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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 0-28582
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Channell Commercial Corporation
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(Exact name of registrant as specified in its charter)
Delaware 95-2453261
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(State or other jurisdiction of incorporation)(IRS Employer Identification No.)
26040 Ynez Road
Temecula, CA 92591-9022
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(Address of principal executive offices, including zip code)
Registrant's telephone number, including area code: (909) 719-2600
Securities registered pursuant to Section 12(b) of the Act:
None
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Securities registered pursuant to Section 12(g) of the Act:
Title of Class
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Common Stock, $0.01 Par Value
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the 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. [ ]
On March 1, 2000, the Registrant had 9,076,392 shares of Common Stock
outstanding with a par value of $.01 per share. The aggregate market value of
the 3,320,565 shares held by non-affiliates of the Registrant was $63,090,735.
Shares of Common Stock held by each officer and director and by each person who
may be deemed to be an affiliate have been excluded.
TABLE OF CONTENTS
PART I
Item 1. Business.............................................................................. 1
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Item 2. Properties............................................................................ 7
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Item 3. Legal Proceedings..................................................................... 8
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Item 4. Submission of Matters to a Vote of Security Holders................................... 8
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PART II
Item 5. Market for Registrant's Common Equity and Related Shareholder Matters................. 9
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Item 6. Selected Financial Data............................................................... 9
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Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 11
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Item 7a. Quantitative and Qualitative Disclosures about Market Risk............................ 19
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Item 8. Financial Statements and Supplementary Data........................................... 20
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Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure . 20
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PART III
Item 10. Executive Officers and Directors...................................................... 21
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Item 11. Executive Compensation................................................................ 23
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Item 12. Security Ownership of Certain Beneficial Owners and Management........................ 27
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Item 13. Certain Relationships and Related Transactions........................................ 28
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PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K....................... 29
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FINANCIAL STATEMENTS............................................................................... F-1
GLOSSARY OF TERMS.................................................................................. G-1
i
PART I
Item 1. Business
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Background
Channell Commercial Corporation (the "Company") was incorporated in Delaware
on April 23, 1996, as the successor to Channell Commercial Corporation, a
California corporation. The Company's executive offices are located at 26040
Ynez Road, Temecula, California 92591-9022, and its telephone number at that
address is (909) 719-2600.
General
The Company is a designer and manufacturer of telecommunications equipment
supplied to telephone, cable television and power utility network providers
worldwide. Major product lines include a complete line of thermoplastic and
metal fabricated enclosures, advanced copper termination and connectorization
products, fiber optic cable management systems, coaxial-based passive RF
electronics and heat shrink products. The Company believes it was the first to
design, manufacture and market thermoplastic enclosure products for use in the
telecommunications industry on a wide scale, and the Company believes it
currently supplies a substantial portion of the enclosure product requirements
of a number of major community antenna television ("CATV") and telephone service
providers. The Company's enclosure products house, protect and provide access
to advanced telecommunications hardware, including both radio frequency ("RF")
electronics and photonics, and transmission media, including coaxial cable,
copper wire and optical fibers, used in the delivery of voice, video and data
services. The enclosure products are deployed within the portion of the local
signal delivery network, commonly known as the "outside plant", "local loop" or
"Last Mile", that connects the network provider's signal origination office with
residences and businesses.
As a result of the acquisitions of RMS Electronics, Inc. ("RMS") and Standby
Electronics Corp. ("Standby Electronics") in 1997, and A.C. Egerton (Holdings)
PLC ("Egerton") in 1998, the Company is also a supplier of passive RF
electronics and a manufacturer of metal fabricated enclosures in addition to
designing and manufacturing a full range of copper and fiber optic connectivity
products. The Company also supplies enclosures for the power utility industry
and markets a complete line of grade level boxes for buried and underground
network applications, thus offering network operators a full system solution to
their outside plant requirements.
Industry
The communications industry continues the rapid expansion it has experienced
for a number of years, both domestically and worldwide. Contributing to this
growth is the increasing need for network signal transmission bandwidth to
accommodate new high-speed communications applications deployed on upgraded
existing networks and newly constructed broadband networks. Major developments
including the Internet and other high-speed data communications technologies,
on-going convergence between the CATV and telecommunications industries, and
demand for enhanced communications services, have led to a changing regulatory
and competitive environment in many markets. Throughout the world, the
deployment of new networks or improvements to existing networks for advanced
broadband applications is a national priority for many countries, permitting
them to participate and compete in the rapidly emerging information-based global
economy.
To meet today's demands and anticipating future demand, CATV, local telephone
operators and power utilities are building, rebuilding or upgrading signal
delivery networks around the world. These networks are designed to deliver
video, voice, data or power transmissions and provide Internet connectivity to
individual residences and businesses. Operators deploy a variety of network
technologies and architectures, such as HFC, FTTC, DLC and ADSL (see "Glossary
of Terms") to carry broadband and narrowband signals. These architectures are
constructed of electronic hardware connected via coaxial cables, copper wires
and/or optical fibers, including various access devices, amplifiers, nodes, hubs
and other signal transmission and powering electronics. Many of these devices
in the outside plant require housing in secure, protective enclosures and cable
management connectivity systems, such as those manufactured by the Company.
As critical components of the outside plant, enclosure products provide
protection against weather and vandalism, ready access to devices for
technicians who maintain and manage the outside plant and, in some cases,
provide dissipation of heat generated by the active electronic hardware. CATV
and local telephone network operators place great reliance on manufacturers of
protective enclosures because any material damage to the signal delivery
networks is likely to disrupt communications services.
1
The primary drivers of demand for enclosures in the communications industry is
the construction, rebuilding, upgrading and maintenance of signal delivery
networks by CATV operators and local telephone companies. Particular
technological developments in the communications industry are resulting in
significant increases in system upgrades. For example, CATV networks are being
upgraded and prepared for advanced two-way services such as high-speed Internet
access via cable modems, telephony and PCS transport.
Within the local telephone company segment of the industry, local telephone
operators are employing new advanced technologies, such as a variety of digital
subscriber line ("DSL") technologies, which utilize installed copper wires for
broadband services. These "local loop" copper wire systems often require
significant upgrading and maintenance to provide the optimal throughput
necessary to carry high-speed broadband signals, increasing the need for fully
sealed outside plant facilities in order to sustain network reliability and
longevity. In addition, as local telephone companies build broadband networks
for the delivery of integrated voice, video and data services competitive with
CATV, they are expected to require new enclosure products designed for optical
fiber-based networks. These and other technological, regulatory and competitive
factors are expected to result in continued growth of the market for enclosure
and connectivity products designed for the communications industry.
Business Strategy
The Company's strategy is to capitalize on opportunities in the global
communications industry by providing enclosures, connectivity products and other
complementary components to meet the evolving needs of its customers'
communications networks. The Company's wide range of products, manufacturing
expertise, application-based sales and marketing approach and reputation for
high quality products address key requirements of its customers. Principal
elements of the Company's strategy include the following:
Continue to Focus on Core Telecommunications Business. The Company will
continue to seek to capitalize on its position as a leading designer,
manufacturer and marketer of enclosures for the CATV and local telephone
industries in the United States and Canada through new product development for
both domestic and international market applications. The Company believes it
currently supplies a substantial portion of the enclosure product requirements
of a number of major CATV and telephone company operators.
In addition to its core thermoplastic enclosure products for the CATV and
telephone industries, the Company has positioned itself to increase its
participation in the large scale broadband network construction and upgrade
programs anticipated over the next several years. The Company is able to offer
a complete package of products used by all telecommunications network operators
as they upgrade their networks in order to provide additional services and
expand network capacity. These expansions and upgrades are expected to enable
telecommunications network operators to increase network bandwidth to
accommodate increased demand for faster and larger throughput of signal
transmissions and greater reliability of their infrastructure.
The Company intends to continue to invest in the development of a broader
range of products designed specifically for telephone market applications. The
Company has achieved significant success in marketing its traditional
CATV/broadband products to local telephone companies that have been designing
and deploying broadband networks to deliver competitive video and data services.
The Company will continue to target this market for growth, both with telephone
network operators and with major system OEMs.
Expand International Presence. Management believes international markets offer
significant opportunities for increased sales in both the CATV and telephone
segments. The Company's principal international markets currently consist of
Canada, Mexico, Asia, the Pacific Rim, the Middle East and Europe. Trends
expected to result in international growth opportunities include the on-going
deregulation and privatization of telecommunications in many national contexts
around the world, the focus of numerous countries on building, expanding and
enhancing their communications systems in order to participate fully in the
information-based global economy, and multinational expansion by many U.S. based
network carriers. The Company currently operates overseas manufacturing and
sales operations in Australia, Canada, Malaysia and the UK in order to focus
directly on the unique requirements of each major market. The Company will
concentrate on expansion in international markets that are characterized by
deregulation or privatization of telecommunications and by the availability of
capital for the construction of signal delivery networks.
2
Develop New Products and Enter New Business Segments. The Company continues
to leverage its core capabilities in developing innovative products that meet
the evolving needs of its customers. Innovative products offered by the Company
include its new FlexPed(TM) free breathing telephony enclosures, the Mini-
Rocker(TM) insulation displacement copper connectivity products and a range of
Rhino(TM) metal fabricated enclosures. The Company continually invests in
ongoing improvement and enhancement projects for the existing products developed
by the Company, several which have received U.S. patent protection. The
Company's products are designed to improve the performance of its customers'
outside plant systems. The Company has a proven record in designing, developing
and manufacturing "next generation" products that provide solutions for its
customers and offer advantages over those offered by other suppliers to the
industry. In addition, the Company seeks to diversify its customer base by
developing new products for customers outside the communications industry that
require enclosure products, such as the utility industry.
Products
The Company currently markets over 50 product families, with several thousand
optional product configurations. The primary functions of the Company's
products designed for the telecommunications industry are cable routing and
management, equipment access, heat dissipation and security. The Company
believes that it offers one of the most complete lines of outside plant
infrastructure products in the telecommunications industry.
Enclosures. The Company manufactures precision-molded, highly engineered and
application-specific thermoplastic and metal fabricated enclosures that are
considered state-of-the-industry for many applications, having been field tested
and received approvals and standardization certifications from major CATV and
telephone company operators. Most of the Company's products are designed for
buried and underground network applications. The Company's enclosure products
provide technicians access to these networks and equipment for maintenance,
upgrades and installation of new services. Buried and underground networks and
enclosures are generally preferred by CATV operators for increased network
reliability, lower maintenance, improved security, reduced utility right-of-way
conflicts, and aesthetic appeal. The enclosure products, particularly the
thermoplastic versions, must provide advanced heat dissipation characteristics
as required for the protection of active electronics in many network
installations. The Company is also a designer and supplier of metal fabricated
enclosures that house advanced electronics, fiber optic cable and power systems
for broadband teleommunications networks (branded as "Rhino Enclosures(TM)").
The Company designs and manufactures a series of termination blocks, brackets
and cable management devices for mounting inside its enclosure products. To
position itself as a full-line product supplier, the Company also offers a
variety of complementary products, including thermoplastic and concrete grade
level boxes. These products are typically purchased by customers as part of a
system package and are marketed by the Company through its direct sales force to
its existing customer base. The Company is recognized in the industry for its
differentiated product designs and the functionality, field performance and
service life of its products, as compared with alternative products.
RF Electronics. The Company is a designer and supplier of high performance RF
passive electronic devices, such as outdoor and indoor taps, signal
splitters/combiners and power inserters, all standard components deployed in
CATV systems and broadband telecommunications networks. The Company's
electronic devices and metal enclosures are complementary with the Company's
core broadband enclosure products and are important components of the Company's
complete systems approach to the outside plant requirements of CATV and
telephone service providers. New network applications, such as cable modem
deployment for Internet access, have resulted in new technical challenges.
Several new products, including the DigiTap low intermodulation line of passive
RF devices, provide solutions to such challenges.
Copper Connectivity. The Company is a designer and manufacturer of
innovative telephone connectivity devices. The Company's Insulation
Displacement Connector ("IDC") technology provides advanced "tool-less"
termination systems for copper wires, the predominant medium used in the "Last
Mile" for telecommunications services worldwide. These proprietary IDC products
environmentally seal network termination points with a high level of
reliability. The Company's Mini-Rocker(TM) line of copper connectivity modules,
blocks and accessories offer tool-less installation, hinged wire-entry parts and
transparent wire receivers.
Fiber Optic Products. The Company offers a range of fiber optic cable
management products designed for use in telephone, broadband and power utility
telecommunications networks. Fiber cable splicing enclosures are used for
organizing, managing and protecting the connection points between separate
lengths of fiber optic cable. Fiber cable assemblies and interconnect hardware
are used to connect fiber optic electronics and fiber optic cables. Fiber optic
electronic enclosures house optical electronics, power supplies and cables. All
of these products are designed and manufactured by the Company and marketed
worldwide.
3
Sealing Systems. The Company also specializes in the manufacture of high
performance products designed to meet or exceed the requirements of local
telephone company networks, including sealed plant products. These products are
designed with environmentally sealed specifications to provide exceptional long-
term protection for copper wires, coaxial cable and optical fibers exposed for
the purposes of splicing and termination. The sealing systems of the Company's
sealed plant products are available in several styles and specifications which
can be configured to individual customer requirements. This provides
significant value to customers in terms of faster installations, re-entry and
access, and cost management.
OEM Programs. Over the past several years, the Company has developed OEM
marketing programs through which other manufacturers incorporate the Company's
products as components of their telecommunications systems. These OEM programs
generally include exchanges of technical information that the Company can use in
developing new products and improvements and enhancements to existing designs.
The Company has established additional relationships with systems integrators
and innovative end users that provide valuable product improvement information.
The Company continues to develop new product innovations to complement its
existing product line and marketing strengths. The Company anticipates the
demand for its product line to be sustained by the continued construction of
broadband networks, both CATV and telephone, and upgrades of both existing CATV
and telephone networks to accommodate expanded video services, high-speed
Internet access and wireless PCS transport. The power utility market offers
additional growth opportunities as power utility companies move to add
telecommunications services to their customer menu.
Marketing and Sales
The Company markets its products primarily through a direct sales force of
technically trained salespeople. The Company's sales force is deployed
worldwide and divided into major market groups as follows: US; Canada;
South/Central America; Australia/Asia; and Europe/Middle East. The Company
employs an application-specific, systems approach to marketing its products,
offering the customer, where appropriate, a complete, cost-effective system
solution to meet its enclosure and other outside plant requirements. All sales
personnel have technical expertise in the products they market and are supported
by the Company's engineering and technical marketing staff.
The Company's technical and product marketing department provides its sales
force with extensive support. The field technical service personnel within this
department work closely with the outside sales staff and customers to develop
system solutions and provide a full range of technical support, training and
certification for users of the Company's products. Product marketing personnel
perform a variety of functions, including product line management and general
marketing services. These individuals also provide strategic plans for product
development, new market entry, acquisitions and strategic alliances, and work
closely with the Company's sales, engineering and manufacturing departments to
implement such strategic plans.
An internal sales/customer service department that administers and schedules
incoming orders, handles requests for product enhancements and service
inquiries, also supports the Company's direct sales force. With locations in
California, North Carolina, Canada, the United Kingdom and Australia, this
department maintains direct communications with customers and the Company's
field sales and operations personnel.
By engaging in public relations activities, product literature development,
market research and advertising, the marketing department also promotes and
positions the Company within both domestic and international markets. The
Company regularly attends, participates and exhibits its products at industry
trade shows and conferences within domestic and international telecommunications
markets throughout the year.
Manufacturing Operations
The Company's modern, vertically integrated manufacturing processes enables
the Company to control each step in the manufacturing process, including product
design and engineering; design and development of its own dies, tools and molds;
and wiring, assembly and packaging.
4
The Company's manufacturing expertise enables it to modify its product lines
to meet changing market demands, rapidly and efficiently produce large volumes
of products, control expenses and ensure product quality. Management considers
the Company's manufacturing expertise a distinct and significant competitive
advantage, providing it with the ability to satisfy the requirements of major
customers with relatively short lead-times by promptly booking and shipping
orders.
The Company owns a majority of its manufacturing equipment, which is generally
state-of-the-art, and manufacturing processes are performed by trained Company
personnel. These manufacturing processes include injection molding, structural
foam molding, rotational molding, metal fabrication, rubber injection, transfer
and compression molding, and termination block fabrication. The Company has
implemented several comprehensive process and quality assurance programs,
including continuous monitoring of key processes, regular product inspections
and comprehensive testing. The Company's Temecula, California manufacturing
facility has received ISO-9001 certification, a worldwide industry standards
certification.
The Company's facilities include approximately 352,000 square feet in
Temecula, California; 24,000 square feet in Mississauga, Ontario, Canada; 92,000
square feet in Orpington, Kent, UK; 39,000 square feet in Sydney, Australia;
44,000 square feet in Charlotte, North Carolina; and 16,000 square feet in
Selangor Darul Ehsan, Malaysia.
Management has followed a long-term capacity plan, adding the equipment,
facilities and trained personnel as required, to support anticipated growth of
the Company's business. As a result, management believes the Company's
manufacturing facilities are adequate to meet anticipated product demand for the
foreseeable future.
Product Development and Engineering
The Company believes it was the first to design, manufacture and market
thermoplastic enclosure products for use in the communications industry on a
wide scale. The Company's product development and engineering staff has
designed and tested the Company's products and has developed core competencies
in product development and engineering.
As a direct result, the Company has been able to develop a broad series of
superior products. Distinguishing characteristics of the Company's products
include:
. Effective heat dissipation qualities;
. Advanced copper IDC connectivity products;
. A superior environmental sealing and protection system that, unlike many
competitors' products, does not require gels, compounds or other methods
to maintain the required seal;
. Sub-surface network access systems;
. Product designs allowing technicians easy access through circular covers
that can be removed to fully expose the enclosed electronics;
. High performance passive RF electronics products;
. Compatibility with a variety of signal delivery network architectures;
. Modular metal fabricated enclosure product line covering multiple network
applications;
. Versatility of design to accommodate network growth through custom
hardware and universal mounting systems that adapt to a variety of new
electronic hardware; and
. Excellent protection and management of optical fibers and cables.
The Company's product development and engineering processes enable the Company
to respond to demands of the communications industry for increasingly
sophisticated enclosure products. Many of the Company's thermoplastic enclosure
products are now considered state-of-the-industry, having been field tested and
received approvals and standardization certifications from major CATV and
telephone company operators. The Company is engaged in extensive new product
development programs in RF passive electronics, metal fabricated enclosures and
telephone connectorization devices.
The Company's product development approach is applications-based and customer
driven. A team comprised of engineering, marketing, manufacturing and direct
sales personnel work together to define, develop and deliver comprehensive
systems solutions to customers, focusing on the complete design cycle from
product concept through tooling and high-volume manufacturing. The Company is
equipped to conduct many of its own product testing regimens for performance
qualification purposes, enabling it to accelerate the product development
process. The Company spent approximately $0.5 million in 1995 and 1996, $1.0
million in 1997, $1.9 million in 1998, and $2.6 million in 1999 on research and
development.
5
Customers
The Company sells its products directly to CATV operators and telephone
companies throughout the United States, Canada and certain other international
markets, principally within developed nations. The Company also sells its
products to OEMs. During 1999, the Company's five largest customers accounted
for 40.5% of total net sales. In 1999, the Company's five largest customers in
the United States (by sales volume) were AT&T (formerly TCI, acquired by AT&T in
1999), Cox, Comcast, Media One and Time Warner. One customer, AT&T, accounted
for 10.2% of the Company's net sales in 1999.
In international markets, the Company's five largest customers (by sales
volume) were Telstra (Australia), Middendorp (Australia), Rogers (Canada),
Telewest (UK) and Hunting Engineering Limited (UK).
The Company's customers generally do not enter into long-term supply contracts
providing for future purchase commitments of the Company's products. Rather,
the Company believes that many of its customers periodically review their supply
relationships and adjust buying patterns based upon their current assessment of
the products and pricing available in the marketplace. From fiscal period to
fiscal period, significant changes in the level of purchases of the Company's
products by specific customers can and do result from this periodic assessment.
Intellectual Property
Upon the consummation of its initial public offering (the "Initial Public
Offering") in 1996, the Company became the owner of all of the patents and other
technology employed by it in the manufacture and design of its products. The
Company's patents, which expire through the year 2010, cover various aspects of
the Company's products. In addition, the Company has certain trade secrets,
know-how and trademarks related to its technology and products.
Management does not believe any single patent or other intellectual property
right is material to the Company's success as a whole. The Company intends to
maintain an intellectual property protection program designed to preserve its
intellectual property assets.
Competition
The industries in which the Company operates are highly competitive. The
Company believes, however, that several factors, including its ability to
service national and multi-national customers, its direct sales force, its
specialized engineering resources and vertically integrated manufacturing
operations provide the Company with significant competitive advantages.
Management believes the principal competitive factors in the communications
equipment market are product availability, customer service, product
performance, new product capabilities and price.
Competitive price pressures are common in the industry. In the past, the
Company has responded effectively to competition with cost controls through
vertical integration utilizing advanced manufacturing techniques, cost-effective
product designs and material selection, and an aggressive procurement approach.
In the past, certain of the Company's telecommunications customers have
required relatively lengthy field testing of new products prior to purchasing
such products in quantity. With the deregulation of the telecommunications
industry and the continuing convergence occurring within the CATV and
telecommunications industries, it is uncertain whether, and the extent to which,
such field testing may continue to be required. While field testing can delay
the introduction of new products, it can also act as a competitive advantage for
those companies tested and approved, in that it creates a barrier to new product
introduction and sales by competitors.
Raw Materials; Availability of Complementary Products
The principal raw materials used by the Company are thermoplastic resins,
neoprene rubbers, hot and cold rolled steel, stainless steel and copper. The
Company also uses certain other raw materials, such as fasteners, packaging
materials and communications cable. Management believes the Company has
adequate sources of supply for the raw materials used in its manufacturing
processes and it attempts to develop and maintain multiple sources of supply in
order to extend the availability and encourage competitive pricing of these
materials.
6
Most plastic resins are purchased under annual and multi-year contracts to
stabilize costs and improve supplier delivery performance. Neoprene rubbers are
manufactured by multiple custom compounders using the Company's proprietary
formulas. Metal products are supplied in standard stock shapes, coils and
custom rollforms. Some hot and cold rolled steels are either hot-dipped
galvanized or zinc or cadmium electro-plated. The Company outsources to local
processors to perform the coating operations.
Positioning itself as a full-line product supplier, the Company also relies on
certain other manufacturers to supply products that complement the Company's own
product line, such as grade level boxes and cable-in-conduit. The Company
believes there are multiple sources of supply for these products.
Employees
As of December 31, 1999, the Company employed 836 people (including 24
temporary employees), of whom 87 were in sales, 671 were in manufacturing
operations (including the 24 temporary employees), 16 were in research and
development and 62 were in finance and administration. The Company considers
its employee relations to be good, and it recognizes that its ability to attract
and retain qualified employees is an important factor in its growth and
development. None of the Company's employees is subject to a collective
bargaining agreement, and the Company has not experienced any business
interruption as a result of labor disputes within the past five years.
Regulation
The communications industry is subject to regulations in the United States and
other countries. Federal and state regulatory agencies regulate most of the
Company's domestic customers. On February 1, 1996, the United States Congress
passed the Telecommunications Act of 1996 that the President signed into law on
February 8, 1996. The Telecommunications Act lifts certain restrictions on the
ability of companies, including RBOCs and other customers of the Company, to
compete with one another and generally reduces the regulation of the
communications industry.
The Company is also subject to a wide variety of federal, state and local
environmental laws and regulations. The Company utilizes, principally in
connection with its thermoplastic manufacturing processes, a limited number of
chemicals, or similar substances, that are classified as hazardous. It is
difficult to predict what impact these environmental laws and regulations may
have on the Company in the future. Restrictions on chemical uses or certain
manufacturing processes could restrict the ability of the Company to operate in
the manner that it currently operates or is permitted to operate. Management
believes that the Company's operations are in compliance in all material
respects with current environmental laws and regulations. Nevertheless, it is
possible that the Company may experience releases of certain chemicals to
environmental media which could constitute violations of environmental law (and
have an impact on its operations) or which could cause the Company to incur
material cleanup costs or other damages. For these reasons, the Company might
become involved in legal proceedings involving exposure to chemicals or the
remediation of environmental contamination from past or present operations.
Because certain environmental laws impose joint and several, strict and
retrospective liability upon current owners or operators of facilities from
which there have been releases of hazardous substances, the Company could be
held liable for remedial measures or other damages (such as liability in
personal injury actions) at properties it owns or utilizes in its operations,
even if the contamination was not caused by the Company's operations.
Item 2. Properties
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The Company's facilities approximate 567,000 square feet, of which
approximately 56%, 32% and 12% is used for manufacturing, warehouse and office
space, respectively. In Temecula, California, 260,000 square feet of the total
352,000 square feet are leased from William H. Channell, Sr., the Company's
Chairman of the Board and Chief Executive Officer. (See "Certain Relationships
and Related Transactions", Item 13.) The Company also leases an aggregate of
approximately 184,000 square feet of manufacturing, warehouse and office space
in Canada, Australia, Malaysia, United Kingdom and North Carolina. The Company
owns approximately 123,000 square feet of manufacturing, warehouse and office
space in Temecula, California and the United Kingdom. The Company considers its
current facilities to be adequate for its operations.
7
Item 3. Legal Proceedings
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The Company is from time to time involved in ordinary routine litigation
incidental to the conduct of its business. The Company regularly reviews all
pending litigation matters in which it is involved and establishes reserves
deemed appropriate for such litigation matters. Management believes that no
presently pending litigation matters will have a material adverse effect on its
business or on its results of operations.
Item 4. Submission of Matters to a Vote of Security Holders
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No matters were submitted to a vote of security holders during the fourth
quarter of the fiscal year covered by this report.
8
PART II
Item 5. Market for Registrant's Common Equity and Related Shareholder Matters
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The Company's Common Stock is listed and traded on the NASDAQ Stock Market
(National Market System) under the symbol CHNL. The following table sets forth,
for the periods indicated, the high and low sale prices for the Company's Common
Stock, as reported on the NASDAQ Stock Market (National Market System). There
was no existing public market for the Company's Common Stock prior to the third
quarter of 1996.
High Low
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Year Ended December 31, 1996:
Third Quarter $15.25 $11.00
Fourth Quarter 13.00 9.00
High Low
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Year Ended December 31, 1997:
First Quarter $13.75 $10.00
Second Quarter 13.75 9.63
Third Quarter 16.50 13.00
Fourth Quarter 14.00 11.00
High Low
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Year Ended December 31, 1998:
First Quarter $13.25 $ 9.63
Second Quarter 13.88 9.00
Third Quarter 11.50 7.25
Fourth Quarter 9.13 5.75
High Low
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Year Ended December 31, 1999:
First Quarter $ 9.50 $ 8.38
Second Quarter 11.38 7.88
Third Quarter 10.75 9.50
Fourth Quarter 13.63 6.75
The Company has not declared any dividends since termination of the S
corporation election in connection with its Initial Public Offering in July
1996. During the years ended December 31, 1995 and 1996, while an S
corporation, the Company declared dividends on its common stock in the amounts
of $5.4 million and $14.2 million, respectively.
The Company currently anticipates it will retain all available funds to
finance its future growth and business expansion. The Company does not intend
to pay cash dividends in the foreseeable future. Under the terms of the
Company's credit agreement, the Company has agreed, under certain circumstances,
not to pay any dividends during the term of this agreement.
As of December 31, 1999, the Company had 9,076,392 shares of its Common Stock
outstanding, held by approximately 796 shareholders of record.
Item 6. Selected Financial Data
-----------------------
The following table sets forth financial data of the Company. The summary
financial data in the table is derived from the consolidated financial
statements of the Company. Certain pro forma, net income per share and adjusted
financial data has not been presented for all periods because it is not
applicable to those periods. The data should be read in conjunction with the
financial statements, related notes and other financial information included
therein (amounts in thousands, except per share data).
9
Year Ended December 31,
------------------------------------------------------------
OPERATING DATA: 1995 1996 1997 1998 1999
--------- ---------- ---------- ---------- ---------
Net sales.............................. $ 40,972 $ 47,282 $ 59,943 $ 92,710 $120,680
Cost of goods sold..................... 23,059 25,447 35,032 56,578 76,115
-------- --------- -------- --------- --------
Gross profit........................... 17,913 21,835 24,911 36,132 44,565
Commission income (1).................. 1,098 985 606 292 8
-------- --------- -------- --------- --------
19,011 22,820 25,517 36,424 44,573
Operating expenses
Selling............................. 5,600 6,559 7,251 11,570 14,716
General and administrative.......... 1,707 2,021 4,077 8,057 9,023
License fees(2)..................... 2,035 531 - - -
Research and development............ 498 531 1,009 1,863 2,629
-------- --------- -------- --------- --------
9,840 9,642 12,337 21,490 26,368
-------- --------- -------- --------- --------
Income from operations................. 9,171 13,178 13,180 14,934 18,205
Interest income (expense), net......... (339) 291 879 (1,076) (2,650)
-------- --------- -------- --------- --------
Income before income taxes 8,832 13,469 14,059 13,858 15,555
Income taxes 349 2,359 5,589 5,749 6,221
-------- --------- -------- --------- --------
Net income $ 8,483 $ 11,110 $ 8,470 $ 8,109 $ 9,334
======== ========= ======== ========= ========
Pro forma net income(3)................ $ 5,377 $ 8,921
Pro forma net income per share(4)...... $ .70 $ 1.06
Pro forma weighted average shares
outstanding(4).................... 7,695 8,403
NET INCOME PER SHARE:
Basic $ .92 $ .88 $ 1.03
Diluted $ .91 $ .88 $ 1.02
OTHER DATA:
Gross margin(5)........................ 43.7% 46.2% 41.6% 39.0% 36.9%
Operating margin(6).................... 22.3 27.9 22.0 16.1 15.1
EBITDA(7).............................. $ 10,583 $ 14,729 $ 15,224 $ 18,994 $ 24,743
Capital expenditures (excluding
capital leases) .................. 2,161 1,554 5,966 10,579 9,148
S Corporation dividends declared....... 5,427 14,157 - - -
Cash provided by (used in):
Operating activities................. 9,758 11,424 3,730 6,606 8,073
Investing activities................. (2,161) (12,960) (8,958) (22,308) (9,361)
Financing activities................. (7,019) 9,351 (122) 17,919 (1,728)
ADJUSTED FINANCIAL DATA(8):
Net sales (as historically reported)... $ 40,972 $ 47,282
Adjusted EBITDA(9)..................... 12,343 15,122
Adjusted income from operations........ 10,931 13,571
Adjusted operating margin(10).......... 26.7% 28.7%
Adjusted net income.................... $ 6,431 $ 8,179
Adjusted net income per share(11)...... $ .84 $ .97
BALANCE SHEET DATA:
Current assets......................... $ 8,502 $ 31,274 $ 33,252 $ 40,505 $ 48,807
Total assets........................... 19,103 42,658 50,625 98,442 114,540
Long-term obligations
(including current maturities)...... 3,213 473 946 35,911 38,061
Stockholders' equity................... 12,473 37,422 45,892 52,580 62,339
10
Notes to Selected Financial Data
(amounts in thousands, except per share data)
(1) Commission income represented the amount of commissions paid to the Company
by the manufacturer of certain cable-in-conduit products in connection with
the Company's sale of such products, which the Company offered to its
customers in order to complement its own product line.
(2) License fees represent the amounts paid by the Company to William H.
Channell, Sr., the Company's Chairman of the Board and Chief Executive
Officer, for the use of six patents ("Channell Patents") covering products
manufactured and sold by the Company. Prior to the consummation of the
Initial Public Offering, these patents were sold to the Company, the
license fee arrangements with Mr. Channell, Sr. were terminated and,
thereafter, the Company no longer paid any license fees with respect to the
Channell Patents.
(3) Prior to the Initial Public Offering, the Company was an S corporation for
federal and state income tax purposes. The pro forma presentation reflects
the income tax provision of the Company as recorded in its income statement
plus additional tax on S Corporation income at C Corporation rates. Such
presentation does not reflect the adjustments set forth in note (8) below.
The effect of the Company's use of a portion of the net proceeds of the
Initial Public Offering to repay outstanding bank indebtedness has not been
reflected in pro forma net income or pro forma net income per share because
the impact is not material.
(4) Pro forma net income per share has been computed by dividing pro forma net
income by the pro forma weighted average shares outstanding. Pro forma
weighted average shares outstanding include 1,558 (779 for 1996) of the
shares offered by the Company at a price of $11.00 per share, the net
proceeds of which were used to fund the distributions in connection with
the termination of the Company's S corporation status. See Footnote B to
the Financial Statements included elsewhere herein for the weighted average
shares outstanding in 1997, 1998 and 1999.
(5) Gross margin is gross profit as a percentage of net sales.
(6) Operating margin is income from operations as a percentage of net sales.
(7) EBITDA represents income from operations before interest and income taxes,
plus depreciation and amortization expense. EBITDA is not intended to
represent cash flow, operating income or any other measure of performance
in accordance with generally accepted accounting principles, but is
included here because management believes that certain investors find it to
be a useful tool for measuring a company's ability to service its debt.
(8) The adjusted financial data reflects, (i) the elimination of the expense
for the license fees payable to Mr. Channell, Sr., which license fees were
terminated as part of the termination of the Company's S corporation
status, (ii) an increase in Mr. Channell, Sr.'s annual base salary from
$225 to $500 in connection with the Initial Public Offering, and (iii)
provision for income taxes as if the Company had always been a C
corporation at an assumed rate of 41%.
(9) Adjusted EBITDA represents adjusted income from operations before interest
and income taxes, plus depreciation and amortization expense. See note (7)
above.
(10) Adjusted operating margin is adjusted income from operations as a
percentage of net sales.
(11) Adjusted net income per share is adjusted net income divided by 7,695 pro
forma weighted average shares outstanding for 1995 and 8,403 pro forma
weighted average shares outstanding for 1996. The S corporation dividends
declared in 1996 include $11,665 of distributions made in connection with
the termination of the Company's S Corporation status.
Item 7. Management's Discussion and Analysis of Financial Condition and
---------------------------------------------------------------
Results of Operations
- ---------------------
General
The Company is a designer and manufacturer of telecommunications equipment
supplied to telephone, cable television and power utility network providers
worldwide. The Company sells its products directly to CATV operators and
telephone companies throughout the United States, Canada, Australia, United
Kingdom and certain other international markets, principally within developed
nations. The Company believes that many of its customers periodically review
their supply relationships, and the Company can experience significant changes
in buying patterns from specific customers between fiscal periods. The Company
has historically operated with a relatively small backlog, and sales and
operating results in any quarter are principally dependent upon orders booked
and products shipped in that quarter. Further, the Company's customers generally
do not enter into long-term supply contracts providing for future purchase
commitments for the Company's products. These factors, when combined with the
Company's operating leverage and the need to incur certain
11
capital expenditures and expenses in part based upon the expectation of future
sales, results in the Company's operating results being at risk to changing
customer buying patterns. If sales levels in a particular period do not meet the
Company's expectations, operating results for that period may be materially and
adversely affected.
The Company uses numerous raw materials in its manufacturing processes.
Although management believes that the Company has adequate sources of supply for
such raw materials, increases in the market prices of the Company's raw
materials could significantly increase the Company's cost of goods sold and
materially adversely affect the Company's profitability. The Company's
profitability may also be materially adversely affected by decreases in its
sales volume because many of the costs associated with the Company's rent,
product development, engineering, tooling and other manufacturing processes are
fixed in nature and must be spread over its sales base in order to maintain
historic levels of profitability.
In addition to Company manufactured products, the Company markets
complementary products manufactured by third parties. With respect to sales of
cable-in-conduit products, the Company generally received a commission upon the
sale of such products. Pursuant to the agreement, which was terminated in 1998,
under which the Company marketed such products, during the terms thereof and for
a period of two years thereafter, both the Company and the manufacturer of such
products is prohibited from competing with the other in any product line that
is, or within the year prior to termination has been, represented, manufactured
or sold by the other within the specified markets covered by the agreements.
During the periods discussed under "Results of Operations" below, the
Company's sales increases resulted primarily from additional sales to the
Company's existing customers as they expanded, rebuilt and upgraded their signal
delivery networks in order to deliver enhanced communications services, as well
as additional sales to new customers, particularly telephone companies that have
recently entered the CATV market, international customers, and through the RMS,
Standby Electronics and Egerton acquisitions.
Results of Operations
The following table sets forth the Company's operating results for the periods
indicated expressed as a percentage of sales.
Year Ended December 31,
--------------------------
1997 1998 1999
------- ------- ------
Net sales........................ 100.0% 100.0% 100.0%
Cost of goods sold............... 58.4 61.0 63.1
----- ----- -----
Gross profit..................... 41.6 39.0 36.9
Commission income................ 1.0 0.3 -
----- ----- -----
42.6 39.3 36.9
Selling.......................... 12.1 12.5 12.2
General and administrative....... 6.8 8.7 7.5
Research and development......... 1.7 2.0 2.1
----- ----- -----
Income from operations........... 22.0 16.1 15.1
Interest income (expense), net... 1.5 ( 1.2) ( 2.2)
----- ----- -----
Income before income taxes....... 23.5 14.9 12.9
Income taxes..................... 9.4 6.2 5.2
----- ----- -----
Net income....................... 14.1% 8.7% 7.7%
===== ===== =====
New Accounting Pronouncement
In 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133 ("SFAS 133"), Accounting for Derivative
Instruments and Hedging Activities, which is effective for 2001. SFAS 133 will
require the Company to record all derivatives on the balance sheet at fair
value. For derivatives that are hedges, changes in the fair value of
derivatives will be offset by the changes in the fair value of the hedged
assets, liabilities or firm commitments. The Company believes the impact of
adopting this standard will not be material to results of operations or equity.
12
Comparison of the Year Ended December 31, 1999 With Year Ended December 31, 1998
Net Sales. Net sales increased $28.0 million or 30.2% from $92.7 million in
1998 to $120.7 million in 1999, as a result of increased sales of
telecommunications enclosure and component products.
Domestic net sales increased $16.4 million or 25.8% from $63.6 million in 1998
to $80.0 million in 1999, primarily due to continued growth in both upgrade and
rebuild construction to facilitate enhanced voice, data and video requirements,
in addition to industry consolidation and convergence. International net sales
increased $11.6 million or 39.9% from $29.1 million in 1998 to $40.7 million in
1999 as a result of $30.7 million in sales of Egerton products, including a
large network upgrade in Australia, compared with $20.1 million in 1998 (for the
eight months following the acquisition).
Gross Profit. Gross profit increased $8.5 million or 23.6% from $36.1 million
in 1998 to $44.6 million in 1999. Of this improvement, $6.0 million was
attributable to sales of Egerton products and $2.5 million was attributable to
increased sales volume of Channell's telecommunications enclosure and component
products. Gross margin decreased from 39.0% in 1998 to 36.9% in 1999, primarily
due to a 25.6% margin contribution from Egerton revenues, while margin on
Channell's telecommunications enclosure and component products increased from
40.4% in 1998 to 41.7% in 1999 due to an increase in sales volume, which
resulted in higher operating leverage (i.e., a higher percentage of sales
relative to fixed costs).
Commission Income. Commission income decreased $0.3 million or 100.0% in
1999. The decrease is a result of the 1998 termination of a marketing agreement
for the sale of cable-in-conduit products.
Selling. Selling expense increased $3.1 million or 26.7% from $11.6 million
in 1998 to $14.7 million in 1999, primarily as a result of $2.1 million of
increased selling expenses related to the Egerton operations (including Hong
Kong, Malaysia and New Zealand), $1.0 million of increased domestic sales and
marketing expenses associated with increased sales activities (including $0.5
million for the development of a new corporate identity program). As a
percentage of net sales, selling expense decreased from 12.5% in 1998 to 12.2%
in 1999.
General and Administrative. General and administrative expenses increased
$0.9 million or 11.1% from $8.1 million in 1998 to $9.0 million in 1999. Such
increase occurred primarily as a result of the Egerton operations and $0.5
million of goodwill amortization associated with the Egerton acquisition. As a
percentage of net sales, general and administrative expenses decreased from 8.7%
in 1998 to 7.5% in 1999.
Research and Development. Research and development expenses increased $0.7
million or 36.8% from $1.9 million in 1998 to $2.6 million in 1999, as a result
of $0.3 million of additional facility expense, $0.2 million increased research
and development supplies and $0.2 million related to Egerton. As a percentage
of net sales, research and development expenses increased from 2.0% in 1998 to
2.1% in 1999.
Income from Operations. As a result of the items discussed above, income from
operations increased $3.3 million or 22.2% from $14.9 million in 1998 to $18.2
million in 1999, but decreased as a percentage of net sales from 16.1% in 1998
to 15.1% in 1999.
Interest Income (Expense). Interest expense increased from $1.1 million in
1998 to $2.7 million in 1999, an increase of 145.5%. This increase was a result
of twelve months interest expense in 1999 on the increased borrowings to fund
the Egerton acquisition as opposed to eight months of interest expense in 1998
and 1999 capital expenditures.
Income Taxes. Income taxes were $5.7 million in 1998 and $6.2 million in
1999, with effective tax rates of 41.0% and 40.0%, respectively. The decrease in
the effective tax rate is primarily due to an increase in income from
states with lower tax rates and an increase in the California Manufacturers
Investment Tax Credit.
Comparison of the Year Ended December 31, 1998 With Year Ended December 31, 1997
Net Sales. Net sales increased $32.8 million or 54.8% from $59.9 million in
1997 to $92.7 million in 1998, as a result of increased sales of
telecommunications enclosure and component products of $32.0 million (including
$20.1 million of Egerton products) and $0.8 million of other related equipment.
13
Domestic net sales increased $14.6 million or 29.8% from $49.0 million in 1997
to $63.6 million in 1998, primarily due to accelerated growth in both upgrade
and rebuild construction as a result of increased broadband requirements.
International net sales increased $18.2 million or 167.0% from $10.9 million in
1997 to $29.1 million in 1998, due to the sales of $20.1 million of Egerton
products while Channell's broadband sales decreased $1.9 million due to the
sluggish Asian economy.
Gross Profit. Gross profit increased $11.2 million or 45.0% from $24.9
million in 1997 to $36.1 million in 1998. Of this improvement, $6.8 million is
attributable to sales of Egerton products and $4.4 million was attributable to
increased sales volume of Channell's telecommunications enclosure and component
products. Gross margin decreased from 41.6% in 1997 to 39.0% in 1998, primarily
due to a 33.8% margin contribution from Egerton revenues, while margin on
Channell's telecommunications enclosure and component products decreased from
41.6% in 1997 to 40.4% in 1998 due to increased depreciation expenses from
capital expenditures in the comparative periods and increased manufacturing
staffing.
Commission Income. Commission income decreased $0.3 million or 50.0% from
$0.6 million in 1997 to $0.3 million in 1998. The decrease is a result of the
termination of a marketing agreement for the sale of cable-in-conduit products.
Selling. Selling expense increased $4.3 million or 58.9% from $7.3 million in
1997 to $11.6 million in 1998, as a result of $2.0 million for increased payroll
and related expenses in connection with expanded staffing to support increased
sales and marketing activities worldwide and $2.3 million of increased selling
expenses related to the Egerton operations. As a percentage of net sales,
selling expense increased from 12.1% in 1997 to 12.5% in 1998.
General and Administrative. General and administrative expenses increased
$4.0 million or 97.8% from $4.1 million in 1997 to $8.1 million in 1998. Such
increase occurred as a result of increased payroll and related expenses due to
increased staffing requirements in the amount of $0.7 million and $0.5 million
of increased legal, auditing and professional services. General and
administrative expense increased $2.9 million as a result of the Egerton
operations including $0.5 million of goodwill amortization. As a percentage of
net sales, general and administrative expenses increased from 6.8% in 1997 to
8.7% in 1998.
Research and Development. Research and development expenses increased $0.9
million or 90.0% from $1.0 million in 1997 to $1.9 million in 1998, as a result
of increased payroll and expenses in the amount of $0.7 million associated with
increased staffing and $0.3 million related to Egerton. As a percentage of net
sales, research and development expenses increased from 1.7% in 1997 to 2.0% in
1998.
Income from Operations. As a result of the items discussed above, income from
operations increased $1.7 million or 12.1% from $13.2 million in 1997 to $14.9
million in 1998, but declined as a percentage of net sales from 22.0% in 1997 to
16.1% in 1998.
Interest Income (Expense). Interest income decreased from $1.0 million in 1997
to $0.3 million in 1998, a reduction of 73.6%. This decrease was caused by a
reduction in the amount of the Company's investments in 1998, as the Company
used approximately $10.2 million of its investments to fund the purchase of
Egerton. Interest expense increased from $0.1 million in 1997 to $1.3 million
in 1998 as a result of increased borrowings to fund the Egerton acquisition and
capital expenditures.
Income Taxes. Income taxes were $5.6 million in 1997 and $5.7 million in
1998, with effective tax rates of 39.7% and 41.0%, respectively. The increase in
the effective tax rate is primarily due to the increase in the amount of non-
deductible amortization of goodwill.
Liquidity and Capital Resources
Net cash provided by operating activities was $6.6 million and $8.1 million in
1998 and 1999, respectively. Net cash used in investing activities was $22.3
million and $9.4 million in 1998 and 1999, respectively. The cost of
acquisitions, net of cash acquired, used in investing activities was $24.0
million in 1998. Net cash provided by financing activities was $17.9 million in
1998 and net cash used in financing activities was $1.7 million in 1999.
Accounts receivable increased from $17.9 million for the year ended December
31, 1998 to $23.2 million for the year ended December 31, 1999, primarily as a
result of higher sales during the fourth quarter of 1999 as compared to the same
period of 1998. Inventories increased from $15.0 million for the year ended
December 31, 1998, to $19.4 million for the
14
year ended December 31, 1999, as a result of increased raw materials and
work-in-process inventories required for the increased sales volume forecasted.
The Company made capital expenditures (including capital leases) of $16.8
million and $13.0 million in 1998 and 1999, respectively, including $6.0 million
in 1998 to acquire a 92,000 square foot building adjacent to its existing
facilities in Temecula, California, which is used for metal fabrication, tool
and die production and research and development. The Company acquired machinery
and equipment under capital leases totaling $6.2 million in 1998 and $3.9
million in 1999.
The Board of Directors, on April 1, 1998, having determined such action to be
in the best interest of the Company, authorized a stock repurchase plan of up to
$2.0 million worth of Company stock. The Company repurchased 137,623 shares of
its Common Stock at a cost of approximately $1.2 million in 1998 and 22,985
shares at a cost of approximately $0.2 million in 1999.
In conjunction with the acquisition of Egerton, the Company entered into a new
Senior Revolving Loan Agreement ("Revolving Facility") with a bank to provide
funds for the Egerton acquisition, as well as for working capital and equipment
acquisition purposes. The Revolving Facility is in the amount of $30.0 million
($25.0 million at December 31, 1998) of which $22.0 million had been drawn down
as of December 31, 1999. The outstanding balance bears interest, payable
monthly, at a variable rate based on either the bank's base rate or the
applicable LIBOR rate depending on the nature of the borrowings. At December 31,
1999, the weighted average interest rate was 6.95%. The loan is collateralized
by substantially all the Company's tangible and intangible assets and up to 65%
of the capital stock of the Company's subsidiaries and is due April 30, 2003.
The Revolving Facility contains various financial and operating covenants
which, among other things, imposes limitations on the Company's ability to incur
additional indebtedness, merge or consolidate, sell assets except in the
ordinary course of business, make certain investments, enter into leases and pay
dividends. The Company is also required to comply with covenants related to
minimum net worth and other financial ratios. In 1999, the Company exceeded the
allowable capital expenditures limitations of the senior revolving credit
facility. The Company obtained a waiver of the capital expenditure covenant.
The Company also had a credit facility available to the Egerton subsidiaries,
which included an overdraft facility totaling approximately $5.0 million plus
the combined cash balances of those subsidiaries. The facility also included
approximately $2.0 million, to provide financing for international letters of
credit, forward exchange contracts and other items. The outstanding balance
(net of cash balances) bears interest at the bank's base rate, 5.50% at December
31, 1999, plus a factor ranging from 1.25% to a maximum of 4.0% depending on the
amount borrowed. The facility was collateralized by the assets of the
subsidiaries. In February 2000, the Egerton credit facility was repaid using
additional borrowings from the revolving facility.
The Company believes that income from operations, coupled with borrowing under
its revolving credit facilities will be sufficient to fund the Company's capital
expenditure and working capital requirements through 2000.
Forward-Looking Statements
This Report on Form 10-K contains certain forward-looking statements within
the meaning of the Private Securities Litigation Reform Act of 1995. Such
statements are being provided pursuant to that legislation. In addition to the
other information contained in this Form 10-K, the following risk factors should
be carefully considered in evaluating the Company and its business. The
following is not intended as, and should not be considered, an exhaustive list
of relevant factors.
Obsolescence; Uncertainty of Market Acceptance of New Products
The communications industry is in a state of rapid technological change. The
introduction of new technologies, network architectures or changes in industry
standards can render the Company's existing products or products under
development obsolete or unmarketable. For example, satellite, wireless and
other communication technologies under development or currently being deployed
may represent a threat to copper, coaxial and fiber optic-based systems by
reducing the need for wire-line networks. To date, however, the Company
believes that these technologies have not had a significant impact on the demand
for traditional wire-line network based services. Further, management
anticipates that a number of factors, including network capacity requirements,
existing investments in wire-line networks, security and long-term cost
15
effectiveness, will result in continued growth of wire-line networks. However,
there can be no assurance that future advances or further development of these
or other new technologies will not have a material adverse effect on the
Company's business. The Company's growth strategies are designed, in part, to
take advantage of opportunities that the Company believes are emerging as a
result of the development of enhanced voice, video, data and other transmission
networks, and high-speed Internet access in the telecommunications industry.
There can be no assurance that demand resulting from these emerging trends will
develop rapidly or that the Company's products will be met with market
acceptance.
Importance of New Product Development to Growth
A significant factor in the Company's ability to grow and remain competitive,
will be its ability to anticipate changes in technology and industry standards,
and to successfully develop and introduce new products on a timely basis. New
product development often requires long-term forecasting of market trends,
development and implementation of new designs and processes, and substantial
capital commitment. Trends toward consolidation of the communications industry
and convergence of technologies may require the Company to quickly adapt to
rapidly changing market conditions and customer requirements.
The Company's manufacturing and marketing expertise has enabled it to
successfully develop and market new products in the past. However, any failure
by the Company to anticipate or respond in a cost-effective and timely manner to
technological developments or changes in industry standards or customer
requirements, or any significant delays in product development or introduction,
could have a material adverse effect on the Company's business, operating
results and financial condition.
Concentration of Customers; Limited Backlog
The telecommunications industry is concentrated, with relatively few operators
accounting for a large percentage of the Company's available market.
Consequently, the Company's five largest customers (by sales volume) accounted
for 40.5% of the Company's total net sales in 1999. One customer, AT&T,
accounted for 10.2% of the Company's total net sales during the period. Mergers
and acquisitions in the telecommunications industry are increasing the
concentration of the industry and of the Company's customer base.
The Company's customers typically require prompt shipment of the Company's
products within a narrow timeframe. As a result, the Company has historically
operated with a relatively small backlog. Sales and operating results in any
quarter are principally dependent upon orders booked and products shipped in
that quarter. Further, the Company's customers generally do not enter into
long-term supply contracts providing for future purchase commitments for the
Company's products. These factors, when combined with the Company's operating
leverage (see "Operating Leverage" below) and the need to incur certain capital
expenditures and expenses in part based upon the expectation of future sales,
may place the Company's operating results at risk to changing customer buying
patterns. If sales levels in a particular period do not meet the Company's
expectations, operating results for that period may be materially and adversely
affected.
Dependence on the Communications Industry
The Company expects that sales to the telecommunications industry will
continue to represent a substantial portion of its total sales. Demand for
products within this industry depends primarily on capital spending by cable
operators for constructing, rebuilding, maintaining or upgrading their systems.
The amount of capital spending and, therefore, the Company's sales and
profitability, are affected by a variety of factors, including general economic
conditions, access by cable operators to financing, government regulation of
cable operators, demand for cable services and technological developments in the
broadband communications technology.
Although local telephone operators may have greater access to capital than
many cable operators, the same factors dictating the demand for products in the
CATV segment of the industry also apply to the local telephone customers. Thus,
the Company's success is dependent upon continued demand for products used in
signal transmission systems from the communications industry generally,
including both CATV and telephone, which may be affected by factors beyond the
Company's control, including the convergence of video, voice, and data
transmission systems occurring within the CATV and telephone markets, continuing
consolidation of companies within those markets and the provision of Internet
access by cable operators and local telephone companies.
16
Price Fluctuations of Raw Materials; Availability of Complementary Products
The Company's cost of sales may be materially affected by increases in the
market prices of the raw materials used in the Company's manufacturing
processes, including resins. The Company does not engage in hedging
transactions for such materials, although it periodically enters into contracts
for certain raw materials for as much as one year or more. There can be no
assurance that price increases in raw materials can be passed on to the
Company's customers through increases in product prices. In addition, in order
to position itself as a full-line product supplier, the Company relies on
certain manufacturers to supply products that complement the Company's own
product line, including grade level boxes. Although the Company believes there
are multiple sources of supply for these products, disruptions or delays in the
supply of such products could have a material adverse effect on sales of the
Company's own products.
Acquisitions and Failure to Integrate Acquired Businesses
One of the Company's principal strategies is to increase its revenues,
earnings per share and the markets it serves through the acquisition of
complementary businesses. There can be no assurance that the Company will be
able to identify and acquire attractive acquisition candidates, profitably
manage such acquired businesses or successfully integrate such acquired
businesses into the Company without substantial costs, delays or other problems.
Acquisitions may involve a number of special risks, including, but not limited
to, adverse short-term effects on the Company's reported financial condition or
results of operations, diversion of management's attention, dependence on
retention, hiring and training of key personnel, risks associated with
unanticipated problems or liabilities and amortization of acquired intangible
assets, some or all of which could have a material adverse effect on the
Company's business, financial condition or results or operations.
In addition, there can be no assurance that businesses acquired in the future
will be profitable at the time of acquisition or that the businesses recently
acquired or acquired in the future will achieve sales and profitability
justifying the Company's investment therein or that the Company will realize the
synergies expected from such acquisitions.
The failure to obtain any or all of the desired results from these
acquisitions could have a material adverse effect on the Company's business,
financial condition or results of operations.
Impact of Operating Leverage in the Event of Sales Decline
Because the related fixed costs for rent, product development, engineering,
tooling and manufacturing are a relatively high percentage of total costs, the
Company's ability to maintain its historic profitability is dependent on
generating a sufficient volume of product sales, thereby spreading fixed costs
over the sales base. Due to this "operating leverage", a reduction in sales or
the rate of sales growth could have a disproportionately adverse effect on the
Company's financial results.
Seasonality and Fluctuations in Operating Results
The Company's business is somewhat seasonal in nature, with the first and
fourth quarters generally reflecting lower sales due to the impact of adverse
weather conditions on construction projects that may alter or postpone the needs
of customers for delivery of the Company's products. The Company's operating
results may also fluctuate significantly from quarter to quarter due to several
other factors, including the volume and timing of orders from, and shipments to,
major customers, the timing of new product announcements and the availability of
products by the Company or its competitors, the overall level of capital
expenditures by CATV operators and local telephone companies, market acceptance
of new and enhanced versions of the Company's products, variations in the mix of
products the Company sells, and the availability and cost of raw materials.
Risks Associated with International Operations
International sales, including export sales from U.S. operations, accounted
for 18.2%, 31.4% and 34.5% of the Company's net sales in 1997, 1998 and 1999,
respectively, and the Company expects that international sales may increase as a
percentage of sales in the future. Due to its international sales, the Company
is subject to the risks of conducting business internationally, including
unexpected changes in or impositions of legislative or regulatory requirements,
fluctuations in the U.S. dollar which could materially adversely affect U.S.
dollar revenues or operating expenses, tariffs and other barriers and
restrictions, potentially longer collection cycles, greater difficulty in
accounts receivable collection, potentially adverse taxes
17
and the burdens of complying with a variety of international laws and
communications standards. The Company is also subject to general geopolitical
risks, such as political and economic instability and changes in diplomatic and
trade relationships, in connection with its international operations. There can
be no assurance that these risks of conducting business internationally will not
have a material adverse effect on the Company's business.
Competition
The industries in which the Company operates are highly competitive. Further,
because of the anticipated growth in the telecommunications industry generally,
the demand for products required in signal transmission networks in particular,
the level and intensity of competition may increase in the future.
The Company's competition includes a company that has a significant market
share in the telephone segment of the industry. The Company's strategy includes
continued focus on increasing sales to this segment. While the Company's net
sales to this segment have increased, there can be no assurance that the Company
will be able to compete successfully against that company or other competitors,
many of whom may have access to greater financial resources than the Company.
Disruptions at the Company's Manufacturing Facility; Lease with Related Party
The majority of the Company's manufacturing operations are currently located
at the Company's facility in Temecula, California, which also includes the
Company's principal warehouse and corporate offices. The Company's success
depends in large part on the orderly operation of this facility. Because the
Company's manufacturing operations and administrative departments are
concentrated at this facility, a fire, earthquake or other disaster at this
facility could materially and adversely affect its business and results of
operations. The Company maintains standard property and earthquake insurance on
this facility as well as business interruption insurance and back-up data
systems.
The Company currently leases a portion of its Temecula facilities from William
H. Channell, Sr., a principal stockholder and Chairman of the Board and Chief
Executive Officer of the Company. The Company believes the terms of these
leases are no less favorable than would be available from an unrelated third
party after arm's length negotiations. Although the Company has renewal options
through the year 2015 under these leases, there can be no assurance that the
Company and Mr. Channell, Sr. will be able to agree on renewal options for the
properties currently leased by the Company. The failure of the Company to renew
the leases would require the Company to relocate its existing facilities, which
could have a material adverse affect on the Company's business, financial
condition or results of operations.
Dependence on Key Personnel
The future success of the Company depends in part on its ability to attract
and retain key executive, engineering, marketing and sales personnel. Key
personnel of the Company include William H. Channell, Sr., the Chairman of the
Board and Chief Executive Officer, William H. Channell, Jr., the President and
Chief Operating Officer, and the other executive officers of the Company.
Competition for qualified personnel in the communications industry is intense,
and the loss of certain key personnel could have a material adverse affect on
the Company. The Company has entered into employment contracts with Mr.
Channell, Sr. and Mr. Channell, Jr.
Changing Regulatory Environment
The communications industry is subject to regulation in the United States and
other countries. Federal and state agencies regulate most of the Company's
domestic customers. On February 1, 1996, the United States Congress passed the
Telecommunications Act of 1996 (the "Telecommunications Act"), which the
President signed into law on February 8, 1996. The Telecommunications Act lifts
certain restrictions on the liability of companies, including RBOCs and other
customers of the Company, to compete with one another and liberally reduces the
regulation of the communications industry. While the Company believes that the
deregulation of the communications industry may increase the Company's
opportunities to provide for its customers' signal transmission network needs,
the effect of the Telecommunications Act on the market for the Company's
products is difficult to predict at this time, and there can be no assurance
that competition in the Company's markets will not intensify as a result of such
deregulation. Changes in current or future laws or regulations, in the United
States or elsewhere, could materially adversely affect the Company's business.
18
Uncertain Ability to Manage Growth; Risks Associated with Implementation of New
Management Information System
The growth in the Company's business has required, and is expected to continue
to require, significant Company resources in terms of personnel, management and
other infrastructure. The Company's ability to manage any future growth
effectively will require it to attract, train, motivate and manage new employees
successfully, to integrate new employees into its overall operations and to
continue to improve its operational, financial and management information
systems.
Environmental Matters
The Company is subject to a wide variety of federal, state and local
environmental laws and regulations and uses a limited number of chemicals that
are classified as hazardous or similar substances. Although management believes
that the Company's operations are in compliance in all material respects with
current environmental laws and regulations, the Company's failure to comply with
such laws and regulations could have a material adverse effect on the Company.
Selected Quarterly Financial Data
Set forth below is certain unaudited quarterly financial information. (See
also Footnote P to the Financial Statements included elsewhere herein.) The
Company believes that all necessary adjustments, consisting only of normal
recurring adjustments, have been included in the amounts stated below to present
fairly, and in accordance with generally accepted accounting principles, the
selected quarterly information when read in conjunction with the Financial
Statements.
Year Ended Year Ended
December 31, 1998 December 31, 1999
------------------------------------------ ------------------------------------------
(amounts in thousands) (amounts in thousands)
1st 2nd 3rd 4th 1st 2nd 3rd 4th
Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter
------- ---------- --------- ------- ------- -------- ----------- -------
Net sales.............. $15,704 $23,108 $27,159 $26,739 $24,698 $31,315 $32,938 $31,729
Gross profit........... 6,414 9,621 10,609 9,488 9,594 12,341 12,375 10,255
Income from
operations............. 2,493 4,180 4,460 3,801 3,384 5,364 5,473 3,984
Income before income
taxes.................. 2,645 3,852 3,840 3,521 2,847 4,778 5,015 2,915
Item 7a. Quantitative and Qualitative Disclosures about Market Risk
----------------------------------------------------------
The market risk inherent in the Company's market risk sensitivity instruments
is the potential loss arising from adverse changes in interest rates and foreign
currency exchange rates. All financial instruments held by the Company and
described below are held for purposes other than trading.
Market Risk
The Company's credit facility allows the outstanding balance to bear interest
at a variable rate based on either the bank's base rate or the applicable LIBOR
rate depending on the nature of the borrowings. The credit facility exposes
earnings to changes in short-term interest rates since the interest rates on the
credit facility are variable.
If the variable rates on the Company's credit facility were to increase by 1%
from the rate at December 31, 1999, and if the Company borrowed the maximum
amount available under its credit facility ($30.0 million) for all of fiscal
2000, the Company's interest expense would increase, and net income would
decrease by $0.1 million. If LIBOR were to increase 1% from the rate at
December 31, 1999, and if the Company borrowed the maximum amount available, the
Company's interest expense would increase, and also net income would decrease by
$0.1 million. A marginal income tax rate of 40.0% was used. This analysis does
not consider the effects of the reduced level of overall economic activity that
could exist in such an environment. In the event of a 1% change in interest
rates, management would likely take actions to further mitigate its exposure to
the change.
Foreign Exchange Risk
The Company typically does not hedge its foreign currency exposure.
Management does not believe it currently has any material exposure to foreign
currency rate fluctuations.
19
Item 8. Financial Statements and Supplementary Data
-------------------------------------------
Consolidated Financial Statements of Channell Commercial Corporation are as
follows:
Report of Independent Certified Public Accountants................................................. F-1
Consolidated Balance Sheets as of December 31, 1998 and December 31, 1999.......................... F-2
Consolidated Statements of Income and Comprehensive Income for the years ended
December 31, 1997, December 31, 1998, and December 31, 1999................................... F-4
Consolidated Statement of Stockholders' Equity for the years ended December 31, 1997,
December 31, 1998 and December 31, 1999..................................................... F-5
Consolidated Statement of Cash Flows for the years ended December 31, 1997, December 31, 1998,
and December 31, 1999....................................................................... F-6
Notes to Consolidated Financial Statements......................................................... F-8
Financial statement schedules are as follows:
All schedules are omitted because they are not applicable, or the required
information is included in the financial statements or the notes thereto.
Item 9. Changes in and Disagreements with Accountants on Accounting and
---------------------------------------------------------------
Financial Disclosure
- --------------------
There has been no Form 8-K filed reporting a change of accountants or
reporting disagreements on any matter of accounting principle, practice,
financial statement disclosure or auditing scope or procedure.
20
PART III
Item 10. Executive Officers and Directors
--------------------------------
The following table sets forth information with respect to the Company's
current executive officers and directors and their ages as of December 31, 1999.
Name Age Positions
---- --- ---------
William H. Channell, Sr... 71 Chairman of the Board and
Chief Executive Officer
William H. Channell, Jr... 42 President, Chief Operating Officer
and Director
Gary W. Baker............. 56 Vice President, Finance and
Chief Financial Officer
Andrew M. Zogby........... 39 Vice President, Corporate Marketing
Edward J. Burke........... 44 Vice President, Corporate Engineering
Jacqueline M. Channell.... 68 Secretary and Director
Eugene R. Schutt, Jr...... 46 Director
Richard A. Cude........... 66 Director
The Company's Board of Directors was comprised of five members at December 31,
1999. In March 2000, a sixth member was appointed to the Board. The directors of
the Company are staggered into three classes, with the directors in a single
class elected at each annual meeting of stockholders to serve for a term of
three years or until their successors have been elected and qualified. The
authorized number of members of the Board of Directors is currently seven. The
executive officers of the Company serve at the pleasure of the Board of
Directors.
William H. Channell, Sr., the son of the Company's founder, James W. Channell,
has been the Chairman of the Board and Chief Executive Officer since the Initial
Public Offering. Prior to this time, he had held the position of President and
Chief Executive Officer since 1966. Mr. Channell, Sr. is a co-trustee of the
Channell Family Trust, which is a principal stockholder of the Company, and is
the husband of Jacqueline M. Channell and the father of William H. Channell, Jr.
His term as a director expires in 2002.
William H. Channell, Jr. has been President and Chief Operating Officer of the
Company since the Initial Public Offering. He has been a Director of the Company
since 1984. Since joining the Company in 1979, Mr. Channell, Jr. has held the
positions of Executive Vice President, Director of Marketing and National Sales
Manager. Mr. Channell, Jr. is a principal stockholder of the Company and is the
son of William H. Channell, Sr. and Jacqueline M. Channell. His term as a
director expires in 2000.
Gary W. Baker has been the Company's Vice President, Finance since May 1996,
and the Chief Financial Officer since 1990. Mr. Baker was the Company's
Corporate Controller from 1985 to 1990. From 1983 to 1985, Mr. Baker was the
Corporate Controller of Symbolics, Inc., a publicly traded manufacturer of
computer products, and has over 30 years of public and private accounting
experience.
Andrew M. Zogby has been the Company's Vice President, Corporate Marketing
since March 1996. Prior to joining the Company, Mr. Zogby was Director of
Strategic Marketing, Broadband Connectivity Group for ADC Telecommunications, a
publicly traded, telecommunications equipment supplier to both telephone and
CATV network providers worldwide. He had been with ADC Telecommunications since
1990. Mr. Zogby has held various technical marketing positions in the
telecommunications equipment industry since 1984.
21
Edward J. Burke has been the Company's Vice President, Corporate Engineering
since May 1996 and has served in various similar capacities with the Company
since 1984. Mr. Burke has held various technical positions in the thermoplastic
product engineering and tooling design field since 1978.
Jacqueline M. Channell has been the Company's Secretary and a Director since
1966. She is a co-trustee of the Channell Family Trust, which is a principal
stockholder of the Company, and is the wife of William H. Channell, Sr. and the
mother of William H. Channell, Jr. Mrs. Channell's term as a director expires
in 2001.
Eugene R. Schutt, Jr. has been a Director of the Company since July 1996. Mr.
Schutt is the CEO of CD1 Financial.com, an automotive lending and leasing
company owned by CarsDirect.com. Prior to joining CarsDirect.com, Mr. Schutt
had 25 years of experience in finance and acquisitions covering a variety of
industries. He most recently served as President of Avco International, a
division of Avco Financial Services, Inc. From 1984 to 1992 he served as
President of Pratt Industries. Mr. Schutt has served on the board of directors
of numerous companies. Mr. Schutt's term as Director expires in 2002.
Richard A. Cude became a director of the Company during 1996. Mr. Cude has
been the General Manager of the Los Angeles Support Center for Courtaulds PLC
London, England since 1994 and has served in various capacities with Courtaulds
since 1988. Prior to that, Mr. Cude has been with various companies involved in
the marketing of products to the communications and telecommunications industry.
Mr. Cude is currently retired. Mr. Cude's term as Director expires in 2000.
Peter J. Hicks became a Director of the Company in March, 2000. Mr. Hicks is
a managing director of Linx Partners, an investment firm specializing in private
industrial equity investments. From 1987 to 1999, Mr. Hicks was a managing
director of Schroder and Company. Mr. Hicks has more than 23 years of
investment banking and corporate finance experience and has served on the board
of directors of numerous companies. Mr. Hicks' term as Director expires in
2001.
Compensation of Directors
Directors who are also officers of the Company (except as indicated below)
receive no additional compensation for their services as directors. The
Company's non-management directors receive compensation consisting of an annual
retainer fee of $15,000 plus $1,000 for attendance at any meeting of the Board
of Directors or any committee thereof, plus direct out-of-pocket costs related
to such attendance. Mrs. Channell also receives non-management director retainer
and attendance fees. Mrs. Channell does not receive separate compensation for
serving as the Company's Secretary. In addition, pursuant to the Company's 1996
Incentive Stock Plan (as described below), each non-management director
(including Mrs. Channell) received options to acquire 1,000 shares of the
Company's Common Stock with an exercise price equal to the Initial Public
Offering price, and on the date of each of the Company's annual stockholder
meetings after the Initial Public Offering, each non-management director
(including non-executive officers who serve as directors) serving on the Board
of Directors immediately following such meeting are to receive options to
acquire an additional 1,000 shares of the Company's Common Stock with an
exercise price equal to the market value of the Common Stock on the date such
options are granted. These options will become exercisable at a rate of 33 1/3%
per year commencing on the first anniversary of the date of issuance and will
have a term of 10 years.
Section 16(a) Beneficial Ownership Reporting Compliance
Information required by Item 405 of Regulation S-K is incorporated by
reference to the Company's Proxy Statement relating to its 1999 annual meeting
of stockholders.
22
Item 11. Executive Compensation
----------------------
Summary Compensation Table
The following table sets forth the annual and long-term compensation of the
Company's Chief Executive Officer and the four additional most highly
compensated executive officers for the year ended December 31, 1999
(collectively, the "Named Officers").
Awards Payouts
----------- ---------
Securities
Other Annual Restricted Underlying All Other
Name and Positions Annual Compensation Compensation Stock Options/ LTIP Compensation
Held with the Company Salary($) Bonus($)(3) ($)(1) Awards($) SARs(#) Payouts($) ($)(2)
- ----------------------------- ------------ --------- ------------ ---------- ---------- --------- -----------
William H. Channell, Sr......
Chairman of the Board and
Chief Executive Officer $420,000 $ - $ - $ - - $ - $ -
William H. Channell, Jr......
President and Chief
Operating Officer 520,000 - - - 50,000 - 3,120
Gary W. Baker................
Vice President, Finance and
Chief Financial Officer 161,274 96,832 - - 5,500 - 4,525
Edward J. Burke..............
Vice President,
Corporate Engineering 141,505 87,141 - - 5,500 - 4,245
Andrew M. Zogby..............
Vice President,
Corporate Marketing 167,205 24,335 - - 6,000 - 5,000
- ---------------------------
(1) For each individual named, compensation excludes perquisites and other
personal benefits, that did not exceed the lesser of $50,000 or 10% of the
total annual salary and bonus reported for such individual.
(2) Payments to the Company's 401K plan.
(3) As an incentive for continued services, the Company, in 1996, granted a cash
bonus of $200,000 to Mr. Baker and Mr. Burke, which was earned and payable
in three equal installments on each of December 31, 1997, 1998, and 1999,
provided each remained employed by the Company and subject to continued
payment in the event of death.
1996 Incentive Stock Plan
The Company's 1996 Incentive Stock Plan (the "Stock Plan") currently permits
the granting to the Company's key employees, directors and other service
providers of (i) options to purchase shares of the Company's Common Stock and
(ii) shares of the Company's Common Stock that are subject to certain vesting
and other restrictions ("Restricted Stock"). Initially, a maximum of 750,000
shares of Common Stock were reserved for issuance under the Stock Plan. In
1999, the Stock Plan was amended to allow a maximum of 1,500,000 shares to be
issued under the Plan.
During 1999, the Company granted 97,250 "non-qualified" options to 16
employees and directors, including 50,000 stock options issued to William H.
Channell, Jr., the Company's President. In addition, 77,500 options originally
issued in 1997 at an option price of $13.25 were canceled and reissued at an
option price of $11.00. None of the repriced options were issued to William H.
Channell, Jr. or to any director. After cancellation of options previously
issued to terminated employees, there were options to acquire 768,350 shares of
Common Stock outstanding at December 31, 1999. These options vest at a rate of
33 1/3% per year beginning on the first anniversary of the date of issuance and
have a term of 10 years.
The Stock Plan is administered by the Compensation Committee of the Board of
Directors. The aggregate number of stock options or shares of Restricted Stock
that may be granted to any single participant under the Stock Plan during any
fiscal year of the Company is 100,000. The purpose of the Stock Plan is to
secure for the Company and its stockholders the benefits arising from stock
ownership by key employees, directors and other service providers selected by
the Compensation Committee.
23
All options granted under the Stock Plan are non-transferable and exercisable
in installments determined by the Compensation Committee, except that each
option is to be exercisable in minimum annual installments of 20% commencing
with the first anniversary of the option's grant date. Each option granted has a
term specified in the option agreement, but all options expire no later than ten
years from the date of grant. Options under the Stock Plan may be designated as
"incentive stock options" for federal income tax purposes or as options which
are not qualified for such treatment, or "non-qualified stock options". In the
case of incentive stock options, the exercise price must be at least equal to
the fair market value of the stock on the date the option is granted. The
exercise price of a non-qualified option need not be equal to the fair market
value of the stock at the date of grant, but may be granted with any exercise
price which is not less than 85% of the fair market value at the time the option
is granted, as the Compensation Committee may determine. The aggregate fair
market value (determined at the time the options are granted) of the shares
covered by incentive stock options granted to any employee under the Stock Plan
(or any other plan of the Company) which may become exercisable for the first
time in any one calendar year may not exceed $100,000.
Upon exercise of any option, the purchase price must generally be paid in full
either in cash or by certified or cashier's check. However, in the discretion of
the Compensation Committee, the terms of a stock option grant may permit payment
of the purchase price by means of (i) cancellation of indebtedness owed by the
Company, (ii) delivery of shares of Common Stock already owned by the optionee
(valued at fair market value as of the date of exercise), (iii) delivery of a
promissory note secured by the shares issued, (iv) delivery of a portion of the
shares issuable upon exercise (i.e., exercise for the "spread" on the option
payable in shares), or (v) any combination of the foregoing or any other means
permitted by the Compensation Committee.
Any grants of restricted stock will be made pursuant to Restricted Stock
Agreements, which will provide for vesting of shares at a rate to be determined
by the Compensation Committee with respect to each grant of restricted stock.
Until vested, shares of restricted stock are generally non-transferable and are
forfeited upon termination of employment. The Company has not made any grants
of restricted stock.
Options/SAR Grants Table
The following table sets forth the stock options granted to the named officers
for the year ended December 31, 1999.
Potential
% of Total Realized
Number of Options/ Value at
Securities SARs Assumed Annual
Underlying Granted to Exercise Rates of Stock Price
Options/ Employees on Base Appreciation of
SARs in Fiscal Price Expiration Option Term
Name Granted Year 1999 ($/Sh) Date 5% 10%
---- ---------- ---------- -------- ---------- -------- --------
William H. Channell, Sr. - - $ - - $ - $ -
William H. Channell, Jr. 50,000 51.4% 10.750 Aug 2009 337,500 855,500
Gary W. Baker 5,500 5.7% 10.063 Oct 2009 34,689 88,204
Edward J. Burke 5,500 5.7% 10.063 Oct 2009 34,689 88,204
Andrew M. Zogby 6,000 6.2% 10.063 Oct 2009 37,842 96,222
24
Aggregated Option/SAR Exercises in Last Fiscal Year and December 31, 1999
Option/SAR Values
The following table sets forth the number and value of outstanding stock
options at December 31, 1999. No options have been exercised in 1999.
Number of Shares
Shares Underlying Unexercised Value of nexercised In-
Acquired Options/SARs the-Money Options/SARs
on Value at December 31, 1999 at December 31, 1999
Name Exercise Realized Exercisable/Unexercisable Exercisable/Unexercisable
-------- --------------- ---------------- ------------------------- -------------------------
William H. Channell, Sr. - $ - - $ - /$ -
William H. Channell, Jr. - - 141,667/83,333 65,677/78,148
Gary W. Baker - - 22,667/8,833 9,636/8,439
Edward J. Burke - - 22,667/8,833 9,636/8,439
Andrew M. Zogby - - 23,668/11,332 11,868/13,583
Option/SAR Repricings
During 1999, the Compensation Committee reviewed the effectiveness of the
outstanding stock options in light of the current stock trading prices. Based
on a comparison of the option exercise prices and the trading price of the
stock, the Committee determined that certain of the outstanding options failed
to provide the incentives that they were initially intended to provide. On
April 20, 1999 the Committee recommended and the Board of Directors approved the
repricing of substantially all the options granted in the year 1997.
The 1997 options were initially priced at $13.25 per share and they were
repriced at $11.00 per share. The trading price of the Company's stock at the
time of the repricing on April 20, 1999 was $8.50. The following table sets
forth information with respect to options held by any current officer or
director and all other options as a group.
Number of Length of
Securities Market Price Option Term
Underlying of Shares Exercise Price New Remaining at
Options/SARs at Time of at Time of Exercise Time of
Name Repriced Repricing Repricing Price Option
- ------------------ ---------- -------------- --------- ------------ -----------------
Gary W. Baker 6,000 $8.50 $13.25 $11.00 8 years; 2 months
Edward J. Burke 6,000 $8.50 $13.25 $11.00 8 years; 2 months
Andrew M. Zogby 6,000 $8.50 $13.25 $11.00 8 years; 2 months
All Others 59,500 $8.50 $13.25 $11.00 8 years; 2 months
Options issued in 1997 held by Mr. William H. Channell, Jr., the President of
the Company, and by members of the Board of Directors were not repriced.
Profit Sharing and Savings Plans
The Company maintains a plan, established in 1993, in accordance with Section
401(K) of the Internal Revenue Code. Under the terms of this plan, eligible
employees may make voluntary contributions to the extent allowable by law.
Employees of the Company are eligible to participate in the plan after 90 days
of employment. Matching contributions by the Company to this plan are
discretionary and will not exceed that allowable for Federal income tax
purposes. The Company's contributions are vested over five years in annual
increments.
25
Employment Contracts
The Company has entered into employment agreements with each of William H.
Channell, Sr. and William H. Channell, Jr., engaging them as the Chairman of the
Board and Chief Executive Officer, and President and Chief Operating Officer of
the Company, respectively. For their service, each of Messrs. Channell, Sr. and
Channell, Jr., is entitled to receive an annual salary of $500,000 and $520,000,
respectively. Mr. Channell, Sr.'s salary is subject to annual cost of living
increases. Mr. Channell, Sr., during 1999, reduced his hours of contribution to
the Company and he agreed to reduce his compensation proportionally by $100,000
to $420,000. In addition, each executive is entitled to participate in the
Incentive Stock Plan, the 401(K) Plan and the Incentive Compensation Plan. The
employment agreements provide that each executive is entitled to certain other
benefits paid for by the Company, including an automobile allowance, health
insurance and sick leave, in accordance with the Company's customary practices
for senior executive officers.
In the case of Mr. Channell, Sr., such benefits also include (i) during the
term of the agreement, the payment of premiums for a term disability policy
providing for $250,000 in annual benefits in the case of his temporary or
permanent disability, (ii) during the lifetime of Mr. Channell, Sr. and his
wife, Jacqueline M. Channell, medical insurance for each of Mr. and Mrs.
Channell comparable to that provided to the Company's senior executive officers,
subject to a premium reimbursement obligation in the case of the medical
insurance provided to Mrs. Channell, and (iii) during Mr. Channell, Sr.'s
lifetime, a portion of the premiums on a life insurance policy owned by Mr.
Channell, Sr., under which Mrs. Channell is the beneficiary.
Each of the employment agreements has a term of five years. In the event
either executive is terminated without cause (as defined in the employment
agreements), he is entitled to receive, as a severance benefit, an amount equal
to three times his annual base salary, and any options or Restricted Stock
previously granted to such executive will become immediately vested.
At the time of the Initial Public Offering, as an incentive for continued
services, the Company entered into a bonus agreement with Mr. Baker and Mr.
Burke. This agreement granted to each of the three a bonus in the amount of
$200,000, which was earned and payable in three equal installments on December
31, 1997, 1998 and 1999, provided each remained employed by the Company. The
final installment of this bonus was paid to each prior to December 31, 1999.
Incentive Compensation Plan
Effective beginning in the Company's 1996 fiscal year, the Board of Directors
adopted the Company's 1996 Performance-Based Annual Incentive Compensation Plan
(the "Incentive Plan"). Eligible participants consist of key employees of the
Company. The Incentive Plan is administered by the Compensation Committee of the
Board of Directors. The amount of awards granted under the Incentive Plan are
determined based on an objective computation of the actual performance of the
Company relative to pre-established performance goals. Measures of performance
may include level of sales, EBITDA, net income, income from operations, earnings
per share, return on sales, expense reductions, return on capital, stock
appreciation, return on equity, invention, design or development of proprietary
products or improvements thereto (patented or otherwise), or sales of such
proprietary products or improvements or profitability achieved from sales of
proprietary products or improvements. Awards under the Incentive Plan are
payable in cash or, at the election of the Compensation Committee, Common Stock
of the Company. Mr. William H. Channell, Jr., the Company's President, receives
a bonus calculated using the factors above, but such bonus is earned and payable
based on continued service in subsequent years. The Compensation Committee may
establish a bonus pool from which all awards under the Incentive Plan may be
granted as well as individual, non-bonus pool awards. No participant in the
Incentive Plan may receive awards under such plan during any fiscal year of the
Company in excess of $1,000,000 or 100,000 shares of Common Stock. For 1999, no
bonuses were paid or accrued under this Plan.
The Company's executive compensation program is administered by the
Compensation Committee of the Board of Directors. During 1999, this Committee
was composed of Mr. William H. Channell, Sr., an executive officer and employee
of the Company, Mr. Eugene R. Schutt, Jr. and Mr. Richard A. Cude. (See
"Certain Relationships and Related Transactions".) It is the responsibility of
the Committee to review and approve the Company's executive compensation plans
and policies and to monitor these compensation programs in relation to the
performance of the particular executive and the overall performance of the
Company.
26
The following is a line graph presentation comparing the Company's cumulative
total return since the Initial Public Offering in July 1996 to December 31, 1999
with the performance of the NASDAQ market, the S & P Industrials and a similar
Industry Index for the same period.
COMPARISON OF 42 MONTH CUMULATIVE TOTAL RETURN
AMONG CHANNELL COMMERCIAL CORPORATION,
THE NASDAQ STOCK MARKET (U.S.) INDEX, S & P INDUSTRIALS INDEX
AND THE S & P COMMUNICATIONS EQUIPMENT INDEX
[GRAPH APPEARS HERE]
Item 12. Security Ownership of Certain Beneficial Owners and Management
--------------------------------------------------------------
The following table sets forth certain information concerning those persons
who are known by management of the Company to be beneficial owners of more than
5% of the Company's outstanding common stock (as provided to the Company by such
persons or the recordholder of such shares).
Amount and Nature of Beneficial Ownership
----------------------------------------------
Name and Address No. of Shares Exercisable Percent
of Beneficial Owner Owned Options(1) Total of Class
- ------------------------------------------- ------------- -------------- --------- ---------
William H. Channell Sr. and 3,380,830 - 3,380,830 37.2%
Jacqueline M. Channell, as co-trustees
of the Channell Family Trust
26040 Ynez Road
Temecula, CA 92591-9022
William H. Channell, Jr. 1,389,250 141,668 1,530,918 16.4%
26040 Ynez Road
Temecula, CA 92591-9022
Wellington Management Company, LLP 706,800 - 706,800 7.8%
75 State Street
Boston, MA 02109
David L. Babson & Company, Inc. 670,850 - 670,850 7.4%
One Memorial Drive
Cambridge, MA 02142
27
Carrie S. Rouveyrol 490,960 - 490,960 5.4%
P.O. Box 1080
Stinson Beach, CA 94970
The Taylor Family Trust 490,960 - 490,960 5.4%
1450 Ravenswood Lane
Riverside, CA 92506
(1) Refers to the number of shares covered by options exercisable within 60
days of March 1, 2000.
Security Ownership of Management
The following table sets forth certain information, as of March 1, 2000,
concerning the beneficial ownership of common stock by the Company's directors
and named executive officers, and all directors and executive officers of the
Company as a group.
Amount and Nature of Beneficial Ownership
--------------------------------------------
Name and Address No. of Shares Exercisable Percent
of Beneficial Owner Owned Options(1) Total of Class
- ---------------------------------------- ------------- -------------- --------- ---------
William H. Channell Sr. 3,380,830 - 3,380,830 37.2%
William H. Channell, Jr. 1,389,250 141,668 1,530,918 16.4%
Gary W. Baker 700 22,667 23,367 0.3%
Edward J. Burke - 22,667 22,667 0.3%
Andrew M. Zogby 700 23,668 24,368 0.3%
All present directors and executive 4,773,907 216,670 4,990,547 53.7%
officers as a group (9 in number)
(1) Refers to the number of shares covered by options exercisable within 60
days of March 1, 2000.
Item 13. Certain Relationships and Related Transactions
----------------------------------------------
The Company has two leases for approximately 260,000 square feet of
manufacturing, warehouse and office space in Temecula, California, with William
H. Channell, Sr., a principal stockholder and the Chairman of the Board and
Chief Executive Officer of the Company. The term of the first lease is through
December 31, 2005, with two five-year renewal options. The lease provides for
annual cost of living increases. Additionally, an adjacent 100,000 square foot
building was constructed and completed in 1996. Subsequent to December 31, 1996,
the Company guaranteed debt of Mr. Channell, Sr. of approximately $2.7 million
incurred in connection with construction of the building. This building is also
being leased from Mr. Channell, Sr. through 2005, with two five-year renewal
options. The Company believes that the terms of these leases are no less
favorable to the Company than could be obtained from an independent third party.
28
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
---------------------------------------------------------------
(a) The following financial statements and schedules are filed as a part of
this report:
(1) Consolidated Financial Statements
See index included in Part II, Item 8.
(2) Consolidated Financial Statement Schedules
All schedules are omitted because they are not applicable, or the required
information is included in the financial statements or notes thereto.
(a)(3) and (c). The following exhibits are filed herewith:
Exhibit
Number Exhibit Title
------ -------------
3.1 Restated Certificate of Incorporation of the Company (1)
3.2 Bylaws of the Company (1)
4 Form of Common Stock Certificate (1)
10.1 Tax Agreement between the Company and the Existing Stockholders (1)
10.2 Channell Commercial Corporation 1996 Incentive Stock Plan (including
form of Stock Option Agreements and Restricted Stock Agreement) (1)
10.3 Senior Revolving Loan Agreement dated as of May 1, 1998, between the
Company and Fleet National Bank (3)
10.8 Employment Agreement between the Company and William H. Channell, Sr.
(1)
10.9 Employment Agreement between the Company and William H. Channell, Jr.
(1)
10.10 Channell Commercial Corporation 1996 Performance-Based Annual Incentive
Compensation Plan (1)
10.11 Lease dated December 22, 1989 between the Company and William H.
Channell, Sr., as amended (1)
10.12 Lease dated May 29, 1996 between the Company and the Channell Family
Trust (1)
10.14 Lease dated September 24, 1997 between the Company and SCI North
Carolina Limited Partnership (4)
10.15 Lease dated November 2, 1989 between the Company and Meadowvale Court
Property Management Ltd., as amended (1)
10.16 Lease Agreement dated as of March 1, 1996 between Winthrop Resources
Corp. and the Company (1)
10.17 Form of Indemnity Agreement (1)
10.18 Form of Agreement Regarding Intellectual Property (1)
10.19 401(k) Plan of the Company (5)
10.20 Letter Agreement regarding employment, Andrew M. Zogby (2)
10.21 Letter Agreement regarding employment, John B. Kaiser (2)
10.22 A.C. Egerton (Holdings) PLC Share Purchase Agreement (3)
10.23 Amendment to Employment Agreement, William H. Channell Jr., dated
December 31, 1998 (5)
11 Computation of Proforma Income per Share (2)
23 Consent of Independent Certified Public Accountant (6)
27 Financial Data Schedule (6)
(b) Reports on Form 8-K
No reports on Form 8-K were filed during the quarter ended December 31,
1999.
_______
(1) Incorporated by reference to the indicated exhibits filed in connection with
the Company's Registration Statement on Form S-1 (File No. 333-3621).
(2) Incorporated by reference to the indicated exhibits filed in connection with
the Company's Form 10-K on March 31, 1997.
(3) Incorporated by reference to the indicated exhibits filed in connection with
the Company's Form 8-K on May 18, 1998.
(4) Incorporated by reference to the indicated exhibits filed in connection with
the Company's Form 10-Q on May 6, 1998.
(5) Incorporated by reference to the indicated exhibits filed in connection with
the Company's Form 10-K on March 31, 1999.
(6) Filed herewith.
29
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this Form 10-K Annual Report to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Temecula,
State of California, on March 29, 2000.
CHANNELL COMMERCIAL CORPORATION
a Delaware corporation
By /s/ WILLIAM H. CHANNELL, SR.
--------------------------------------
William H. Channell, Sr.
Chairman of the Board and
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this Form
10-K Annual Report has been signed by the following persons in the capacities
indicated below as of March 29, 2000.
Signature Capacity in Which Signed
--------- ------------------------
/s/ WILLIAM H. CHANNELL, SR. Chairman of the Board and
- ------------------------------- Chief Executive Officer
William H. Channell, Sr. (Principal Executive Officer)
/s/ WILLIAM H. CHANNELL, JR. President, Chief Operating Officer
- ------------------------------- and Director
William H. Channell, Jr.
/s/ GARY W. BAKER Vice President, Finance and
- ------------------------------- Chief Financial Officer
Gary W. Baker
/s/ JACQUELINE M. CHANNELL Secretary and Director
- -------------------------------
Jacqueline M. Channell
/s/ EUGENE R. SCHUTT, JR. Director
- -------------------------------
Eugene R. Schutt, Jr.
/s/ RICHARD A. CUDE Director
- -------------------------------
Richard A. Cude
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors and Stockholders
Channell Commercial Corporation
We have audited the consolidated balance sheets of Channell Commercial
Corporation as of December 31, 1998 and 1999, and the related consolidated
statements of income and comprehensive income, stockholders' 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.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. 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 consolidated financial position of Channell
Commercial Corporation as of December 31, 1998 and 1999, and the consolidated
results of its operations and its consolidated 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.
/s/ Grant Thornton LLP
Los Angeles, California
February 28, 2000
CHANNELL COMMERCIAL CORPORATION
CONSOLIDATED BALANCE SHEETS
December 31,
(amounts in thousands, except per share data)
ASSETS 1998 1999
--------------- ---------------
CURRENT ASSETS
Cash and cash equivalents $ 5,828 $ 2,733
Accounts receivable, net 17,890 23,235
Inventories 14,992 19,449
Deferred income taxes 630 707
Prepaid expenses and miscellaneous receivables 1,165 2,294
Income taxes receivable - 389
--------------- ---------------
Total current assets 40,505 48,807
PROPERTY AND EQUIPMENT, net 42,081 49,452
DEFERRED INCOME TAXES - 124
INTANGIBLE ASSETS, net of amortization of $741
and $1,604 in 1998 and 1999 15,100 14,450
OTHER ASSETS 756 1,707
--------------- ---------------
$98,442 $114,540
=============== ===============
The accompanying notes are an integral part of these statements.
F-2
CHANNELL COMMERCIAL CORPORATION
CONSOLIDATED BALANCE SHEETS - CONTINUED
December 31,
(amounts in thousands, except per share data)
LIABILITIES AND STOCKHOLDERS' EQUITY 1998 1999
---------------- ----------------
CURRENT LIABILITIES
Accounts payable $ 6,504 $ 11,643
Short term debt (including current maturities of
long term debt) 8,862 4,135
Current maturities of capital lease obligations 2,009 2,608
Accrued expenses 2,537 2,497
Income taxes payable 625 -
---------------- ----------------
Total current liabilities 20,537 20,883
LONG-TERM DEBT, less current maturities 20,855 26,240
CAPITAL LEASE OBLIGATIONS, less current maturities 4,185 5,078
DEFERRED INCOME TAXES 285 -
COMMITMENTS AND CONTINGENCIES - -
STOCKHOLDERS' EQUITY
Preferred stock, par value $.01 per share, authorized--1,000
shares, none issued and outstanding - -
Common stock, par value $.01 per share, authorized--19,000
shares; issued - 9,237; outstanding - 9,099 shares in 1998
and 9,076 shares in 1999 92 92
Additional paid-in capital 27,991 27,991
Treasury stock - 138 and 161 shares in 1998 and 1999 (1,175) (1,352)
Retained earnings 25,918 35,252
Accumulated other comprehensive income -
Foreign currency translation (246) 356
---------------- ----------------
Total stockholders' equity 52,580 62,339
---------------- ----------------
$98,442 $114,540
================ ================
The accompanying notes are an integral part of these statements.
F-3
CHANNELL COMMERCIAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
Year ended December 31,
(amounts in thousands, except per share data)
1997 1998 1999
----------- --------- ----------
Net sales $59,943 $92,710 $120,680
Cost of goods sold 35,032 56,578 76,115
----------- --------- -----------
Gross profit 24,911 36,132 44,565
Commission income 606 292 8
----------- --------- -----------
25,517 36,424 44,573
----------- --------- -----------
Operating expenses
Selling 7,251 11,570 14,716
General and administrative 4,077 8,057 9,023
Research and development 1,009 1,863 2,629
----------- --------- -----------
12,337 21,490 26,368
----------- --------- -----------
Income from operations 13,180 14,934 18,205
Interest income 1,006 266 46
Interest expense (127) (1,342) (2,696)
----------- --------- -----------
Income before income taxes 14,059 13,858 15,555
Income taxes 5,589 5,749 6,221
----------- --------- -----------
Net income $ 8,470 $ 8,109 $ 9,334
=========== ========= ===========
Net income per share
Basic $ .92 $ .88 $ 1.03
=========== ========= ===========
Diluted $ .91 $ .88 $ 1.02
=========== ========= ===========
Net income $ 8,470 $ 8,109 $ 9,334
Other comprehensive income, net of tax
Foreign currency translation adjustments - (246) 602
----------- --------- -----------
Comprehensive net income $ 8,470 $ 7,863 $ 9,936
=========== ========= ===========
The accompanying notes are an integral part of these statements.
F-4
CHANNELL COMMERCIAL CORPORATION
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Years ended December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
Common stock Additional Treasury stock
------------------------ paid-in ----------------------------
Shares Amount capital Shares Amount
--------------------------------------------------------------------
Balance, January 1, 1997 9,237 $92 $27,991 - $ -
Net income for the year - - - - -
--------------------------------------------------------------------
Balance, December 31, 1997 9,237 92 27,991 - -
Treasury stock acquired - - - 138 (1,175)
Foreign currency translation - - - - -
Net income for the year - - - - -
--------------------------------------------------------------------
Balance, December 31, 1998 9,237 92 27,991 138 (1,175)
Treasury stock acquired - - - 23 (177)
Foreign currency translation - - - - -
Net income for the year - - - - -
--------------------------------------------------------------------
Balance, December 31, 1999 9,237 $92 $27,991 161 $(1,352)
====================================================================
Accumulated
other Total
Retained comprehensive stockholders'
Earnings income equity
---------------------------------------------------
Balance, January 1, 1997 $ 9,339 $ - $37,422
Net income for the year 8,470 - 8,470
---------------------------------------------------
Balance, December 31, 1997 17,809 - 45,892
Treasury stock acquired - (1,175)
Foreign currency translation - (246) (246)
Net income for the year 8,109 8,109
---------------------------------------------------
Balance, December 31, 1998 25,918 (246) 52,580
Treasury stock acquired - - (177)
Foreign currency translation - 602 602
Net income for the year 9,334 - 9,334
---------------------------------------------------
Balance, December 31, 1999 $35,252 $ 356 $62,339
===================================================
The accompanying notes are an integral part of these statements.
F-5
CHANNELL COMMERCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year ended December 31,
(amounts in thousands)
1997 1998 1999
------------- --------------- -------------
Cash flows from operating activities:
Net income $ 8,470 $ 8,109 $ 9,334
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 2,044 4,060 6,538
Deferred income taxes (472) 486 (486)
Changes in assets and liabilities, net of effects
of acquisitions:
Accounts receivable (1,197) (3,453) (5,167)
Inventories (2,716) (3,289) (4,174)
Prepaid expenses and misc. receivables 201 (539) (1,029)
Other assets (19) (442) (951)
Accounts payable (602) 1,003 5,062
Accrued expenses (820) 786 (40)
Income taxes payable (1,159) (115) (1,014)
---------- --------------- --------------
Net cash provided by operating activities 3,730 6,606 8,073
---------- --------------- --------------
Cash flows from investing activities:
Purchase of property and equipment (5,966) (10,579) (9,148)
Proceeds from sale of property and equipment - 585 -
Business acquisitions, net of cash acquired (2,747) (23,965) -
Contingent purchase payments related to the
acquisition of Standby Electronics Corp. - - (213)
Purchases of investments (7,316) - -
Maturities of investments 7,071 11,651 -
---------- --------------- --------------
Net cash used in investing activities (8,958) (22,308) (9,361)
---------- --------------- --------------
F-6
CHANNELL COMMERCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED
Year ended December 31,
(amounts in thousands)
1997 1998 1999
-------------- ------------- --------------
Cash flows from financing activities:
Repayment of debt $ (195) $ (4,712) $(5,744)
Proceeds from issuance of long-term debt - 24,661 6,600
Repayment of capital lease obligations 73 (855) (2,407)
Purchase of treasury stock - (1,175) (177)
------------- ------------- -----------------
Net cash (used in) provided by financing
activities (122) 17,919 (1,728)
------------- ------------- -----------------
Effect of exchange rates on cash - (229) (79)
------------- ------------- -----------------
(Decrease) increase in cash and cash equivalents (5,350) 1,988 (3,095)
Cash and cash equivalents, beginning of year 9,190 3,840 5,828
------------- ------------- -----------------
Cash and cash equivalents, end of year $ 3,840 $ 5,828 $ 2,733
============= ============= =================
Cash paid during the year for:
Interest (net of capitalized interest of $339 in 1998) $ 128 $ 1,138 $ 2,654
============= ============= =================
Income taxes $ 5,753 $ 4,974 $ 6,840
============= ============= =================
Noncash investing and financing activities:
Assets acquired under capital lease $ 214 $ 6,248 $ 3,898
============= ============= =================
Note received for property and equipment sold $ - $ 166 $ -
============= ============= =================
Fair value of assets acquired, including goodwill $ 4,974 $ 42,675 $ -
Note payable issued (400) - -
Cash paid (2,774) (27,900) -
------------- ------------- -----------------
Liabilities assumed $ 1,800 $ 14,775 $ -
============= ============= =================
The accompanying notes are an integral part of these statements.
F-7
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE A--DESCRIPTION OF BUSINESS
The Company is a designer and manufacturer of telecommunications equipment
supplied to telephone, cable television and power utility network providers
worldwide. Major product lines include a complete line of thermoplastic and
metal fabricated enclosures, advanced copper termination and connectorization
products, fiber optic cable management systems, coaxial-based passive RF
electronics and heat shrink products. The Company's enclosure products house,
protect and provide access to advanced telecommunications hardware, including
both radio frequency electronics and photonics, and transmission media,
including coaxial cable, copper wire and optical fibers, used in the delivery of
voice, video and data services. The enclosure products are deployed within the
portion of a local signal delivery network, commonly known as the "outside
plant" or "local loop", that connects the network provider's signal origination
office with residences and businesses.
NOTE B--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Estimates--In preparing financial statements in conformity with generally
accepted accounting principles, management is required to make estimates and
assumptions that affect the reported amounts of assets and liabilities, the
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Basis of Consolidation--The consolidated financial statements include the
accounts of the Company and its subsidiaries. All significant intercompany
transactions and balances have been eliminated.
Foreign Currency Translation--Assets and liabilities of certain foreign
operations are translated into U.S. dollars at current exchange rates. Income
and expenses are translated into U.S. dollars at average rates of exchange
prevailing during the period. Foreign currency transaction gains and losses are
included in net income. Adjustments resulting from translating foreign
functional currency financial statements into U.S. dollars are included in other
comprehensive income.
Cash and Cash Equivalents--For purposes of reporting cash flows, cash and its
equivalents include cash on hand, cash in banks and short-term investments with
original maturities of 90 days or less.
F-8
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE B--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued
Inventories--Inventories are stated at the lower of cost or market. Cost is
determined by the first-in, first-out method of accounting.
Property and Equipment--Property and equipment are stated at cost. Depreciation
is computed using the straight-line method over the estimated useful lives of
the assets. Capital lease assets are amortized using the straight-line method
over the useful lives of the assets. Expenditures for all maintenance and
repairs are charged against income. Additions, major renewals and replacements
that increase the useful lives of assets are capitalized. Amortization of
leasehold improvements is computed using the straight-line method over the
shorter of the lease term or the estimated useful life of the leasehold
improvements.
Intangible Assets--The excess of cost over net assets acquired (goodwill) is
being amortized on a straight-line basis over periods ranging from 15 to 20
years. The Company reviews the carrying value of goodwill for impairment
whenever events or changes in circumstances indicate that the carrying amount
may not be recoverable. Other acquired intangibles are being amortized on a
straight-line basis over their estimated useful lives of 3 years. Amortization
expense charged to income amounted to $137, $603 and $863 in 1997, 1998 and
1999, respectively.
Revenue Recognition--The Company recognizes revenue from product sales and
commission income at the time of shipment.
Income taxes--Deferred income taxes reflect the impact of temporary differences
between the amounts of assets and liabilities recognized for financial reporting
purposes and the amounts recognized for income tax purposes. These deferred
income taxes are measured by applying currently enacted income tax rates. A
valuation allowance reduces deferred income tax assets when it is more likely
than not that some portion or all of the deferred income tax assets will not be
realized.
Income per share--Basic income per share excludes dilution and is computed by
dividing net income available to common stockholders by the weighted average
number of common shares outstanding for the period. Diluted income per share
reflects the potential dilution that could occur if options to acquire common
stock were exercised.
F-9
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE B--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued
The following is a reconciliation of the number of shares (denominator) used in
the basic and diluted income per share computations:
1997 1998 1999
------------------------------ ------------------------------ ------------------------------
Per Per Per
Share Share Share
Shares Amount Shares Amount Shares Amount
---------- ------------- ------------ ------------- ------------ -------------
Basic income per
share 9,237 $ .92 9,199 $.88 9,094 $1.03
Effect of dilutive
stock options 54 (.01) 31 - 17 (.01)
------------ ------------- ------------ ------------- ------------ -------------
Diluted income per
share 9,291 $ .91 9,230 $.88 9,111 $1.02
============ ============= ============ ============= ============ =============
The following options were not included in the computation of diluted income per
share as a result of the options' exercise price exceeding the average market
price of the common shares:
1997 1998 1999
------------------- ------------------- -------------------
Options to purchase shares of common
stock 140 626 678
Exercise prices $13.25 $11.00 - $10.06 -
$13.25 $13.25
Expiration dates July 2007 - July 2007 - July 2007 -
October 2008 October 2008 October 2009
Fair value of financial instruments--The carrying amount of cash, accounts
receivable, accounts payable, accrued expenses and short-term borrowings
approximates fair value because of the short maturity of these financial
instruments. Long-term obligations are carried at amounts that approximate fair
value. The estimated fair value of the long-term obligations is based on
borrowing rates currently available to the Company for loans with similar terms
and maturities.
F-10
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE B--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued
Reclassifications-- Certain reclassifications have been made to the 1997 and
1998 financial statements to conform with the 1999 presentation.
NOTE C--INVENTORIES
Inventories are summarized as follows:
1998 1999
------------------- ------------------
Raw materials $ 4,686 $ 7,666
Work-in-process 2,312 2,641
Finished goods 7,994 9,142
------------------- ------------------
$14,992 $19,449
=================== ==================
NOTE D--PROPERTY AND EQUIPMENT
Property and equipment are summarized as follows:
Estimated
useful
1998 1999 lives
----------- ----------- ------------------
Machinery and equipment $41,681 $53,932 3-10 years
Office furniture and equipment 2,222 2,234 3 -7 years
Leasehold improvements 2,556 2,864 15-20 years
Building and building improvements 6,161 7,161 30 years
Land 1,646 1,646 --
Construction in progress 943 404 --
--------- ----------
55,209 68,242
Less accumulated depreciation and amortization (13,128) (18,790)
--------- ----------
$42,081 $49,452
=========== ===========
Included in machinery and equipment is $7,157 and $10,061 of equipment under
capital lease at December 31, 1998 and 1999, respectively. Accumulated
amortization of assets under capital lease totaled $653 and $1,997 at December
31, 1998 and 1999, respectively. See Note H.
F-11
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE E-- ACCRUED EXPENSES
Accrued expenses consist of the following:
1998 1999
------------------- --------------------
Accrued vacation $ 549 $ 628
Other 1,988 1,869
------------------- --------------------
$2,537 $2,497
=================== ====================
NOTE F-- LONG-TERM DEBT
Long-term debt consists of the following:
1998 1999
-------------------- --------------------
Senior revolving credit facility that provides for
borrowings up to $30,000 ($25,000 at December 31,
1998). The outstanding balance bears interest,
payable monthly, at a variable rate based on either
the bank's base rate or the applicable LIBOR rate,
depending on the nature of the borrowings. At
December 31, 1998 and 1999, the weighted average
interest rate on outstanding borrowings was 6% and
6.95%. The loan is collateralized by substantially
all of the Company's assets and up to 65% of the
capital stock of the Company's subsidiaries. $16,381 $21,961
The entire principal is payable on April 30, 2003.
Note payable to financial institution payable in
monthly principal and interest installments of $30
with the unpaid principal and interest due on
November 1, 2008. The note bears interest at 6.85%
and is collateralized by certain land and buildings. 4,289 4,221
Note payable issued to an individual in connection
with the acquisition of RMS Electronics, Inc. (Note
J). Principal is payable in three annual
installments of $133 beginning January 1, 1999.
Interest accrues at a rate equal to the Company's
investment yield (effective rate of 5.75% at
December 31, 1998 and 1999) and is payable quarterly. 400 267
F-12
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE F-- LONG-TERM DEBT--Continued
1998 1999
-------------------- --------------------
Egerton Credit Facility $ 8,667 $ 3,926
-------------------- --------------------
29,717 30,375
Less current maturities (8,862) (4,135)
-------------------- --------------------
$20,855 $26,240
==================== ====================
The senior revolving credit facility contains various financial and operating
covenants which, among other things, imposes limitations on the company's
ability to incur additional indebtedness, merge or consolidate, acquire fixed
assets, sell assets except in the ordinary course of business, make certain
investments, enter into leases and pay dividends. The Company is also required
to comply with covenants related to minimum net worth and other financial
ratios. In 1999, the Company exceeded the allowable capital expenditures
limitations of the senior revolving credit facility. The Company obtained a
waiver of the capital expenditure covenant.
The senior revolving credit facility includes an $8,000 multi-currency revolving
commitment designed to provide working capital to the Company's international
subsidiaries, as well as financing for international letters of credit and
foreign exchange contracts.
The Company also had a separate credit facility available to its Egerton
subsidiaries that includes an overdraft facility totaling approximately $5,000
plus the combined cash balances of those subsidiaries. Also included were
facilities, totaling approximately $2,000, to provide financing for
international letters of credit, forward exchange contracts, and other items.
Outstanding borrowings (net of cash balances) bore interest at the bank's base
rate (5.5% at December 31, 1999) plus a factor ranging from 1.25% to a maximum
of 4% depending on the amount borrowed. The facility was collateralized by the
assets of the subsidiaries. In February 2000, the Egerton credit facility was
repaid using additional borrowings from the senior revolving credit facility.
Long-term debt at December 31, 1999 matures as follows:
Year Amount
--------------------- ---------------------
2000 $ 4,135
2001 211
2002 83
2003 22,050
2004 95
Thereafter 3,801
---------------------
$30,375
=====================
F-13
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE G--INCOME TAXES
The components of income taxes are as follows:
1997 1998 1999
------------------- -------------------- --------------------
Current
Federal $4,275 $3,796 $5,011
State 1,243 1,123 712
Foreign 543 344 984
------------------- -------------------- --------------------
6,061 5,263 6,707
------------------- -------------------- --------------------
Deferred
Federal (416) 357 369
State 14 78 (6)
Foreign (70) 51 (849)
------------------- -------------------- --------------------
(472) 486 (486)
------------------- -------------------- --------------------
$5,589 $5,749 $6,221
=================== ==================== ====================
A reconciliation from the U.S. Federal statutory income tax rate to the
effective income tax rate for the years ended December 31, is as follows:
1997 1998 1999
------------------- -------------------- --------------------
U.S. Federal statutory rate 34% 34% 34%
State income taxes, net of
federal tax benefit 6 6 5
Amortization of intangibles - 1 1
------------------- ------------------- -------------------
40% 41% 40%
=================== =================== ===================
F-14
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE G--INCOME TAXES--Continued
Significant components of the Company's deferred tax assets and liabilities are
as follows:
1998 1999
-------------------- ---------------------
Assets
Patents $1,051 $ 941
Allowance for bad debts 33 42
Inventory capitalization 125 255
Vacation pay 235 323
State taxes 237 87
Net operating loss carryforward-foreign operations - 990
-------------------- ---------------------
1,681 2,638
-------------------- ---------------------
Liabilities
Accelerated depreciation 1,336 1,807
-------------------- ---------------------
Net deferred tax asset $ 345 $ 831
==================== =====================
The classification of the net deferred tax asset between current and non-current
is as follows:
1998 1999
----------------------- ------------------------
Net current asset $ 630 $ 707
Net long-term (liability) asset (285) 124
----------------------- ------------------------
Net deferred tax asset $ 345 $ 831
======================= ========================
At December 31, 1999, the Company had $3,200 of international operating loss
carryforwards with a potential tax benefit of $990. These loss carryforwards do
not expire. Realization of the deferred tax asset is dependent upon generating
sufficient taxable income. A valuation allowance was not recorded in 1999
because management believes it is more likely than not that all of the deferred
tax assets will be realized.
F-15
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE H--CAPITAL LEASE OBLIGATIONS
The Company leases certain machinery and equipment under various agreements
which are classified as capital leases. The leases expire on various dates
through August 2003. Future minimum payments, by year, are as follows:
Year
---
2000 $ 3,457
2001 3,121
2002 2,043
2003 611
---------------
9,232
Less amount representing interest (1,546)
---------------
7,686
Less current maturities (2,608)
---------------
$ 5,078
===============
NOTE I--STOCKHOLDERS' EQUITY
In July 1996, the Company adopted the 1996 Incentive Stock Plan (the Plan),
under which it was authorized to issue non-qualified stock options and incentive
stock options to key employees, directors and consultants to purchase up to an
aggregate of 750 shares of the Company's common stock. The options have a term
of ten years and generally become fully vested by the end of the third year. In
May 1999, the Plan was amended to increase the authorized number of shares
issued to 1,500.
Statement of Financial Accounting Standards No. 123, "Accounting for Stock Based
Compensation", encourages, but does not require, companies to record
compensation cost for stock-based employee compensation plans at fair value.
The Company has chosen to continue to account for stock-based compensation using
the intrinsic value method prescribed in previously issued standards.
Accordingly, compensation cost for stock options is measured as the excess, if
any, of the quoted market price of the Company's stock at the date of grant over
the amount an employee must pay to acquire the stock. Compensation cost has not
been significant for 1997, 1998 and 1999.
F-16
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE I--STOCKHOLDERS' EQUITY--Continued
Plan transactions are as follows:
1997 1998 1999
-------------------------------- ------------------------------ ----------------------------
Weighted Weighted Weighted
average average average
exercise exercise exercise
Shares price Shares price Shares price
-------------- ----------- ------------ ---------- ------------ ---------
Options outstanding
January 1, 513 $11.00 636 $11.49 703 $11.22
Granted 165 12.91 114 9.83 98 10.17
Exercised -- -- -- -- -- --
Canceled (42) 11.00 (47) 11.33 (33) 11.52
-------------- ------------- ------------ ---------- ------------ ---------
Options outstanding
December 31, 636 $11.49 703 $11.22 768 $10.86
============== ============ ============ =========
Options available for
grant at December 31, 114 47 732
Weighted average fair value of options granted during the year are as follows:
1997 1998 1999
------------- -------------- --------------
Exercise price is below market price at date of $6.75 -- --
grant
Exercise price equals market price at date of $5.90 $3.93 $4.07
grant
The range of exercise prices of options outstanding at December 31, 1999 is
$8.38 to $13.25 and the options have a weighted average remaining contractual
life of 7 years. At December 31, 1999, 559 of the 768 options outstanding are
exercisable by the optionee.
F-17
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE I--STOCKHOLDERS' EQUITY--Continued
The fair value of options at date of grant was estimated using the Black-Scholes
model with the following weighted average assumptions:
1997 1998 1999
------------- ----------- -----------
Expected life (years) 5 years 5 years 5 years
Risk-free interest rate 6.25% 5.5% 5.5%
Expected volatility 40% 35% 35%
Expected dividend yield -- -- --
Had compensation cost for the plan been determined based on the fair value of
the options at the grant dates based on the above method, the Company's net
income and income per share would have been:
Net income per share
Net ---------------------------------------
Income Basic Diluted
-------------------- ---------------- ------------------
1997
As reported $8,470 $.92 $.91
Pro forma 7,812 $.85 $.84
1998
As reported $8,109 $.88 $.88
Pro forma 7,286 $.79 $.79
1999
As reported $9,334 $1.03 $1.02
Pro forma 9,001 $ .99 $ .98
F-18
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE J--ACQUISITIONS
During 1997 and 1998, the Company acquired the entities described below. The
acquisitions were accounted for by the purchase method of accounting:
RMS Electronics, Inc.--On January 2, 1997, the Company acquired substantially
all of the assets of RMS Electronics, Inc. and an affiliated company, RMS - UK
Limited (collectively referred to as "RMS") for $2,695, including acquisition
costs. The purchase price consisted of $2,295 in cash and the remainder through
the issuance of a promissory note (Note E). RMS is a designer, importer and
distributor of passive electronic products and devices for various segments of
the telecommunications industry. These devices are typically used in conjunction
with the Company's enclosure products. The excess of the purchase price over the
fair values of the net assets acquired was $1,134 and has been recorded as
goodwill, which is being amortized on a straight-line basis over fifteen years.
Other intangible assets acquired in connection with the acquisition totaled $100
and are being amortized over three years.
Standby Electronics Corp.--On June 30, 1997, the Company acquired 100% of the
outstanding shares of Standby Electronics Corp. ("Standby"), a designer and
supplier of metal-fabricated enclosures to house advanced electronics fiber
optic cable and power systems for telecommunications networks, for $479. In
addition, the purchase agreement provided for additional consideration of up to
$300 to be paid over three years, contingent upon Standby achieving specified
revenue levels over the three year period. The excess of the purchase price
(excluding the contingent consideration) over the fair values of the net assets
acquired was $552 and has been recorded as goodwill, which is being amortized on
a straight-line basis over fifteen years. In 1999, a final contingent purchase
payment of $213 was made resulting in an increase in the recorded goodwill.
A.C. Egerton (Holdings) PLC--On May 1, 1998, the Company acquired 100% of the
outstanding common stock of A.C. Egerton (Holdings) PLC ("Egerton"), a public
limited company incorporated in England and Wales. Egerton is a manufacturer of
outside plant splicing and terminating products for both optical fiber and
copper applications used in the telecommunications industry. The purchase
price, paid in cash, amounted to $27,900, including $1,325 of acquisition costs.
The fair value of tangible assets acquired in excess of liabilities assumed
amounted to $13,847, which resulted in goodwill in the amount of $14,053. The
final appraisal of the property and equipment acquired was completed in the
forth quarter of 1998, resulting in adjustments to Egerton's property and
equipment and goodwill and the related depreciation and amortization. The
effect of recording these adjustments was to increase net income for the fourth
quarter of 1998 by $435 ($.05 per share). Goodwill is being amortized on the
straight-line basis over twenty years.
F-19
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE J--ACQUISITIONS--Continued
The operating results of these acquired businesses have been included in the
consolidated statement of income from the dates of acquisition. The following
unaudited pro forma information presents a summary of consolidated results of
operations of the Company and the acquired businesses as if the acquisition of
Egerton had occurred January 1, 1997.
1997 1998
--------------- -----------------
Net sales $94,088 $101,798
Net income 7,786 6,798
Income per share (basic and diluted) $ .84 $ .74
These unaudited pro forma results have been presented for comparative purposes
only and include certain adjustments, such as additional amortization expense of
goodwill and increased interest expense on acquisition debt. They do not
purport to be indicative of the results of operations which actually would have
resulted had the acquisition of Egerton been effective January 1, 1997, or of
future results of operations of the consolidated entities.
NOTE K--RETIREMENT PLAN
The Company established a retirement plan in accordance with section 401(k) of
the Internal Revenue Code. Under the terms of this plan, eligible employees may
make voluntary contributions to the extent allowable by law. Employees of the
Company are eligible after one year of employment. Matching contributions by
the Company to this plan are discretionary and will not exceed that allowable
for Federal income tax purposes. The Company's contributions are vested over
five years in equal increments. The accompanying statements of income include
expenses of $40, $174 and $193 which have been incurred for the plans for the
years ended December 31, 1997, 1998 and 1999, respectively.
F-20
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE L--RELATED PARTY TRANSACTIONS
The Company leases a portion of its facilities in Temecula, California from the
Company's Chairman of the Board and Chief Executive Officer. The lease provides
for payments of insurance, repairs, and maintenance and property taxes, and
extend through 2005. The Company has two five-year renewal options to extend
the terms to 2015. Rent expense paid under the lease was $1,081, $1,103 and
$1,127 for the years ended December 31, 1997, 1998 and 1999, respectively.
In 1997, the Company guaranteed debt of the Company's Chairman of the Board and
Chief Executive Officer of approximately $2,700. The guaranteed debt was
incurred in connection with construction of the facilities leased to the Company
and is collateralized by said facilities. The loan amount subject to the
guarantee is expected to decline over a 20 year period before expiring in 2016.
It is not practicable to estimate the fair value of the guarantee; however, the
Company does not anticipate that it will incur losses as a result of this
guarantee.
At December 31, 1999, the Company had advances due from employees totaling $617
included in miscellaneous receivables. Employee advances are noninterest bearing
and due by June 30, 2000.
NOTE M--COMMITMENTS
The Company leases equipment and manufacturing and office space under several
operating leases expiring through 2005. Rent expense under all operating leases
amounted to $1,081, $1,777 and $2,182 for the years ended December 31, 1997,
1998 and 1999, respectively. Total future minimum rental payments under
noncancellable operating leases as of December 31, 1999, including the operating
lease with the related party discussed in Note L, are as follows:
Year Amount
- ------------------------------------ ---------------------
2000 $ 2,037
2001 1,897
2002 1,878
2003 1,845
2004 1,870
Thereafter 1,894
---------------------
$11,421
=====================
In addition to these minimum rental commitments, certain of these operating
leases provide for payments of insurance, repairs and maintenance and property
taxes.
F-21
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE N--CREDIT CONCENTRATIONS AND MAJOR CUSTOMERS
The Company maintains cash balances in financial institutions located in the
United States, Canada, Australia and the United Kingdom. At December 31, 1998,
the amount of cash balances held in financial institutions outside of the United
States was $4,621. Cash balances held in financial institutions outside of the
United States was not significant at December 31, 1999. Cash balances held in
financial institutions located in the United States may, at times, exceed
federally insured limits. The Company has not experienced any losses in such
accounts and believes it is not exposed to any significant credit risk on cash
and cash equivalents.
In 1999, one customer accounted for 10.2% of sales. In 1998, one customer
accounted for 12.5% of sales and a second customer accounted for 11.7% of sales.
In 1997, one customer accounted for 15.1% of sales and a second customer made up
10.0% of sales. Credit risk with respect to accounts receivable is generally
diversified due to the large number of entities comprising the Company's base
and their geographic dispersion. The Company controls credit risk through credit
approvals, credit limits and monitoring procedures but does not generally
require collateral.
F-22
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE O--SEGMENT AND GEOGRAPHIC INFORMATION
The Company operates in one industry segment as a manufacturer and supplier of
telecommunications equipment. Currently, the Company is organized into four
geographic regions: the United States, Europe/Middle East, Canada and
Australia/Asia. The following tables summarize segment information:
1997 1998 1999
---------------- ---------------- ----------------
Revenues from unrelated entities/(1)/:
United States/(2)/ $51,299 $65,314 $ 80,020
Europe/Middle East 3,057 16,230 19,030
Canada 5,587 5,136 5,148
Australia/Asia - 6,030 16,482
---------------- ---------------- ----------------
$59,943 $92,710 $120,680
================ ================ ================
Income from operations:
United States $12,074 $13,616 $ 18,382
Europe/Middle East 51 408 (2,780)
Canada 1,055 80 413
Australia/Asia - 830 2,190
---------------- ---------------- ----------------
$13,180 $14,934 $ 18,205
================ ================ ================
Interest income:
United States $ 1,006 $ 261 $ 38
Europe/Middle East - 5 -
Canada - - 8
Australia/Asia - - -
---------------- ---------------- ----------------
$ 1,006 $ 266 $ 46
================ ================ ================
Interest expense:
United States $ 97 $ 875 $ 2,348
Europe/Middle East 30 462 338
Canada - - -
Australia/Asia - 5 10
---------------- ---------------- ----------------
$ 127 $ 1,342 $ 2,696
================ ================ ================
(1)Inter-geographic revenues were not significant.
(2)Includes export sales of approximately $2,300, $1,700 and $1,043 in 1997,
1998 and 1999, respectively.
F-23
CHANNELL COMMERCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
December 31, 1997, 1998 and 1999
(amounts in thousands, except per share data)
NOTE O--SEGMENT AND GEOGRAPHIC INFORMATION--Continued
1997 1998 1999
---------------- ---------------- ----------------
Income tax expense (benefit):
United States $ 5,116 $ 5,354 $ 6,086
Europe/Middle East - (99) (904)
Canada 473 44 193
Australia/Asia - 450 846
---------------- ---------------- ----------------
$ 5,589 $ 5,749 $ 6,221
================ ================ ================
Identifiable assets:
United States $45,866 $50,992 $ 60,860
Europe/Middle East 1,807 32,464 35,009
Canada 2,952 2,577 3,508
Australia/Asia - 12,409 15,163
---------------- ---------------- ----------------
$50,625 $98,442 $114,540
================ ================ ================
Depreciation and amortization
United States $ 1,994 $ 2,560 $ 4,090
Europe/Middle East 22 1,029 1,455
Canada 28 78 100
Australia/Asia - 393 893
---------------- ---------------- ----------------
$ 2,044 $ 4,060 $ 6,538
================ ================ ================
Capital expenditures:
United States/(3)/ $ 5,785 $ 9,513 $ 5,392
Europe/Middle East 50 684 3,650
Canada 131 90 106
Australia/Asia - 292 -
---------------- ---------------- ----------------
$ 5,966 $10,579 $ 9,148
================ ================ ================
(3)Excludes assets acquired under capital leases of $214, $6,248 and $3,898
in 1997, 1998 and 1999, respectively.
F-24
NOTE P--QUARTERLY FINANCIAL DATA (Unaudited)
Summarized quarterly financial data for 1997, 1998 and 1999 follows:
First Second Third Fourth
Quarter Quarter Quarter Quarter
------------- ------------- ------------- -------------
1997
Net sales $12,804 $15,664 $15,353 $16,122
Gross profit 5,143 7,005 6,399 6,364
Net income 1,387 2,538 2,289 2,256
Income per share
Basic .15 .27 .25 .24
Diluted .15 .27 .24 .24
1998
Net sales 15,704 23,108 27,159 26,739
Gross profit 6,414 9,621 10,609 9,488
Net income 1,547 2,293 2,335 1,934
Income per share (basic and diluted) .17 .25 .25 .21
1999
Net sales 24,698 31,315 32,938 31,729
Gross profit 9,594 12,341 12,375 10,255
Net income 1,710 2,718 2,823 2,083
Income per share
Basic 0.19 0.30 0.31 0.23
Diluted 0.19 0.30 0.31 0.22
F-25
GLOSSARY OF TERMS
ADSL (Asymmetric Digital Subscriber Line): A standard allowing digital
broadband signals and standard telephone service to be transmitted up to 12,000
feet over a twisted copper pair.
Broadband: Transmission rates in excess of 1.544 mega bits per second
typically deployed for delivery of high-speed data, video and voice services.
Cable Modem: Electronic transmission device placed on the CATV network,
located at end user locations, providing two-way, high-speed data service
capability, including internet access for subscribers.
CATV (Community Antenna TV, commonly called cable television): A system for
distributing television programming by a cable network rather than by
broadcasting electromagnetic radiation.
Coaxial Cable: The most commonly used means of transmitting cable television
signals. It consists of a cylindrical outer conductor (shield) surrounding a
center conductor held concentrically in place by an insulating material.
DLC (Digital Loop Carrier): Telecommunications transmission technology which
multiplexes multiple individual voice circuits onto copper or fiber cables.
DSL (Digital Subscriber Line): Generic descriptor covering various versions of
DSL services delivered over copper wires. Included are HDSL and ADSL services.
Fiber Node: Refers to the equipment that terminates the fiber cables
originating from the host digital terminal. This network element converts the
optical signals to their coax electrical, RF equivalents. Synonymous with
optical network interface (ONI).
Fiber Optics: The process of transmitting infrared and visible light
frequencies through a low-loss glass fiber with a transmitting laser or LED and
a photo diode receiver.
FTTC (Fiber-To-The-Curb): In a long distance network consisting of fiber
optics, fiber-to-the-curb refers to the fiber optics running from the
distribution plant to the curb, at which point copper is used for the curb-to-
home connection.
HDSL (High bit rate Digital Subscriber Line): By using sophisticated coding
techniques, a large amount of information may be transmitted over copper. The
HDSL scheme uses such coding over four copper wires and is primarily intended
for high capacity bi-directional business services.
Headend: The primary transmission point in a cable system supplying the hubs
and trunk cables.
HFC (Hybrid Fiber Coax): A type of distribution plant that utilizes fiber
optics to carry service from a CO to the carrier serving area, then coaxial
cable within the CSA to or close to the individual residences.
ONU (Optical Network Unit): The curb mounted electronics device which
converts fiber optic signals to electrical for service delivery or copper wires.
PCS (Personal Communications Services): Any service offered on a personal
communications network. These include basic telephone, voice mail, paging and
others. Personal communications networks operate in the 1800-2000 mHz range,
utilizing low power cells compared to traditional cellular technology.
RBOC (Regional Bell Operating Company): A term for the seven regional holding
companies created when AT&T divested the Bell operating companies.
RF (Radio Frequency): An electromagnetic wave frequency intermediate between
audio frequencies and infrared frequencies used especially in wireless
telecommunications and CATV transmission.
G-1