maintenance Products Group
An overall decline in net sales for the year (mostly due to volume
declines) along with high raw materials costs and atypically high depreciation
contributed to the reduced profitability (excluding severance, restructuring and
related charges and impairments of long-lived assets) of this group in 2003.
Operating results continue to be favorably impacted by the numerous cost
reduction initiatives including the consolidation of our facilities in the St.
Louis area as well as the consolidation of two abrasives facilities into our
Wrens, Georgia facility. In the fourth quarter of 2003, net sales were down 1%
from the fourth quarter of 2002 as compared to a 6% decline for the first nine
months of the year. Operating loss for the fourth quarter of 2003 was $1.6
million as compared to $5.4 million in the fourth quarter of 2002. Severance,
restructuring and related costs and impairments of long lived assets totaled
$6.2 million and $8.8 million in the three months ended December 31, 2003 and
2002, respectively. Excluding these costs, operating profit for the fourth
quarter of 2003 increased 36% over the same period last year.
Net sales
Net sales from the Maintenance Products Group decreased from $300.3
million in 2002 to $285.3 million in 2003, a decrease of 5%. The decline was due
to a volume decrease of 6%, partially offset by the favorable impact of exchange
rates of 1%. The sales shortfalls to the prior year were realized in the
businesses that sell to both commercial and consumer customers. On the
commercial side, sales were lower at Gemtex, primarily due to increased foreign
competition, and at Loren, primarily because a major customer increased their
supplier base in 2003. In addition, we believe that the Jan/San business unit
was impacted during the first three quarters of 2003 by the general economic
conditions and reduced demand for cleaning products, due to commercial real
estate vacancy rates and reduced demand in the travel and hospitality
industries. In the fourth quarter, sales for the Jan/San business unit were
higher in 2003 than in 2002 representing an improvement in the health of the
aforementioned industries. Sales were higher in the international markets for
Katy's commercial and sanitary maintenance products, primarily in the U.K. Sales
for the Consumer business unit, which sells primarily to mass market retail
customers, were lower due to the loss of certain product lines with major outlet
customers and to a lesser extent, downward pricing pressures and allowance,
rebate, and other programs. The U.K. consumer plastics business benefited
overall from stronger volumes and favorable exchange rates, partially offset by
price erosion similar to that in the U.S. business. In addition to continually
striving to reduce our cost structure, we are seeking to offset pricing
challenges by developing new products for the retail markets. The development of
new products is essential to remaining competitive and to maintaining strong
relationships with large national mass market retail customers. In the fourth
quarter of 2003, we centralized our customer service and administrative
functions for CCP divisions Jan/San, Glit/Microtron, and Wilen in one location,
allowing customers to order products from any CCP division on one purchase
order. The customer service and administrative functions for Disco, Loren and
CCP Canada will be added during 2004. We believe that operating these businesses
as a cohesive unit will improve customer service in that our customers'
purchasing processes will be simplified, as will follow up on order status,
billing, collection and other related functions. This should also increase
customer loyalty, help in attracting new customers and lead to increased top
line sales in future years.
Operating loss
The group's operating loss improved by $14.8 million from ($22.7) million
in 2002 to ($7.9) million in 2003, an improvement of 65%. The operating losses
were primarily a result of costs for severance, restructuring and related costs,
and asset impairments in both periods, which are discussed further below.
Excluding those items, operating income decreased by $2.4 million from $11.7
million in 2002 to $9.3 million in 2003. Profitability was lower at CCP's metal
truck box business, Loren and Gemtex, due to volume-related issues, while the
Consumer business in the U.S. and in the U.K. was negatively impacted by
top-line pricing pressures and an unfavorable mix of lower margin products. In
addition, the Consumer and Jan/San businesses worldwide experienced higher raw
material costs (principally resin) in 2003. Operating results were also
negatively impacted by $5.4 million of incremental depreciation related to the
revision of the estimated useful lives of certain manufacturing assets,
specifically molds and tooling equipment used in the manufacture of plastic
products, from seven to five years, effective January 1, 2003. This change in
estimate was made following significant impairments to these types of assets
recorded during 2002. These shortfalls were partially offset by improved results
at the CCP Jan/San business which benefited from the implementation of cost
reduction strategies.
Operating results in 2003 and 2002 were negatively impacted by several
unusual charges. In 2003, the group incurred severance, restructuring and
related charges of $5.7 million. The largest of these charges ($3.7 million)
relates principally to non-cancelable leases at abandoned facilities as a result
of the consolidation of the CCP facilities in the St. Louis area into CCP's
largest and most modern plant in Bridgeton, Missouri. The establishment of these
liabilities involves estimates of future sub-lease income, where we generally
assumed that the amount of sub-lease income on these facilities would increase
over time. Adjustments to these liabilities are possible in the future depending
upon the accuracy of sub-lease assumptions made. Charges of $1.2 million were
also incurred in 2003 relating to the restructuring of the abrasives business,
principally to consolidate the Lawrence, Massachusetts and Pineville, North
Carolina facilities into the newly expanded Wrens, Georgia location. The group
17
also incurred charges in 2003 related to the consolidation of the customer
service and administrative functions for CCP ($0.3 million), severance costs for
headcount reductions ($0.4 million) and costs related to the closure of CCP's
metals facility in Santa Fe Springs, California ($0.2 million). During 2002, the
Maintenance Products Group recorded $13.6 million of severance, restructuring
and related charges. Included in this amount was $11.7 million related to the
St. Louis facility consolidation (mostly for non-cancelable lease payments),
$0.9 million for severance costs related to various headcount reductions,
including the management level of various business units, $0.8 million in
consulting fees associated with outsourcing strategies, relating mainly to the
Wilen business unit and $0.2 million related to the consolidation of the
customer service and administrative functions for CCP.
The group recorded impairments of long-lived assets of $11.5 million
during 2003 and $20.8 million during 2002. Charges in 2003 included $7.1 million
related to idle and obsolete equipment, tooling and leasehold improvements at
Warson Road, Hazelwood, Bridgeton, and the Santa Fe Springs, California metals
facility, $1.3 million related to the closure of abrasives facilities in
Lawrence, Massachusetts and Pineville, North Carolina and the subsequent
consolidation into the Wrens, Georgia facility, and $0.4 million of obsolete
molds and tooling at our plastics facility in the United Kingdom. In addition,
$2.6 million of goodwill and patents of the Gemtex business unit were impaired
as it was determined that future cash flows of this business could not support
the carrying value of its intangible assets. The Gemtex unit has experienced a
decline in profitability in recent years principally as a result of increasing
foreign competition. In 2002, certain CCP property, plant and equipment,
primarily molds and tooling assets, were impaired by $15.3 million, and a
customer list intangible was impaired by $3.6 million. The majority of these
impairments were associated with assets used in the Consumer business, and were
the result of analyses indicating insufficient future cash flows over the
remaining useful life of the assets to cover the carrying values of the assets.
Given the unique nature of molds for specific products, the fair values, if any,
are often less than historical cost, resulting in impairments. The Wilen
business unit recorded asset impairments of $1.9 million, resulting from
management decisions on the future use of certain manufacturing assets in the
Atlanta, Georgia facility.
Total assets for the group decreased primarily as a result of the
impairments of $11.9 million, and due to the atypically high depreciation
expense related to the revision of lives of certain assets (both noted above).
Electrical Products Group
The Electrical Products Group continued its solid performance in 2003,
once again driven primarily by improved sales volume over 2002, and secondarily,
by higher margins over the prior year. In addition, during 2002 and 2003 a major
restructuring occurred within the Electrical Products Group. After significant
study and research into different sourcing alternatives, we decided that Woods
and Woods Canada would source substantially all of their products from Asia. In
December 2002, Woods shut down all U.S. manufacturing facilities, which were in
suburban Indianapolis and in southern Indiana. As a result of these plant
closures, 361 employees were terminated. In December 2003, Woods Canada shut
down its manufacturing facility in Toronto, Ontario, terminating 100 employees
in the process. See below for a discussion of severance and restructuring costs
and impairments recorded as a result of these facility closures.
Net sales
The Electrical Product Group's sales increased from $144.2 million in 2002
to $151.1 million in 2003, an increase of 5%. An increase in volume of 5% and
favorable currency translation of 3% was partially offset by lower pricing of
3%. Woods experienced year over year increase in volume as a result of a strong
fourth quarter in 2003. The improvement was primarily due to higher volumes of
direct import merchandise, which are shipped directly from our suppliers to our
customers, such as extension cords and power strips. Woods sales performance in
2003 also benefited from the introduction of new surge products, sales to new
customers and same store growth for its largest customer, a national mass market
retailer. Offsetting these volume increases was a slight reduction in pricing
which was implemented to remain competitive in certain product lines. Higher
sales at Woods Canada in 2003 compared to 2002 were principally due to the
impact of a stronger Canadian dollar versus the U.S. dollar. This increase was
offset partially by lower pricing mostly due to a shift during 2003 to direct
import products.
Operating income
The group's operating income increased from $2.9 million in 2002 to $13.0
million in 2003. Operating income in both years was reduced by costs for
severance, restructuring and related costs, and asset impairments, which are
discussed further below. Excluding these costs, operating income increased from
$8.5 million in 2002 to $15.5 million in 2003, an increase of 82%. Profitability
in 2003 was positively impacted by cost reduction strategies at both Woods and
Woods Canada. The most significant initiative benefiting 2003 was the closure of
the Woods manufacturing facility in December 2002, resulting in approximately
$4.6 million in savings. In December 2003, Woods Canada shut down its
manufacturing facility to pursue a fully outsourced product strategy similar to
Woods. Cost reduction initiatives at Woods Canada to reduce product and variable
costs also had a favorable impact on 2003. Higher sales volumes and favorable
currency translation also aided in maintaining
18
margins. During 2002, Woods incurred a loss of $0.9 million related to obsolete
raw material and packaging inventory on hand which could not be utilized
following the shutdown of the U.S. manufacturing facilities (see next
paragraph).
Operating results in 2003 and 2002 were negatively impacted by a number of
restructuring-related charges. During 2003, the group recognized $2.1 million of
severance, restructuring and related charges. Of this amount, $1.5 million
related to severance associated with the shutdown of the Woods Canada
manufacturing operations, $0.5 million at Woods primarily for an adjustment to a
non-cancelable lease accrual due to a change in sub-lease assumptions and $0.1
million of consulting fees associated with product outsourcing strategies. In
2002, the Electrical Products Group incurred consulting fees of $2.8 million
associated with product outsourcing strategies and charges related to the shut
down of all U.S. manufacturing operations and $2.4 million for severance and
other exit costs.
The group recorded impairments of $0.4 million in both 2003 and 2002
associated with the write down of certain equipment at Woods Canada and Woods as
a result of the closure of the manufacturing operations at both business units.
We believe that restructuring steps executed in 2002 and 2003 related to
the Woods and Woods Canada businesses will allow those businesses to remain
competitive within their markets. The fully outsourced product strategy has
reduced headcount at Woods by 361 employees (effective in December 2002) and
Woods Canada by 100 employees (effective in December 2003).
Total assets for the group increased primarily as a result of higher
accounts receivable balances due to stronger sales at the end of 2003 versus the
end of 2002.
Other
Sales from other operations decreased by $1.2 million, as a result of the
SESCO waste-to-energy operation being turned over to a third party in April
2002. The operating loss from other operations in 2002 was primarily
attributable to a charge of $6.0 million, relating to an obligation created by
Katy to the third party who took over daily operation of the SESCO facility.
Amounts will be paid in roughly equal installments through 2007. See Note 9 to
the Consolidated Financial Statements for Katy in Part II, Item 8, for a
discussion of the SESCO partnership transaction.
Discontinued Operations
Three business units are reported as discontinued operations for all
periods presented: Hamilton Precisions Metals, L.P. (Hamilton), GC/Waldom
Electronics, Inc. (GC/Waldom) and Duckback Products, Inc. (Duckback). Hamilton
generated $1.5 million of operating income in 2002 (prior to its sale on October
31, 2002). GC/Waldom reported operating loss of ($0.2) million in 2003 (prior to
its sale on April 2, 2003), versus a $6.3 million operating loss in 2002. Nearly
the entire operating loss of GC/Waldom in 2002 was the result of asset valuation
adjustments in anticipation of a sale of the business unit. A loss (net of tax)
of $0.2 million was recognized in the second quarter of 2003 as a result of the
GC/Waldom sale. Duckback generated operating income of $3.1 million in 2003
(prior to its sale on September 16, 2003) versus $2.8 million in 2002. A gain
(net of tax) of $7.6 million was recognized in the third quarter of 2003 as a
result of the Duckback sale.
Corporate
During 2003, the corporate group recorded $1.0 million of compensation
expense versus an insignificant amount in 2002 associated with stock
appreciation rights (SARs) and $0.3 million related to severance.
Interest, net was $0.1 million higher in 2003 as compared to 2002. During
2003, we wrote off $1.8 million of unamortized debt issuance costs due to the
reduction in our borrowing capacity as a result of the refinancing of our debt
obligations in February 2003 and due to the permanent reduction in term loan
debt resulting from proceeds of the sale of GC/Waldom and Duckback. The amount
of this write-off is included in interest expense. Excluding the write-off,
interest, net decreased by $1.8 million, or 29%, due mainly to lower average
borrowings during 2003, principally as a result of applying proceeds from the
sale of non-core businesses in 2002 and 2003. To a lesser extent, lower interest
rates contributed to the decline in interest expense. Other, net in 2003
included the write-off of certain deferred payment receivables associated with
businesses disposed of prior to 2002 ($0.7 million) and realized foreign
exchange losses ($0.6 million), offset partially by the net gain on the sale of
real estate assets ($0.5 million). Other, net in 2002 was comprised primarily of
realized foreign exchange losses ($0.4 million) and the loss on the sale of
assets ($0.1 million). Our effective tax rate in 2003 was 14%, indicating that a
$3.2 million tax benefit was recorded on a $22.0 million pretax loss from
continuing operations. A tax benefit was recorded on pre-tax loss to the extent
a provision was provided for the gain on sale of discontinued businesses and
income from operations of discontinued businesses. A further benefit was not
recorded due to the valuation allowance recorded against our net deferred tax
assets. See "Deferred Income Taxes" in "Critical Accounting Policies" and Note
16 to the Consolidated Financial Statements in Part II, Item 8, for further
discussion of income tax accounting. In 2002, we recorded a $2.5 million
transitional goodwill impairment, net of tax as a result of the adoption of SFAS
No. 142, which is shown on the Consolidated
19
Statements of Operations as a cumulative effect of a change in accounting
principle. See Note 4 to the Consolidated Financial Statements in Part II, Item
8 for a further discussion of goodwill impairments.
2002 Compared to 2001
Maintenance Products Group
The Maintenance Products Group had a mixed year in 2002. Operating income,
excluding severance, restructuring, and impairment charges, was up over 2001, as
the various cost reduction programs put into place over the last two years began
to impact results. While the improvement in profitability was a positive step,
significant improvement over 2001 was expected since 2001 was an especially weak
year in the Maintenance Products Group. Sales volumes were down overall from
2001, with the largest decrease in the Consumer business unit.
Net sales
Sales from the Maintenance Products Group decreased from $311.6 million in
2001 to $300.3 million in 2002, a decrease of 4%. The largest sales decrease
occurred within the consumer business, which sells primarily to mass market
retail customers. While certain product lines with retail customers remained
stable, the revenue declines were caused by the loss of certain product lines,
as well as selected price erosion with retail customers through allowance,
rebate, and other pricing programs. Sales in the Maintenance Products divisions
serving commercial markets (primarily Jan/San) were essentially flat versus
2001. Glit/Microtron's abrasives business saw a significant increase in sales
from 2001, with sales increasing year-over-year for seven of their top ten
customers. Glit/Microtron's sales increases included increases with several key,
sizable, janitorial/sanitation distributors. Glit/Microtron also grew its
business with a large national retail chain, for which Glit/Microtron supplies
their full stock of floor cleaning abrasive pads for internal use at their
stores nationwide. Sales were also higher in the international markets for
Katy's commercial and sanitary maintenance products, primarily in the U.K. and
Canada. These positive sales trends were offset by lower sales at CCP's Jan/San
business and at Wilen. The Maintenance Products Group also made positive steps
in 2002 toward managing the various janitorial/sanitation supply divisions as
one group, consolidating more of the customer service and administrative
functions of these divisions in St. Louis.
Operating loss
The group's operating loss improved by $18.9 million from ($41.6) million
in 2001 to ($22.7) million in 2002, an improvement of 45%. The operating loss
was primarily a result of costs for severance, restructuring and related costs,
and asset impairments, which are discussed further below. Excluding those items,
operating income improved by $13.7 million from ($2.0) million in 2001 to $11.7
million in 2002. The improvement in operating income was primarily driven by
various CCP business units. Glit/Microtron's operating income improvement was
driven by strong sales volume and cost reductions in numerous areas, including
raw materials, freight, and headcount. CCP's operating income improved mainly
due to cost reductions implemented on a continuing basis throughout 2001 and
2002. The Wilen business unit deteriorated during 2000 and 2001 due to
operational problems that were largely remedied in 2002. In addition,
significant new business was gained in early 2003 from a large national mass
market retail store chain, who will use Wilen mops for their in-store floor care
needs, providing meaningful levels of new sales to use capacity existing at the
Wilen plant. During 2001, the Maintenance Products Group recorded significant
valuation reserve adjustments associated with inventory and receivables,
totaling $3.5 million. Operating income improved by $1.8 million during 2002 as
a result of the cessation of goodwill amortization per the adoption of Statement
of Financial Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible
Assets.
Operating results in 2002 were negatively impacted by several unusual
charges. The group incurred severance and restructuring charges of $13.6
million. The largest of these charges was the establishment of $10.9 million of
liabilities for non-cancelable lease payments at abandoned St. Louis facilities,
the operations of which have been consolidated into CCP's largest and most
modern plant in Bridgeton, Missouri. Charges of $0.5 million were incurred in
2002 related to the movement of equipment and inventory from an abandoned
facility, and severance payments of $0.1 million were made to employees impacted
by this move. The Maintenance Products Group incurred approximately $0.8 million
in consulting fees associated with outsourcing strategies, relating mainly to
the Wilen business unit. While plans called for Wilen to continue in a
manufacturing capacity, the outsourcing project resulted in improved prices from
some new vendors on products that had already been outsourced. The group
incurred $0.4 million of severance costs related to various headcount
reductions, primarily at the management level of operating divisions. The
Maintenance Products Group also incurred $0.5 million associated with
transitioning administrative and accounting functions of Wilen and
Glit/Microtron to St. Louis, Missouri.
The Maintenance Products Group recognized impairment charges on certain
long-lived assets totaling $20.8 million in 2002. Certain CCP property, plant
and equipment, primarily molds and tooling assets, were impaired by $15.3
million, and a customer list intangible was impaired by $3.6 million. The
majority of these impairments was associated with assets used in the
20
CCP Consumer business, and was the result of analyses indicating insufficient
future cash flows to cover the carrying values of the assets. It was determined
that portions of the carrying values of certain assets would not be recovered by
future cash flows over the remaining useful life of the assets. Given the unique
nature of molds for specific products, the fair values, if any, are often less
than historical cost, resulting in impairments. The Wilen business unit recorded
asset impairments of $1.9 million, resulting from management decisions on the
future use of certain manufacturing assets in the Atlanta, Georgia facility.
Operating results in 2001 for the Maintenance Products Group were also
negatively impacted by several unusual charges. We recorded an impairment charge
of $33.0 million at Wilen as consistently poor operating performance led us to
conclude that the carrying values of certain long-lived assets were not
recoverable through future cash flows. In addition to the impairment at Wilen,
an additional $3.1 million of impairment charges were taken, related primarily
to management decisions regarding the discontinuance of certain property, plant
and equipment. Additional items that negatively impacted operating results
during 2001 include severance and restructuring charges of $3.5 million,
primarily at CCP and Wilen.
Total assets for the group decreased primarily as a result of the
impairments noted above, and due to the fact that depreciation expense exceeded
capital expenditures for the group.
Electrical Products Group
The Electrical Products Group had a positive year in 2002, driven
primarily by improved sales volume over 2001, and secondarily, by higher margins
over the prior year. In addition, during 2002 a major restructuring occurred at
the Woods business. After significant study and research into different sourcing
alternatives, we decided that Woods would source all of its products from Asia.
In December 2002, Woods shut down all U.S. manufacturing facilities, which were
in suburban Indianapolis and in southern Indiana. As a result of these plant
closures, 361 employees were terminated. The following charges were recorded
related to the shut down: severance and other closure costs of $2.4 million,
asset impairments of $0.4 million, and write-off of excess raw material
inventory on hand at the time of the shut down of $0.9 million.
Net sales
The Electrical Products Group's sales increased from $130.9 million in
2001 to $144.2 million in 2002, an increase of 10%. Higher sales volumes to the
two largest customers of Woods, both national mass market retailers, drove the
sales increase. Sales to these two customers combined were up $13.2 million, or
21%, from 2001. Higher volumes of direct import merchandise, which are shipped
directly from our suppliers to our customers, such as extension cords and power
strips, drove the higher sales to one of these customers. The strong
relationships with these large customers have provided a solid foundation for
growth in the Woods business. Woods Canada also experienced a significant sales
increase to its largest customer, also a large mass market retailer, to whom
sales were higher by 21%.
Operating income (loss)
The group's operating income increased from ($0.2) million in 2001 to $2.9
million in 2002. Operating income was reduced by costs for severance,
restructuring and related costs, and asset impairments, which are discussed
further below. Excluding these costs, operating income increased from $3.0
million in 2001 to $8.5 million in 2002, an increase of 183%. Higher sales
volumes aided in maintaining margins, and ongoing cost control has allowed Woods
and Woods Canada to reduce product and variable costs. During 2002, Woods
incurred a loss of $0.9 million related to the write-off of obsolete raw
material and packaging inventory on hand which could not be utilized following
the shutdown of the U.S. manufacturing facilities (see next paragraph).
Significant factors impacting 2001 results include lower of cost or market
inventory valuation adjustments totaling $4.3 million, the largest of which
related to the exit of certain licensed branded product lines by Woods in the
first quarter of 2001. Woods had entered into several proprietary licensed
branding agreements with several companies well known in the electronics and
computer industries, but efforts to market the products proved unsuccessful.
Woods also incurred a litigation loss reserve of $0.5 million. Woods also wrote
off a related $0.1 million amount of prepaid maintenance related to software
licenses (see next paragraph). Selling, general and administrative (SG&A)
expenses were negatively impacted in 2002 versus 2001, as a result of the
existence in 2001 of amortization of negative goodwill (an income item) of $1.7
million.
Operating results in 2002 were negatively impacted by a number of
restructuring-related charges. The Electrical Products Group incurred consulting
fees of $2.8 million associated with product outsourcing strategies. In December
2002, as mentioned above, Woods incurred charges related to the shut down of all
U.S. manufacturing operations of $2.4 million for severance and other exit
costs, and $0.4 million of impaired assets that were not be utilized following
the shut down of Woods' facilities. The group also incurred several unusual
charges in 2001. Woods incurred $1.5 million of severance and other exit costs
in early 2001 associated with the closure of several satellite manufacturing
facilities in southern Indiana. Asset impairments of $0.7 million were recorded,
related primarily to previously capitalized software licenses that were not
being used.
21
Other
Sales from other operations decreased by $3.4 million, or 74%, as a result
of the SESCO waste-to-energy facility operation being turned over to a third
party in April 2002, compared to a full year's sales in 2001. Operating income
from other operations in 2002 was driven by an unusual charge of $6.0 million,
relating to an obligation created by Katy to the third party who took over daily
operation of the SESCO facility. Amounts will be paid in roughly equal
installments through 2007. See Note 9 to the Consolidated Financial Statements
for Katy in Part II, Item 8, for a discussion of the SESCO partnership
transaction. Operating income in 2001 was impacted primarily by the $9.8 million
impairment of all of the long-lived assets of the SESCO operation. The assets
were written down in anticipation of a cash flow-negative transaction that would
be necessary for Katy to exit the SESCO business.
Discontinued Operations
Hamilton generated $1.5 million of operating income in 2002 (prior to its
sale on October 31, 2002), versus operating income of $3.5 million in 2001.
Hamilton's business was affected by general economic conditions and lower
capital spending within the markets Hamilton serves. A gain of $3.3 million (net
of tax) was recognized in the fourth quarter of 2002 as a result of the Hamilton
sale. GC/Waldom incurred a $6.3 million operating loss in 2002, versus a $2.5
million operating loss in 2001. Nearly the entire operating loss of GC/Waldom in
2002 is the result of asset valuation adjustments in anticipation of a sale of
the business unit in early 2003. Duckback generated operating income of $2.8
million in 2002 versus $1.9 million in 2001.
Corporate
During 2001, the corporate group incurred $8.3 million of severance and
restructuring charges and $3.0 million of costs associated with completing the
Recapitalization. The majority of the severance and restructuring charges relate
to payments made in connection with management transition. Included in this
amount is approximately $1.0 million of charges that relate to outside
consultants working with Katy to modify operating and financial strategies, and
$0.7 million of non-cancelable rent and other exit costs associated with the
premature termination of our leased office facility in Englewood, Colorado. The
largest portions of the $3.0 million of costs associated with the
Recapitalization were non-capitalizable legal fees and investment banker fees,
board and committee fees and other internal incremental costs.
Total assets at corporate decreased due to two primary items. Cash was
lower by $3.0 million due to more efficient management of borrowed funds at the
end of 2002 versus 2001 and net deferred tax assets were lower by $10.5 million
as a result of an additional valuation allowance provided in 2002.
Interest was lower by $3.6 million, or 25%, in 2002 compared to 2001,
primarily due to significant reductions in outstanding debt balances due to 1)
the infusion of equity capital with the Recapitalization on June 28, 2001, and
2) reductions in debt as a result of working capital reductions in the last half
of 2001. Our effective tax rate in 2002 was (17%), indicating that a $7.5
million tax provision was recorded on a $44.0 million pretax loss from
continuing operations. A net tax provision was recorded on the loss rather than
a net tax benefit because we determined that a greater valuation allowance was
required on our net deferred tax asset position. The effective tax rate in 2001,
while resulting in book benefit on a pretax book loss, was only 25%, due to a
significant increase in valuation allowances on net operating loss deferred tax
assets. See "Deferred Income Taxes" in "Critical Accounting Policies" and Note
16 to the Consolidated Financial Statements in Part II, Item 8, for further
discussion of income tax accounting. In 2002, we also recorded a $2.5 million
transitional goodwill impairment, net of tax, as a result of the adoption of
SFAS No. 142, which is shown on the Consolidated Statements of Operations as a
cumulative effect of a change in accounting principle. See Note 4 to the
Consolidated Financial Statements in Part II, Item 8 for a further discussion of
goodwill impairments.
22
LIQUIDITY AND CAPITAL RESOURCES
The Company's liquidity was further improved in 2003, with overall debt
(including the preferred interest in a subsidiary) decreasing by $22.2 million
from $61.9 million at the end of 2002 to $39.7 million at the end of 2003. Cash
increased by $1.9 million from $4.8 million at the end of 2002 to $6.7 million
at the end of 2003. During 2003, we accomplished the following:
o In February 2003, we entered into a new credit agreement, agented by
Fleet Capital (Fleet Credit Agreement), which replaced the credit
agreement entered into at the time of the Recapitalization in June
of 2001 (Deutsche Bank Credit Agreement). The Fleet Credit Agreement
provides for $110 million of borrowing capacity, including $20
million of term debt and $90 million of revolving debt, with a
syndicate of banks, all of whom had participated in the Deutsche
Bank Credit Agreement. The Fleet Credit Agreement is an asset-based
lending agreement which expires on January 31, 2008.
o We were able to redeem at a 40% discount the remaining preferred
interest that the former owner of a subsidiary had held. This
balance sheet liability, which had a carrying value of $16.4 million
at December 31, 2002, was redeemed for $9.8 million in February
2003. The gain on this redemption was added to stockholders' equity,
and had a favorable impact on earnings per share. This redemption
resulted in a reduction of preferred cash distributions by
approximately $1.3 million annually, which had accrued at an annual
rate of 8%. After giving effect to the interest cost incurred by the
Company to fund the redemption, the net decrease in financing cost
for the Company is approximately $1.0 million annually.
o We generated operating cash flow of $8.0 million, despite $14.2
million of payments to satisfy severance, restructuring and related
liabilities.
o We incurred capital expenditures from continuing operations of $13.3
million, including $5.5 million for restructuring initiatives.
o We sold the GC/Waldom and Duckback businesses for net proceeds of
$7.4 million and $16.2 million, respectively, and we used those
proceeds to repay outstanding debt.
o Total debt was 27.9% of total capitalization at December 31, 2003
versus 27.7% at December 31, 2002.
While our net loss in 2003 was $9.4 million, it included many significant
non-cash events such as depreciation and amortization ($22.0 million),
impairments of long-lived assets ($11.9 million), the write-down of our equity
investment in Sahlman ($5.5 million), and the write-off and amortization of
capitalized debt costs ($3.0 million). We used $9.8 million in cash related to
operating assets and liabilities; however, excluding $14.2 million of payments
related to severance, restructuring and related liabilities, operating assets
and liabilities provided cash of $4.4 million. By the end of 2003, we were
turning our inventory at 5.6 times per year versus 5.5 times per year in 2002.
The Fleet Credit Agreement allows us to more efficiently leverage our
entire asset base, and to create more borrowing room under our revolving credit
facility, which is based on the liquidation values of accounts receivable and
inventories. The term loan is collateralized by real and personal property.
Below is a summary of the sources and uses associated with the funding of the
Fleet Credit Agreement:
(Thousands of Dollars)
Sources:
Term loan borrowings under the Fleet Credit Agreement $20,000
Revolving loan borrowings under the Fleet Credit Agreement 43,743
-------
$63,743
=======
Uses:
Payment of interest and principal under the Deutsche Bank Credit Agreement $52,895
Purchase of outstanding preferred interest of a subsidiary at a discount 9,840
Payment of accrued distributions on outstanding preferred interest of a
subsidiary 122
Certain costs associated with the Fleet Credit Agreement 886
-------
$63,743
=======
Under the Fleet Credit Agreement, the term loan originally had a final
maturity date of February 3, 2008 and quarterly repayments of $0.7 million,
three of which were made on April 1, July 1 and October 1, 2003, respectively.
However, the net proceeds received from the GC/Waldom and Duckback sales (see
above), were used to prepay the term loan, which is now
23
scheduled to be repaid in its entirety by early 2005. The revolving credit
facility has an expiration date of January 31, 2008. Unused borrowing
availability on the revolving credit facility was $16.3 million at February 27,
2004.
Our borrowing base under the Fleet Credit Agreement is reduced by the
outstanding amount of standby and commercial letters of credit. Vendors,
financial institutions and other parties with whom we conduct business may
require letters of credit in the future that either 1) do not exist today or 2)
would be at higher amounts than those that exist today. Currently, our largest
letters of credit relate to our casualty insurance programs. At December 31,
2003, total outstanding letters of credit were $9.1 million.
All extensions of credit under the Fleet Credit Agreement are
collateralized by a first priority perfected security interest in and lien upon
the capital stock of each material domestic subsidiary (65% of the capital stock
of each material foreign subsidiary), and all present and future assets and
properties of Katy. Customary financial covenants and restrictions apply under
the Fleet Credit Agreement. Until June 30, 2003, interest accrued on revolving
borrowings at 225 basis points over applicable LIBOR rates, and at 250 basis
points over LIBOR for term borrowings. Subsequent to June 30, 2003 and in
accordance with the Fleet Credit Agreement, Katy's margins dropped an additional
25 basis points from the pre-June 30 levels on both the revolving credit
facility and the term loan based on the achievement of a financial covenant
target. During October 2003, also in accordance with the Fleet Credit Agreement,
margins on the term borrowings dropped an additional 25 basis points a the
balance of the term loan was reduced below $10.0 million as a result of the
application of the proceeds from the Duckback sale. Interest accrues at higher
margins on prime rates for swing loans, the amounts of which were nominal at
December 31, 2003.
Katy incurred $1.6 million in debt issuance costs in 2003 associated with
the Fleet Credit Agreement. Additionally, at the time of the inception of the
Fleet Credit Agreement, Katy had approximately $5.6 million of unamortized debt
issuance costs associated with the Deutsche Bank Credit Agreement. Based on the
pro rata reduction in borrowing capacity from the Deutsche Bank Credit Agreement
to the Fleet Credit Agreement and in the connection with the sale of assets
(primarily the GC/Waldom and Duckback businesses), Katy charged to expense $1.8
million of previously unamortized debt issuance costs. The remainder of the
previously capitalized costs, along with the capitalized costs from the Fleet
Credit Agreement is being amortized over the life of the Fleet Credit Agreement
through January 2008.
The revolving credit facility under the Fleet Credit Agreement requires
lockbox agreements which provide for all receipts to be swept daily to reduce
borrowings outstanding. These agreements, combined with the existence of a
material adverse effect (MAE) clause in the Fleet Credit Agreement, causes the
revolving credit facility to be classified as a current liability, per guidance
in the Emerging Issues Task Force (EITF) Issue No. 95-22, Balance Sheet
Classification of Borrowings Outstanding under Revolving Credit Agreements that
Include Both a Subjective Acceleration Clause and a Lock-Box Arrangement.
However, the Company does not expect to repay, or be required to repay, within
one year, the balance of the revolving credit facility classified as a current
liability. The MAE clause, which is a fairly typical requirement in commercial
credit agreements, allows the lender to require the loan to become due if it
determines there has been a material adverse effect on our operations, business,
properties, assets, liabilities, condition or prospects. The classification of
the revolving credit facility as a current liability is a result only of the
combination of the two aforementioned factors: the lockbox agreements and the
MAE clause. The revolving credit facility does not expire or have a maturity
date within one year, but rather has a final expiration date of January 31,
2008. Also, we were in compliance with the applicable financial covenants at
December 31, 2003. The lender had not notified us of any indication of a MAE at
December 31, 2003, and we were not in default of any provision of the Fleet
Credit Agreement at December 31, 2003.
The Fleet Credit Agreement, and the additional borrowing ability on
revolving credit obtained by incurring new term debt, results in three important
benefits related to the long-term strategy of Katy: 1) allowed us to redeem
early at a discount a preferred interest obligation of a subsidiary, 2) provides
borrowing power to invest in capital expenditures key to our strategic
direction, and 3) provides working capital flexibility to build inventory when
necessary to accommodate lower cost outsourced finished goods inventory. We
believe that our operations and the Fleet Credit Agreement provide sufficient
liquidity for our operations going forward.
Funding for capital expenditures and working capital needs is expected to
be accomplished through the use of available borrowings under the Fleet Credit
Agreement. Anticipated capital expenditures are expected to be slightly higher
in 2004 than in 2003, mainly due to additional investments planned for the
development of new products. Restructuring and consolidation activities are
important to reducing our cost structure to a competitive level.
We have a number of obligations and commitments, which are listed on the
schedule later in this section entitled "Contractual Obligations and Commercial
Commitments." We have considered all of these obligations and commitments in
structuring our capital resources to ensure that they can be met. See the notes
accompanying the table in that section for further discussions of those items.
24
We are continually evaluating alternatives relating to divestitures of
certain of our businesses. Divestitures present opportunities to de-leverage our
financial position and free up cash for further investments in core activities.
In addition to the sale of the GC/Waldom and Duckback businesses in 2003 for
aggregate proceeds of $23.6 million (see above), we have sold additional assets
in 2003 (primarily excess real estate) for proceeds of $2.8 million. The largest
of these was the February 3, 2003 sale of the Woods manufacturing facility in
Moorseville, Indiana. Gross proceeds were $1.9 million, of which $0.7 million
was used to repay a mortgage loan payable on the property. The remainder of the
proceeds reduced our debt obligations.
OFF-BALANCE SHEET ARRANGEMENTS
See Note 9 to the Consolidated Financial Statements in Part II, Item 8 for
a discussion of SESCO.
CONTRACTUAL OBLIGATIONS
We also enter into operating lease agreements in the ordinary course of
business, and many of our facilities are leased. Contractual obligations
associated with these leases are listed in the table under the following section
entitled "Contractual Obligations and Commercial Obligations."
Contractual Obligations and Commercial Obligations
Katy's obligations are summarized below:
(In thousands of dollars)
Due in less Due in Due in Due after
Contractual Cash Obligations Total than 1 year 1-3 years 4-5 years 5 years
---------------------------- ----- ----------- --------- --------- -------
Revolving credit facility [d] $36,000 $ -- $ -- $36,000 $ --
Term loans 3,663 2,857 806 -- --
Operating leases [c] 33,892 9,412 13,734 8,877 1,869
Severance and restructuring [c] 4,213 2,499 1,293 215 206
SESCO payable to Montenay [b] 4,800 1,000 2,050 1,750 --
------- ------- ------- ------- -------
Total Contractual Obligations $82,568 $15,768 $17,883 $46,842 $ 2,075
======= ======= ======= ======= =======
Due in less Due in Due in Due after
Other Commercial Commitments Total than 1 year 1-3 years 4-5 years 5 years
---------------------------- ----- ----------- --------- --------- -------
Commercial letters of credit $ 749 $ 749 $ -- $ -- $ --
Stand-by letters of credit 8,379 8,379 -- -- --
Guarantees [a] 30,435 6,765 23,670 -- --
------- ------- ------- ------- -------
Total Commercial Commitments $39,563 $15,893 $23,670 $ -- $ --
======= ======= ======= ======= =======
[a] As discussed in Note 9 to the Consolidated Financial Statements in Part II,
Item 8, SESCO, an indirect wholly-owned subsidiary of Katy, is party to a
partnership that operates a waste-to-energy facility, and has certain
contractual obligations, for which Katy provides certain guarantees. If the
partnership is not able to perform its obligations under the contracts, under
certain circumstances SESCO and Katy could be subject to damages equal to the
amount of Industrial Revenue Bonds outstanding (which financed construction of
the facility) less amounts held by the partnership in debt service reserve
funds. Katy and SESCO do not anticipate non-performance by parties to the
contracts.
[b] Amount owed to Montenay as a result of the SESCO partnership, discussed in
Note 9 to the Consolidated Financial Statements. $1.0 million of this obligation
is classified in the Consolidated Balance Sheets as an Accrued Expense in
Current Liabilities, while the remainder is included in Other Liabilities,
recorded on a discounted basis.
[c] These obligations represent liabilities associated with restructuring
activities, other than liabilities for non-cancelable lease rentals. Future
non-cancelable lease rentals are included in the line entitled "Operating
leases." The Consolidated Balance Sheet at December 31, 2003, includes $6.9
million in discounted liabilities associated with non-cancelable operating lease
rentals, net of estimated sub-lease revenues, related to facilities that have
been abandoned as a result of restructuring and consolidation activities.
25
[d] As discussed in the Liquidity and Capital Resources section above, the
entire revolving credit facility under the Fleet Credit Agreement is classified
as a current liability on the Consolidated Statements of Financial Position as a
result of the combination in the Fleet Credit Agreement of 1) lockbox agreements
on Katy's depository bank accounts and 2) a subjective Material Adverse Effect
(MAE) clause.
OTHER ITEMS
Effect of Transactions with Related and Certain Other Parties
In connection with the Contico International, L.L.C. (now CCP) acquisition
on January 8, 1999, we entered into building lease agreements with Newcastle
Industries, Inc. (Newcastle). Lester Miller, the former owner of CCP, and a Katy
director from 1999 to 2000, is the majority owner of Newcastle. Since the
acquisition of CCP, several additional properties utilized by CCP are leased
directly from Lester Miller. Rental expense for these properties approximates
historical market rates. Related party rental expense for the years ended
December 31, 2003, 2002, and 2001 was approximately $0.5 million, $0.8 million,
and $1.5 million, respectively.
We paid Newcastle $0.1 million, $1.3 million and $2.0 million of preferred
distributions for each of the years ended December 31, 2003, 2002 and 2001,
respectively, on the preferred units of CCP held by Newcastle. The decreases in
distributions were due to the early redemptions (at a discount) of the preferred
interest at the time of the Recapitalization in June 2001 and in February 2003
(which was the remainder of the preferred interest). As a result, we do not owe
any further distributions.
Kohlberg & Co., L.L.C., an affiliate of Kohlberg Investors IV, L.P., whose
affiliate holds all 925,750 shares of our Convertible Preferred Stock, provides
ongoing management oversight and advisory services to Katy. We paid $0.5
million, $0.5 million and $0.3 million for such services in 2003, 2002 and 2001,
respectively. We expect to pay $0.5 million annually in future years.
SEVERANCE, RESTRUCTURING AND RELATED CHARGES
See Note 21 to the Consolidated Financial Statements in Part II, Item 8
for a discussion of severance, restructuring and related charges.
26
OUTLOOK FOR 2004
We anticipate only a modest improvement in 2004 from the general economic
conditions and business environment that existed in 2003. However, we have seen
recent improvement in the restaurant, travel and hotel markets to which we sell
products. We have seen continued strong sales performance from the Woods and
Woods Canada retail electrical corded products business, but we do not expect to
see the same level of year-over-year top line growth from those businesses in
2004 as we experienced in 2003. We have a significant concentration of customers
in the mass-market retail, discount and do-it-yourself market channels. Our
ability to maintain and increase our sales levels depends in part on our ability
to retain and improve relationships with these customers. In addition, we face
uncertainty with respect to the replacement of NOMA(R)-branded sales as Woods
Canada has lost the right to use the NOMA(R) trademark, effective mid-2004. We
also face the continuing challenge of recovering or offsetting cost increases
for raw materials.
Gross margins have been improving and are expected to continue to improve
in 2004 as we realize the benefits of various profit-enhancing strategies
implemented since the Recapitalization. These strategies include sourcing
previously manufactured products, as well as locating new sources for products
already sourced outside of our facilities. We have significantly reduced
headcount, and continue to examine issues related to excess facilities. Cost of
goods sold is subject to variability in the prices for certain raw materials,
most significantly thermoplastic resins used in the manufacture of plastic
products for the Jan/San and consumer plastic businesses. Prices of plastic
resins, such as polyethylene and polypropylene, increased steadily from the
latter half of 2002 through the middle of 2003, then fell slightly in the second
half of the year, and have increased again during the early months of 2004.
Management has observed that the prices of plastic resins are driven to an
extent by prices for crude oil and natural gas, in addition to other factors
specific to the supply and demand of the resins themselves. We cannot predict
the direction resin prices will take during 2004 and beyond. We are also exposed
to price changes for copper (a primary material in many of the products sold by
Woods and Woods Canada), aluminum and steel (primary materials in production of
truck boxes), corrugated packaging material and other raw materials. Prices for
copper, aluminum and steel all have increased in recent months. We have not
employed an active hedging program related to our commodity price risk, but are
employing other strategies for managing this risk, including contracting for a
certain percentage of resin needs through supply agreements and opportunistic
spot purchases. In a climate of rising raw material costs, we experience
difficulty in raising prices to shift these higher costs to our customers.
Depreciation expense was higher during 2003 as a result of the reduction
in depreciable lives for certain CCP manufacturing assets, specifically molds
and tooling equipment used in the manufacture of plastic products, from seven to
five years, effective January 1, 2003. This change in estimate was made
following significant impairments to these types of assets recorded during 2002.
The amount of incremental depreciation expense during 2003 as a result of this
reduction in depreciable lives was $5.4 million. However, many of these assets
became fully depreciated during 2003 since the CCP acquisition occurred in early
1999. Therefore, depreciation expense related to these assets is expected to
reduce again in 2004 and subsequent years. Our total depreciation expense in
2004 and subsequent years will also depend on changes in the level of
depreciable assets.
Selling, general and administrative expenses have remained stable and are
expected to continue to remain stable as a percentage of sales from 2003 levels.
Cost reduction efforts are ongoing throughout the Company. Our corporate office
was relocated in 2001 and we expect to maintain modest headcount and rental
costs for that office. We have completed the process of transferring most
back-office functions of our Wilen (mops, brooms and brushes) and Glit/Microtron
(abrasives) businesses from Georgia to Bridgeton, Missouri, the headquarters of
CCP. We are nearly complete with the process of transferring most back-office
functions of our Disco (filters and miscellaneous food service items) business
in McDonough, Georgia to St. Louis, Missouri. We will continue to evaluate the
possibility of further consolidation of administrative processes at our
subsidiaries.
We have announced or committed to several restructuring plans involving
our operations. During 2002 and 2003, we announced plans to consolidate the
Warson Road and Earth City facilities as well as a portion of the Hazelwood
facility into the Bridgeton facility. All of these facilities are located in the
St. Louis, Missouri area. The moves from the Warson Road, Hazelwood and Earth
City facilities are now complete. Hazelwood will continue to operate on a
satellite basis. Certain molding machines have been and will continue to be
transferred to the Bridgeton facility and excess machinery will be sold. The
significant charges recorded during 2002 and 2003 related to these facilities
were mainly to accrue non-cancelable lease payments for these facilities (i.e.,
non-incremental cash). We expect the Jan/San and consumer plastics business
units to continue to benefit from lower overhead costs in 2004 as a result of
these consolidations. Further facility consolidations with respect to the CCP
operations are under review.
In December 2003, we closed the Woods Canada manufacturing facility in
Toronto, necessitated by our decision to fully outsource its products to lower
cost sources. Prior to the plant closure, Woods Canada already sourced a portion
of its finished goods from vendors. While outsourcing of the Woods Canada
products is a cost-saving measure, Woods Canada expects to maintain higher
inventory levels, especially through mid-2004, as a result of this move.
27
We have committed to other restructuring alternatives as well, most of
which center around consolidation of operations into fewer facilities. Certain
of these projects will require additional levels of cash for both capital
expenditures and moving and relocation costs. Capital expenditures, severance,
restructuring and related costs, and potential asset impairments related to
these initiatives are expected to be approximately $4 million to $6 million
during 2004.
We continue to pursue a strategy within the Maintenance Products Group to
simplify our business transactions and improve our customer relationships. We
have centralized customer service functions for the Continental (Jan/San),
Glit/Microtron, Wilen and Disco business units allowing customers to order
products from any CCP division on one purchase order. We expect to include the
Loren and CCP Canada business units as part of this shared services model during
2004. We believe that operating these businesses as a cohesive unit will improve
customer service because our customers' purchasing processes will be simplified,
as will follow up on order status, billing, collection and other related
functions. We expect that these steps will increase customer loyalty and help in
attracting new customers and increasing top line sales in future years.
Our integration cost reduction efforts, integration of back office
functions and simplifications of our business transactions are all dependent on
executing a system integration plan. This plan involves the migration of data
across information technology platforms and implementation of new software and
hardware. The domestic systems integration plan was substantially completed in
October 2003, while the international systems integration plan will be completed
by the end of 2004.
We expect interest rates in 2004 to be slightly higher than 2003; however,
we cannot predict the future levels of interest rates. In addition, after June
30, 2003, interest rate margins on our Fleet Credit Agreement borrowings are
determined on a pricing matrix which factors operating performance into the
pricing grid. Margins dropped an additional 25 basis points as our operating
performance resulted in us obtaining the more favorable pricing for our
borrowings. During October 2003, in accordance with The Fleet Credit Agreement,
margins on the term loan dropped an additional 25 basis points as the balance of
the term loan was reduced below $10.0 million as a result of the application of
proceeds from the Duckback sale.
Given our history of operating losses, along with guidance provided by the
accounting literature covering accounting for income taxes, we were unable to
conclude it is more likely than not that we will be able to generate future
taxable income sufficient to realize the benefits of deferred tax assets carried
on our books. Therefore, a full valuation allowance on the net deferred tax
asset position was recorded at December 31, 2003 and December 31, 2002, and we
do not expect to record the benefit of any deferred tax assets that may be
generated in 2004. We will continue to record current expense associated with
foreign and state income taxes.
We are continually evaluating alternatives that relate to divestitures of
non-core businesses. Divestitures present opportunities to de-leverage our
financial position and free up cash for further investments in core activities.
On March 6, 2003, we announced that we were exploring the sale of the Woods and
Woods Canada businesses. However, on July 31, 2003, we announced that we decided
not to pursue a sale of these businesses at that time. On April 2, 2003, we
announced the sale of GC/Waldom with net proceeds of $7.4 million, resulting in
a loss of ($0.2) million on the sale. On September 16, 2003, we announced the
sale of Duckback for net proceeds of $16.2 million, resulting in a gain of $7.6
million, net of tax.
Cautionary Statement Pursuant to Safe Harbor Provisions of the Private
Securities Litigation Reform Act of 1995
This report and the information incorporated by reference in this report
contain various "forward-looking statements" as defined in Section 27A of the
Securities Act of 1933 and Section 21E of the Exchange Act of 1934, as amended.
The forward-looking statements are based on the beliefs of our management, as
well as assumptions made by, and information currently available to, our
management. We have based these forward-looking statements on current
expectations and projections about future events and trends affecting the
financial condition of our business. These forward-looking statements are
subject to risks and uncertainties that may lead to results that differ
materially from those expressed in any forward-looking statement made by us or
on our behalf, including, among other things:
- Increases in the cost of, or in some cases continuation of, the
current price levels of plastic resins, copper, paper board
packaging, and other raw materials.
- Our inability to reduce product costs, including manufacturing,
sourcing, freight, and other product costs.
- Greater reliance on third parties for our finished goods as we
increase the portion of our manufacturing that is outsourced.
- Our inability to reduce administrative costs through consolidation
of functions and systems improvements.
28
- Our inability to execute our systems integration plan.
- Our inability to successfully integrate our operations as a result
of the facility consolidations.
- Our inability to sub-lease rented facilities which have been
abandoned as a result of consolidation and restructuring
initiatives.
- Our inability to achieve product price increases, especially as they
relate to potentially higher raw material costs.
- The potential impact of losing lines of business at large retail
outlets in the discount and do-it-yourself markets.
- Competition from foreign competitors.
- The potential impact of new distribution channels, such as
e-commerce, negatively impacting us and our existing channels.
- The potential impact of rising interest rates on our LIBOR-based
Fleet Credit Agreement.
- Our inability to meet covenants associated with the Fleet Credit
Agreement.
- The potential impact of rising costs for insurance for properties
and various forms of liabilities.
- The potential impact of changes in foreign currency exchange rates
related to our foreign operations.
- Labor issues, including union activities that require an increase in
production costs or lead to a strike, thus impairing production and
decreasing sales. We are also subject to labor relations issues at
entities involved in our supply chain, including both suppliers and
those involved in transportation and shipping.
- Changes in significant laws and government regulations affecting
environmental compliance and income taxes.
- Our inability to sell certain assets to raise cash and de-leverage
our financial condition.
- Our inability to replace lost sales due the loss of the
NOMA(R)-branded products at Woods Canada.
Words and phrases such as "expects," "estimates," "will," "intends,"
"plans," "believes," "anticipates" and the like are intended to identify
forward-looking statements. The results referred to in forward-looking
statements may differ materially from actual results because they involve
estimates, assumptions and uncertainties. Forward-looking statements
included herein are as of the date hereof and we undertake no obligation
to revise or update such statements to reflect events or circumstances
after the date hereof or to reflect the occurrence of unanticipated
events. All forward-looking statements should be viewed with caution.
CRITICAL ACCOUNTING POLICIES
Our significant accounting policies are more fully described in Note 2 to
the Consolidated Financial Statements of Katy included in Part II, Item 8.
Certain of our accounting policies as discussed below require the application of
significant judgment by management in selecting the appropriate assumptions for
calculating amounts to record in our financial statements. By their nature,
these judgments are subject to an inherent degree of uncertainty.
Revenue Recognition - Revenue is recognized for all sales, including sales
to agents and distributors, at the time the products are shipped and title has
transferred to the customer, provided that a purchase order has been received or
a contract has been executed, there are no uncertainties regarding customer
acceptances, the sales price is fixed and determinable and collectibility is
deemed probable. The Company's standard shipping terms are FOB shipping point.
Sales discounts, returns and allowances, and cooperative advertising are
included in net sales, and the provision for doubtful accounts is included in
selling, general and administrative expenses.
Stock-based Compensation - The Company follows the provisions of
Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to
Employees, regarding accounting for stock options and other stock awards. APB
Opinion No. 25 dictates a measurement date concept in the determination of
compensation expense related to stock awards
29
including stock options, restricted stock, and stock appreciation rights. Katy's
outstanding stock options all have established measurement dates and therefore,
fixed plan accounting is applied, generally resulting in no compensation expense
for stock option awards. However, the Company has issued stock appreciation
rights, stock awards and restricted stock awards which are accounted for as
variable stock compensation awards and compensation expense has been recorded
for these awards. Compensation expense for stock awards and stock appreciation
rights is recorded in selling, general and administrative expenses in the
Consolidated Statements of Operations.
Accounts Receivable - We perform ongoing credit evaluations of our
customers and adjust credit limits based upon payment history and the customer's
current credit worthiness, as determined by our review of their current credit
information. We continuously monitor collections and payment from our customers
and maintain a provision for estimated credit losses based upon our historical
experience and any specific customer collection issues that we have identified.
While such credit losses have historically been within our expectations and the
provision established, we cannot guarantee that we will continue to experience
the same credit loss rates that we have in the past. Since our accounts
receivable are concentrated in a relatively few number of large sized customers,
especially our consumer/retail customers, a significant change in the liquidity
or financial position of any one of these customers could have a material
adverse impact on the collectibility of our accounts receivable and our future
operating results.
Inventories - We value our inventory at the lower of the actual cost to
purchase and/or manufacture the inventory or the current estimated market value
of the inventory. We regularly review inventory quantities on hand and record a
provision for excess and obsolete inventory based primarily on our estimated
forecast of product demand and production requirements for the next twelve
months. Our accounting policies state that operating divisions are to identify,
at a minimum, those inventory items that are in excess of either one year's
historical or one year's forecasted usage, and to use business judgment in
determining which is the more appropriate metric. Those inventory items must
then be evaluated on a lower of cost or market basis for realizability. A
significant increase in the demand for our products could result in a short-term
increase in the cost of inventory purchases while a significant decrease in
demand could result in an increase in the amount of excess inventory quantities
on hand. Additionally, our estimates of future product demand may prove to be
inaccurate, in which case we may have understated or overstated the provision
required for excess and obsolete inventory. In the future, if our inventory is
determined to be overvalued, we would be required to recognize such costs in our
cost of goods sold at the time of such determination. Therefore, although we
make every effort to ensure the accuracy of our forecasts of future product
demand, any significant unanticipated changes in demand or product developments
could have a significant impact on the value of our inventory and our reported
operating results. Our reserves for excess and obsolete inventory were $5.6
million and $5.7 million, respectively, as of December 31, 2003 and December 31,
2002.
Impairments of Long-Lived Assets - We regularly review our long-lived
assets for impairment in accordance with SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. For assets that are to be held and
used, this is done by comparing undiscounted future cash flows associated with
the asset (or asset group) and determining if the carrying value of the asset
(asset group) will be recovered by those cash flows over the remaining useful
life of the asset (or of the primary asset of an asset group). If the future
undiscounted cash flows indicate that the carrying value of the asset (asset
group) will not be recovered, then the asset is marked to fair value. We monitor
our operations to look for triggering events that may cause us to perform an
impairment analysis. These events include, among others, loss of product lines,
poor operating performance and abandonment of facilities. We determine the
lowest level at which cash flows are separately identifiable to perform the
future cash flows tests, and apply the results to the assets related to those
separately identifiable cash flows. In some cases, this may be at the individual
asset level, but in other cases, it is more appropriate to perform this testing
at a business unit level (especially when poor operating performance was the
triggering event). For assets that are to be disposed of by sale or by a means
other than by sale, the identified asset (or disposal group if a group of assets
or entire business unit) is marked to fair value less costs to sell. In the case
of the planned sale of a business unit, SFAS No. 144 indicates that disposal
groups should be reported as discontinued operations on the consolidated
financial statements if cash flows of the disposal group are separately
identifiable. SFAS No. 144 has had an impact on the application of accounting
for discontinued operations, making it in general much easier to classify a
business unit (disposal group) held for sale as a discontinued operation. The
rules covering discontinued operations prior to SFAS No. 144 generally required
that an entire segment of a business be planned for disposal in order to
classify it as a discontinued operation. We recorded significant impairments of
long-lived assets during 2003, 2002 and 2001 in accordance with SFAS No. 144,
which are discussed in Notes 4 and 5 to the Consolidated Financial Statements in
Part II., Item 8. We also recorded amounts as discontinued operations in 2003
(and for all periods presented), which are detailed further in Note 8 to the
Consolidated Financial Statements.
Deferred income taxes - We recognize deferred income tax assets and
liabilities based on the differences between the financial statement carrying
amounts and the tax bases of assets and liabilities. Deferred income tax assets
also include federal, state and foreign net operating loss carry forwards,
primarily due to the significant operating losses incurred during recent years,
as well as various tax credits. We regularly review our deferred income tax
assets for recoverability taking into consideration historical net income
(losses), projected future income (losses) and the expected timing of the
reversals of existing temporary differences. We establish a valuation allowance
when it is more likely than not that these assets will not be recovered. As of
30
December 31, 2003, we had a valuation allowance of $46.2 million. During the
year ended December 31, 2003, we increased the valuation allowance by $3.4
million primarily to provide a full reserve against our net deferred tax asset
position. Given the negative evidence provided by our history of operating
losses, and considering guidance provided by SFAS No. 109, Accounting for Income
Taxes, we were unable to conclude that it is more likely that not that our
deferred tax assets would be recoverable through the generation of future
taxable income. We will continue to evaluate our valuation allowance
requirements based on future operating results and business acquisitions and
dispositions, and we may adjust our deferred tax asset valuation allowance. Such
changes in our deferred tax asset valuation allowance will be reflected in
current operations through our income tax provision.
Workers' compensation and product liabilities - We make payments for
workers' compensation and product liability claims generally through the use of
a third party claims administrator. We have purchased insurance coverage for
large claims over our self-insured retention levels. Our workers' compensation
and health benefit liabilities are developed using actuarial methods based upon
historical data for payment patterns, cost trends, and other relevant factors.
In order to consider a range of possible outcomes, we have based our estimates
of liabilities in this area on several different sources of loss development
factors, including those from the insurance industry, the manufacturing
industry, and factors developed in-house. Our general approach is to identify a
reasonable, logical conclusion, typically in the middle range of the possible
outcomes. While we believe that our liabilities for workers' compensation and
product liability claims as of December 31, 2003 are adequate and that the
judgment applied is appropriate, such estimated liabilities could differ
materially from what will actually transpire in the future.
New Accounting Pronouncements
In April 2002, the FASB released SFAS No. 145, Rescission of FASB
Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical
Corrections. SFAS No. 145 rescinds and makes technical corrections regarding
various topics, including early extinguishments of debt and sale-leaseback
transactions. The statement is effective for fiscal years beginning after May
15, 2002. The Company adopted SFAS No. 145 on January 1, 2003. SFAS No. 145
requires certain costs and losses associated with early extinguishments of debt
be reported as interest expense as a component of income from continuing
operations, whereas the prior accounting guidance provided for classification of
these costs and losses as extraordinary items, reported separate on a
tax-effected basis after income from continuing operations. The adoption of SFAS
No. 145 resulted in the Company reclassifying a $1.2 million write-off of
previously capitalized debt costs that occurred during 2001 to interest expense
in income from continuing operations during 2001, which had previously been
classified as an extraordinary item. During 2003, the Company wrote off $0.7
million of previously capitalized debt costs in connection with the debt
refinancing (see Note 10 to the Consolidated Financial Statements in Part II,
Item 8). This write-off is included in interest expense in the Consolidated
Statement of Operations.
In July 2002, the FASB issued SFAS No. 146, Accounting for Costs
Associated with Exit or Disposal Activities. SFAS No. 146 requires companies to
recognize costs associated with exit or disposal activities when they are
incurred rather than at the date of a commitment to an exit or disposal plan.
Examples of costs covered by the standard include lease termination costs and
certain employee severance costs that are associated with a restructuring,
discontinued operation, plant closing, or other exit or disposal activity.
Previous accounting guidance was provided by Emerging Issues Task Force (EITF)
Issue No. 94-3, Liability Recognition for Certain Employee Termination Benefits
and Other Costs to Exit an Activity (Including Certain Costs Incurred in a
Restructuring). SFAS No. 146 replaces EITF Issue No. 94-3. The new standard was
effective for exit or restructuring activities initiated after December 31,
2002. The Company has complied with the provisions of SFAS No. 146 for all
restructuring activities commenced during 2003. See Note 21 for further
information on the Company's restructuring activities.
In November 2002, the FASB issued FASB Interpretation No. (FIN) 45,
Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others. This interpretation elaborates on
the disclosures to be made by a guarantor in its financial statements about its
obligations under certain guarantees that it has issued. It also clarifies that
a guarantor is required to recognize, at the inception of a guarantee, a
liability for the fair value of the obligation undertaken in issuing the
guarantee. Katy has determined that its disclosures in regards to guarantees are
in accordance with FIN 45.
In January 2003, FIN 46, Consolidation of Variable Interest Entities - an
Interpretation of ARB No. 51, was released. The interpretation requires variable
interest entities to be consolidated if the equity investment at risk is not
sufficient to permit an entity to finance its activities without support from
other parties or the equity investors lack certain specified characteristics of
a controlling financial interest. The guidelines of the interpretation will
become applicable for the Company in its first quarter 2004 financial
statements. Katy is reviewing FIN 46 to determine its impact, if any, on future
reporting periods, and does not currently anticipate any material accounting or
disclosure requirements under the provisions of this interpretation.
In April 2003, the FASB released SFAS No. 149, Amendment of Statement 133
on Derivative Instruments and Hedging Activities. Katy does not currently use
derivative instruments or participate in hedging activities and therefore, does
31
not expect SFAS No. 149 to impact its financial reporting. If Katy were to
utilize derivative instruments or participate in hedging activities, it would
follow the provisions of SFAS No. 149.
In May 2003, the FASB released SFAS No. 150, Accounting for Certain
Financial Instruments with Characteristics of Liabilities and Equity. SFAS No.
150 establishes standards for how certain financial instruments with
characteristics of both liabilities and equity are to be classified and
measured. It requires that certain financial instruments within its scope be
classified as a liability (or an asset in some circumstances), while many of
those instruments were previously classified as equity. SFAS No. 150 is
effective for the third quarter of 2003. Katy has determined that SFAS No. 150
does not impact its financial reporting.
In December 2003, the FASB revised SFAS No. 132, Employers' Disclosures
about Pensions and Other Postretirement Benefits. The revised statement requires
additional disclosures about the assets, obligations, cash flows, and net
periodic benefit cost of defined benefit pension plans and other defined benefit
postretirement plans. The disclosure provisions of the revised statement have
been reflected in Note 13 to the Consolidated Financial Statements in Part II,
Item 8.
Environmental and Other Contingencies
The Company and certain of its current and former direct and indirect
corporate predecessors, subsidiaries and divisions are involved in remedial
activities at certain present and former locations and have been identified by
the EPA, state environmental agencies and private parties as potentially
responsible parties (PRPs) at a number of hazardous waste disposal sites under
the Comprehensive Environmental Response, Compensation and Liability Act
(Superfund Act) or equivalent state laws and, as such, may be liable for the
cost of cleanup and other remedial activities at these sites. Responsibility for
cleanup and other remedial activities at a Superfund site is typically shared
among PRPs based on an allocation formula. Under the federal Superfund statute,
parties could be held jointly and severally liable, thus subjecting them to
potential individual liability for the entire cost of cleanup at the site. Based
on its estimate of allocation of liability among PRPs, the probability that
other PRPs, many of whom are large, solvent, public companies, will fully pay
the costs apportioned to them, currently available information concerning the
scope of contamination, estimated remediation costs, estimated legal fees and
other factors, the Company has recorded and accrued for indicated environmental
liabilities amounts that it deems reasonable and believes that any liability
with respect to these matters in excess of the accrual will not be material. The
ultimate costs will depend on a number of factors and the amount currently
accrued represents management's best current estimate of the total cost to be
incurred. The Company expects this amount to be substantially paid over the next
one to four years.
The most significant environmental matter in which the Company is
currently involved relates to the W.J. Smith site. In 1993, the EPA initiated a
Unilateral Administrative Order Proceeding under Section 7003 of the RCRA
against W.J. Smith and Katy. The proceeding requires certain actions at the W.J.
Smith site and certain off-site areas, as well as development and implementation
of additional cleanup activities to mitigate off-site releases. In December
1995, W.J. Smith, Katy and USEPA agreed to resolve the proceeding through an
Administrative Order on Consent under Section 7003 of RCRA. Pursuant to the
Order, W.J. Smith is currently implementing a cleanup to mitigate off-site
releases.
In December 1996, Banco del Atlantico ("plaintiff"), a bank located in
Mexico, filed a lawsuit in Texas against Woods, a subsidiary of Katy, and
against certain past and/or then present officers, directors and former owners
of Woods (collectively, "defendants"). The plaintiff alleges that the defendants
participated in violations of the Racketeer Influenced and Corrupt Organizations
Act ("RICO") involving allegedly fraudulently obtained loans from Mexican banks,
including the plaintiff, and "money laundering" of the proceeds of the illegal
enterprise. In its recently-filed Amended Complaint, the plaintiff also alleges
violations of the Indiana RICO and Crime Victims Act. All of the foregoing is
alleged to have occurred prior to Katy's purchase of Woods.
The plaintiff alleges that it made loans to a Mexican corporation
controlled by certain past officers and directors of Woods based upon fraudulent
representations and guarantees. In addition to its fraud, conspiracy, and RICO
claims, the plaintiff seeks recovery upon certain alleged guarantees purportedly
executed by Woods Wire Products, Inc., a predecessor company from which Woods
purchased certain assets in 1993. The primary legal theories under which the
plaintiff seeks to hold Woods liable for its alleged damages are respondeat
superior, conspiracy, successor liability, or a combination of the three.
On March 31, 2003, the Southern District of Texas court ordered that the
case be transferred to the Southern District of Indiana on the ground that
Indiana has a closer relationship to this case than Texas.
The case is currently pending in the Southern District of Indiana. The
plaintiff filed its Amended Complaint on December 17, 2003. Pursuant to court
order, the defendants filed motions to dismiss the Amended Complaint on February
17, 2004. All defendants have moved to dismiss the Amended Complaint and all
claims contained within it on grounds of forum non conveniens and comity. All
defendants have also moved to dismiss the Indiana RICO and Indiana Crime Victims
Act
32
claims as barred by the applicable statutes of limitations. Additionally, Woods
and certain other defendants have separately moved to dismiss certain claims of
the Amended Complaint pursuant to Federal Rules of Civil Procedure 12(b)(6) and
9(b) for failure to state a claim upon which relief can be granted. The
plaintiff's responses to these motions to dismiss have not yet been filed. The
parties are currently engaged in discovery, and the trial of the action
(assuming any is needed) is scheduled for January 2006.
The plaintiff is claiming damages in excess of $24 million and is
requesting that damages be trebled under Indiana and federal RICO, and/or the
Indiana Crime Victims Act. Because defendants' motions to dismiss have not yet
been briefed and certain jurisdictional issues have not yet been fully
adjudicated, it is not possible at this time for the Company to reasonably
determine an outcome or accurately estimate the range of potential exposure.
Katy may have recourse against the former owner of Woods and others for, among
other things, violations of covenants, representations and warranties under the
purchase agreement through which Katy acquired Woods, and under state, federal
and common law. Woods may also have indemnity claims against the former officers
and directors. In addition, there is a dispute with the former owners of Woods
regarding the final disposition of amounts withheld from the purchase price,
which may be subject to further adjustment as a result of the claims by the
plaintiff. The extent or limit of any such adjustment cannot be predicted at
this time. An adverse judgment in this matter could have a material impact on
the Company's results of operations, liquidity and financial position if the
Company were not able to exercise recourse against the former owner of Woods.
Katy also has a number of product liability and workers' compensation
claims pending against it and its subsidiaries. Many of these claims are
proceeding through the litigation process and the final outcome will not be
known until a settlement is reached with the claimant or the case is
adjudicated. The Company estimates that it can take up to 10 years from the date
of the injury to reach a final outcome on certain claims. With respect to the
product liability and workers' compensation claims, Katy has provided for its
share of expected losses beyond the applicable insurance coverage, including
those incurred but not reported to the Company or its insurance providers, which
are developed using actuarial techniques. Such accruals are developed using
currently available claim information, and represent management's best
estimates. The ultimate cost of any individual claim can vary based upon, among
other factors, the nature of the injury, the duration of the disability period,
the length of the claim period, the jurisdiction of the claim and the nature of
the final outcome.
Since 1998, Woods Canada has used the NOMA(R) trademark in Canada under
the terms of a license with Gentek Inc. (Gentek). In October 2002, Gentek filed
a petition for reorganization under Chapter 11 of the U.S. Bankruptcy Code. In
July 2003, as part of the bankruptcy proceedings, Gentek filed a motion to
reject this trademark license agreement. On November 5, 2003, Gentek's motion
was granted by the U.S. Bankruptcy Court. As a result, the trademark license
agreement is no longer in effect. Woods Canada will use the NOMA(R) trademark
through mid-2004 and, thereafter, will lose the right to brand certain of its
product with the NOMA(R) trademark. Approximately 50% of Woods Canada's sales
are of NOMA(R) - branded products. Woods Canada will seek to replace those sales
with sales of other products and will continue to act as a supplier for the new
licensee of the NOMA(R) trademark. However, there is no guarantee that Woods
Canada will be able to replace the lost sales of NOMA(R) - branded products.
Although we believe that these actions individually and in the aggregate
are not likely to have a material adverse effect on the Company, further costs
could be significant and will be recorded as a charge to operations when such
costs become probable and reasonably estimable.
33
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Interest Rate Risk
Our exposure to market risk associated with changes in interest rates
relates primarily to our debt obligations. We currently do not use derivative
financial instruments relating to this exposure. Our interest obligations on
outstanding debt at December 31, 2003 were indexed from short-term LIBOR (London
Inter-bank Offered Rates). We do not believe our exposures to interest rate
risks are material to our financial position or results of operations.
The following table presents as of December 31, 2003, our financial
instruments, rates of interest and indications of fair value:
Expected Maturity Dates
(Thousands of Dollars)
ASSETS
2004 2005 2006 2007 2008 Thereafter Total Fair Value
------- ------- ------- ------- ------- ---------- ------- ----------
Temporary cash investments
Fixed rate $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ --
Average interest rate -- -- -- -- -- -- -- --
INDEBTEDNESS
Fixed rate debt $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ --
Average interest rate -- -- -- -- -- -- -- --
Variable interest rate $ 2,857 $ 806 $ -- $ -- $36,000 $ -- $39,663 $ 39,663
Average interest rate 3.51% 3.51% -- -- 3.25% -- 3.27% --
Foreign Exchange Risk
We are exposed to fluctuations in the Euro, British pound, Canadian dollar
and Chinese Yuan Renminbi. Some of our subsidiaries make significant U.S. dollar
purchases from Asian suppliers, particularly in China. An adverse change in
foreign currency exchange rates of Asian countries could result in an increase
in the cost of purchases. We do not currently hedge foreign currency transaction
or translation exposures. Our net investment in foreign subsidiaries translated
into U.S. dollars at December 31, 2003 is $36.3 million. Our net investment in
foreign subsidiaries resulting from a 10% adverse change in foreign currency
exchange rates would amount to $3.6 million at December 31, 2003.
Commodity Price Risk
We have not employed an active hedging program related to our commodity
price risk, but are employing other strategies for managing this risk, including
contracting for a certain percentage of resin needs through supply agreements
and opportunistic spot purchases.
34
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
MANAGEMENT'S RESPONSIBILTY FOR FINANCIAL STATEMENTS
The management of Katy Industries, Inc. is responsible for the accuracy and
internal consistency of all information contained in this annual report,
including the Consolidated Financial Statements. Management has followed those
generally accepted accounting principles that it believes to be most appropriate
to the circumstances of the Company, and has made what it believes to be
reasonable and prudent judgments and estimates where necessary.
Katy Industries, Inc. operates under a system of internal accounting controls
designed to provide reasonable assurance that its financial records are
accurate, that the assets of the Company are protected and that the financial
statements fairly present the financial position and results of operations of
the Company. The internal accounting controls system is tested, monitored and
revised as necessary.
Three directors of the Company, not members of management, serve as the Audit
Committee of the Board of Directors and are the principal means through which
the Board oversees performance of the financial reporting duties of management.
The Audit Committee meets with management and the Company's independent auditors
several times a year to review the results of the external audit of the Company
and to discuss plans for future audits. At these meetings, the Audit Committee
also meets privately with the independent auditors to assure its unrestricted
access to them.
The Company's independent auditors, PricewaterhouseCoopers LLP, audited the
financial statements prepared by the management of Katy Industries, Inc. Their
opinion on these financial statements is presented below.
/S/ C. Michael Jacobi /S/ Amir Rosenthal
-------------------------------- ----------------------------------
C. Michael Jacobi Amir Rosenthal
President and Chief Executive Officer Vice President, Chief Financial
Officer, General Counsel and Secretary
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Stockholders of Katy Industries, Inc.:
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, stockholders' equity and cash flows,
present fairly, in all material respects, the financial position of Katy
Industries, Inc. and its subsidiaries at December 31, 2003 and 2002, and the
results of their operations and their cash flows for each of the three years in
the period ended December 31, 2003, in conformity with accounting principles
generally accepted in the United States of America. These financial statements
are the responsibility of the Company's management; our responsibility is to
express an opinion on these financial statements based on our audits. We
conducted our audits of these statements in accordance with auditing standards
generally accepted in the United States of America, which require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
As discussed in Note 2 to the consolidated financial statements, in 2002 the
Company changed its method of accounting for goodwill to conform to Statement of
Financial Accounting Standards No. 142. Also as discussed in Note 2 to the
consolidated financial statements, in 2002 the Company changed its method of
accounting for discontinued operations to conform to Statement of Financial
Accounting Standards No. 144.
/S/PricewaterhouseCoopers LLP
St. Louis, Missouri
March 25, 2004
35
KATY INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 2003 and 2002
(Amounts in Thousands)
ASSETS
2003 2002
--------- ---------
CURRENT ASSETS:
Cash and cash equivalents $ 6,748 $ 4,842
Trade accounts receivable, net of allowances of $3,029 and $2,771 65,197 58,463
Inventories 53,545 56,806
Other current assets 1,658 1,775
Current assets of discontinued operations -- 7,748
--------- ---------
Total current assets 127,148 129,634
--------- ---------
OTHER ASSETS:
Goodwill 10,215 10,543
Intangibles, net 22,399 25,536
Equity method investment in unconsolidated affiliate 1,617 7,306
Other 8,735 12,295
Non-current assets of discontinued operations -- 4,069
--------- ---------
Total other assets 42,966 59,749
--------- ---------
PROPERTY AND EQUIPMENT
Land and improvements 3,196 3,180
Buildings and improvements 17,198 14,707
Machinery and equipment 129,240 141,013
--------- ---------
149,634 158,900
Less - Accumulated depreciation (78,040) (72,306)
--------- ---------
Net property and equipment 71,594 86,594
--------- ---------
Total assets $ 241,708 $ 275,977
========= =========
See Notes to Consolidated Financial Statements.
36
KATY INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 2003 and 2002
(Amounts in Thousands, except Share Data)
LIABILITIES AND STOCKHOLDERS' EQUITY
2003 2002
--------- ---------
CURRENT LIABILITIES:
Accounts payable $ 37,259 $ 36,765
Accrued compensation 6,212 7,131
Accrued expenses 40,238 47,569
Current maturities, long-term debt 2,857 700
Revolving credit agreement 36,000 44,751
Current liabilities of discontinued operations -- 2,963
--------- ---------
Total current liabilities 122,566 139,879
--------- ---------
LONG-TERM DEBT, less current maturities 806 --
OTHER LIABILITIES 16,044 17,526
--------- ---------
Total liabilities 139,416 157,405
--------- ---------
COMMITMENTS AND CONTINGENCIES (Notes 20 and 23) -- --
--------- ---------
PREFERRED INTEREST OF SUBSIDIARY -- 16,400
--------- ---------
STOCKHOLDERS' EQUITY
15% Convertible preferred stock, $100 par value, authorized
1,200,000 shares, issued and outstanding 925,750 shares and 805,000
shares, respectively, liquidation value $98,396 and $85,595, respectively 93,507 80,696
Common stock, $1 par value; authorized 35,000,000 shares;
issued 9,822,204 shares 9,822 9,822
Additional paid-in capital 40,441 46,701
Accumulated other comprehensive income (loss) 2,387 (3,046)
Accumulated deficit (21,137) (11,773)
Treasury stock, at cost, 1,941,327 shares
and 1,460,027 shares, respectively (22,728) (20,228)
--------- ---------
Total stockholders' equity 102,292 102,172
--------- ---------
Total liabilities and stockholders' equity $ 241,708 $ 275,977
========= =========
See Notes to Consolidated Financial Statements.
37
KATY INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 2003, 2002 and 2001
(Amounts in Thousands, Except Per Share Amounts)
2003 2002 2001
--------- --------- ---------
Net sales $ 436,410 $ 445,755 $ 447,108
Cost of goods sold 365,563 373,578 388,032
--------- --------- ---------
Gross profit 70,847 72,177 59,076
Selling, general and administrative expenses (59,740) (63,657) (71,003)
Impairments of long-lived assets (11,880) (21,204) (47,469)
Severance, restructuring and related charges (8,132) (19,155) (13,380)
Loss on SESCO joint venture transaction -- (6,010) --
--------- --------- ---------
Operating loss (8,905) (37,849) (72,776)
Equity in (loss) income of equity method investment (including (5,689) 295 72
impairment charge of $5.5 million in 2003)
Interest, net (6,137) (6,046) (12,639)
Other, net (1,234) (408) (604)
--------- --------- ---------
Loss from continuing operations before benefit (provision)
for income taxes (21,965) (44,008) (85,947)
Benefit (provision) for income taxes from continuing operations 3,158 (7,482) 21,757
--------- --------- ---------
Loss from continuing operations before distributions on preferred (18,807) (51,490) (64,190)
interest of subsidiary
Distributions on preferred interest of subsidiary (net of tax) (80) (1,593) (1,274)
--------- --------- ---------
Loss from continuing operations (18,887) (53,083) (65,464)
Income (loss) from operations of discontinued businesses (net of tax) 2,081 (4,458) 2,202
Gain on sale of discontinued businesses (net of tax) 7,442 3,306 --
--------- --------- ---------
Loss before cumulative effect of a change in accounting principle (9,364) (54,235) (63,262)
Cumulative effect of a change in accounting principle (net of tax) -- (2,514) --
--------- --------- ---------
Net loss (9,364) (56,749) (63,262)
Gain on early redemption of preferred interest of subsidiary 6,560 -- 6,600
Payment in kind of dividends on convertible preferred stock (12,811) (11,136) (4,459)
--------- --------- ---------
Net loss attributable to common stockholders $ (15,615) $ (67,885) $ (61,121)
========= ========= =========
Loss per share of common stock - Basic and diluted
Loss from continuing operations attributable to common stockholders $ (3.06) $ (7.67) $ (7.54)
Discontinued operations 1.16 (0.14) 0.26
Cumulative effect of a change in accounting principle -- (0.30) --
--------- --------- ---------
Net loss attributable to common stockholders $ (1.90) $ (8.11) $ (7.28)
========= ========= =========
See Notes to Consolidated Financial Statements.
38
KATY INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2003, 2002 and 2001
(Amounts in Thousands)
Convertible Common Other
Preferred Stock Stock Additional Compre- Unearned
Number of Par Number of Par Paid-in hensive Compen-
Shares Value Shares Value Capital (Loss) Income sation
---------------------------------------------------------------------------------------
Balance, January 1, 2001 $ -- $ -- $ 9,822,204 $ 9,822 $ 51,127 $ (2,757) $ (518)
Net loss -- -- -- -- -- -- --
Foreign currency translation adjustment -- -- -- -- -- (1,511) --
Pension minimum liability adjustment -- -- -- -- -- (357) --
Comprehensive loss -- -- -- -- -- -- --
Issuance of convertible preferred stock 700,000 70,000 -- -- -- -- --
Direct costs related to
issuance of convertible preferred stock -- (4,899) -- -- -- -- --
Redemption of preferred
interest in subsidiary, net of tax -- -- -- -- 6,710 -- --
Payment in kind dividends accrued -- 4,459 -- -- -- -- --
Stock option grant -- -- -- -- 477 -- --
Other -- -- -- -- -- -- 412
---------------------------------------------------------------------------------------
Balance, December 31, 2001 700,000 69,560 9,822,204 9,822 58,314 (4,625) (106)
Net loss -- -- -- -- -- -- --
Foreign currency translation adjustment -- -- -- -- -- 1,913 --
Pension minimum liability adjustment -- -- -- -- -- (334) --
Comprehensive loss -- -- -- -- -- -- --
Issuance of convertible preferred stock
related to PIK dividends accrued 105,000 -- -- -- -- -- --
Payment in kind dividends accrued -- 11,136 -- -- (11,136) -- --
Stock option grant -- -- -- -- (477) -- --
Other -- -- -- -- -- -- 106
---------------------------------------------------------------------------------------
Balance, December 31, 2002 805,000 80,696 9,822,204 9,822 46,701 (3,046) --
Net loss -- -- -- -- -- -- --
Foreign currency translation adjustment -- -- -- -- -- 5,419 --
Pension minimum liability adjustment -- -- -- -- -- 14 --
Comprehensive loss -- -- -- -- -- -- --
Purchase of treasury stock -- -- -- -- -- -- --
Issuance of convertible preferred stock
related to PIK dividends accrued 120,750 -- -- -- -- -- --
Redemption of preferred
interest in subsidiary, net of tax -- -- -- -- 6,560 -- --
Payment in kind dividends accrued -- 12,811 -- -- (12,811) -- --
Other -- -- -- -- (9) -- --
---------------------------------------------------------------------------------------
Balance, December 31, 2003 $ 925,750 $ 93,507 $ 9,822,204 $ 9,822 $ 40,441 $ 2,387 $ --
=======================================================================================
Retained
Earnings Compre- Total
(Accumulated Treasury hensive Stockholders'
Deficit) Stock Loss Equity
---------------------------------------------------------
Balance, January 1, 2001 $ 112,697 $(20,038) $ 150,333
Net loss (63,262) -- $(63,262) (63,262)
Foreign currency translation adjustment -- -- (1,511) (1,511)
Pension minimum liability adjustment -- -- (357) (357)
--------
Comprehensive loss -- -- $(65,130)
========
Issuance of convertible preferred stock -- -- 70,000
Direct costs related to
issuance of convertible
preferred stock -- -- (4,899)
Redemption of preferred
interest in subsidiary, net of tax -- -- 6,710
Payment in kind dividends accrued (4,459) -- --
Stock option grant -- -- 477
Other -- (39) 373
---------------------------------------------------------
Balance, December 31, 2001 44,976 (20,077) 157,864
Net loss (56,749) -- $(56,749) (56,749)
Foreign currency translation adjustment -- -- 1,913 1,913
Pension minimum liability adjustment -- -- (334) (334)
--------
Comprehensive loss -- -- $(55,170)
========
Issuance of convertible preferred stock
related to PIK dividends accrued -- --
Payment in kind dividends accrued --
Stock option grant -- -- (477)
Other -- (151) (45)
---------------------------------------------------------
Balance, December 31, 2002 (11,773) (20,228) 102,172
Net loss (9,364) -- $ (9,364) (9,364)
Foreign currency translation adjustment -- -- 5,419 5,419
Pension minimum liability adjustment -- -- 14 14
- --------
Comprehensive loss -- -- $ (3,931)
========
Purchase of treasury stock -- (2,520) (2,520)
Issuance of convertible preferred stock
related to PIK dividends accrued -- --
Redemption of preferred
interest in subsidiary, net of tax -- -- 6,560
Payment in kind dividends accrued -- -- --
Other -- 20 11
---------------------------------------------------------
Balance, December 31, 2003 $ (21,137) $(22,728) $ 102,292
=========================================================
See Notes to Consolidated Financial Statements
39
KATY INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2003, 2002 and 2001
(Thousands of Dollars)
2003 2002 2001
-------- -------- --------
Cash flows from operating activities:
Net loss $ (9,364) $(56,749) $(63,262)
(Income) loss from operations of discontinued businesses (9,523) 1,152 (2,202)
-------- -------- --------
Loss from continuing operations $(18,887) $(55,597) $(65,464)
Cumulative effect of a change in accounting principle -- 2,514 --
Depreciation and amortization 21,954 19,259 20,216
Impairments of long-lived assets 11,880 21,204 47,469
Write-off and amortization of debt issuance costs 2,981 1,605 2,546
(Gain) loss on sale of assets (627) 160 239
Loss on SESCO joint venture transaction -- 6,010 --
Equity in loss (income) of equity method investment (including impairment charge
of $5.5 million in 2003) 5,689 (295) (72)
Deferred income taxes -- 8,889 (24,918)
-------- -------- --------
Amortization of debt issue costs 22,990 3,749 (19,984)
-------- -------- --------
Changes in operating assets and liabilities:
Accounts receivable (3,869) 9,591 9,996
Inventories 5,504 (4,150) 30,100
Other assets 1,100 776 2,484
Accounts payable (727) 3,369 (12,951)
Accrued expenses (9,679) 6,640 (201)
Other, net (2,125) 4,997 (688)
-------- -------- --------
Net cash (used in) provided by continuing operations (9,796) 21,223 28,740
-------- -------- --------
Net cash provided by continuing operations 13,194 24,972 8,756
Net cash (used in) provided by discontinued operations (5,159) 6,931 9,795
-------- -------- --------
Net cash provided by operating activities 8,035 31,903 18,551
-------- -------- --------
Cash flows from investing activities:
Capital expenditures of continuing operations (13,324) (9,987) (10,979)
Capital expenditures of discontinued operations (111) (132) (1,587)
Acquisition of subsidiary, net of cash acquired (1,161) -- --
Collections of notes receivable from sales of subsidiaries 1,035 820 137
Proceeds from sale of subsidiaries, net 23,647 13,947 1,576
Proceeds from sale of assets 2,839 249 691
-------- -------- --------
Net cash provided by (used in) investing activities 12,925 4,897 (10,162)
-------- -------- --------
Cash flows from financing activities:
Net repayments of revolving loans (8,751) (12,249) (73,464)
Proceeds of term loans 20,000 0 30,000
Repayments of term loans (16,337) (26,393) (6,282)
Direct costs associated with debt facilities (1,583) (720) (7,471)
Proceeds from issuance of Convertible Preferred Stock -- -- 70,000
Direct costs related to issuance of Convertible Preferred Stock -- -- (4,899)
Redemption of preferred interest of subsidiary (9,840) -- (9,900)
Repayment of real estate and chattel mortgages (700) -- --
Payment of dividends -- -- (629)
Repurchases of common stock (2,520) -- (39)
-------- -------- --------
Net cash used in financing activities (19,731) (39,362) (2,684)
-------- -------- --------
Effect of exchange rate changes on cash and cash equivalents 677 (432) (194)
-------- -------- --------
Net increase (decrease) in cash and cash equivalents 1,906 (2,994) 5,511
Cash and cash equivalents, beginning of period 4,842 7,836 2,325
-------- -------- --------
Cash and cash equivalents, end of period $ 6,748 $ 4,842 $ 7,836
======== ======== ========
See Notes to Consolidated Financial Statements
40
KATY INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
As of December 31, 2003 and 2002
(Thousands of dollars, except per share data)
Note 1. ORGANIZATION OF THE BUSINESS
The Company is a manufacturer and distributor of a variety of commercial
and consumer products, including sanitary maintenance supplies, coated abrasives
and electrical products. Principal markets are in the United States, Canada, and
Europe and include the sanitary maintenance, restaurant supply, retail,
electrical and automotive markets. These activities are grouped into two primary
reportable segments: Electrical Products and Maintenance Products.
Note 2. SIGNIFICANT ACCOUNTING POLICIES
Consolidation Policy - The consolidated financial statements include the
accounts of Katy Industries, Inc. and subsidiaries in which it has a greater
than 50% voting interest, collectively "Katy" or the "Company". All significant
intercompany accounts, profits and transactions have been eliminated in
consolidation. Investments in affiliates that are not majority-owned and where
the Company exercises significant influence are reported using the equity
method.
As part of the continuous evaluation of its operations, Katy has acquired
and disposed of certain of its operating units in recent years. Those which
affected the Consolidated Financial Statements for the years ended December 31,
2003, 2002, and 2001 are discussed in Notes 7 and 8.
At December 31, 2003, the Company owns 30,000 shares of common stock, a
43% interest, in Sahlman Holding Company, Inc. (Sahlman) that is accounted for
under the equity method. Sahlman is engaged in the business of harvesting shrimp
off the coast of South and Central America and shrimp farming in Nicaragua. As
of December 31, 2003 and 2002, the investment balances were $1.6 million and
$7.3 million, respectively. See Note 6 on impairment of equity method
investment.
Use of Estimates - The preparation of financial statements in conformity
with accounting principles generally accepted in the United States of America
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.
Revenue Recognition - Revenue is recognized for all sales, including sales
to agents and distributors, at the time the products are shipped and title has
transferred to the customer, provided that a purchase order has been received or
a contract has been executed, there are no uncertainties regarding customer
acceptances, the sales price is fixed and determinable and collectibility is
deemed probable. The Company's standard shipping terms are FOB shipping point.
Sales discounts, returns and allowances, and cooperative advertising are
included in net sales, and the provision for doubtful accounts is included in
selling, general and administrative expenses.
Cash and Cash Equivalents - Cash equivalents consist of highly liquid
investments with original maturities of three months or less.
Advertising Costs - Advertising costs are expensed as incurred.
Advertising costs expensed in 2003, 2002 and 2001 were $3.3 million, $3.9
million and $8.0 million, respectively.
Accounts Receivable - Accounts receivable are stated at net realizable
value. Customer collections, receivables aging, and information on customer
creditworthiness are continuously monitored, and provisions are maintained for
estimated credit losses based upon historical experience and specific customer
collection issues that are identified.
41
Inventories - Inventories are stated at the lower of cost or market value,
and reserves are established for excess and obsolete inventory (shown below in
the table as "Inventory reserves") in order to ensure proper valuation of
inventories. Cost includes materials, labor and overhead. At December 31, 2003
and 2002, approximately 35% of Katy's inventories (excluding discontinued
operations) were accounted for using the last-in, first-out (LIFO) method, while
the remaining inventories were accounted for using the first-in, first-out
(FIFO) method. Current cost, as determined using the FIFO method, exceeded LIFO
cost by $1.9 million and $1.3 million at December 31, 2003 and 2002,
respectively. The components of inventories are:
December 31,
-------------------------
2003 2002
-------- --------
(Thousands of dollars)
Raw materials $ 18,664 $ 18,733
Work in process 1,573 1,539
Finished goods 38,938 42,264
Inventory reserves (5,630) (5,730)
-------- --------
$ 53,545 $ 56,806
======== ========
Goodwill - In connection with certain acquisitions, the Company recorded
goodwill representing the cost of the acquisition in excess of the fair value of
the net assets acquired. Beginning in 2002, goodwill is not amortized in
accordance with Statement of Financial Accounting Standards (SFAS) No. 142,
Goodwill and Intangible Assets. The fair value of each reporting unit that
carries goodwill is determined annually, and the fair value is compared to the
carrying value of the reporting unit. If the fair value exceeds the carrying
value, then no adjustment is necessary. If the carrying value of the reporting
unit exceeds the fair value, appraisals are performed of long-lived assets and
other adjustments are made to arrive at a revised fair value balance sheet. This
revised fair value balance sheet (without goodwill) is compared to the fair
value of the business previously determined, and a revised goodwill amount is
reached. If the indicated goodwill amount meets or exceeds the current carrying
value of goodwill, then no adjustment is required. However, if the result
indicates a reduced level of goodwill, an impairment is recorded to state the
goodwill at the revised level. Any future impairments of goodwill determined in
accordance with SFAS No. 142 would be recorded as a component of income from
continuing operations. See Note 4.
Property and Equipment - Property and equipment are stated at cost and
depreciated over their estimated useful lives: buildings (10-40 years) generally
using the straight-line method; machinery and equipment (3-20 years) using
straight-line or composite methods; tooling (5 years) using the straight-line
method; and leasehold improvements using the straight-line method over the
remaining lease period or useful life, if shorter. Costs for repair and
maintenance of machinery and equipment are expensed as incurred, unless the
result significantly increases the useful life or functionality of the asset, in
which case capitalization is considered. Depreciation expense from continuing
operations for 2003, 2002 and 2001 was $19.8 million, $16.6 million, and $17.7
million, respectively.
Impairment of Assets - Long-lived assets are reviewed for impairment if
events or circumstances indicate the carrying amount of these assets may not be
recoverable through future undiscounted cash flows. If this review indicates
that the carrying value of these assets will not be recoverable, based on future
undiscounted net cash flows from the use or disposition of the asset, the
carrying value is reduced to fair value. Katy adopted SFAS No. 144, Accounting
for the Impairment or Disposal of Long-Lived Assets on January 1, 2002. See Note
5.
Income Taxes - Income taxes are accounted for using a balance sheet
approach known as the liability method. The liability method accounts for
deferred income taxes by applying the statutory tax rates in effect at the date
of the balance sheet to the differences between the book basis and tax basis of
the assets and liabilities. The Company records a valuation allowance when it is
more likely than not that some portion or all of the deferred income tax asset
will not be realizable. See Note 16.
42
Foreign Currency Translation - The results of the Company's foreign
subsidiaries are translated to U.S. dollars using the current-rate method.
Assets and liabilities are translated at the year end spot exchange rate,
revenue and expenses at average exchange rates and equity transactions at
historical exchange rates. Exchange differences arising on translation are
recorded as a component of accumulated other comprehensive income (loss). Katy
recorded a net loss on foreign exchange translation in other, net in the
Consolidated Statement of Operations of $0.6 million, $0.4 million and $0.4
million, in 2003, 2002 and 2001, respectively.
Fair Value of Financial Instruments - Where the fair values of Katy's
financial instrument assets and liabilities differ from their carrying value or
Katy is unable to establish the fair value without incurring excessive costs,
appropriate disclosures have been given in the Notes to the Consolidated
Financial Statements. All other financial instrument assets and liabilities not
specifically addressed are believed to be carried at their fair value in the
accompanying Consolidated Balance Sheets.
Stock Options and Other Stock Awards - The Company follows the provisions
of Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued
to Employees, regarding accounting for stock options and other stock awards. APB
Opinion No. 25 dictates a measurement date concept in the determination of
compensation expense related to stock awards including stock options, restricted
stock, and stock appreciation rights. Katy's outstanding stock options all have
established measurement dates and therefore, fixed plan accounting is applied,
generally resulting in no compensation expense for stock option awards. However,
the Company has issued stock appreciation rights, stock awards and restricted
stock awards which are accounted for as variable stock compensation awards and
compensation expense has been recorded for these awards. Compensation expense
recorded associated with the vesting of stock appreciation rights was $1.0
million, $13.0 thousand and zero in 2003, 2002 and 2001, respectively.
Compensation expense recorded relative to stock awards was $6.5 thousand, $8.0
thousand and $7.0 thousand in 2003, 2002 and 2001, respectively. Compensation
expense recorded associated with restricted stock awards was $13.0 thousand,
$0.1 million, and $0.4 million in 2003, 2002 and 2001, respectively.
Compensation expense for stock awards and stock appreciation rights is recorded
in selling, general and administrative expenses in the Consolidated Statements
of Operations.
Application of SFAS No. 123, Accounting for Stock-Based Compensation, if
fully adopted by the Company, would change the method for recognition of expense
related to option grants to employees. Under SFAS No. 123, compensation cost
would be recorded based upon the fair value of each option at the date of grant
using an option-pricing model that takes into account as of the grant date the
exercise price and expected life of the option, the current price of the
underlying stock and its expected volatility, expected dividends on the stock
and the risk-free interest rate for the expected term of the option. Options
granted during 2003, 2002 and 2001 totaled 36,000, 295,000 and 1,429,000,
respectively. The weighted average fair value for stock options granted during
2003, 2002 and 2001 is $4.76, $3.62 and $4.04, respectively.
In December 2002, the Financial Accounting Standards Board (FASB) issued
SFAS No. 148, Accounting for Stock-Based Compensation - Transition and
Disclosure. This standard provides alternative methods of transition for a
voluntary change to the fair value based methods of accounting for stock-based
employee compensation. In addition, SFAS No. 148 amends the disclosure
requirements of SFAS No. 123, to require prominent disclosure in both annual and
interim financial statements about the method of accounting for stock-based
employee compensation and the effect of the method used on reported results. The
disclosure provisions of SFAS No. 148 were adopted by the Company at December
31, 2002. Katy will continue to comply with the provisions under APB Opinion No.
25 for accounting for stock-based employee compensation.
The fair value of each option grant is estimated on the date of grant
using a Black-Scholes option-pricing model with the following assumptions:
dividend yield from 0% to 3.53%; expected volatility ranging from 47.82% to
58.08%; risk-free interest rates ranging from 2.91% to 6.40%; and expected lives
of five to ten years. Had compensation cost been determined based on the fair
value method of SFAS No.
43
123, the Company's net loss and loss per share would have been increased to the
pro forma amounts indicated below (thousands of dollars, except per share data).
For the years ended December 31,
----------------------------------
2003 2002 2001
-------- -------- --------
Net loss attributable to common stockholders, as reported $(15,615) $(67,885) $(61,121)
Deduct: Total stock-based employee
compensation expense determined under fair
value based method for all awards, net of
related tax effects 378 281 695
-------- -------- --------
Pro forma net loss $(15,993) $(68,166) $(61,816)
======== ======== ========
Earnings per share
Basic and diluted-as reported $ (1.90) $ (8.11) $ (7.28)
======== ======== ========
Basic and diluted-pro forma $ (1.95) $ (8.14) $ (7.37)
======== ======== ========
The effects of applying SFAS No. 123 in this pro forma disclosure are not
indicative of future amounts.
New Accounting Pronouncements
In April 2002, the FASB released SFAS No. 145, Rescission of FASB
Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical
Corrections. SFAS No. 145 rescinds and makes technical corrections regarding
various topics, including early extinguishments of debt and sale-leaseback
transactions. The statement is effective for fiscal years beginning after May
15, 2002. The Company adopted SFAS No. 145 on January 1, 2003. SFAS No. 145
requires certain costs and losses associated with early extinguishments of debt
be reported as interest expense as a component of income from continuing
operations, whereas the prior accounting guidance provided for classification of
these costs and losses as extraordinary items, reported separate on a
tax-effected basis after income from continuing operations. The adoption of SFAS
No. 145 resulted in the Company reclassifying a $1.8 million pre-tax write-off
of previously capitalized debt costs that occurred during 2001 to interest
expense in income from continuing operations during 2001, which had previously
been classified as an extraordinary item, net of tax. During 2003, the Company
wrote off $0.7 million of previously capitalized debt costs in connection with
the debt refinancing (see Note 10). This write-off is included in interest
expense in the Consolidated Statement of Operations.
In July 2002, the FASB issued SFAS No. 146, Accounting for Costs
Associated with Exit or Disposal Activities. SFAS No. 146 requires companies to
recognize costs associated with exit or disposal activities when they are
incurred rather than at the date of a commitment to an exit or disposal plan.
Examples of costs covered by the standard include lease termination costs and
certain employee severance costs that are associated with a restructuring,
discontinued operation, plant closing, or other exit or disposal activity.
Previous accounting guidance was provided by Emerging Issues Task Force (EITF)
Issue No. 94-3, Liability Recognition for Certain Employee Termination Benefits
and Other Costs to Exit an Activity (Including Certain Costs Incurred in a
Restructuring). SFAS No. 146 replaces EITF Issue No. 94-3. The new standard was
effective for exit or restructuring activities initiated after December 31,
2002. The Company has complied with the provisions of SFAS No. 146 for all
restructuring activities commenced during 2003. See Note 21 for further
information on the Company's restructuring activities.
In November 2002, the FASB issued FASB Interpretation No. (FIN) 45,
Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others. This interpretation elaborates on
the disclosures to be made by a guarantor in its financial statements about its
obligations under certain guarantees that it has issued. It also clarifies that
a guarantor is required to recognize, at the inception of a guarantee, a
liability for the fair value of the obligation
44
undertaken in issuing the guarantee. Katy has determined that its disclosures in
regards to guarantees are in accordance with FIN 45.
In January 2003, FIN 46, Consolidation of Variable Interest Entities - an
Interpretation of ARB No. 51, was released. The interpretation requires variable
interest entities to be consolidated if the equity investment at risk is not
sufficient to permit an entity to finance its activities without support from
other parties or the equity investors lack certain specified characteristics of
a controlling financial interest. The guidelines of the interpretation will
become applicable for the Company in its first quarter 2004 financial
statements. Katy is reviewing FIN 46 to determine its impact, if any, on future
reporting periods, and does not currently anticipate any material accounting or
disclosure requirements under the provisions of this interpretation.
In April 2003, the FASB released SFAS No. 149, Amendment of Statement 133
on Derivative Instruments and Hedging Activities. Katy does not currently use
derivative instruments or participate in hedging activities and therefore, does
not expect SFAS No. 149 to impact its financial reporting. If Katy were to
utilize derivative instruments or participate in hedging activities, it would
follow the provisions of SFAS No. 149.
In May 2003, the FASB released SFAS No. 150, Accounting for Certain
Financial Instruments with Characteristics of Liabilities and Equity. SFAS No.
150 establishes standards for how certain financial instruments with
characteristics of both liabilities and equity are to be classified and
measured. It requires that certain financial instruments within its scope be
classified as a liability (or an asset in some circumstances), while many of
those instruments were previously classified as equity. SFAS No. 150 is
effective for the third quarter of 2003. Katy has determined that SFAS No. 150
does not impact its financial reporting.
In December 2003, the FASB revised SFAS No. 132, Employers' Disclosures
about Pensions and Other Postretirement Benefits. The revised statement requires
additional disclosures about the assets, obligations, cash flows, and net
periodic benefit cost of defined benefit pension plans and other defined benefit
postretirement plans. The disclosure provisions of the revised statement have
been reflected in Note 13.
Reclassifications - Certain amounts from prior years related to
discontinued operations have been reclassified to conform to the 2003 financial
statement presentation. See unaudited Note 22 for a further discussion of these
reclassifications.
Note 3. RECAPITALIZATION
On June 28, 2001, Katy completed a recapitalization of the Company
following an agreement on June 2, 2001 with KKTY Holding Company, LLC (KKTY), an
affiliate of Kohlberg Investors IV, L.P. (Kohlberg) (the "Recapitalization"). On
June 28, 2001, Katy stockholders approved proposals to effectuate the
Recapitalization at their annual meeting, including classification of the board
of directors into two classes with staggered terms, and Katy, KKTY and a
syndicate of banks agreed to a new credit facility (Deutsche Bank Credit
Agreement) to finance the future operations of Katy. Under the terms of the
Recapitalization, directors designated by KKTY represent a majority of Katy's
Board of Directors.
Under the terms of the Recapitalization, KKTY purchased 700,000 shares of
newly issued preferred stock, $100 par value per share (Convertible Preferred
Stock), which is convertible into 11,666,666 common shares, for an aggregate
purchase price of $70.0 million. See Note 11. The Recapitalization allowed Katy
to retire obligations it had under its former revolving credit agreement, which
was agented by Bank of America (Bank of America Credit Agreement). In connection
with the Recapitalization, Katy entered into the Deutsche Bank Credit Agreement,
agented by Bankers Trust Company, a subsidiary of Deutsche Bank. See Note 10.
45
Also in connection with the Recapitalization, the Company entered into an
agreement with the holder of the preferred interest in one of its subsidiaries,
to redeem at a 40% discount approximately half of such interest, plus $0.3
million of accrued distributions thereon. The stated value prior to the
Recapitalization was $32.9 million. Katy utilized approximately $10.2 million of
the proceeds from the issuance of the Convertible Preferred Stock for this
purpose. The difference between the amount paid on redemption and the stated
value of preferred interest redeemed ($6.7 million, net of tax) was recognized
as an increase to Additional Paid-in Capital on the Consolidated Statement of
Stockholders' Equity. This gain is also shown on the Consolidated Statements of
Operations as an amount included in net income attributable to common
shareholders. The holder of the remaining preferred interest retained
approximately 50% of the original preferred interest, or a stated value of $16.4
million, until February 3, 2003 when Katy purchased the remaining preferred
interest at a 40% discount, plus $0.1 million of accrued distributions thereon.
See Note 14. Following is a summary of the sources and uses of funds from, and
in connection with, the Recapitalization:
(Thousands of Dollars)
Sources:
Sale of Convertible Preferred Stock $ 70,000
Borrowings under the Deutsche Bank Credit Agreement 93,211
--------
$163,211
========
Uses:
Paydown of principal obligations under the Bank of America Credit Agreement $144,300
Payment of accrued interest under the Bank of America Credit Agreement 624
Purchase of one-half of preferred interest of a subsidiary at a discount 9,900
Payment of accrued distributions on one-half of preferred interest of a subsidiary 322
Certain costs associated with the Recapitalization 8,065
--------
$163,211
========
Note 4. GOODWILL AND INTANGIBLE ASSETS
During 2002, Katy completed the transition to SFAS No. 142 with regard to
accounting and reporting of goodwill and other intangible assets.
The first phase in the determination of a potential transitional goodwill
impairment was completed in the second quarter of 2002. Valuations of six Katy
reporting units' carrying values were completed. Those reporting units were
Contico, Disco (Disco), Duckback Products, Inc., Gemtex, Ltd. (Gemtex), Loren
Products (Loren) and GC/Waldom Electronics, Inc. (GC/Waldom). The analyses
indicated that the fair values were less than the carrying values for three of
the six reporting units: Contico, Loren and GC/Waldom. The second phase in the
determination of the transitional goodwill impairment was completed by September
30, 2002. Independent appraisals were obtained on the relevant reporting units'
property, plant and equipment and intangible assets. The fair value balance
sheets as of December 31, 2001 which resulted from this work indicated that
transitional goodwill impairment charges of $4.2 million (pre-tax) were required
at the Loren and GC/Waldom reporting units. The goodwill of the Contico business
unit, which was also evaluated in the second phase of the project, was
determined to have a carrying value that was not in excess of fair value as of
December 31, 2001. The transitional goodwill impairment of $4.2 million ($2.5
million, net of tax) is presented in the Consolidated Statements of Operations
as a cumulative effect of a change in accounting principle in accordance with
SFAS No. 142. Loren is part of the Maintenance Products Group and GC/Waldom is a
discontinued operation (formerly part of the Electrical Products Group). In
accordance with SFAS No. 142, Katy evaluated the carrying value of goodwill
balances at the reporting units as of December 31, 2002, and determined that no
further impairments were
46
required. At December 31, 2003, the Company's annual impairment analysis
resulted in an impairment charge of $0.3 million at the Gemtex business unit.
As part of the project to implement SFAS No. 142, certain changes to the
carrying value of goodwill at the Loren and Disco reporting units were made,
relating to 1) reclassification of formerly recognized work force intangibles to
goodwill, and 2) reclassification of formerly recognized goodwill to a
non-compete intangible. Below is a summary of activity in the goodwill accounts
since December 31, 2001 (in thousands):
Total from
Maintenance Continuing Discontinued
Products Operations Operations Total
----------- ----------- ----------- -----------
Goodwill at December 31, 2001 $ 12,903 $ 12,903 $ 1,554 $ 14,457
Net changes to carrying value 276 276 -- 276
----------- ----------- ----------- -----------
Adjusted carrying value 13,179 13,179 1,554 14,733
Transitional impairment charge (2,636) (2,636) (1,554) (4,190)
----------- ----------- ----------- -----------
Goodwill at December 31, 2002 10,543 10,543 -- 10,543
Impairment charge (328) (328) -- (328)
----------- ----------- ----------- -----------
Goodwill at December 31, 2003 $ 10,215 $ 10,215 $ -- $ 10,215
=========== =========== =========== ===========
The Company adopted the non-amortization provisions of SFAS No. 142 during
the first quarter of 2002. Below is a calculation of earnings, removing the
impact of amortization recorded on goodwill and negative goodwill (shown net of
tax):
2003 2002 2001
-------- -------- --------
Reported net loss from continuing operations $(18,887) $(53,083) $(65,464)
Add back: Goodwill amortization, net of tax -- -- 1,348
Deduct: Negative goodwill amortization -- -- (1,704)
-------- -------- --------
Adjusted net loss from continuing operations $(18,887) $(53,083) $(65,820)
======== ======== ========
Reported net income (loss) from discontinued businesses $ 2,081 $ (4,458) $ 2,202
Add back: Goodwill amortization -- -- 88
-------- -------- --------
Adjusted net income (loss) from discontinued businesses 2,081 (4,458) 2,290
Gain on sale of discontinued businesses 7,442 3,306 --
Cumulative effect of a change in accounting principle -- (2,514) --
-------- -------- --------
Adjusted net loss (9,364) (56,749) (63,530)
-------- -------- --------
Gain on early redemption of preferred interest in subsidiary 6,560 -- 6,600
Payment in kind of dividends on Convertible Preferred Stock (12,811) (11,136) (4,459)
-------- -------- --------
Adjusted net loss attributable to common shareholders $(15,615) $(67,885) $(61,389)
======== ======== ========
Below is a presentation of pro forma earnings per share, removing the
impact of amortization on goodwill and negative goodwill (net of tax):
47
2003 2002 2001
-------- -------- --------
Reported net loss from continuing operations $ (2.30) $ (6.34) $ (7.80)
Add back: Goodwill amortization, net of tax -- -- 0.16
Deduct: Negative goodwill amortization -- -- (0.20)
-------- -------- --------
Adjusted net loss from continuing operations (2.30) (6.34) (7.84)
Reported net income (loss) from discontinued businesses 0.25 (0.53) 0.26
Add back: Goodwill amortization -- -- 0.01
-------- -------- --------
Adjusted net income (loss) from discontinued businesses 0.25 (0.53) 0.27
Gain on sale of discontinued businesses 0.91 0.39 --
Cumulative effect of a change in accounting principle -- (0.30) --
-------- -------- --------
Adjusted net loss (1.14) (6.78) (7.57)
-------- -------- --------
Gain on early redemption of preferred interest in subsidiary 0.80 -- 0.79
Payment in kind of dividends on Convertible Preferred Stock (1.56) (1.33) (0.53)
-------- -------- --------
Adjusted net loss attributable to common shareholders $ (1.90) $ (8.11) $ (7.31)
======== ======== ========
Katy reviews its intangible assets for impairment purposes in accordance
with SFAS No. 144 whenever events or circumstances indicate that the carrying
amount may be recoverable. During 2003, $2.6 million of patents and goodwill of
the Gemtex business unit were impaired as it was determined that future cash
flows of this business could not support the carrying value of its intangible
assets. The Gemtex unit has experienced a decline in profitability in recent
years principally as a result of increasing foreign competition. During 2002,
Katy determined that the carrying value of a customer list intangible asset at
CCP would not be recovered by projected future undiscounted cash flows.
Specifically, Katy determined that the portion of the customer list intangible
associated with the CCP Consumer business unit required impairment. As a result,
an impairment charge of $3.6 million was recorded during 2002, reducing the
carrying value of the customer list intangible to $14.8 million. Also during
2002, Katy recorded $0.7 million impairment on the trademark intangible asset at
the Wilen business unit. Poor performance at Wilen in recent years has driven
Wilen's profitability to very low levels (including some years with operating
losses). This performance continued in 2002, and it was determined that these
performance levels negated the relative value of the trademark intangible. Fair
value was determined on a discounted cash flow basis, assuming an estimated cash
flow stream resulting from the customer list. These impairment charges are
recorded in the caption entitled "Impairments of Long-Lived Assets" in the
Consolidated Statements of Operations. The CCP Consumer, Wilen and Gemtex
business units are part of the Maintenance Products Group.
During 2001, the Company recorded an impairment of certain long-lived
assets, including goodwill and certain intangible assets, of its Wilen business
unit. Wilen had experienced consistently poor operating results for a number of
periods, causing the Company to evaluate this business unit for impairment.
While the Company had plans to improve the unit's performance, the then current
sales levels and operating results did not support the pre-impairment carrying
value of certain long-lived assets that would not be recoverable through
forecasted future undiscounted cash flows. A determination of the division's
fair value was made using the income approach, specifically, a discounted cash
flow analysis using the same cash flow stream used to initially determine that
impairment existed. The adjustment to record the impaired long-lived assets at
fair value amounted to a reduction of goodwill of $21.6 million and a reduction
to other intangible assets of $11.4 million, for a total reduction of the unit's
carrying value of $33.0 million.
Following is detailed information regarding Katy's intangible assets (in
thousands):
48
December 31, December 31,
2003 2002
-------- --------
Trade names $ 9,160 $ 9,022
Customer lists 21,890 21,447
Patents 2,689 4,305
Non-compete agreements 1,000 1,000
-------- --------
Subtotal 34,739 35,774
Accumulated amortization (12,340) (10,238)
-------- --------
Intangible assets, net $ 22,399 $ 25,536
======== ========
All of Katy's intangible asses are definite-lived intangibles. Katy
recorded amortization expense on intangible assets of $2.1 million, $2.6 million
and $2.5 million in 2003, 2002 and 2001, respectively.
Estimated aggregate future amortization expense related to intangible
assets is as follows (in thousands):
2004 $1,651
2005 1,651
2006 1,648
2007 1,644
2008 1,639
Note 5. IMPAIRMENTS OF PROPERTY, PLANT AND EQUIPMENT
During 2003, the Company recorded impairments of property, plant and
equipment of $9.3 million. Charges included $7.2 million related to idle and
obsolete equipment, tooling and leasehold improvements at Warson Road,
Hazelwood, Bridgeton and the Santa Fe Springs metals facility, $1.3 million of
obsolete or idled assets related to the closure of abrasives facilities in
Lawrence, Massachusetts and Pineville, North Carolina and the subsequent
consolidation into the Wrens, Georgia facility, and $0.4 million of obsolete
molds and tooling at our plastics facility in the United Kingdom. In addition,
impairments of $0.4 million were recorded for certain equipment at the Woods and
Woods Canada business units in connection with the shutdown of their
manufacturing operations.
During 2002, certain manufacturing equipment assets at various CCP
business units were impaired, resulting in charges of $15.2 million. These
impairments were the result of management's analysis of the projected
undiscounted future cash flows associated with the assets, and the related
conclusion that the carrying values of the assets would not be recovered by
future cash flows. Approximately 83% of these impaired assets were molds and
tooling equipment (which are used to shape specific products in the molding
process), the majority of which were associated with the Consumer business unit
of CCP. Restructuring initiatives, and their impact on the future use of certain
assets, triggered approximately $2.6 million of the impairments, making up most
of the other 17% of impaired assets. Of this $2.6 million, $2.4 million of
assets that had been used at the closed Warson Road facility, and $0.2 million
of assets of the Earth City facility (both of which are in the St. Louis,
Missouri area), were impaired as a result of the consolidation of those plants
into the Bridgeton, Missouri plant.
Also during 2002, the Wilen business unit recorded an impairment charge of
$1.2 million related to certain of its property, plant and equipment, as a
result of the decision to reduce costs by sourcing product from outside vendors.
The Company is continuing its evaluation of its various operating units and
therefore additional impairments of long-lived assets may be recorded in future
periods.
49
The Woods business unit recorded asset impairments during 2002 of $0.4
million associated with the shutdown of all U.S. manufacturing operations, which
occurred in December 2002, impacting the future use and cash flow to be
generated by certain assets located in Indiana.
During 2001, the Company recorded an impairment of all of the long-lived
assets of the waste-to-energy facility previously operated by Savannah Energy
Systems Company (SESCO) (see Note 9). SESCO's long-lived assets consisted of
equity contributions that SESCO was required to make as a result of contractual
obligations through 1993, which had a carrying value of $8.5 million, and
certain property, plant and equipment, which had a carrying value of
approximately $1.3 million. Upon determining that future undiscounted cash flows
would not be adequate to cover the carrying amount of long-lived assets, the
Company determined that the long-lived assets had a fair value of zero. The fair
value estimate is based on attempts to dispose of SESCO.
Also during 2001, the Company recorded other impairments of property,
plant and equipment totaling $4.7 million. These impairments were primarily the
result of management decisions regarding the retirement of certain capitalized
assets.
Note 6. IMPAIRMENT OF EQUITY METHOD INVESTMENT
During the third quarter of 2003, Katy reduced the carrying value of its
43% equity investment in Sahlman, resulting in a charge to operations of $5.5
million.
Sahlman is in the business of harvesting shrimp off the coast of South and
Central America, and farming shrimp in Nicaragua. Sahlman's customers are
primarily in the United States. Sahlman experienced poor results of operations
in 2002, primarily as a result of producers receiving very low prices for
shrimp. Increased foreign competition, especially from Asia, has had a
significant downward impact on shrimp prices in the United States. Upon review
of Sahlman's results for 2002 (and year to date in 2003), and after initial
study of the status of the shrimp industry and markets in the United States,
Katy evaluated the business further to determine if there had been a loss in the
value of the investment that was other than temporary. Per ABP No. 18, The
Equity Method for of Accounting for Investments in Common Stock, losses in the
value of equity investments that are other than temporary should be recognized.
Based upon the results of a third party appraisal, Katy estimated the fair
value of the Sahlman business through a liquidation value analysis whereby all
of Sahlman's assets would be sold and all of its obligations would be settled.
Also based on the aforementioned appraisal, Katy evaluated the business by using
various discounted cash flow analyses, estimating future free cash flows of the
business with different assumptions regarding growth, and reducing the value of
the business arrived at through this analysis by its outstanding debt. All
values were then multiplied by 43%, Katy's investment percentage. The answers
derived by each of the three assumption models were then probability weighted.
As a result, Katy concluded that $1.6 million was a reasonable estimate of the
value of its investment in Sahlman, and therefore a charge of $5.5 million was
recorded to reduce the carrying value of the investment.
Note 7. DISPOSITIONS
See Note 8 for dispositions accounted for as discontinued operations.
On May 3, 2001, Katy sold the Thorsen Tools business for $2.5 million,
including a note receivable for $1.0 million, due over five years. The Company
recognized losses on impairments of goodwill of $0.8 million and a write-down on
the value of inventory through cost of goods sold of $0.2 million in connection
with the sale.
50
Note 8. DISCONTINUED OPERATIONS
Three of Katy's operations have been classified as discontinued operations
as of December 31, 2003, and for all periods shown, in accordance with SFAS No.
144, Accounting for the Impairments or Disposal of Long Lived Assets. The
Company adopted SFAS No. 144 on January 1, 2002.
Duckback Products, Inc. (Duckback) was sold on September 16, 2003, with
Katy collecting net proceeds of $16.2 million. The proceeds were used to pay
down a portion of the Company's term loans and revolving credit facility. A gain
(net of tax) of $7.6 million was recognized in the third quarter of 2003 as a
result of the Duckback sale. See Note 22 for a discussion on the restatement of
third quarter results.
GC/Waldom Electronics, Inc. (GC/Waldom) was held for sale at December 31,
2002 and was sold on April 2, 2003, with Katy collecting net proceeds of $7.4
million. The proceeds were used to pay down a portion of the Company's term
loans ($2.2 million), as well as the Company's revolving credit facility. A loss
(net of tax) of $0.2 million was recognized in the second quarter of 2003 as a
result of the GC/Waldom sale.
Hamilton Precision Metals, L.P. (Hamilton) was sold on October 31, 2002,
with Katy collecting net proceeds of $13.9 million. These proceeds were used
primarily to pay off the remaining balance of the Company's then outstanding
term debt. The Company may receive additional payments dependent upon the
occurrence of certain events associated with Hamilton's financial performance in
2004. This contingent amount has not been recorded as a receivable on the
Consolidated Balance Sheets. A gain (net of tax) of $3.3 million was recognized
in the fourth quarter of 2002 as a result of the Hamilton sale.
Duckback has historically been presented as part of the Maintenance
Products Group for segment reporting purposes, while both Hamilton and GC/Waldom
have historically been presented as part of the Electrical Products Group.
Management and the board of Katy determined that these businesses were not core
to the Company's long-range strategic goals.
The historical operating results have been segregated as discontinued
operations on the Consolidated Statements of Operations and the related assets
and liabilities have been separately identified on the Consolidated Balance
Sheets. Following is a summary of the major asset and liability categories for
the discontinued operations (in thousands):
December 31, December 31,
2003 2002
----------- -----------
Current assets
Trade accounts receivable, net $ -- $ 2,188
Inventories -- 5,325
Other current assets -- 235
----------- -----------
$ -- $ 7,748
=========== ===========
Non-current assets
Goodwill $ -- $ 668
Intangibles, net -- 2
Net property and equipment -- 3,399
----------- -----------
$ -- $ 4,069
=========== ===========
Current liabilities
Accounts payable $ -- $ 1,708
Accrued expenses -- 1,255
----------- -----------
$ -- $ 2,963
=========== ===========
Selected financial data for discontinued operations is summarized as
follows (in thousands):
51
2003 2002 2001
-------- -------- --------
Net sales $ 18,896 $ 47,126 $ 56,191
Pre-tax profit (loss) $ 3,201 $ (5,113) $ 2,941
Pre-tax gain on sale of discontinued operations $ 11,449 $ 5,462 $ --
At December 31, 2002, Katy anticipated the sale of GC/Waldom in early
2003, and indications were that a book loss was probable. Therefore, the
carrying value of the net assets of GC/Waldom were reduced by $6.2 million
through a charge in discontinued operations as of December 31, 2002.
Note 9. SESCO PARTNERSHIP
On April 29, 2002, SESCO, an indirect wholly owned subsidiary of Katy,
entered into a partnership agreement with Montenay Power Corporation and its
affiliates (Montenay) that turned over the control of SESCO's waste-to-energy
facility to the partnership. The Company caused SESCO to enter into this
agreement as a result of evaluations of SESCO's business. First, Katy concluded
that SESCO was not a core component of the Company's long-term business
strategy. Moreover, Katy did not feel it had the management expertise to deal
with certain risks and uncertainties presented by the operation of SESCO's
business, given that SESCO was the Company's only waste-to-energy facility. Katy
had explored options for divesting SESCO for a number of years, and management
felt that this transaction offered a reasonable strategy to exit this business.
The partnership, with Montenay's leadership, assumed SESCO's position in
various contracts relating to the facility's operation. Under the partnership
agreement, SESCO contributed its assets and liabilities (except for its
liability under the loan agreement with the Resource Recovery Development
Authority (the Authority) of the City of Savannah and the related receivable
under the service agreement with the Authority) to the partnership. While SESCO
has a 99% interest as a limited partner, Montenay has the day to day
responsibility for administration, operations, financing and other matters of
the partnership, and accordingly, the partnership will not be consolidated. Katy
agreed to pay Montenay $6.6 million over the span of seven years under a note
payable as part of the partnership and related agreements. Certain amounts may
be due to SESCO upon expiration of the service agreement in 2008; also, Montenay
may purchase SESCO's interest in the partnership at that time. Katy has not
recorded any amounts receivable or other assets relating to amounts that may be
received at the time the service agreement expires, given their uncertainty.
The Company made a payment of $1.0 million in July 2003 on the $6.6
million note. The table below schedules the remaining payments as of December
31, 2003 which are reflected in accrued expenses and other liabilities in the
Consolidated Balance Sheet (in thousands):
2004 $ 1,000
2005 1,050
2006 1,100
2007 1,100
2008 550
--------
$ 4,800
========
In the first quarter of 2002, the Company recognized a charge of $6.0
million consisting of 1) the discounted value of the $6.6 million note, 2) the
carrying value of certain assets contributed to the partnership, consisting
primarily of machinery spare parts, and 3) costs to close the transaction. It
should be noted that all of SESCO's long-lived assets were reduced to a zero
value at March 31, 2002, so no additional impairment was required. On a going
forward basis, Katy would expect that income statement activity associated with
its involvement in the partnership will not be material, and Katy's Consolidated
Balance Sheet will carry the liability mentioned above.
52
In 1984, the Authority issued $55.0 million of Industrial Revenue Bonds
and lent the proceeds to SESCO under the loan agreement for the acquisition and
construction of the waste-to-energy facility that has now been transferred to
the partnership. The funds required to repay the loan agreement come from the
monthly disposal fee paid by the Authority under the service agreement for
certain waste disposal services, a component of which is for debt service. To
induce the required parties to consent to the SESCO partnership transaction,
SESCO retained its liability under the loan agreement. In connection with that
liability, SESCO also retained its right to receive the debt service component
of the monthly disposal fee.
Based on an opinion from outside legal counsel, SESCO has a legally
enforceable right to offset amounts it owes to the Authority under the loan
agreement against amounts that are owed from the Authority under the service
agreement. At December 31, 2003, this amount was $30.4 million. Accordingly, the
amounts owed to and due from SESCO have been netted for financial reporting
purposes and are not shown on the Consolidated Balance Sheets.
In addition to SESCO retaining its liabilities under the loan agreement,
to induce the required parties to consent to the partnership transaction, Katy
also continues to guarantee the obligations of the partnership under the service
agreement. The partnership is liable for liquidated damages under the service
agreement if it fails to accept the minimum amount of waste or to meet other
performance standards under the service agreement. The liquidated damages, an
off balance sheet risk for Katy, are equal to the amount of the Industrial
Revenue Bonds outstanding, less $4.0 million maintained in a debt service
reserve trust. Management does not expect non-performance by the other parties.
Additionally, Montenay has agreed to indemnify Katy for any breach of the
service agreement by the partnership.
Following are scheduled principal repayments on the loan agreement (and
the Industrial Revenue Bonds) (in thousands):
2004 $ 6,765
2005 8,370
2006 15,300
--------
Total $30,435
========
Note 10. INDEBTEDNESS
On February 3, 2003, the Company refinanced its indebtedness (the
Refinancing) and entered into a new credit facility agented by Fleet Capital
Corporation (the Fleet Credit Agreement). The new $110 million facility, which
is comprised of a $20 million term loan (Term Loan) and $90 million of revolving
credit (Revolving Credit Facility), involves a syndicate of banks, all of whom
had participated in the credit facility that was refinanced (the Deutsche Bank
Credit Agreement). The Fleet Credit Agreement is an asset-based lending
agreement, and is generally on similar terms to those found in the Deutsche Bank
Credit Agreement.
Below is a summary of the sources and uses associated with the funding of
the Fleet Credit Agreement (in thousands):
53
Sources:
Term borrowings under the Fleet Credit Agreement $20,000
Revolving borrowings under the Fleet Credit Agreement 43,743
-------
$63,743
=======
Uses:
Payment of principal and interest under the Deutsche Bank Credit Agreement $52,895
Purchase of the remaining preferred interest of subsidiary at a discount 9,840
Payment of accrued distributions on one-half of preferred interest of subsidiary 122
Certain costs associated with the Fleet Credit Agreement 886
-------
$63,743
=======
Under the Fleet Credit Agreement, the Term Loan originally had a final
maturity date of February 3, 2008 and quarterly repayments of $0.7 million,
three of which have been made through December 31, 2003. However, the net
proceeds received from the GC/Waldom and Duckback sales were used to prepay the
Term Loan, which is now scheduled to be repaid in its entirety by 2005. The Term
Loan is collateralized by the Company's property, plant and equipment. The
Revolving Credit Facility has an expiration date of January 31, 2008. The
borrowing base of the Revolving Credit Facility is determined by eligible
inventory and accounts receivable. Unused borrowing availability on the
Revolving Credit Facility was $30.0 million at December 31, 2003.
All extensions of credit under the Fleet Credit Agreement are
collateralized by a first priority perfected security interest in and lien upon
the capital stock of each material domestic subsidiary (65% of the capital stock
of each material foreign subsidiary), and all present and future assets and
properties of Katy. Customary financial covenants and restrictions apply under
the Fleet Credit Agreement, with which the Company was in compliance at December
31, 2003. Until June 30, 2003, interest accrued on Revolving Credit Facility
borrowings at 225 basis points over applicable LIBOR rates and at 250 basis
points over LIBOR for Term Loan borrowings. Subsequent to June 30, 2003, and in
accordance with the terms of the Fleet Credit Agreement, margins dropped an
additional 25 basis points for both the Revolving Credit Facility and Term Loan
based on the achievement of a financial covenant target. During October 2003, in
accordance with the Fleet Credit Agreement, margins on the term loan dropped an
additional 25 basis points as the balance of the Term Loan was reduced below $10
million as a result of the application of proceeds from the Duckback sale.
Interest accrues at higher margins on prime rates for swing loans, the amounts
of which were nominal as of December 31, 2003.
Long-term debt consists of the following:
December 31, December 31,
2003 2002
-------- --------
(Thousands of Dollars)
Term loan payable under Fleet Credit Agreement, interest based on
LIBOR and Prime Rates (3.25% - 4.50%), due through 2005 $ 3,663 $ --
Revolving loans payable under Fleet Credit Agreement, interest based on
LIBOR and Prime Rates (3.25 - 4.50%) 36,000 --
Revolving loans payable under Deutsche Bank Credit Agreement, interest
based on Eurodollar and Prime Rates (3.75 - 5.50%) -- 44,751
Real estate and chattel mortgages, with interest at fixed rates (7.14%),
due through 2003 -- 700
-------- --------
Total debt 39,663 45,451
Less revolving loans, classified as current (see below) (36,000) (44,751)
Less current maturities (2,857) (700)
-------- --------
Long-term debt $ 806 $ --
======== ========
54
Aggregate remaining scheduled maturities of the Term Loan as of December 31,
2003 (see discussion of borrowing availability above) are as follows (in
thousands):
2004 $2,857
2005 806
The Revolving Credit Facility under the Fleet Credit Agreement requires
lockbox agreements which provide for all receipts to be swept daily to reduce
borrowings outstanding. These agreements, combined with the existence of a
material adverse effect (MAE) clause in the Fleet Credit Agreement, cause the
Revolving Credit Facility to be classified as a current liability, per guidance
in the EITF Issue No. 95-22, Balance Sheet Classification of Borrowings
Outstanding under Revolving Credit Agreements that Include Both a Subjective
Acceleration Clause and a Lock-Box Arrangement. However, the Company does not
expect to repay, or be required to repay, within one year, the balance of the
Revolving Credit Facility classified as a current liability. The MAE clause,
which is a typical requirement in commercial credit agreements, allows the
lender to require the loan to become due if it determines there has been a
material adverse effect on its operations, business, properties, assets,
liabilities, condition or prospects. The classification of the Revolving Credit
Facility as a current liability is a result only of the combination of the two
aforementioned factors: the lockbox agreements and the MAE clause. The Revolving
Credit Facility does not expire or have a maturity date within one year, but
rather has a final expiration date of January 31, 2008. Also, the Company was in
compliance with the applicable financial covenants at December 31, 2003. The
lender had not notified Katy of any indication of a MAE at December 31, 2003,
and to management's knowledge, the Company was not in violation of any provision
of the Fleet Credit Agreement at December 31, 2003.
Letters of credit totaling $9.1 million were outstanding at December 31,
2003, which reduced the unused borrowing availability under the Revolving Credit
Facility.
All of the debt under the Fleet Credit Agreement is re-priced to current
rates at frequent intervals. Therefore, its fair value approximates its carrying
value at December 31, 2003.
Katy incurred $1.6 million in debt issuance costs in 2003 associated with
the Fleet Credit Agreement. Additionally, at the time of the inception of the
Fleet Credit Agreement, Katy had approximately $5.6 million of unamortized debt
issuance costs associated with the Deutsche Bank Credit Agreement. Based on the
pro rata reduction in borrowing capacity from the Deutsche Bank Credit Agreement
to the Fleet Credit Agreement and the repayment of the Term Loan in the
connection with the sale of assets (primarily the GC/Waldom and Duckback
businesses), Katy charged to expense $1.8 million of previously unamortized debt
issuance costs. The remainder of the previously capitalized costs, along with
the capitalized costs from the Fleet Credit Agreement of $1.6 million, is being
amortized over the life of the Fleet Credit Agreement through January 2008.
The write-off of deferred financing costs associated with the early
extinguishment of the credit agreement that had existed prior to the Deutsche
Bank Credit Agreement, previously recorded as an extraordinary loss on early
extinguishment of debt (net of tax) in 2001, has been reclassified as interest
expense with the related tax benefit recorded in the benefit (provision) for
income taxes from continuing operations.
Note 11. CONVERTIBLE PREFERRED STOCK
As discussed in Note 3 above, KKTY purchased from Katy 700,000 shares of
newly issued Convertible Preferred Stock, $100 par value per share, which is
convertible into 11,666,666 common shares, for an aggregate purchase price of
$70.0 million. The Convertible Preferred shares are entitled to a 15% payment in
kind (PIK) dividend (that is, dividends in the form of additional shares of
Convertible Preferred Stock), compounded annually, which started accruing on
August 1, 2001, and was paid on both August 1, 2002 (105,000 convertible
preferred shares, equivalent to 1,745,240 common shares), and on August 1, 2003
(120,750 convertible preferred shares, equivalent to 2,017,335 common shares),
and will be
55
payable on August 1, 2004, and on December 31, 2004. No dividends will accrue or
be payable after December 31, 2004. If converted, the 11,666,666 common shares,
along with the 4,732,730 equivalent common shares paid (3,762,575) and accrued
(970,155) PIK dividends through December 31, 2003, would represent 66% of the
outstanding shares of common stock as of December 31, 2003, excluding
outstanding options. If the holder continues to hold the Convertible Preferred
Stock through December 2004, it will receive an additional 147,974 shares of
Convertible Preferred Stock, which would be convertible into an additional
2,466,285 shares of common stock. The shares of common stock issuable on the
conversion of the Convertible Preferred Stock issued at closing, together with
the shares of common stock issuable on the conversion of the Convertible
Preferred Stock issued through the PIK dividend, would represent 69% of the
outstanding common shares of common stock, excluding outstanding options. The
accruals of the PIK dividends were recorded as a charge to Accumulated Deficit
and/or Additional Paid-in Capital and an increase to Convertible Preferred
Stock. The dividends were recorded at fair value, reduced earnings available to
common shareholders in the calculation of basic earnings per share, and are
presented on the Consolidated Statements of Operations as an adjustment to
arrive at net loss available to common shareholders.
The Convertible Preferred Stock is convertible at the option of the holder
at any time after the earlier of 1) June 28, 2006, 2) board approval of a
merger, consolidation or other business combination involving a change in
control of the Company, or a sale of all or substantially all of the assets or
liquidation of the Company, or 3) a contested election for directors of the
Company nominated by KKTY. The preferred shares 1) are non-voting (with limited
exceptions), 2) are non-redeemable, except in whole, but not in part, at the
Company's option (as approved only by the Class I directors) at any time after
June 30, 2021, 3) are entitled to receive cumulative PIK dividends through
December 31, 2004, as mentioned above, at a rate of 15% percent, 4) have no
preemptive rights with respect to any other securities or instruments issued by
the Company, and 5) have registration rights with respect to any common shares
issued upon conversion of the Convertible Preferred Stock. Upon a liquidation of
Katy, the holders of the Convertible Preferred Stock would receive the greater
of (i) an amount equal to the par value ($100 per share) of their Convertible
Preferred Stock, or (ii) an amount that the holders the Convertible Preferred
Stock would have received if their shares of Convertible Preferred Stock were
converted into common stock immediately prior to the distribution upon
liquidation.
The Company incurred approximately $4.9 million in 2001 of direct costs
related to the issuance of the Convertible Preferred Stock, including $1.7
million paid to Kohlberg (who worked on behalf of KKTY) for consulting fees and
out-of-pocket expenses relating to due diligence and structuring of the
recapitalization. These costs have been netted against the stated amount of the
Convertible Preferred Stock on the Consolidated Balance Sheets.
Note 12. EARNINGS PER SHARE
The Company's diluted earnings per share were calculated using the
treasury stock method in accordance with SFAS No. 128, Earnings Per Share. The
basic and diluted earnings per share (EPS) calculations are as follows:
56
For the Year Ended December 31, 2003 2002 2001
------------------------------- ----------- ----------- -----------
Basic and Diluted EPS:
Loss from continuing operations $ (18,887) $ (53,083) $ (65,464)
Gain on early redemption of preferred interest of subsidiary 6,560 -- 6,600
Payment-in-kind dividends on convertible preferred stock (12,811) (11,136) (4,459)
----------- ----------- -----------
Loss from continuing operations attributable to common stockholders (25,138) (64,219) (63,323)
Discontinued operations, net of tax 9,523 (1,152) 2,202
Cumulative effect of a change in accounting principle, net of tax -- (2,514) --
----------- ----------- -----------
Net loss attributable to common stockholders $ (15,615) $ (67,885) $ (61,121)
=========== =========== ===========
Weighted average shares - Basic and Diluted 8,215 8,371 8,393
Per share amount:
Loss from continuing operations attributable to common stockholders $ (3.06) $ (7.67) $ (7.54)
Discontinued operations, net of tax 1.16 (0.14) 0.26
Cumulative effect of a change in accounting principle, net of tax -- (0.30) --
----------- ----------- -----------
Net loss attributable to common stockholders $ (1.90) $ (8.11) $ (7.28)
=========== =========== ===========
As of December 31, 2003 and 2002, 1,605,000 and 150,000 options were
in-the-money and 194,200 and 1,800,750 options were out-of-the money,
respectively. At December 31, 2003, 925,750 convertible preferred shares were
outstanding, along with 58,207 convertible preferred shares accrued through paid
in kind dividends, which were in total convertible into 16,399,396 shares of
Katy common stock. At December 31, 2002, 805,000 convertible preferred shares
were outstanding, along with 50,947 convertible preferred shares accrued through
PIK dividends, which were convertible into 14,265,812 shares of Katy common
stock. At December 31, 2001, 700,000 convertible preferred shares were
outstanding, along with 44,301 convertible preferred shares accrued through paid
in kind dividends, which were in total convertible into 12,405,041 shares of
Katy common stock. In-the-money options and convertible preferred shares were
not included in the calculation of diluted earnings per share in any period
presented because of their anti-dilutive impact as a result of the Company's net
loss position.
Note 13. RETIREMENT BENEFIT PLANS
Pension and Other Postretirement Plans
Several subsidiaries have pension plans covering substantially all of
their employees. These plans are noncontributory, defined benefit pension plans.
The benefits to be paid under these plans are generally based on employees'
retirement age and years of service. The companies' funding policies, subject to
the minimum funding requirements of employee benefit and tax laws, are to
contribute such amounts as determined on an actuarial basis to provide the plans
with assets sufficient to meet the benefit obligations. Plan assets consist
primarily of fixed income investments, corporate equities and government
securities. The Company also provides certain health care and life insurance
benefits for some of its retired employees. The post-retirement health plans are
unfunded. Katy uses an annual measurement date as of December 31 for the
majority of its pension and other postretirement benefit plans for all years
presented. Information regarding the Company's pension and other postretirement
benefit plans as of December 31, 2003 are as follows:
57
Pension Benefits Other Benefits
-------------------- --------------------
2003 2002 2003 2002
------- ------- ------- -------
(Thousands of dollars)
Change in benefit obligation:
Benefit obligation at beginning of year $ 2,595 $ 2,085 $ 2,506 $ 2,446
Service cost 29 111 26 21
Interest cost 144 150 169 180
Plan amendments (189) 255 -- --
Actuarial loss 20 192 242 170
Settlement -- -- -- --
Benefits paid (991) (198) (330) (311)
------- ------- ------- -------
Benefit obligation at end of year $ 1,608 $ 2,595 $ 2,613 $ 2,506
======= ======= ======= =======
Change in plan assets:
Fair value of plan assets at beginning of year $ 1,860 $ 1,713 $ -- $ --
Actuarial return on plan assets 152 (11) -- --
Employer contributions 414 356 330 311
Settlement -- -- -- --
Benefits paid (991) (198) (330) (311)
------- ------- ------- -------
Fair value of plan assets at end of year $ 1,435 $ 1,860 $ -- $ --
======= ======= ======= =======
Reconciliation of prepaid (accrued) benefit cost:
Funded status $ (173) $ (735) $(2,613) $(2,506)
Unrecognized net actuarial loss (gain) 645 892 240 (538)
Unrecognized prior service cost -- -- 190 785
Unrecognized net transition asset -- 27 -- --
------- ------- ------- -------
Prepaid (accrued) benefit cost $ 472 $ 184 $(2,183) $(2,259)
======= ======= ======= =======
Amount recognized in financial statements:
Prepaid benefit cost $ 151 $ 194 $ -- $ --
Accrued benefit liability (356) (698) (2,183) (2,259)
Intangible assest -- -- -- --
Accumulated other comprehensive income 677 688 -- --
------- ------- ------- -------
Total recognized $ 472 $ 184 $(2,183) $(2,259)
======= ======= ======= =======
Components of net periodic benefit cost:
Service cost $ 29 $ 111 $ 26 $ 21
Interest cost 144 149 169 180
Expected return on plan assets (147) (144) -- --
Amortization of net transition asset 3 9 -- --
Amortization of prior service cost -- -- 60 60
Amortization of net gain 65 67 -- 1
Curtailment/settlement recognition 33 605 -- 535
------- ------- ------- -------
Net periodic benefit cost $ 127 $ 797 $ 255 $ 797
======= ======= ======= =======
Assumptions as of December 31:
Discount rates 6.25% 6.75% 6.75% 7.50%
Expected return on plan assets 6.75% 8.00% N/A N/A
Assumed rates of compensation increases 0-5% 0-5% N/A N/A
58
Impact of one-percent increase in health care trend rate:
Increase in accumulated postretirement benefit obligation $ 166 $ 169
Increase in service cost and interest cost $ 11 $ 11
Impact of one-percent decrease in health care trend rate:
Decrease in accumulated postretirement benefit obligation $ 133 $ 135
Decrease in service cost and interest cost $ 9 $ 9
The assumed health care cost trend rate used in measuring the accumulated
post-retirement benefit obligation as of December 31, 2003 was 7% in 2004
grading to 5% by 2009. Accrued benefit liability, net of prepaid benefit costs,
were included in accrued expenses or other liabilities in the Consolidated
Balance Sheets at December 31, 2003 and 2002.
In determining the expected return on plan assets, the Company considers
the relative weighting of plan assets, the historical performance of total plan
assets and individual asset classes and economic and other indictors of future
performance. In addition, the Company may consult with and consider the opinions
of financial and other professionals in developing appropriate return
benchmarks.
The allocation of pension plan assets is as follows:
Target Percentage of
Allocation Plan Assets
Asset Category 2004 2003 2002
----------------- -------- ------- ------
Equity Securities 25 - 35% 32% 22%
Debt Securities 65 - 75% 68% 78%
Real estate 0 - 2% 0% 0%
Other 0 - 2% 0% 0%
100% 100%
Assets are rebalanced to the target asset allocation at least once per
quarter.
There are no required contributions to the pension plans for 2004 and as a
result, Katy does not anticipate making any contributions in 2004.
In addition to the plans described above, in 1993 the Company's Board of
Directors approved a retirement compensation program for certain officers and
employees of the Company and a retirement compensation arrangement for the
Company's then Chairman and Chief Executive Officer. The Board approved a total
of $3.5 million to fund such plans. This amount represented the best estimate of
the obligation that vested immediately upon Board approval and is to be paid for
services rendered to date. The Company had $2.4 million and $2.7 million
recorded in accrued compensation and other liabilities at December 31, 2003 and
December 31, 2002, respectively, for this obligation.
401(k) Plans
The Company offers its employees the opportunity to voluntarily
participate in one of two 401(k) plans administered by the Company or one of its
subsidiaries. On January 1, 2002, Katy consolidated certain of its 401(k) plans
and reduced the number of plans within the Company from five to two. The Company
makes matching and other contributions in accordance with the provisions of the
plans and, under certain provisions, at the discretion of the Company. The
Company made annual matching and other contributions of $0.6 million, $0.5
million and $0.4 million in 2003, 2002 and 2001, respectively.
59
Note 14. PREFERRED INTEREST OF SUBSIDIARY
Upon the Company's purchase of the common interest of Contico
International L.L.C (now CCP) on January 8, 1999, Newcastle Industries, Inc.
(Newcastle) retained a preferred interest in CCP, represented by 329 preferred
units, each with a stated value of $100,000, for an aggregate stated value of
$32.9 million. The preferred interest yielded an 8% cumulative annual return on
its stated value while outstanding, payable quarterly in cash. In connection
with the Recapitalization, the Company entered into an agreement with Newcastle
to redeem at a 40% discount 165 preferred units, plus accrued distributions
thereon, which, as disclosed above, had a stated value prior to the
Recapitalization of $32.9 million. Katy utilized approximately $10.2 million of
the proceeds from the Recapitalization for the purpose of redeeming the 165
preferred units. The holder of the preferred interest retained 164 preferred
units, or a stated value of $16.4 million. The difference between the amount
paid on redemption and the stated value of preferred interest redeemed ($6.6
million, plus $0.1 million of tax benefit) was recognized as an increase to
Additional Paid-in Capital on the Consolidated Statements of Stockholders'
Equity, and was a reduction to the net loss attributable to common stockholders
in the calculation of basic earnings per share in 2001.
In connection with the Fleet Credit Agreement completed in February 2003,
the remaining 164 preferred units were redeemed early at a similar 40% discount.
The difference between the amount paid on redemption and the stated value of
preferred interest redeemed was recognized as an increase to Additional Paid-in
Capital on the Consolidated Statements of Stockholders' Equity, and was a
reduction to the net loss attributable to common stockholders in the calculation
of basic earnings per share in 2003.
Note 15. STOCKHOLDERS' EQUITY
Share Repurchase
On April 20, 2003, the Company announced a plan to spend up to $5.0
million to repurchase shares of its common stock. During 2003, the Company
repurchased 482,800 shares of its common stock on the open market for
approximately $2.5 million. The Company suspended this plan in November 2003.
The Company did not repurchase any of its shares during 2002 and repurchased
3,175 shares in 2001.
Rights Plan
In January 1995, the Board of Directors adopted a Stockholder Rights
Agreement and distributed one right for each outstanding share of the Company's
common stock (not otherwise exempted under the terms of the agreement). The
rights entitle the stockholders to purchase, upon certain triggering events,
shares of either the Company's common stock or any acquiring company's stock, at
a reduced price. The rights are not and will not become exercisable unless
certain change of control events or increases in certain parties' percentage
ownership occur. Consistent with the intent of the Rights Agreement, a
shareholder who caused a triggering event would not be able to exercise their
rights. If stockholders were to exercise rights, the effect would be to increase
the percentage ownership stakes of those not causing the triggering event, while
decreasing the percentage ownership stake of the party causing the triggering
event. The Rights Agreement was amended on June 2, 2001 to clarify that the
Recapitalization was not a triggering event under the Rights Agreement. As of
December 31, 2003, there are 7,880,877 rights outstanding, of which none are
currently exercisable.
Restricted Stock Grant
During 2000 and 1999, the Company issued restricted stock grants in the
amount of 3,000 and 45,100 shares, respectively, to certain key employees of the
Company. These stock grants vest over a three-year period, of which 25% vested
immediately upon distribution. As a result of restricted stock grants, the
Company has recognized compensation expense for 2003, 2002 and 2001 in the
amount of $13.0 thousand, $0.1 million, and $0.3 million, respectively. As of
December 31, 2003, all compensation expense associated with restricted stock
grants has been earned and expensed.
60
Director Stock Grant
During 2003, 2002 and 2001, the Company granted all independent,
non-employee directors 500 shares of Company common stock as part of their
compensation. The total grant to the directors for the years ended December 31,
2003, 2002 and 2001 was 1,500 shares for each respective period.
Stock Options and Stock Appreciation Rights
On November 21, 2002, the Board of Directors approved the 2002 Stock
Appreciation Rights Plan (the "2002 SAR Plan"), authorizing the issuance of up
to 1,000,000 stock appreciation rights (SARs). Vesting of the SARs occurs
ratably over three years from the date of issue. The 2002 SAR Plan provides
limitations on redemption by holders, specifying that no more than 50% of the
cumulative number of vested SARs held by an employee could be exercised in any
one calendar year. The SARs expire ten years from the date of issue. The Board
approved grants on November 22, 2002, of 917,175 SARs to 60 individuals with an
exercise price of $3.15, which equaled the market price of Katy's stock on the
grant date. In addition, 50,000 SARs were granted to four individuals during
2003. At December 31, 2003, Katy had 532,258 SARS outstanding at a weighted
average exercise price of $3.23. Compensation expense associated with the
vesting of stock appreciation rights was $1.0 million and $13.0 thousand in 2003
and 2002, respectively. The 2002 SAR Plan also provides that in the event of a
Change in Control of the Company, all outstanding SARs may become fully vested.
In accordance with the 2002 SAR Plan, a "Change in Control" is deemed to have
occurred upon any of the following events: 1) a sale of 100 percent of the
Company's outstanding capital stock, as may be outstanding from time to time; 2)
a sale of all or substantially all of the Company's operating subsidiaries or
assets; or 3) a transaction or series of transactions in which any third party
acquires an equity ownership in the Company greater than that held by KKTY
Holding Company, L.L.C. and in which Kohlberg & Co., L.L.C. relinquishes its
right to nominate a majority of the candidates for election to the Board of
Directors.
At the 1998 Annual Meeting, the Company's stockholders approved the 1997
Long-Term Incentive Plan (the "1997 Incentive Plan"), authorizing the issuance
of up to 875,000 shares of Company common stock pursuant to the grant or
exercise of stock options, including incentive stock options, nonqualified stock
options, SARs, restricted stock, performance units or shares and other incentive
awards. The Compensation Committee of the Board of Directors administers the
1997 Incentive Plan and determines to whom awards may be granted, the type of
award as well as the number of shares of Company common stock to be covered by
each award, and the terms and conditions of such awards. The exercise price of
stock options granted under the 1997 Incentive Plan cannot be less than 100
percent of the fair market value of such stock on the date of grant. The
restricted stock grants in 1999 and 1998 referred to above were made under the
1997 Incentive Plan. Related to the 1997 Incentive Plan, the Company granted
SARs as described below.
Under the 1997 Incentive Plan, 204,473 SARs have been granted and will
become exercisable at any time up to and including January 22, 2005, the
Company's average closing stock price over a 45 calendar day period has equaled
or exceeded $53.80 per share. During 2002 and 2001, 159,745 of these SARs were
cancelled due to employee terminations; 44,728 remain outstanding. An additional
163,579 SARs have been granted and will become exercisable at such time, up to
and including January 22, 2005, the Company's average closing stock price over a
45-calendar day period has equaled or exceeded $53.80 per share. During 2001 and
2002, 127,796 of these SARS were cancelled due to employee terminations; 35,783
remain outstanding. All SARs which have met the performance goals above, as the
case may be, will expire December 9, 2007. As a result of the underlying stock
price, no compensation expense was recorded in 2003, 2002 or 2001. The exercise
price of each SAR is $19.56. Katy would record compensation expense for each SAR
to the extent its stock price were to exceed $19.56.
The 1997 Incentive Plan also provides that in the event of a Change in
Control of the Company, as defined below, 1) any SARs and stock options
outstanding as of the date of the Change in Control which are neither
exercisable or vested will become fully exercisable and vested (the payment
received upon the exercise of the SARs shall be equal to the excess of the fair
market value of a share of the Company's Common Stock on the date of exercise
over the grant date price multiplied by the number of
61
SARs exercised); 2) the restrictions applicable to restricted stock will lapse
and such restricted stock will become free of all restrictions and fully vested;
and 3) all performance units or shares will be considered to be fully earned and
any other restrictions will lapse, and such performance units or shares will be
settled in cash or stock, as applicable, within 30 days following the effective
date of the Change in Control. For purposes of subsection 3), the payout of
awards subject to performance goals will be a pro rata portion of all targeted
award opportunities associated with such awards based on the number of complete
and partial calendar months within the performance period which had elapsed as
of the effective date of the Change in Control. The Compensation Committee will
also have the authority, subject to the limitations set forth in the 1997
Incentive Plan, to make any modifications to awards as determined by the
Compensation Committee to be appropriate before the effective date of the Change
in Control.
For purposes of the 1997 Incentive Plan, "Change in Control" of the
Company means, and shall be deemed to have occurred upon, any of the following
events: 1) any person (other than those persons in control of the Company as of
the effective date of the 1997 Incentive Plan, a trustee or other fiduciary
holding securities under an employee benefit plan of the Company or a
corporation owned directly or indirectly by the stockholders of the Company in
substantially the same proportions as their ownership of stock of the Company)
becomes the beneficial owner, directly or indirectly, of securities of the
Company representing 30 percent or more of the combined voting power of the
Company's then outstanding securities; or 2) during any period of two
consecutive years (not including any period prior to the effective date), the
individuals who at the beginning of such period constitute the Board of
Directors (and any new director, whose election by the Company's stockholders
was approved by a vote of at least two-thirds of the directors then still in
office who either were directors at the beginning of the period or whose
election or nomination for election was so approved), cease for any reason to
constitute a majority thereof, or 3) the stockholders of the Company approve:
(a) a plan of complete liquidation of the Company; or (b) an agreement for the
sale or disposition of all or substantially all the Company's assets; or (c) a
merger, consolidation, or reorganization of the Company with or involving any
other corporation, other than a merger, consolidation, or reorganization that
would result in the voting securities of the Company outstanding immediately
prior thereto continuing to represent at least 50 percent of the combined voting
power of the voting securities of the Company (or such surviving entity)
outstanding immediately after such merger, consolidation, or reorganization. The
Company has determined that the Recapitalization did not result in such a Change
in Control.
At the 1995 Annual Meeting, the Company's stockholders approved the
Long-Term Incentive Plan (the "1995 Incentive Plan") authorizing the issuance of
up to 500,000 shares of Company common stock pursuant to the grant or exercise
of stock options, including incentive stock options, nonqualified stock options,
SARs, restricted stock, performance units or shares and other incentive awards
to executives and certain key employees. The Compensation Committee of the Board
of Directors administers the 1995 Incentive Plan and determines to whom awards
may be granted, the type of award as well as the number of shares of Company
common stock to be covered by each award and the terms and conditions of such
awards. The exercise price of stock options granted under the 1995 Incentive
Plan cannot be less than 100 percent of the fair market value of such stock on
the date of grant. Stock options granted pursuant to the 1995 Incentive Plan
generally vest in four equal annual installments from the date of grant and
generally expire 10 years after the date of grant. In the event of a Change in
Control of the Company, awards granted under the 1995 Incentive Plan are subject
to substantially similar provisions to those described under the 1997 Incentive
Plan. The definition of Change in Control of the Company under the 1995
Incentive Plan is substantially similar to the definition described under the
1997 Incentive Plan.
At the 1995 Annual Meeting, the Company's stockholders approved the
Non-Employee Directors Stock Option Plan (the "Directors Plan") authorizing the
issuance of up to 200,000 shares of Company common stock pursuant to the grant
or exercise of nonqualified stock options to outside directors. The Board of
Directors administers the Directors Plan. The exercise price of stock options
granted under the Directors Plan is equal to the fair market value of the
Company's common stock on the date of grant. Stock options granted pursuant to
the Directors Plan are immediately vested in full on the date of grant and
generally expire 10 years after the date of grant.
62
Employment Agreements and Stock Option Grants
On June 28, 2001, the Company entered into an employment agreement with C.
Michael Jacobi, its President and Chief Executive Officer. To induce Mr. Jacobi
to enter into the employment agreement, on June 28, 2001, the Compensation
Committee of the Board of Directors approved the Katy Industries, Inc. 2001
Chief Executive Officer's Plan. Under this plan, Mr. Jacobi was granted 978,572
stock options. Mr. Jacobi was also granted 71,428 stock options under the
Company's 1997 Incentive Plan. The options vest unconditionally (assuming
continued employment) in nine years from the date of the grant.
On September 4, 2001, the Company entered into an employment agreement
with Amir Rosenthal, its Vice President, Chief Financial Officer, General
Counsel and Secretary. To induce Mr. Rosenthal to enter into the employment
agreement, on September 4, 2001, the Compensation Committee of the Board of
Directors approved the Katy Industries, Inc. 2001 Chief Financial Officer's
Plan. Under this plan, Mr. Rosenthal was granted 123,077 stock options. Mr.
Rosenthal was also granted 76,923 stock options under the Company's 1995
Incentive Plan. All stock options granted to Mr. Rosenthal may vest over a three
year period provided that certain performance measures are met in each year.
However, the performance measures were not met in 2003 or 2002. The options vest
unconditionally (assuming continued employment) in nine years from the date of
grant.
The following table summarizes option activity under each of the 1997
Incentive Plan, 1995 Incentive Plan, the Chief Executive Officer's Plan, the
Chief Financial Officer's Plan and the Directors Plan:
63
Weighted
Average Weighted
Remaining Average
Contractual Exercise
Options Exercise Price Life Price
------- -------------- ---- -----
Outstanding at December 31, 2000 763,800 $ 8.50 - 19.56 7.20 years $12.07
Granted 1,429,000 $ 3.02 - 4.74 $4.04
Exercised -- - --
Canceled (314,150) $ 8.50 - 18.13 $11.72
--------------
Outstanding at December 31, 2001 1,878,650 $ 3.02 - 19.56 8.83 years $6.03
Granted 295,000 $ 3.11 - 5.15 $3.65
Exercised -- - --
Canceled (222,900) $ 8.50 - 19.56 $12.38
--------------
Outstanding at December 31, 2002 1,950,750 $ 3.02 - 19.56 8.27 years $4.94
==============
Granted 36,000 $ 4.31 - 4.85 $4.76
Exercised -- - --
Canceled (187,550) $ 3.11 - 19.56 $5.05
--------------
Outstanding at December 31, 2003 1,799,200 $ 3.02 - 19.56 7.28 years $4.92
==============
Vested and Exercisable at December 31, 2003 260,534
==============
Available to grant as of December 31, 2003 310,339
==============
The following table summarizes information about stock options outstanding
at December 31, 2003:
Options Outstanding Options Excercisable
----------------------------------------------------------------------------------------------------------
Weighted-
Number Average Weighted- Number Weighted-
Range of Exercise Outstanding at Remaining Average Exercise Exerciseable at Average Exercise
Prices 12/31/2003 Contractual Life Price 12/31/2003 Price
---------------------------------------------------------------------------------------------------------------------------------
$3.02 - 5.15 1,605,000 7.71 $ 4.05 68,334 $ 3.58
$8.50 - 10.50 92,400 3.81 9.35 90,400 9.35
$13.19 - 13.50 63,900 2.96 13.23 63,900 13.23
$16.13 - 19.50 37,900 5.32 17.20 37,900 17.20
----------------------------------------------------------------------------------------------------------
1,799,200 7.28 $ 4.92 260,534 $10.39
==========================================================================================================
During 2001, the Company promised to grant a non-employee consultant
200,000 options to purchase common stock. As of December 31, 2001, this grant
had not occurred. However, the Company recorded compensation expense, with a
corresponding increase to Additional Paid in Capital, of $0.5 million during
2001 representing the fair value of options promised determined using a binomial
option-pricing model. During 2002, the non-employee consultant was awarded
200,000 SARs under the 1997 Incentive Plan, in lieu of a grant of stock options.
As of December 31, 2002 and 2003, these SARs were out-of-the-money. Therefore,
the $0.5 million of compensation expense was reversed during 2002 and no
compensation expense related to this award was recorded in 2003.
64
Please refer to Note 2 for a discussion of accounting for stock awards,
and related fair value and pro forma earnings disclosures.
Note 16. INCOME TAXES
The provision for income taxes from continuing operations is based on the
following pre-tax income:
2003 2002 2001
-------- -------- --------
(Thousands of Dollars)
Domestic $(21,662) $(48,112) $(87,164)
Foreign (303) 4,104 1,217
-------- -------- --------
Total $(21,965) $(44,008) $(85,947)
======== ======== ========
The (benefit) provision for income taxes from continuing operations
consists of the following:
2003 2002 2001
-------- -------- --------
(Thousands of Dollars)
Current tax (benefit) provision:
Federal $ (5,084) $ (2,080) $ (34)
State 970 337 208
Foreign 956 1,466 957
-------- -------- --------
Total $ (3,158) $ (277) $ 1,131
-------- -------- --------
Deferred tax (benefit) provision:
Federal $ -- $ 6,772 $(20,032)
State -- 1,185 (2,905)
Foreign -- (198) 49
-------- -------- --------
Total $ -- $ 7,759 $(22,888)
-------- -------- --------
Total (benefit) provision from continuing operations $ (3,158) $ 7,482 $(21,757)
======== ======== ========
Actual income taxes reported from continuing operations are different than
would have been computed by applying the federal statutory tax rate to income
from continuing operations before income taxes. The reasons for this difference
are as follows:
65
2003 2002 2001
-------- -------- --------
(Thousands of Dollars)
(Benefit) provision for income taxes at statutory rate $ (7,688) $(15,403) $(30,081)
State income taxes, net of federal benefit 631 219 (717)
Foreign tax rate differential 1,062 -- --
Foreign tax credits (406) -- --
Amortization of negative goodwill -- -- (596)
Preferred interest of subsidiary -- (281) 686
Discontinued operations -- (3,638) (925)
Cumulative effect of a change in accounting principle -- 1,676 --
Valuation allowance adjustments 6,222 24,895 9,748
Reduction of tax reserves (2,837) -- --
Other, net (142) 14 128
-------- -------- --------
Net (benefit) provision for income taxes $ (3,158) $ 7,482 $(21,757)
======== ======== ========
The significant component of the Company's deferred income tax liabilities
and assets are as follows:
2003 2002
-------- --------
(Thousands of Dollars)
Deferred tax liabilities
Waste-to-energy facility $ (7,390) $ (9,172)
Inventory costs (2,362) (2,263)
Undistributed earnings of equity investees -- (1,699)
-------- --------
$ (9,752) $(13,134)
======== ========
Deferred tax assets
Allowance for doubtful receivables $ 956 $ 1,943
Accrued expenses and other items 16,622 20,566
Difference between book and tax basis of property 8,509 7,445
Operating loss carry-forwards - domestic 26,288 22,747
Operating loss carry-forwards - foreign 492 543
Tax credit carry forwards 3,056 2,718
-------- --------
55,923 55,962
Less valuation allowance (46,171) (42,828)
-------- --------
9,752 13,134
-------- --------
Net deferred income tax asset (liability) $ -- $ --
======== ========
At December 31, 2003, the Company had approximately $59.0 million of
federal net operating loss carry-forwards ("Federal NOLs"), which will expire in
years 2020 through 2023 if not utilized prior to that time. Due to tax laws
governing change in control events and their relation to the Recapitalization,
approximately $28.0 million of the Federal NOLs are subject to certain
limitations as to the amount that can be used to offset taxable income in any
single year. The remainder of the Company's domestic and foreign net operating
loss carry-forwards relate to certain U.S. operating subsidiaries, primarily
SESCO, and the Company's Canadian operations, respectively, and can only be used
to offset income from these operations. At December 31, 2003, the Company's
Canadian subsidiaries have Canadian net operating loss carry-forwards of
approximately $1.4 million that expire in the years 2004 through 2010. SESCO has
state net operating loss carry-forwards of $42.8 million at December 31, 2002
that expire in the years 2004 through 2019. The tax credit carry-forwards relate
to United States federal minimum tax credits of $1.2 million that have no
expiration date, general business credits of $0.1 million that expire in years
2011 through 2022, and foreign tax credit carryovers of $1.7 million that expire
in the years 2004 through 2008.
66
During 2002, the Company realized a tax benefit of $2.1 million as a
result of a change in federal tax law that governs the utilization of Federal
NOLs. The Company offset this tax benefit to increase its valuation allowance.
The valuation allowance relates to federal, state and foreign net
operating loss carry-forwards, foreign and domestic tax credits, and other
deferred tax assets to the extent they exceed deferred tax liabilities. Katy's
history of operating losses provides significant negative evidence with respect
to the Company's ability to generate future taxable income, a requirement in
order to recognize deferred tax assets on the Consolidated Balance Sheets. For
this reason, the Company was unable to conclude that it was more likely that not
that NOLs and other deferred tax assets would be utilized in the future.
Note 17. LEASE OBLIGATIONS
The Company, a lessee, has entered into non-cancelable leases for
manufacturing and data processing equipment and real property with lease terms
of up to ten years. Future minimum lease payments as of December 31, 2003 are as
follows:
2004 $ 9,412
2005 7,972
2006 5,762
2007 4,945
2008 3,932
Later years 1,869
-------
Total minimum payments $33,892
=======
Liabilities totaling $6.9 million were recorded on the Consolidated
Balance Sheets at December 31, 2003, related to leased facilities that have been
abandoned. These facilities were abandoned as cost saving measures as a result
of efforts to restructure the Company's operations. These liabilities are stated
at fair value (i.e., discounted), and include estimates of sub-lease revenue.
See Note 21 for further detail on accrued amounts in both current and long-term
liabilities related to non-cancelable, abandoned, leased facilities.
Rental expense for 2003, 2002 and 2001 for operating leases was $10.0
million, $12.5 million and $13.6 million, respectively. Also, $3.6 million of
rent was paid and charged against liabilities in 2003 for non-cancelable leases
at facilities abandoned as a result of restructuring initiatives.
Note 18. RELATED PARTY TRANSACTIONS
In connection with the Contico International, L.L.C. (now CCP) acquisition
on January 8, 1999, the Company entered into building lease agreements with
Newcastle. Lester Miller, the former owner of CCP, and a Katy director from 1999
to 2000, is the majority owner of Newcastle. Since the acquisition of CCP,
several additional properties utilized by CCP are leased directly from Lester
Miller. Rental expense for these properties approximates historical market
rates. Related party rental expense for the years ending December 31, 2003, 2002
and 2001 was approximately $0.5 million, $0.8 million and $1.5 million,
respectively.
The Company paid Newcastle $0.1 million, $1.3 million and $2.0 million of
preferred dividends for the years ended December 31, 2003, 2002 and 2001,
respectively, on the preferred units of CCP held by The decreases in dividends
were due to the early redemption at a 40% discount, of half of the preferred
interest at the time of the Recapitalization in June 2001. On February 3, 2003,
the remainder of the preferred interest was redeemed at a 40% discount. See Note
14.
67
Kohlberg, whose affiliate holds all 925,750 shares of our Convertible
Preferred Stock, provides ongoing management oversight and advisory services to
Katy. We paid $0.5 million, $0.5 million and $0.3 million for such services in
2003, 2002 and 2001, respectively, and expect to pay $0.5 million annually in
future years. Such amounts are recorded in selling, general and administrative
expenses in the Consolidated Statements of Operations.
Note 19. INDUSTRY SEGMENTS AND GEOGRAPHIC INFORMATION
The Company is a manufacturer and distributor of a variety of industrial
and consumer products, including sanitary maintenance supplies, coated
abrasives, and electrical products. Principal markets are in the United States,
Canada, and Europe and include the sanitary maintenance, restaurant supply,
retail, electronic, automotive, and computer markets. These activities are
grouped into two industry segments: Electrical Products and Maintenance
Products. During 2003, Wal*Mart and Lowe's accounted for 17% and 11%,
respectively, of consolidated net sales. Sales to Wal*Mart are made by six
separate operating divisions (Woods, Consumer, Glit/Microtron, Woods Canada,
Wilen and Jan/San). Sales to Lowe's are made by two separate business units
(Woods and Consumer). However, a significant loss of business at either of these
retail outlets could have a material adverse impact on the Company's results.
The table below and the narrative that follows summarize the key factors in the
year-to-year changes in operating results.
68
Years Ended December 31,
-------------------------------------------------
2003 2002 2001
---------- ---------- ----------
(Thousands of dollars)
Maintenance Products Group
Net external sales $ 285,289 $ 300,336 $ 311,574
Operating loss (7,924) (22,736) (41,589)
Operating deficit (2.8%) (7.6%) (13.3%)
Impairments of long-lived assets 11,516 20,812 36,087
Severance, restructuring and related charges 5,720 13,629 3,489
Depreciation and amortization 20,162 17,625 19,414
Capital expenditures 12,366 9,228 9,975
Total assets 176,214 195,121 228,482
Electrical Products Group
Net external sales $ 151,121 $ 144,242 $ 130,949
Operating income (loss) 13,026 2,874 (166)
Operating margin 8.6% 2.0% (0.1%)
Impairments of long-lived assets 364 392 1,565
Severance, restructuring and related charges 2,083 5,239 1,552
Depreciation and amortization 1,217 1,484 220
Capital expenditures 833 601 301
Total assets 51,353 48,228 51,591
Net external sales - Operating segments $ 436,410 $ 444,578 $ 442,523
- Other [a] -- 1,177 4,585
---------- ---------- ----------
Total $ 436,410 $ 445,755 $ 447,108
========== ========== ==========
Operating income (loss) - Operating segments $ 5,102 $ (19,862) $ (41,755)
- Other [a] -- (6,989) (9,782)
- Unallocated corporate (14,007) (10,998) (21,239)
---------- ---------- ----------
Total $ (8,905) $ (37,849) $ (72,776)
========== ========== ==========
Impairments of long-lived assets - Operating segments $ 11,880 $ 21,204 $ 37,652
- Other [a] -- -- 9,817
---------- ---------- ----------
Total $ 11,880 $ 21,204 $ 47,469
========== ========== ==========
Severance, restructuring and related charges - Operating segments $ 7,803 $ 18,868 $ 5,041
- Other [a] -- 207 --
- Unallocated corporate 329 80 8,339
---------- ---------- ----------
Total $ 8,132 $ 19,155 $ 13,380
========== ========== ==========
Depreciation and amortization - Operating segments $ 21,379 $ 19,109 $ 19,634
- Other [a] -- -- 225
- Unallocated corporate 575 150 357
---------- ---------- ----------
Total $ 21,954 $ 19,259 $ 20,216
========== ========== ==========
Capital expenditures - Operating segments $ 13,199 $ 9,829 $ 10,276
- Other [a] -- -- 524
- Unallocated corporate 125 158 179
- Discontinued operations 111 132 1,587
---------- ---------- ----------
Total $ 13,435 $ 10,119 $ 12,566
========== ========== ==========
Total assets - Operating segments $ 227,567 $ 243,349 $ 280,073
- Other [a] 1,627 7,626 8,995
- Unallocated corporate 12,514 13,185 25,942
- Discontinued operations -- 11,817 32,945
---------- ---------- ----------
Total $ 241,708 $ 275,977 $ 347,955
========== ========== ==========
69
[a] Amounts shown as "other" represent items associated with Katy's
waste-to-energy facility, its equity investment in the shrimp harvesting and
farming operation and Thorsen Tools (a business sold in 2001).
The Company operates businesses in the United States and foreign
countries. The operations for 2003, 2002 and 2001 of businesses within major
geographic areas are summarized as follows:
Europe
United (Excluding
(Thousands of Dollars) States Canada U.K. U.K.) Other Consolidated
-------- -------- -------- -------- -------- ------------
2003:
Sales to unaffiliated customers $351,796 $ 42,765 $ 32,333 $ 5,167 $ 4,349 $436,410
Total assets $191,599 $ 23,260 $ 26,615 $ -- $ 234 $241,708
2002:
Sales to unaffiliated customers $367,427 $ 40,486 $ 28,121 $ 5,376 $ 4,345 $445,755
Total assets $235,802 $ 16,616 $ 23,559 $ -- $ -- $275,977
2001:
Sales to unaffiliated customers $379,455 $ 36,410 $ 26,499 $ 655 $ 4,089 $447,108
Total assets $302,383 $ 21,455 $ 22,313 $ 880 $ 924 $347,955
Net sales for each geographic area include sales of products produced in
that area and sold to unaffiliated customers, as reported in the Consolidated
Statements of Operations.
Note 20. COMMITMENTS AND CONTINGENCIES
The Company and certain of its current and former direct and indirect
corporate predecessors, subsidiaries and divisions are involved in remedial
activities at certain present and former locations and have been identified by
the United States Environmental Protection Agency, state environmental agencies
and private parties as potentially responsible parties (PRPs) at a number of
hazardous waste disposal sites under the Comprehensive Environmental Response,
Compensation and Liability Act (Superfund) or equivalent state laws and, as
such, may be liable for the cost of cleanup and other remedial activities at
these sites. Responsibility for cleanup and other remedial activities at a
Superfund site is typically shared among PRPs based on an allocation formula.
Under the federal Superfund statute, parties could be held jointly and severally
liable, thus subjecting them to potential individual liability for the entire
cost of cleanup at the site. Based on its estimate of allocation of liability
among PRPs, the probability that other PRPs, many of whom are large, solvent,
public companies, will fully pay the costs apportioned to them, currently
available information concerning the scope of contamination, estimated
remediation costs, estimated legal fees and other factors, the Company has
recorded and accrued for environmental liabilities at amounts that it deems
reasonable and believes that any liability with respect to these matters in
excess of the accruals will not be material. The ultimate costs will depend on a
number of factors and the amount currently accrued represents management's best
current estimate of the total costs to be incurred. The Company expects this
amount to be substantially paid over the next one to four years. The most
significant environmental matter in which the Company is currently involved
relates to the W.J. Smith site. In 1993, the United States Environmental
Protection Agency (EPA) initiated a Unilateral Administrative Order Proceeding
under Section 7003 of the Resource Conservation and Recovery Act (RCRA) against
W.J. Smith and Katy. The proceeding requires certain actions at the W.J. Smith
site and certain off-site areas, as well as development and implementation of
additional cleanup activities to mitigate off-site releases. In December 1995,
W.J. Smith, Katy and EPA agreed to resolve the proceeding through an
Administrative Order on Consent under Section 7003 of RCRA. Pursuant to the
Order, W.J. Smith is currently implementing a cleanup to mitigate off-site
releases.
In December 1996, Banco del Atlantico ("plaintiff"), a bank located in
Mexico, filed a lawsuit in Texas against Woods, a subsidiary of Katy, and
against certain past and/or then present officers, directors
70
and former owners of Woods (collectively, "defendants"). The plaintiff alleges
that the defendants participated in violations of the Racketeer Influenced and
Corrupt Organizations Act ("RICO") involving allegedly fraudulently obtained
loans from Mexican banks, including the plaintiff, and "money laundering" of the
proceeds of the illegal enterprise. In its recently-filed Amended Complaint, the
plaintiff also alleges violations of the Indiana RICO and Crime Victims Act. All
of the foregoing is alleged to have occurred prior to Katy's purchase of Woods.
The plaintiff alleges that it made loans to a Mexican corporation
controlled by certain past officers and directors of Woods based upon fraudulent
representations and guarantees. In addition to its fraud, conspiracy, and RICO
claims, the plaintiff seeks recovery upon certain alleged guarantees purportedly
executed by Woods Wire Products, Inc., a predecessor company from which Woods
purchased certain assets in 1993. The primary legal theories under which the
plaintiff seeks to hold Woods liable for its alleged damages are respondeat
superior, conspiracy, successor liability, or a combination of the three.
On March 31, 2003, the Southern District of Texas court ordered that the
case be transferred to the Southern District of Indiana on the ground that
Indiana has a closer relationship to this case than Texas.
The case is currently pending in the Southern District of Indiana. The
plaintiff filed its Amended Complaint on December 17, 2003. Pursuant to court
order, the defendants filed motions to dismiss the Amended Complaint on February
17, 2004. All defendants have moved to dismiss the Amended Complaint and all
claims contained within it on grounds of forum non conveniens and comity. All
defendants have also moved to dismiss the Indiana RICO and Indiana Crime Victims
Act claims as barred by the applicable statutes of limitations. Additionally,
Woods and certain other defendants have separately moved to dismiss certain
claims of the Amended Complaint pursuant to Federal Rules of Civil Procedure
12(b)(6) and 9(b) for failure to state a claim upon which relief can be granted.
The plaintiff's responses to these motions to dismiss have not yet been filed.
The parties are currently engaged in discovery, and the trial of the action
(assuming any is needed) is scheduled for January 2006.
The plaintiff is claiming damages in excess of $24 million and is
requesting that damages be trebled under Indiana and federal RICO, and/or the
Indiana Crime Victims Act. Because defendants' motions to dismiss have not yet
been briefed and certain jurisdictional issues have not yet been fully
adjudicated, it is not possible at this time for the Company to reasonably
determine an outcome or accurately estimate the range of potential exposure.
Katy may have recourse against the former owner of Woods and others for, among
other things, violations of covenants, representations and warranties under the
purchase agreement through which Katy acquired Woods, and under state, federal
and common law. Woods may also have indemnity claims against the former officers
and directors. In addition, there is a dispute with the former owners of Woods
regarding the final disposition of amounts withheld from the purchase price,
which may be subject to further adjustment as a result of the claims by the
plaintiff. The extent or limit of any such adjustment cannot be predicted at
this time. An adverse judgment in this matter could have a material impact on
the Company's results of operations, liquidity and financial position if the
Company were not able to exercise recourse against the former owner of Woods.
Katy also has a number of product liability and workers' compensation
claims pending against it and its subsidiaries. Many of these claims are
proceeding through the litigation process and the final outcome will not be
known until a settlement is reached with the claimant or the case is
adjudicated. The Company estimates that it can take up to 10 years from the date
of the injury to reach a final outcome on certain claims. With respect to the
product liability and workers' compensation claims, Katy has provided for its
share of expected losses beyond the applicable insurance coverage, including
those incurred but not reported to the Company or its insurance providers, which
are developed using actuarial techniques. Such accruals are developed using
currently available claim information, and represent management's best
estimates. The ultimate cost of any individual claim can vary based upon, among
other factors, the nature of the injury, the duration of the disability period,
the length of the claim period, the jurisdiction of the claim and the nature of
the final outcome.
71
Although management believes that these actions individually and in the
aggregate are not likely to have a material adverse effect on the Company,
further costs could be significant and will be recorded as a charge to
operations when, and if, current information dictates a change in management's
estimates.
Note 21. SEVERANCE, RESTRUCTURING AND RELATED CHARGES
The Company has initiated several cost reduction and facility
consolidation initiatives since the Recapitalization, resulting in severance,
restructuring and related charges over the past three years. A summary (by major
initiative) is as follows:
2003 2002 2001
------- ------- -------
Consolidation of St. Louis manufacturing/distribution facilities $ 3,731 $11,698 $ 644
Shutdown of Woods Canada manufacturing 1,497 -- --
Consolidation of abrasives facilities 1,151 -- --
Senior management transition and headcount rationalization 645 670 8,292
Shutdown of Woods manufacturing 503 2,447 718
Consolidation of administrative functions for CCP 314 205 --
Consultant - outsourcing 84 3,588 2,326
Corporate office relocation -- 260 949
Other 207 287 451
------- ------- -------
Total severance, restructuring and related costs $ 8,132 $19,155 $13,380
======= ======= =======
Consolidation of St. Louis manufacturing/distribution facilities -
Starting in 2001, the Company developed a plan to consolidate the manufacturing
and distribution of the four CCP facilities in the St. Louis area. In 2003,
costs of $3.7 million related to the establishment of and adjustments to
non-cancelable lease liabilities for abandoned facilities ($2.3 million), the
movement of inventory and equipment to other facilities ($1.0 million) and
severance ($0.4 million). During 2002, costs were incurred related to the
establishment of non-cancelable lease liabilities for abandoned facilities
($10.9 million), the movement of equipment from Warson to Bridgeton ($0.5
million), and severance and other costs ($0.3 million). In 2001, costs were
incurred primarily for manufacturing restructuring initiatives at Hazelwood.
Shutdown of Woods Canada manufacturing - In December 2003, Woods Canada
closed its manufacturing facility in Toronto, Ontario, after a decision was made
to source all of its products from Asia. This action resulted in $1.5 million of
severance payments to approximately 100 terminated employees. Woods Canada
expects to incur additional costs in the first half of 2004, primarily for a
non-cancelable lease accrual associated with an expected sale/leaseback
transaction and idle capacity as a result of the shutdown.
Consolidation of abrasives facilities - In 2003, the Company initiated a
plan to consolidate the manufacturing facilities of its abrasives business in
order to implement a more competitive cost structure. It is expected that the
Lawrence, Massachusetts and the Pineville, North Carolina facilities will be
closed in 2004 and those operations consolidated into the newly expanded Wrens,
Georgia facility. Costs were incurred in 2003 related to preparation activities
at Wrens ($0.7 million) and severance for expected terminations at the Lawrence
facility ($0.4 million).
Shutdown of Woods manufacturing - During 2002 a major restructuring
occurred at the Woods business unit. After significant study and research into
different sourcing alternatives, Katy decided that Woods would source all of its
products from Asia. In December 2002, Woods shut down all U.S. manufacturing
facilities, which were in suburban Indianapolis and in southern Indiana. In
2003, Woods incurred costs of $0.5 million primarily for an adjustment to a
non-cancelable lease accrual due to a change in sub-lease assumptions. During
2002, costs of $2.4 million were incurred for severance and other exit costs,
including severance, pension, and other employee-related costs associated with
the employee terminations ($1.5 million), the creation of a liability for
non-cancelable lease costs at abandoned production facilities ($0.8 million) and
other exit costs were incurred related to facility repairs and other
72
minor expenses ($0.1 million). In 2001, costs were incurred related to the
closure of facilities in Loogootee and Bloomington, Indiana, as well as the Hong
Kong office of Katy International, a subsidiary which coordinates sourcing of
products from Asia.
Senior Management Transition and Headcount Rationalization - Since the
Recapitalization in 2001, the Company has performed an evaluation and
rationalization of management talent. In 2003, severance costs were incurred for
the elimination of certain employees at corporate ($0.3 million) and in the
Maintenance Products Group ($0.3 million). The amounts recorded in 2002
principally relate to headcount reduction across the Maintenance Products Group.
During 2001, costs related to the payment or accrual of severance and other
expenses associated with the management transition as a result of the
Recapitalization ($6.2 million), restructuring efforts that resulted in
severance payments to various individuals at CCP ($1.8 million) and the
remainder for additional severance within the Maintenance Products Group ($0.3
million).
Consolidation of administrative functions for CCP - Katy has incurred
various costs in 2003 and 2002 for the integration of back office and
administrative functions into St. Louis, Missouri from the various operating
divisions within the Maintenance Products Group. The most significant project is
the centralization of the customer service functions for the CCP (Jan/San),
Glit/Microtron, and Wilen businesses.
Consultant - outsourcing - In order to achieve a more competitive cost
structure, the Company has worked with consultants on sourcing and other
manufacturing and production efficiency initiatives. During 2003 and 2002, fees
were paid to a consultant for initiatives related primarily to sourcing products
for the Woods and Woods Canada businesses and the Wilen (mop, brooms and brush)
business unit. The costs in 2001 were of a similar nature and included $0.5
million for the fair value of stock appreciation rights awarded to this
non-employee firm.
Corporate office relocation - Following the Recapitalization, the Company
closed the former corporate headquarters in Englewood, Colorado and an adjunct
corporate office in Chicago, Illinois. A significant portion of the costs
incurred in 2002 and 2001 related to non-cancelable lease accruals, moving
expenses and employee relocations.
Other - Costs in 2003 relate to the closure of CCP's metals facility in
Santa Fe Springs, California. During 2002, costs were incurred for legal fees
and involuntary termination benefits related to SESCO. In 2001, the Company
recorded costs for the consolidation of warehouses ($0.3 million) and legal fees
related to SESCO.
The table below details activity in restructuring and related reserves
since December 31, 2001.
One-time Contract
Termination Termination
Total Benefits [a] Costs [b] Other [c]
------------ ------------ ------------ ------------
Restructuring and related liabilities at December 31, 2001 $ 3,013 $ 1,271 $ 431 $ 1,311
Additions to restructuring liabilities 19,155 2,616 11,826 4,713
Payments on restructuring liabilities (7,669) (1,802) (1,372) (4,495)
------------ ------------ ------------ ------------
Restructuring and related liabilities at December 31, 2002 $ 14,499 $ 2,085 $ 10,885 $ 1,529
Additions to restructuring liabilities 8,132 3,313 2,982 1,837
Payments on restructuring liabilities (14,155) (3,828) (7,016) (3,311)
------------ ------------ ------------ ------------
Restructuring and related liabilities at December 31, 2003 $ 8,476 $ 1,570 $ 6,851 $ 55
============ ============ ============ ============
73
[a] Includes severance, benefits, and other employee-related costs associated
with the employee terminations.
[b] Includes charges related to non-cancelable lease liabilities for abandoned
facilities, net of potential sub-lease revenue.
[c] Includes charges associated with moving inventory, machinery and equipment,
consolidation of administrative and operational functions, and consultants
working on sourcing and other manufacturing and production efficiency
initiatives.
The table below details activity in restructuring and related reserves by
operating segment since December 31, 2001.
Maintenance Electrical
Products Products
Total Group Group Corporate
----------- ----------- ----------- -----------
Restructuring and related liabilities at December 31, 2001 $ 3,013 $ 892 $ 1,029 $ 1,092
Additions to restructuring liabilities 19,155 13,537 5,155 463
Payments on restructuring liabilities (7,669) (3,745) (2,872) (1,052)
----------- ----------- ----------- -----------
Restructuring and related liabilities at December 31, 2002 $ 14,499 $ 10,684 $ 3,312 $ 503
Additions to restructuring liabilities 8,132 5,696 2,084 352
Payments on restructuring liabilities (14,155) (9,811) (3,647) (697)
----------- ----------- ----------- -----------
Restructuring and related liabilities at December 31, 2003 $ 8,476 $ 6,569 $ 1,749 $ 158
=========== =========== =========== ===========
The table below summarizes the future obligations for severance,
restructuring and other related charges by operating segment detailed above:
Maintenance Electrical
Products Products
Total Group Group Corporate
---------- ----------- ---------- -----------
2004 $ 4,046 $ 2,680 $ 1,208 $ 158
2005 1,954 1,596 358 --
2006 1,270 1,087 183 --
2007 542 542 -- --
2008 166 166 -- --
Thereafter 498 498 -- --
---------- ----------- ---------- -----------
Total Payments $ 8,476 $ 6,569 $ 1,749 $ 158
========== =========== ========== ===========
74
Note 22. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED):
2003 1st Qtr 2nd Qtr 3rd Qtr 4th Qtr
---- ----------- ----------- ----------- -----------
Net sales as reported previously $ 95,840 $ 105,359 $ 125,901 $ --
Discontinued operations (5,388) (3,898) -- --
----------- ----------- ----------- -----------
Net sales as adjusted $ 90,452 $ 101,461 $ 125,901 $ 118,596
=========== =========== =========== ===========
Gross profit as reported previously $ 16,768 $ 15,555 $ 20,226 $ --
Discontinued operations (2,482) (1,606) -- --
----------- ----------- ----------- -----------
Gross profit as adjusted $ 14,286 $ 13,949 $ 20,226 $ 22,386
=========== =========== =========== ===========
Loss from continuing operations reported previously $ (1,918) $ (5,006) $ (8,534) $ --
Discontinued operations (net of tax) (984) (545) -- --
----------- ----------- ----------- -----------
Loss from continuing operations adjusted $ (2,902) $ (5,551) $ (8,534) $ (1,900)
=========== =========== =========== ===========
Income (loss) from discontinued operations reported previously $ 74 $ (196) $ 8,116 $ --
Discontinued operations (net of tax) 984 545 -- --
----------- ----------- ----------- -----------
Income from discontinued operations adjusted $ 1,058 $ 349 $ 8,116 $ --
=========== =========== =========== ===========
Net loss $ (1,844) $ (5,202) $ (418) $ (1,900)
Gain on early redemption of preferred interest in subsidiary 6,560 -- -- --
Payment in kind of dividends on convertible preferred stock (3,014) (3,011) (3,324) (3,462)
----------- ----------- ----------- -----------
Net income (loss) attributable to common stockholders $ 1,702 $ (8,213) $ (3,742) $ (5,362)
=========== =========== =========== ===========
Income (loss) per share of common stock - Basic and diluted [a]
Income (loss) from continuing operations attributable to
common stockholders $ 0.08 $ (1.02) $ 1.44 $ (0.65)
Discontinued operations (net of tax) 0.12 0.04 0.99 $ --
----------- ----------- ----------- -----------
Net income (loss) attributable to common stockholders $ 0.20 $ (0.98) $ (0.45) $ (0.65)
=========== =========== =========== ===========
[a] The sum of basic and diluted loss per share of common stock does not total
to the basic and diluted loss per share reported in the Consolidated Statement
of Operations or Note 12 due to the fluctuation of shares outstanding throughout
the year versus shares outstanding as of December 31, 2003.
Effective with the reporting of interim results for the period ended
September 30, 2003, Katy classified the results and financial position of
Duckback in discontinued operations for all interim periods presented. Duckback
was sold on September 16, 2003. Effective with the reporting of year-end results
in these consolidated financial statements, Katy classified the results and
financial position of Duckback in discontinued operations for all annual periods
presented.
The gain on sale of discontinued operations and the income from operations
of discontinued operations as originally reported for the third quarter of 2003
was restated to reflect reductions of $3.8 million and $0.3 million,
respectively, for a tax provision allocable to each of those amounts. This
revision also adjusted the provision for income taxes from a provision of $0.9
million to a benefit from income taxes of $3.2 million. The revision reduced the
previously reported basic and diluted loss per share amounts from continuing
operations attributable to common stockholders for the three months ended
September 30, 2003 by $0.49 and reduced basic and diluted income per share
amounts from discontinued operations for the same period by $0.49. Please refer
to the Company's Form 10-Q/A filed on March 26, 2004.
During 2003, the Company recorded the following quarterly pretax charges
for severance, restructuring and related charges and impairments of long-lived
assets:
75
1st Qtr 2nd Qtr 3rd Qtr 4th Qtr
----------- ----------- ----------- -----------
Severance, restructuring and related charges $ 228 $ 1,713 $ 3,871 $ 2,320
Impairments of long-lived assets $ -- $ 1,800 $ 5,255 $ 4,825
2002 1st Qtr 2nd Qtr 3rd Qtr 4th Qtr
---- ----------- ----------- ----------- -----------
Net sales as reported previously $ 101,525 $ 108,461 $ 134,401 $ --
Discontinued operations (5,312) (3,955) -- --
----------- ----------- ----------- -----------
Net sales as adjusted $ 96,213 $ 104,506 $ 134,401 $ 110,635
=========== =========== =========== ===========
Gross profit as reported previously $ 17,473 $ 17,734 $ 21,607 $ --
Discontinued operations (2,353) (1,692) -- --
----------- ----------- ----------- -----------
Gross profit as adjusted $ 15,120 $ 16,042 $ 21,607 $ 19,408
=========== =========== =========== ===========
Loss from continuing operations reported previously $ (8,085) $ (7,270) $ (17,587) $ --
Discontinued operations (net of tax) (1,435) (917) --
----------- ----------- ----------- -----------
Loss from continuing operations adjusted $ (9,520) $ (8,187) $ (17,587) $ (17,789)
=========== =========== =========== ===========
Income from discontinued operations reported previously $ 495 $ 700 $ 1,028 $ --
Discontinued operations (net of tax) 1,435 917 --
----------- ----------- ----------- -----------
Income (loss) from discontinued operations adjusted $ 1,930 $ 1,617 $ 1,028 $ (117)
=========== =========== =========== ===========
Gain on sale of discontinued operations (net of tax) $ -- $ -- $ -- $ 3,306
Loss before cumulative effect of a change in accounting principle $ (7,590) $ (6,570) $ (16,559) $ (23,516)
Cumulative effect of a change in accounting principle (net of tax) -- -- (4,190) 1,676
----------- ----------- ----------- -----------
Net loss (7,590) (6,570) (20,749) (21,840)
Payment in kind of dividends on convertible preferred stock (2,622) (2,615) (2,615) (3,284)
----------- ----------- ----------- -----------
Net loss attributable to common stockholders $ (10,212) $ (9,185) $ (23,364) $ (25,124)
=========== =========== =========== ===========
Loss per share of common stock - Basic and diluted
Loss from continuing operations attributable to
common shareholders $ (1.45) $ (1.29) $ (2.41) $ (2.52)
Discontinued operations (net of tax) 0.23 0.19 0.12 (0.68)
Cumulative effect of a change in accounting principle
(net of tax) -- -- (0.50) 0.20
----------- ----------- ----------- -----------
Net loss attributable to common stockholders $ (1.22) $ (1.10) $ (2.79) $ (3.00)
=========== =========== =========== ===========
During 2002, the Company recorded the following quarterly pretax charges
for severance, restructuring and related charges and impairments of long-lived
assets:
1st Qtr 2nd Qtr 3rd Qtr 4th Qtr
----------- ----------- ----------- -----------
Severance, restructuring and related charges $ 2,296 $ 3,785 $ 9,486 $ 3,588
Impairments of long-lived assets $ -- $ 2,394 $ 10,986 $ 7,824
NOTE 23. SUPPLEMENTAL BALANCE SHEET INFORMATION
The following table provides detail regarding other assets shown on the
Consolidated Balance Sheets:
76
2003 2002
------- -------
Capitalized debt costs $ 4,313 $ 5,684
Notes and other receivables - sales of subsidiaries 994 3,416
Other 3,428 3,195
------- -------
Total $ 8,735 $12,295
======= =======
The following table provides detail regarding accrued expenses shown on
the Consolidated Balance Sheets:
2003 2002
------- -------
Contingent liabilities $15,735 $15,037
Advertising and rebates 10,440 12,973
Non-cancellable lease liabilities - restructuring 2,424 4,239
Other restructuring 1,622 3,220
SESCO note payable to Montenay 1,000 1,000
Professional services 796 2,645
Other 8,221 8,455
------- -------
Total $40,238 $47,569
======= =======
Contingent liabilities consist of accruals for estimated losses associated
with environmental issues, the uninsured portion of general and product
liability and workers' compensation claims, and a purchase price adjustment
associated with the purchase of a subsidiary.
The following table provides detail regarding other liabilities shown on
the Consolidated Balance Sheets:
2003 2002
------- -------
Deferred compensation $ 4,960 $ 4,857
Non-cancellable lease liabilities - restructuring 4,430 6,648
SESCO note payable to Montenay 3,304 3,973
Other restructuring -- 393
Other 3,350 1,655
------- -------
Total $16,044 $17,526
======= =======
NOTE 24. SUPPLEMENTAL CASH FLOW INFORMATION
Cash paid and (received) during the year for interest and income taxes is
as follows:
2003 2002 2001
------- ------- -------
Interest $ 2,688 $ 4,733 $11,333
======= ======= =======
Income taxes $ 2,924 $ (416) $(2,406)
======= ======= =======
Significant non-cash transactions include the accrual of PIK dividends on
the Convertible Preferred Stock of $12.8 million in 2003, $11.1 million in 2002,
and $4.5 million in 2001. The PIK dividends are recorded at fair value. In this
case, each convertible preferred share is translated to its common equivalent
(16.6667 common shares per each convertible preferred share) and multiplied by
$6.00, which is the value of each common share equivalent given the proceeds
from the issuance of the Convertible Preferred Stock. Also during 2003 and 2001,
a gain of $6.6 million and $6.6 million, respectively, was realized on the early
redemptions of the preferred interest in a subsidiary (see Note 13), and a note
receivable of $1.0 million was issued upon to the sale of the Thorsen Tools
business.
77
Item 9. CHANGES IN AND DISAGREEMENTS WITH INDEPENDENT AUDITORS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
Item 9a. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Internal Controls
Within the 90 days prior to the filing date of this Annual Report on Form
10-K, we evaluated the effectiveness of the design and operation of our
disclosure controls and procedures (Disclosure Controls). This evaluation
(Controls Evaluation) was done under the supervision and with the participation
of management, including our Chief Executive Officer (CEO) and Chief Financial
Officer (CFO).
Disclosure Controls are controls and other procedures that are designed to
ensure that information required to be disclosed by us in the reports that we
file or submit under the Securities Exchange Act of 1934 is accumulated and
communicated to our management, including our CEO and CFO, as appropriate to
allow timely decisions regarding required disclosure and is recorded, processed,
summarized and reported, within the time periods specified in the SEC's rules
and forms.
Limitations on the Effectiveness of Controls
Our management, including our CEO and CFO, does not expect that our
Disclosure Controls or our internal controls and procedures for financial
reporting (Internal Controls) will prevent all errors and all fraud. A control
system, no matter how well conceived and operated, can provide reasonable, but
not absolute assurance that the objectives of a control system are met. Further,
any control system reflects limitations on resources, and the benefits of a
control system must be considered relative to its costs. Because of the inherent
limitations in all control systems, no evaluation of controls can provide
absolute assurance that all control issues and instances of fraud, if any,
within Katy have been detected. These inherent limitations include the realities
that judgments in decision-making can be faulty and that breakdowns can occur
because of simple errors or mistakes. Additionally, controls can be circumvented
by the individual acts of some persons, by collusion of two or more people, or
by management override of a control. As design of a control system is also based
upon certain assumptions about the likelihood of future events, there can be no
assurance that any design will succeed in achieving its stated goals under all
potential future conditions; over time, controls may become inadequate because
of changes in conditions, or the degree of compliance with the policies or
procedures may deteriorate. Because of the inherent limitations in a
cost-effective control system, misstatements due to errors or fraud may occur
and may not be detected.
Conclusions
Based upon the Controls Evaluation, our CEO and CFO have concluded that,
subject to the limitations noted above, the Disclosure Controls are effective to
timely alert management to material information relating to Katy during the
period when our periodic reports are being prepared.
In accordance with SEC requirements, our CEO and CFO note that, since the
date of the Controls Evaluation to the filing date of this Annual Report, there
have been no significant changes in Internal Controls or in other factors that
could significantly affect Internal Controls, including any corrective actions
with regard to significant deficiencies and material weaknesses.
78
Part III
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information regarding the directors of Katy is incorporated herein by reference
to the information set forth under the section entitled "Election of Directors"
in the Proxy Statement of Katy Industries, Inc. for its 2004 Annual Meeting.
Information regarding executive officers of Katy is incorporated herein by
reference to the information set forth under the section entitled "Information
Concerning Directors and Executive Officers" in the Proxy Statement of Katy
Industries, Inc. for its 2004 Annual Meeting.
Item 11. EXECUTIVE COMPENSATION
Information regarding compensation of executive officers is incorporated herein
by reference to the information set forth under the section entitled "Executive
Compensation" in the Proxy Statement of Katy Industries, Inc. for its 2004
Annual Meeting.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information regarding beneficial ownership of stock by certain beneficial owners
and by management of Katy is incorporated by reference to the information set
forth under the section "Security Ownership of Certain Beneficial Owners" and
"Security Ownership of Management" in the Proxy Statement of Katy Industries,
Inc. for its 2004 Annual Meeting.
Equity Compensation Plan Information
Number of Securities
Remaining Available for
Number of Securities to Weighted-average Future Issuances Under Equity
Be Issued on Exercise of Exercise Price of Compensation Plans
Outstanding Option, Outstanding Options, (Excluding Securities
Plan Category Warrants and Rights Warrants and Rights Reflected in Column (a))
----------------------------------------------------------------------------------------------------------------------------
(a) (b) (c)
Equity Compensation
Plans Approved by
Stockholders 998,812 $7.11 310,339
Equity Compensation
Plans Not Approved by
Stockholders 1,633,907 $3.86 --
Equity Compensation Plans Not Approved by Stockholders
On June 28, 2001, the Company entered into an employment agreement with C.
Michael Jacobi, President and Chief Executive Officer. To induce Mr. Jacobi to
enter into the employment agreement, on June 28, 2001, the Compensation
Committee of the Board of Directors approved the Katy Industries, Inc. 2001
Chief Executive Officer's Plan. Under this plan, Mr. Jacobi was granted 978,572
stock options. The stock options granted to Mr. Jacobi vest unconditionally
(assuming continued employment) nine years from the date of grant.
79
On September 4, 2001, the Company entered into an employment agreement
with Amir Rosenthal, Vice President, Chief Financial Officer, General Counsel
and Secretary. To induce Mr. Rosenthal to enter into the employment agreement,
on September 4, 2001, the Compensation Committee of the Board of Directors
approved the Katy Industries, Inc. 2001 Chief Financial Officer's Plan. Under
this plan, Mr. Rosenthal was granted 123,077 stock options. All stock options
granted to Mr. Rosenthal may vest over a three year period provided that certain
performance measures are met in each year, and vest unconditionally (assuming
continued employment) nine years from the date of grant.
On November 21, 2002, the Board of Directors approved the 2002 Stock
Appreciation Rights Plan (the "2002 SAR Plan"), authorizing the issuance of up
to 1,000,000 stock appreciation rights (SARs). Vesting of the SARs occurs
ratably over three years from the date of issue. The 2002 SAR Plan provides
limitations on redemption by holders, specifying that no more than 50% of the
cumulative number of vested SARs held by an employee could be exercised in any
one calendar year. The SARs expire ten years from the date of issue. The Board
approved grants on November 22, 2002, of 917,175 SARs to 60 individuals with an
exercise price of $3.15, which equaled the market price of Katy's stock on the
grant date. In addition, 50,000 SARs were granted to four individuals during
2003. At December 31, 2003, we had 532,258 SARS outstanding at a weighted
average exercise price of $3.23. Compensation expense associated with the
vesting of stock appreciation rights was $1.0 million and $13.0 thousand in 2003
and 2002, respectively. The 2002 SAR Plan also provides that in the event of a
Change in Control of the Company, all outstanding SARs may become fully vested.
In accordance with the 2002 SAR Plan, a "Change in Control" is deemed to have
occurred upon any of the following events: 1) a sale of 100 percent of the
Company's outstanding capital stock, as may be outstanding from time to time; 2)
a sale of all or substantially all of the Company's operating subsidiaries or
assets; or 3) a transaction or series of transactions in which any third party
acquires an equity ownership in the Company greater than that held by KKTY
Holding Company, L.L.C. and in which Kohlberg & Co., L.L.C. relinquishes its
right to nominate a majority of the candidates for election to the Board of
Directors.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information regarding certain relationships and related transactions with
management is incorporated herein by reference to the information set forth
under the section entitled "Executive Compensation" in the Proxy Statement of
Katy Industries, Inc. for its 2004 Annual Meeting.
Item 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Information regarding principal accountant fees and services is incorporated
herein by reference to the information set forth under the section entitled
"Proposal 2 - Ratification of the Independent Auditors" in the Proxy Statement
of Katy Industries, Inc. for its 2004 Annual Meeting.
80
Part IV
Item 15. FINANCIAL STATEMENTS, SCHEDULES, EXHIBITS AND REPORTS ON FORM 8-K
(a) 1. Financial Statements
The following financial statements of Katy are set forth in Part II, Item
8, of this Form 10-K:
- Consolidated Balance Sheets as of December 31, 2003 and 2002
- Consolidated Statements of Operations for the years ended
December 31, 2003, 2002 and 2001
- Consolidated Statements of Stockholders' Equity for the years
ended December 31, 2003, 2002 and 2001
- Consolidated Statements of Cash Flows for the years ended
December 31, 2003, 2002 and 2001
- Notes to Consolidated Financial Statements
2. Financial Statement Schedules
The financial statement schedule filed with this report is listed on
the "Index to Financial Statement Schedules" on page 86 of this Form
10-K.
3. Exhibits
The exhibits filed with this report are listed on the "Exhibit Index."
(b) Reports on Form 8-K
- Form 8-K filed on October 1, 2003, including press release and
schedules announcing the sale of Duckback Products, Inc.
- Form 8-K filed on November 5, 2003, including press release
and schedules announcing results of operations for the third
quarter of 2003.
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
Dated: April 30, 2004 KATY INDUSTRIES, INC.
Registrant
/S/ C. Michael Jacobi
----------------------
C. Michael Jacobi
President and Chief Executive Officer
/S/ Amir Rosenthal
----------------------
Amir Rosenthal
Vice President, Chief Financial Officer,
General Counsel and Secretary
81
POWER OF ATTORNEY
Each person signing below appoints C. Michael Jacobi and Amir Rosenthal,
or either of them, his attorneys-in-fact for him in any and all capacities, with
power of substitution, to sign any amendments to this report, and to file the
same with any exhibits thereto and other documents in connection therewith, with
the Securities and Exchange Commission.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities indicated as of this 29th day of March, 2004.
Signature Title
--------- -----
/S/ William F. Andrews Chairman of the Board and Director
---------------------------
William F. Andrews
/S/ C. Michael Jacobi President, Chief Executive Officer and
--------------------------- Director (Principal Executive Officer)
C. Michael Jacobi
/S/ Amir Rosenthal Vice President, Chief Financial Officer,
--------------------------- General Counsel and Secretary
Amir Rosenthal (Principal Financial and Accounting Officer)
/S/ Christopher Lacovara Director
---------------------------
Christopher Lacovara
/S/ Robert M. Baratta Director
---------------------------
Robert M. Baratta
/S/ James A. Kohlberg Director
---------------------------
James A. Kohlberg
/S/ Daniel B. Carroll Director
---------------------------
Daniel B. Carroll
/S/ Wallace E. Carroll, Jr. Director
---------------------------
Wallace E. Carroll, Jr.
82
/S/ Samuel P. Frieder Director
---------------------------
Samuel P. Frieder
/S/ Christopher Anderson Director
---------------------------
Christopher Anderson
83
INDEX TO FINANCIAL STATEMENT SCHEDULES
Independent Auditors' Report 85
Schedule II - Valuation and Qualifying Accounts 86
Independent Auditors' Consent 90
All other schedules are omitted because they are not applicable, or not
required, or because the required information is included in the Consolidated
Financial Statements of Katy or the Notes thereto.
84
REPORT OF INDEPENDENT AUDITORS ON FINANCIAL STATEMENT SCHEDULE
To the Board of Directors and Stockholders of Katy Industries, Inc.:
Our audits of the consolidated financial statements of Katy Industries, Inc. and
its subsidiaries, referred to in our report dated March 25, 2004, appearing in
this Form 10-K, also included an audit of the financial statement schedule
listed in Item 15(a)(2) of this Form 10-K. In our opinion, this financial
statement schedule presents fairly, in all material respects, the information
set forth therein when read in conjunction with the related consolidated
financial statements.
s/PricewaterhouseCoopers LLP
St. Louis, Missouri
March 25, 2004
85
KATY INDUSTRIES, INC. AND SUBSIDIARIES
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
(Thousands of Dollars)
Balance at Additions Balance
Beginning Charged to Write-offs Other at End
Accounts Receivable Reserves of Year Expense to Reserves Adjustments of Year
---------------------------- ---------- ---------- ---------- ----------- ----------
Year ended December 31, 2003
Trade receivables $ 2,771 $ 3,163 $ (3,113) $ 208 $ 3,029
Long-term notes receivable 1,000 -- (1,000) --
---------- ---------- ---------- ---------- ----------
$ 3,771 $ 3,163 $ (4,113) $ 208 $ 3,029
Year ended December 31, 2002
Trade receivables $ 2,728 $ 3,732 $ (4,312) $ 623 $ 2,771
Long-term notes receivable 1,000 -- -- -- 1,000
---------- ---------- ---------- ---------- ----------
$ 3,728 $ 3,732 $ (4,312) $ 623 $ 3,771
Year ended December 31, 2001
Trade receivables $ 3,187 $ 5,279 $ (5,945) $ 207 $ 2,728
Long-term notes receivable 1,000 -- -- -- 1,000
---------- ---------- ---------- ---------- ----------
$ 4,187 $ 5,279 $ (5,945) $ 207 $ 3,728
Balance at Additions Balance
Beginning Charged to Write-offs to Other at End
Inventory Reserves of Year Expense the Reserves Adjustments of Year
------------------ ---------- ---------- ------------- ----------- ----------
Year ended December 31, 2003 $ 5,730 $ 1,822 $ (2,261) $ 339 $ 5,630
Year ended December 31, 2002 $ 5,862 $ 2,620 $ (3,578) $ 826 $ 5,730
Year ended December 31, 2001 $ 6,392 $ 3,675 $ (4,210) $ 5 $ 5,862
Balance at Balance
Beginning Other at End
Income Tax Valuation Allowances of Year Provison Reversals Adjustments of Year
------------------------------- ---------- ---------- ---------- ----------- -----------
Year ended December 31, 2003 $ 42,828 $ 3,343 $ -- $ -- $ 46,171
Year ended December 31, 2002 $ 13,854 $ 28,974 $ -- $ -- $ 42,828
Year ended December 31, 2001 $ 4,106 $ 9,748 $ -- $ -- $ 13,854
86
KATY INDUSTRIES, INC.
INDEX OF EXHIBITS
DECEMBER 31, 2003
Exhibit
Number Exhibit Title Page
------ ------------- ----
2 Preferred Stock Purchase and Recapitalization Agreement, dated as of June 2, *
2001 (incorporated by reference to Annex B to the Company's Proxy Statement
on Schedule 14A filed June 8, 2001).
3.1 The Amended and Restated Certificate of Incorporation of the Company *
(incorporated by reference to Exhibit 3.1 of the Company's Current Report
on Form 8-K on July 13, 2001).
3.2 The By-laws of the Company, as amended (incorporated by reference to Exhibit 3.1 *
to the Company's Quarterly Report on Form 10-Q filed May 15, 2001).
4.1 Rights Agreement dated as of January 13, 1995 between Katy and Harris Trust *
and Savings Bank as Rights Agent (incorporated by reference to Exhibit 2.1 of
Katy's Form 8-A filed January 17, 1995).
4.1a Amendment dated as of October 31, 1996 to the Rights Agreement dated as of *
January 13, 1995 between Katy and Harris Trust and Savings Bank as Rights
Agent (incorporated by reference to Katy's Current Report on Form 8-K filed
November 8, 1996).
4.1b Amendment dated as of January 8, 1999 to the Rights Agreement dated as of *
January 13, 1995 between Katy and LaSalle National Bank as Rights
Agent (incorporated by reference to Exhibit 4.1(b) of Katy's Annual Report
on Form 10-K filed March 18, 1999).
4.1c Third Amendment to Rights Agreement, dated March 30, 2001, between the *
Company and LaSalle Bank, N.A., as Rights Agent (incorporated by reference
to Exhibit (e) (3) to the Company's Solicitation/Recommendation Statement on
Schedule 14D-9 filed April 25, 2001).
10.1 Katy Industries, Inc. Long-Term Incentive Plan (incorporated by *
reference to Katy's Registration Statement on Form S-8 filed
June 21, 1995).
10.2 Katy Industries, Inc. Non-Employee Director Stock Option Plan *
(incorporated by reference to Katy's Registration Statement on
Form S-8 filed June 21, 1995).
10.3 Katy Industries, Inc. Supplemental Retirement and Deferral *
Plan effective as of June 1, 1995 (incorporated by reference
to Katy's Registration Statement on Form S-8 filed June 21, 1995)
10.4 Katy Industries, Inc. Directors' Deferred Compensation Plan *
effective as of June 1, 1995 (incorporated by reference to Katy's
Registration Statement on Form S-8 filed June 21, 1995).
10.5 Employment Agreement dated as of June 28, 2001 between C. Michael Jacobi *
and the Company (incorporated by reference to Exhibit 10.2 to the Company's
Quarterly Report on Form 10-Q filed August 14, 2001).
87
10.6 Katy Industries, Inc. 2001 Chief Executive Officer's Plan (incorporated *
by reference to Exhibit 10.3 to the Company's Quarterly Report on
Form 10-Q filed August 14, 2001).
10.7 Employment Agreement dated as of September 1, 2001 between Amir Rosenthal *
and the Company (incorporated by reference to Exhibit 10.2 to the Company's
Quarterly Report on Form 10-Q dated November 14, 2001).
10.8 Katy Industries, Inc. 2001 Chief Financial Officer's Plan (incorporated by *
reference to Exhibit 10.3 to the Company's Quarterly Report on Form 10-Q dated
November 14, 2001).
10.9 Katy Industries, Inc. 2002 Stock Appreciation Rights Plan, *
dated November 21, 2002, (incorporated by reference to Exhibit
10.17 to the Company's Annual Report on Form 10-K dated April
15, 2003).
10.10 Loan Agreement dated as of January 31, 2003 with Fleet Capital Corporation, *
(incorporated by reference to Exhibit 10.18 to the Company's
Annual Report on Form 10-K dated April 15, 2003).
10.11 Amended and Restated Preferred Unit Repurchase Agreeement, dated as of **
December 30, 2002, filed herewith.
10.12 First Amendment to Loan Agreement, dated as of April 30, 2003, filed herewith. **
10.13 Second Amendment to Loan Agreement, dated as of September 12, 2003, filed herewith. **
10.14 Third Amendment to Loan Agreement, dated as of October 15, 2003, filed herewith. **
21 Subsidiaries of registrant 89
23 Independent Auditors' Consent 90
31.1 CEO Certification pursuant to Securities Exchange Act Rule 13a-14, 91
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 CFO Certification pursuant to Securities Exchange Act Rule 13a-14, 92
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1 CEO Certification required by 18 U.S.C. Section 1350, as adopted 93
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 CFO Certification required by 18 U.S.C. Section 1350, as adopted pursuant 94
to Section 906 of the Sarbanes-Oxley Act of 2002.
* Indicates incorporated by reference.
** Indicates filed herewith.
88