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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER: 000-19580
INDUSTRIAL HOLDINGS, INC.
(exact name of registrant as specified in its charter)
TEXAS 76-0289495
(State or other jurisdiction (IRS Employer
of incorporation or organization) Identification No.)
7135 ARDMORE, HOUSTON, TEXAS 77054
(Address of principal executive offices, including zip code)
(713) 747-1025
(Registrant's telephone number, including area code)
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE.
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
TITLE OF EACH CLASS
COMMON STOCK, $.01 PAR VALUE
CLASS B REDEEMABLE WARRANT
CLASS C REDEEMABLE WARRANT
CLASS D REDEEMABLE WARRANT
Indicate by check mark whether the registrant (i) 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 (ii) has been subject to such
filing requirements for the past 90 days. Yes [ ] No [X]
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]
The aggregate market value of common stock held by non-affiliates of the
registrant was $16,224,926 at June 9, 2000. At that date, there were 15,111,097
shares of common stock outstanding.
TABLE OF CONTENTS
FORM 10-K
PART I
ITEM PAGE
1. Business.......................................................... 1
2. Properties........................................................ 12
3. Legal Proceedings................................................. 13
4. Submission of Matters to a Vote of Security Holders............... 13
PART II
5. Market for Registrant's Common Stock and Related Stockholder
Matters.......................................................... 14
6. Selected Financial Data .......................................... 15
7. Management's Discussion and Analysis of Financial Condition
and Results of Operations ........................................ 16
7.A Quantitative and Qualitative Disclosures About Market Risk ....... 27
8. Financial Statements and Supplementary Data ...................... 27
9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure ......................................... 27
PART III
10. Directors and Executive Officers of the Registrant................ 27
11. Executive Compensation ........................................... 29
12. Security Ownership of Certain Beneficial Owners and Management.... 33
13. Certain Relationships and Related Transactions.................... 34
PART IV
14. Exhibits, Financial Statement Schedules and Reports on Form 8-K .. 35
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UNLESS OTHERWISE INDICATED, ALL REFERENCES TO "WE," "US," "OUR," "OUR
COMPANY" OR "IHI" INCLUDE INDUSTRIAL HOLDINGS, INC. AND ALL OF ITS SUBSIDIARIES.
PART I
ITEM 1. BUSINESS
GENERAL
We own and operate a diversified group of middle-market industrial
manufacturing and distribution businesses. Our operations are organized into
four business segments: (i) fastener manufacturing and distribution; (ii) heavy
fabrication; (iii) valve manufacturing and repair (now known as "energy"); and
(iv) machine tool distribution. We believe our businesses are characterized by
strong market positions in niche markets, high value-added products and
services, an established and diversified customer base, experienced and
committed management, cost-efficient equipment and production facilities with a
low sensitivity to technological change. Our products and services are sold to a
broad customer base in the automotive, home furnishings, petrochemical, oil and
gas and various other industrial and consumer products industries. Most of our
products are manufactured to specific technical requirements and for specific
customer orders. We believe that the diversified nature of our products,
services and end-user markets reduces the effect of operating performance
fluctuations in any one of our core business segments and limits our overall
exposure to cyclical downturns within individual industry sectors.
Industrial Holdings, Inc. was incorporated in August 1989. Our principal
executive offices are located at 7135 Ardmore, Houston, Texas 77054, and our
telephone number is (713) 747-1025.
BUSINESS STRATEGY
In June 2000, we reached an agreement in principle with our senior lenders to
amend our revolving line of credit agreement, including covenants we believe we
will be able to comply with. We expect that the new maturity date will be
January 31, 2001. There can be no assurance that the agreement to amend our
revolving line of credit will be executed. Although this proposed agreement will
help to address our near-term liquidity issues, we still have substantial debt
obligations, including $87.3 million in notes payable and revolving credit debt,
which are currently in default. Therefore, we will continue to pursue various
financing alternatives to meet our future short-term liquidity needs. We
anticipate refinancing our debt facilities in 2000, although no assurances can
be given that we will be able to refinance our debt or that we will be able to
obtain terms that are as favorable as those that currently exist.
In addition to our current focus on refinancing our indebtedness, our
business strategy is to increase the sales, cash flow and profitability of each
business segment through a turnaround plan that was developed and implemented by
the Company to address the operational difficulties that occurred during 1999
and into 2000. This turnaround plan entails streamlining our operations and
refocusing on our core competencies in the following three areas:
ENHANCE REVENUE GROWTH. We believe that significant opportunities exist to
enhance revenue growth in our business segments. We plan to achieve this
growth by (i) promoting cross-selling opportunities across our customer base;
(ii) identifying new applications and new markets for our existing products,
production capabilities, and skill base; and (iii) acquiring companies that
are strategic fits within our business segments. To date in the fastener
segment, we have integrated the sales of certain product lines across each of
the related companies within this segment. In the energy segment, rather than
integrate the sales of our product lines across the companies within that
segment, we have begun to integrate our customer base through the joint
marketing of the individual companies' products and services to the entire
energy segment customer base. Over the next year, we will continue to expand
on these efforts. In the heavy fabrication segment, we have focused our
efforts on developing and expanding our power generation customers in order
to solidify our position in this burgeoning market. We believe that our
strong market positions within the niche markets we serve enhance our ability
to effectively implement this aspect of the turnaround plan. Although
historically much of our growth has been through acquisition, acquisitions
will not be an area of emphasis until our turnaround plan has been fully
executed and our financial performance has returned to historical levels.
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ELIMINATE WASTE. We believe that significant opportunities exist to reduce or
eliminate waste by: (i) reducing working capital levels company-wide through
increased inventory turns and accelerated collection of receivables; (ii)
selling non-strategic assets that are not part of our core competencies;
(iii) consolidating selected facilities; (iv) converting our present
manufacturing processes to "lean" or more efficient manufacturing techniques;
and (v) fully implementing our ERP systems, which will allow our managers to
obtain and use production information faster and more efficiently than
before.
During the past sixteen months, we have (i) consolidated three of our
facilities into other existing facilities, (ii) sold two non-core business
units, (iii) closed and liquidated four non-core and unprofitable business
units, (iv) completed the installation of two ERP systems, (v) converted one
plant from a traditional "batch and queue" operation to one that employs
one-piece flow or cellular production, and (vi) reduced inventory and
receivables. On a going-forward basis, we intend to (i) consolidate an
additional plant into an existing facility, (ii) sell three parcels of excess
real estate, (iii) convert the distribution operations of our fastener
segment to a common ERP system, and (iv) continue the implementation of
"lean" manufacturing techniques. We plan to pursue similar measures when it
is our best interest to do so.
DEVELOP EMPLOYEES. We believe that employee development is an integral part
of our turnaround plan. Across all of our businesses, our management, sales
and operations teams have participated in numerous training and development
programs that focus on management, sales, production, technical, safety and
quality issues. We believe that this training is a valuable tool in the
development and enhancement of our employees' skill sets and that we will
continue to be rewarded for these efforts by a better trained, more
knowledgeable and skilled workforce.
ACQUISITIONS
Since 1996, we have acquired 14 companies that either expanded or
complimented our then-existing product offerings. We continue to integrate these
acquired companies into our existing operations, which we believe will allow us
to achieve cost savings through the elimination of general and administrative
functions and to exploit cross-selling opportunities.
The following chart describes each of our acquisitions since January 1, 1996.
ACQUISITION DESCRIPTION OF ACCOUNTING
ACQUIRED COMPANY DATE SEGMENT CONSIDERATION TREATMENT
---------------- ------------- ----------------- --------------- ----------
American Rivet Company, Inc. ....... November 1996 Fastener Cash Purchase
LSS-Lone Star-Houston, Inc. ........ February 1997 Fastener Cash and Stock Purchase
Manifold Valve Services, Inc. ...... March 1997 Energy Stock Purchase
Rogers Equipment & Supply, Inc. (1) August 1997 Energy Cash Purchase
Walker Bolt Manufacturing Co. ...... November 1997 Fastener Cash Purchase
Philform, Inc. ..................... February 1998 Fastener Stock Purchase
Ameritech Fastener Manufacturing Co. March 1998 Fastener Stock Pooling
Moores Pump and Services, Inc. ..... April 1998 Energy Stock Pooling
GHX, Inc. .......................... April 1998 Fastener Stock Pooling
United Wellhead Services, Inc. ..... July 1998 Energy Stock Pooling
Beaird Industries, Inc. ............ July 1998 Heavy Fabrication Cash Purchase
Ideal Products Company ............. August 1998 Fastener Cash Purchase
A&B Bolt and Supply, Inc. .......... August 1998 Fastener Cash and Stock Purchase
Blastco Services Company ........... January 1999 Energy Stock Pooling
(1) Rogers was sold in October 1999.
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RECENT DEVELOPMENTS
PROPOSED AMENDMENT OF COMERICA AGREEMENT THROUGH JANUARY 31, 2001
In June 2000, we reached an agreement in principle to enter into an Amended
and Restated Credit Agreement (the "Revised Agreement") with Comerica
Bank-Texas, National Bank of Canada and Hibernia Bank (the "Senior Lenders") in
which they propose to amend our existing Credit Agreement. The proposed Revised
Agreement, which would mature January 31, 2001, would provide for a revolving
line of credit up to the lesser of a defined borrowing base or $50 million. The
proposed Revised Agreement would provide for interest at prime plus 3% payable
weekly. Additionally, the Senior Lenders would waive defaults of loan covenants
as of December 31, 1999 and March 31, 2000 and amend the loan covenants to
require maintenance of minimum consolidated tangible net
worth, and earnings before interest, taxes, depreciation and amortization
("EBITDA")-to-debt-service ratio as well as require limitations on capital
expenditures. Management believes that the Company would be able to comply with
these covenants. However, in the event that we would not be able to meet the
EBITDA-to-debt-service ratio test, the proposed agreement would provide that
this default may be cured by St. James advancing to us funds in adequate amounts
so as to bring this covenant into compliance.
In connection with the proposed Revised Agreement, St. James would be
required to provide a $2 million guaranty to the Senior Lenders in order to
secure any over-advances that may occur under the terms of the proposed Revised
Agreement. In exchange for providing this guaranty, we plan to (i) issue to St.
James warrants to acquire 400,000 shares of our common stock at $1.25 per share
(valued at $84,000), and (ii) forgive a $0.35 million note receivable from SJCP.
In addition, if the guaranty is funded, we plan to issue to St. James up to
500,000 warrants to acquire our common stock at $1.25 per share (valued at up to
$105,000), depending on the amount of the funding.
ENSERCO, L.L.C.
We have a $15 million note payable to EnSerCo, L.L.C. ("EnSerCo") that became
due on November 15, 1999. We were granted an extension of the due date through
January 31, 2000. On January 31, 2000, we were unable to repay the amounts
borrowed and defaulted on the note payable. EnSerCo has not called this note
due; however, it retains the right to do so. We have held preliminary
discussions with EnSerCo to modify the terms of the original note agreement,
which include extending the due date. Although we and EnSerCo have exchanged
non-binding term sheets that outline certain concepts that might be included in
an amendment to the credit agreement in the future, including (i) increasing the
principal amount to reflect unpaid accrued interest to date, (ii) extending the
maturity date to February 28, 2001, and (iii) increasing the interest rate to a
15% annual rate, payable at maturity; no agreement has been reached between us.
Furthermore, no assurances can be given that we will be able to successfully
conclude the arrangement being considered and we remain in default.
HELLER FINANCIAL, INC.
We have a $9.5 million term note with Heller Financial, Inc. ("Heller"),
which expires on September 30, 2004. We were not in compliance with certain
financial covenants at each of the required quarterly reporting dates during
1999. We requested and received waivers from Heller through the September 30,
1999 reporting period; however, we did not seek waivers for the reporting dates
of December 31, 1999 or March 31, 2000. We are in violation of the credit
agreement and although Heller has not expressed the intent to call this
obligation, it retains the right to do so. We have held preliminary discussions
with Heller to obtain waivers for the events of non-compliance; however, no
assurances can be given that we will be able to successfully obtain the required
consents.
TRINITY INDUSTRIES, INC.
In July 1998, we acquired Beaird Industries, Inc. ("Beaird") from Trinity
Industries, Inc. (the "Seller") for $35.0 million in cash and receivables and a
$5.0 million note to the Seller. Under the purchase agreement, the Seller
assumed all liabilities and retained certain accounts receivable of Beaird. We
believe that we are entitled to receive $2.2 million of excess purchase price
paid to the Seller under the purchase agreement resulting from liabilities
incurred by us in connection with the acquisition, and $1.84 million in other
claims arising from breaches of representation and warranties. On July 15, 1999,
the first installment of $1.8 million was due on the Seller note. It is our
position that we have offset the amount owed under the purchase agreement
against this principal and interest payment. Although the Seller agrees that we
are owed an amount, in January 2000, the Seller filed suit against us in the
134th Judicial District in the District Court of Dallas County, Texas, in a suit
styled TRINITY INDUSTRIES, INC. V. INDUSTRIAL HOLDINGS, INC. In the lawsuit, the
Seller alleged that we defaulted on the $5 million note payment and asserted
that the amount it owes us is not sufficient to pay the first principal and
interest payment and additionally cannot be offset against the $5 million note
payment. In response, in February 2000, we filed a counterclaim alleging the
Seller's fraud in failing to disclose, and in misrepresenting, certain facts
about Beaird. We are currently in discussions to resolve this disagreement.
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OBLIGATIONS TO BELLELI ENERGY S.R.L. RELEASED
In July 1998, we entered into an option agreement that granted us the right
through 2003 to purchase approximately 95% of Belleli Energy S.r.L. ("Belleli").
Belleli is an Italian company that manufactures thick-walled pressure vessels
and heat exchangers, as well as designs, engineers, constructs and erects
components for desalination, electric power and petrochemical plants. Under the
terms of the option agreement, we were obligated to provide certain interim
funding to Belleli. Because of our financial condition in 1999, we could no
longer provide financial support to Belleli. In February 2000, SJMB, L.P.
("SJMB"), an affiliate of St. James Capital Partners, L.P. ("SJCP"), a large
shareholder of IHI (SJMB, SJCP and its affiliate, collectively "St. James"),
acquired a majority interest in Belleli from Belleli's shareholder, Impianti. As
a result of this transaction, all of our obligations with respect to Belleli
have been released and discharged. We retain a 3.5% minority interest in
Belleli.
As a part of the Belleli transaction, we will issue warrants to purchase
750,000 shares of our common stock to SJMB at an exercise price of $1.25 per
share (valued at $157,500). Additionally, we are obligated to reimburse SJMB for
satisfying our installment payment obligations under the option agreement of
approximately $280,000.
U.S. CRATING, INC. SOLD
In March 2000, we sold our U.S. Crating subsidiary to its general manager for
$400,000 at a gain of approximately $68,000. U.S. Crating provides crating,
inspection, preparation and partial documentation services for domestic and
international movement of goods.
MIDLAND RECYCLE, LLC LIQUIDATED
In January, 2000, Midland Recycle LLC ("Midland"), a company in which we held
a 30% interest through our subsidiary Blastco Services Company ("Blastco") and
for which we guaranteed $1.2 million in debt, was liquidated for less than its
net book value. As a result at December 31, 1999, we wrote-off a $343,000
intercompany note receivable from Midland as unrecoverable and recognized a
$280,000 loss on the investment. The outstanding debt of Midland was repaid as
part of the liquidation of the investment.
PROPOSED SALE OF BLASTCO SERVICES COMPANY
In 1999, the Board of Directors identified its refinery dismantling and gas
metering operations, Blastco, as outside of its core business and made the
decision to dispose of these operations. Blastco, which was acquired in January
1999, did not perform up to expectations. We reached an agreement in principle
to sell Blastco back to its former shareholders, including its current President
(see Item 3. Legal Proceedings). The sales price of Blastco is $2.0 million in
cash, $0.8 million in notes receivable and 1,586,265 shares of our common stock
that the former shareholders of Blastco received in our acquisition of Blastco
in a pooling-of-interests transaction. Also, we will retain inventory and
equipment with a net book value of $0.3 million. Blastco's 1999 sales were $12.1
million. Blastco will retain its minority ownership in AWR Acquisitions, L.C.
("AWR"). In 1999, Blastco recognized a loss from equity in earnings of
affiliates of $6.0 million related to its investment in these entities. While we
expect this transaction to be completed in the second quarter of 2000, there can
be no assurances that we will successfully complete this transaction on the
terms as described above.
RECENT NASDAQ HEARING AND POSSIBLE DELISTING OF OUR SECURITIES
On April 20, 2000, we received a notice of delisting of our Common Stock and
Class B, C, and D Warrants from the Nasdaq NMS because we had not timely filed
this 1999 Annual Report on Form 10-K. The delisting of our securities was stayed
pending our hearing before a Nasdaq Listing Qualifications Panel, on June 1,
2000. We responded by explaining that we had been unable to complete our 1999
audit because we had not received financial information from a company in which
we have a 33 1/3% interest. On May 18, 2000, we received a notice that our
failure to timely file our Form 10-Q for the quarter ended March 31, 2000 would
also be considered at our June 1st hearing. We attended the hearing before a
Nasdaq Listing Qualifications Panel on June 1, 2000 and indicated that we
planned to file our 1999 Annual Report on Form 10-K and the Form 10-Q for the
quarter ended March 31, 2000 shortly after June 10, 2000. We believe that we
were able, at the hearing, to demonstrate our ability to sustain long-term
compliance with all of the maintenance criteria for continued listing on the
Nasdaq NMS. While we expect to meet the filing requirements, we can't ensure
that Nasdaq will not delist our securities. If that happens, our securities
would be immediately eligible to trade on the over-the-counter market.
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PROPOSED ACQUISITION OF REMAINING 51% OF OF ACQUISITION, L.P. PARTNERSHIP
INTEREST FROM ST. JAMES
We have reached an agreement in principle with St. James, subject to
customary closing conditions and our shareholders' approval, to acquire from
SJMB the general partnership interest and the 51% of limited partnership
interests of OF Acquisition, L.P. ("Orbitform") that we do not already own (the
"St. James Transaction"). In the St. James Transaction, we would issue secured
subordinated debt that is convertible into a number of shares of our Common
Stock and warrants that are convertible into a number of shares of our Common
Stock that would exceed 20% of our currently issued and outstanding shares. For
that reason, and because we would be entering into a transaction with a
greater-than-5% shareholder, The Nasdaq Stock Market (the "Nasdaq NMS") requires
that we submit the St. James Transaction to our shareholders for their advance
approval.
OPERATIONS
PRODUCTS AND SERVICES
FASTENER MANUFACTURING AND DISTRIBUTION. Our fastener manufacturing and
distribution segment consists of the metal forming group (or "engineered
fasteners group") and the stud bolt and gasket group. Our engineered fasteners
group manufactures cold-formed fasteners and specialty metal components for sale
primarily to original equipment manufacturers in the home furnishings,
automotive, and electrical components industries. These fasteners are
manufactured in solid, semi-tubular, tubular or multi-dimensional form. We
specialize in the manufacture of special cold-formed fasteners that are
primarily targeted to more highly-engineered applications. These special
cold-formed fasteners can, in many cases, replace more expensive machined parts.
In addition to metal fasteners, we also manufacture electrical components
(including retention clips, fuse holders, contacts and switch components),
drapery hardware and wire drawn products such as common pins and safety pins, as
well as engineered fastener setting machines, which are sold to original
equipment manufacturers. The four facilities used for metal forming operations
are strategically located based on the industries they serve. We believe our
engineering and manufacturing capabilities, multiple manufacturing facilities
and broad equipment base make us one of the leading suppliers of cold-formed
fasteners in the U.S.
Our stud bolt and gasket group manufactures and distributes stud bolts, nuts,
gaskets, hoses, fittings and other products from 13 locations in Texas and
Louisiana primarily to the petrochemical, chemical and oil and gas industries
located in the Gulf Coast region of the U.S. We manufacture ASTM Grade stud
bolts and threaded fasteners, specializing in value added services such as
electroplating, coating and special machining and traceability. We also produce
specialty industrial fasteners including bolts, screws, studs, nuts and washers,
all of which are made to order using forging, heat-treating, machining, grinding
and threading processes. In addition to our manufactured products, we distribute
a full line of industrial fasteners and other related products, including
valves, pipe, gaskets, pipe hangers, steel, strainers, swages, tools, tubing and
mill supplies. Our gaskets are fabricated from metal sheet or cut in standard or
custom shapes out of various soft gasket materials. We believe that we are one
of the leading manufacturers and distributors of stud bolts and gaskets in the
Gulf Coast market, which is one of the largest oil and gas exploration,
production and refining regions in North America. Our distribution facilities
for stud bolt and gasket operations carry a broad product line, while our
manufacturing facilities focus on specialty orders
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that generally require a rapid turnaround.
HEAVY FABRICATION SEGMENT. Through our heavy fabrication segment, we
manufacture and distribute medium and thick-walled pressure vessels, gas turbine
casings, heat exchangers, wind towers, heat panels and other large machined
weldments. Our products are sold to customers in the electric power, marine,
petrochemical, petroleum refining and medical equipment industries and to major
capital equipment suppliers. These products range in size from 500,000 to
2,000,000 pounds and are produced from sophisticated materials that are subject
to quality requirements including fit, shape, size and metallurgy. We believe we
are one of only four manufacturers in the U.S. with the capabilities and
equipment required to produce these large machined weldments, which generally
are critical components for their respective end use applications. We offer
complete fabrication, material and welding laboratories, machining and finishing
capabilities that are certified to conform to the International Quality System
Standard 9001. Our facility in Shreveport, Louisiana is strategically located
with access to commercial waterways, which is critical for the transportation of
our large pressure vessels and other heavy weldments.
ENERGY SEGMENT. Through our energy segment, we manufacture, remanufacture,
distribute, install and provide maintenance and repair services for
high-pressure valves, blow out preventers, pumps and other related products for
companies in the exploration, production and pipeline transportation of oil and
gas and in the petrochemical, chemical and petroleum refining industries located
primarily in the Gulf Coast region. Through the acquisition of Blastco in
January 1999, we also provided refinery and tank farm dismantling services. The
cost to provide these products and services has a high variable component that
consists primarily of labor and raw materials costs. Accordingly, the cost
structure of this segment can be quickly adjusted in response to market
conditions. We consider ourselves to be one of the leading remanufacturers and
distributors of valves and pumps in the Gulf Coast and a leading provider of
refinery dismantling services.
MACHINE TOOL DISTRIBUTION SEGMENT. We distribute new machine tools in South
Texas and Louisiana for certain manufacturers including Okuma Machinery, Inc. on
an exclusive basis, and other manufacturers on a non-exclusive basis. We also
sell used machine tools primarily to larger corporations and machine shops in
the Gulf Cost region. Machine tools are used in various industries in the
manufacturing process to cut metal and are sold in a variety of sizes depending
upon the task they are designed to perform. We also performed export crating
services through this segment. Our export crating operations were sold in 2000.
CUSTOMERS AND MARKETS
Within the fastener manufacturing and distribution segment, the customers for
our cold-formed fasteners are primarily original equipment manufacturers in the
home furnishings and automotive industries. Our electrical components are sold
to manufacturers of electrical products, while our drapery hardware and our wire
drawn products are primarily sold to apparel manufacturers, drycleaners and
distributors of drapery hardware. Our stud bolts, specialty fasteners and
gaskets are sold primarily to customers in the petrochemical, chemical and oil
and gas industries on the Gulf Coast through our network of distribution
facilities. Our manufacturing and distribution facilities within this segment
are strategically located based on the customers that they serve. A significant
portion of the products produced by our fastener manufacturing and distribution
segment are manufactured to specific customer order. No single customer within
this segment accounted for over 10% of our total sales within the segment.
The major markets served by our heavy fabrication segment include electric
power, marine, petrochemical, petroleum refining and medical equipment
industries. Our customer base for this segment consists primarily of large
multinational corporations and engineering and construction companies. Most of
the large fabricated and machined weldments are manufactured pursuant to
long-term contracts and almost all of our products within this segment are
manufactured to specific customer orders. We utilize both an inside and outside
sales staff in marketing our products in this segment. While we usually sell our
pressure vessels directly to engineering and construction firms, we market
directly to the end-users as well. One customer, Vestas-American Wind
Technology, Inc., accounted for over 10% of total sales within this segment.
Sales to this customer represented 13% of total sales within this segment. The
contract with this customer was completed in June 1999.
Our energy segment sells its products primarily to customers in the oil and
gas exploration and production, pipeline transportation, refining and product
storage industries. Per-job orders account for substantially all of our
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remanufacturing and repair work performed and pipeline valves sold. We also sell
new, used and remanufactured pipeline valves from existing inventory according
to customer special orders. We conduct our sales efforts through our inside
sales staff and through sales representatives. No single customer within this
segment accounted for over 10% of our total sales within the segment.
SUPPLIERS AND RAW MATERIALS
The principal raw material that we use in our fastener manufacturing and
distribution and heavy fabrication segments is steel wire and steel. To date, we
have encountered no difficulty in meeting supply requirements of any raw
materials in these segments. We generally maintain an inventory level of raw
materials necessary for approximately 30 days of operations in our fastener
manufacturing and distribution segment. We generally do not maintain a
substantial raw material inventory in our heavy fabrication segment. The steel
industry is cyclical, and steel prices can be volatile due to a number of
factors beyond our control. This volatility can significantly affect our raw
material costs. Competitive conditions determine whether steel price increases
can be passed on to our customers. Our inability to pass some or all future
steel price increases to our customers could have an adverse effect on our
business, financial condition, results of operations and cash flows.
In our energy segment, we acquire new and used valves and related equipment
from suppliers, including individual brokers, other remanufacturing companies or
original equipment manufacturers. We currently have a significant inventory of
valves.
We do not maintain firm contractual agreements with any of our suppliers.
Instead, we purchase our raw materials on a continuing basis from suppliers on
the most favorable terms that we can negotiate. Since product purchases are
negotiated on a continuing basis, our ability to obtain raw materials may not be
as secure as if they were subject to a long-term contract. Our inability to
obtain sufficient raw materials from our suppliers would have a material adverse
effect on our business, financial condition, results of operations and cash
flows.
COMPETITION
Our cold-formed fastener products are subject to competition from a number of
small companies as well as four larger manufacturers. In the special cold-formed
fastener market that is concentrated primarily in the automotive and electronic
markets, we also face competition from larger public companies and foreign
manufacturers. We also compete with nine stud bolt manufacturers on a national
basis as well as other manufacturers on a regional basis. We have many
competitors in the markets for our gaskets, hose and related products that
compete in particular product categories. Our competitors within our heavy
fabrication segment vary based on the products manufactured. As the size and
complexity of the products increase, competition is generally less. The market
for each product is very competitive and we face competition from a number of
different manufacturers in each of our product areas. In our energy segment, we
believe that we are subject to competition from less than ten similarly-sized
remanufacturing businesses. We believe that our broad inventory of valves and
valve parts, machining capabilities and our high level of service are our
primary competitive advantages. Factors that affect competition within all of
our segments include price, quality and customer service. Some of our
competitors within each of our segments have greater financial and other
resources than we have.
BACKLOG
A significant amount of the sales of our heavy fabrication segment relate to
products that require several months to manufacture. As of December 31, 1999,
the backlog for the heavy fabrication segment was $13,093,000 compared to
$58,620,000 at December 31, 1998. As of March 31, 2000, the backlog for the
heavy fabrication segment was $21,528,000.
As of December 31, 1999, the backlog for the fastener manufacturing and
distribution and energy segments was $7,766,000 and $454,000, respectively,
compared to $7,932,000 and $1,956,000 for the fastener manufacturing and
distribution segment and energy segments, respectively, at December 31, 1998. As
of March 31, 2000, the backlog for the fastener manufacturing and distribution
and energy segments was $10,600,000 and $3,347,000, respectively.
7
REGULATION
ENVIRONMENTAL REGULATION
We are subject to extensive and changing federal, state and local
environmental laws including laws and regulations that relate to air and water
quality, impose limitations on the discharge of pollutants into the environment
and establish standards for the treatment, storage and disposal of toxic and
hazardous wastes. Stringent fines and penalties may be imposed for
non-compliance with these environmental laws. In addition, environmental laws
could impose liability for costs associated with investigating and remediating
contamination at our facilities or at third-party facilities at which we have
arranged for the disposal or treatment of hazardous materials.
Although no assurances can be given, we believe that we are in compliance in
all material respects with all environmental laws and we are not aware of any
non-compliance or obligation to investigate or remediate contamination that
could reasonably be expected to result in material liability. However, it is
possible that unanticipated factual developments could cause us to make
environmental expenditures that are significantly different from those we
currently expect. In addition, environmental laws continue to be amended and
revised to impose stricter obligations. We cannot predict the effect such future
requirements, if enacted, would have on us, although we believe that such
regulations would be enacted over time and would affect the industry as a whole.
HEALTH AND SAFETY MATTERS
Our facilities and operations are governed by laws and regulations, including
the federal Occupational Safety and Health Act, relating to worker health and
workplace safety. We believe that appropriate precautions are taken to protect
employees and others from workplace injuries and harmful exposure to materials
handled and managed at its facilities. While we do not anticipate that we will
be required in the near future to expend material amounts by reason of such
health and safety laws and regulations, we are unable to predict the ultimate
cost of compliance with these changing regulations.
EMPLOYEES
As of December 31, 1999, we employed approximately 1,782 persons. Of these
employees, approximately 254 are represented under one collective bargaining
agreement, which was recently renegotiated and which expires on November 20,
2002. We have not experienced a work stoppage at any of our facilities.
FORWARD-LOOKING INFORMATION AND RISK FACTORS
Certain information in this Annual Report, including the information we
incorporate by reference, includes forward-looking statements within the meaning
of Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. You can identify our forward-looking statements by the
words "expects," "projects," "estimates," "believes," "anticipates," "intends,"
"plans," "budgets," "predicts," "estimates" and similar expressions.
We have based the forward-looking statements relating to our operations on
our current expectations, and estimates and projections about us and about the
industries in which we operate in general. We caution you that these statements
are not guarantees of future performance and involve risks, uncertainties and
assumptions that we cannot predict. In addition, we have based many of these
forward-looking statements on assumptions about future events that may prove to
be inaccurate. Our actual outcomes and results may differ materially from what
we have expressed or forecast in the forward-looking statements.
WE ARE IN DEFAULT UNDER OUR CREDIT FACILITY AND TERM LOANS AND OUR LENDERS
HAVE THE RIGHT TO DECLARE ALL OUTSTANDING AMOUNTS IMMEDIATELY DUE AND PAYABLE.
We have a $15 million note payable to EnSerCo that was due on November 15,
1999 and extended to January 31, 2000. On January 31, 2000, we were unable to
repay the amounts borrowed and defaulted on the note. EnSerCo has not called
this note; however, they retain the right to do so. We have held preliminary
discussions with EnSerCo to modify the terms of the original note agreement,
which include extending the due date. Although we and
8
EnSerCo have exchanged non-binding term sheets that outline certain concepts
that might be included in an amendment to the credit agreement in the future,
including (i) increasing the principal amount to reflect unpaid accrued interest
to date, (ii) extending the maturity date to February 28, 2001, and (iii)
increasing the interest rate to a 15% annual rate, payable at maturity; no
agreement has been reached between us. Furthermore, no assurances can be given
that we will be able to successfully conclude the arrangement being considered
and we remain in default.
We have a $55 million revolving line of credit with Comerica Bank-Texas,
National Bank of Canada and Hibernia Bank (the "Senior Lenders"), which expires
in June 2001. We were not in compliance with certain financial covenants at each
of the required quarterly reporting dates during 1999. We requested and received
waivers from the Senior Lenders for the March 31, 1999 and June 30, 1999
reporting periods; however, we did not seek waivers for the reporting dates of
September 30, 1999, December 31, 1999 or March 31, 2000. We are in violation of
the credit agreement and although the Senior Lenders have not expressed the
intent to call this obligation, the Senior Lenders retain the right to do so. We
have held preliminary discussions with the Senior Lenders to modify the terms
and covenants of the credit agreement. We have reached an agreement in principle
with the Senior Lenders that would (i) accelerate maturity to January 31, 2001,
(ii) reduce the revolving credit line to the lesser of $50 million or the
defined borrowing base, (iii) increase the interest rate to prime plus 3%,
payable weekly and (iv) modify the financial covenants to require maintenance of
minimum consolidated tangible net worth, and earnings before interest, taxes,
depreciation and amortization ("EBITDA")-to-debt-service ratio as well as
require limitations on capital expenditures. In addition, the Senior Lenders
would waive all prior violations under the credit agreement. However, no
assurances can be given that we will be able to successfully conclude the
arrangement being considered.
In connection with the proposed amended agreement, St. James would be
required to provide a $2 million guaranty to the Senior Lenders in order to
secure any over-advances that may occur under the terms of the proposed amended
agreement. In exchange for providing this guaranty, we plan to (i) issue to St.
James warrants to acquire 400,000 shares of our common stock at $1.25 per share
(valued at $84,000), and (ii) forgive a $0.35 million note receivable from St.
James. In addition, if the guaranty is funded, we plan to issue to St. James up
to 500,000 warrants to acquire our common stock at $1.25 per share (valued at up
to $105,000), depending on the amount of the funding.
We have a $9.5 million term note with Heller Financial, Inc. ("Heller"),
which expires on September 30, 2004. We were not in compliance with certain
financial covenants at each of the required quarterly reporting dates during
1999. We requested and received waivers from Heller through the September 30,
1999 reporting period; however, we did not seek waivers for the reporting dates
of December 31, 1999 or March 31, 2000. We are in violation of the credit
agreement and although Heller has not expressed the intent to call this
obligation, it retains the right to do so. We have held preliminary discussions
with Heller to obtain waivers for the events of non-compliance; however, no
assurances can be given that we will be able to successfully obtain the required
consents.
In July 1998, we acquired Beaird Industries, Inc. ("Beaird") from Trinity
Industries, Inc. (the "Seller") for $35.0 million in cash and receivables and a
$5.0 million note to the Seller. Under the purchase agreement, the Seller
assumed all liabilities and retained certain accounts receivable of Beaird. We
believe that we are entitled to receive $2.2 million of excess purchase price
paid to the Seller under the purchase agreement resulting from liabilities
incurred by us in connection with the acquisition, and $1.84 million in other
claims arising from breaches of representation and warranties. On July 15, 1999,
the first installment of $1.8 million was due on the Seller note. It is our
position that we have offset the amount owed under the purchase agreement
against this principal and interest payment. Although the Seller agrees that we
are owed an amount, in January 2000, the Seller filed suit against us in the
134th Judicial District in the District Court of Dallas County, Texas, in a suit
styled TRINITY INDUSTRIES, INC. V. INDUSTRIAL HOLDINGS, INC. In the lawsuit, the
Seller alleged that we defaulted on the $5 million note payment and asserted
that the amount it owes us is not sufficient to pay the first principal and
interest payment and additionally cannot be offset against the $5 million note
payment. In response, in February 2000, we filed a counterclaim alleging the
Seller's fraud in failing to disclose, and in misrepresenting, certain facts
about Beaird. We are currently in discussions to resolve this disagreement.
OUR SECURITIES MAY BE DELISTED FROM THE NASDAQ NMS, POSSIBLY ADVERSELY IMPACTING
THEIR LIQUIDITY AND VALUE.
We attended our scheduled hearing before the Nasdaq Listing Qualifications
Panel on June 1, 2000. We indicated that we plan to file this 1999 Annual Report
on Form 10-K and the Form 10-Q for the quarter ended
9
March 31, 2000 shortly after June 10, 2000. Additionally, we believe that, at
the hearing, we were able to demonstrate our ability to sustain long-term
compliance with all of the maintenance criteria for continued listing on the
Nasdaq NMS. While we expect to have met those filing requirements, we can't
ensure that Nasdaq will not delist our securities. If that happens, our
securities would be immediately eligible to trade on the over-the-counter
market.
As a result of delisting from the Nasdaq NMS, current information regarding
bid and asked prices for our Common Stock may become less readily available to
brokers, dealers and/or their customers, which may reduce the liquidity of the
market for our Common Stock and which in turn may result in decreased demand, a
decrease in the stock price, and an increase in the spread between the bid and
asked prices for our Common Stock.
EVEN IF WE SUCCESSFULLY RESTRUCTURE OUR CREDIT FACILITY AND TERM LOANS, OUR
SUBSTANTIAL DEBT COULD ADVERSELY AFFECT OUR BUSINESS, FINANCIAL CONDITION,
RESULTS OF OPERATIONS OR PROSPECTS.
We have a significant amount of debt, which requires us to dedicate a
substantial portion of our cash flow from operations to payments on our debt,
thereby reducing the availability of our cash flow to fund current working
capital, capital expenditures and other general corporate needs. In addition, it
could:
- - increase our vulnerability to general adverse economic and industry
conditions;
- - limit our ability to fund future working capital, acquisitions, capital
expenditures and other general corporate requirements;
- - limit our flexibility in planning for, or reacting to, changes in our
business and our industry; and
- - place us at a competitive disadvantage compared to our competitors that have
less debt.
EVEN IF OUR LENDERS DO NOT DECLARE ALL AMOUNTS UNDER OUR CREDIT FACILITY AND
TERM LOANS IMMEDIATELY DUE AND PAYABLE, WE WILL REQUIRE A SIGNIFICANT AMOUNT OF
CASH TO SERVICE OUR DEBT.
Our ability to service our debt and to fund capital expenditures will depend
on our ability to generate cash in the future. Our ability to generate
sufficient cash, to a large extent, is subject to general economic, financial,
competitive, legislative, regulatory and other factors that are beyond our
control. We cannot assure you that we will generate sufficient cash flow or be
able to obtain sufficient funding to satisfy our debt service requirements.
We also cannot assure you that our business will generate sufficient cash
flow from operations or that future borrowings and financing alternatives will
be available to us under our credit facility or from alternative sources in an
amount sufficient to service our debts or to fund our other liquidity needs.
EVEN IF WE SUCCESSFULLY RESTRUCTURE OUR CREDIT FACILITY AND TERM LOANS, OUR DEBT
TERMS IMPOSE CONDITIONS AND RESTRICTIONS THAT COULD SIGNIFICANTLY ADVERSELY
IMPACT OUR ABILITY TO OPERATE OUR BUSINESSES.
Our proposed revised credit agreements contain restrictive covenants that,
among other things, impose certain limitations on us and require us to maintain
specified consolidated financial ratios and satisfy certain consolidated
financial tests. Our ability to meet those financial ratios and financial tests
may be affected by events beyond our control. If we fail to meet those tests or
breach any of the covenants in the future, the lenders may still declare all
amounts outstanding under the credit facility, together with accrued interest,
to be immediately due and payable. If we are unable to repay those amounts, the
lenders could proceed against the collateral granted to them. Our assets may not
be sufficient to repay in full that indebtedness or any other indebtedness.
EVEN IF WE ARE SUCCESSFUL IN ATTRACTING BUYERS FOR OUR NON-STRATEGIC ASSETS AND
INVESTMENTS, WE MAY NOT BE ABLE TO RECOVER THE CARRYING VALUE OF SUCH AMOUNTS.
We are in the process of selling a number of non-strategic assets and
investments as a part of our turnaround plan. Due to the current carrying values
of certain of our non-strategic assets and investments on our consolidated
balance sheet, we may not be able to dispose of certain of these non-strategic
assets and investments at a price that will allow us to recover the carrying
value of such non-strategic assets and investments.
10
THE MARKET VALUE OF OUR COMMON STOCK MAY DECLINE FURTHER IF WE CONTINUE TO INCUR
NET LOSSES.
For the 1999 fiscal year, we incurred a net after-tax loss of $19.0 million,
as more fully discussed in "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Results of Operations." The price of our
common stock, which has declined significantly in the past year, depends on many
factors, most importantly our financial performance. If we continue to incur net
losses, our stock price could decline further.
SOME OF THE MARKETS FOR OUR PRODUCTS ARE CYCLICAL, WHICH MAY ADVERSELY IMPACT
SALES OF THOSE PRODUCTS DURING A DECLINE IN THOSE MARKETS.
Some of our products are sold in markets that are affected by the state of
both the U.S. and worldwide economies and by conditions within the industries
that purchase our products. Therefore, sales of these products may be reduced as
a result of conditions in the markets in which they are sold. Even though the
markets in which we sell our products are diversified, decreased sales in some
of these markets may not be offset by sales in our other markets, which may
result in a material adverse effect on our business, financial condition,
results of operations or prospectus. A significant percentage of our 1999 sales,
most of which are attributable to our energy segment and stud bolt and gasket
operations, are derived from the domestic oil and gas industry.
OUR ACQUISITION STRATEGY MAY NOT ACHIEVE OUR OBJECTIVES AS A RESULT OF A NUMBER
OF POTENTIAL FACTORS.
Our acquisition strategy has been a significant component of our business
plan, and we plan to resume our acquisition strategy after our turnaround plan
has been accomplished and our financial performance has returned to historical
levels. While we evaluate business opportunities on a regular basis, we may not
be successful in identifying any additional acquisitions or we may not have
sufficient financial resources to make additional acquisitions. In addition, as
we complete acquisitions and expand our operations, we will be subject to all of
the risks inherent in an expanding business, including integrating financial
reporting, establishing satisfactory budgetary and other financial controls,
funding increased capital needs and overhead expenses, obtaining management
personnel required for expanded operations, and funding cash flow shortages that
may occur if anticipated sales and revenues are not realized or are delayed,
whether by general economic or market conditions or unforeseen internal
difficulties. Our future performance will depend, in part, on our ability to
manage expanding operations and to adapt our operational systems for these
expansions. We may not succeed at effectively and profitably managing the
integration of our current or any future acquisitions.
We may fail or be unable to discover liabilities in the course of performing
due diligence investigations on each business that we have acquired or will
acquire in the future. Liabilities could include those arising from employee
benefits contribution obligations of a prior owner or noncompliance with
federal, state or local environmental requirements by prior owners for which we,
as a successor owner, may be responsible. We try to minimize these risks by
conducting due diligence as we deem appropriate under the circumstances.
However, we may not have identified, or in the case of future acquisitions,
identify, all existing or potential risks. We also generally require each seller
of acquired businesses or properties to indemnify us against undisclosed
liabilities. In some cases, this indemnification obligation may be supported by
deferring payment of a portion of the purchase price or other appropriate
security. However, we cannot assure you that the indemnification, even if
obtained, will be enforceable, collectible or sufficient in amount, scope or
duration to fully offset the possible liabilities associated with the business
or property acquired. Any of these liabilities, individually or in the
aggregate, could have a material adverse effect on our business, financial
condition, results of operations or prospects.
MANY OF THE INDUSTRIES IN WHICH WE PARTICIPATE ARE HIGHLY COMPETITIVE, WHICH MAY
RESULT IN A LOSS OF MARKET SHARE OR A DECREASE IN REVENUE OR PROFIT MARGINS.
Many of the industries in which we operate are highly competitive. Some of
our competitors within each of our segments have greater financial and other
resources than us. In our key fastener product areas of semi-tubular engineered
fasteners and cold-formed specialty fasteners, safety and straight pins and
threaded stud bolts, we face competition from very small manufacturers as well
as from the operations of companies much larger than ourselves. Our competitors
within our heavy fabrication segment vary based on the products fabricated. As
the size and complexity of the products increase, competition is generally less.
The market for each of our key heavy fabrication products is very competitive,
and we face competition from a number of different manufacturers in each of our
11
product areas. In our energy segment, we believe that we are subject to
competition from less than ten similarly-sized remanufacturing businesses.
Factors that affect competition within all of our segments include price,
quality and customer service. Strong competition may result in a loss of market
share in the segments in which we operate and a decrease in revenue and profit
margins.
THE LOSS OF KEY PERSONNEL COULD HAVE A MATERIAL ADVERSE EFFECT ON OUR RESULTS OR
OPERATIONS.
Our success depends largely upon the abilities and experience of certain key
management personnel. If we lose the services of one or more of our key
personnel, it could have a material adverse effect on our business and results
of operations. We do not have non-compete agreements with all of our key
personnel. In addition, we generally do not maintain key-man life insurance
policies on our executives.
OUR INSURANCE COVERAGE MAY BE INADEQUATE TO COVER CERTAIN CONTINGENT
LIABILITIES.
Our business exposes us to possible claims for personal injury or death
resulting from the use of our products. We carry comprehensive insurance,
subject to deductibles, at levels we believe are sufficient to cover existing
and future claims. However, we could be subject to a claim or liability that
exceeds our insurance coverage. In addition, we may not be able to maintain
adequate insurance coverage at rates we believe are reasonable.
OUR OPERATIONS ARE SUBJECT TO REGULATION BY FEDERAL, STATE AND LOCAL
GOVERNMENTAL AUTHORITIES THAT MAY LIMIT OUR ABILITY TO OPERATE OUR BUSINESS.
Our business is affected by governmental regulations relating to our industry
segments in general, as well as environmental and safety regulations that have
specific application to our business. While we are not aware of any proposed or
pending legislation, future legislation may have an adverse effect on our
business, financial condition, results of operations or prospects.
We are subject to various federal, state and local environmental laws,
including those governing air emissions, water discharges and the storage,
handling, disposal and remediation of petroleum and hazardous substances. In
particular, our refinery demolition business involves the removal of asbestos
and other environmental contaminants for which we are responsible for handling
and disposal. We have in the past and will likely in the future incur
expenditures to ensure compliance with environmental laws. Due to the
possibility of unanticipated factual or regulatory developments, the amount and
timing of future environmental expenditures could vary substantially from those
currently anticipated. Moreover, certain of our facilities have been in
operation for many years and, over that time, we and other predecessor operators
have generated and disposed of wastes that are or may be considered hazardous.
Accordingly, although we have undertaken considerable efforts to comply with
applicable laws, it is possible that environmental requirements or facts not
currently known to us will require unanticipated efforts and expenditures that
cannot be currently quantified.
ITEM 2. PROPERTIES
We manufacture our products in the United States and distribute our products
and provide services throughout North America. We have 19
manufacturing/distribution facilities and 15 distribution facilities in seven
states. At December 31, 1999, these facilities contained an aggregate of
approximately 1.9 million square feet of which approximately 20% is owned and
the remainder leased.
We maintain our principal executive offices at 7135 Ardmore, Houston, Texas.
The office facility portion of this property consists of conventional office
space and is, in our opinion, adequate to meet our needs for the foreseeable
future. We believe that all existing office and warehouse facilities leased or
owned by our subsidiaries are adequate to meet our needs for the foreseeable
future and are suitable for the business conducted therein.
12
The following chart lists our material facilities by segment:
SEGMENT NUMBER OF FACILITIES SQUARE FOOTAGE
------- -------------------- --------------
Fastener Manufacturing and Distribution 17 760,000
Heavy Fabrication ...................... 1 691,000
Energy ................................. 13 260,000
Machine Tool Distribution .............. 3 193,000
ITEM 3. LEGAL PROCEEDINGS
In July 1998, we acquired Beaird Industries, Inc. ("Beaird") from Trinity
Industries, Inc. (the "Seller") for $35.0 million in cash and receivables and a
$5.0 million note to the Seller. Under the purchase agreement, the Seller
assumed all liabilities and retained certain accounts receivable of Beaird. We
believe that we are entitled to receive $2.2 million of excess purchase price
paid to the Seller under the purchase agreement resulting from liabilities
incurred by us in connection with the acquisition, and $1.84 million in other
claims arising from breaches of representation and warranties. On July 15, 1999,
the first installment of $1.8 million was due on the Seller note. It is our
position that we have offset the amount owed under the purchase agreement
against this principal and interest payment. Although the Seller agrees that we
are owed an amount, in January 2000, the Seller filed suit against us in the
134th Judicial District in the District Court of Dallas County, Texas, in a suit
styled TRINITY INDUSTRIES, INC. V. INDUSTRIAL HOLDINGS, INC. In the lawsuit, the
Seller alleged that we defaulted on the $5 million note payment and asserted
that the amount it owes us is not sufficient to pay the first principal and
interest payment and additionally cannot be offset against the $5 million note
payment. In response, in February 2000, we filed a counterclaim alleging the
Seller's fraud in failing to disclose, and in misrepresenting, certain facts
about Beaird. We are currently in discussions to resolve this disagreement. The
principal is classified as current portion of long-term debt at December 31,
1999.
In May 2000, we filed suit against some of the former Blastco shareholders in
Harris County District Court, in a suit styled INDUSTRIAL HOLDINGS, INC. AND
INDUSTRIAL HOLDINGS ACQUISITION FOUR, INC. V. GARY H. MARTIN, WORLD WIDE
LEASING, LUBRICATION SERVICES, INC. AND WILLIAM R. MASSEY. In the lawsuit, we
alleged Messrs. Massey and Martin's fraud in failing to disclose, and in
misrepresenting, certain facts about Blastco, as well as Mr. Martin's
mismanagement and self-dealing as President of Blastco. We have not yet served
the defendants.
In addition to the above, we are involved in various claims and litigation
arising in the ordinary course of business. While there are uncertainties
inherent in the ultimate outcome of such matters and it is impossible to
currently determine the ultimate costs that may be incurred, we believe the
resolution of such uncertainties and the incurrence of such costs should not
have a material adverse effect on our consolidated financial condition or
results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of our security holders in the fourth
quarter of 1999.
13
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
Our common stock trades on the Nasdaq NMS under the symbol "IHII." The
following table sets forth the high and low closing sales prices of our common
stock, for the periods indicated below:
PRICE RANGE
-----------
HIGH LOW
------ -------
1999
First Quarter.................... $ 10.38 $ 7.38
Second Quarter................... $ 9.00 $ 6.75
Third Quarter.................... $ 7.94 $ 3.25
Fourth Quarter................... $ 4.19 $ 1.88
1998
First Quarter.................... $ 15.13 $ 11.63
Second Quarter................... $ 16.06 $ 12.50
Third Quarter.................... $ 15.38 $ 8.75
Fourth Quarter................... $ 11.13 $ 8.00
All of the foregoing prices reflect interdealer quotations, without retail
mark-up, mark-downs or commissions and may not necessarily represent actual
transactions in our common stock.
On April 20, 2000, we received a notice of delisting of our Common Stock and
Class B, C, and D Warrants from the Nasdaq NMS because we had not timely filed
this 1999 Annual Report on Form 10-K. The delisting of our securities was stayed
pending our hearing before a Nasdaq Listing Qualifications Panel, on June 1,
2000. We responded by explaining that we had been unable to complete our 1999
audit because we had not received financial information from a company in which
we have a 33 1/3% interest. On May 18, 2000, we received a notice that our
failure to timely file our Form 10-Q for the quarter ended March 31, 2000 would
also be considered at our June 1st hearing. We attended the hearing before a
Nasdaq Listing Qualifications Panel on June 1, 2000 and indicated that we
planned to file our 1999 Annual Report on Form 10-K and the Form 10-Q for the
quarter ended March 31, 2000 shortly after June 10, 2000. We believe that we
were able, at the hearing, to demonstrate our ability to sustain long-term
compliance with all of the maintenance criteria for continued listing on the
Nasdaq NMS. While we expect to meet the filing requirements, we can't ensure
that Nasdaq will not delist our securities. If that happens, our securities
would be immediately eligible to trade on the over-the-counter market.
On June 9, 2000, the last reported sales price of our common stock, as quoted
by the Nasdaq NMS, was $1.25 per share. On April 27, 2000, there were
approximately 303 record holders of our common stock.
We have never paid dividends on our common stock and do not anticipate paying
any cash dividends in the foreseeable future. We currently intend to retain
future earnings to support our operations and growth. Any payment of cash
dividends in the future will be dependent on the amount of funds legally
available therefor, our earnings, financial condition, capital requirements and
other factors that the Board of Directors may deem relevant. Additionally,
certain of our debt agreements restrict the payment of dividends.
14
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth, for the periods included, selected
consolidated data of our company for the five years ended December 31, 1999,
derived from our consolidated financial statements. The following information
should be read in conjunction with our consolidated financial statements and the
related notes thereto and "Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations" appearing elsewhere in this
report.
YEARS ENDED DECEMBER 31,(1)
-----------------------------------------------------------------
1999(7) 1998(6) 1997(5) 1996(4) 1995(3)
--------- --------- --------- --------- ---------
(IN THOUSANDS EXCEPT FOR PER SHARE AMOUNTS)
OPERATING DATA:
Sales ............................... $ 242,170 $ 218,208 $ 151,228 $ 99,405 $ 75,186
Cost of sales ....................... 202,235 168,369 111,387 75,822 57,540
--------- --------- --------- --------- ---------
Gross profit ........................ 39,935 49,839 39,841 23,583 17,646
Selling, general & administrative ... 53,479 38,311 28,837 19,264 15,441
--------- --------- --------- --------- ---------
Operating income (loss) ............. (13,544) 11,528 11,004 4,319 2,205
Equity in earnings (losses) of
unconsolidated affiliates ........ (5,952) 2,144 (61) -- --
Other income (expense) .............. (6,813) (3,439) (2,263) (1,589) (1,466)
--------- --------- --------- --------- ---------
Income (loss) before income taxes ... (26,309) 10,233 8,680 2,730 739
Income tax provision (benefit) ...... (7,276) 4,099 3,477 1,025 74
--------- --------- --------- --------- ---------
Net income (loss) ................... (19,033) 6,134 5,203 1,705 665
Distributions to shareholders ....... -- 34 130 77 68
--------- --------- --------- --------- ---------
Net income (loss) available to common
shareholders ..................... $ (19,033) $ 6,100 $ 5,073 $ 1,628 $ 597
========= ========= ========= ========= =========
Basic earnings (loss) per share ..... $ (1.27) $ .44 $ .44 $ .18 $ .07
Diluted earnings (loss) per share ... $ (1.27) $ .42 $ .41 $ .17 $ .07
Weighted average common shares
outstanding -- basic ............ 14,956 14,000 11,489 9,060 8,412
Weighted average common shares
outstanding -- diluted .......... 14,956 14,726 12,403 9,710 8,510
DECEMBER 31,
-----------------------------------------------------------------
1999 1998 1997 1996 1995
--------- --------- --------- --------- ---------
BALANCE SHEET DATA:
Working capital (deficit) ........... $ (36,079) $ 10,166 $ 7,768 $ 6,036 $ 4,676
Total assets ........................ 189,243 203,669 95,461 62,907 42,516
Long-term obligations (2) ........... 9,903 30,334 13,510 9,461 7,426
Total liabilities ................... 139,639 137,756 58,137 40,439 29,501
Shareholders' equity ................ 49,604 65,913 37,324 22,468 13,015
(1) The combinations of our company with GHX, Moores Pump, Ameritech and
United Wellhead in March through July 1998 and Blastco in 1999 and the
combination of Blastco and Valve Repair and Supply Company, Inc. in 1997
were accounted for as poolings-of-interest. The selected consolidated
financial data have been prepared as if these companies had been combined
for all periods presented.
(2) Excludes other long-term liabilities and deferred income taxes.
15
(3) We acquired Landreth Engineering's Connecticut manufacturing facility in
December 1995 and the results of its operations have been included from
the date of acquisition.
(4) We acquired American Rivet in November 1996 and the results of its
operations have been included from the date of acquisition.
(5) We acquired Lone Star in February 1997, Manifold Valve Services in March
1997, Rogers Equipment in August 1997 and Walker Bolt in November 1997.
The results of their operations have been included from the date of
acquisition.
(6) We acquired RJ Machine in January 1998, Philform in February 1998, Beaird
in July 1998, and Ideal Products and A&B Bolt in August 1998. The results
of their operations have been included from the date of acquisition.
(7) We sold Rogers Equipment in October 1999.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
GENERAL
We own and operate a diversified group of middle-market industrial
manufacturing and distribution businesses whose products include metal
fasteners, large and heavy pressure vessels, high-pressure industrial valves and
related products and services. Operations are organized into four business
segments: (i) fastener manufacturing and distribution; (ii) heavy fabrication;
(iii) valve manufacturing and repair (now known as "energy"); and (iv) machine
tool distribution.
Our historical financial statements have been restated to include, for all
periods presented, the results of operations from each of the companies that
were acquired in acquisitions accounted for under the pooling-of-interests
method. The results of operations for companies acquired in acquisitions
accounted for under the purchase method are included in our historical financial
statements from the date of such acquisition. Since these "purchase"
acquisitions were consummated at various times, the financial information
contained herein with respect to each fiscal period does not fully reflect the
results of operations that would have been achieved had these acquisitions been
consummated at the beginning of the periods presented or which may be achieved
in the future. In connection with each "purchase" acquisition, we have recorded
goodwill to the extent the purchase price exceeded the fair market value of the
specific assets acquired.
In June 2000, we reached an agreement in principle with our senior lenders to
amend our revolving line of credit agreement, including covenants we believe we
will be able to comply with. We expect that the new maturity date will be
January 31, 2001. There can be no assurance that the agreement to amend our
revolving line of credit will be executed. Although this proposed agreement will
help to address our near-term liquidity issues, we still have substantial debt
obligations, including $87.3 million in notes payable and revolving credit debt,
which are currently in default. Therefore, we will continue to pursue various
financing alternatives to meet our future short-term liquidity needs. We
anticipate refinancing our debt facilities in 2000, although no assurances can
be given that we will be able to refinance our debt or that we will be able to
obtain terms that are as favorable as those that currently exist.
In addition to our current focus on refinancing our indebtedness, our
business strategy is to increase the sales, cash flow and profitability of each
business segment through a turnaround plan that was developed and implemented by
the Company to address the operational difficulties that occurred during 1999
and into 2000. This turnaround plan entails streamlining our operations and
refocusing on our core competencies in the following three areas:
ENHANCE REVENUE GROWTH. We believe that significant opportunities exist to
enhance revenue growth in our business segments. We plan to achieve this
growth by (i) promoting cross-selling opportunities across our customer base;
(ii) identifying new applications and new markets for our existing products,
production capabilities, and skill base; and (iii) acquiring companies that
are strategic fits within our business segments. To date in the fastener
segment, we have integrated the sales of certain product lines across each of
the related companies within this segment. In the energy segment, rather than
integrate the sales of our product lines
16
across the companies within that segment, we have begun to integrate our
customer base through the joint marketing of the individual companies'
products and services to the entire energy segment customer base. Over the
next year, we will continue to expand on these efforts. In the heavy
fabrication segment, we have focused our efforts on developing and expanding
our power generation customers in order to solidify our position in this
burgeoning market. We believe that our strong market positions within the
niche markets we serve enhance our ability to effectively implement this
aspect of the turnaround plan. Although historically much of our growth has
been through acquisition, acquisitions will not be an area of emphasis until
our turnaround plan has been fully executed and our financial performance has
returned to historical levels.
ELIMINATE WASTE. We believe that significant opportunities exist to reduce or
eliminate waste by: (i) reducing working capital levels company-wide through
increased inventory turns and accelerated collection of receivables; (ii)
selling non-strategic assets that are not part of our core competencies;
(iii) consolidating selected facilities, (iv) converting our present
manufacturing processes to "lean" or more efficient manufacturing techniques,
and (v) fully implementing our ERP systems, which will allow our managers to
obtain and use production information faster and more efficiently than
before.
During the past sixteen months, we have (i) consolidated three of our
facilities into other existing facilities, (ii) sold two non-core business
units, (iii) closed and liquidated four non-core and unprofitable business
units, (iv) completed the installation of two ERP systems, (v) converted one
plant from a traditional "batch and queue" operation to one that employs
one-piece flow or cellular production, and (vi) reduced inventory and
receivables. On a going-forward basis, we intend to (i) consolidate an
additional plant into an existing facility, (ii) sell three parcels of excess
real estate, (iii) convert the distribution operations of our fastener
segment to a common ERP system, and (iv) continue the implementation of
"lean" manufacturing techniques. We plan to pursue similar measures when it
is our best interest to do so.
DEVELOP EMPLOYEES. We believe that employee development is an integral part
of our turnaround plan. Across all of our businesses, our management, sales
and operations teams have participated in numerous training and development
programs that focus on management, sales, production, technical, safety and
quality issues. We believe that this training is a valuable tool in the
development and enhancement of our employees' skill sets and that we will
continue to be rewarded for these efforts by a better trained, more
knowledgeable and skilled workforce.
Our results of operations are affected by the level of economic activity in
the industries served by our customers, which in turn may be affected by other
factors, including the level of economic activity in the U.S. and foreign
markets they serve. The principal industries served by our clients are the
automotive, home furnishings, petrochemical and oil and gas industries. An
economic slowdown in these industries could result in a decrease in demand for
our products and services, which could adversely affect our operating results.
During 1998 and into 1999, oil and gas prices declined significantly, resulting
in a decrease in the demand for our products and services that are used in the
exploration and production of oil and gas. Exploration and production
expenditures generally lag improvements in oil and gas prices; therefore,
although oil and gas prices have improved during 1999 and into 2000, we did not
experience significant sales increases through the end of 1999. We have
experienced increased sales and backlog in the first quarter of 2000.
This section should be read in conjunction with our consolidated financial
statements included elsewhere.
17
RESULTS OF OPERATIONS
The following table sets forth certain operating statement data for each of
our segments for each of the periods presented.
FOR THE YEARS ENDED DECEMBER 31,
------------------------------------------------
1999 1998 1997
------------- ------------- -------------
Sales:
Fastener Manufacturing and
Distribution ......... $ 122,422,980 $ 110,403,167 $ 79,472,953
Heavy Fabrication ........ 73,807,083 40,011,472
Energy ................... 40,463,067 53,487,881 56,130,384
Machine Tool Distribution 5,476,733 14,305,192 15,624,347
------------- ------------- -------------
242,169,863 218,207,712 151,227,684
------------- ------------- -------------
Cost of Sales:
Fastener Manufacturing and
Distribution ......... 98,127,852 83,189,597 59,166,263
Heavy Fabrication ........ 70,133,582 34,775,923
Energy ................... 29,126,250 38,531,540 38,762,176
Machine Tool Distribution 4,847,682 11,871,634 13,458,243
------------- ------------- -------------
202,235,366 168,368,694 111,386,682
------------- ------------- -------------
Selling, General and Administrative
Fastener Manufacturing and
Distribution ......... 26,078,184 20,319,963 14,762,350
Heavy Fabrication ........ 9,358,807 3,254,128
Energy ................... 10,393,494 10,639,143 10,767,049
Machine Tool Distribution 2,131,057 2,410,902 2,423,430
Corporate ................ 5,517,352 1,686,506 884,040
------------- ------------- -------------
53,478,894 38,310,642 28,836,869
------------- ------------- -------------
Operating Income (Loss) ............ $ (13,544,397) $ 11,528,376 $ 11,004,133
============= ============= =============
YEAR ENDED DECEMBER 31, 1999 COMPARED WITH YEAR ENDED DECEMBER 31, 1998
SALES. On a consolidated basis, sales increased $23,962,151, or 11%, in 1999
compared to 1998.
Sales for the fastener manufacturing and distribution segment increased
$12,019,813, or 11%, in 1999 compared to 1998. This increase was primarily
attributable to the acquisition of Ideal Products and A&B Bolt in the third
quarter of 1998, which together added $26.0 million in sales for 1999 compared
to 1998. The increase was partially offset by a $11.3 million aggregate sales
decrease in our stud bolt and gasket operations, excluding A&B Bolt. These
operations were adversely effected by depressed activity in the oil and gas
industries and a decline in spending in the refining and processing industries
related to reductions in our customers' profit margins that resulted from
increases in their feedstock prices. Additionally, sales at our engineered
fasteners operations, excluding Ideal Products, decreased by approximately $2.7
million due to several factors: (i) we lost two customers in 1999 that were
customers in 1998; one of these is again a customer in 2000 and the other, a
lower margin customer, is not expected to return, (ii) a third customer's
business was off significantly in 1999 compared with 1998 levels, though its
business has recovered in 2000 to date, (iii) one of our engineered fasteners
group companies serves the aircraft/defense industry, which was weak in 1999
compared with 1998, and (iv) the plant consolidations that took place in the
fourth quarter of 1999 were somewhat disruptive at the affected plants during
the actual transferring period.
18
Sales for the heavy fabrication segment increased by $33,795,611, or 84%, in
1999 compared to 1998. The heavy fabrication segment was formed July 1, 1998
with the acquisition of Beaird Industries. Under the purchase method of
accounting, no sales were recorded relating to this segment prior to the second
half of 1998. Sales for 1999 increased $2.2 million, or 3.1%, compared to 1998,
inclusive of Beaird's sales for the six-month period prior to our ownership.
This sales increase, which was greater during the first half of the year, was
based on a strategic decision to increase sales by expanding the range of
products manufactured, primarily to the production of wind turbine towers.
Beaird's primary contract for wind turbine towers required delivery of the
towers on or before June 30, 1999, the mid-point of our year. The man-hours
associated with the completed wind turbine tower contract were not replaced
during the remainder of 1999. Additionally, a substantial percentage of this
segment's revenues are derived from customers in the hydrocarbon processing
industry. Because of the volatile oil feedstock prices during 1999, the
customers of this segment experienced a reduction in their profit margins and
have materially reduced their capital spending. In addition, heavy competitive
pressure from overseas, particularly Korean competition, has substantially
reduced backlog. Due to the highly competitive market and the downturn in
spending in one of the primary industries that we serve, we experienced a
continued decline in revenues for this segment through the first quarter of
2000. However, at March 31, 2000, Beaird's backlog had increased 64% over
December 31, 1999.
Sales for the energy segment decreased $13,024,814, or 24%, in 1999 compared
to 1998. This sales decrease was primarily attributable to a decrease in sales
volume resulting from reductions in the worldwide rig count, continued caution
regarding the long-term hydrocarbon price environment, consolidation within the
oil and gas industry and ongoing cost reduction efforts by oil and gas
companies. Increasing worldwide demand for oil and gas coupled with declining
production in many areas should support a more stable and favorable level of oil
and gas prices in the future, resulting in increased exploration and production
spending in 2000 and an improved demand for oilfield services.
Sales for the machine tool distribution segment decreased $8,828,459, or 62%,
as demand for machine tools declined in the energy industry due to the factors
described in the energy segment disclosure above. However, as the level of oil
and gas prices has risen, sales of machine tools in this segment have increased
in the first quarter of 2000 in comparison to previous quarters in 1999. In
2000, we sold our export crating business, which had sales of $1,626,000 in
1999. We do not expect this transaction to have a material impact on the
operating results of this segment.
COST OF SALES. On a consolidated basis, cost of sales increased $33,866,672,
or 20%, in 1999 compared to 1998. Cost of sales as a percentage of sales was 84%
in 1999 compared to 77% in 1998. Cost of sales as a percentage of sales was
higher on a consolidated basis for a number of reasons. The addition, in July
1998, of the heavy fabrication segment, which typically has lower gross margins
on its large contract business in comparison to our other segments, negatively
impacted consolidated margins. The energy segment, which typically has the
highest margins of all of our segments, represented a smaller percentage of
total sales excluding the heavy fabrication segment (24% in 1999 compared to 30%
in 1998). Additionally, margins in the energy segment, fastener segment and
heavy fabrication segment decreased as competition for shrinking sales volumes
in the energy-related industries (as discussed above) placed downward pressure
on sales prices.
Cost of sales for the fastener manufacturing and distribution segment
increased $14,938,255, or 18%, in 1999 compared to 1998, primarily as a result
of the increased sales related to the addition of Ideal Products and A&B Bolt
acquired in 1998 as described above. Cost of sales as a percentage of sales was
80% for 1999 compared to 75% in 1998 as a result of management and production
changes, including planned reductions in inventory at two of our facilities.
Additionally, several large sales took place during 1999 that had lower than
average margins resulting from lower negotiated pricing, acceptable due to high
volume. In addition, cost of sales increased as a result the write-off of
inventory and tooling in the third and fourth quarters of 1999 of approximately
$3.3 million in the aggregate, primarily in association with the closing of our
Waterbury, CT and El Paso, TX manufacturing facilities and our Baytown, TX
distribution facility.
Cost of sales for the heavy fabrication segment increased $35,357,659, or
102%, in 1999 compared to 1998. Cost of sales as a percentage of sales was 95%
in 1999 compared to 87% for 1998. Gross margins were adversely affected by the
significant increase in sales during a period in which we were unable to hire or
retain adequate skilled workers due to the terms of our then existing union
contract that covered most of Beaird's workforce. The
19
union contract expired in November 1998 and the effectiveness of the workforce
was further reduced during the period of contract renegotiation. The backlog
created during the negotiating process was still being cleared in the first half
of 1999 and this, along with the increase in volume associated with the wind
turbine tower product addition, resulted in higher than usual overtime and
outsourcing costs. Margins also decreased as we were forced to lower our
contract values in response to the competitive pressures mentioned in relation
to the decline in sales. Cost of sales was also impacted by approximately $0.9
million in expenses, primarily relating to warranty reserves in connection with
the wind turbine tower contract and personnel severance and related charges.
Cost of sales for the energy segment decreased $9,405,290, or 24%, in 1999
compared to 1998, primarily as a result of the decrease in sales described
above. Cost of sales as a percentage of sales was 72% in 1999 and 1998. For the
first half of 1999, cost of sales as a percentage of sales decreased because as
sales decreased, our energy companies reduced their workforce and were able to
eliminate overtime and outsourcing of production. However, in the second half of
1999, margins decreased in our oilfield related businesses, especially in parts
and equipment sales, as competition in this market intensified due to the
reasons discussed in relation to sales decreases. In addition, we discontinued
certain product offerings and wrote-off related inventories at one of our
subsidiaries resulting in charges of approximately $0.2 million during the third
and fourth quarters of 1999.
Cost of sales for the machine tool distribution segment decreased $7,023,952,
or 59%, in 1999 compared to 1998 primarily as a result of the decrease in sales
described above. Cost of sales as a percentage of sales was 89% for 1999
compared to 83% for 1998. Sales related to export crating represented 30% of
total sales for 1999 compared to 23% for 1998. Gross margins have historically
been higher for crating compared to machine sales. The increase in margin due to
sales mix was partially offset due to the incurrence of $0.6 million in costs in
the third and fourth quarters of 1999 related to the liquidation of inventory
resulting from the closure of a used equipment sales subsidiary.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. On a consolidated basis,
selling, general and administrative expenses increased $15,168,252, or 40%, in
1999 compared to 1998. The increase is primarily the result of (i) an increase
of approximately $7.7 million reflecting the fact that 1999 included a full year
of expenses for Beaird, Ideal Products and A&B Bolt, which were acquired during
the third quarter of 1998, (ii) approximately $1.0 million in costs incurred due
to the closing of the Waterbury, CT, El Paso, TX and Baytown, TX facilities and
the consolidation of the distribution and production into other facilities,
along with severance costs associated with personnel reductions at various
facilities, (iii) an expense of $1.1 million for bad debt associated with the
settlement of a dispute with a major customer in the heavy fabrication segment,
(iv) professional fees related to productivity consultants in the amount of
approximately $1.1 million at our heavy fabrication segment, and (v) $1.7
million in expenses incurred in relation to the high yield bond offering that
was abandoned in the third quarter of 1999. In addition, we incurred fees
associated with our refinancing efforts and increased provisions for bad debt at
various subsidiaries due to the difficulties being experienced by our customers
in the upstream energy market. These increases were partially offset by cost
reduction measures implemented as a result of the decrease in sales.
Selling, general and administrative expenses for the fastener manufacturing
and distribution segment increased $5,758,221, or 28%, primarily as a result of
two acquisitions in the third quarter of 1998 as described above.
Selling, general and administrative expenses in the heavy fabrication segment
increased $6,104,679, or 188%, in 1999 compared to only six months ended
December 31, 1998 (Beaird was purchased effective July 1, 1998). As mentioned
above, the third and fourth quarters of 1999 included an aggregate of
approximately $1.1 million in expense for a provision for bad debt related to a
customer dispute and $1.1 million in professional fees associated with
productivity consultants. Selling, general and administrative expenses without
the provision and professional fees were comparable to the historical amounts
for the full year of 1998 (including expenses incurred by Beaird prior to its
acquisition by the Company).
Selling, general and administrative expenses for the energy segment decreased
$245,649, or 2%, in 1999 compared to 1998. This was primarily as the result of
the elimination of the salary and related expenses of the president of a company
who resigned in connection with our acquisition of the company, which was
accounted for under the pooling-of-interests method of accounting; other
personnel reductions; and reductions in other general and administrative
expenses in response to decreases in sales.
20
Selling, general and administrative expenses for the machine tool
distribution segment decreased $279,845, or 12%, in 1999 compared to 1998,
primarily as a result of cost reduction measures implemented due to the
decreases in sales described above.
Selling, general and administrative expenses at corporate increased
$3,830,846, or 227%, in 1999 compared to 1998. This increase was primarily
attributable to the $1.7 million in expenses incurred in relation to the high
yield bond offering that was abandoned in the third quarter of 1999, and
personnel additions and increases in professional fees associated with our
continued refinancing efforts.
EARNINGS (LOSSES) FROM EQUITY INVESTMENTS IN UNCONSOLIDATED AFFILIATES. On a
consolidated basis, earnings from equity investments decreased $8,095,734 in
1999 compared to 1998, primarily as a result of the Company's investment in one
affiliate, AWR, which is engaged in the demolition of refineries and site
remediation. Losses at this affiliate for 1999 include the recognition of
anticipated losses to complete its contracts. During 1999, AWR experienced a
tank failure in addition to other problems at a job site, significantly
increasing the cost of the site remediation. Additionally, we recognized a
$280,000 loss on the liquidation of an investment in an affiliate, Midland, that
had been engaged in the recycling business. Midland and AWR are equity
investments of Blastco.
INTEREST EXPENSE. On a consolidated basis, interest expense increased
$4,385,876, or 82%, in 1999 compared to 1998, primarily as a result of higher
debt levels and interest rates.
INTEREST INCOME. On a consolidated basis, interest income decreased $144,250,
or 28%, in 1999 compared to 1998, primarily as a result of lower cash balances
being held in interest bearing accounts.
OTHER INCOME, NET. On a consolidated basis, other income, net, was
approximately $2.5 million for 1999, primarily consisting of $1.0 million in
deferred gain recognition on the sale of a demolition contract, as well as
rental income and gains and losses on the disposal of assets.
INCOME TAXES. Income tax expense decreased $11,374,311 in 1999 compared to
1998. Our effective tax rate for 1999 was 28% compared to 40% for 1998. The
effective tax rate decreased as our federal income tax refunds received as a
result of net operating loss carrybacks were at an actual rate which was less
than 34%, the increase in the valuation allowance, and because, despite net
losses on a consolidated basis, we have tax expense at a state level.
NET INCOME (LOSS). On a consolidated basis, the Company incurred a net loss
of $19,033,290 in 1999 compared to net income of $6,134,229 in 1998 as a result
of the foregoing factors.
YEAR ENDED DECEMBER 31, 1998 COMPARED WITH YEAR ENDED DECEMBER 31, 1997
SALES. On a consolidated basis sales increased $66,980,028, or 44%, in 1998
compared to 1997.
Sales for the fastener manufacturing and distribution segment increased
$30,930,214, or 39%, in 1998 compared to 1997. This increase was primarily as a
result of the acquisitions of two companies in 1998 and the inclusion of a full
year of operations of two companies in 1998 that were acquired in 1997.
The heavy fabrication segment was formed July 1, 1998 with the acquisition of
Beaird. Under the purchase method of accounting, no sales were recorded relating
to this segment prior to the second half of 1998. Sales for the six months ended
December 31, 1998 increased compared to the periods prior to the acquisition of
Beaird by approximately $13.1 million or 49% over the comparable 1997 period and
$8.6 million, or 27%, over the six months ended June 30, 1998. Sales increased
based on a strategic decision to increase sales by expanding the range of
products manufactured.
21
Sales for the energy segment decreased $2,642,503, or 5%, in 1998 compared to
1997. This decrease was primarily due to a $3,487,015 decrease in sales at
Blastco attributable to the assignment of demolition contracts to AWR, a company
in which we have a 33 1/3% interest. Our interest in the earnings from these
contracts is included in the earnings from equity investments in unconsolidated
affiliates. The decrease in sales at Blastco was partially offset by an $844,512
increase in sales resulting from the inclusion of a full year of operations of
two companies acquired during 1997.
Sales for the machine tool distribution segment decreased $1,319,155, or 8%,
as demand for machine tools declined in the Texas Gulf Coast region.
COST OF SALES. On a consolidated basis, cost of sales increased $56,982,012,
or 51%, in 1998 compared to 1997. Cost of sales as a percentage of sales was 77%
in 1998 compared to 74% in 1997. Cost of sales as a percentage of sales was
higher on a consolidated basis primarily as a result of the addition in 1998 of
the heavy fabrication segment, which typically has lower gross margins on its
large contract business in comparison to our other segments.
Cost of sales for the fastener manufacturing and distribution segment
increased $24,023,334, or 41%, in 1998 compared to 1997. Cost of sales as a
percentage of sales remained relatively unchanged from 75% in 1998 compared to
74% in 1997.
Cost of sales for the heavy fabrication segment as a percentage of sales was
87% for the six months ended December 31, 1998. Gross margins were adversely
affected by the significant increase in sales during a period in which we were
unable to hire or retain adequate skilled workers due to the terms of our then
existing union contract that covered most of Beaird's workforce. The union
contract expired in November 1998 and the effectiveness of the workforce was
further reduced during the period of contract renegotiation. A new collective
bargaining agreement was entered into in late November 1998. We believe that the
terms of this agreement provide us with adequate flexibility to hire employees
with the appropriate skills. With the settlement of the contract and additional
new hires, Beaird experienced improvements in labor efficiency beginning in
December 1998. However, due to the increase in backlog during the third and
fourth quarters, the effects on gross margins in the fourth quarter of 1998
continued through the first six months of 1999 as Beaird reduced its backlog.
Cost of sales for the energy segment decreased $230,636, or 0.6%, in 1998
compared to 1997. This decrease was primarily due to the decrease in sales at
Blastco described above, offset by the inclusion of a full year of operations of
two companies acquired during 1997. Cost of sales as a percentage of sales was
72% in 1998 compared to 69% in 1997.
Cost of sales for the machine tool distribution segment decreased $1,586,609,
or 12%, in 1998 compared to 1997 primarily as a result of the decrease in sales
described above.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. On a consolidated basis,
selling, general and administrative expenses increased $9,473,773, or 33%, in
1998 compared to 1997.
Selling, general and administrative expenses for the fastener manufacturing
and distribution segment increased $5,557,613, or 38%, primarily as the result
of acquisitions in the third quarter of 1998 and the inclusion of a full year of
operations of two companies in 1998 that were acquired in late 1997.
Selling, general and administrative expenses in the heavy fabrication segment
for the six months ended December 31, 1998 relate to Beaird's operations during
the second half of 1998 and were comparable to the historical amounts prior to
the acquisition of Beaird.
Selling, general and administrative expenses for the energy segment decreased
$127,906, or 1%, in 1998 compared to 1997. This was primarily as the result of
the elimination of the salary and related expenses of the president of a company
who resigned in connection with our acquisition of the company.
Selling, general and administrative expenses for the machine tool
distribution segment for 1998 did not change significantly from 1997.
22
Selling, general and administrative expenses at corporate increased $802,466,
or 91%, in 1998 compared to 1997 primarily as a result of personnel increases
and increases in professional fees that have resulted from our growth.
EARNINGS FROM EQUITY INVESTMENTS IN UNCONSOLIDATED AFFILIATES. On a
consolidated basis, earnings from equity investments increased $2,204,651 in
1998 compared to 1997, primarily as a result of a full year of operations from
our investment in AWR, which had in process two contracts for demolition and
site abatement and from our investment in OF Acquisition, L.P. ("OF"), which was
entered into during 1998.
INTEREST EXPENSE. On a consolidated basis, interest expense increased
$2,587,616, or 94%, in 1998 compared to 1997, primarily as a result of $57.7
million in debt assumed or incurred in connection with acquisitions in 1998.
INTEREST INCOME. On a consolidated basis, interest income increased $361,541,
or 226%, in 1998 compared to 1997. Interest income was earned primarily on the
$10.9 million raised in January 1998 in connection with our offer to Class B
warrant holders, which was held in interest bearing accounts prior to being used
to repay debt and in acquisitions, as well as on notes receivable, which have
increased since 1997.
OTHER INCOME, NET. On a consolidated basis, other income, net, increased
$1,049,648, or 322%, in 1998 compared to 1997, primarily as a result of
recognition of income resulting from the sale of an interest in a demolition
contract to one of our equity investees.
INCOME TAXES. Income tax expense increased $621,530, or 18%, in 1998 compared
to 1997. The effective tax rate was 40% for 1998 and 1997.
NET INCOME. Net income was $6,134,229 in 1998 compared to $5,203,292 in 1997
as a result of the foregoing factors.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 1999, we had a retained deficit of $3,868,157 and negative
working capital of $36,078,657 as a result of $88,959,491 in notes payable and
long-term obligations classified as current liabilities. At March 31, 2000, we
had a retained deficit of $9,149,903 and negative working capital of $41,902,642
as a result of $86,672,523 in notes payable and long-term obligations classified
as current liabilities.
At December 31, 1999, we had short-term debt of $46,192,562, current
maturities of long-term obligations of $42,766,929, long-term obligations of
$9,902,936 and shareholders' equity of $49,603,578. Historically, our principal
liquidity requirements and uses of cash have been for debt service, capital
expenditures, working capital and acquisition financing, and our principal
sources of liquidity and cash have been from cash flows from operations,
borrowings under long-term debt arrangements and issuances of equity securities.
We have financed acquisitions through bank borrowings, sales of equity and
internally generated funds.
PRINCIPAL DEBT INSTRUMENTS. As of December 31, 1999, we had an aggregate of
$98.9 million borrowed under our principal bank credit facility and debt
instruments entered into or assumed in connection with acquisitions as well as
other bank financings. In June 2000, we reached an agreement in principle to
amend our credit agreement with our Senior Lenders, which represents $57.9
million of debt, through January 2001.
We are currently exploring various financing alternatives to meet our future
liquidity needs. We anticipate refinancing certain of our debt facilities in
2000, although no assurances can be given that we will be able to refinance such
facilities or that we will be able to obtain terms that are as favorable as
those that currently exist.
We have a $55 million revolving line of credit with Comerica Bank-Texas,
National Bank of Canada and Hibernia Bank (the "Senior Lenders"), which expires
in June 2001. We were not in compliance with certain financial covenants at each
of the required quarterly reporting dates during 1999. We requested and received
waivers from the Senior Lenders for the March 31, 1999 and June 30, 1999
reporting periods; however, we did not
23
seek waivers for the reporting dates of September 30, 1999, December 31, 1999 or
March 31, 2000. We were in violation of the credit agreement and although the
Senior Lenders have not expressed the intent to call this obligation, the Senior
Lenders retain the right to do so. The principal amount of the credit facility
is the lesser of $55 million at December 31, 1999 or a defined borrowing base.
The credit facility bore interest at the prime rate of Comerica at December 31,
1999 (which was 8.5% at December 31, 1999), and allows the borrowing of funds
based on 80% of eligible accounts receivable and 50% of eligible inventory. At
December 31, 1999, the borrowing capacity under the credit facility was $46.8
million and availability was $0.6 million. At June 9, 2000, the borrowing
capacity was $44.7 million and availability was $0.4 million. We have held
preliminary discussions with the Senior Lenders to modify the terms and
covenants of the credit agreement. We have reached an agreement in principle
with the Senior Lenders that would (i) accelerate maturity to January 31, 2001,
(ii) reduce the revolving credit line to the lesser of $50 million or the
defined borrowing base, (iii) increase the interest rate to prime plus 3%,
payable weekly and (iv) modify the financial covenants to require maintenance of
minimum consolidated tangible net worth, and earnings before interest, taxes,
depreciation and amortization ("EBITDA")-to-debt-service ratio as well as
require limitations on capital expenditures. In addition, the Senior Lenders
would waive all prior violations under the credit agreement. However, no
assurances can be given that we will be able to successfully conclude the
arrangement being considered.
In connection with the proposed credit agreement amendment, St. James would
be required to provide a $2 million guaranty to the Senior Lenders in order to
secure any over-advances that may occur under the terms of the proposed credit
agreement amendment. In exchange for providing this guaranty, we plan to (i)
issue to St. James warrants to acquire 400,000 shares of our common stock at
$1.25 per share (valued at $84,000), and (ii) forgive a $0.35 million note
receivable from SJCP. In addition, if the guaranty is funded, we plan to issue
to St. James up to 500,000 warrants to acquire our common stock at $1.25 per
share (valued at up to $105,000), depending on the amount of the funding.
We have a $15 million note payable to EnSerCo, L.L.C. ("EnSerCo") that became
due on November 15, 1999. We were granted an extension of the due date through
January 31, 2000. On January 31, 2000, we were unable to repay the amounts
borrowed and defaulted on the note payable. EnSerCo has not called this note
due; however, it retains the right to do so. We have held preliminary
discussions with EnSerCo to modify the terms of the original note agreement,
which include extending the due date. Although we have exchanged non-binding
term sheets with EnSerCo that outline certain concepts that might be included in
an amendment to the credit agreement in the future, including (i) increasing the
principal amount to reflect unpaid accrued interest to date, (ii) extending the
maturity date to February 28, 2001, and (iii) increasing the interest rate to a
15% annual rate, payable at maturity; no agreement has been reached between the
parties. Furthermore, no assurances can be given that we will be able to
successfully conclude the arrangement being considered.
We have a $9.5 million term note with Heller Financial, Inc. ("Heller"),
which expires on September 30, 2004. We were not in compliance with certain
financial covenants at each of the required quarterly reporting dates during
1999. We requested and received waivers from Heller through the September 30,
1999 reporting period; however, we did not seek waivers for the reporting dates
of December 31, 1999 or March 31, 2000. We are in violation of the credit
agreement and although Heller has not expressed the intent to call this
obligation, it retains the right to do so. We have held preliminary discussions
with Heller to obtain waivers for the events of non-compliance; however, no
assurances can be given that we will be able to successfully obtain the required
consents.
We are in default of a $5 million note payable to Trinity Industries, Inc.
("Trinity"). We and Trinity have entered into litigation regarding the note
payable (see Item 3. Legal Proceedings).
Our liquidity has been constrained by our borrowing base limitations and by
our operating losses and, as a result, our financial position and cash flows
have been adversely effected. We have experienced an increase in the level of
our accounts payable at December 31, 1999 as compared to prior periods. We
continue to explore various alternative to improve our liquidity, including
refinancing our indebtedness with other lenders. In addition, we have identified
and are pursuing the sale of non-strategic assets as well as raising additional
debt and equity capital. There can be no assurance that we will successfully
refinance our indebtedness with other lenders, or successfully sell
non-strategic assets.
24
During the third quarter of 1999, we developed and implemented a turnaround
plan to streamline our operations and refocus on our core competencies through
enhanced revenue growth, elimination of waste and development of employees. As a
part of this turnaround plan, we closed duplicate facilities, reduced personnel,
eliminated certain products, wrote-off the related inventory, and adopted
uniform information systems platforms in the fastener segment. On a
going-forward basis, we intend to (i) consolidate an additional plant into an
existing facility, (ii) sell three parcels of excess real estate, (iii) convert
the distribution operations of our fastener segment to a common ERP system, and
(iv) continue the implementation of "lean" manufacturing. We will continue to
pursue other similar measures when it is our best interest to do so.
The energy segment, excluding our refinery demolition operations, is closely
tied to the price of oil and gas. Sales and operating income within the energy
group have been adversely effected over the past twelve to fifteen months. This
reduction in sales volume and profitability has been primarily attributable to
reductions in the worldwide and gulf coast rig counts, continued caution
regarding the long-term hydrocarbon price environment, consolidation within the
oil and gas industry, and ongoing cost reduction efforts by oil and gas
companies. Within the energy segment, we believe that sales reached their lowest
levels during the second and third quarters of 1999. Increasing worldwide demand
for oil and gas coupled with declining production in many areas should support a
more stable and favorable level of oil and gas prices in the future, resulting
in increased exploration and production spending in 2000 and an improved demand
for oilfield services. We have experienced such a trend for the first quarter of
2000 in our energy group, with increasing backlog and sales in the first quarter
of 2000 over the fourth quarter of 1999.
Within the fastener segment, the stud bolt and gasket group serves both the
oil and gas exploration and production industry and the hydrocarbon processing
industry. The stud bolt and gasket operations have experienced results similar
to the energy segment operations. As a result in 1999, we closed an unprofitable
distribution location, eliminated the personnel at that location and wrote-off
inventory. Our expectation is that with increasing oil and gas prices, sales and
profitability within these operations will improve. We have experienced such a
trend for the first quarter of 2000 in our stud bolt and gasket operations, with
increasing backlog and sales in the first quarter of 2000 over the fourth
quarter of 1999.
Within the fastener segment, the engineered fasteners group's operating
profits have been adversely effected by over capacity and resulting inefficient
operations. As a result, we have closed two manufacturing facilities and have
consolidated their operations into the three remaining facilities. Personnel
reductions and inventory write-offs took place in connection with these facility
consolidations. We expect the full benefit of the various overhead and cost
reductions to occur in 2000.
The heavy fabrication segment's sales and profitability have decreased
significantly in the second half of 1999 compared to 1998. This segment's
customers have seen a reduction in their margins because of the volatility of
oil feedstock prices during 1999, and have significantly reduced their capital
spending. In addition, it has experienced significant competitive pressures from
overseas. Mainly because of these factors, revenues continued to decline in the
fourth quarter of 1999 and the first quarter of 2000. However, in response to
this revenue decline, we have continued to reduce overhead and make other
operational improvements to increase the efficiency of our operations as well as
seek new markets for our products. The composition of our backlog at the end of
the first quarter of 2000 reflects this approach since a significant portion
consists of products for the power generation industry as opposed to our
traditional products that serve the hydrocarbon processing industry.
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES. For the year ended
December 31, 1999, net cash provided by operating activities was $5.2 million
compared to 1998, which used cash of $5.1 million and 1997, which provided cash
of $3.4 million. Cash was provided in 1999 primarily because although the sum of
the net loss added to depreciation and amortization was a negative number, it
was more than offset by the positive cash generated by the reduction of accounts
receivable and inventory levels during 1999 which decreased as sales decreased.
The cash used in 1998 was primarily as a result of the acquisition of Beaird and
the related net increases in receivables, inventory, other assets and accounts
payable over those acquired. Beaird's receivables and inventories increased as
sales increased for the six months ended December 31, 1998 compared to the six
month period ended June 30, 1998, which was prior to the Beaird acquisition.
Additionally, receivables and payables increased at Beaird as $7.0 million in
accounts receivable and all liabilities were distributed to the seller prior to
acquisition. Cash was provided in 1997 primarily because net income and
depreciation and amortization were greater than increases in current assets
25
resulting from increased sales.
NET CASH USED IN INVESTING ACTIVITIES. Principal uses of cash are for capital
expenditures and acquisitions. For 1999, 1998 and 1997, the Company made capital
expenditures of approximately $7.4 million, $6.2 million and $5.0 million,
respectively. In 1999, 1998 and 1997, the Company made investments in
unconsolidated affiliates of $3.4 million, $0.9 million and $1.7 million,
respectively. Other significant investing activities included acquisitions in
1998 and 1997. The aggregate cash purchase price for acquisitions was $58.7
million in 1998 and $18.9 million in 1997.
NET CASH PROVIDED BY FINANCING ACTIVITIES. Sources of cash from financing
activities include borrowings under our credit facilities and sales of equity
securities. Financing activities provided net cash of $2.5 million in 1999
compared with $13.5 million in 1998 and $1.4 million in 1997. During 1999, we
had net borrowings of $3.7 million under our credit facilities compared to $9.3
million and $1.8 million during 1998 and 1997, respectively. During 1999, we had
proceeds from issuance of long-term obligations of $3.6 million compared to
proceeds of $1.5 million in 1998 and $3.3 million in 1997. During 1999, we made
principal payments on long-term obligations of $7.5 million compared to $9.3
million in 1998 and $5.4 million in 1997. During 1999, we issued common stock
providing net proceeds of $2.7 million compared to net proceeds of $12.9 million
in 1998 and $2.1 million in 1997.
INFLATION
Although we believe that inflation has not had any material effect on
operating results, our business may be affected by inflation in the future.
SEASONALITY
We believe that our business is not subject to any significant seasonal
factors, and do not anticipate significant seasonality in the future.
NEW ACCOUNTING PRONOUNCEMENTS
In June 1999, the Financial Accounting Standards Board (the "FASB") issued
Statement of Financial Accounting Standard No. 137, Accounting for Derivative
Instruments and Hedging Activities - Deferral of the Effective Date of FASB
Standard No. 133. This statement extended the effective date of Statement No.
133, which establishes accounting and reporting standards for derivative
instruments embedded in other contracts, and is effective for all fiscal years
beginning after June 15, 2001. We are currently evaluating what impact adoption
of this statement will have on our consolidated financial statements.
YEAR 2000 COMPLIANCE
We were faced with the task of assuring that our automated data processing
and other microprocessor controlled equipment were capable of distinguishing
21st century dates. We believe that our financial and other business
applications are Year 2000 compliant as well as our manufacturing plant control
systems and other equipment and devices with embedded microprocessor controls.
During the first part of 2000, only minor Year 2000 problems have been
encountered, which caused virtually no impact to business operations. However,
final resolution of our Year 2000 compliance cannot be fully evaluated until all
possible computer applications and processes have been exercised and Year 2000
readiness of key third party suppliers, service providers and customers has been
completely validated.
Costs incurred relating to making the company Year 2000 compliant, which
were not significant, were expensed in the period in which they were incurred.
26
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk generally represents the risk that losses may occur in the value
of financial instruments as a result of movements in interest rates, foreign
currency exchange rates and commodity prices.
We are exposed to some market risk due to the floating interest rate under
our revolving line of credit and certain of our term debt. As of December 31,
1999, the revolving line of credit had a principal balance of $46.2 million and
an interest rate that floats with prime. We also have $24.5 million of long-term
debt bearing interest at Libor plus 2.5% to 5% and long-term debt of $11.7
million and an interest rate that floats with prime. A 1.0% increase in interest
rates could result in a $0.8 million annual increase in interest expense on the
existing principal balance. We have determined that it is not necessary to
participate in interest rate-related derivative financial instruments because we
currently do not expect significant short-term increases in interest rates
charged under the revolving line of credit.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements and supplementary data required hereunder are
included in this report as set forth in Item 14(a).
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
ROBERT E. CONE, 48, is currently Chairman of the Board and a director, having
resigned as President and Chief Executive Officer effective June 1, 2000. He
founded the Company in 1989 and served as President, Chief Executive Officer,
Chairman of the Board and director of the Company from 1989 until June 1, 2000.
MICHAEL N. MARSH, 48, was elected President and Chief Executive Officer of
the Company effective June 1, 2000. From 1996 to May 2000, he was the Chief
Executive Officer of Growth Resources, Inc., an oilfield service company engaged
in marine and offshore vessel cleaning, decontamination and waste management.
From 1993 to 1996, Mr. Marsh was a principal of Financial Modeling, Inc., a
consulting firm. From 1991 to 1993, Mr. Marsh served as Vice President of Foster
Wheeler Environmental Services, Inc., a wholly-owned subsidiary of Foster
Wheeler Corp. Prior to 1991, Mr. Marsh was employed by The Brand Companies,
Inc., an industrial and environmental services company, in various operational
and managerial capacities.
CHRISTINE A. SMITH, 47, has served as Executive Vice President and Chief
Financial Officer of the Company since January 1995. From April 1989 through
December 1994, Ms. Smith was a principal of The Spinnaker Group, an investment
banking firm providing services primarily to manufacturing and distribution
companies. Prior to joining The Spinnaker Group, Ms. Smith, a certified public
accountant, was a Senior Manager with Ernst & Young.
BEN B. ANDREWS, 46, was elected President of the Stud Bolt and Gasket Group
of the Company effective June 1, 2000. He served as Chief Operating Officer of
the Company from August 1999 until June 1, 2000. From April 1, 1998 through July
1999, Mr. Andrews served as Chief Operating Officer of the Company's Fastener
division. From April 1995 until March 31, 1998, Mr. Andrews was an employee and
shareholder of GHX, Inc., which was acquired by the Company on that date. Prior
to that, Mr. Andrews was a principal of The Spinnaker Group, an investment
banking firm providing services primarily to manufacturing and distribution
companies.
ANDREW CORMIER, 57, was elected President of the Energy Group effective June
1, 2000. Prior to that, he was President of Manifold Valve Service.
MICHAEL SHIRKEY, 45, was elected President of the Engineered Fasteners Group
effective June 1, 2000. Prior to that, he was President of Orbitform.
27
BARBARA S. SHULER, 53, has served as Secretary of the Company since February
1992 and as a director of the Company since September 1991. Since 1974, Ms.
Shuler has been self-employed in auction management, marketing, advertising and
promotional aspects of the equine industry, serving as President of Shuler, Inc.
CHARLES E. UNDERBRINK, 45, was appointed as a director of the Company on
February 16, 2000 to fill the vacancy created by James Brock in June 1999. He is
the Chief Executive Officer and Chairman of St. James Capital Corp. and SJMB,
L.L.C., which are Houston-based merchant banking firms. Mr. Underbrink has been,
from August 1996 to the present, a principal of HUB, Inc., which is a lender to
small capitalization businesses and the operator of mini-storage facilities
located in Minnesota and Wisconsin. Additionally, he is a director of Black
Warrior Wireline Corp., Summerset House Publishing, Inc. and Monorail Computer
Corporation.
CHARLES J. ANDERSON, 76, has served as a director of the Company since
September 1991. Since 1985, Mr. Anderson has been engaged in private business
investments. Prior to 1985, Mr. Anderson served as Senior Sales Vice President
and Director of Sales and was a partner of the Delaware Management Company, the
manager of the Delaware Group of Mutual Funds and certain other private pension
funds.
JAMES W. KENNEY, 51, has served as a director of the Company since October
1992. Since October 1993, Mr. Kenney has served as Executive Vice President of
San Jacinto Securities, Inc. From February 1992 to September 1993, he served as
the Vice President of Renaissance Capital Group, Inc. Prior to that time, Mr.
Kenney served as Senior Vice President for Capital Institutional Services, Inc.
and in various executive positions with major southwest regional brokerage
firms, including Rauscher Pierce Refsnes Inc. and Weber, Hall, Sale and
Associates, Inc. Mr. Kenney is a director of Consolidated Health Care
Associates, Inc., a company that operates physical rehabilitation centers;
Scientific Measurement Systems, Inc., a developer of industrial digital
radiography and computerized tomography; and Tricom Corporation, a company that
develops products and services for the telecommunication industry.
JOHN P. MADDEN, 57, has served as a director of the Company since October
1992. From January 1992 to April 1993, Mr. Madden served as Chairman of the
Board of The Rex Group, Inc. (the "Rex Group"), which was purchased by the
Company in 1992. Mr. Madden is Chairman and Chief Executive Officer of Ashburn
Industries, Inc., a metalworking fluids manufacturer, and Mr. Madden is engaged
in private industrial commercial real estate activity.
JOHN L. THOMPSON, 40, has served as a director of the Company since 1997. Mr.
Thompson is a director and President of St. James Capital Corp. and SJMB,
L.L.C., which are Houston-based merchant banking firms. Prior to co-founding St.
James in August 1995, Mr. Thompson served as a Managing Director of Corporate
Finance at Harris Webb & Garrison, a regional investment banking firm with a
focus on mergers and acquisitions, financial restructuring and private
placements of debt and equity issuances. Additionally, he is a director of Black
Warrior Wireline Corp., and Collins & Ware, Inc.
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
Section 16(a) of the Securities Exchange Act of 1934, as amended, requires
our officers and directors, and persons who own more than 10% of a registered
class of our equity securities, to file reports of ownership and changes of
ownership with the Securities and Exchange Commission. Officers, directors and
greater than 10% shareholders are required to furnish us with copies of all
Section 16(a) reports they file. Based solely on our review of the forms
received by us, we believe that during 1999, all filing requirements applicable
to our officers, directors and greater than 10% shareholders were timely met.
28
ITEM 11. EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE. The following table provides certain summary
information covering compensation paid or accrued during 1999, 1998 and 1997 to
our former President and Chief Executive Officer and the other executive
officers, whose annual compensation, determined as of the end of the last fiscal
year, exceeds $100,000.
LONG-TERM
ANNUAL COMPENSATION COMPENSATION
------------------------------- -----------------------------
SECURITIES
NAME AND UNDERLYING ALL OTHER
PRINCIPAL POSITION YEAR SALARY($) BONUS($) OTHER($) OPTIONS(#) COMPENSATION($)
- ----------------------------- ---- ------- ------- ------- ---------- --------------
Robert E. Cone(1) ........... 1999 250,000 18,800 92,300(2) 90,000 0
Former President and 1998 259,153 16,000 4,800(2) 400,000(3) 0
Chief Executive Officer 1997 185,000 -- 4,000(2) -- 0
Ben B. Andrews(4) ........... 1999 146,297 -- -- -- 0
Former Chief 1998 116,250 -- -- 5,000 0
Operating Officer 1997 -- -- -- -- 0
Thomas C. Landreth(5) ....... 1999 187,000 55,470 11,000(2) -- 0
Former Executive Vice 1998 175,780 19,553 11,000(2) 10,000 0
President and President- 1997 132,455 7,070 12,000(2) 25,000 0
Fastener Manufacturing
and Sales Division
Christine A. Smith .......... 1999 160,000 18,800 35,167(2) 60,000 0
Executive Vice President 1998 160,000 16,000 6,000(2) 200,000(3) 0
and Chief Financial Officer 1997 111,833 -- 6,000(2) 25,000 0
- -----------------------
(1) Mr. Cone resigned as President and Chief Executive Officer effective May
31, 2000. He currently serves as Chairman of the Board.
(2) Fringe benefits of $4,800 for Mr. Cone, $11,000 for Mr. Landreth, and
$6,000 for Ms. Smith. Also included in these totals is debt forgiveness of
$87,500 for Mr. Cone and $29,167 for Ms. Smith.
(3) The Compensation Committee cancelled these options in April 1999.
(4) Mr. Andrews joined the Company on April 1, 1998. Effective June 1, 2000,
he became President of the Stud Bolt and Gasket Group of the Company.
(5) Effective June 1, 2000, Mr. Landreth became Chief Technology Officer of
the Engineered Fasteners Group of the Company.
29
OPTION GRANTS IN 1999. The following table provides certain information with
respect to options granted to the executive officers during 1999 under our
stock option plans:
INDIVIDUAL GRANTS
-------------------------------------------------------
NUMBER OF POTENTIAL REALIZABLE
SHARES OF VALUE AT ASSUMED
COMMON PERCENT OF ANNUAL RATES OF STOCK
STOCK TOTAL OPTIONS PRICE APPRECIATION FOR
UNDERLYING GRANTED TO EXERCISE OPTION TERMS(3)
OPTIONS EMPLOYEES IN PRICE EXPIRATION ----------------------
NAME GRANTED($) FISCAL YEAR ($/SHARE)(2) DATE 5%($) 10%($)
- --------- --------- ------------ ------------ ---------- -------- ---------
Robert E. Cone ... 90,000(1) 60.0% 3.19 11/02/09 180,442 457,277
Ben B. Andrews ... -- -- -- -- -- --
Thomas C. Landreth -- -- -- -- -- --
Christine A. Smith 60,000(1) 40.0% 3.19 11/02/09 120,295 304,851
- ------------------
(1) These options were fully vested at December 31, 1999.
(2) The exercise price is the market value of the Common Stock on the date of
grant. The market value is calculated by averaging the closing bid and ask
price for the stock as quoted by The Nasdaq National Market System on the
date of grant.
(3) The indicated 5% and 10% rates of appreciation are provided to comply with
Securities and Exchange Commission regulations and do not necessarily
reflect our views as to the likely trend in the stock price. Actual gains,
if any, on stock option exercises and the sale of Common Stock holdings
will depend on, among other things, the future performance of the Common
Stock and overall stock market conditions.
OPTION EXERCISES DURING 1999 AND YEAR END OPTION VALUES. The following table
sets forth information on options exercised by the executive officers during
1999 and unexercised options and the value of in-the-money, unexercised options
held by the executive officers at December 31,1999.
NUMBER OF SECURITIES
UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED OPTIONS IN-THE-MONEY OPTIONS AT
SHARES AT FISCAL YEAR END(#) FISCAL YEAR END($)(1)
ACQUIRED ON VALUE -------------------------- --------------------------
NAME EXERCISE (#) REALIZED($) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ---- ------------- ---------- ----------- ------------- ----------- -------------
Robert E. Cone.................... --- --- 240,000 --- 0 ---
Ben B. Andrews.................... --- --- 5,000 --- 0 ---
Thomas C. Landreth................ --- --- 28,750 --- 0 ---
Christine A. Smith................ --- --- 78,750 --- 0 ---
- ---------------
(1) Represents the difference between the average of the closing bid and ask
price for the Common Stock as quoted by The Nasdaq National Market System
on December 31, 1999 (2 9/16), and any lesser exercise price.
EMPLOYMENT AGREEMENTS
Effective July 1, 1991, we entered into an employment agreement with Mr.
Cone, which was subsequently amended and extended. As amended, the employment
agreement extends for successive year-to-year terms unless and until terminated
(i) after seven-days written notice given to Mr. Cone upon the failure or
inability for any reason other than illness or temporary disability not
exceeding 90 consecutive days, of Mr. Cone to devote the lesser of (x) 40 hours
per week or (y) sufficient time to perform the duties of any corporate offices
he holds; (ii) after the expiration of seven days written notice given to Mr.
Cone following his criminal conviction by any state or federal court of any
illegal or criminal act, except for minor traffic violations or minor
misdemeanors, (iii) due to Mr.
30
Cone's death, or (iv) as otherwise mutually agreed to by the parties in writing.
The Employment Agreement provides for an annual salary of $250,000 for 1999,
which increases 7% per year during the term of the agreement. On any termination
of the Employment Agreement, Mr. Cone is entitled only to the compensation,
vacation, sick pay, and other benefits accrued as of the date of termination.
We have no employment agreements with any of our other executive officers.
PERFORMANCE GRAPH
The following performance graph compares the performance of our common stock to
the NASDAQ Composite Index and to the Index of NASDAQ Industrial Companies. The
graph covers the period from December 31, 1994 to December 31, 1999.
[LINEAR GRAPH PLOTTED FROM DATA IN TABLE BELOW]
NASDAQ NASDAQ
COMPOSITE INDUSTRIAL IHI
--------- ---------- -------
Dec. 31, 1994 100.000 100.000 100.000
Dec. 31, 1995 139.918 127.974 115.773
Dec. 31, 1996 171.689 147.203 312.237
Dec. 31, 1997 208.834 161.981 347.320
Dec. 31, 1998 291.597 173.021 245.580
Dec. 31, 1999 541.160 297.020 71.934
[Graph]
31
COMPENSATION COMMITTEE REPORT
The Compensation Committee of the Board of Directors has furnished the
following report on executive compensation for 1999:
Under the supervision of the Committee, the Company has developed and
implemented compensation policies, plans and programs designed to enhance the
profitability of the Company, and therefore shareholder value, by aligning
closely the financial interests of the Company's senior executives with those of
its shareholders. The Committee has adopted the following objectives as
guidelines for making its compensation decisions:
- - Provide a competitive total compensation package that enables the Company to
attract and retain key executives.
- - Integrate all compensation programs with the Company's annual and long-term
business objectives and strategy, and focus executive behavior on the
fulfillment of those objectives.
- - Provide variable compensation opportunities that are directly linked to the
performance of the Company and that align executive remuneration with the
interests of shareholders.
Executive base compensation for senior executives is intended to be
competitive with that paid in comparably situated industries and to provide a
reasonable degree of financial security and flexibility to those individuals who
the Board of Directors regards as adequately performing the duties associated
with the various senior executive positions. In furtherance of this objective,
the Committee periodically, though not necessarily annually, reviews the salary
levels of a sampling of companies that are regarded by the Committee as having
sufficiently similar financial and operational characteristics to provide a
reasonable basis for comparison. Although the Committee does not attempt to
specifically tie executive base pay to that offered by any particular sampling
of companies, the review provides a useful gauge in administering the Company's
base compensation policy. In general, however, the Committee considers the
credentials, length of service, experience, and consistent performance of each
individual senior executive when setting compensation levels.
To ensure retention of qualified management, the Company entered into an
employment agreement with its President and Chief Executive Officer. The
employment agreement established annual base salary amounts that the Committee
may increase based on the foregoing criteria.
The Incentive Plan is intended to provide key employees, including the Chief
Executive Officer and other executive officers of the Company and its
subsidiaries, with a continuing proprietary interest in the Company, with a view
to increasing the interest in the Company's welfare of those personnel who share
the primary responsibility for the management and growth of the Company.
Moreover, the Incentive Plan provides a significant non-cash form of
compensation that is intended to benefit the Company by enabling it to continue
to attract and to retain qualified personnel.
The Compensation Committee is authorized to make incentive equity awards
("Incentive Awards") under the Incentive Plan to key employees, including
officers (whether or not they are also directors), of the Company and its
subsidiaries. Although the Incentive Awards are not based on any one criterion,
the Committee will direct particular attention to management's ability to
implement the Company's strategy of geographic expansion through acquisition
followed by successful integration and assimilation of the acquired companies.
In making Incentive Awards, the Committee will also consider margin improvements
achieved through management's realization of operational efficiencies, as well
as revenue and earnings growth. During 1999, stock options to purchase 90,000
shares of Common Stock were awarded to Mr. Cone.
1999 COMPENSATION COMMITTEE OF THE BOARD OF DIRECTORS
JOHN P. MADDEN, CHAIR
JOHN L. THOMPSON
JAMES W. KENNEY
32
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The table below sets forth certain information regarding the beneficial
ownership of Common Stock at June 9, 2000, by (i) each person known to us to
beneficially own more than 5% of our Common Stock, (ii) each director, (iii)
each executive officer named in the Summary Compensation Table, and (iv) all
directors and executive officers as a group.
NUMBER OF SHARES
NAME OF BENEFICIALLY PERCENTAGE OF
BENEFICIAL OWNER OWNED(1) CLASS
- ---------------------------------------- ------------------- --------------
St. James Capital Partners, L.P.
777 Post Oak Blvd., Suite 950
Houston, Texas 77056 (2)........... 1,049,520 6.9%
SJMB, L.P.
777 Post Oak Blvd., Suite 950
Houston, Texas 77056............... 423,604 2.8%
Directors and Executive Officers:
Robert E. Cone (3).................. 419,785 2.7%
Thomas C. Landreth (4).............. 100,445 *
Christine A. Smith (5).............. 174,416 1.1%
Ben B. Andrews (6).................. 174,607 1.1%
Charles J. Anderson (7)............. 77,000 *
James W. Kenney (8)................. 15,000 *
John P. Madden (9).................. 141,473 *
Barbara S. Shuler (8)............... 71,795 *
John L. Thompson (10)............... 10,000 *
Charles E. Underbrink (11).......... 19,005 *
All directors and executive officers
as a group (10 persons) (4) - (11).. 1,203,526 7.7%
- --------------------------
*Less than 1%.
(1) Subject to community property laws where applicable, each person has sole
voting and investment power with respect to the shares listed, except as
otherwise specified. Each person is a United States citizen. This table is
based upon information supplied by officers, directors and principal
shareholders and Schedules 13D and 13G, if any, filed with the Securities
and Exchange Commission.
(2) Includes 107,994 shares that may be acquired upon the exercise of warrants
exercisable within 60 days.
(3) Includes 240,000 shares that may be acquired on the exercise of stock
options exercisable within 60 days. Also includes 13,500 shares held in
trust for persons related to Mr. Cone for which Mr. Cone is the executor
of the trusts and for which Mr. Cone is deemed to have beneficial
ownership.
(4) Includes 28,750 shares that may be acquired on the exercise of warrants
and stock options exercisable within 60 days.
(5) Includes 78,750 shares that may be acquired on the exercise of stock
options exercisable within 60 days.
(6) Includes 5,000 shares that may be acquired on the exercise of stock
options exercisable within 60 days.
(7) Includes 20,000 shares that may be acquired on the exercise of stock
options exercisable within 60 days.
(8) Includes 15,000 shares that may be acquired on the exercise of stock
options exercisable within 60 days.
(9) Includes 25,000 shares that may be acquired on the exercise of stock
options exercisable within 60 days. Excludes 44,325 shares owned by
persons related to Mr. Madden, but as to which Mr. Madden disclaims
beneficial ownership.
(10) Includes 10,000 shares that may be acquired on the exercise of stock
options exercisable within 60 days. Excludes a total of 1,365,130 shares
and 607,994 warrants owned by St. James Capital Partners, L.P. and SJMB,
L.P., though Mr. Thompson is a director and president of their general
partner and may be deemed to share voting and investment power with
respect to such shares.
(11) Includes 10,400 shares held in trust for Mr. Underbrink's daughter for
which Mr. Underbrink is the trustee of the trust and for which Mr.
Underbrink is deemed to have beneficial ownership. Excludes a total of
1,365,130 shares and 607,994 warrants owned by St. James Capital Partners,
L.P. and SJMB, L.P., though Mr. Underbrink is chief executive officer and
chairman of their general partner and may be deemed to share voting and
investment power with respect to such shares.
33
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
We enter into transactions with related parties only with the approval of a
majority of the independent and disinterested directors and only on terms we
believe to be comparable to or better than those that would be available from
unaffiliated parties. In our view, all of the transactions described below meet
that standard.
In connection with the purchase of Landreth Engineering Co. ("Landreth") in
1992, we entered into a lease agreement with Scranton Acres, a general
partnership of which Mr. Tom Landreth is a partner, for the Landreth facility.
The lease expires in 2002. Rental payments are $106,800 annually.
In the second quarter of 1999, we realized proceeds of $2.6 million from the
issuance of 349,580 shares of our common stock to St. James Capital. The shares
were valued at $7.44 per share based upon the closing market price for our stock
immediately preceding the consummation of the sale.
In July 1998, we entered into an option agreement that granted us the right
through 2003 to purchase approximately 95% of Belleli Energy S.r.L. ("Belleli").
Belleli is an Italian company that manufactures thick-walled pressure vessels
and heat exchangers, as well as designs, engineers, constructs and erects
components for desalination, electric power and petrochemical plants. Under the
terms of the option agreement, we were obligated to provide certain interim
funding to Belleli. Because of our financial condition in 1999, we could no
longer provide financial support to Belleli. In February 2000, SJMB acquired a
majority interest in Belleli from Belleli's shareholder, Impianti. As a result
of this transaction, all of our obligations with respect to Belleli have been
released and discharged. We retain a 3.5% minority interest in Belleli.
As a part of the Belleli transaction, we will issue warrants to purchase
750,000 shares of our common stock to SJMB at an exercise price of $1.25 per
share. Additionally, we are obligated to reimburse SJMB for satisfying our
installment payment obligations under the option agreement of approximately
$280,000.
At May 31, 2000, Mr. Robert E. Cone, our former President and CEO and now our
Chairman of the Board, had two loans outstanding from us, one in the amount of
$83,333 relating to personal matters and one in the amount of $321,875 relating
to the exercise of employee stock options, plus accrued interest of $49,289.
Additionally, Mr. Cone has received advances of $21,686 for personal expenses
and $50,000 for payment of income taxes. The largest aggregate debt balance
outstanding during the period was $656,498. During 1999, the Board of Directors
forgave $87,500 of this balance and in January 2000 an additional $90,158 as
compensation to Mr. Cone. Interest rates on these loans are from 5.7% to 6.1%.
At May 31, 2000, Ms. Christine A. Smith, our Chief Financial Officer, had two
loans outstanding from us, one in the amount of $66,667 relating to personal
matters and one in the amount of $262,050 relating to the exercise of employee
stock options, plus accrued interest of $30,717. The largest aggregate debt
balance outstanding during the period was $395,468. During 1999, the Board of
Directors forgave $29,167 of this balance as compensation to Ms. Smith. Interest
rates on these loans are from 5.7% to 6.1%.
At May 31, 2000, Mr. Thomas C. Landreth, our former Executive Vice President
and President of the Fastener Manufacturing and Sales Division, had a loan
outstanding from us in the amount of $62,500 relating to the exercise of
employee stock options, plus accrued interest of $6,586. The largest aggregate
debt balance outstanding during the period was $69,086. The interest rate on
this loan is 5.7%.
34
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
a. Financial Statements
See index to consolidated financial statements on page F-1.
b. Reports on Form 8-K
None.
c. Exhibits
See the Exhibit Index appearing on page EX-1.
35
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, ON THE 12TH DAY OF JUNE
2000.
INDUSTRIAL HOLDINGS, INC.
By: /s/ CHRISTINE A. SMITH
---------------------------------------
CHRISTINE A. SMITH (CHIEF FINANCIAL
OFFICER AND EXECUTIVEVICE PRESIDENT)
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS REPORT
HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS AND IN THE CAPACITIES INDICATED
ON THE 12TH DAY OF JUNE 2000.
SIGNATURE TITLE
By: /s/ ROBERT E. CONE Chairman of the Board of
-------------------------------------- Directors, President and Chief
ROBERT E. CONE Executive Officer (Principal
Executive Officer)
By: /s/ CHRISTINE A. SMITH Executive Vice President and
----------------------------------- Chief Financial Officer
CHRISTINE A. SMITH (Principal Financial Officer and
Chief Accounting Officer)
By: /s/ CHARLES J. ANDERSON Director
-------------------------------
CHARLES J. ANDERSON
By: /s/ JAMES W. KENNEY Director
-----------------------------------
JAMES W. KENNEY
By: /s/ JOHN P. MADDEN Director
-------------------------------------
JOHN P. MADDEN
By: /s/ BARBARA S. SHULER Director
---------------------------------
BARBARA S. SHULER
By: /s/ JOHN L. THOMPSON Director
-----------------------------------
JOHN L. THOMPSON
By: /s/ CHARLES E. UNDERBRINK Director
---------------------------
CHARLES E. UNDERBRINK
36
INDUSTRIAL HOLDINGS, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE
----
Independent Auditors' Reports F-2
Consolidated Balance Sheets at December 31, 1999 and 1998 F-11
Consolidated Statements of Operations For the Years Ended
December 31, 1999, 1998 and 1997. F-12
Consolidated Statements of Cash Flows For the Years Ended
December 31, 1999, 1998 and 1997. F-13
Consolidated Statements of Shareholders' Equity For the Years
Ended December 31, 1999, 1998 and 1997. F-15
Notes to Consolidated Financial Statements. F-16
F-1
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
Industrial Holdings, Inc.
Houston, Texas
We have audited the accompanying consolidated balance sheets of Industrial
Holdings, Inc. and subsidiaries (the "Company") as of December 31, 1999 and
1998, and the related consolidated statements of operations, shareholders'
equity, and cash flows for each of the three years in the period ended December
31, 1999. 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. The accompanying consolidated financial
statements give retroactive effect to the mergers of the Company and Blastco
Services Company ("Blastco") in 1999 and GHX, Incorporated and Subsidiary
("GHX"), Whir Acquisition, Inc., d/b/a/ Ameritech Fastener Manufacturing, Inc.
("Ameritech"), Moores Pump and Services, Inc. ("Moores") and United Wellhead
Services, Inc. ("UWS") in 1998, all of which have been accounted for as
poolings-of-interest as described in Note 4 to the consolidated financial
statements. We did not audit the financial statements, as of December 31, 1999
or for the year then ended, of OF Acquisition, L.P. ("Orbitform"), which is
accounted for by use of the equity method. The Company's equity of $3,266,000 in
Orbitform's net assets at December 31, 1999 and of $164,000 in Orbitform's net
income for the year then ended are included in the Company's financial
statements. We did not audit the financial statements as of December 31, 1998 or
for the year then ended, of AWR Acquisition, L.C. ("AWR"), which is accounted
for by use of the equity method. The Company's equity of $1,237,000 in AWR's net
assets at December 31, 1998 and of $1,216,000 in AWR's net income for the year
then ended are included in the Company's consolidated financial statements. The
financial statements of Orbitform and AWR were audited by other auditors whose
report has been furnished to us, and our opinion, insofar as it is related to
the amounts included for Orbitform and AWR, are based solely on the report of
such auditors. We did not audit the statements of operations, shareholders'
equity, or cash flows of Blastco for the year ended December 31, 1997, such
statements reflect total sales of $12,723,000 for the year then ended. We did
not audit the statements of operations, shareholders' equity, or cash flows of
Ameritech for the year ended December 31, 1997, such statements reflect total
sales of $1,695,000 for the year then ended. We did not audit the statements of
operations, stockholders' equity or cash flows of UWS for the year ended
December 31, 1997, which statements reflect total revenues of $11,237,000 for
the year then ended. Those statements were audited by other auditors whose
reports have been furnished to us, and our opinion, insofar as it relates to the
amounts included for Blastco, Ameritech and UWS for 1997, is based solely on the
reports of such other auditors. We did not audit the financial statements of
Moores for the year ended April 30, 1997, such statements reflect $13,419,000 of
sales for the year then ended. We did not audit the consolidated financial
statements of GHX for the year ended June 30, 1997, such statements reflect
$21,849,000 of net sales for the year then ended. Those financial statements
were audited by other auditors whose reports have been furnished to us, and our
opinion, insofar as it relates to the amounts included for Moores and GHX for
such periods, is based solely on the reports of such other auditors. As
described in Note 4 to the consolidated financial statements, subsequent to the
issuance of the reports of the other auditors, the financial statements of
Moores and the consolidated financial statements of GHX were restated to conform
to the fiscal year of the Company for the years ended December 31, 1998 and
1997.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards 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. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits and reports of the
other auditors provide a reasonable basis for our opinion.
In our opinion, based on our audits and the reports of other auditors, such
consolidated financial statements referred to above present fairly, in all
material respects, the financial position of the Company as of December 31, 1999
and 1998, and the results of their operations and their cash flows for each of
the three years in the period ended December 31, 1999 in conformity with
accounting principles generally accepted in the United States of America.
F-2
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 3 to the
consolidated financial statements, the Company has a net loss from operations, a
working capital deficiency and debt in default. These conditions discussed in
Note 3 raise substantial doubt about its ability to continue as a going concern.
Management's plans in regard to this matter are also described in Note 3. The
consolidated financial statements do not include any adjustments that may result
from the outcome of this uncertainty.
DELOITTE & TOUCHE LLP
Houston, Texas
June 12, 2000
F-3
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders of
Moores Pump and Supply, Inc.:
We have audited the balance sheet of Moores Pump and Supply, Inc. (a
Louisiana corporation) as of April 30, 1997, and the related statements of
income, retained earnings and cash flows for the year ended April 30, 1997 (not
presented separately herein). 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 audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Moores Pump and Supply, Inc. as
of April 30, 1997, and the results of its operations and its cash flows for the
year ended April 30, 1997 in conformity with generally accepted accounting
principles.
ARTHUR ANDERSEN LLP
New Orleans, Louisiana
June 17, 1997
F-4
INDEPENDENT AUDITORS' REPORT
To the Board of Directors of
Industrial Holdings, Inc.
We have audited the balance sheet of WHIR Acquisition, Inc., dba Ameritech
Fastener Manufacturing, Inc. (an S Corporation) as of December 31, 1997, and the
related Statements of Operations, Shareholders' Equity and Cash Flows for the
year then ended. 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 audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of WHIR Acquisition, Inc., dba
Ameritech Fastener Manufacturing, Inc. as of December 31, 1997, and the results
of its operations and cash flows for the year then ended, in conformity with
generally accepted accounting principles.
WEINSTEIN SPIRA & COMPANY, P.C.
Houston, Texas
January 22, 1998
F-5
INDEPENDENT AUDITOR'S REPORT
To the Stockholders and Directors of
UNITED WELLHEAD SERVICES, INC.
Corpus Christi, Texas
We have audited the consolidated balance sheets of UNITED WELLHEAD SERVICES,
INC. and subsidiary as of December 31, 1997 and the related consolidated
statements of results of operations, stockholders' equity, and cash flows for
the year then ended. 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 audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
presents fairly, in all material respects, the financial position of UNITED
WELLHEAD SERVICES, INC. and subsidiary at December 31, 1997, and the results of
their operations and cash flows for the year then ended in conformity with
generally accepted accounting principles.
KARLINS ARNOLD & CORBITT, P.C.
(Successors to Karlins Fuller Arnold & Klodsky, P.C.)
The Woodlands, Texas
February 12, 1998
F-6
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
GHX, Incorporated and Subsidiary
We have audited the consolidated balance sheets of GHX, Incorporated and
Subsidiary as of June 30, 1997 and the related consolidated statements of
operations, stockholders' equity and cash flows for the year then ended. 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 audit in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of GHX, Incorporated and
Subsidiary as of June 30, 1997 and the results of its operations and cash flows
for the year then ended in conformity with generally accepted accounting
principles.
SIMONTON, KUTAC & BARNIDGE, LLP
Houston, Texas
September 19, 1997
F-7
INDEPENDENT AUDITORS' REPORT
To The Board of Directors of
Blastco Services Company
We have audited the consolidated balance sheet of Blastco Services Company
and Subsidiary as of December 31, 1997, and the related consolidated statements
of operations and comprehensive income, stockholders' equity and cash flows for
the year ended December 31, 1997. These consolidated financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated financial statements based on our audits.
We conducted our audit in accordance with generally accepted auditing
standards. These standards require that we plan and perform the audits to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
consolidated financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Blastco
Services Company and Subsidiary at December 31, 1997, and the results of their
operations and cash flows for the year then ended in conformity with generally
accepted accounting principles.
SIMONTON, KUTAC & BARNIDGE, L.L.P.
Houston, Texas
March 5, 1999
F-8
INDEPENDENT AUDITORS' REPORT
The Board of Directors of AWR Acquisition, L.C.
We have audited the balance sheet of AWR Acquisition, L.C. as of December 31,
1998, and the related statements of operations and comprehensive income, changes
in members' equity and cash flows for the year then ended. 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 in accordance with generally accepted auditing
standards. These standards require that we plan and perform the audits to obtain
reasonable assurance about whether the financial statements are free of material
misstatements. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of AWR Acquisition, L.C. as of
December 31, 1998, and the results of its operations and cash flows for the year
then ended in conformity with generally accepted accounting principles.
SIMONTON, KUTAC & BARNIDGE, L.L.P.
Houston, Texas
March 5, 1999 (except for Note 6 as to which the date is June 16, 1999)
F-9
INDEPENDENT AUDITORS' REPORT
To the Partners
OF Acquisition, L.P.
Houston, Texas
We have audited the balance sheet of OF Acquisition, L.P. (a limited
partnership) as of December 31, 1999, and the related statements of income and
partners' capital and cash flows for the year then ended. 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 audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of OF Acquisition, L.P. as of
December 31, 1999, and the results of operations and cash flows for the year
then ended in conformity with generally accepted accounting principles.
KUHL & SCHULTZ, P.C.
CERTIFIED PUBLIC ACCOUNTANTS
February 24, 2000
F-10
INDUSTRIAL HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS
DECEMBER 31,
-------------------------------
1999 1998
------------- -------------
ASSETS
Current assets:
Cash and cash equivalents .......................... $ 1,738,244 $ 3,412,411
Accounts receivable - trade, net ................... 38,510,825 45,577,133
Cost and estimated earnings in excess of billings .. 3,704,496 5,428,987
Inventories ........................................ 38,259,523 48,275,927
Employee advances .................................. 59,397 58,823
Notes receivable, current portion .................. 4,175,180 4,364,106
Other current assets ............................... 4,701,563 4,620,337
------------- -------------
Total current assets ............................ 91,149,228 111,737,724
Property and equipment, net ........................ 64,706,601 58,793,946
Notes receivable, less current portion ............. 1,119,778 1,783,769
Investment in unconsolidated affiliates ............ (1,005,120) 513,284
Other assets ....................................... 7,172,425 3,365,494
Goodwill and other intangible assets, net .......... 26,099,794 27,474,438
------------- -------------
Total assets ....................................... $ 189,242,706 $ 203,668,655
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Notes Payable ...................................... $ 46,192,562 $ 42,486,422
Accounts payable - trade ........................... 24,687,805 21,628,422
Billings in excess of costs and estimated earnings . 2,170,095 5,165,760
Accrued expenses and other ......................... 11,410,494 8,743,636
Current portion of long-term obligations ........... 42,766,929 23,547,890
------------- -------------
Total current liabilities ....................... 127,227,885 101,572,130
Long-term obligations, less current portion ........ 9,902,936 30,334,166
Other long-term liabilities ........................ 2,202,566 1,146,025
Deferred income tax liability ...................... 305,741 4,703,534
------------- -------------
Total liabilities ............................... 139,639,128 137,755,855
Commitments and contingencies - Note 11
Shareholders' equity
Preferred stock, $.01 par value, 7,500,000 shares
authorized, no shares issued or outstanding
Common stock, $.01 par value, 50,000,000 shares
authorized, 15,111,097 and 14,739,662
shares issued and outstanding for 1999 and
1998, respectively ............................ 151,110 147,396
Additional paid-in capital ...................... 54,200,383 51,545,271
Retained earnings (deficit) ..................... (3,868,157) 15,165,133
Notes receivable from officers .................. (879,758) (945,000)
------------- -------------
Total shareholders' equity ................... 49,603,578 65,912,800
------------- -------------
Total liabilities and shareholders'
equity ........................................... $ 189,242,706 $ 203,668,655
============= =============
See notes to consolidated financial statements.
F-11
INDUSTRIAL HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31,
-------------------------------------------------
1999 1998 1997
------------- ------------- -------------
Sales ............................. $ 242,169,863 $ 218,207,712 $ 151,227,684
Cost of sales ..................... 202,235,366 168,368,694 111,386,682
------------- ------------- -------------
Gross Profit....................... 39,934,497 49,839,018 39,841,002
Selling, general and administrative
expenses........................ 53,478,894 38,310,642 28,836,869
------------- ------------- -------------
Income (loss) from operations...... (13,544,397) 11,528,376 11,004,133
Earnings (losses) from equity
investments in unconsolidated
affiliates...................... (5,951,603) 2,144,131 (60,520)
Other income (expense):
Interest expense .................. (9,722,774) (5,336,898) (2,749,282)
Interest income ................... 377,521 521,771 160,230
Other income, net ................. 2,532,298 1,375,495 325,847
------------- ------------- -------------
Total other income (expense) ...... (6,812,955) (3,439,632) (2,263,205)
------------- ------------- -------------
Income (loss) before income taxes.. (26,308,955) 10,232,875 8,680,408
Income tax expense (benefit) ...... (7,275,665) 4,098,646 3,477,116
------------- ------------- -------------
Net income (loss) ................. (19,033,290) 6,134,229 5,203,292
Distributions to shareholders ..... 34,297 130,242
------------- ------------- -------------
Net income (loss) available to
common shareholders ............ $ (19,033,290) $ 6,099,932 $ 5,073,050
============= ============= =============
Basic earnings (loss) per share ... $ (1.27) $ .44 $ .44
Diluted earnings (loss) per share . $ (1.27) $ .42 $ .41
Weighted average number of common
shares outstanding - basic ..... 14,956,113 14,000,324 11,489,254
Weighted average number of common
shares outstanding - dilutive 14,956,113 14,725,626 12,402,931
See notes to consolidated financial statements.
F-12
INDUSTRIAL HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31,
----------------------------------------------
1999 1998 1997
------------ ------------ ------------
Cash flows from operating activities:
Net income (loss) ......................... $(19,033,290) $ 6,134,229 $ 5,203,292
Adjustments to reconcile net income (loss)
to net cash provided by (used in)
operating activities:
Depreciation and amortization ........ 7,773,375 6,118,583 4,036,768
Equity in (earnings) losses of
unconsolidated affiliates .......... 5,951,603 (2,144,131) 60,520
Deferred income tax (benefit) expense (4,397,792) 1,896,019 181,307
Deferred compensation paid ........... (24,011) (174,471) (43,754)
Deferred gain on demolition
contract ........................... (1,000,000) (1,000,000) --
Income tax benefit from stock
options exercised .................. -- 48,572 163,664
Changes in assets and liabilities, net
of effect of purchase acquisitions:
Accounts receivable ................ 7,066,308 (13,169,318) (4,594,890)
Employee advances .................. (574) 107,090 (33,969)
Inventories ........................ 10,466,956 (4,313,973) (1,551,262)
Notes receivable ................... 918,159 (2,803,804) (1,672,129)
Other assets ....................... (5,384,988) (3,135,886) (217,803)
Other long-term liabilities ........ 1,080,552 930,004
Accounts payable and
accrued expenses ................. 1,780,576 6,370,490 1,847,921
------------ ------------ ------------
Net cash provided by (used in)
operating activities ................... 5,196,874 (5,136,596) 3,379,665
Cash flows from investing activities:
Purchase of property and equipment ........ (7,363,997) (6,232,069) (4,959,872)
Proceeds from disposals of property
and equipment, net ..................... 1,451,499 389,790 673,392
Investments in unconsolidated affiliates .. (3,433,199) (930,321) (1,676,061)
Net proceeds from sale of interest in
demolition contract .................... -- 2,000,000 --
Distributions from unconsolidated
affiliates ............................. -- 2,606,000 1,020,709
Business acquisitions, net of
cash acquired .......................... -- (4,474,855) (2,150,662)
------------ ------------ ------------
Net cash used in investing activities ..... (9,345,697) (6,641,455) (7,092,494)
See notes to consolidated financial statements.
F-13
INDUSTRIAL HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(CONTINUED)
YEAR ENDED DECEMBER 31,
----------------------------------------------
1999 1998 1997
------------ ------------ ------------
Cash flows from financing activities:
Net borrowings under revolving
line of credit .............................. 3,706,140 9,324,942 1,772,458
Proceeds from issuance of long-term obligations .. 3,587,837 1,532,218 3,294,349
Principal payments on notes payable and long-term
obligations.................................. (7,478,147) (9,277,308) (5,353,368)
Proceeds from issuance of common stock ........... 2,658,826 12,914,854 2,136,978
Notes receivable from officers ................... -- (945,000) --
Repurchase of common stock by an
acquired company ............................ -- (50,000) (330,610)
Distributions to shareholders .................... -- (34,297) (130,242)
------------ ------------ ------------
Net cash provided by financing activities ........ 2,474,656 13,465,409 1,389,565
------------ ------------ ------------
Net increase (decrease) in cash and
cash equivalents .............................. (1,674,167) 1,687,358 (2,323,264)
Cash and cash equivalents,
beginning of year ............................. 3,412,411 1,725,053 4,048,317
------------ ------------ ------------
Cash and cash equivalents,
end of year ................................... $ 1,738,244 $ 3,412,411 $ 1,725,053
============ ============ ============
Supplemental disclosure of non-cash
investing and financing activities:
Conversion of debt to equity ..................... $ -- $ -- $ 3,093,000
Redemption of preferred stock with debt .......... -- -- 960,000
Property acquired with debt or capital leases .... 2,990,619 147,300 1,133,497
Reclassification of fixed assets to inventory .... 550,553 -- --
Acquisition of businesses:
Assets acquired ............................. -- 83,804,034 24,828,899
Liabilities assumed ......................... -- 79,329,179 22,678,237
Supplemental disclosures of cash flow information:
Cash paid for:
Interest .................................... $ 9,432,451 $ 4,752,778 $ 2,722,391
Income taxes ................................ 536,484 2,494,344 2,029,870
See notes to consolidated financial statements.
F-14
INDUSTRIAL HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
YEAR ENDED DECEMBER 31, 1999, 1998 AND 1997
PREFERRED STOCK COMMON STOCK
----------------------------- ----------------------------
SHARES PAR VALUE SHARES PAR VALUE
------------ ------------ ------------ ------------
Balance, January 1, 1997 ........ 202,960 $ 960,000 10,227,558 $ 102,276
Issuance of common stock:
Acquisitions ................. -- -- 728,461 7,285
Private placement ............ -- -- 71,530 715
Exercise of warrants
and options ............... -- -- 462,680 4,627
Redemption of preferred stock ... (202,960) (960,000) -- --
Income tax benefits from stock
options exercised ............ -- -- -- --
Conversion of debt to equity .... -- -- 528,454 5,284
Distribution to shareholders .... -- -- -- --
Repurchase of common stock
by an acquired company ....... -- -- -- --
Net income ...................... -- -- -- --
------------ ------------ ------------ ------------
Balance, December 31, 1997 ...... -- -- 12,018,683 120,187
Issuance of common stock:
Acquisitions ................. -- -- 1,227,854 12,279
Exercise of warrants
and options ............... -- -- 1,493,125 14,930
Income tax benefits from stock
options exercised ............ -- -- -- --
Distributions to shareholders ... -- -- -- --
Repurchase of common stock
by an acquired company ....... -- -- -- --
Reclassification of undistributed
subchapter S earnings of
pooled company ............... -- -- -- --
Notes receivable ................ -- -- -- --
Net income ...................... -- -- -- --
------------ ------------ ------------ ------------
Balance, December 31, 1998 ...... -- -- 14,739,662 147,396
Issuance of common stock:
Private placement ............ -- -- 349,580 3,496
Exercise of warrants
and options ............... -- -- 21,855 218
Notes receivable ................ -- -- -- --
Net income (loss) ............... -- -- -- --
------------ ------------ ------------ ------------
Balance, December 31, 1999 ...... -- -- 15,111,097 $ 151,110
============ ============ ============ ============
NOTES
ADDITIONAL RETAINED RECEIVABLE
PAID-IN EARNINGS FROM
CAPITAL (DEFICIT) OFFICERS TOTAL
------------ ------------ ------------ ------------
Balance, January 1, 1997 ........ $ 17,246,601 $ 4,159,515 $ -- $ 22,468,392
Issuance of common stock:
Acquisitions ................. 5,672,683 -- -- 5,679,968
Private placement ............ 644,790 -- -- 645,505
Exercise of warrants
and options ............... 1,486,846 -- -- 1,491,473
Redemption of preferred stock ... -- -- -- (960,000)
Income tax benefits from stock
options exercised ............ 163,664 -- -- 163,664
Conversion of debt to equity .... 3,087,716 -- -- 3,093,000
Distribution to shareholders .... -- (130,242) -- (130,242)
Repurchase of common stock
by an acquired company ....... (330,610) -- -- (330,610)
Net income ...................... -- 5,203,292 -- 5,203,292
------------ ------------ ------------ ------------
Balance, December 31, 1997 ...... 27,971,690 9,232,565 -- 37,324,442
Issuance of common stock:
Acquisitions ................. 10,507,721 -- -- 10,520,000
Exercise of warrants
and options ............... 12,899,924 -- -- 12,914,854
Income tax benefits from stock
options exercised ............ 48,572 -- -- 48,572
Distributions to shareholders ... -- (34,297) -- (34,297)
Repurchase of common stock
by an acquired company ....... (50,000) -- -- (50,000)
Reclassification of undistributed
subchapter S earnings of
pooled company ............... 167,364 (167,364) --
Notes receivable ................ -- -- (945,000) (945,000)
Net income ...................... -- 6,134,229 -- 6,134,229
------------ ------------ ------------ ------------
Balance, December 31, 1998 ...... 51,545,271 15,165,133 (945,000) 65,912,800
Issuance of common stock:
Private placement ............ 2,587,112 -- -- 2,590,608
Exercise of warrants
and options ............... 68,000 -- -- 68,218
Notes receivable ................ -- -- 65,242 65,242
Net income (loss) ............... -- (19,033,290) -- (19,033,290)
------------ ------------ ------------ ------------
Balance, December 31, 1999 ...... $ 54,200,383 $ (3,868,157) $ (879,758) $ 49,603,578
============ ============ ============ ============
See notes to consolidated financial statements.
F-15
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION:
The consolidated financial statements, as presented, give retroactive
effect to the acquisitions accounted for as poolings-of-interest (see Note 4).
Industrial Holdings, Inc., incorporated in August 1989, operates in four
business segments.
(i) FASTENER MANUFACTURING AND DISTRIBUTION which manufactures
industrial metal fasteners and metal components for sale primarily
to manufacturers in the home furnishings and automotive industries
and which manufactures and distributes industrial metal fasteners
and fabricates and distributes gaskets, hoses, fittings and other
products primarily to the petrochemical and chemical refining and
oil and gas industries;
(ii) HEAVY FABRICATION which manufactures and distributes wind turbine
towers, medium and thick-walled pressure vessels, gas turbine
casings, heat exchangers and other large machine weldments primarily
to customers in the electric power, marine, petrochemical and
medical equipment industries;
(iii) ENERGY which remanufactures and sells pumps and high-pressure
valves, including pipeline valves, manifold valves and wellhead
valves, and distributes other products primarily to the
petrochemical, chemical and petroleum refining industries, the
pipeline transportation and storage industries and energy
industries, and provides plant demolition and site abatement
services; and
(iv) MACHINE TOOL DISTRIBUTION which sells new and used machine tools.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of Industrial
Holdings, Inc. and its wholly-owned subsidiaries (the "Company"). Investments in
unconsolidated affiliates with ownership interests of 50% or less and which the
Company does not control are accounted for using the equity method. All
intercompany balances and transactions have been eliminated in consolidation.
REVENUE RECOGNITION
The Company recognizes revenues upon shipment of its product or upon
completion of services it renders. Revenues and profits on long-term contracts
are recognized using the percentage-of-completion method. The
percentage-of-completion is determined by relating costs or labor incurred to
date to management's estimate of total costs or total labor, respectively, to be
incurred on each contract. Revisions of estimates are reflected in the year in
which the facts necessitating the revisions become known. If a loss is indicated
on any contract in process, a provision is made currently for the entire loss.
F-16
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following reflects the amounts relating to uncompleted construction
contracts at December 31, 1999 and 1998:
1999 1998
------------ ------------
Costs incurred on uncompleted contracts ...... $ 9,100,968 $ 16,781,741
Estimated earnings ........................... 2,182,544 3,010,509
------------ ------------
11,283,512 19,792,250
Less: Billings to date ....................... 9,749,111 19,529,023
------------ ------------
$ 1,534,401 $ 263,227
============ ============
Included in the accompanying consolidated
balance sheets under the following captions:
Costs and estimated earnings in excess
of billings ................................ $ 3,704,496 $ 5,428,987
Billings in excess of costs and
estimated earnings ......................... (2,170,095) (5,165,760)
------------ ------------
$ 1,534,401 $ 263,227
============ ============
CREDIT RISK
The Company extends credit to its customers in the normal course of
business and generally does not require collateral or other security. The
Company performs ongoing credit evaluations of its customers' financial
condition and historically has not incurred significant credit losses. Earnings
are charged with a provision for doubtful accounts based on a current review of
the collectibility of the accounts. Accounts deemed uncollectible are applied
against the allowance for doubtful accounts. Presented below is a reconciliation
of the Company's allowance for doubtful accounts:
YEAR ENDED DECEMBER 31,
-------------------------------------------
1999 1998 1997
----------- ----------- -----------
Balance at Beginning of Period . $ 606,875 $ 391,379 $ 263,330
Charged to Cost and Expenses ... 2,151,023 380,518 189,846
Deductions ..................... (1,560,281) (165,022) (61,797)
----------- ----------- -----------
Balance at End of Period ....... $ 1,197,617 $ 606,875 $ 391,379
=========== =========== ===========
In the opinion of management, the Company is adequately reserved for
credit risks related to its potentially uncollectible receivables. However, the
Company continues to assess its allowance for doubtful accounts and may increase
or decrease its periodic provision as additional information regarding the
collectibility of these and other accounts becomes available.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company's financial instruments consist of primarily cash, trade
accounts and notes receivable, accounts and notes payable, and debt instruments.
The book value of cash, trade accounts receivables and accounts payable are
representative of their respective fair values due to the short-term maturity of
these instruments. It is not practicable to estimate the fair values of the
related party amounts (see Notes 6, 10 and 11) due to the nature of the
instruments. The fair values of the Company's debt instruments (see Notes 9 and
10) are representative of their carrying values based upon (i) variable rate
terms or (ii) management's opinion that the
F-17
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
existing rates are equivalent to the current rates offered to the Company for
fixed-rate long-term debt with the same maturities and security structure. The
fair value of notes receivable approximates their carrying value and is
estimated by discounting the future cash flows using current rates at which
similar loans would be made to borrowers with similar credit ratings and for the
same remaining maturities.
INVENTORIES
Inventories are stated at the lower of cost or market. Cost includes,
where applicable, manufacturing labor and overhead. The first-in, first-out
method ("FIFO") is used to determine the cost of substantially all of the
inventories except for certain valve inventories for which the specific
identification method is used to determine the cost. Scrap inventories are
valued at the lower of cost to recover such inventories or market.
PROPERTY AND EQUIPMENT
Property and equipment are stated on the basis of cost. Depreciation is
computed using the straight-line method over the estimated useful lives of the
related assets (3 to 15 years for furniture and fixtures, machinery and
equipment and leasehold improvements, and 35 years for buildings). Maintenance
and repairs are charged to expense as incurred; major renewals and betterments
are capitalized. The Company leases various equipment and computer software
under agreements which are classified as capital leases and leased capital
assets are included in property, plant and equipment.
LONG-LIVED ASSETS
The Company records impairment losses on long-lived assets used in
operations when events and circumstances indicate that the assets might be
impaired and the undiscounted cash flows estimated to be generated by those
assets are less than the carrying amounts of those assets.
GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill represents the excess of the purchase price over the fair market
value of net tangible assets acquired. At December 31, 1999 and 1998, goodwill
was $29,994,209 net of accumulated amortization of $3,894,415 and $2,519,771,
respectively. Other intangible assets consist primarily of loan origination
fees. Goodwill and other intangible assets are amortized over 5 to 30 years.
Amortization expense was $1,374,644, $1,134,577, and $628,073 for the years
ended December 31, 1999, 1998 and 1997, respectively.
INCOME TAXES
The Company utilizes the asset and liability method in accounting for
income taxes. Under this method, deferred tax assets and liabilities are
determined based on differences between financial reporting and tax bases of
assets and liabilities and are measured using the enacted tax rates and laws
that will be in effect when the differences are expected to reverse.
EARNINGS PER SHARE
Basic earnings per share has been computed by dividing net income by the
weighted average number of common shares outstanding. Diluted earnings per share
has been computed by dividing net income by the weighted average number of
common shares outstanding plus dilutive potential common shares.
F-18
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table presents information necessary to calculate basic and
diluted earnings per share for the periods indicated:
YEAR ENDED DECEMBER 31,
----------------------------------------------
1999 1998 1997
------------ ------------ ------------
EARNINGS (LOSS) FOR BASIC AND DILUTED
COMPUTATION:
Net income (loss) ................... $(19,033,290) $ 6,134,229 $ 5,203,292
Distributions to shareholders ....... -- (34,297) (130,242)
------------ ------------ ------------
Net income (loss) used for basic
earnings per share .............. (19,033,290) 6,099,932 5,073,050
Interest on convertible debt
securities, net of tax .......... -- 87,656 --
------------ ------------ ------------
Net income (loss) available to common
shareholders .................... $(19,033,290) $ 6,187,588 $ 5,073,050
============ ============ ============
BASIC EARNINGS (LOSS) PER SHARE:
Weighted average common shares
outstanding ..................... 14,956,113 14,000,324 11,489,254
============ ============ ============
Basic earnings (loss) per share ..... $ (1.27) $ .44 $ .44
============ ============ ============
DILUTED EARNINGS (LOSS) PER SHARE:
Weighted average common shares
outstanding ..................... 14,956,113 14,000,324 11,489,254
Shares issuable from assumed
conversion of common share
options, warrants granted and
debt conversion ................. -- 725,302 913,677
------------ ------------ ------------
Weighted average common shares
outstanding, as adjusted ........ 14,956,113 14,725,626 12,402,931
============ ============ ============
Diluted earnings (loss) per share ... $ (1.27) $ .42 $ .41
============ ============ ============
There were 698,950, 882,250 and 0 options and 3,488,258, 3,006,667 and 0
warrants for 1999, 1998 and 1997, respectively, that were not included in the
computation of diluted earnings (loss) per share because their inclusion would
have been anti-dilutive.
CASH EQUIVALENTS
For purposes of the consolidated statements of cash flows, cash
equivalents include all highly liquid investments with original maturities of
three months or less at the date of purchase.
F-19
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
RECLASSIFICATIONS
Certain reclassifications have been made to the prior-year amounts to
conform to the current-year presentation.
ESTIMATES
The preparation of the Company's financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosures 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.
NEW ACCOUNTING PRONOUNCEMENTS
In June 1999, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 137, Accounting for
Derivative Instrument and Hedging Activities - Deferral of the Effective Date of
FASB Standard No. 133. This statement extended the effective date of Statement
No. 133 which establishes accounting and reporting standards for derivative
instruments embedded in other contracts, and is effective for all fiscal years
beginning after June 15, 2001. The Company is currently evaluating what impact
adoption of this statement will have on our consolidated financial statements.
3. BASIS OF PRESENTATION AND MANAGEMENT PLANS
The accompanying consolidated financial statements have been prepared on a
going concern basis, which contemplated the realization of assets and the
satisfaction of liabilities in the normal course of business. As disclosed in
the financial statements, the Company has a net loss of $19,033,290 for 1999,
current liabilities in excess of current assets of $36,078,657 at December 31,
1999, and debt in default. These conditions raise substantial doubt about the
Company's ability to continue as a going concern. The consolidated financial
statements do not include any adjustments that may result from the outcome of
this uncertainty.
As discussed in Note 10 to the consolidated financial statements, the
Company has a $15 million note payable to EnSerCo, L.L.C. ("EnSerCo") that
became due on November 15, 1999. The Company was granted an extension of the due
date through January 31, 2000. On January 31, 2000, the Company was unable to
repay the amounts borrowed and defaulted on the note payable. EnSerCo has not
called this note due; however, it retains the right to do so. The Company has
held preliminary discussions with EnSerCo to modify the terms of the original
note agreement, which include extending the due date. Although the Company and
EnSerCo have exchanged non-binding term sheets that outline certain concepts
that might be included in an amendment to the credit agreement in the future,
including (i) increasing the principal amount to reflect unpaid accrued interest
to date, (ii) extending the maturity date to February 28, 2001, and (iii)
increasing the interest rate to a 15% annual rate, payable at maturity; no
agreement has been reached between the parties. Furthermore, no assurances can
be given that the Company will be able to successfully conclude the arrangement
being considered.
As discussed in Note 9 to the consolidated financial statements, the
Company has a $55 million revolving line of credit with Comerica Bank-Texas,
National Bank of Canada and Hibernia Bank (the "Senior Lenders"), which expires
in June 2001. The Company was not in compliance with certain financial covenants
at each of the required quarterly reporting dates during 1999. The Company
requested and received waivers from the Senior Lenders for the March 31, 1999
and June 30, 1999 reporting periods; however, the Company did not seek waivers
for the reporting dates of September 30, 1999, December 31, 1999 or March 31,
2000. The Company is in violation of the credit agreement and although the
Senior Lenders have not expressed the intent to call this obligation, the Senior
Lenders retain the right to do so. The Company has held preliminary discussions
with the Senior Lenders to modify the terms and covenants of the credit
agreement. The Company has reached an agreement in principle with the Senior
Lenders that would (i) accelerate maturity to January 31, 2001, (ii) reduce the
revolving credit line to the lesser of $50 million or the defined borrowing
base, (iii) increase the interest rate
F-20
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
to prime plus 3%, payable weekly and (iv) modify the financial covenants to
require maintenance of minimum consolidated tangible net worth, and earnings
before interest, taxes, depreciation and amortization ("EBITDA")-to-debt-service
ratio as well as require limitations on capital expenditures. In addition, the
Senior Lenders would waive all prior violations under the credit agreement.
However, no assurances can be given that the Company will be able to
successfully conclude the arrangement being considered.
In connection with the proposed credit agreement amendment, St. James
Capital Corp. or its affiliates ("St. James") would be required to provide a $2
million guaranty to the Senior Lenders in order to secure any over-advances that
may occur under the terms of the proposed credit agreement amendment. In
exchange for providing this guaranty, the Company plans to (i) issue to St.
James warrants to acquire 400,000 shares of the Company's common stock at $1.25
per share (valued at $84,000), and (ii) forgive a $0.35 million note receivable
from St. James. In addition, if the guaranty is funded, the Company plans to
issue to St. James up to 500,000 warrants to acquire its common stock at $1.25
per share (valued at up to $105,000), depending on the amount of the funding.
As discussed in Note 10 to the consolidated financial statements, the
Company has a $9.5 million term note with Heller Financial, Inc. ("Heller"),
which expires on September 30, 2004. The Company was not in compliance with
certain financial covenants at each of the required quarterly reporting dates
during 1999. The Company requested and received waivers from Heller through the
September 30, 1999 reporting period; however, the Company did not seek waivers
for the reporting dates of December 31, 1999 or March 31, 2000. The Company is
in violation of the credit agreement and although Heller has not expressed the
intent to call this obligation, it retains the right to do so. The Company has
held preliminary discussions with Heller to obtain waivers for the events of
non-compliance; however, no assurances can be given that the Company will be
able to successfully obtain the required consents.
As discussed in Note 11 to the consolidated financial statements, the
Company is in default of a $5 million note payable to Trinity Industries, Inc.
("Trinity"). Trinity and the Company have entered into litigation regarding the
note payable.
The Company's continuation as a going concern is dependent upon its
ability to generate sufficient cash flow to meet its obligations on a timely
basis, to obtain the refinancing discussed above or new financing as may be
required.
4. BUSINESS ACQUISITIONS:
In March 1998, the Company acquired WHIR Acquisition, Inc., doing business
as Ameritech Fastener Manufacturing, Inc. ("Ameritech") and GHX, Incorporated
("GHX"). In April 1998, the Company acquired Moores Pump and Services, Inc.
("Moores"). In July 1998, the Company acquired United Wellhead Services, Inc.
("UWS") and in January 1999 the Company acquired Blastco Services Company
("Blastco") in transactions accounted for as poolings-of-interest (the
"Poolings"). In the Poolings the outstanding capital stock of Ameritech, GHX,
Moores, UWS and Blastco (together, the "Pooled Companies") was exchanged for
5,376,063 shares of the Company's common stock.
For purposes of restating the Company's consolidated financial statements
to give retroactive effect to the Poolings, the consolidated financial
statements of the Company as of and for the year ended December 31, 1997 were
combined with (i) the financial statements of Ameritech as of and for the year
ended December 31, 1997, (ii) the financial statements of Moores as of and for
the year ended December 31, 1997, and (iii) the consolidated financial
statements of UWS, GHX and Blastco as of and for the year ended December 31,
1997. The consolidated financial statements of GHX as of and for the year ended
June 30, 1997 and the financial statements of Moores as of and for the year
ended April 30, 1997 have been restated to conform to the fiscal year of the
Company. The Company's consolidated financial statements as of and for the year
ended December 31, 1997 include all necessary adjustments to conform the fiscal
periods of the Pooled Companies as previously presented to that of the Company.
F-21
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In January 1998, the Company acquired R. J. Machine Co., Inc. ("RJ"), in
February 1998, the Company acquired Philform, Inc. ("Philform"), in July 1998,
the Company acquired Beaird Industries, Inc. ("Beaird"), in August 1998, the
Company acquired the assets and assumed certain liabilities of Ideal Products
("Ideal"), in August 1998, the Company acquired A&B Bolt and Supply, Inc.
("A&B") and in September 1998, the Company acquired the assets of Erie
Manufacturing. The aggregate purchase price of these acquisitions was $58.7
million cash and assumed liabilities plus 1,227,854 shares of common stock
valued at $10.5 million. The aggregate excess of cost over fair value of net
assets acquired was $16.2 million. The results of operations of the acquired
businesses have been included in the consolidated financial statements from the
respective acquisition dates.
In February 1997, the Company acquired LSS-Lone Star-Houston, Inc. ("Lone
Star"), in March 1997, the Company acquired Manifold Valve Services, Inc.
("Manifold Valve"), in May 1997, the Company acquired the assets and assumed
certain liabilities of SRG Texas, Inc. and SRG Products Corporation
(collectively, "SRG" or "GHX-Deer Park"), in August 1997, the Company acquired
the assets and assumed certain liabilities of Rogers Equipment ("Rogers") and in
November 1997, the Company acquired WALKER Bolt Manufacturing ("Walker Bolt").
The aggregate purchase price of the acquisitions was $18.9 million cash and
assumed liabilities plus 728,461 shares of common stock valued at $5,680,000.
The aggregate excess of cost over the fair value of net assets acquired was $7.4
million. These acquisitions have been accounted for by the purchase method of
accounting and, accordingly assets and liabilities have been recorded at their
estimated fair values at the date of acquisition. The results of operations of
the acquired businesses have been included in the consolidated financial
statements from the respective acquisition dates.
On a pro forma unaudited basis, as if the 1998 acquisitions as described
above which were accounted for under the purchase method of accounting had
occurred as of January 1, 1998, sales, net income and basic and diluted earnings
per share would have been $274,870,000, $6,463,000, $.44 and $.43 for 1998. On a
pro forma unaudited basis, as if the 1998 and 1997 acquisitions as described
above which were accounted for under the purchase method of accounting had
occurred as of January 1, 1997, sales, net income and basic and diluted earnings
per share would have been $274,870,000, $6,463,000, $.44 and $.43 for 1998 and
$275,598,000, $10,383,000, $.80 and $.76 for 1997. The pro forma financial
information does not purport to be indicative either of results of operations
that would have occurred had the purchases been made at January 1, 1998 or 1997
or future results of operations of the combined companies.
5. INVENTORIES:
Inventories at December 31, consist of:
1999 1998
----------- -----------
Raw materials .................... $11,791,300 $12,451,960
Finished goods ................... 22,087,638 25,373,644
Other ............................ 4,380,585 10,450,323
----------- -----------
$38,259,523 $48,275,927
=========== ===========
F-22
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
6. NOTES RECEIVABLE:
Notes receivable at December 31 consist of the following:
1999 1998
---------- ----------
Note receivable from unconsolidated affiliate
with interest at 8.5% due on demand,
unsecured ..................................... $2,271,566 $2,609,139
Notes receivable from St. James or
its affiliates due on demand,
unsecured ..................................... 1,108,632 --
Notes receivable from former shareholders
of acquired companies due through 2001,
with interest up to 8.5% ...................... -- 1,312,287
Mortgage note receivable with
interest at 9.53% due in monthly
installments of $15,166 through
February 2007 secured by land and
building ...................................... 938,451 1,030,120
Notes receivable from employees,
unsecured ..................................... 135,207 210,865
Note receivable from Belleli with
interest at 8.5% due in 1999 and
secured by accounts receivable ................ -- 400,000
Other notes receivable ........................... 841,102 585,464
---------- ----------
5,294,958 6,147,875
Less current portion ............................. 4,175,180 4,364,106
---------- ----------
$1,119,778 $1,783,769
========== ==========
At December 31, 1999 and 1998, the Company had notes receivable from
officers of $879,758 and $945,000, respectively. A note totaling $62,500 and
bearing interest of 5.7% was due in 1999 and its maturity was extended until
2003. Notes totaling $817,258 at interest up to 6.1% are due through 2004.
7. PROPERTY AND EQUIPMENT
Property and equipment at December 31 consist of:
1999 1998
------------ ------------
Land ..................................... $ 3,480,481 $ 3,136,476
Buildings and improvements ............... 17,147,193 13,516,620
Machinery and equipment .................. 58,823,272 53,005,103
Furniture and fixtures ................... 4,590,104 2,811,501
Construction in progress ................. 382,132 858,201
------------ ------------
84,423,182 73,327,901
Less -- accumulated depreciation and
amortization .......................... (19,716,581) (14,533,955)
------------ ------------
$ 64,706,601 $ 58,793,946
============ ============
Depreciation and amortization expense was $6,398,731, $4,984,006 and
$3,408,695 for 1999, 1998 and 1997, respectively. See Note 10 as it relates to
Capital Leases and associated accumulated amortization.
F-23
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
8. INVESTMENTS IN UNCONSOLIDATED AFFILIATES:
Investments in unconsolidated affiliates consist of a 33 1/3% interest in
AWR Acquisition, L.C. ("AWR"), a 49% interest in OF Acquisition, L.P.
("Orbitform"), and a 30% interest in Midland Recycle, LLC ("Midland") and were
($820,120) and $513,284 at December 31, 1999 and 1998, respectively. The
Company's investment in AWR and Midland was acquired in connection with the
Blastco acquisition (see Note 4). The Company guaranteed borrowings of $2.51
million of AWR and Midland (see Note 11). The carrying amount of the Company's
investment in Orbitform is approximately $1,124,000 less than the amount of its
underlying equity in Orbitform's net assets. The difference is being amortized
over twenty years.
In January 2000, Midland was liquidated for less than its net book value.
As a result at December 31, 1999, we wrote-off a $343,000 intercompany note
receivable from Midland as unrecoverable and recognized a $280,000 loss on the
investment.
The combined results of operations and financial position of the Company's
unconsolidated affiliates for the years ended December 31, 1999 and 1998 are
summarized below:
Condensed Statement of Operations Information for the year ended December 31,
1999:
AWR MIDLAND ORBITFORM COMBINED
------------ ------------ ------------ ------------
Sales ....................... $ 1,734,000 $ 1,289,000 $ 12,024,000 $ 15,047,000
Gross profit (loss) ......... (16,775,000) 1,196,000 4,040,000 (11,539,000)
Net income (loss) ........... (17,147,000) 77,000 335,000 (16,735,000)
Condensed Balance Sheet Information at December 31, 1999:
Current assets .............. $ 8,340,000 $ 240,000 $ 2,780,000 $ 11,360,000
Non-current assets .......... 515,000 1,900,000 6,271,000 8,686,000
Current liabilities ......... 16,648,000 186,000 2,045,000 18,879,000
Non-current liabilities ..... -- 1,625,000 340,000 1,965,000
Condensed Statement of Operations Information for the year ended December 31,
1998:
AWR MIDLAND ORBITFORM COMBINED
----------- ----------- ----------- -----------
Sales ................. $15,743,000 $ 2,671,000 $10,915,000 $29,329,000
Gross profit (loss) ... 3,956,000 1,493,000 3,461,000 8,910,000
Net income (loss) ..... 3,647,000 (537,000) 1,704,000 4,814,000
Condensed Balance Sheet Information at December 31, 1998:
Current assets ........ $10,228,000 $ 136,000 $ 5,096,000 $15,460,000
Non-current assets .... 2,061,000 2,299,000 6,230,000 10,590,000
Current liabilities ... 6,833,000 348,000 3,584,000 10,765,000
Non-current liabilities 1,743,000 3,040,000 411,000 5,194,000
F-24
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
9. NOTES PAYABLE:
Notes payable at December 31 consists of the following:
1999 1998
----------- -----------
Revolving line of credit with banks which provide
for borrowings up to the lesser of a defined
borrowing base or $55,000,000, $1,845,945
available at December 31, 1999, principal due
June 16, 2001, interest payable monthly at
prime (8.50% at December 31, 1999), secured
by substantially all assets of the Company .... $46,192,562 $42,086,422
Note payable to a bank maturing in 1999 with
interest at prime (8.50% at December 31, 1999),
secured by certain accounts receivable ........ -- 400,000
----------- -----------
$46,192,562 $42,486,422
=========== ===========
Certain of the Company's debt arrangements, as discussed above and in Note
10, contain requirements as to the maintenance of minimum levels of working
capital and net worth, minimum ratios of debt to cash flow, cash flow to certain
fixed charges, liabilities to tangible net worth, current ratio, and capital
expenditures. At December 31, 1999 and March 31, 2000, the Company was not in
compliance with several of these covenants. Because of the losses incurred, the
Company did not meet certain required levels of working capital and net worth,
ratios of debt to cash flow, cash flow to certain fixed charges, liabilities to
tangible net worth and current ratio required by the debt agreements.
Additionally, the Company does not anticipate being in compliance with these
covenants any time during 2000 absent modifications from the specific lenders.
The Company has not received waivers for these covenant violations, and as a
result, has classified these obligations as current in the accompanying
consolidated balance sheet at December 31, 1999. Although the lenders have not
expressed the intent to do so, they have the ability to accelerate repayment of
these obligations (see Note 3).
F-25
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. LONG-TERM OBLIGATIONS:
Long-term obligations consist of long-term debt totaling $49.8 million and
$53.9 million and capital lease obligations of $2.8 million and $0 at December
31, 1999 and 1998, respectively. Current portion of long-term debt was $42.2
million and $23.5 million at December 31, 1999 and 1998, respectively. Current
portion of capital lease obligations was $0.5 million and $0 at December 31,
1999 and 1998, respectively.
LONG-TERM DEBT
Long-term debt at December 31 consists of the following:
1999 1998
----------- -----------
Notes payable to Comerica Bank-Texas with monthly
principal payments of $199,191 plus interest at
prime (8.50% at December 31, 1999), maturing through
2005, secured by certain assets of the Company ......... $11,697,968 $13,706,705
Note payable to EnSerCo, L.L.C. with interest at
Libor + 5% (11.5% at December 31, 1999) matured
January 31, 2000, unsecured ............................ 15,000,000 15,000,000
Notes payable to Heller Financial, Inc. with monthly
principal payments of $215,278 plus interest
at Libor + 2.5% (9.00% at December 31, 1999),
maturing December 2003 and October 2004,
secured by certain equipment ........................... 9,456,424 12,038,888
Convertible debenture payable to former shareholder of
Beaird in three annual installments of $1,770,833
plus interest at 4% through June 2001, unsecured
with principal and interest convertible to the Company's
common stock at $12.00 per share (see Note 11) ......... 5,000,000 5,312,500
Various notes payable in monthly installments, totaling
$43,881, including interest ranging from 7.65% to 10%,
maturing 2004 through 2010, secured by real estate ..... 4,199,600 4,478,989
Various notes payable to individuals, payable in
monthly installments including interest ranging
from 5% to 8%, maturing June 1998 through
February 2007, unsecured ............................... 628,940 905,898
Various notes payable in monthly installments through
2003, including interest ranging from 6% to 16%,
secured primarily by equipment ......................... 3,844,329 2,439,076
----------- -----------
49,827,261 53,882,056
Less -- current portion ................................... 42,232,447 23,547,890
----------- -----------
$ 7,594,814 $30,334,166
=========== ===========
F-26
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The aggregate maturities of long-term debt at December 31, 1999 are as follows:
Year ended December 31:
2000 ............................................... $42,232,447
2001 ............................................... 2,507,471
2002 ............................................... 1,714,415
2003 ............................................... 1,020,895
2004 ............................................... 604,686
Thereafter ......................................... 1,747,347
-----------
$49,827,261
===========
Certain of the Company's debt arrangements as discussed above contain
requirements as to the maintenance of minimum levels of working capital and net
worth, minimum rates of debt to cash flow, cash flow to certain fixed charges,
liabilities to tangible net worth and capital expenditures. At December 31, 1999
and March 31, 2000, the Company was not in compliance with several of these
covenants (see Note 9).
CAPITAL LEASE OBLIGATIONS
The Company leases various equipment and computer software under
agreements which are classified as capital leases. The leases have original
terms of five years. Most equipment leases have purchase options at the end of
the original term. Leased capital assets included in property and equipment at
December 31, 1999 are as follows:
1999
-----------
Furniture and Fixtures ............................... $ 1,297,010
Machinery and Equipment .............................. 1,693,609
-----------
2,990,619
Accumulated Amortization ............................. (209,162)
-----------
$ 2,781,457
===========
Future minimum payments, by year and in the aggregate, under noncancelable
capital leases with initial or remaining terms of one year or more consist of
the following at December 31, 1999:
2000 ...................................................... $ 747,606
2001 ...................................................... 747,606
2002 ...................................................... 747,606
2003 ...................................................... 747,606
2004 ...................................................... 489,802
----------
Total minimum lease payments .............................. 3,480,226
Amounts representing interest ............................. 637,622
----------
Present value of minimum payments ......................... 2,842,604
Current portion ........................................... 534,482
----------
Long-term capital lease obligations ....................... $2,308,122
==========
F-27
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
11. COMMITMENTS, CONTINGENCIES AND RELATED PARTY TRANSACTIONS:
The Company has entered into noncancelable operating leases with related
parties for buildings and an airplane and other third parties for buildings and
equipment expiring in various years through 2007. Rent payments to the related
parties were $614,200 for 1999, $183,000 for 1998 and $528,800 for 1997.
Aggregate rent expense on all operating leases amounted to $2,388,942,
$2,827,226 and $1,843,267 for the years 1999, 1998 and 1997. Future minimum
lease payments are as follows:
Year ended December 31:
2000 ................................................ $1,906,931
2001 ................................................ 1,615,219
2002 ................................................ 1,307,990
2003 ................................................ 751,101
2004 ................................................ 542,936
Thereafter .......................................... 1,340,226
----------
$7,464,403
==========
Lease commitments to related parties are approximately $308,000, $270,000,
and $127,000 for 2000, 2001, and 2002, respectively. The Company has an option
to renew one building lease for an additional five years.
In 1999, Blastco exchanged an aircraft with a fair value of $240,000 for
$80,000 in cash and an aircraft lease with a company of which the president of
Blastco is a 25% shareholder. This lease provides for monthly lease payments of
$18,000 from June 1999 through April 2000 and March 2001 through May 2001 in
addition to payments based on hours used and certain of the operating costs of
the aircraft. The Company recorded an $11,000 gain on the exchange.
During 1999, Blastco purchased inventory in the amount of $65,000 from a
company of which the president of Blastco is a 25% shareholder.
During 1999, AWR distributed property to one of its partners in exchange
for services. AWR recognized $1.0 million in expense as a result of this
distribution.
During 1999, Blastco funded capital contributions totaling $1,307,500 for
one of AWR's limited partners that did not meet its funding commitments. These
contributions have been included in Investment in Unconsolidated Affiliates (see
Note 8).
Orbitform leases a building and certain equipment from the Company. Rental
income recognized in connection with this lease was $336,000 and $268,000 in
1999 and 1998.
During 1998, the Company sold an interest in a demolition contract to AWR,
an equity investee, for $2,000,000, net of associated expenses. This income has
been recognized over the two-year estimated life of the demolition contract.
Included in the accompanying consolidated balance sheet at December 31, 1998
under the caption Investment in Unconsolidated Affiliates is $1,000,000 in
unamortized contract value. The Company has recognized $1,000,000 related to
this contract in each of the years ended December 31, 1999 and 1998, which is
included in the accompanying consolidated statement of income under the caption
Other Income.
During 1998, the Company recorded $1,035,000 in staffing fee revenues from
AWR, an affiliate in which it holds an equity interest. Included in other
current assets on the accompanying consolidated balance sheet at December 31,
1998 is approximately $20,000 receivable from AWR. During 1999, no such amounts
were recorded.
In 1998, Blastco purchased equipment for $500,000 from a company of which
the president of Blastco is a 25% shareholder. In 1999, the equipment was
reclassified to inventories. In February 2000, the equipment was
F-28
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
sold back to the company it was originally purchased from for $300,000. The
Company recorded an impairment loss of $200,000 in 1999 on the transaction.
In connection with its 1998 acquisition of GHX, an officer of the Company,
who was a minority shareholder of GHX, received 24,345 shares of the Company's
common stock.
In 1998, the Company paid St. James $1 million in advisory fees in
connection with acquisitions of various companies. In addition, an affiliate of
St. James owns a 51% interest in Orbitform. Mr. John Thompson, a director of the
Company since February 1997, is also a director and President of St. James. Mr.
Charles Underbrink, a director of the Company since February 2000, is also
Chairman and Chief Executive Officer of St. James. In the second quarter of
1999, the Company realized proceeds of $2.6 million from the issuance of 349,580
shares of the Company's common stock to an affiliate of St. James. The shares
were valued at $7.44 per share based upon the closing market price for the
Company's stock immediately preceding the consummation of the sale.
In connection with the 1997 purchase of Lone Star, the Company issued a
note payable to the former shareholder and president of Lone Star with quarterly
principal and interest payments of $30,575, maturing in January 2002 (see Note
10).
In July 1998, the Company entered into an option agreement that granted it
the right through 2003 to purchase approximately 95% of Belleli Energy S.r.L.
("Belleli"). Belleli is an Italian company that manufactures thick-walled
pressure vessels and heat exchangers, as well as designs, engineers, constructs
and erects components for desalination, electric power and petrochemical plants.
Under the terms of the option agreement, the Company was obligated to provide
certain interim funding to Belleli. Because of its financial condition in 1999,
the Company could no longer provide financial support to Belleli. In February
2000, SJMB, L.P. ("SJMB"), an affiliate of St. James, acquired a majority
interest in Belleli from Belleli's shareholder, Impianti. As a result of this
transaction, all of the Company's obligations with respect to Belleli have been
released and discharged. The Company retains a 3.5% minority interest in
Belleli.
As a part of the Belleli transaction, the Company will issue warrants to
purchase 750,000 shares of its common stock to SJMB at an exercise price of
$1.25 per share (valued at $157,500). Additionally, the Company is obligated to
reimburse SJMB for satisfying its installment payment obligations under the
option agreement of approximately $280,000.
At December 31, 1999, the Company had $197,418 in letters of credit
outstanding. Additionally, the Company had guaranteed borrowings totaling $2.51
million of certain companies in which it holds equity interests (see Note 8).
In July 1998, the Company acquired Beaird Industries, Inc. ("Beaird") from
Trinity Industries, Inc. (the "Seller") for $35.0 million in cash and
receivables and a $5.0 million note to the Seller. Under the purchase agreement,
the Seller assumed all liabilities and retained certain accounts receivable of
Beaird. The Company believes that it is entitled to receive $2.2 million of
excess purchase price paid to the Seller under the purchase agreement resulting
from liabilities incurred by the Company in connection with the acquisition, and
$1.84 million in other claims arising from breaches of representation and
warranties. On July 15, 1999, the first installment of $1.8 million was due on
the Seller note. It is the Company's position that it has offset the amount owed
under the purchase agreement against this principal and interest payment.
Although the Seller agrees that the Company is owed an amount, in January 2000,
the Seller filed suit against the Company in the 134th Judicial District in the
District Court of Dallas County, Texas, in a suit styled TRINITY INDUSTRIES,
INC. V. INDUSTRIAL HOLDINGS, INC. In the lawsuit, the Seller alleged that the
Company defaulted on the $5 million note payment and asserted that the amount it
owes the Company is not sufficient to pay the first principal and interest
payment and additionally cannot be offset against the $5 million note payment.
In response, in February 2000, the Company filed a counterclaim alleging the
Seller's fraud in failing to disclose, and in misrepresenting, certain facts
about Beaird. The Company and the Seller are currently in discussions to resolve
this disagreement. The principal is classified as current portion of long-term
debt at December 31, 1999.
F-29
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In May 2000, the Company filed suit against some of the former Blastco
shareholders in Harris County District Court, in a suit styled INDUSTRIAL
HOLDINGS, INC. AND INDUSTRIAL HOLDINGS ACQUISITION FOUR, INC. V. GARY H. MARTIN,
WORLD WIDE LEASING, LUBRICATION SERVICES, INC. AND WILLIAM R. MASSEY. In the
lawsuit, the Company alleged Messrs. Massey and Martin's fraud in failing to
disclose, and in misrepresenting, certain facts about Blastco, as well as Mr.
Martin's mismanagement and self-dealing as President of Blastco. The Company has
not yet served the defendants.
In addition to the above, the Company is involved in litigation arising in
the ordinary course of its business. In the opinion of management, the ultimate
liabilities, if any, as a result of these matters will not have a material
adverse effect on the Company's consolidated financial position or results of
operations or cash flows.
12. INCOME TAXES:
The provision for income taxes for the years ended December 31 is as follows:
1999 1998 1997
----------- ----------- -----------
Current
Federal ....................... $(2,921,018) $ 1,691,627 $ 2,948,112
State ......................... 43,145 511,000 347,697
----------- ----------- -----------
(2,877,873) 2,202,627 3,295,809
Deferred, primarily federal ...... (4,397,792) 1,896,019 181,307
----------- ----------- -----------
Income tax expense (benefit) ..... $(7,275,665) $ 4,098,646 $ 3,477,116
=========== =========== ===========
The Company and its subsidiaries file a consolidated federal income tax
return. At December 31, 1999, the Company has net operating loss ("NOL")
carryforwards of approximately $23.3 million for income tax purposes which
expire in 2017 and 2021. Of the carryforward amount, $22.2 million may be used
at any time prior to its expiration. The remainder of these losses may be offset
against the future income of the applicable subsidiary only and are subject to
annual limitations.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amount of assets and liabilities for financial reporting
purposes and the carrying amounts for income tax purposes, primarily resulting
from the acquisitions of the Company's subsidiaries. During 1999 the Company
increased the deferred tax asset valuation allowance by $1.4 million to provide
for a valuation allowance to the extent that the Company's NOL's exceeded its
deferred income tax liabilities. Also during 1999, the Company recognized a
deferred tax asset of $7.6 million as a result of the $23.3 million in loss
carryforwards described above.
F-30
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The major components of deferred income tax assets and liabilities at
December 31 are as follows:
1999 1998
------------ ------------
Deferred income tax liabilities:
Depreciation ............................ $ (6,741,453) $ (5,183,845)
Other ................................... (2,187,173) (1,281,118)
------------ ------------
Total deferred income tax liabilities ... (8,928,626) (6,464,963)
------------ ------------
Deferred income tax assets:
Net operating loss carryforwards ........ 7,928,012 499,882
Inventory ............................... 592,741 436,144
Other ................................... 1,530,176 884,683
------------ ------------
Total deferred income tax assets ........ 10,050,929 1,820,709
------------ ------------
Deferred income tax valuation allowance .... (1,428,044) (59,280)
------------ ------------
Deferred income tax liability, net ......... $ (305,741) $ (4,703,534)
============ ============
A reconciliation of income tax expense computed at statutory rates to income
tax expense for the years ended December 31 is as follows:
1999 1998 1997
----------- ----------- -----------
Tax at statutory rate .................... $(8,945,045) $ 3,479,177 $ 2,951,338
Effect of permanent difference ........... 331,802 377,905 295,315
Increase (decrease) in deferred tax asset
valuation allowance ................... 1,368,764 (5,541) --
Tax effect of S corporation net income ... -- (1,966) (77,438)
Other .................................... (261,451) (88,189) 78,421
State income taxes, net of federal benefit 230,265 337,260 229,480
----------- ----------- -----------
Income tax expense (benefit) ............. $(7,275,665) $ 4,098,646 $ 3,477,116
=========== =========== ===========
13. SHAREHOLDERS' EQUITY:
COMMON STOCK
Holders of the Company's common stock are entitled to one vote per share
on all matters to be voted on by shareholders and are entitled to receive
dividends, if any, as may be declared from time to time by the Board of
Directors of the Company. Upon any liquidation or dissolution of the Company,
the holders of common stock are entitled, subject to any preferential rights of
the holders of preferred stock, to receive a pro rata share of all of the assets
remaining available for distribution to shareholders after payment of all
liabilities.
DISTRIBUTION TO SHAREHOLDERS
Distributions to shareholders consist of distributions to S corporation
shareholders prior to the acquisition of the S corporation by the Company as
well as in 1997 dividends earned by holders of preferred stock of acquired
companies prior to acquisition by the Company.
F-31
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
WARRANTS TO ACQUIRE COMMON STOCK
In 1998, the Company completed an offer to the holders of Class B warrants
to exchange each Class B warrant and $10.00 cash for one share of common stock,
one Class C warrant and one Class D warrant. The Company received net proceeds
of $10.9 million after deducting approximately $0.1 million of related expenses.
The following table sets forth the outstanding warrants to acquire
3,488,258 shares of common stock as of December 31, 1999:
NUMBER OF COMMON SHARES
Class B redeemable warrants to acquire common stock at $10.00 per
share issued in connection with initial public offering and
with tender offer to Class B warrant holders currently
exercisable, expiring on January 14, 2001, redeemable upon 30
days notice .................................................... 149,375
Class C redeemable warrants to acquire common stock at $15.00 per
share issued in connection with tender offer to Class B warrant-
holders, currently exercisable, expiring on January 14, 2001,
redeemable if closing bid price of common stock equals or
exceeds $20.00 for 20 consecutive days ......................... 1,724,603
Class D redeemable warrants to acquire common stock at $22.50 per
share issued in connection with tender offer to Class B warrant-
holders, currently exercisable, expiring on January 14, 2001,
redeemable if closing bid price of common stock equals or
exceeds $25.00 for 20 consecutive days ......................... 1,102,689
Warrant to acquire common stock at $3.27 per share issued in
connection with private financing, currently exercisable,
expiring on December 8, 2000 ................................... 99,304
Warrant to acquire common stock at $7.00 per share issued in
connection with acquisition financing, currently exercisable,
expiring on November 18, 2001 .................................. 382,287
Warrant to acquire common stock at $10.00 per share, currently
exercisable, expiring on June 18, 2007 ......................... 30,000
EMPLOYEE STOCK OPTION PLAN
At December 31, 1999, the Company has a stock-based compensation plan
under which shares or options can be granted to employees. The Company measures
compensation cost for this plan using the intrinsic value method of accounting
prescribed by APB Option No. 25 "Accounting for Stock Issued to Employees."
Given the terms of the plan, no compensation cost has been recognized for stock
options granted under the plan.
Under the 1998 Incentive Stock Plan ("Employee Plan"), the Company may
grant incentive or nonqualified options to key employees. As of December 31,
1999, there were 2.3 million shares of common stock reserved for issuance under
the Employee Plan. The option price per share is generally the fair market value
on the date the option is granted and each option is exercisable into one share
of common stock. The options under the Employee Plan are exercisable immediately
to five years after the grant date in accordance with the vesting provisions of
the individual agreements set forth at the time of the award. All options expire
ten years from the date of the grant.
F-32
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table summarizes information about employee stock options
outstanding at December 31:
1999 1998 1997
----------------------- ----------------------- -----------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
FIXED OPTIONS SHARES PRICE SHARES PRICE SHARES PRICE
------------- ---------- -------- ---------- -------- ---------- --------
Outstanding at the beginning of the year ..... 1,179,700 $ 9.55 522,750 $ 6.68 438,000 $ 4.09
Granted ...................................... 150,000 $ 3.19 822,000 $ 11.87 208,750 $ 9.87
Exercised .................................... (3,250) $ 10.00 (156,800) $ 4.42 (124,000) $ 2.90
Forfeited .................................... (702,500) $ 10.71 (8,250) $ 9.82 -- --
---------- -------- ---------- -------- ---------- --------
Outstanding at end of year ................... 623,950 $ 6.71 1,179,700 $ 10.57 522,750 $ 6.68
---------- -------- ---------- -------- ---------- --------
Options exercisable at end of year ........... 591,450 $ 7.08 455,077 $ 8.79 293,250 $ 5.34
Weighted-average fair value of options granted
during the year at market price .......... 150,000 $ 1.69 186,500 $ 3.70 208,750 $ 2.92
Weighted-average fair value of options granted
during the year where exercise price is
greater than market price at grant date .. -- -- 631,000 $ 5.99 -- --
DIRECTORS' STOCK OPTION PLAN
The Company has a stock option plan for Non-Employee Directors (the
"Director Plan"). At December 31, 1999, there were 150,000 shares of common
stock reserved for issuance under the Director Plan. Pursuant to the terms of
the plan, each non-employee director is entitled to receive options to purchase
common stock of the Company upon initial appointment to the Board (initial
grants) and annually thereafter. Grants vest over nine months and are
exercisable until the tenth anniversary of the date of grant. Grants have an
exercise price equal to the fair market value of the Company's stock on the date
of grant.
The following table summarizes information about directors stock options
outstanding at December 31:
1999 1998 1997
------------------- -------------------- --------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
FIXED OPTIONS SHARES PRICE SHARES PRICE SHARES PRICE
------------- ------- -------- ------- -------- ------- --------
Outstanding at the beginning of the year .................... 75,000 $ 9.28 60,000 $ 6.78 80,000 $ 2.90
Granted ..................................................... -- -- 25,000 $ 12.50 25,000 $ 11.60
Exercised ................................................... -- -- (10,000) $ 2.38 (45,000) $ 2.56
------- -------- ------- -------- ------- --------
Outstanding at end of year .................................. 75,000 $ 9.28 75,000 $ 9.28 60,000 $ 6.78
------- -------- ------- -------- ------- --------
Options exercisable at end of year .......................... 75,000 $ 9.28 75,000 $ 9.28 60,000 $ 6.78
Weighted-average fair value of options granted
during the year at market price ......................... -- -- -- -- 25,000 $ 3.25
Weighted-average fair value of options granted
during the year where exercise price is
greater than market price at grant date ................. -- -- 25,000 $ 5.07 -- --
F-33
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table summarizes significant ranges of outstanding and exercisable
options at December 31, 1999.
WEIGHTED
AVERAGE WEIGHTED WEIGHTED
NUMBER REMAINING AVERAGE NUMBER AVERAGE
RANGE OF OUTSTANDING AT CONTRACTUAL EXERCISABLE EXERCISABLE AT EXERCISABLE
EXERCISABLE PRICES DECEMBER 31, 1999 LIFE PRICE DECEMBER 31, 1999 PRICE
- -------------------------- ----------------- ----------- ----------- ----------------- -----------
$2.38 - $3.19 ............ 155,000 9.7 $ 3.16 155,000 $ 3.16
$4.00 - $5.00 ............ 180,000 6.0 $ 4.77 180,000 $ 4.77
$9.00 - $10.50 ........... 287,950 8.7 $ 9.99 267,950 $ 9.99
$11.38 - $12.50 .......... 51,000 7.6 $ 12.06 51,000 $ 12.06
$13.75 ................... 25,000 8.5 $ 13.75 12,500 $ 13.75
The Company's reported net income and earnings per share would have been
reduced had compensation cost for the Company's stock-based compensation plans
been determined using the fair value method of accounting as set forth in SAFS
No. 123 "Accounting for Stock-Based Compensation." For purposes of estimating
the fair value disclosures below, the fair value of each stock option has been
estimated on the grant date with a Black-Scholes option-pricing model using the
following weighted-average assumptions: dividend yield of 0%; expected
volatility range of .445% to .750%, a risk-free interest rate range of 5.75% to
6.00%; and expected lives of 3 to 6 years for stock options granted. The effects
of using the fair value method of accounting on net income and earnings per
share are indicated in the pro forma amounts below:
1999 1998 1997
-------------- -------------- --------------
Net income (loss) .................... As reported $ (19,033,290) $ 6,134,229 $ 5,203,292
Pro forma $ (19,200,600) $ 4,641,237 $ 4,785,377
Earnings (loss) per share:
Basic .......................... As reported $ (1.27) $ .44 $ .44
Pro forma $ (1.28) $ .33 $ .41
Diluted ........................ As reported $ (1.27) $ .42 $ .41
Pro forma $ (1.28) $ .32 $ .38
14. EMPLOYEE BENEFIT PLANS:
The Company maintains various 401(k) savings plans that permit
participants to contribute up to 18 percent of their compensation each year. The
Company will match a percentage of a participant's contributions, subject to
specified limits. The Company's results of operations reflect expenses
associated with the plan of approximately $478,000, $359,000 and $230,000 for
1999, 1998 and 1997.
On July 1, 1998, the Company acquired Beaird. Beaird has a
non-contributory defined benefit plan covering its union employees. The plan
provides benefits that are generally based on years of service. Annual
contributions to the plan are sufficient to satisfy legal requirements.
Net pension cost attributable to the Beaird plan includes the following
components:
YEAR ENDED
DECEMBER 31,
-----------------------------
1999 1998
----------- -----------
Service cost -- benefits earned
during the period ..................... $ 1,051,255 $ 419,856
Interest cost on projected benefit
obligation ............................ 481,802 191,703
Unrealized net loss ........................ 22,916 --
Expected return on plan assets ............. (486,596) (218,033)
----------- -----------
Total pension cost ................... $ 1,069,377 $ 393,526
=========== ===========
F-34
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Following are reconciliations of the Company's beginning and ending
balances of its retirement plan benefit obligation, plan assets and funded
status for 1999 and 1998.
YEAR ENDED
DECEMBER 31,
---------------------------
1999 1998
----------- -----------
Change in Benefit Obligation
Benefit obligation at beginning of year .. $ 6,498,533 $ 5,909,781
Service cost ............................. 1,051,255 419,856
Interest cost ............................ 481,802 191,703
Benefits paid ............................ (63,937) (22,807)
Actuarial (gain) loss .................... (537,168) --
----------- -----------
Benefit obligation, end of year .......... $ 7,430,485 $ 6,498,533
----------- -----------
Change in Plan Assets
Plan asset, at beginning of year ......... 5,423,952 4,784,729
Benefits paid ............................ (63,937) (22,807)
Employer contributions ................... -- 588,574
Actual investment return ................. 842,566 73,456
----------- -----------
Plan assets, end of year ................. $ 6,202,581 $ 5,423,952
----------- -----------
Reconciliation of Funded Status
Funded status ............................ (1,227,904) (1,074,581)
Unrecognized prior service cost .......... -- --
Unrecognized actuarial (gain) loss ....... (771,477) 144,577
----------- -----------
Net amount recognized .................... $(1,999,381) $ (930,004)
=========== ===========
The benefit obligation was determined using an assumed discount rate of
6.5%. A long-term annual rate of compensation increase of 4.5% was assumed for
the plan. The assumed long-term rate of return on plan assets was 9%. The
unrecognized transitional asset, prior service cost and net (gain) or loss
related to the plan were recognized at the acquisition date. A 1/4% change in
the discount rate assumed in determining the benefit obligation would result in
a change of $324,000 in benefit obligation.
15. REPORTABLE SEGMENTS
Effective January 1, 1998, the Company adopted SFAS No. 131, "Disclosures
about Segments of an Enterprise and Related Information" (SFAS No. 131). The
Company's determination of reportable segments considers the strategic operating
units under which the Company sells various types products and services to
various customers. Financial information for purchase transactions is included
in the segment disclosures only for periods subsequent to the dates of
acquisition.
The accounting policies of the segments are the same as those of the
Company as described in Note 2. The Company evaluates performance based on
income from operations excluding certain corporate costs not allocated to the
segments. Intersegment sales are not material. Substantially all sales are from
domestic sources and all assets are held in the United States.
F-35
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
HEAVY
FASTENERS FABRICATION ENERGY MACHINES CORPORATE CONSOLIDATED
------------- ------------- ------------- ------------- ------------- -------------
1999
Sales ......................... $ 122,422,980 $ 73,807,083 $ 40,463,067 $ 5,476,733 $ -- $ 242,169,863
Depreciation and amortization . 3,934,096 1,499,116 2,174,286 140,329 25,548 7,773,375
Income (loss) from operations . (1,783,056) (5,685,306) 943,323 (1,502,006) (5,517,352) (13,544,397)
Total assets .................. 97,908,496 44,986,642 33,132,805 2,621,617 10,593,146 189,242,706
Equity investment in affiliates 1,482,970 -- (2,488,090) -- -- (1,005,120)
Capital expenditures .......... 3,238,571 871,936 6,234,356 -- 9,753 10,354,616
1998
Sales ......................... $ 110,403,167 $ 40,011,472 $ 53,487,881 $ 14,305,192 -- $ 218,207,712
Depreciation and amortization . 3,151,524 549,849 2,234,069 151,868 31,273 6,118,583
Income from operations ........ 6,893,607 1,981,421 4,317,198 22,656 (1,686,506) 11,528,376
Total assets .................. 106,246,831 58,427,308 31,530,596 3,969,087 3,494,833 203,668,655
Equity investment in affiliates 1,290,930 -- (777,646) -- -- 513,284
Capital expenditures .......... 2,865,211 689,674 2,425,918 79,847 318,719 6,379,369
1997
Sales ......................... $ 79,472,953 -- $ 56,130,384 $ 15,624,347 $ -- $ 151,227,684
Depreciation and amortization . 2,058,076 -- 1,727,654 238,085 12,953 4,036,768
Income from operations ........ 5,544,340 -- 6,601,159 (257,326) (884,040) 11,004,133
Total assets .................. 58,574,755 -- 31,112,693 4,872,691 900,955 95,461,094
Equity investment in affiliates -- -- 594,832 -- -- 594,832
Capital expenditures .......... 1,799,365 -- 4,101,274 162,383 30,347 6,093,369
RECONCILIATION OF INCOME (LOSS) FROM OPERATIONS TO NET INCOME (LOSS)
1999 1998 1997
------------ ------------ ------------
Income (loss) from operations ... $(13,544,397) $ 11,528,376 $ 11,004,133
Equity earnings (losses) of
unconsolidated affiliates . (5,951,603) 2,144,131 (60,520)
Other income (expense):
Interest expense .......... (9,722,774) (5,336,898) (2,749,282)
Interest income ........... 377,521 521,771 160,230
Other income, net ......... 2,532,298 1,375,495 325,847
------------ ------------ ------------
Total other income (expense) .... (6,812,955) (3,439,632) (2,263,205)
Income (loss) before income taxes (26,308,955) 10,232,875 8,680,408
Income tax expense (benefit) .... (7,275,665) 4,098,646 3,477,116
------------ ------------ ------------
Net income (loss) ............... $(19,033,290) $ 6,134,229 $ 5,203,292
============ ============ ============
RECONCILIATION OF PRODUCTS AND SERVICES
1999 1998 1997
------------ ------------ ------------
Cold-formed fasteners, fastening
systems and metal components ....... $ 41,081,034 $ 36,266,413 $ 31,900,128
Stud bolts, gaskets and hoses ............ 81,341,946 74,136,754 47,572,825
Pressure vessels, storage tanks and
related products ................... 73,807,083 40,011,472 --
Valves, pumps and related products ....... 40,463,067 53,487,881 56,130,384
Machine tools and other .................. 5,476,733 14,305,192 15,624,347
------------ ------------ ------------
Sales .................................... $242,169,863 $218,207,712 $151,227,684
============ ============ ============
F-36
INDUSTRIAL HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
16. QUARTERLY FINANCIAL DATA (UNAUDITED):
Summarized quarterly financial data for 1999 and 1998 are as follows (in
thousands, except per share data):
MARCH 31(1) JUNE 30(1) SEPTEMBER 30(1) DECEMBER 31(1)
--------------- --------------- --------------- ---------------
1999
Sales ........................ $ 72,325 $ 66,514 $ 55,544 $ 47,787
Gross Profit ................. 14,867 12,515 7,286 5,266
Net income (loss) ............ 2,133 463 (7,294) (14,335)
Earnings (loss) per share:
Basic .................. .14 .03 (.48) (.96)
Diluted ................ .14 .03 (.48) (.96)
1998(2)
Sales ........................ $ 43,110 $ 44,581 $ 63,570 $ 66,947
Gross Profit ................. 10,866 12,468 13,378 13,127
Net income ................... 1,393 2,438 1,420 883
Earnings per share:
Basic .................. .10 .18 .10 .06
Diluted ................ .10 .17 .09 .06
(1) Quarterly financial data presented herein has been retroactively restated
to give effect to the pooled companies as described in Note 4.
(2) The Company acquired RJ in January 1998, Philform in February 1998, Beaird
in July 1998, and Ideal and A&B in August 1998. The results of their
operations have been included from the date of acquisition.
17. SUBSEQUENT EVENTS:
In March 2000, the Company sold its U.S. Crating subsidiary to its general
manager for $400,000 at a gain of approximately $68,000. U.S. Crating provides
crating, inspection, preparation and partial documentation services for domestic
and international movement of goods. Sales for U.S. Crating were $1,626,408,
$3,320,642 and $2,437,904 for the years ended December 31, 1999, 1998 and 1997,
respectively.
In June 2000, the Company reached an agreement in principle with St.
James, subject to customary closing conditions and shareholder approval, to
acquire from SJMB the general partnership interest and the 51% of limited
partnership interests of Orbitform that the Company does not already own (the
"St. James Transaction"). In the St. James Transaction, the Company would issue
secured subordinated debt that is convertible into a number a number of shares
of its Common Stock and warrants that are convertible into a number of shares of
Common Stock that would exceed 20% of the Company's currently issued and
outstanding shares. For that reason, and because the Company would be entering
into a transaction with a greater-than-5% shareholder, The Nasdaq Stock Market
requires that the Company submit the St. James Transaction to shareholders for
their advance approval.
In June 2000, the Company reached an agreement in principle to sell
Blastco back to its former shareholders, including its current President. The
sales price of Blastco is $2.0 million in cash, $0.8 million in notes
receivable, and 1,586,265 shares of the Company's common stock that the former
shareholders of Blastco received in the Company's acquisition of Blastco in a
pooling-of-interests transaction. Also, the Company will retain inventory and
equipment with a net book value of $0.3 million. Blastco's 1999 sales were $12.1
million. Blastco will retain its minority ownership in AWR. While this
transaction is expected to close in the second quarter of 2000, there can be no
assurances that it will be successfully completed on the terms as described
above.
F-37
INDEX TO EXHIBITS
SEQUENTIALLY
EXHIBIT NUMBERED
NUMBER IDENTIFICATION OF EXHIBIT PAGES
------- ------------------------- ------------
3.1 -- Amended and Restated Articles of
Incorporation of the Company. Exhibit
3.1 from Amendment No. 1 to the
Company's Registration Statement on
Form S-1 (No. 333-13323) (the "1996
Registration Statement") is
incorporated herein by this reference.
3.2 -- Amended and Restated Bylaws of the
Company. Exhibit 3.2 from the 1996
Registration Statement is
incorporated herein by this reference.
4.1 -- Specimen Certificate of Common Stock,
$.01 par value, of the Company.
Exhibit 4.1 to the Company's
Registration Statement on Form S-1
(No. 33-43169) dated October 7, 1991
(the "Registration Statement"), as
amended, is incorporated herein by
reference.
4.2 -- Class B Redeemable Warrant Agreement
and specimen of Class B Redeemable Warrant
Certificate. Exhibit 4.2 to the Company's
Registration Statement is incorporated
herein by this reference.
4.3 -- Designation of Warrant Agent (Class B
Redeemable Warrant), dated as of
November 1, 1996. Exhibit 4.3 the
1996 Registration Statement is
incorporated herein by this reference.
4.4 -- Class C Redeemable Warrant Agreement
and specimen of Class C Redeemable Warrant
Certificate. Exhibit 4.4 to the 1996
Registration Statement is incorporated
herein by this reference.
4.5 -- Designation of Warrant Agent (Class C
Redeemable Warrant), dated as of
November 1, 1996. Exhibit 4.5 to the
1996 Registration Statement is
incorporated herein by this reference.
4.6 -- Class D Redeemable Warrant Agreement
and specimen of Class D Redeemable
Warrant Certificate, Exhibit 4.5 from
Amendment No. 1 to the Company's
Registration Statement on Form S-2
(No. 333-37915) (the "1997
Registration Statement") is incor-
porated herein by this reference.
EX-1
SEQUENTIALLY
EXHIBIT NUMBERED
NUMBER IDENTIFICATION OF EXHIBIT PAGES
------- ------------------------- ------------
10.1 -- Second Amendment to Employment
Agreement of Robert E. Cone. Exhibit
10.1 to the 1996 Registration
Statement is incorporated herein by
this reference.
10.2 -- The Company's 1998 Incentive Plan is
incorporated herein by this reference
to the Proxy Statement dated June 10,
1998.
10.3 -- 1995 Non-Employee Director Stock
Option Plan incorporated herein by
reference to the Proxy Statements
dated May 27, 1997 and May 25, 1994.
10.4 -- 1994 Amended and Restated Incentive
Stock Plan incorporated herein by
this reference to the Proxy Statement
dated May 27, 1997 and May 26, 1995.
10.5 -- Promissory Note dated December 6,
1995, by and among the Company,
Landreth Engineering Company and
General Electric Corporation. Exhibit
10.1 to the Company's Current Report
on Form 8-K dated December 7, 1995 is
incorporated herein by this reference.
10.6 -- Line of Credit Facility, by and among
the Company and Comerica. Exhibit
10.1 to the Company's Current Report
on Form 8-K dated July 14, 1998
incorporated herein by this reference.
10.7 -- Promissory Note by and among the
Company, American Rivet Company,
Inc., LSS-LoneStar-Houston, Inc.,
Bolt Manufacturing Co., Inc. and
Heller Financial, Inc. ("Heller").
Exhibit 10.1 from the Company's
Current Report on Form 8-K dated
December 1, 1997 is incorporated
herein by this reference.
10.8 -- Promissory Note dated August 14, 1998
by and among the Company, American
Rivet Company, Inc.,
LSS-LoneStar-Houston, Inc., Bolt
Manufacturing Co., Inc., Manifold
Valve Services, Inc., and Rex
Machinery Movers, Inc. and Heller.
EX-2
SEQUENTIALLY
EXHIBIT NUMBERED
NUMBER IDENTIFICATION OF EXHIBIT PAGES
------- ------------------------- ------------
10.9 -- Agreement of Limited Partnership of
OF Acquisition, L.P. Exhibit 2.2
from the Company's Current Report on
Form 8-K dated February 10, 1998 is
incorporated herein by this reference.
10.10 -- Comerica Leasing Corporation Lease
Agreement. Exhibit 10.2 from the
Company's Current Report on Form 8-K
dated July 14, 1998 is incorporated
herein by this reference.
10.11 -- Stock Purchase Warrant Agreement
dated November 18, 1996, from the
Company in favor of St. James.
Exhibit 10.5 to the Company's Current
Report on Form 8-K dated November 18,
1996 is incorporated herein by this
reference.
21* -- Subsidiaries of the Company Ex-4
23.1* -- Consent of Deloitte & Touche LLP Ex-5
23.2* -- Consent of Arthur Andersen LLP Ex-6
23.3* -- Consent of Weinstein Spira &
Company, P.C. Ex-7
23.4* -- Consent of Karlins Arnold &
Corbitt, P.C. Ex-8
23.5* -- Consent of Simonton, Kutac &
Barnidge, LLP Ex-9
23.6* -- Consent of Kuhl & Schultz, P.C. Ex-10
27.1* -- Financial data schedule Ex-11
- ----------
* Filed herewith.
EX-3