UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
----------------------------------------------------
FORM 10-Q
(mark one)
[ X ] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the Quarterly Period Ended June 28, 2003 or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
Commission File Number 1-11406
KADANT INC.
(Exact Name of Registrant as Specified in Its Charter)
Delaware 52-1762325
(State or Other Jurisdiction (I.R.S. Employer Identification No.)
of Incorporation or Organization)
One Acton Place, Suite 202
Acton, Massachusetts 01720
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, Including Area Code: (978) 776-2000
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 and (2) has been subject to such filing
requirements for the past 90 days. Yes [ X ] No [ ]
Indicate by check mark whether or not the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act). Yes [ X ] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Outstanding at July 25, 2003
---------------------------- ----------------------------
Common Stock, $.01 par value 13,618,943
PART I - Financial Information
Item 1 - Financial Statements
- -----------------------------
KADANT INC.
Condensed Consolidated Balance Sheet
(Unaudited)
Assets
June 28, December 28,
(In thousands) 2003 2002
- --------------------------------------------------------------------------------------------------------------------------------
Current Assets:
Cash and cash equivalents $ 52,482 $ 44,429
Accounts receivable, less allowances of $2,814 and $2,634 36,870 30,818
Unbilled contract costs and fees 14,161 6,002
Inventories (Note 5) 32,488 29,486
Deferred tax asset 6,856 6,668
Other current assets 2,957 2,974
-------- --------
145,814 120,377
-------- --------
Property, Plant, and Equipment, at Cost 74,576 70,220
Less: Accumulated depreciation and amortization 49,363 44,759
-------- --------
25,213 25,461
-------- --------
Other Assets 13,758 13,458
-------- --------
Goodwill 72,618 72,221
-------- --------
$257,403 $231,517
======== ========
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KADANT INC.
Condensed Consolidated Balance Sheet (continued)
(Unaudited)
Liabilities and Shareholders' Investment
June 28, December 28,
(In thousands except share amounts) 2003 2002
- --------------------------------------------------------------------------------------------------------------------------------
Current Liabilities:
Current maturities of long-term notes payable $ 598 $ 585
Accounts payable 23,917 18,093
Accrued payroll and employee benefits 8,899 9,445
Accrued warranty costs 4,917 4,310
Customer deposits 2,636 2,301
Other current liabilities 14,277 10,942
-------- --------
55,244 45,676
-------- --------
Deferred Income Taxes 1,011 940
-------- --------
Other Long-Term Liabilities 3,044 2,763
-------- --------
Long-Term Notes Payable - 580
-------- --------
Minority Interest 378 301
-------- --------
Shareholders' Investment (Note 7):
Preferred stock, $.01 par value, 5,000,000 shares authorized;
none issued - -
Common stock, $.01 par value, 150,000,000 shares authorized;
14,049,538 and 14,045,550 shares issued 140 140
Capital in excess of par value 96,755 98,567
Retained earnings 123,586 116,702
Treasury stock at cost, 430,595 and 495,265 shares (18,171) (20,901)
Deferred compensation (92) (27)
Accumulated other comprehensive items (Note 2) (4,492) (13,224)
-------- --------
197,726 181,257
-------- --------
$257,403 $231,517
======== ========
The accompanying notes are an integral part of these condensed consolidated financial statements.
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KADANT INC.
Condensed Consolidated Statement of Income
(Unaudited)
Three Months Ended
-----------------------------
June 28, June 29,
(In thousands except per share amounts) 2003 2002
- -------------------------------------------------------------------------------------------------------------------------------
Revenues $ 55,784 $ 46,378
-------- --------
Costs and Operating Expenses:
Cost of revenues 35,086 28,378
Selling, general, and administrative expenses 13,382 12,576
Research and development expenses 1,310 1,152
Restructuring and unusual items (Note 8) (180) -
-------- --------
49,598 42,106
-------- --------
Operating Income 6,186 4,272
Interest Income 214 623
Interest Expense (11) (1,207)
Other Income (Note 10) - 414
-------- --------
Income Before Provision for Income Taxes and Minority Interest 6,389 4,102
Provision for Income Taxes 2,428 1,552
Minority Interest Expense 72 1
-------- --------
Net Income $ 3,889 $ 2,549
======== ========
Earnings per Share (Note 3):
Basic $ .29 $ .20
======== ========
Diluted $ .28 $ .20
======== ========
Weighted Average Shares (Note 3):
Basic 13,601 12,446
======== ========
Diluted 13,908 12,661
======== ========
The accompanying notes are an integral part of these condensed consolidated financial statements.
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KADANT INC.
Condensed Consolidated Statement of Operations
(Unaudited)
Six Months Ended
-----------------------------
June 28, June 29,
(In thousands except per share amounts) 2003 2002
- -------------------------------------------------------------------------------------------------------------------------------
Revenues $107,159 $ 89,718
-------- --------
Costs and Operating Expenses:
Cost of revenues 67,294 55,565
Selling, general, and administrative expenses 26,894 25,267
Research and development expenses 2,353 2,440
Restructuring and unusual items (Note 8) (180) 3,637
-------- --------
96,361 86,909
-------- --------
Operating Income 10,798 2,809
Interest Income 450 1,278
Interest Expense (28) (2,636)
Other Income (Note 10) - 461
-------- --------
Income Before Provision for Income Taxes, Minority Interest, and
Cumulative Effect of Change in Accounting Principle 11,220 1,912
Provision for Income Taxes 4,264 720
Minority Interest Expense 72 2
-------- --------
Income Before Cumulative Effect of Change in Accounting Principle 6,884 1,190
Cumulative Effect of Change in Accounting Principle (net of
income tax benefit of $12,420; Note 9) - (32,756)
-------- --------
Net Income (Loss) $ 6,884 $(31,566)
======== ========
Earnings per Share Before Cumulative Effect of Change in Accounting Principle (Note 3):
Basic $ .51 $ .10
======== ========
Diluted $ .50 $ .10
======== ========
Earnings (Loss) per Share (Note 3):
Basic $ .51 $ (2.56)
======== ========
Diluted $ .50 $ (2.52)
======== ========
Weighted Average Shares (Note 3):
Basic 13,588 12,343
======== ========
Diluted 13,837 12,508
======== ========
The accompanying notes are an integral part of these condensed consolidated financial statements.
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KADANT INC.
Condensed Consolidated Statement of Cash Flows
(Unaudited)
Six Months Ended
-----------------------------
June 28, June 29,
(In thousands) 2003 2002
- ----------------------------------------------------------------------------------------------------------------------------------
Operating Activities:
Net income (loss) $ 6,884 $(31,566)
Adjustments to reconcile net income (loss) to net cash provided by
operating activities:
Noncash restructuring and unusual items - 2,441
Gain on sale of property (Note 8) (649) -
Cumulative effect of change in accounting principle (Note 9) - 32,756
Depreciation and amortization 2,607 2,587
Provision for losses on accounts receivable 77 129
Minority interest expense 72 2
Other noncash items 172 58
Changes in current accounts:
Accounts receivable (4,259) 11,423
Unbilled contract costs and fees (7,725) 703
Inventories (1,440) 2,650
Other current assets (208) (1,255)
Accounts payable 4,809 (2,373)
Other current liabilities 2,718 (4,938)
-------- --------
Net cash provided by operating activities 3,058 12,617
-------- --------
Investing Activities:
Purchases of property, plant, and equipment (1,448) (1,348)
Proceeds from sale of property, plant, and equipment 940 46
Acquisition of minority interest in subsidiary - (1,364)
Purchases of available-for-sale investments - (2,643)
Proceeds from repayments of note receivable - 200
Other, net (125) (255)
-------- --------
Net cash used in investing activities (633) (5,364)
-------- --------
Financing Activities:
Repurchases of Company subordinated convertible debentures - (29,290)
Net proceeds from issuance of Company common stock in public offering - 17,648
Net proceeds from issuance of Company and subsidiary common stock 791 472
Acquisition of subsidiary common stock - (1,461)
Repayments of long-term obligations (567) (537)
-------- --------
Net cash provided by (used in) financing activities 224 (13,168)
-------- --------
Exchange Rate Effect on Cash 5,404 2,410
-------- --------
Increase (Decrease) in Cash and Cash Equivalents 8,053 (3,505)
Cash and Cash Equivalents at Beginning of Period 44,429 102,807
-------- --------
Cash and Cash Equivalents at End of Period $ 52,482 $ 99,302
======== ========
The accompanying notes are an integral part of these condensed consolidated financial statements.
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KADANT INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
1. General
The interim condensed consolidated financial statements and related notes
presented have been prepared by Kadant Inc. (also referred to in this document
as "we," "Kadant," "the Company," or "the Registrant") without audit and, in the
opinion of management, reflect all adjustments of a normal recurring nature
necessary for a fair statement of the Company's financial position at June 28,
2003, and its results of operations for the three- and six-month periods ended
June 28, 2003, and June 29, 2002, and cash flows for the six-month periods ended
June 28, 2003, and June 29, 2002. Interim results are not necessarily indicative
of results for a full year.
Historical financial results have been restated to reflect the adoption
of the Financial Accounting Standards Board's (FASB) Statement of Financial
Accounting Standards (SFAS) No. 142, "Goodwill and Other Intangible Assets"
(Note 9), and SFAS No. 145, "Rescission of FASB Statement No. 4, 44, and 64,
Amendment of FASB Statement No. 13, and Technical Corrections" (Note 10). The
condensed consolidated balance sheet presented as of December 28, 2002, has been
derived from the consolidated financial statements that have been audited by the
Company's independent auditors. The condensed consolidated financial statements
and related notes are presented as permitted by Form 10-Q and do not contain
certain information included in the annual financial statements and related
notes of the Company. The condensed consolidated financial statements and notes
included herein should be read in conjunction with the financial statements and
related notes included in the Company's Annual Report on Form 10-K for the
fiscal year ended December 28, 2002, filed with the Securities and Exchange
Commission.
2. Comprehensive Income (Loss)
Comprehensive income (loss) combines net income (loss) and "other
comprehensive items," which represents certain amounts that are reported as
components of shareholders' investment in the accompanying balance sheet,
including foreign currency translation adjustments and deferred gains and losses
on foreign currency contracts. During the second quarters of 2003 and 2002, the
Company had comprehensive income of $8,870,000 and $7,045,000, respectively.
During the first six months of 2003 and 2002, the Company had comprehensive
income of $15,616,000 and a comprehensive loss of $27,733,000, respectively.
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KADANT INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
3. Earnings (Loss) per Share
Basic and diluted earnings (loss) per share were calculated as follows:
Three Months Ended Six Months Ended
------------------------- -------------------------
June 28, June 29, June 28, June 29,
(In thousands except per share amounts) 2003 2002 2003 2002
- --------------------------------------------------------------------------------------------------------------------------------
Basic
Income Before Cumulative Effect of Change in Accounting
Principle $ 3,889 $ 2,549 $ 6,884 $ 1,190
Cumulative Effect of Change in Accounting Principle (net
of income tax benefit of $12,420) - - - (32,756)
-------- -------- -------- --------
Net Income (Loss) $ 3,889 $ 2,549 $ 6,884 $(31,566)
-------- -------- -------- --------
Weighted Average Shares 13,601 12,446 13,588 12,343
-------- -------- -------- --------
Basic Earnings (Loss) per Share:
Income Before Cumulative Effect of Change in Accounting
Principle $ .29 $ .20 $ .51 $ .10
Cumulative Effect of Change in Accounting Principle - - - (2.66)
-------- -------- -------- --------
$ .29 $ .20 $ .51 $ (2.56)
======== ======== ======== ========
Diluted
Income Before Cumulative Effect of Change in Accounting
Principle $ 3,889 $ 2,549 $ 6,884 $ 1,190
Cumulative Effect of Change in Accounting Principle (net
of income tax benefit of $12,420) - - - (32,756)
-------- -------- -------- --------
Net Income (Loss) $ 3,889 $ 2,549 $ 6,884 $(31,566)
-------- -------- -------- --------
Weighted Average Shares 13,601 12,446 13,588 12,343
Effect of Stock Options 307 215 249 165
-------- -------- -------- --------
Weighted Average Shares, as Adjusted 13,908 12,661 13,837 12,508
-------- -------- -------- --------
Diluted Earnings (Loss) per Share:
Income Before Cumulative Effect of Change in Accounting
Principle $ .28 $ .20 $ .50 $ .10
Cumulative Effect of Change in Accounting Principle - - - (2.62)
-------- -------- -------- ---------
$ .28 $ .20 $ .50 $ (2.52)
======== ======== ======== ========
Options to purchase approximately 345,700 and 439,200 shares of common stock for the second quarters of 2003 and 2002,
respectively, and 369,500 and 561,000 shares of common stock for the first six months of 2003 and
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KADANT INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
3. Earnings (Loss) per Share (continued)
2002, respectively, were not included in the computation of diluted earnings per
share because the options' exercise prices were greater than the average market
price for the common stock and their effect would have been antidilutive.
In addition, the computation of diluted earnings per share in 2002
excludes the effect of assuming the conversion of the Company's 4 1/2%
subordinated convertible debentures, convertible at $60.50 per share, because
the effect would have been antidilutive. The debentures were no longer
outstanding as of December 28, 2002.
4. Warranty Obligations
The Company provides for the estimated cost of product warranties,
primarily using historical information and estimated repair costs, at the time
product revenue is recognized. In the Pulp and Papermaking Equipment and Systems
segment (Papermaking Equipment segment), the Company typically negotiates the
terms regarding warranty coverage and length of warranty depending on the
products and applications. In the Composite and Fiber-based Products segment,
the Company offers a standard limited warranty on its decking and roofing
products restricted to repair or replacement of the defective product or refund
of the original purchase price. While the Company engages in extensive product
quality programs and processes, the Company's warranty obligation is affected by
product failure rates, repair costs, service delivery costs incurred in
correcting a product failure, and supplier warranties on parts delivered to the
Company. Should actual product failure rates, repair costs, service delivery
costs, or supplier warranties on parts differ from the Company's estimates,
revisions to the estimated warranty liability would be required. The changes in
the carrying amount of product warranties for the three and six months ended
June 28, 2003, are as follows:
Three Months Ended Six Months Ended
(In thousands) June 28, 2003 June 28, 2003
- ----------------------------------------------------------------------------------------------------------------------------
Beginning Balance $ 4,564 $ 4,310
Provision charged to income 640 1,243
Usage (454) (924)
Other, net (a) 167 288
------- -------
Balance at June 28, 2003 $ 4,917 $ 4,917
======= =======
(a) Primarily represents the effects of currency translation.
5. Inventories
The components of inventories are as follows:
(In thousands) June 28, 2003 Dec. 28, 2002
- ----------------------------------------------------------------------------------------------------------------------------
Raw Materials and Supplies $13,760 $12,937
Work in Process 6,440 6,126
Finished Goods (includes $1,398 and $954 at customer locations) 12,288 10,423
------- -------
$32,488 $29,486
======= =======
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KADANT INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
6. Business Segment Information
Three Months Ended Six Months Ended
------------------------- -------------------------
June 28, June 29, June 28, June 29,
(In thousands except per share amounts) 2003 2002 2003 2002
- --------------------------------------------------------------------------------------------------------------------------------
Revenues:
Pulp and Papermaking Equipment and Systems $50,674 $41,923 $ 96,231 $82,500
Composite and Fiber-based Products 5,110 4,455 10,928 7,218
------- ------- -------- -------
$55,784 $46,378 $107,159 $89,718
======= ======= ======== =======
Income Before Provision for Income Taxes, Minority Interest,
and Cumulative Effect of Change in Accounting Principle (a):
Pulp and Papermaking Equipment and Systems (b) $ 6,691 $ 5,024 $ 11,931 $ 6,907
Composite and Fiber-based Products (c) (d) 571 98 983 (2,375)
Corporate (e) (1,076) (850) (2,116) (1,723)
------- ------- -------- -------
Total Operating Income 6,186 4,272 10,798 2,809
Interest and Other Income (Expense), Net 203 (170) 422 (897)
------- ------- -------- -------
$ 6,389 $ 4,102 $ 11,220 $ 1,912
======= ======= ======== =======
Capital Expenditures:
Pulp and Papermaking Equipment and Systems $ 359 $ 419 $ 561 631
Composite and Fiber-based Products 228 327 876 590
Corporate 8 7 11 127
------- ------- -------- -------
595 $ 753 $ 1,448 $ 1,348
======= ======= ======== =======
(a) Restated in the 2002 period to reflect the reclassification to "other income" of an extraordinary item in accordance
with the adoption of SFAS No. 145 resulting from repurchases of our subordinated convertible debentures (Note 10).
(b) Includes net restructuring costs and unusual income of $180 in the three- and six-month periods ended June 28, 2003
(Note 8), and restructuring and unusual costs of $1,998 in the six-month period ended June 29, 2002.
(c) Includes restructuring and unusual costs of $1,639 in the six-month period ended June 29, 2002.
(d) Includes operating income from the composite building products business of $26 and $110 in the three- and six-month
periods ended June 28, 2003, respectively, and operating losses of $677 in the three-month period ended June 29, 2002,
and $2,847, including restructuring and unusual costs of $1,116, in the six-month period ended June 29, 2002.
(e) Primarily general and administrative expenses.
7. Stock-Based Compensation
During 2002, the FASB issued SFAS No. 148, "Accounting for Stock-based
Compensation - Transition and Disclosure," which provides alternative methods of
accounting for stock-based compensation and amends SFAS No. 123, "Accounting for
Stock-based Compensation," which provides a fair-value-based method of
recognizing stock-based compensation expense. As permitted by SFAS No. 148 and
SFAS No. 123, the Company has elected to continue
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KADANT INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
7. Stock-Based Compensation (continued)
to apply APB No. 25 to account for its stock-based compensation plans. No
stock-based employee compensation cost related to stock option awards is
reflected in net income, as all options granted under the plans had an exercise
price equal to the market value of the underlying common stock on the date of
grant. Had compensation cost for awards granted after 1994 under the Company's
stock-based compensation plans been determined based on the fair value at the
grant dates consistent with the method set forth under SFAS No. 123, the effect
on certain of the Company's financial results would have been as follows:
Three Months Ended Six Months Ended
------------------------- -------------------------
June 28, June 29, June 28, June 29,
(In thousands except per share amounts) 2003 2002 2003 2002
- --------------------------------------------------------------------------------------------------------------------------------
Net Income (Loss):
As reported $ 3,889 $ 2,549 $ 6,884 $(31,566)
Deduct: Total stock-based employee compensation expense
determined under the fair-value-based method for all
awards, net of tax (616) (620) (1,285) (1,147)
------- ------- ------- --------
Pro forma $ 3,273 $ 1,929 $ 5,599 $(32,713)
======= ======= ======= ========
Basic Earnings (Loss) per Share:
As reported $ .29 $ .20 $ .51 $ (2.56)
Pro forma .24 .15 .41 (2.65)
Diluted Earnings (Loss) Per Share:
As reported $ .28 $ .20 $ .50 $ (2.52)
Pro forma .24 .15 .40 (2.62)
8. Restructuring and Unusual Items
During the second quarter of 2003, the Company recorded net
restructuring costs and unusual income of $180,000. Restructuring costs of
$469,000, which were accounted for in accordance with SFAS No. 112, related to
severance costs for seven employees across all functions at the Papermaking
Equipment segment's Kadant Lamort subsidiary. These actions were taken in an
effort to improve profitability and were in response to a continued weak market
environment and reduced demand for our products. Unusual income resulted from a
gain of $649,000 from the sale of property, for approximately $921,000 in cash,
at the same subsidiary.
A summary of the changes in accrued restructuring costs, which are
included in other accrued expenses in the accompanying consolidated balance
sheet, follows:
(In thousands) Severance
- -----------------------------------------------------------------------------------------------
Balance at December 28, 2002 $ 28
Provision 469
Usage (21)
Currency translation 36
-------
Balance at June 28, 2003 $ 512
=======
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KADANT INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
8. Restructuring and Unusual Items (continued)
The specific restructuring measures and associated estimated costs are
based on the Company's best judgments under prevailing circumstances. The
Company believes that the restructuring reserve balance is adequate to carry out
the restructuring activities formally identified and committed to as of June 28,
2003, and anticipates that all actions related to these liabilities will be
completed within a 12-month period.
9. Goodwill and Other Intangible Assets
The Company adopted SFAS No. 142, "Goodwill and Other Intangible
Assets," effective December 30, 2001. SFAS No. 142 requires that amortization of
goodwill cease and that the Company evaluate the recoverability of goodwill and
other intangible assets annually, or more frequently if events or changes in
circumstances indicate that the carrying value of an asset might be impaired. As
a result of the adoption of the standard, the Company recorded an after-tax
goodwill impairment charge of $32,756,000 ($45,176,000 pre-tax), which was
recorded as a cumulative effect of change in accounting principle in its
restated results in the first quarter of 2002. This after-tax charge consists of
$29,869,000 at the Papermaking Equipment segment (specifically at the
stock-preparation reporting unit) and $2,887,000 at the Composites and
Fiber-based Products segment (specifically at the fiber-based granules reporting
unit). The impairment charge recorded in 2002 was primarily due to a change in
methodology from the undiscounted cash flow method used in 2001 under the
Company's previous accounting policy, to the discounted cash flow method used in
accordance with SFAS No. 142.
10. Recent Accounting Pronouncements
Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB
- ------------------------------------------------------------------
Statement No. 13, and Technical Corrections
- -------------------------------------------
In May 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." Adoption of the standard is generally required in 2003. Under the
standard, transactions initially classified by the Company as extraordinary
items, such as gains and losses from the Company's early extinguishment of its
convertible debentures, will no longer be treated as such, but instead will be
reported as other nonoperating income or expense. The Company reclassified the
gain from repurchases of its debentures in 2002 to "other income" in the
accompanying statement of operations to conform to this standard.
Accounting for Revenue Arrangements with Multiple Deliverables
- --------------------------------------------------------------
In November 2002, the Emerging Issues Task Force (EITF) reached a final
consensus on EITF No. 00-21, "Accounting for Revenue Arrangements with Multiple
Deliverables." The provisions of EITF No. 00-21 are required to be adopted for
revenue arrangements entered into by the Company in fiscal periods beginning
after June 15, 2003, although early adoption is permitted. EITF No. 00-21
addresses arrangements with customers that have multiple deliverables, such as
equipment and installation, and provides guidance as to when recognition of
revenue for each deliverable is appropriate. The Company is currently evaluating
the impact of the adoption of EITF No. 00-21 on its consolidated financial
statements.
Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
- ----------------------------------------------------------------------------
Indirect Guarantees of Indebtedness of Others
- ---------------------------------------------
In November 2002, the FASB issued FASB Interpretation (FIN) No. 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others." FIN No. 45 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. The
initial recognition and initial measurement provisions of FIN No. 45 are
applicable on a prospective basis to guarantees issued or modified after
December 31, 2002. Adoption of this
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KADANT INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
10. Recent Accounting Pronouncements (continued)
standard did not have an effect on the Company's financial statements. See Note
4 for the Company's related disclosure requirement under this standard.
Item 2 - Management's Discussion and Analysis of Financial Condition and Results
- --------------------------------------------------------------------------------
of Operations
-------------
Throughout this report on Form 10-Q, we make forward-looking statements,
which are statements concerning possible or assumed future results of
operations. When we use words such as "believes," "expects," "anticipates,"
"intends," "plans," "estimates," "should," "likely," "will," or similar
expressions, we are making forward-looking statements. Forward-looking
statements are not guarantees of performance. They involve risks, uncertainties,
and assumptions, and are based on the beliefs and assumptions of our management,
using information currently available to our management. Our future results of
operations may differ materially from those expressed in the forward-looking
statements. Many of the important factors that will determine these results and
values are beyond our ability to control or predict. You should not put undue
reliance on any forward-looking statements. For a discussion of important
factors that may cause our actual results to differ materially from those
suggested by the forward-looking statements, you should read carefully the
section captioned "Risk Factors" in this report on Form 10-Q. We assume no
obligation to update any such forward-looking statements.
Overview
Company Background
We operate in two segments: the Pulp and Papermaking Equipment and
Systems (Papermaking Equipment) segment and the Composite and Fiber-based
Products segment. Through our Papermaking Equipment segment, we develop,
manufacture, and market a range of equipment and products for the domestic and
international papermaking and paper recycling industries. We have a large,
stable customer base that includes most of the world's major paper manufacturers
and, as a result, we have one of the largest installed bases of equipment in the
pulp and paper industry. Our installed base provides us with a spare parts and
consumables business that yields higher margins than our capital equipment
business, and which we believe is less susceptible to the cyclical trends in the
paper industry.
Through our Composite and Fiber-based Products segment, we develop,
manufacture, and market composite products made from recycled fiber and plastic,
primarily for the building industry, and manufacture and sell granules derived
from pulp fiber for use as agricultural carriers and for home lawn and garden
applications.
Prior to our incorporation, we operated as a division of Thermo Electron
Corporation. We were incorporated in Delaware in November 1991 as a wholly owned
subsidiary of Thermo Electron, and as the successor-in-interest to several of
its subsidiaries. In November 1992, we conducted an initial public offering of
our common stock and became a majority-owned public subsidiary of Thermo
Electron. On July 12, 2001, we changed our name to Kadant Inc. from Thermo
Fibertek Inc., and on August 8, 2001, we were spun off from Thermo Electron and
became a fully independent public company.
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KADANT INC.
Overview (continued)
Pulp and Papermaking Equipment and Systems Segment
Our Papermaking Equipment segment designs and manufactures
stock-preparation systems and equipment, papermaking machine accessories, and
water-management systems for the paper and paper recycling industries. Our
principal products include:
- Stock-preparation systems and equipment: custom-engineered systems
and equipment for pulping, de-inking, screening, cleaning, and
refining waste fiber to prepare it for entry into the paper machine
during production of recycled paper;
- Papermaking machine accessory equipment: doctoring systems and related
consumables that clean papermaking rolls to keep paper machines
running efficiently, and profiling systems that control moisture, web
curl, and gloss during paper production; and
- Water-management systems: equipment that is essential for the
continuous cleaning of paper machine fabrics and the draining,
purifying, and recycling of process water during paper sheet
formation.
Composite and Fiber-Based Products Segment
Our Composite and Fiber-based Products segment consists of two product
lines: composite building products and fiber-based granular products. Our
principal products include:
- Composite building products: decking and railing systems and roof
tiles that we develop and produce from a combination of recycled
fiber, plastic, and other materials, and market primarily to the
building industry; and
- Fiber-based granular products: biodegradable, absorbing granules that
we produce from papermaking byproducts for use as agricultural
carriers and for home lawn and garden applications.
International Sales
During 2002, approximately 50% of our sales were to customers outside the
United States, principally in Europe. We generally seek to charge our customers
in the same currency in which our operating costs are incurred. However, our
financial performance and competitive position can be affected by currency
exchange rate fluctuations affecting the relationship between the U.S. dollar
and foreign currencies. We reduce our exposure to currency fluctuations through
the use of forward currency exchange contracts. We may enter into forward
contracts to hedge certain firm purchase and sale commitments denominated in
currencies other than our subsidiaries' functional currencies. These contracts
hedge transactions principally denominated in U.S. dollars.
Application of Critical Accounting Policies and Estimates
The discussion and analysis of our financial condition and results of
operations are based upon our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements requires us to make
estimates and assumptions that affect
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KADANT INC.
Overview (continued)
the reported amounts of assets and liabilities, disclosure of contingent assets
and liabilities at the date of our financial statements, and the reported
amounts of revenues and expenses during the reporting period. Our actual results
may differ from these estimates under different assumptions or conditions.
Critical accounting policies are defined as those that reflect
significant judgments and uncertainties, and could potentially result in
materially different results under different assumptions and conditions. We
believe that our most critical accounting policies, upon which our financial
condition depends and which involve the most complex or subjective decisions or
assessments, are those described in "Management's Discussion and Analysis of
Financial Condition and Results of Operations" under the section captioned
"Application of Critical Accounting Policies and Estimates" in Exhibit 13 to our
Annual Report on Form 10-K for the fiscal year ended December 28, 2002, filed
with the Securities and Exchange Commission. There have been no material changes
since year-end 2002 that warrant further disclosure.
Industry and Business Outlook
Our products are primarily sold to the pulp and paper industry. The
paper industry has been in a prolonged downcycle, characterized by weak pulp and
paper prices, decreased capital spending, and consolidation of companies within
the industry. In response to weak market conditions, paper companies frequently
reduce capacity and postpone, or even cancel, capacity addition or expansion
projects. These trends, along with paper companies' actions to quickly idle
their paper machines to adjust supply and demand, have adversely affected our
business. Over the long term, as the markets recover, we expect that
consolidation in the paper industry and improved capacity management will have a
positive effect on paper companies' financial performance and, in turn, will be
favorable to both paper companies and their suppliers, such as Kadant.
There has been a significant amount of papermaking downtime in the pulp
and paper industry in the last few years. This, coupled with weakened conditions
in the world economy, has produced a difficult market environment resulting in
deferrals of capital projects by paper companies and pricing pressure in some of
our product lines. To mitigate the effects of these difficult market conditions,
we are concentrating our efforts on several initiatives to improve our operating
results, including focusing on higher-margin parts and consumables businesses
across all our product lines, sourcing the manufacture of non-proprietary
components from third-party suppliers, shifting more production to our
lower-cost manufacturing facilities, and lowering our manufacturing overhead
costs throughout the business. In addition, we continue to focus our efforts on
managing our operating costs, capital expenditures, and working capital.
Despite the challenging industry environment, we are pursuing several
market opportunities. In the last several years, China has become a significant
market for our products. Revenues from China primarily arise from large capital
orders, the timing of which is often difficult to predict. To capitalize on this
growing market, we are in the process of establishing an assembly facility in
China for our stock-preparation equipment and related aftermarket products.
During the first half of 2003, we received orders from China of approximately
$17 million for stock-preparation equipment (approximately $16 million and $1
million in the first and second quarters of 2003, respectively). We expect to
receive additional orders from China during the balance of the year, although
not necessarily at this level.
In the second quarter of 2003, on a consolidated basis, total Company
bookings decreased by 11% to $43.4 million (including a 5% increase from the
favorable effect of currency translation) versus a year ago. The decrease in
bookings largely resulted from a 9% decrease in orders (including a 6% increase
due to the favorable effect of currency translation) at the Papermaking
Equipment segment, primarily in the stock preparation product line. Bookings in
this product line continue to be hampered by tight capital spending due to
sluggish industry conditions in both North America and Europe, and were also
affected by the expected decrease in orders from China in the second quarter of
2003, as noted above.
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KADANT INC.
Overview (continued)
We have also continued to invest in our composite building products
business, which, we believe, provides us with another internal growth
opportunity. We believe that the market for composite building products will
grow as consumer awareness of the advantages of these products increases their
acceptance as an alternative to traditional wood products, especially in light
of the phase-out of pressure-treated lumber that contains chromated copper
arsenate (CCA), a potentially harmful preservative. We are continuing our
marketing program for our composite building products and are expanding our
distribution network, with numerous distribution centers carrying our products
throughout the U.S. An unusually long winter, followed by a wet spring in much
of the U.S., delayed the start of the building season and contributed to an
increase in inventory levels, just as we improved our capacity and operating
rates at our Green Bay, Wisconsin, facility. Most, but not all, of our
distributors have worked through their inventory and are now reordering, as
evidenced by an increase in bookings to $2.8 million in the second quarter of
2003, from a relatively low level of $1.4 million in the first quarter of 2003.
We believe our largest distributor still has sufficient inventory levels, as it
has not placed orders in significant amounts in 2003. We expect to reduce our
operating rates at the Green Bay facility in the third quarter of 2003, as we
believe that we currently have sufficient inventory to meet customer demands. In
addition, the price of plastic used in our composite products dramatically
increased in the first half of 2003, although it has recently returned to more
traditional levels. Plastic is the largest cost in the manufacture of our
composite products, and this increase, along with lower overhead absorption due
to the anticipated lower production levels, will have a significant impact on
our profitability in the composite building products business for the remainder
of 2003, particularly in the third quarter of 2003, when products manufactured
using the higher-cost plastic will be sold. In addition, our composite products
business has recently experienced an increase in warranty claims. A continued
increase in warranty claims would also have an adverse impact on the
profitability of this business. These factors considered, we expect the
composite building products business to report an operating loss of $300,000 to
$400,000 in the third quarter of 2003, and about the same loss for all of 2003.
Revenues are expected to be $3 to $4 million in the third quarter of 2003, and
$13 to $15 million for the year.
Factoring in our current booking levels, and the probable timing of
orders from China in the second half of 2003, we expect to earn, on a
consolidated GAAP (generally accepted accounting principles) basis, from $.17 to
$.19 per diluted share, on revenues of $44 to $46 million in the third quarter
of 2003. For the full year, we are maintaining our earlier consolidated earnings
guidance of $.84 to $.92 per diluted share (on a GAAP basis), on revenues of
$195 to $200 million (changed from $190 to $200 million). We are also factoring
in the continued uncertainty in the worldwide economy and in the paper industry
- - the net effect being lower sequential earnings in the third quarter of 2003.
Results of Operations
Second Quarter 2003 Compared With Second Quarter 2002
- -----------------------------------------------------
Revenues
Revenues increased to $55.8 million in the second quarter of 2003 from
$46.4 million in the second quarter of 2002, an increase of $9.4 million, or
20%. Revenues in 2003 include the favorable effect of currency translation of
$3.3 million due to a weaker U.S. dollar relative to most of the functional
currencies in countries in which we operate.
Pulp and Papermaking Equipment and Systems Segment. Revenues at the
Papermaking Equipment segment increased to $50.7 million in the second quarter
of 2003 compared with $41.9 million in the second quarter of 2002, an increase
of $8.8 million, or 21%. Revenues in 2003 include a 13% increase from internal
growth and an 8% increase from the favorable effect of currency translation
described above, all of which occurred in this segment. Revenues from the
segment's stock-preparation equipment product line increased by $8.1 million, or
42%, in 2003 primarily as a result of a 31% increase from internal growth, due
primarily to an increase in sales to China, and an 11% increase from the
favorable effect of currency translation. Revenues from the segment's
accessories and water-management product lines increased in 2003 by $0.5
million, or 4%, and $0.2 million, or 3%, respectively, primarily due to an
increase from
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KADANT INC.
Second Quarter 2003 Compared With Second Quarter 2002 (continued)
- -----------------------------------------------------
the favorable effect of currency translation. The net increase of 4% in the
accessories product line included a decrease due to declines in demand in Europe
and North America as a result of machine shutdowns and mill closures caused by
industry consolidation and capacity rationalization.
Composite and Fiber-Based Products Segment. Revenues at the Composite
and Fiber-based Products segment increased to $5.1 million in the second quarter
of 2003 from $4.5 million in 2002, as a result of an increase of $1.2 million in
sales of our composite building products due to higher demand resulting from our
increased marketing efforts and expansion of our distribution channels. This
increase was slightly offset by a decrease in revenues from our fiber-based
granular products of $0.6 million in the second quarter of 2003 compared with
the second quarter of 2002 primarily due to a decrease in sales of our granules
for home lawn and garden use to a large customer.
Gross Profit Margin
Gross profit margin decreased to 37% in the second quarter of 2003 from
39% in the second quarter of 2002. The gross profit margin at the Papermaking
Equipment segment decreased to 37% in 2003 from 40% in the second quarter of
2002 primarily due to an overall change in product mix to a higher percentage of
lower-margin capital equipment revenues, offset slightly by an increase in parts
and consumables gross profit margins. The gross profit margin at the Composite
and Fiber-based Products segment increased to 37% in the second quarter of 2003
from 32% in the second quarter of 2002 primarily as a result of efficiencies
associated with higher levels of production of our composite building products
and higher net prices, offset in part by higher costs of plastic used in
production and higher-than-expected warranty provisions for composite products
made during the quarter. The price of plastic used to produce our composite
products increased dramatically in the first half of the year, although it has
recently returned to more traditional levels. We expect that our gross profit
margins in the third quarter of 2003 will be adversely affected by the higher
plastic costs and reduced operating rates, as previously mentioned. If plastic
prices were to further increase from their current levels during the remainder
of 2003, the gross profit margins at this segment would continue to be adversely
affected. In addition, a continued increase in warranty claims would also
adversely the gross profit margins at this segment. Gross profit margins from
our fiber-based granular products decreased slightly as a result of an increase
in the cost of natural gas used in our production process.
Operating Expenses
Selling, general, and administrative expenses as a percentage of
revenues were 24% in the second quarter of 2003 compared with 27% in the second
quarter of 2002 due to the increase in revenues. Selling, general, and
administrative expenses increased to $13.4 million in 2003 from $12.6 million in
2002 primarily due to an increase of $0.6 million from the unfavorable effect of
foreign currency translation at the Papermaking Equipment segment.
Research and development expenses as a percentage of revenues were 2% in
the second quarters of 2003 and 2002. Research and development expenses
increased to $1.3 million in 2003 compared with $1.2 million in 2002, primarily
at the Papermaking Equipment segment due to the unfavorable effect of foreign
currency translation at the Papermaking Equipment segment.
Restructuring and Unusual Items
During the second quarter of 2003, we recorded net restructuring costs
and unusual income of $0.2 million. Restructuring costs of $0.5 million, which
were accounted for in accordance with SFAS No. 112, related to severance costs
for seven employees across all functions at the Papermaking Equipment segment's
Kadant Lamort subsidiary. These actions were taken in an effort to improve
profitability and were in response to a continued weak market environment and
reduced demand for our products. We estimate annual savings from these actions
of approximately $0.4 million primarily in cost of revenues beginning in the
latter part of 2003. Unusual income resulted from a gain of $0.6 million from
the sale of property, for approximately $0.9 million in cash, at the same
subsidiary (Note 8).
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KADANT INC.
Second Quarter 2003 Compared With Second Quarter 2002 (continued)
- -----------------------------------------------------
Interest Income and Expense
Interest income decreased to $0.2 million in the second quarter of 2003
from $0.6 million in the second quarter of 2002 primarily due to lower average
invested balances. The decrease in average invested balances primarily relates
to the repurchase and redemption of our subordinated convertible debentures in
2002, offset in part by proceeds received from our June 2002 public stock
offering.
Interest expense decreased to $11,000 in the second quarter of 2003 from
$1.2 million in the second quarter of 2002 as a result of the redemption and
repurchases of our subordinated convertible debentures in 2002. We expect
interest expense will be significantly lower throughout 2003 compared with 2002
due to the redemption of the debentures.
Income Taxes
Our effective tax rate was 38% in the second quarters of 2003 and 2002.
The effective tax rates exceeded the statutory federal income tax rate primarily
due to the impact of state income taxes and nondeductible expenses.
First Six Months 2003 Compared With First Six Months 2002
- ----------------------------------------------------------
Revenues
Revenues increased to $107.2 million in the first six months of 2003 from
$89.7 million in the first six months of 2002, an increase of $17.5 million, or
19%. Revenues in 2003 include the favorable effect of currency translation of
$5.4 million due to a weaker U.S. dollar relative to most of the functional
currencies in countries in which we operate.
Pulp and Papermaking Equipment and Systems Segment. Revenues at the
Papermaking Equipment segment increased to $96.2 million in the first six months
of 2003 compared with $82.5 million in the first six months of 2002, an increase
of $13.7 million, or 17%. Revenues in 2003 include a 10% increase from internal
growth and a 7% increase from the favorable effect of currency translation
described above, all of which occurred in this segment. Revenues from the
segment's stock-preparation equipment product line increased by $14.0 million,
or 37%, in 2003 as a result of a 28% increase from internal growth primarily due
to an increase in sales to China and, to a lesser extent, a 9% increase from the
favorable effect of currency translation. The net increase in internal growth
included decreases in sales in Europe and North America due to continued market
weakness. Revenues from the segment's accessories product line increased
slightly in 2003 by $0.2 million, or 1%, due to a 6% increase from the favorable
effect of currency translation, largely offset by decreases in demand in North
America and Europe as a result of machine shutdowns and mill closures caused by
industry consolidation and capacity rationalization. Revenues from the segment's
water management product line decreased $0.4 million, or 2%, primarily due to
machine shutdowns and mill closures in North America and Europe as previously
discussed, offset in part by a 2% increase from the favorable effect of currency
translation.
Composite and Fiber-Based Products Segment. Revenues at the Composite
and Fiber-based Products segment increased to $10.9 million in the first six
months of 2003 from $7.2 million in 2002 as a result of a $4.5 million increase
in sales of our composite building products due to higher demand resulting from
our winter buy discount program, increased marketing efforts, and expansion of
our distribution channels. This increase was slightly offset by a decrease in
revenues from our fiber-based granular products of $0.8 million in the first six
months of 2003 compared with the first six months of 2002 primarily due to a
decrease in revenues from our granules used in home lawn and garden and cat-box
filler products.
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KADANT INC.
First Six Months 2003 Compared With First Six Months 2002 (continued)
- ---------------------------------------------------------
Gross Profit Margin
Gross profit margin decreased to 37% in the first six months of 2003
from 38% in the first six months of 2002. The gross profit margin at the
Papermaking Equipment segment decreased to 38% in 2003 from 39% in 2002
primarily due to an overall change in product mix to a higher percentage of
lower-margin capital equipment revenues, offset in part by an increase in parts
and consumables gross profit margins. The gross profit margin at the Composite
and Fiber-based Products segment increased to 35% in the first six months of
2003 from 26% in the first six months of 2002 due to the reasons discussed in
the results of operations for the second quarter of 2003.
Operating Expenses
Selling, general, and administrative expenses as a percentage of
revenues were 25% in the first six months of 2003 compared with 28% in the first
six months of 2002 due to the increase in revenues. Selling, general, and
administrative expenses increased to $26.9 million in 2003 from $25.3 million in
2002 primarily due to an increase of $1.3 million from the unfavorable effects
of foreign currency translation at the Papermaking Equipment segment.
Research and development expenses as a percentage of revenues were 2% in
the first six months of 2003 compared with 3% in the first six months of 2002
primarily due to the increase in revenues.
Restructuring and Unusual Items
During the first six months of 2003, we recorded net restructuring
costs and unusual income of $0.2 million. Restructuring costs of $0.5 million,
which were accounted for in accordance with SFAS No. 112, related to severance
costs for seven employees across all functions at the Papermaking Equipment
segment's Kadant Lamort subsidiary. These actions were taken in an effort to
improve profitability and were in response to a continued weak market
environment and reduced demand for our products. Unusual income resulted from a
gain of $0.6 million from the sale of property, for approximately $0.9 million
in cash, at the same subsidiary (Note 8).
During the first six months of 2002, we recorded restructuring and
unusual costs of $3.6 million. Restructuring costs of $1.0 million, which were
accounted for in accordance with Emerging Issues Task Force Pronouncement No.
94-3, related to severance costs for 62 employees across all functions primarily
at the Papermaking Equipment segment, 60 of whom were terminated as of June 29,
2002. These actions were taken in an effort to improve profitability and were in
response to a continued weak market environment and reduced demand for our
products. Unusual costs of $2.6 million include noncash charges of $2.4 million
for asset writedowns, consisting of $1.0 million for the impairment of a
laboratory in Ohio held for sale at the Papermaking Equipment segment, and $1.4
million for the writedown of fixed assets held for sale at the Composite and
Fiber-based Products segment; and $0.2 million for related disposal and
facility-closure costs. We believe we achieved annual savings of approximately
$4.5 million ($1.7 million in cost of revenues; $2.3 million in selling,
general, and administrative expenses; and $0.5 million in research and
development expenses) from these actions beginning in the first six months of
2002.
Interest Income and Expense
Interest income decreased to $0.5 million in the first six months of
2003 from $1.3 million in the first six months of 2002 primarily due to lower
average invested balances. The decrease in average invested balances primarily
relates to the repurchase and redemption of our subordinated convertible
debentures in 2002, offset in part by proceeds received from our June 2002
public stock offering.
Interest expense decreased to $28,000 in the first six months of 2003
from $2.6 million in the first six months of 2002 as a result of the repurchases
and redemption of our subordinated convertible debentures in 2002.
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KADANT INC.
First Six Months 2003 Compared With First Six Months 2002 (continued)
- ---------------------------------------------------------
Income Taxes
Our effective tax rate was 38% in the first six months of 2003 and 2002.
The effective tax rates exceeded the statutory federal income tax rate primarily
due to the impact of state income taxes and nondeductible expenses.
Cumulative Effect of Change in Accounting Principle
In accordance with the requirements of SFAS No. 142, "Goodwill and Other
Intangible Assets," which we adopted as of December 30, 2001, we recorded a
transitional goodwill impairment charge in our restated results in the first
quarter of 2002, representing the cumulative effect of a change in accounting
principle of $32.8 million (consisting of $29.9 million at the Papermaking
Equipment segment and $2.9 million at the Composite and Fiber-based Products
segment), net of income tax benefit of $12.4 million. The impairment charge
recorded in 2002 was primarily due to a change in methodology from the
undiscounted cash flow method used in 2001 under our previous accounting policy,
to the discounted cash flow method used in accordance with SFAS No. 142 (Note
9).
Liquidity and Capital Resources
Consolidated working capital was $90.6 million at June 28, 2003, compared
with $74.7 million at December 28, 2002. Included in working capital are cash
and cash equivalents of $52.5 million at June 28, 2003, compared with $44.4
million at December 28, 2002. Of the total cash and cash equivalents at June 28,
2003, $7.7 million was held by a majority-owned subsidiary, and the remainder
was held by our wholly owned subsidiaries and us. At June 28, 2003, $34.8
million of cash and cash equivalents was held by our foreign subsidiaries.
During the first six months of 2003, cash of $3.1 million was provided
by operating activities, compared with $12.6 million in the first six months of
2002. Cash of $7.7 million was used by an increase in unbilled contract costs
and fees due to the timing of progress billings on large contracts. Cash of $4.3
million was also used by an increase in accounts receivable due to the timing of
cash receipts. In addition, an increase in inventories used cash of $1.4 million
in 2003 as a result of our efforts to match inventory levels with expected
demand at the Composite and Fiber-based Products segment, offset in part by a
decrease in inventory at the Papermaking Equipment segment. An increase in
accounts payable provided a source of cash of $4.8 million in 2003 primarily at
the Papermaking Equipment segment due to the timing of payments. In addition, an
increase of $2.7 million in cash resulted from an increase in other accrued
liabilities, primarily due to an increase in accrued income taxes and, to a
lesser extent, proceeds received from the settlement of a forward foreign
currency hedge contract.
Our investing activities used $0.6 million of cash in the first six
months of 2003, compared with $5.4 million in the first six months of 2002.
During the first six months of 2003, we purchased property, plant, and equipment
for $1.4 million, including $0.8 million at our composite building products
business.
Our financing activities provided cash of $0.2 million in the first six
months of 2003, compared with a use of cash of $13.2 million in the first six
months of 2002. During the first six months of 2003, proceeds of $0.8 million
from the issuance of common stock in connection with our employee stock option
and stock purchase plans were largely offset by the repayment of $0.6 million of
long-term notes payable.
In May 2003, our board of directors authorized the repurchase of up to
$25 million of our equity securities in the open market or in negotiated
transactions through May 15, 2004. As of June 28, 2003, all $25 million
authorized remained unused.
At June 28, 2003, we had $42.1 million of unremitted foreign earnings
that could be subject to tax if remitted to the U.S. Our practice is to reinvest
indefinitely the earnings of certain of our international subsidiaries. We do
not expect that this will have a material adverse effect on our current
liquidity.
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KADANT INC.
Liquidity and Capital Resources (continued)
Although we currently have no material commitments for capital
expenditures, we plan to make expenditures during the remainder of 2003 for
property, plant, and equipment of approximately $2.6 million, including $1.2
million at our composite building products business. We no longer expect to
expand our Green Bay facility in 2003, although we do expect to make significant
investments in production equipment. In addition, we are planning to establish
an assembly facility in China to support our stock-preparation equipment
business. We presently estimate that the facility will be operational in
mid-2004 and that the costs to establish this new facility, most of which we
expect to incur in 2004, could range from $2 to $3 million.
In the future, our liquidity position will be primarily affected by the
level of cash flows from operations and the amount of cash expended on capital
expenditures, or on acquisitions, if any. We believe that our existing
resources, together with the cash we expect to generate from operations, are
sufficient to meet the capital requirements of our current operations for the
foreseeable future.
Risk Factors
In connection with the "safe harbor" provisions of the Private
Securities Litigation Reform Act of 1995, we wish to caution readers that the
following important factors, among others, in some cases have affected, and in
the future could affect, our actual results and could cause our actual results
in 2003 and beyond to differ materially from those expressed in any
forward-looking statements made by us, or on our behalf.
Our business is dependent on the condition of the pulp and paper industry, which
is currently in a downcycle.
We sell products primarily to the pulp and paper industry. Generally,
the financial condition of the global pulp and paper industry corresponds to the
condition of the general economy, as well as to a number of other factors,
including pulp and paper production capacity relative to demand. The global pulp
and paper industry has been in a prolonged downcycle, resulting in depressed
pulp and paper prices, decreased spending, mill closures, consolidations, and
bankruptcies, all of which have adversely affected our business. The pulp and
paper industry has been affected by higher energy prices and slowing economies
in North America and Europe. As paper companies continue to consolidate in
response to market weakness, they frequently reduce capacity and postpone or
even cancel capacity addition or expansion projects. The financial condition of
the pulp and paper industry may not improve in the near future, and the severity
of the downturn could expand to our Asian business.
Our business is subject to economic, currency, political, and other risks
associated with international sales and operations.
During 2002, approximately 50% of our sales were to customers outside
the United States, principally in Europe and China. International revenues are
subject to a number of risks, including the following:
- agreements may be difficult to enforce and receivables difficult to
collect through a foreign country's legal system;
- foreign customers may have longer payment cycles;
- foreign countries may impose additional withholding taxes or
otherwise tax our foreign income, impose tariffs, or adopt other
restrictions on foreign trade; and
- the protection of intellectual property in foreign countries may be
more difficult to enforce.
Although we seek to charge our customers in the same currency in which our
operating costs are incurred, fluctuations in currency exchange rates may affect
product demand and adversely affect the profitability in U.S. dollars of
products we provide in international markets where payment for our products and
services is made in their local currencies. Any of these factors could have a
material adverse impact on our business and results of operations.
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KADANT INC.
Risk Factors (continued)
An increasing portion of our international sales has and may in the
future come from China. We are in the process of establishing an assembly
facility in China for our stock-preparation equipment and related aftermarket
parts. An increase in revenues, as well as operation of an assembly facility in
China, will expose us to increased risk in the event of changes in the policies
of the Chinese government, political unrest, unstable economic conditions, or
other developments in China or in U.S.-China relations that are adverse to
trade, including enactment of protectionist legislation or trade restrictions.
In addition, orders from customers in China, particularly for large systems that
have been tailored to a customer's specific requirements, involve increased risk
of cancellation prior to shipment due to payment terms that are applicable to
doing business in China. The timing of these orders is often difficult to
predict.
We are subject to intense competition in all our markets.
We believe that the principal competitive factors affecting the markets
for our products include quality, price, service, technical expertise, and
product innovation. Our competitors include a number of large multinational
corporations such as Voith Paper GmbH and Metso Corporation. Competition,
especially in China, will increase as new companies enter the market and as
existing competitors expand their product lines and intensify efforts within
existing product lines. Competitors' technologies may prove to be superior to
ours. Many of these competitors may have substantially greater financial,
marketing, and other resources than we do. As a result, they may be able to
adapt more quickly to new or emerging technologies and changes in customer
requirements, or to devote greater resources to the promotion and sale of their
services and products. Our current products, those under development, and our
ability to develop new technologies may not be sufficient to enable us to
compete effectively. In addition, our composite building products business is
subject to intense competition, particularly in the decking market, from
traditional wood products and other composite manufacturers, many of whom have
greater financial, technical, and marketing resources than we do. As a result,
we may be unable to compete successfully in this market.
Our composite building products business is a relatively new entrant into a new
market. Our success will depend on our ability to manufacture and commercialize
our composite building products.
In 2000, we began to develop, produce, market, and sell composite
products primarily for the building industry. Development, manufacturing, and
commercialization of our composite building products require significant
development and testing, and technical expertise in the formulation and
manufacture of the products, and our efforts may not be successful. Further,
growth of our composite building products business requires ongoing market
acceptance. We expect to incur significant expenses to successfully market and
distribute these products. Our ability to market these products successfully
depends on the willingness of consumers to purchase fiber-based composite
products as an alternative to traditional building products. To penetrate the
market and gain market share, we need to educate consumers, including wood
suppliers, distributors, contractors, and homebuilders, regarding the benefits
of our fiber-based composite products over products made of wood, slate, and
other traditional materials. This strategy may not be successful. We have little
experience manufacturing these products at volume, cost, and quality levels
sufficient to satisfy expected demand, and we may encounter difficulties in
connection with any large-scale manufacturing or commercialization of these new
products. If we are successful, our capacity may not be sufficient to meet
demand without significant additional investment. In addition, the majority of
our production is largely dependent upon a single piece of equipment. If that
equipment were to fail for an extended period of time and spare parts or
replacement equipment were not readily obtainable, it would have a material
adverse effect on our revenues from this business in that period. If we were to
exit this business, we would incur significant losses.
Our composite building products business may not be able to obtain effective
distribution of its products.
The composite building products business is subject to intense
competition, and we rely on distributors in the building products industry to
market, distribute, and sell our products. We may be unable to produce our
products in sufficient quantity to interest or retain these distributors or to
add new distributors. If we are unable to distribute our products effectively,
our revenues will decline and we will have to incur additional expenses to
market these products directly.
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KADANT INC.
Risk Factors (continued)
Higher interest rates could adversely affect demand for our composite building
products.
Demand for our composite building products is affected by several factors
beyond our control, including weather conditions and economic conditions. Recent
demand for our products has been driven, in part, by the availability of
low-interest mortgage and home equity loans. An increase in interest rates or
tightened credit could adversely affect demand for home remodeling projects,
including demand for our products.
Seasonality and weather conditions could adversely affect our business.
In general, the building products industry experiences seasonal
fluctuations in sales, particularly in the winter and early spring, when
holidays and adverse weather conditions in some regions usually reduce the level
of home improvement and new construction activity. In addition, our composite
building products are used or installed in outdoor construction applications,
and our sales volume, bookings, gross margins, and operating income can be
negatively affected by adverse weather conditions. As our business grows, we
would expect our performance to reflect these seasonal variations. Operating
results will tend to be lower in quarters with lower sales, which are not
entirely offset by a corresponding reduction in operating costs. In addition, we
may also experience lower gross profit margins in the fourth and first quarters
due to seasonal incentive discounts offered to our distributors. As a result of
these factors, we believe sequential period-to-period comparisons of our
operating results are not reliable indicators of future performance, and the
operating results for any one quarterly period may not be indicative of
operating results to be expected for a full year.
The failure of our composite building products to perform over long periods of
time could result in potential liabilities.
Our composite building products are new, have not been on the market for
long periods of time, and may be used in applications for which we may have
little knowledge or limited experience. Because we have limited historical
experience, we may be unable to predict the potential liabilities related to
product warranty or product liability issues. If our products fail to perform
over their warranty periods, we may not have the ability to protect ourselves
adequately against this potential liability, which could adversely affect our
operating results.
We are dependent on a single mill for the raw material used in our composite
building products and fiber-based granules, and we may not be able to obtain raw
material on commercially reasonable terms; and the manufacture of our
fiber-based granules is subject to commodity price risks.
We are dependent on a single paper mill for the fiber used in the
manufacture of our composite building products and fiber-based granules. This
mill has the exclusive right to supply the papermaking byproducts used in our
process to manufacture the granules. Although we believe our relationship with
the mill is good, the mill could decide to terminate its relationship with us,
and we would be forced to find an alternative supply for this raw material. We
may be unable to find an alternative supply on commercially reasonable terms or
could incur excessive transportation costs if an alternative supplier were
found, which would increase our manufacturing costs and may prevent our products
from being competitive. Our composite building products also contain plastic,
which is subject to wide fluctuations in pricing, quality, and availability. Due
to higher energy costs, the price of plastic significantly increased in early
2003, although it has recently returned to more traditional levels. In the
future, we may be unable to obtain sufficient quantities at reasonable prices,
which would adversely affect our profitability and ability to produce a
sufficient quantity of our products or to produce our products at competitive
prices.
In addition, we use natural gas in the production of our fiber-based
granular products. We manage our exposure to natural gas price fluctuations by
entering into short-term forward contracts to purchase a portion of our natural
gas requirements from a supplier. There can be no assurance that we will be
effective in managing our exposure to natural gas price fluctuations.
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KADANT INC.
Risk Factors (continued)
Our inability to successfully identify and complete acquisitions or successfully
integrate any new or previous acquisitions could have a material adverse effect
on our business.
Our strategy includes the acquisition of technologies and businesses
that complement or augment our existing products and services. Promising
acquisitions are difficult to identify and complete for a number of reasons,
including competition among prospective buyers and the need for regulatory,
including antitrust, approvals. Any acquisition we may complete may be made at a
substantial premium over the fair value of the net assets of the acquired
company. We may not be able to complete future acquisitions, integrate any
acquired businesses successfully into our existing businesses, make such
businesses profitable, or realize anticipated cost savings or synergies, if any,
from these acquisitions.
In addition, we have previously acquired several companies and
businesses. As a result of these acquisitions, we have recorded significant
goodwill on our balance sheet, which amounted to approximately $72.6 million as
of June 28, 2003. In accordance with SFAS No. 142, we assess the carrying value
of the goodwill that we have recorded at least annually or whenever events or
changes in circumstances indicate that its current carrying value has
diminished. These events or circumstances generally would include operating
losses or a significant decline in earnings associated with the acquired
business or asset. In the first quarter of 2002, we recorded an after-tax
goodwill impairment charge upon the adoption of this standard of $32.8 million,
consisting of $29.9 million at the Papermaking Equipment segment and $2.9
million at the Composite and Fiber-based Products segment. In accordance with
SFAS No. 142, any future impairment losses identified after adoption will be
recorded as reductions to operating income, which could have a material adverse
effect on our results of operations. Our ability to realize the value of the
goodwill that we have recorded will depend on the future cash flows of these
businesses. These cash flows in turn depend, in part, on how well we have
integrated these businesses.
Our inability to protect our intellectual property could have a material adverse
effect on our business. In addition, third parties may claim that we infringe
their intellectual property, and we could suffer significant litigation or
licensing expense as a result.
We place considerable emphasis on obtaining patent and trade secret
protection for significant new technologies, products, and processes because of
the length of time and expense associated with bringing new products through the
development process and into the marketplace. Our success depends in part on our
ability to develop patentable products and obtain and enforce patent protection
for our products both in the United States and in other countries. We own
numerous U.S. and foreign patents, and we intend to file additional
applications, as appropriate, for patents covering our products. Patents may not
be issued for any pending or future patent applications owned by or licensed to
us, and the claims allowed under any issued patents may not be sufficiently
broad to protect our technology. Any issued patents owned by or licensed to us
may be challenged, invalidated, or circumvented, and the rights under these
patents may not provide us with competitive advantages. A patent relating to our
fiber-based granular products expires in 2004. After that date, we could be
subject to additional competition in this market, which could have an adverse
effect on this business. In addition, competitors may design around our
technology or develop competing technologies. Intellectual property rights may
also be unavailable or limited in some foreign countries, which could make it
easier for competitors to capture increased market position. We could incur
substantial costs to defend ourselves in suits brought against us or to proceed
in suits in which we may assert our patent rights against others. An unfavorable
outcome of any such litigation could have a material adverse effect on our
business and results of operations. In addition, as our patents expire, we rely
on trade secrets and proprietary know-how to protect our products. We cannot be
sure the steps we have taken or will take in the future will be adequate to
deter misappropriation of our proprietary information and intellectual property.
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KADANT INC.
Risk Factors (continued)
We seek to protect trade secrets and proprietary know-how, in part,
through confidentiality agreements with our collaborators, employees, and
consultants. These agreements may be breached, we may not have adequate remedies
for any breach, and our trade secrets may otherwise become known or be
independently developed by our competitors.
Third parties may assert claims against us to the effect that we are
infringing on their intellectual property rights. We could incur substantial
costs and diversion of management resources to defend these claims, which could
have a material adverse effect on our business, financial condition, and results
of operations. In addition, parties making these claims could secure a judgment
awarding substantial damages, as well as injunctive or other equitable relief,
which could effectively block our ability to make, use, sell, distribute, or
market our products and services in the United States or abroad. In the event
that a claim relating to intellectual property is asserted against us, or third
parties not affiliated with us hold pending or issued patents that relate to our
products or technology, we may seek licenses to such intellectual property or
challenge those patents. However, we may be unable to obtain these licenses on
commercially reasonable terms, if at all, and our challenge of the patents may
be unsuccessful. Our failure to obtain the necessary licenses or other rights
could prevent the sale, manufacture, or distribution of our products and,
therefore, could have a material adverse effect on our business, financial
condition, and results of operations.
Fluctuations in our quarterly operating results may cause our stock price to
decline.
Given the nature of the markets in which we participate and the effect
of Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial
Statements" (SAB No. 101), which became effective in January 2000, we cannot
reliably predict future revenues and profitability, and unexpected changes may
cause us to adjust our operations. A significant portion of our costs are fixed,
due in part to our significant selling, research and development, and
manufacturing costs. Thus, small declines in revenues could disproportionately
affect our operating results. Other factors that could affect our quarterly
operating results include:
- failure of our products to pass contractually agreed upon acceptance
tests, which would delay or prohibit recognition of revenues under
SAB No. 101;
- demand for and market acceptance of our products;
- competitive pressures resulting in lower sales prices of our products;
- adverse changes in the pulp and paper industry;
- delays or problems in our introduction of new products;
- our competitors' announcements of new products, services, or
technological innovations;
- contractual liabilities incurred by us related to guarantees of our
product performance;
- increased costs of raw materials or supplies, including the cost of
energy; and
- changes in the timing of product orders.
Anti-takeover provisions in our charter documents and under Delaware law, our
shareholder rights plan, and the potential tax effects of our spinoff from
Thermo Electron could prevent or delay transactions that our shareholders may
favor.
Provisions of our charter and by-laws may discourage, delay, or prevent a
merger or acquisition that our shareholders may consider favorable, including
transactions in which shareholders might otherwise receive a premium for their
shares. For example, these provisions:
- authorize the issuance of "blank check" preferred stock without any
need for action by shareholders;
- provide for a classified board of directors with staggered three-year
terms;
- require supermajority shareholder voting to effect various amendments
to our charter and by-laws;
- eliminate the ability of our shareholders to call special meetings of
shareholders;
- prohibit shareholder action by written consent; and
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KADANT INC.
Risk Factors (continued)
- establish advance notice requirements for nominations for election to
our board of directors or for proposing matters that can be acted on
by shareholders at shareholder meetings.
In addition, our board of directors has adopted a shareholder rights
plan intended to protect shareholders in the event of an unfair or coercive
offer to acquire our company and to provide our board of directors with adequate
time to evaluate unsolicited offers. Preferred stock purchase rights have been
distributed to our common shareholders pursuant to the rights plan. This rights
plan may have anti-takeover effects. The rights plan will cause substantial
dilution to a person or group that attempts to acquire us on terms that our
board of directors does not believe are in our best interests and those of our
shareholders and may discourage, delay, or prevent a merger or acquisition that
shareholders may consider favorable, including transactions in which
shareholders might otherwise receive a premium for their shares.
The tax treatment of the distribution of our common stock by Thermo
Electron under the Internal Revenue Code and regulations thereunder could also
serve to discourage an acquisition of our company. An acquisition of our company
within two years following the distribution, which took place in August 2001,
could result in federal tax liability being imposed on Thermo Electron and, in
more limited circumstances, on shareholders of Thermo Electron who received
shares of our common stock in the distribution. In addition, even acquisitions
occurring more than two years after the distribution could cause the
distribution to be taxable to Thermo Electron if the acquisitions were
determined to be pursuant to an overall plan that existed at the time of the
distribution. As part of the distribution, we have agreed to indemnify Thermo
Electron, but not the shareholders of Thermo Electron, for any resulting tax
liability if the tax liability is attributable to certain acts by us, including
an acquisition of our company. The prospect of that tax liability and our
indemnification obligation may have anti-takeover effects.
A number of actions following our spinoff from Thermo Electron could cause the
distribution to be fully taxable to shareholders of Thermo Electron who received
shares of our common stock in the distribution and/or to Thermo Electron, and to
us.
The IRS has issued a ruling that no gain or loss will be recognized by
us, Thermo Electron, or its shareholders upon the distribution of our common
stock as of the date of the distribution, except with respect to cash received
in lieu of fractional shares of our common stock and distributions of our common
stock acquired by Thermo Electron within the past five years in taxable
transactions. However, the distribution could become fully taxable if we, Thermo
Electron, or the shareholders of Thermo Electron who received shares of our
common stock in the distribution, take any of a number of actions following the
distribution. We have entered into a tax matters agreement with Thermo Electron
that restricts our ability to engage in these types of actions. If any
conditions of the IRS ruling are not satisfied, the distribution could become
taxable to the shareholders of Thermo Electron who received shares of our common
stock in the distribution and/or Thermo Electron. As part of the distribution,
we have agreed to indemnify Thermo Electron, but not the shareholders of Thermo
Electron, for any resulting tax liability if the liability is attributable to
certain acts by us.
Sales of substantial amounts of our common stock may occur from time to time,
which could cause our stock price to decline.
Our shares were distributed pro rata to the shareholders of Thermo
Electron, and from time to time, these shareholders have sold and may in the
future sell substantial amounts of our common stock in the public market if our
shares no longer meet their investment criteria or other objectives. Any sales
of substantial amounts of our common stock in the public market, or the
perception that such sales might occur, whether as a result of the distribution
or otherwise, could cause the market price of our common stock to decline.
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KADANT INC.
Risk Factors (continued)
We may have potential business conflicts of interest with Thermo Electron with
respect to our past and ongoing relationships that could harm our business
operations.
Conflicts of interest may arise between Thermo Electron and us in a
number of areas relating to our past and ongoing relationships, including:
labor, tax, employee benefit, indemnification, and other matters arising from
our separation from Thermo Electron. We may not be able to resolve any of these
potential conflicts.
Item 3 - Quantitative and Qualitative Disclosures About Market Risk
- -------------------------------------------------------------------
Our exposure to market risk from changes in interest rates and foreign
currency exchange rates has not changed materially from our exposure at year-end
2002.
Item 4 - Controls and Procedures
- --------------------------------
(a) Evaluation of Disclosure Controls and Procedures
Our management, together with the participation of our chief executive
officer (CEO) and chief financial officer (CFO), evaluated the effectiveness of
our disclosure controls and procedures (as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act) as of June 28, 2003. Based on this
evaluation, our CEO and CFO concluded that, as of June 28, 2003, our disclosure
controls and procedures were (1) designed to ensure that material information
relating to Kadant, including its consolidated subsidiaries, is made known to
our CEO and CFO by others within those entities, particularly during the period
in which this report was being prepared, and (2) effective, in that they provide
reasonable assurance that information required to be disclosed by us in the
reports that we file or submit under the Securities Exchange Act is recorded,
processed, summarized, and reported within the time periods specified in the
Securities and Exchange Commission's rules and forms.
(d) Changes in Internal Controls Over Financial Reporting
During the period ended June 28, 2003, there were no changes in our
internal control over financial reporting (as defined in Rules 13a-15(f) and
15d-15(f) under the Securities Exchange Act) that materially affected, or were
reasonably likely to materially affect our internal control over financial
reporting.
PART II - OTHER INFORMATION
Item 4 - Submission of Matters to a Vote of Security Holders
- ------------------------------------------------------------
On May 15, 2003, at the annual meeting of shareholders, the shareholders
elected two incumbent directors, Dr. John K. Allen and Mr. Francis L. McKone,
to the class of directors whose three-year term expires at Kadant's annual
meeting of the shareholders in 2006. Dr. Allen received 12,667,091 shares voted
in favor of his election and 215,454 shares voted against. Mr. McKone received
12,326,888 shares voted in favor of his election and 555,657 shares voted
against.
Item 6 - Exhibits and Reports on Form 8-K
- -----------------------------------------
(a) Exhibits
See Exhibit Index on the page immediately preceding exhibits.
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KADANT INC.
Item 6 - Exhibits and Reports on Form 8-K (continued)
- -----------------------------------------
(b) Reports on Form 8-K
On April 11, 2003, we furnished a Current Report on Form 8-K, dated April
10, 2003, under Item 9 - Regulation FD Disclosure (Information Furnished
Pursuant to Item 12 "Disclosure of Results of Operations and Financial
Condition"), containing a copy of a press release issued on April 10, 2003,
relating to our composite building products business.
On April 28, 2003, we filed a Current Report on Form 8-K, dated April 28,
2003, under Item 5 - Other Events regarding a press release issued on April 28,
2003, relating to listing of our common stock on the New York Stock Exchange.
On April 30, 2003, we furnished a Current Report on Form 8-K, dated
April 30, 2003, under Item 9 - Regulation FD Disclosure (Information Furnished
Pursuant to Item 12 "Disclosure of Results of Operations and Financial
Condition"), containing a copy of a press release issued on April 30, 2003,
announcing our financial results for the fiscal quarter ended March 29, 2003.
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized as of the 7th day of August 2003.
KADANT INC.
/s/ Thomas M. O'Brien
----------------------------------------------------
Thomas M. O'Brien
Executive Vice President and Chief Financial Officer
(Principal Financial Officer)
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EXHIBIT INDEX
Exhibit
Number Description of Exhibit
- --------------------------------------------------------------------------------
31.1 Certification of the Principal Executive Officer of the
Registrant Pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the
Securities Exchange Act of 1934, as amended.
31.2 Certification of the Principal Financial Officer of the
Registrant Pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the
Securities Exchange Act of 1934, as amended.
32 Certification of the Chief Executive Officer and the Chief
Financial Officer of the Registrant Pursuant to 18 U.S.C. Section
1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
30