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SECURITIES AND EXCHANGE COMMISSION
Washington, DC 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 January 31, 2003
OR
___ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________ to __________
Commission File No. 0-18370
MFRI, INC.
(Exact name of registrant as specified in its charter)
Delaware 36-3922969
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
7720 Lehigh Avenue
Niles, Illinois 60714
(Address of principal executive offices) (Zip Code)
(847) 966-1000
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.01 per share
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes /x/ No / /
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. / /
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12-b). Yes/ / No /x/
The aggregate market value of the voting securities of the registrant
beneficially owned by non-affiliates of the registrant (the exclusion of the
market value of the shares owned by any person shall not be deemed an admission
by the registrant that such person is an affiliate of the registrant) was
approximately $7,435,000 based on the closing sale price of $2.060 per share as
reported on the NASDAQ National Market on July 31, 2002.
The number of shares of the registrant's common stock outstanding at March
31, 2003 was 4,922,364.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the following document of the registrant are incorporated
herein by reference:
Document Part of Form 10-K
-------- -----------------
Proxy Statement for the 2003 annual meeting of III
stockholders
FORM 10-K CONTENTS
JANUARY 31, 2003
Item Page
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Part I:
1. Business 1
Company Profile 1
Filtration Products 1
Piping Systems 4
Industrial Process Cooling Equipment 7
Employees 10
Executive Officers of the Registrant 11
2. Properties 12
3. Legal Proceedings 13
4. Submission of Matters to a Vote of Security Holders 13
Part II:
5. Market for Registrant's Common Equity and Related Stockholder Matters 13
6. Selected Financial Data 13
7. Management's Discussion and Analysis of Financial Condition
and Results of Operations 14
7A. Quantitative and Qualitative Disclosures About Market Risk 24
8. Financial Statements and Supplementary Data 25
9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 25
Part III:
10. Directors and Executive Officers of the Registrant 25
11. Executive Compensation 25
12. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters 25
13. Certain Relationships and Related Transactions 25
14. Controls and Procedures 25
Part IV:
15. Exhibits, Financial Statement Schedules and Reports on Form 8-K 26
Signatures 52
Certifications 59
- --------------------------------------------------------------------------------
PART I
Item 1. BUSINESS
Company Profile
MFRI, Inc. ("MFRI" or the "Company") is a holding company which has subsidiaries
engaged in the manufacture and sale of products in three distinct business
segments: filtration products, piping systems and industrial process cooling
equipment.
The Company's filtration products business (the "Filtration Products Business")
is conducted by Midwesco Filter Resources, Inc. ("Midwesco Filter"). Perma-Pipe,
Inc. ("Perma-Pipe") conducts the piping systems business (the "Piping Systems
Business"). The industrial process cooling equipment business (the "Industrial
Process Cooling Equipment Business") is conducted by Thermal Care, Inc.
("Thermal Care"). Midwesco Filter, Perma-Pipe and Thermal Care are wholly owned
subsidiaries of MFRI. As used herein, unless the context otherwise requires, the
term "Company" includes MFRI and its subsidiaries, Midwesco Filter, Perma-Pipe,
Thermal Care, and their respective predecessors and subsidiaries.
Midwesco Filter manufactures and sells a wide variety of filter elements for air
filtration and particulate collection systems. Air filtration systems are used
in many industries in the United States and abroad to limit particulate
emissions, primarily to comply with environmental regulations. Midwesco Filter
markets air-filtration-related products and accessories, and provides
maintenance services, consisting primarily of dust collector inspection, filter
cleaning and filter replacement.
Perma-Pipe engineers, designs, manufactures and sells specialty piping systems
and leak detection and location systems. Perma-Pipe's specialty piping systems
include (i) industrial and secondary containment piping systems for transporting
chemicals, waste streams and petroleum liquids, (ii) insulated and jacketed
district heating and cooling piping systems for efficient energy distribution to
multiple locations from central energy plants, and (iii) oil and gas gathering
flow lines and long lines for oil and mineral transportation. Perma-Pipe's leak
detection and location systems are sold as part of many of its piping systems
products and, on a stand-alone basis, to monitor areas where fluid intrusion may
contaminate the environment, endanger personal safety, cause a fire hazard,
impair essential services or damage equipment or property.
Thermal Care engineers, designs and manufactures industrial process cooling
equipment, including liquid chillers, mold temperature controllers, cooling
towers, plant circulating systems, and related accessories for use in industrial
process applications.
Additional information with respect to the Company's lines of business is
included in the following discussions of the separate business segments and in
the financial statements and related notes thereto.
Filtration Products Business
Air Filtration and Particulate Collection Systems. Air filtration and
particulate collection systems have been used for over 55 years in many
industrial applications. However, the enactment of federal and state legislation
and related regulations and enforcement have increased the demand for
air-filtration and particulate-collection systems by requiring industry to meet
primary and secondary ambient air quality standards for specific pollutants,
including particulate. In certain manufacturing applications, particulate
collection systems are an integral part of the production process. Examples of
such applications include the production of cement, carbon black and industrial
absorbents.
The principal types of industrial air filtration and particulate collection
systems in use today are baghouses, cartridge collectors, electrostatic
precipitators, scrubbers and mechanical collectors. The type of technology most
suitable for a particular application is a function of such factors as the
ability of the system to meet applicable regulations, initial investment,
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operating costs and the parameters of the process, including operating
temperatures, chemical constituents present, size of particulate and pressure
differential.
Cartridge collectors and baghouses are typically box-like structures, which
operate in a manner similar to a vacuum cleaner. They can contain a single
filter element or an array of several thousand cylindrical or envelope filter
elements (as short as two feet or as long as 30 feet) within a housing, which is
sealed to prevent the particulate from escaping. Exhaust gases are passed
through the filtration elements, and the particulate is captured on the media of
the filter element. The particulate is removed from the filter element by such
methods as mechanical shaking, reverse air flow or compressed air pulse.
Cartridge collectors and baghouses are generally used with utility and
industrial boilers, cogeneration plants and incinerators and in the chemicals,
cement, asphalt, metals, grain and foundry industries, as well as air intake
filters for gas turbines.
In an electrostatic precipitator, the particulate in the gases is charged as it
passes electrodes and is then attracted to oppositely charged collection plates.
The collected material is periodically removed from the plates by rapping or
vibration. Electrostatic precipitators are used in such industries as electric
power generation, chemicals, and pulp and paper, as well as in incinerators.
Scrubbers are used for flue gas desulphurization, odor control, acid gas
neutralization and particulate collection. They operate by bringing gases into
contact with water or chemicals and are sometimes used in combination with
baghouses or electrostatic precipitators.
Mechanical collectors are used to remove relatively large particles from air
streams. They are frequently used in association with other systems as a
pre-screening device.
Because air pollution control equipment represents a substantial capital
investment, such systems usually remain in service for the entire life of the
plant in which they are installed. A baghouse can last up to 30 years and is
typically rebagged six to eight times during its useful life. The useful life of
a cartridge collector is 10 to 20 years, with five to ten cartridge changes
during its useful life. Although reliable industry statistics do not exist, the
Company believes there are more than 26,000 locations in the United States
presently using baghouses and/or cartridge collectors, many of which have
multiple pieces of such equipment.
Products and Services. The Company manufactures and sells a wide variety of
filter elements for cartridge collectors and baghouse air filtration and
particulate collection systems. Cartridge collectors and baghouses are used in
many industries in the United States and abroad to limit particulate emissions,
primarily to comply with environmental regulations. The Company manufactures
filter elements in standard industry sizes, shapes and filtration media and to
custom specifications, maintaining manufacturing standards for more than 10,000
styles of filter elements to suit substantially all industrial applications.
Filter elements are manufactured from industrial yarn, fabric and papers
purchased in bulk. Most filter elements are produced from cellulose, acrylic,
fiberglass, polyester, aramid or polypropylene fibers. The Company also
manufactures filter elements from more specialized materials, sometimes using
special finishes.
The Company manufactures virtually all of the seamless tube filter bags sold in
the United States. Seamless Tube(R) filter bag fabric is knitted by the Company
on custom knitting equipment and finished using proprietary fabric stabilization
technology. The Company believes this vertically integrated process provides
certain advantages over purchased fabric, including lower costs and reduced
inventory requirements. In addition, the Company believes the Seamless Tube(R)
product furnishes certain users with a filtration medium of superior performance
due to its fabric structure, weight and lack of a vertical seam. In certain
applications, the structure of the knitted fabric allows equal airflow with a
lower pressure differential than conventionally woven fabrics, thereby reducing
power costs. In other circumstances, the fabric structure and absence of a
vertical seam allow greater airflow at the same pressure differential as
conventionally woven fabrics, thereby permitting the filtration of a greater
volume of particulate laden gas at no additional cost. The Seamless Tube(R)
product often improves filter bag durability, resulting in longer life.
The Company markets numerous filter-related products and accessories used during
the installation, operation and maintenance of cartridge collectors and
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baghouses, including wire cages used to support filter bags, spring assemblies
for proper tensioning of filter bags and clamps and hanger assemblies for
attaching filter elements. In addition, the Company markets other hardware items
used in the operation and maintenance of cartridge collectors and baghouses.
These include sonic horns to supplement the removal of particulate from filter
bags and cartridge collectors and baghouse parts such as door gaskets, shaker
bars, tube sheets, dampers, solenoid valves, timer boards, conveyors and
airlocks. The Company currently manufactures wire cages and purchases all other
filter-related products and accessories for resale. The Company holds the
exclusive North American marketing rights to a Korean-manufactured line of
solenoids, valves and timers used in conjunction with pulsejet collectors. The
Company also provides maintenance services, consisting primarily of
air-filtration system inspection and filter element replacement, using a network
of independent contractors. The sale of filter-related products and accessories,
collector inspection, maintenance services and leak detection account for
approximately 13 percent of the net sales of the Company's filtration products
and services.
Over the past three years, the Company's Filtration Products Business has served
more than 4,000 user locations. The Company has particular expertise in
supplying filter bags for use with electric arc furnaces in the steel industry.
The Company believes its production capacity and quality control procedures make
it a leading supplier of filter bags to large users in the electric power
industry. Orders from that industry tend to be substantial in size, but are
usually at reduced margins. In the fiscal year ended January 31, 2003, no
customer accounted for 10 percent or more of net sales of the Company's
filtration products and services.
Marketing. The customer base for the Company's filtration products and services
is industrially and geographically diverse. These products and services are used
primarily by operators of utility and industrial coal-fired boilers,
incinerators and cogeneration plants and by producers of metals, cement,
chemicals and other industrial products.
The Company has an integrated sales program for its Filtration Products
Business, which consists of field-based sales personnel, manufacturers'
representatives, a telemarketing operation and computer-based customer
information systems containing data on nearly 18,000 user locations. These
systems enable the Company's sales force to access customer information
classified by industry, equipment type, operational data and the Company's
quotation and sales history. The systems also provide reminders to telemarketing
personnel of the next scheduled customer contact date, as well as the name and
position title of the customer contact. The Company believes the computer-based
information systems are instrumental in increasing sales of filter-related
products and accessories and maintenance services, as well as sales of filter
elements.
The Company markets its U.S. manufactured filtration products internationally
using domestically based sales resources to target major users in foreign
countries. Export sales, which were approximately 7 percent of the domestic
filtration company's product sales during the year ended January 31, 2003, were
about the same level as the previous year. Nordic Air Filtration A/S, a wholly
owned subsidiary of the Company located in Nakskov, Denmark, manufactures and
markets pleated filter elements throughout Europe and Asia, primarily to
original equipment manufacturers.
Trademarks. The Company owns the following trademarks covering its filtration
products: Seamless Tube(R), Leak Seeker(R), Prekote(R), We Take the Dust Out of
Industry(R), Pleatkeeper(R), Pleat Plus(R) and EFC(R).
Backlog. As of January 31, 2003, the dollar amount of backlog (uncompleted firm
orders) for filtration products was $11,781,000. As of January 31, 2002, the
amount of backlog was $10,518,000. Approximately $2,200,000 of the backlog as of
January 31, 2003 is not expected to be completed in 2003.
Raw Materials and Manufacturing. The basic raw materials used in the manufacture
of the Company's filtration products are industrial fibers and media supplied by
leading producers of such materials. The majority of raw materials purchased are
woven fiberglass fabric, yarns for manufacturing Seamless Tube(R) products and
other woven, felted, spun bond and cellulose media. Only a limited number of
suppliers are available for some of these materials. From time to time, any of
these materials could be in short supply, adversely affecting the Company's
business. The Company believes that supplies of all materials are adequate to
meet current demand. The Company's inventory includes substantial quantities of
various types of media because lead times from suppliers are frequently longer
than the delivery times required by customers. Nevertheless, the Company has
implemented an aggressive program to limit inventory to the minimum levels
compatible with meeting customer needs.
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The manufacturing processes for filtration products include proprietary
computer-controlled systems for measuring, cutting, pleating, tubing and marking
media. The Company also operates specialized knitting machines and proprietary
fabric stabilization equipment to produce the Seamless Tube(R) product. Skilled
sewing machine operators perform the finish assembly work on each filter bag
using both standard sewing equipment and specialized machines developed by or
for the Company. The manufacturing process for pleated filter elements involves
the assembly of metal and, sometimes, plastic end components, filtration media
and support hardware.
The Company maintains a quality assurance program involving statistical process
control techniques for examination of raw materials, work in progress and
finished goods. Certain orders for particularly critical applications receive
100 percent quality inspection.
Competition. The Filtration Products Business is highly competitive. In
addition, new installations of cartridge collectors and baghouses are subject to
competition from alternative technologies. The Company believes that, based on
domestic sales, BHA Group, Inc.; the Menardi division of Beacon Industrial
Group; W.L. Gore & Associates, Inc. and the Company are the leading suppliers of
filter elements, parts and accessories for baghouses. The Company believes that
Donaldson Company, Inc.; Farr Company; Clarcor, Inc. and the Company are the
leading suppliers of filter elements for cartridge collectors. There are at
least 50 smaller competitors, most of which are doing business on a regional or
local basis. In Europe, several companies supply filtration products and Nordic
Air is a relatively small participant in that market. Some of the Company's
competitors have greater financial resources than the Company.
The Company believes price, service and quality are the most important
competitive factors in its Filtration Products Business. Often, a manufacturer
has a competitive advantage when its products have performed successfully for a
particular customer in the past. Additional effort is required by a competitor
to market products to such a customer. In certain applications, the Company's
proprietary Seamless Tube(R) product and customer support provide the Company
with a competitive advantage. Certain competitors of the Company may have a
competitive advantage because of proprietary products and processes, such as
specialized fabrics and fabric finishes. In addition, some competitors may have
cost advantages with respect to certain products as a result of lower wage rates
and/or greater vertical integration.
Government Regulation. The Company's Filtration Products Business is
substantially dependent upon governmental regulation of air pollution at the
federal and state levels. Federal clean air legislation requires compliance with
national primary and secondary ambient air quality standards for specific
pollutants, including particulate. The states are primarily responsible for
implementing these standards and, in some cases, have adopted more stringent
standards than those issued by the U.S. Environmental Protection Agency ("U.S.
EPA") under the Clean Air Act Amendments of 1990 ("Clean Air Act Amendments").
Although the Company can provide no assurances about what ultimate effect, if
any, the Clean Air Act Amendments will have on the Filtration Products Business,
the Company believes the Clean Air Act Amendments are likely to have a positive
long-term effect on demand for its filtration products and services. The U.S.
Supreme Court decision upholding the right of the U.S. EPA to reduce the minimum
size of particulates regulated by the National Air Quality Standard from 10
microns to 2.5 microns could have a significant positive effect on demand for
the Company's filtration products in future years.
Piping Systems Business
Products and Services. The Company engineers, designs and manufactures specialty
piping systems and leak detection and location systems. The Company's specialty
piping systems include (i) industrial and secondary containment piping systems
for transporting chemicals, hazardous fluids and petroleum products,
(ii) insulated and jacketed district heating and cooling piping systems for
efficient energy distribution to multiple locations from central energy plants,
and (iii) oil and gas gathering flow lines and long lines for oil and mineral
transportation. The Company's leak detection and location systems are sold as
part of many of its piping systems, and, on a stand-alone basis, to monitor
areas where fluid intrusion may contaminate the environment, endanger personal
safety, cause a fire hazard, impair essential services or damage equipment or
property.
The Company's industrial and secondary containment piping systems, manufactured
in a wide variety of piping materials, are generally used for the handling of
chemicals, hazardous liquids and petroleum products. Industrial piping systems
often feature special materials, heat tracing, leak detection and special
4
fabrication. Secondary containment piping systems consist of service pipes
housed within outer containment pipes, which are designed to contain any leaks
from the service pipes. Each system is designed to provide economical and
efficient secondary containment protection that will meet all governmental
environmental regulations.
The Company's district heating and cooling piping systems are designed to
transport steam, hot water and chilled water to provide efficient energy
distribution to multiple locations from a central energy plant. These piping
systems consist of a carrier pipe made of steel, ductile iron, copper or
fiberglass; insulation made of mineral wool, calcium silicate or polyurethane
foam; and an outer conduit or jacket of steel, fiberglass reinforced polyester
resin, polyethylene or PVC. The Company manufactures several types of piping
systems using different materials, each designed to withstand certain levels of
temperature and pressure.
The Company's oil and gas flow lines are designed to transport crude oil or
natural gas from the well head, either on land or on the ocean floor, to the
gathering point. Long lines for oil and mineral transportation are used for
solution mining and long line transportation of heated hydrocarbons or other
substances. These piping systems consist of a carrier pipe made of steel,
usually supplied by the customer; insulation made of polyurethane; jackets made
of high density polyurethane or polyethylene and sometimes a steel outer pipe,
also usually supplied by the customer.
The Company's leak detection and location systems consist of a sensor cable
attached to a microprocessor, which uses proprietary software. The system sends
pulse signals through the sensor cable, which is positioned in the area to be
monitored (e.g., along a pipeline in the ground or in a sub floor), and employs
a patented digital mapping technique to plot pulse reflections to continuously
monitor the sensor cable for anomalies. The system is able to detect one to
three feet of wetted cable in a monitored cable string of up to fifteen miles in
length and is able to determine the location of the wetted cable within five
feet. Once wetted cable is detected, the microprocessor uses the software to
indicate the location of the leak. The Company offers a variety of cables
specific to different environments. The Company's leak detection and location
systems can sense the difference between water and petroleum products and can
detect and locate multiple leaks. With respect to these capabilities, the
Company believes that its systems are superior to systems manufactured by other
companies. Once in place, the Company's leak detection and location system can
be monitored off-site because the system can communicate with computers through
telephone or internet connections. The Company's leak detection and location
systems are being used to monitor fueling systems at airports, including those
located in Denver, Colorado; Atlanta, Georgia; and Frankfurt and Hamburg,
Germany. They are also used in facilities used for mission-critical operations
such as those operated by web hosts, application service providers and internet
service providers, and in many clean rooms, including such facilities operated
by IBM, Intel and Motorola. The Company believes that, in the United States, it
is the only major supplier of the above-referenced types of specialty piping
systems that manufactures its own leak detection and location systems.
The Company's piping systems are frequently custom-fabricated to job site
dimensions and/or incorporate provisions for thermal expansion due to varying
temperatures. This custom fabrication helps to minimize the amount of field
labor required by the installation contractor. Most of the Company's piping
systems are produced for underground installations and, therefore, require
trenching, which is done by unaffiliated installation contractors. Generally,
sales of the Company's piping systems tend to be lower during the winter months,
due to weather constraints over much of the country. In the fiscal year ended
January 31, 2003, no single customer accounted for more than 10 percent of the
net sales of the Company's piping systems.
The Company's leak detection and location systems and its secondary containment
piping systems are used primarily by operators of military and commercial
airport fueling systems, oil refineries, pharmaceutical companies, chemical
companies, and in museums, dry storage areas, and tunnels. They are also used
for water detection by internet service providers, application service
providers, and web hosts, as well as financial, telecommunication and other
electronic service companies. The Company's district heating and cooling systems
are used primarily at prisons, housing developments, military bases,
cogeneration plants, hospitals, industrial locations and college campuses. The
Company believes many district heating and cooling systems in place are 30 to 50
years old and ready for replacement. Replacement of district heating and cooling
systems is often motivated by the increased cost of operating older systems due
to leakage and/or heat loss. The primary users of the Company's insulated flow
lines are the major oil companies, gas companies and other providers of mineral
resources.
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Marketing. The customer base for the Company's piping systems products is
industrially and geographically diverse. The Company employs a national sales
manager and regional sales managers who use and assist a network of
approximately 85 independent manufacturers' representatives, none of whom sells
products that are competitive with the Company's piping systems.
Patents, Trademarks and Approvals. The Company owns several patents covering the
features of its piping and electronic leak detection systems, which expire
commencing in 2006. In addition, the Company's leak detection system is listed
by Underwriters Laboratories and the U.S. EPA and is approved by Factory Mutual
and the Federal Communications Commission. The Company is also approved as a
supplier of underground district heating systems under the federal government
guide specifications for such systems. The Company owns numerous trademarks
connected with its piping systems business. In addition to Perma-Pipe(R), the
Company owns other trademarks for its piping and leak detection systems
including the following: Chil-Gard(R), Double-Pipe(R), Double-Quik(R),
Escon-A(R), Ferro-Shield(R), FluidWatch(R), Galva-Gard(R), Hi Gard(R),
Poly-Therm(R), Pal-AT(R), Ric-Wil(R), Ric-Wil Dual Gard(R), Stereo-Heat(R),
Safe-T-Gard(R), Therm-O-Seal(R), Uniline(R), LiquidWatch(R), TankWatch(R),
PalCom(R), Xtru-therm(R), Ultra-Pipe(R), PEX-GARD(R), and ULTRA-THERM(R). The
Company also owns United Kingdom trademarks for Poly-Therm(R), Perma-Pipe(R) and
Ric-Wil(R), and a Canadian trademark for Ric-Wil(R).
Backlog. As of January 31, 2003, the dollar amount of backlog (uncompleted firm
orders) for piping and leak detection systems was $15,063,000, substantially all
of which is expected to be completed in 2003. As of January 31, 2002, the amount
of backlog was $14,393,000.
Raw Materials and Manufacturing. The basic raw materials used in the production
of the Company's piping systems products are pipes and tubes made of carbon
steel, alloy and plastics and various chemicals such as polyols, isocyanate,
polyester resin, polyethylene and fiberglass, mostly purchased in bulk
quantities. Although such materials are generally readily available, there may
be instances when any of these materials could be in short supply. The Company
believes supplies of such materials are adequate to meet current demand.
The sensor cables used in the Company's leak detection and location systems are
manufactured to the Company's specifications by companies regularly engaged in
the business of manufacturing such cables. The Company owns patents for some of
the features of its sensor cables. The Company assembles the monitoring
component of the leak detection and location system from standard components
purchased from many sources. The Company's proprietary software is installed in
the system on a read-only memory chip.
The Company's manufacturing processes for its piping systems include equipment
and techniques to fabricate piping systems from a wide variety of materials,
including carbon steel, alloy and copper piping, and engineered thermoplastics
and fiberglass-reinforced polyesters and epoxies. The Company uses
computer-controlled machinery for electric plasma metal cutting, filament
winding, pipe coating, insulation foam and protective jacket application, pipe
cutting and pipe welding. The Company employs skilled workers for carbon steel
and alloy welding to various code requirements. The Company is authorized to
apply the American Society of Mechanical Engineers code symbol stamps for
unfired pressure vessels and pressure piping. The Company's inventory includes
bulk resins, chemicals and various types of pipe, tube, insulation, pipe
fittings and other components used in its products. The Company maintains a
quality assurance program involving lead worker sign-off of each piece at each
workstation, statistical process control, and nondestructive testing protocols.
Competition. The piping system products business is highly competitive. The
Company believes its competition in the district heating and cooling market
consists of two other national companies, Rovanco Piping Systems, Inc. and
Thermacor Process, Inc., as well as numerous regional competitors. The Company's
secondary containment piping systems face a wide range of competitors in the
district heating and cooling market, including Asahi/America and GF Plastics
Systems. The Company's oil and gas gathering flow lines face worldwide
competition, including Bredero-Price, a subsidiary of Shaw Industries, Inc.;
Balmoral of UK; and Logstor Rohr of Denmark. In addition to factory-fabricated
systems of the type sold by the Company, the Company competes with district
heating and cooling systems and secondary containment systems manufactured on
the job site by contractors and sellers of component parts of systems. Products
competitive with the Company's leak detection and location systems include: (1)
cable-based systems manufactured by the TraceTek Division of Raychem, a
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subsidiary of Tyco Industries; (2) linear gaseous detector systems manufactured
by Tracer Technologies and Arizona Instrument Corp.; and (3) probe systems
manufactured by Redjacket, as well as several other competitors that provide
probe systems for the service station and hydrocarbon leak detection industries.
The Company believes that price, quality, service and a comprehensive product
line are the key competitive factors in the Company's Piping Systems Business.
The Company believes it has a more comprehensive line of piping systems products
than any of its competitors. Certain competitors of the Company have cost
advantages as a result of manufacturing a limited range of products. Some of the
Company's competitors have greater financial resources than the Company.
Government Regulation. The demand for the Company's leak detection and location
systems and secondary containment piping systems is driven primarily by federal
and state environmental regulation with respect to hazardous waste. The Federal
Resource Conservation and Recovery Act requires, in some cases, that the
storage, handling and transportation of certain fluids through underground
pipelines feature secondary containment and leak detection. The National
Emission Standard for Hydrocarbon Airborne Particulates requires reduction of
airborne volatile organic compounds and fugitive emissions. Under this
regulation, many major refineries are required to recover fugitive vapors and
dispose of the recovered material in a process sewer system, which then becomes
a hazardous secondary waste system that must be contained. Although there can be
no assurances as to the ultimate effects of these governmental regulations, the
Company believes they may increase the demand for its piping systems products.
Industrial Process Cooling Equipment Business
Products and Services. The Company engineers, designs and manufactures coolers
for industrial purposes. The Company's cooling products include: (i) chillers
(portable and central); (ii) cooling towers; (iii) plant circulating assemblies;
(iv) hot water, hot oil, and negative pressure temperature controllers;
(v) water treatment equipment and various other accessories; (vi) specialty
cooling devices for printing presses and ink management; and (vii) replacement
parts and accessories relating to the foregoing products. The Company's cooling
products are used to optimize manufacturing productivity by quickly removing
heat from manufacturing processes. The Company combines chillers and/or cooling
towers with plant circulating systems to create plant-wide systems that account
for a large portion of its business. The Company specializes in customizing
cooling systems and their computerized controls according to customer
specifications.
The principal markets for the Company's cooling products are the thermoplastics
processing and the printing industries. The Company also sells its products to
original equipment manufacturers, to other cooling manufacturers on a private
branded basis and to manufacturers in the laser, metallizing, and machine tool
industries.
Chillers. Chillers are refrigeration units designed to provide cool water to a
process for the purpose of removing heat from the process and transferring that
heat to an area where it can be dissipated. This heat is either dissipated using
air (air-cooled chillers) or water (water-cooled chillers). Water-cooled
chillers use a cooling tower to transfer the heat from the chiller using water
and then releasing the heat to the atmosphere with the cooling tower.
The Company believes that it manufactures the most complete line of chillers
available in its primary markets. The Company's line of portable chillers is
available from 1/2 horsepower to 40 horsepower. It incorporates a microprocessor
capable of computer communications to standard industry protocols. While
portable chillers are considered to be a commodity product by many customers,
the Company believes that its units enable it to provide the customer with
quality, features, customization and other benefits at a competitive price.
Central chillers are used for plant-wide cooling and, while some models
incorporate their own pump and tank, most are sold with separate pumping systems
that are usually attached to reservoirs. The Company is currently the only
manufacturer that offers several types of central water-cooled chillers. These
chillers are distinguished by the manner in which the compressor (refrigerant
pump) and the evaporator (heat exchanger water-to-refrigerant) are used in the
chiller. These chillers also use uniquely programmed logic controller controls
capable of handling either the chillers only or they can be programmed to handle
the entire plant cooling system based on customer-plant demand. The Company
7
believes that the ability to offer these chiller systems provides it with a
unique, total cooling approach concept sales advantage. The Company's central
chillers are available from 10 horsepower to 200 horsepower per module.
Cooling Towers. A cooling tower is essentially a cabinet with heat transfer fill
media in which water flows down across the fill while air is pulled up through
the fill. Cooling takes place by evaporation. Cooling towers are located
outdoors and are designed to provide water at a temperature of approximately
85(Degree)F to remove heat from water-cooled chillers, air compressors,
hydraulic oil heat exchangers and other processes that can effectively be cooled
in this manner.
The Company markets two lines of cooling towers. The FT series towers were
introduced in 1984 and at the time were the first fiberglass cooling towers to
be sold in the United States. The cabinets for these towers are imported from
Taiwan and are available in sizes ranging from 15 to 120 tons. (One tower ton
equals 15,000 BTU's/hour of heat removal.) The FC fiberglass tower line, which
is designed and engineered by the Company, is available from 100 to 240 tons.
Plant Circulating Systems. The Company manufactures and markets a variety of
tanks in various sizes with pumps and piping arrangements that use alarms and
other electrical options. Thus, the Company can provide a plant circulating
system which is unique and customized to meet the individual customer's needs.
These plant circulating systems are used as an integral part of central tower
and chiller systems. This product line was expanded in 1996 with the
introduction of stainless steel and/or fiberglass reinforced polyester tanks.
Temperature Control Units. Most of the Company's temperature control units are
used by injection molders of plastic parts and by printing companies. They are
designed to remove heat from the molds for the purpose of improving part
quality. More than 90 percent of the temperature control units sold in the
industry are water units, while the remaining units use oil as the heat transfer
medium. Boe-Therm A/S ("Boe-Therm"), a wholly owned Danish subsidiary of the
Company, manufactures a complete line of temperature control units, including
oil units and negative pressure units. The Company markets Boe-Therm's oil and
negative pressure units in the United States under its own name.
Water Treatment Equipment and Accessories. Sold as an accessory to cooling tower
systems, water treatment equipment must be used to protect the equipment that is
being cooled. The Company sells units manufactured to its specifications by a
supplier that provides all the equipment and chemicals needed to properly treat
the water. While a relatively small part of the Company's business, this
arrangement allows the Company to offer a complete system to its cooling
products customers. In addition, the Company provides other items to complement
a system, principally heat exchangers, special valves, and "radiator type"
coolers. These items are purchased from suppliers and usually drop-shipped
directly to customers.
Ink Products. Ink products are products sold specifically for the proper
temperature control and distribution of the ink and cooling solutions used by
printing companies. These include printers of large newspapers, magazines,
forms, etc.
Parts. The Company strives to fill parts orders within 24 hours and sells parts
at competitive margins in order to serve existing customers and to enhance new
equipment sales.
Marketing. In general, the Company sells its cooling products in the domestic
and international thermoplastics and printing markets as well as to
manufacturers of digital video discs ("DVDs") and other non-plastics industries
that require specialized heat transfer equipment.
Domestic thermoplastics processors are the largest market served by the Company,
representing the core of its business.
There are approximately 8,000 companies processing plastic products in the
United States, primarily using injection molding, extrusion, and blow molding
machinery. The Company believes the total U.S. market for water cooling
equipment in the plastics industry is over $100 million annually, and that the
Company is one of the three largest suppliers of such equipment to the plastics
industry. The Company believes that the plastics industry is a mature industry
with growth generally consistent with that of the national economy. Due to the
high plastics content in many major consumer items, such as cars and appliances,
this industry experiences cyclical economic activity. The Company believes that
it is recognized in the domestic plastics market as a quality equipment
8
manufacturer and that it will be able to maintain current market share, with
potential to increase its market share through product development. The
Company's cooling products are sold through independent manufacturers'
representatives on an exclusive-territory basis. Seventeen agencies are
responsible for covering the United States and are supported by three regional
managers employed by the Company.
Sales of the Company's cooling products outside the United States have mainly
been in Latin America. Some international sales have been obtained elsewhere as
a result of the assembly of complete worldwide PET (plastic bottle) plants by
multinational companies. The Company believes that it has a significant
opportunity for growth due to the high quality of its equipment and the fact
that it offers complete system design. Many United States competitors do not
provide equipment outside the U.S. and, while European competitors sell
equipment in Latin America, the Company believes that they lack system design
capabilities and have a significant freight disadvantage. The Company markets
its cooling products through a combination of manufacturers' representatives,
distributors and consultants managed by a regional manager.
The Company has increased sales to non-plastics industries that require
specialized heat transfer equipment, usually sold to end users as a package by
the supplier of the primary equipment, particularly the laser industry,
metallizing industry, and machine tool industry. The Company believes that the
size of this market is more than $200 million annually. The original equipment
manufacturer generally distributes products to the end user in these markets.
Trademarks. The Company has registered the trademarks Thermal Care(R), AWS(R)
and Applied Web Systems(R).
Backlog. As of January 31, 2003, the dollar amount of backlog (uncompleted firm
orders) for industrial process cooling equipment was $3,521,000, substantially
all of which is expected to be completed in 2003. As of January 31, 2002, the
amount of backlog was $3,548,000.
Raw Materials and Manufacturing. The Company's domestic production and inventory
storage facility occupies approximately 88,000 square feet. The plant layout is
designed to facilitate movement through multiple work centers. The Company uses
an enterprise resource planning system installed in 2001 to support its sales,
manufacturing production, inventory, customer relations and accounting
operations. The status of a customer order at any given moment can be determined
through the system.
The Company uses prefabricated sheet metal and subassemblies manufactured by
both Thermal Care and outside vendors for temperature controller fabrication.
The production line is self-contained to reduce handling required to assemble,
wire, test, and crate the units for shipment.
FT towers up to 120 tons in capacity are assembled to finished goods inventory,
which allows the Company to meet quick delivery requirements. FT cooling towers
are manufactured using fiberglass and hardware components purchased from a
Taiwanese manufacturer, which is the Company's sole source for such products.
The wet deck is cut from bulk fill material and installed inside the tower.
Customer-specified options can be added at any time.
We believe that the Company's access to sheet metal, subassemblies, fiberglass
and hardware components is adequate.
The FC towers are designed and engineered by the Company. Two different cabinet
sizes of the FC tower account for eight different model variations. All FC
cooling towers are assembled at the Company's Niles facility.
The Company assembles all plant circulating systems by fabricating the steel to
meet the size requirements and adding purchased components to meet customers'
specifications. Electrical control boxes assembled in the electrical panel shop
are then added to the tank and hardwired to all electrical components. The
interior of the steel tanks are coated with an immersion service epoxy and the
exterior is painted in a spray booth. The Company also sells a fiberglass tank
for nonferrous applications.
Portable chillers are assembled utilizing components both manufactured by the
Company and supplied by outside vendors. Portable chillers are assembled using
refrigeration components, a non-corrosive tank, hose, and pre-painted sheet
metal. Many of the components used in these chillers are fabricated as
9
subassemblies and held in inventory. Once the water and refrigeration components
have been assembled, the unit is moved to the electrical department for the
addition of control subassemblies and wiring. The chillers are then evacuated,
charged with refrigerant and tested under fully loaded conditions. The final
production step is to clean, insulate, label, and crate the chiller for
shipment.
Central chillers are manufactured to customer specifications. Many of the
components are purchased to the job requirements and production is planned so
that subassemblies are completed to coincide with the work center movements.
After mechanical and electrical assembly, the chiller is evacuated, charged with
refrigerant and tested at full and partial load conditions. The equipment is
then insulated and prepared for painting. The final production step is to
complete the quality control inspection and prepare the unit for shipment.
Competition. The Company believes that there are about 15 competitors selling
cooling equipment in the domestic plastics market. The Company further believes
that three manufacturers, including the Company, collectively share
approximately 75 percent of the domestic plastics cooling equipment market. Many
international customers, with relatively small cooling needs, are able to
purchase small refrigeration units (portable chillers) that are manufactured in
their respective local markets at prices below that which the Company can offer
due to issues such as freight cost and customs duties. However, such local
manufacturers often lack the technology and products needed for plant-wide
cooling systems. The Company believes that its reputation for producing quality
plant-wide cooling products results in a significant portion of the Company's
business in this area.
The Company believes that price, quality, service and a comprehensive product
line are the key competitive factors in its Industrial Process Cooling Equipment
Business. The Company believes that it has a more comprehensive line of cooling
products than any of its competitors. Certain competitors of the Company have
cost advantages as a result of manufacturing in non-union shops and offering a
limited range of products. Some of the Company's competitors may have greater
financial resources than the Company.
Government Regulation. The Company does not expect compliance with federal,
state and local provisions regulating the discharge of materials into the
environment or otherwise relating to the protection of the environment to have a
material effect on capital expenditures, earnings or the Company's competitive
position. Management is not aware of the need for any material capital
expenditures for environmental control facilities for the foreseeable future.
Regulations, promulgated under the Federal Clean Air Act, prohibit the
manufacture and sale of certain refrigerants. The Company does not use these
refrigerants in its products. The Company expects that suitable refrigerants
conforming to federal, state and local laws and regulations will continue to be
available to the Company, although no assurances can be given as to the ultimate
effect of the Clean Air Act and related laws on the Company.
Employees
As of March 31, 2003, the Company had 708 full-time employees, 77 of whom were
engaged in sales and marketing, 184 of whom were engaged in management,
engineering and administration, and the remainder of 447 was engaged in
production. Hourly production employees of the Company's Filtration Products
Business in Winchester, Virginia are covered by a collective bargaining
agreement with the International United Automobile, Aerospace & Agricultural
Implement Workers of America, which expires in October 2003. Most of the
production employees of the Company's Industrial Process Cooling Equipment
Business are represented by two unions, the United Association of Journeymen and
Apprentices of the Plumbing and Pipefitting Industry of the United States
(UAJAPPI) and the International Brotherhood of Electrical Workers Union (IBEW).
The collective bargaining agreement for UAJAPPI is scheduled to expire on June
1, 2003, but will automatically continue to be in effect until terminated. The
collective bargaining agreement for IBEW expires on May 31, 2004. The collective
bargaining agreement of the Piping Systems Business in Lebanon, Tennessee, with
the Metal Trades Division of UAJAPPI expires in March 2004.
10
Executive Officers of the Registrant
The following table sets forth information regarding the executive officers of
the Company as of March 31, 2003:
Executive Officer of
the Company or its
Age Position Predecessors Since
- ------------------- --- ---------------------------------------- ---------------------
David Unger 68 Chairman of the Board of Directors, 1972
President and Chief Executive Officer
Henry M. Mautner 76 Vice Chairman of the Board of Directors 1972
Bradley E. Mautner 47 Executive Vice President and Director 1994
Gene K. Ogilvie 63 Vice President and Director 1969
Fati A. Elgendy 54 Vice President and Director 1990
Don Gruenberg 60 Vice President and Director 1980
Michael D. Bennett 58 Vice President, Chief Financial Officer, 1989
Secretary and Treasurer
Thomas A. Benson 49 Vice President 1988
Billy E. Ervin 57 Vice President 1986
Robert A. Maffei 54 Vice President 1987
Herbert J. Sturm 52 Vice President 1977
All of the officers serve at the discretion of the Board of Directors.
David Unger has been employed by the Company and its predecessors in various
executive and administrative capacities since 1958, served as President of
Midwesco, Inc. from 1972 through January 1994 and was Vice President from
February 1994 through December 1996. He was a director of Midwesco, Inc. from
1972 through December 1996, and served that company in various executive and
administrative capacities from 1958 until the consummation of the merger of
Midwesco, Inc. into MFRI, Inc. (the "Midwesco Merger"). He is a director of the
company formed to succeed to the non-Thermal Care businesses of Midwesco, Inc.
Henry M. Mautner has been employed by the Company and its predecessors in
various executive capacities since 1972, served as chairman of Midwesco, Inc.,
from 1972 through December 1996, and served that company in various executive
and administrative capacities from 1949 until the consummation of the Midwesco
Merger. Since the consummation of the Midwesco Merger, he has served as the
chairman of the company formed to succeed to the non-Thermal Care businesses of
Midwesco, Inc. Mr. Mautner is the father of Bradley E. Mautner.
Bradley E. Mautner has served as Executive Vice President of the Company since
December 2002, was Vice President of the Company from December 1996 to December
2002 and has been a director of the Company since 1995. From 1994 to the
consummation of the Midwesco Merger, he served as President of Midwesco, Inc.
and since December 30, 1996 he has served as President of the company formed to
succeed to the non-Thermal Care businesses of Midwesco, Inc. Bradley E. Mautner
is the son of Henry M. Mautner.
Gene K. Ogilvie has been employed by the Company and its predecessors in various
executive capacities since 1969. He has been general manager of Midwesco Filter
or its predecessor since 1980 and President and Chief Operating Officer of
Midwesco Filter since 1989. From 1982 until the consummation of the Midwesco
Merger, he served as Vice President of Midwesco, Inc.
11
Fati A. Elgendy, who has been associated with the Company and its predecessors
since 1978, was Vice President, Director of Sales of the Perma-Pipe Division of
Midwesco, Inc. from 1990 to 1991. In 1991, he became Executive Vice President of
the Perma-Pipe Division, a position he continued to hold after the acquisition
by the Company to form Perma-Pipe. In March 1995, Mr. Elgendy became President
and Chief Operating Officer of Perma-Pipe.
Don Gruenberg has been employed by the Company and its predecessors in various
executive capacities since 1974, with the exception of a period in 1979-1980. He
has been general manager of Thermal Care or its predecessor since 1980, and was
named President and Chief Operating Officer of Thermal Care in 1988. He has been
a Vice President and director of the Company since December 1996.
Michael D. Bennett has served as the Chief Financial Officer and Vice President
of the Company and its predecessors since August 1989.
Thomas A. Benson has served as Vice President Sales and Marketing of Thermal
Care since May 1988.
Billy E. Ervin has been Vice President, Director of Production of Perma-Pipe
since 1986.
Robert A. Maffei has been Vice President, Director of Sales and Marketing of
Perma-Pipe since August 1996. He had served as Vice President, Director of
Engineering of Perma-Pipe since 1987 and was an employee of Midwesco, Inc. from
1986 until the acquisition of Perma-Pipe by the Company in 1994.
Herbert J. Sturm has served the Company since 1975 in various executive
capacities including Vice President, Materials and Marketing Services of
Midwesco Filter.
Item 2. PROPERTIES
The Company's Filtration Products Business has three production facilities. The
Winchester, Virginia facility has a total area of 164,500 square feet and is
located on 15 acres in Winchester, Virginia. The building occupied by TDC Filter
Manufacturing has a total area of 130,700 square feet and is located in Cicero,
Illinois. The Company currently leases a 22,800 square foot facility in Nakskov,
Denmark and has under construction a 48,900 square-foot facility on a 3.5-acre
site, also in Nakskov, that is scheduled for completion in June 2003. The
Company owns the land and buildings in Winchester, Virginia and Cicero, Illinois
and will own, upon occupancy in June 2003, the land and buildings in Nakskov,
Denmark.
The production facilities for the Company's piping systems products are located
in Lebanon, Tennessee and New Iberia, Louisiana. The Lebanon facility is located
on approximately 24 acres and is housed in five buildings totaling 152,000
square feet, which contain manufacturing, warehouse and office facilities, as
well as a quality assurance laboratory. The Company owns the buildings and the
land for the Tennessee facility. The New Iberia production facility is comprised
of two buildings with a total area of 12,000 square feet, which contain
automated manufacturing and warehouse facilities. In September 2000, the Company
purchased the buildings and signed a long-term lease for the land, which lease
expires in 2017.
The Company's principal executive offices and the production facilities for the
Company's Industrial Process Cooling Equipment Business are located in a 131,000
square foot building on 8.1 acres in Niles, Illinois, which building and land
are owned by the Company. The Industrial Process Cooling Equipment Business uses
approximately 88,000 square feet of this facility for production and offices.
The Industrial Process Cooling Equipment Business also has a 20,000 square foot
manufacturing and office facility in Assens, Denmark, which was purchased as
part of the Boe-Therm acquisition in June 1998.
The Company believes its properties and equipment are well maintained and in
good operating condition and that productive capacities will generally be
adequate for present and currently anticipated needs.
Compliance with environmental regulations by the Company in its manufacturing
operations has not had, and is not anticipated to have, a material effect on the
capital expenditures, earnings or competitive position of the Company.
12
Item 3. LEGAL PROCEEDINGS
None
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY
AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock is traded on the Nasdaq National Stock Market under
the symbol "MFRI." The following table sets forth, for the periods indicated,
the high and low sale prices as reported by the Nasdaq National Market for 2001
and for 2002.
2001 High Low
First Quarter.......................................... $2.94 $2.28
Second Quarter......................................... 3.60 2.40
Third Quarter.......................................... 3.35 2.60
Fourth Quarter......................................... 3.42 2.88
2002 High Low
First Quarter.......................................... $3.50 $2.90
Second Quarter......................................... 3.22 1.92
Third Quarter.......................................... 2.35 1.66
Fourth Quarter......................................... 1.80 1.50
As of January 31, 2003, there were approximately 100 stockholders of record.
The Company has never declared or paid a cash dividend and does not anticipate
paying cash dividends on its Common Stock in the foreseeable future. Management
presently intends to retain all available funds for the development of the
business and for use as working capital. Future dividend policy will depend upon
the Company's earnings, capital requirements, financial condition and other
relevant factors. The Company's line of credit agreement and note agreements
contain certain restrictions on the payment of dividends.
Item 6. SELECTED FINANCIAL DATA
The following selected financial data for the Company for the years 2002, 2001,
2000, 1999 and 1998 are derived from the financial statements of the Company.
The information set forth below should be read in conjunction with "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
included herein in response to Item 7 and the consolidated financial statements
and related notes included herein in response to Item 8.
13
2002 2001 2000 1999 1998
(In thousands, except per share information) Fiscal Year ended January 31,
--------------------------------------------------------
2003 2002 2001 2000 1999
-------- -------- -------- -------- --------
Statements of Operations Data:
Net sales $122,897 $125,534 $149,533 $137,170 $121,960
Income from operations 993 2,172 4,920 6,980 3,831
Income (loss) before extraordinary items and
cumulative effect of accounting change (745) (374) 1,126 2,401 336
Net income (loss) (11,528) (374) 1,126 2,401 336
Net income (loss) per share - basic (2.34) (0.08) 0.23 0.49 0.07
Net income (loss) per share - diluted (2.34) (0.08) 0.23 0.49 0.07
(In thousands) As of January 31,
--------------------------------------------------------
2003 2002 2001 2000 1999
-------- -------- -------- -------- --------
Balance Sheet Data:
Total assets $ 78,976 $ 92,529 $104,785 $ 97,776 $ 97,619
Long-term debt(excluding capital leases), less
current portion 29,195 20,883 36,073 31,357 33,924
Capitalized leases, less current portion 66 217 348 2,398 2,368
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The statements contained under the caption "Management's Discussion and Analysis
of Financial Condition and Results of Operations" and certain other information
contained elsewhere in this annual report, which can be identified by the use of
forward-looking terminology such as "may," "will," "expect," "continue,"
"remains," "intend," "aim," "should," "prospects," "could," "future,"
"potential," "believes," "plans" and "likely" or the negative thereof or other
variations thereon or comparable terminology, constitute "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and
are subject to the safe harbors created thereby. These statements should be
considered as subject to the many risks and uncertainties that exist in the
Company's operations and business environment. Such risks and uncertainties
could cause actual results to differ materially from those projected. These
uncertainties include, but are not limited to, economic conditions, market
demand and pricing, competitive and cost factors, raw material availability and
prices, global interest rates, currency exchange rates, labor relations and
other risk factors.
The Company's fiscal year ends on January 31. Years described as 2002, 2001 and
2000 are the fiscal years ended January 31, 2003, 2002 and 2001, respectively.
Balances described as balances as of 2002 and 2001 are balances as of January
31, 2003 and 2002, respectively.
14
RESULTS OF OPERATIONS
MFRI, Inc.
2002 Compared to 2001
Net sales of $122,897,000 in 2002 decreased 2.1% from $125,534,000 in 2001.
Sales declined in the Filtration Products and the Piping Systems businesses due
to the weak economy and loss of sales from Perma-Pipe Services Limited ("PPSL"),
a European subsidiary that was sold in 2001, which was partially offset by
increased sales from the newly-acquired product line associated with the
purchase of a business by acquiring specified assets and assuming specified
liabilities by the Industrial Process Cooling Equipment business. Gross profit
of $26,940,000 in 2002 increased 2.3% from $26,332,000 in 2001. Gross margin
increased to 21.9 percent of net sales in 2002 from 21.0 percent in 2001.
Overall gross margin improved, primarily the result of Thermal Care's product
mix due to the addition of a new product line and improved manufacturing
efficiencies in Perma-Pipe, partially offset by competitive pricing pressures
and the unfavorable effect of spreading fixed manufacturing costs over lower
production volumes.
Selling, general and administrative expenses increased 7.4% to $25,947,000 in
2002 from $24,160,000 in 2001 primarily due to additional sales, engineering and
administrative people associated with the newly-acquired product line
(approximately $300,000), increase in outside professional services, bank fees
(approximately ($100,000) and loan cost amortization (approximately $125,000)
from the debt restructuring and increased legal and settlement costs mostly
related to a warranty claim and a patent dispute (aproximately $800,000), which
were partially offset by the elimination of expenses related to PPSL and by
cost-reduction measures that were implemented in the second half of 2001.
Loss before extraordinary items and cumulative effect of an accounting change
was $745,000 or $0.15 per common share, compared with a net loss of $374,000 or
$0.08 per common share in 2001. This loss is due to decreased sales and
increased selling, general and administrative expenses.
The 2002 net loss of $11,528,000 or $2.34 per common share is mainly the result
of an adjustment for a write-off of impaired goodwill and the operating results
described above. In February 2002, the Company adopted Statement of Financial
Accounting Standards No. 142, which requires that goodwill be analyzed for
impairment on an annual basis. The Company's analysis of its goodwill in 2002
resulted in a loss on impairment of $11,849,000 or $10,739,000 net of a tax
benefit of $1,110,000.
2001 Compared to 2000
Net sales of $125,534,000 in 2001 decreased 16.0% from $149,533,000 in 2000.
Sales declined in all business segments due to the economic recession. Gross
profit of $26,332,000 in 2001 decreased 18.0% from $32,121,000 in 2000. Gross
margin decreased slightly to 21.0 percent of net sales in 2001 from 21.5 percent
in 2000. Overall gross profit in all business segments was adversely impacted by
lower sales, partially offset by gross margin increase in the Piping Systems
Business due to improved plant efficiency and favorable product mix.
Selling, general and administrative expenses decreased 11.2% to $24,160,000 in
2001 from $27,201,000 in 2000 primarily due to lower sales commissions and cost
reduction measures that were implemented during 2001.
The 2001 net loss of $374,000 or $0.08 per common share was a decrease of 133%
from a net income of $1,126,000 or $0.23 per common share in 2000 mainly due to
decreased gross profit as discussed above and $204,000 loss on the divestiture
of PPSL.
The Company's operating results by segment are discussed in more detail below.
Filtration Products Business
The Company's Filtration Products Business is characterized by a large number of
relatively small orders and a limited number of large orders, typically from
electric utilities and original equipment manufacturers. In 2002, the average
order amount was approximately $3,519. The timing of large orders can have a
material effect on the comparison of net sales and gross profit from period to
period. Large orders generally are highly competitive and result in a lower
gross margin. In 2002, 2001 and 2000, no customer accounted for 10 percent or
more of the net sales of the Company's filtration products and services.
15
The Company's Filtration Products Business, to a large extent, is dependent on
governmental regulation of air pollution at the federal and state levels. The
Company believes that growth in the sale of its filtration products and services
will be materially dependent on continued enforcement of environmental laws such
as the Clean Air Act Amendments. Although there can be no assurances as to what
ultimate effect, if any, the Clean Air Act Amendments will have on the Company's
Filtration Products Business, the Company believes that the Clean Air Act
Amendments are likely to have a long-term positive effect on demand for the
Company's filtration products and services.
- ------------------------------------------------------------------------------------------
Filtration Products Business
- ----------------------------
% Increase
(In thousands) (Decrease)
------------------
2002 2001 2000 2002 2001
-------- -------- -------- -------- --------
Net sales $53,174 $54,434 $64,950 (2.3%) (16.2%)
Gross profit 9,498 10,063 11,844 (5.6%) (15.0%)
As a percentage of net sales 17.9% 18.5% 18.2%
Income from operations 400 2,168 3,026 (81.5%) (28.4%)
As a percentage of net sales 0.8% 4.0% 4.7%
- ------------------------------------------------------------------------------------------
2002 Compared to 2001
Net sales decreased 2.3% to $53,174,000 in 2002 from $54,434,000 in 2001. This
decrease is the result of lower sales in fabric filter elements and the products
and services related to collection systems, partially offset by significant
growth in pleated filter element sales, particularly in the international
market.
Gross profit as a percent of net sales decreased to 17.9% in 2002 from 18.5% in
2001, due to continuing competitive pricing pressure and manufacturing
inefficiencies caused by the sales volume decline.
Selling expense increased to $5,598,000 or 10.5% of net sales in 2002 from
$4,865,000 or 8.9% of net sales in 2001. The dollar and percentage increases are
primarily due to aggressive marketing programs that did not generate the
expected sales volume.
General and administrative expense increased from $3,030,000 or 5.6 percent of
net sales in 2001 to $3,500,000 or 6.6 percent of net sales in 2002, primarily
due to legal expenses associated with a patent-infringement suit that has been
settled and a warranty claim dispute (approximately $800,000), partially offset
by cost-reduction measures that were implemented in the second half of 2001.
2001 Compared to 2000
Net sales decreased 16.2% to $54,434,000 in 2001 from $64,950,000 in 2000. This
decrease is the result of lower sales in all product categories, particularly in
fabric filter elements in the domestic market, where we believe the market
experienced a decline of 20% to 30%.
Gross profit as a percent of net sales increased to 18.5% in 2001 from 18.2% in
2000, but remains historically depressed due to continuing competitive pricing
pressure and manufacturing inefficiencies caused by the volume decline.
16
Selling expense in 2001 decreased to $4,865,000 from $5,396,000 in 2000, but
increased from 8.3 percent of net sales in 2000 to 8.9 percent of net sales in
2001. The dollar decrease is primarily due to lower sales-volume-related selling
expenses.
General and administrative expense decreased from $3,422,000 or 5.3 percent of
net sales in 2000 to $3,030,000 or 5.6 percent of net sales in 2001, primarily
due to cost reduction measures.
Piping Systems Business
Generally, the Company's leak detection and location systems have higher profit
margins than its district heating and cooling ("DHC") piping systems and
secondary containment piping systems. The Company has benefited from continuing
efforts to have its leak detection and location systems included as part of the
customers' original specifications for construction projects.
Although demand for the Company's secondary containment piping systems is
generally affected by the customer's need to comply with governmental
regulations, purchases of such products at times may be delayed by customers due
to adverse economic factors. In 2002, 2001 and 2000, no customer accounted for
10 percent or more of net sales of the Company's Piping Systems Business.
The Company's Piping Systems Business is characterized by a large number of
small and medium orders and a small number of large orders. The average order
amount for 2002 was approximately $38,000. The timing of such orders can have a
material effect on the comparison of net sales and gross profit from period to
period. Most of the Company's piping systems are produced for underground
installations and, therefore, require trenching, which is performed directly for
the customer by installation contractors unaffiliated with the Company.
Generally, sales of the Company's piping systems tend to be lower during the
winter months, due to weather constraints over much of the country.
- ------------------------------------------------------------------------------------------
Piping Systems Business
- -----------------------
% Increase
(In thousands) (Decrease)
------------------
2002 2001 2000 2002 2001
-------- -------- -------- -------- --------
Net sales $44,037 $49,417 $54,809 (10.9%) (9.8%)
Gross profit 10,187 10,208 10,784 (0.2%) (5.3%)
As a percentage of net sales 23.1% 20.7% 19.7%
Income from operations 4,321 3,347 3,085 29.1% 8.5%
As a percentage of net sales 9.8% 6.8% 5.6%
- ------------------------------------------------------------------------------------------
2002 Compared to 2001
Net sales decreased 10.9% to $44,037,000 in 2002 from $49,417,000 in 2001,
mainly due to a decrease in DHC business, a sale of $2,000,000 for a
high-temperature oil-recovery project in Canada in 2001, and the loss of sales
of $1,766,000 from PPSL, a subsidiary that was sold in 2001.
Gross profit as a percent of net sales increased from 20.7% in 2001 to 23.1% in
2002, mainly as a result of improved manufacturing efficiencies and elimination
of lower-margin sales generated by PPSL in 2001.
17
Selling expense decreased from $1,849,000 in 2001 to $1,430,000 in 2002,
primarily due to the decrease in sales-volume-related expenses, cost-sharing
with a joint venture for oil and gas and a decrease in selling expense by
$105,000 for PPSL. Selling expense as a percent of net sales decreased from 3.7%
in 2001 to 3.2% in 2002.
General and administrative expense decreased from $5,012,000 or 10.1 percent of
net sales in 2001 to $4,435,000 or 10.1 percent of net sales in 2002. The dollar
decrease is mainly due to the elimination of expenses related to PPSL, partially
offset by higher legal expense.
2001 Compared to 2000
Net sales decreased 9.8% to $49,417,000 in 2001 from $54,809,000 in 2000, mainly
due to decreased sales of leak detection systems, a slight decrease in DHC
business, and loss of sales of $1,063,000 from SZE Hagenuk GmbH, a subsidiary
that was sold in 2000.
Gross profit as a percent of net sales increased from 19.7% in 2000 to 20.7% in
2001, mainly as a result of improved manufacturing efficiencies.
Selling expense decreased from $2,858,000 in 2000 to $1,849,000 in 2001,
primarily due to the decrease in sales-volume-related expenses and eliminated
selling expenses by $716,000 for SZE Hagenuk GmbH. Selling expense as a percent
of net sales decreased from 5.2% in 2000 to 3.7% in 2001.
General and administrative expense increased from $4,841,000 or 8.8 percent of
net sales in 2000 to $5,012,000 or 10.1 percent of net sales in 2001. The
increase is mainly due to increases in executive incentives and legal expense,
partially offset by eliminated expenses in 2001 due to the sale of SZE Hagenuk
GmbH in 2000.
Industrial Process Cooling Equipment Business
The Company's Industrial Process Cooling Equipment Business is characterized by
a large number of relatively small orders and a limited number of large orders.
In 2002, the average order amount was approximately $3,632. Large orders are
generally highly competitive and result in lower profit margins. In 2002 and in
2001, no customer accounted for 10 percent or more of net sales of the Cooling
Equipment Business. In 2000, sales to Teradyne Inc. were $3,386,000, or 11.4
percent of net sales of the Cooling Equipment Business. In 2002, the Company
purchased a business by acquiring specified assets and assuming specified
liabilities, resulting in a new product line to broaden the industry
penetration. This new product line complements the Cooling Equipment Business
and resulted in sales growth in 2002 over 2001.
- ------------------------------------------------------------------------------------------
Industrial Process Cooling Equipment Business
- ---------------------------------------------
% Increase
(In thousands) (Decrease)
------------------
2002 2001 2000 2002 2001
-------- -------- -------- -------- --------
Net sales $25,686 $21,683 $29,774 18.5% (27.2%)
Gross profit 7,255 6,061 9,493 19.7% (36.1%)
As a percentage of net sales 28.2% 28.0% 31.9%
Income from operations 702 627 2,995 12.0% (79.1%)
As a percentage of net sales 2.7% 2.9% 10.1%
- -------------------------------------------------------------------------------------------
18
2002 Compared to 2001
Net sales increased 18.5% from $21,683,000 in 2001 to $25,686,000 in 2002. The
increase is due to sales from the product line associated with the purchase of a
business by acquiring specified assets and assuming specified liabilities, and
increased demand for temperature control and chiller products.
Gross profit as a percentage of net sales increased to 28.2% in 2002 from 28.0%
in 2001, primarily due to the newly acquired product line.
Selling expense increased from $3,061,000 in 2001 to $3,418,000 in 2002, but
decreased as a percent of net sales from 14.1% in 2001 to 13.3% in 2002. The
increased spending is due to higher commissions expense based on sales volume
and additional sales people (approximately $150,000) associated with the newly
acquired product line.
General and administrative expense increased from $2,372,000 or 10.9% of net
sales in 2001 to $3,136,000 or 12.2% of net sales in 2002. The increase is due
to expenses associated with implementation of a new enterprise resource planning
system that was installed in late 2001 and additional administrative and
engineering people (approximately $150,000) associated with the newly acquired
product line.
2001 Compared to 2000
Net sales decreased 27.2% from $29,774,000 in 2000 to $21,683,000 in 2001. The
decrease resulted from the economic recession in 2001.
Gross profit as a percentage of net sales decreased to 28.0% in 2001 from 31.9%
in 2000, primarily due to product mix.
Selling expense decreased from $3,821,000 in 2000 to $3,061,000 in 2001, but
increased as a percent of net sales from 12.8% in 2000 to 14.1% in 2001. The
dollar decrease is due to a reduction in commissions due to lower sales volume
and a decrease in advertising.
General and administrative expense decreased from $2,677,000 in 2000 to
$2,372,000 in 2001. The decrease is due to staff reduction and related costs as
well as a one-time settlement charge from a product liability claim in 2000.
General and administrative expense as a percent of net sales increased to 10.9%
in 2001 from 9.0% in 2000, mainly due to lower sales.
General Corporate Expense
General corporate expense includes general and administrative expense not
allocated to business segments and interest expense.
2002 Compared to 2001
General corporate expense not allocated to business segments increased 11.6%
from $3,970,000 in 2001 to $4,430,000 in 2002, primarily due to increased
outside professional services, bank fees (approximately $100,000) and loan cost
amortization (approximately $125,000) from debt restructuring. These were
partially offset by decreases in goodwill amortization, management incentives,
building repairs and maintenance.
Interest expense decreased 19.0% from $2,600,000 in 2001 to $2,107,000 in 2002
due to a reduction of net borrowings by $6,804,000 in the fourth quarter of 2001
and slightly lower average cost of borrowing.
2001 Compared to 2000
General corporate expense not allocated to business segments decreased 5.2% from
$4,186,000 in 2000 to $3,970,000 in 2001, primarily due to decrease in
professional services and lower expenses for corporate information services
19
projects, as more resources were devoted to information services projects in the
company's business segments.
Interest expense decreased 11.5% from $2,938,000 in 2000 to $2,600,000 in 2001
due to a reduction of net borrowings by $6,804,000 or 17.4% during the fourth
quarter in 2001, partially offset by increased interest expense from
renegotiated rates on refinancing of remaining borrowings.
Income Taxes
The effective income tax (benefit) rates were (29.5%), (12.6%) and 43.2% in
2002, 2001 and 2000, respectively.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents as of January 31, 2003 were $346,000 compared with
$119,000 at January 31, 2002. Net cash inflows of $2,890,000 generated from
operating activities were used to fund purchases of property, plant and
equipment of $1,185,000, the purchase of a business by acquiring specified
assets and assuming specified liabilities for $500,000, in cash paid to the
seller, and net reductions of long term debt and capitalized lease obligations
by $560,000 and $142,000, respectively.
Net cash provided by operating activities was $2,890,000. Such cash came mainly
from earnings from operations and cash from decreases in accounts receivable and
prepaid expenses and other current assets, partially offset by an increase in
other assets and liabilities and a decrease in accounts payable. Net cash
provided by operating activities was $8,562,000 in 2001, mainly due to earnings
from operations and cash from decreases in accounts receivable and inventories,
partially offset by a decrease in accounts payable and an increase in income
taxes receivable.
Net cash used in investing activities in 2002 was $1,742,000 compared with
$1,894,000 in 2001. Capital expenditures decreased from $3,455,000 in 2001 to
$1,185,000 in 2002. In the current year, the Company purchased a business by
acquiring specified assets and assuming specified liabilities for $500,000 in
cash paid to the seller and also invested $67,000 in a joint venture. In 2002,
proceeds from the sale of property and equipment were $10,000, compared with
$1,380,000 in 2001. The 2001 proceeds mainly resulted from the sale of certain
equipment in Lebanon, Tennessee to a third party in June 2001. The Company
leased back the equipment from the third party purchaser. In 2000, the Company
purchased an 8.1 acre parcel of land with a 131,000-square foot building in
Niles, Illinois, from two significant management stockholders for approximately
$4,438,000. Prior to the purchase, the land and building had been leased from
the two significant stockholders. The purchase price included cash paid of
$1,767,000 and the assumption of a $2,405,000 mortgage note.
Net cash used in financing activities in 2002 was $702,000 compared with net
cash used in financing activities of $6,804,000 in 2001. In 2002, net cash
obtained from borrowings under revolving, term and mortgage loans was
$25,050,000, net repayment of capitalized lease obligations was $142,000 and
repayment of debt was $25,610,000. In 2001, net cash obtained from borrowings
under revolving, term and mortgage loans was $321,000, net repayment of
capitalized lease obligations was $157,000 and repayment of debt was $6,968,000.
The Company's current ratio was 2.1 to 1 at January 31, 2003 and 1.5 to 1 at
January 31, 2002. Debt to total capitalization increased to 54.3% at January 31,
2003 from 45.9% at January 31, 2002.
Financing
On January 29, 2003, the Company obtained a loan from a Danish bank to purchase
a building, in the amount of 1,050,000 Euro, approximately $1,136,000 at the
exchange rate prevailing at the time of the transaction. The loan has a term of
twenty years. The loan bears interest at 6.1 percent with quarterly payments of
$19,000 for both principal and interest.
On July 11, 2002, the Company entered into secured note purchase agreements with
certain institutional investors ("Note Purchase Agreements"). Under the terms of
the Note Purchase Agreements, the Company entered into a five-year $6,000,000
20
term loan replacing prior term loans with an aggregate original principal
balance of $25,000,000 ("Prior Term Loans"). The outstanding principal balance
of the Prior Term Loans at July 11, 2002 was $16,000,000. The Company borrowed
$10,000,000 from its new revolving line of credit from another financial
institution (described below) to pay down this loan from $16,000,000 to
$6,000,000. Interest rates under the Note Purchase Agreements are 12% per annum
if the outstanding principal is greater than $5,000,000 or 10% per annum if the
outstanding principal is $5,000,000 or less. The Company is scheduled to pay
$188,000 in aggregate principal on the last days of March, June, September and
December in each year, commencing on September 30, 2002 and ending on June 30,
2007. In addition, the Company is scheduled to make annual prepayments of excess
cash flow (as defined in the Note Purchase Agreements). Finally, the Loan
Agreement (defined below) and the Note Purchase Agreements permit voluntary
prepayments sufficient to reduce the outstanding term loan principal to
$5,000,000 subject to certain conditions. The Company met such conditions and
made such prepayments on July 31, 2002. At January 31, 2003, the Company was not
in compliance with one covenant contained in the Note Purchase Agreements. The
Company has received a waiver of such non-compliance and an amendment of the
covenant to levels that the Company believes should be attainable.
On July 11, 2002, the Company entered into a secured loan and security agreement
with a financial institution ("Loan Agreement"). Under the terms of the Loan
Agreement, which matures on July 10, 2005, the Company can borrow up to
$28,000,000 (which was reduced to $27,000,000 when the Lebanon, Tennessee
mortgage note described below was completed on July 31, 2002), subject to
borrowing base and other requirements, under a revolving line of credit.
Interest rates generally are based on options selected by the Company as
follows: (a) a margin in effect plus a base rate; or (b) a margin in effect plus
the LIBOR rate for the corresponding interest period. At January 31, 2003, the
prime rate was 4.25 percent, and the margins added to the prime rate and the
LIBOR rate, which are determined each quarter based on the applicable financial
statement ratio, were 1.00 and 3.00 percentage points respectively. As of
January 31, 2003, the Company had borrowed $10,211,000 under the revolving line
of credit, $10,700,000 of which was used in July 2002 to reduce debt outstanding
to other financial institutions under the Prior Term Loans (see above) and under
the Prior Credit Agreement (see below). In addition, $6,135,000 was drawn under
the Loan Agreement as letters of credit to guarantee amounts owed for Industrial
Revenue Bond borrowings, property taxes and insurance premiums. The Loan
Agreement replaced a three-year secured credit agreement with a bank (the
"Bank") which had provided a revolving line of credit of $8,000,000 ("Prior
Credit Agreement") and a loan with a principal balance of $700,000. The early
extinguishment of the Prior Credit Agreement resulted in an extraordinary loss
of $133,000 ($79,000, net of tax). The Company's policy is to classify
borrowings under the revolving line of credit as long-term debt, as the Company
has the ability and the intent to maintain the revolving line of credit for
longer than one year. The Loan Agreement provides that all payments by the
Company's customers are deposited in a bank account from which all funds may
only be used to pay the debt under the Loan Agreement. At January 31, 2003, the
amount of restricted cash was $276,000. Cash required for operations is provided
by draw-downs on the line of credit. At January 31, 2003, the Company was not in
compliance with two covenants under the Loan Agreement. The Company has received
a waiver of such non-compliance and an amendment of the covenants to levels that
the Company believes should be attainable.
On April 26, 2002 Midwesco Filter borrowed $3,450,000 under two mortgage notes
secured by two parcels of real property and improvements owned by Midwesco
Filter in Winchester, Virginia. Proceeds from the mortgages, net of a prior
mortgage loan, were approximately $2,700,000 and were used to make principal
payments to the lenders under the Prior Term Loans and the Bank. The notes each
bear interest at 7.10 percent with a combined monthly payment of $40,235 for
both principal and interest, and the note's amortization schedules and terms are
each ten years.
On July 31, 2002 Perma-Pipe, Inc. borrowed $1,750,000 under a mortgage note
secured by its manufacturing facility in Lebanon, Tennessee. From the proceeds,
$1,000,000 was used for a payment of amounts borrowed under the Loan Agreement
with the remaining proceeds used to repay amounts borrowed under the Note
Purchase Agreements. The loan bears interest at 7.75 percent with monthly
payments of $21,001 for both principal and interest, and has a ten-year term.
On September 20, 2000, the Company purchased an 8.1-acre parcel of land with a
131,000-square foot building in Niles, Illinois, from two principal
stockholders, who are also members of management, for approximately $4,438,000.
21
This amount included the assumption of a $2,500,000 mortgage note with a
remaining balance of $2,405,000. The loan bears interest at 7.52 percent with
monthly payments of $18,507 for both principal and interest based on an
amortization schedule of 25 years with a balloon payment at the end of the
ten-year term. At the date of purchase, the remaining term of the loan was 7.25
years.
On August 10, 1999, the Company obtained a loan from a Danish bank in the amount
of 3,000,000 Danish Krone (DKK), approximately $425,000 at the prevailing
exchange rate at the time of the transaction, to complete the permanent
financing of the acquisition of Nordic Air A/S, a subsidiary of Midwesco Filter.
The loan bears interest at 6.22 percent and has a term of five years.
On June 30, 1998, the Company borrowed $1,400,000 under a mortgage note secured
by the manufacturing facility in Cicero, Illinois. The loan bears interest at
6.76 percent with monthly payments of $9,682 for both principal and interest
based on an amortization schedule of 25 years with a balloon payment at the end
of the ten-year term.
On June 1, 1998, the Company obtained two loans from a Danish bank to partially
finance the acquisition of Boe-Therm A/S ("Boe-Therm"). The first loan in the
amount of 4,500,000 DKK (approximately $650,000 at the prevailing exchange rate
at the time of the transaction) is secured by the land and building of
Boe-Therm, bears interest at 6.48 percent and has a term of twenty years. The
second loan in the amount of 2,750,000 DKK (approximately $400,000 at the
prevailing exchange rate at the time of the transaction) is secured by the
machinery and equipment of Boe-Therm, bears interest at 5.80 percent and has a
term of five years. A third loan in the amount of 850,000 DKK (approximately
$134,000 at the prevailing exchange rate at the time of the transaction) was
obtained on January 1, 1999 to acquire land and a building, bears interest at
6.1 percent and has a term of twenty years. The interest rates on both the
twenty-year loans are guaranteed for the first ten years, after which they will
be renegotiated based on prevailing market conditions.
On September 14, 1995, Midwesco Filter in Winchester, Virginia received
$3,150,000 of proceeds of Industrial Revenue Bonds, which mature on August 1,
2007, and on October 18, 1995, Perma-Pipe in Lebanon, Tennessee received
$3,150,000 of proceeds of Industrial Revenue Bonds, which mature on September 1,
2007. These bonds are fully secured by bank letters of credit, which the Company
expects to renew, reissue, extend or replace prior to each expiration date
during the term of the bonds. The bonds bear interest at a variable rate, which
approximates 4.5 percent per annum, including letter of credit and re-marketing
fees. The bond proceeds were available for capital expenditures related to
manufacturing capacity expansions and efficiency improvements during a
three-year period which commenced in the fourth quarter of 1995 and ended during
the Company's fiscal quarter ended October 31, 1998. On November 1, 1999, the
Company used $1,100,000 of unspent bond proceeds to redeem bonds outstanding as
provided in the indenture.
The Company also has short-term credit arrangements used by its European
subsidiaries. These credit arrangements are generally in the form of overdraft
facilities at rates competitive in the countries in which the Company operates.
At January 31, 2003, borrowings under these credit arrangements totaled
$514,000; an additional $526,000 remained unused. Effective in January 2003,
Boe-Therm's line of credit was increased from 2,500,000 DKK to 3,000,000 DKK.
The Company also had outstanding letters of credit in the amount of $78,000 to
guarantee performance to third parties of various foreign trade activities and
contracts.
Scheduled maturities, excluding the revolving line of credit, for each of the
next five years are as follows: 2003 - $2,264,000; 2004 - $2,528,000; 2005 -
$1,322,000; 2006 - $2,987,000; 2007 - $5,856,000; thereafter - $6,292,000.
CRITICAL ACCOUNTING POLICIES
Revenue Recognition: Perma-Pipe recognizes revenues on contracts under the
"percentage of completion" method. The percentage of completion is determined by
the relationship of costs incurred to the total estimated costs of the contract.
Provisions are made for estimated losses on uncompleted contracts in the period
in which such losses are determined. Changes in job performance, job conditions,
and estimated profitability, including those arising from contract penalty
provisions and final contract settlements may result in revisions to costs and
22
income. Such revisions are recognized in the period in which they are
determined. Claims for additional compensation due the Company are recognized in
contract revenues when realization is probable and the amount can be reliably
estimated.
All other subsidiaries of the Company recognize revenues at the date of
shipment.
Use of Estimates: The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosures of contingent assets and
liabilities at the date of the financial statements, and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
Inventories: Inventories are stated at the lower of cost or market. Cost is
determined using the first-in, first-out method for substantially all
inventories.
Goodwill and other intangible assets with indefinite lives: Goodwill, which
represents the excess of acquisition cost over the net assets acquired in
business combinations, was amortized, in 2001 and 2000, on a straight-line basis
over periods ranging from 25 to 40 years. On February 1, 2002, the Company
adopted SFAS No. 142, "Goodwill and Other Intangible Assets". SFAS No. 142
changes the accounting for goodwill and intangible assets with indefinite lives
from an amortization method to an impairment-only approach. Amortization of
goodwill and intangible assets with indefinite lives, including such assets
recorded in past business combinations, ceased upon adoption. Thus, no
amortization for such goodwill and indefinite lived intangibles was recognized
in the accompanying consolidated statements of operations for the year ended
January 31, 2003. SFAS No. 142 requires that goodwill be analyzed for impairment
in the year following its adoption. Any resulting impairment loss is recorded as
a cumulative effect of change in accounting principle. SFAS No. 142 requires
that goodwill be analyzed for impairment on an annual basis or when there is
reason to suspect that their values have been impaired. The Company has
designated the beginning of its fiscal year as the date of its annual goodwill
test. Therefore, pursuant to SFAS No. 142, the Company's 2002 impairment test of
goodwill is its transitional test and its annual test. The Company's analysis of
its goodwill in 2002 resulted in an impairment loss of $11,849,000 or
$10,739,000 net of a tax benefit of $1,110,000. The carrying amounts of goodwill
were $2,353,000 and $13,923,000 at January 31, 2003 and 2002, respectively.
ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 141, Business Combinations." The
Statement requires all business combinations initiated after June 30, 2001 to be
accounted for by the purchase method. Adoption of SFAS No. 141 did not have a
material effect on reported results of operations, financial condition or cash
flows of the Company.
In October 2001, the FASB issued SFAS No. 144 "Accounting for the Impairment or
Disposal of Long-Lived Assets," which was effective for the Company February 1,
2002. SFAS No. 144 addresses accounting and reporting for the impairment or
disposal of long-lived assets, including discontinued operations, and
establishes a single accounting method for the sale of long-lived assets.
Impairment testing required by the adoption of SFAS No. 144, when events or
changes in circumstances indicate that asset carrying amounts might not be
recoverable, did not have a material effect on the results of operations,
financial condition or cash flows of the Company.
On February 1, 2002, the Company adopted SFAS No. 142, "Goodwill and Other
Intangible Assets". SFAS No. 142 changes the accounting for goodwill and other
intangible assets with indefinite lives from an amortization method to an
impairment-only approach. Amortization of goodwill and intangible assets with
indefinite lives, including such assets recorded in past business combinations,
ceased upon adoption. Thus, no amortization for such goodwill and indefinite
lived intangibles was recognized in the accompanying consolidated statements of
operations for the year ended January 31, 2003. SFAS No. 142 requires that
goodwill and other intangible assets with indefinite lives be analyzed for
impairment in the year following its adoption. Any resulting impairment loss is
recorded as a cumulative effect of change in accounting principle. SFAS No. 142
requires that goodwill and other intangible assets with indefinite lives be
analyzed for impairment on an annual basis or when there is reason to suspect
23
that their values have been impaired. The Company has designated the beginning
of its fiscal year as the date of its annual goodwill impairment test.
Therefore, pursuant to SFAS No. 142, the Company's 2002 impairment test of
goodwill is its transitional test and its annual test. The Company's analysis of
its goodwill in 2002 resulted in an impairment loss of $11,849,000 or
$10,739,000 net of a tax benefit of $1,110,000. Goodwill, net of accumulated
amortization, was $2,353,000 and $13,923,000 at January 31, 2003 and 2002,
respectively.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements 4,
44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections." The
Statement is effective for fiscal years beginning after May 15, 2002 and
rescinds SFAS No. 4, "Reporting Gains and Losses from Extinguishment of Debt",
and an amendment of that Statement, SFAS No. 64, "Extinguishments of Debt Made
to Satisfy Sinking-Fund Requirements." Under SFAS No. 4, all gains and losses
from extinguishments of debt were required to be aggregated and, if material,
classified as an extraordinary item, net of related income tax effect. SFAS No.
145 eliminated SFAS No. 4 and, thus, the exception to applying Accounting
Principles Board (APB) No. 30 to all gains and losses related to extinguishments
of debt (other than extinguishments of debt to satisfy sinking-fund requirements
- - the exception to applications of SFAS No. 4 noted in SFAS No. 64). As a
result, gains and losses from extinguishments of debt should be classified as
extraordinary items only if they meet the criteria in APB No. 30. Applying the
provisions of APB No. 30 will distinguish transactions that are part of an
entity's recurring operations from those that are unusual or infrequent or that
meet the criteria for classification as an extraordinary item. The Company does
not expect adoption of SFAS No. 145 to have a material effect on the results of
operations, financial condition or cash flows. Had the Company adopted SFAS No.
145 in the current year, the extraordinary loss of $133,000 ($79,000 net of tax)
would have been classified as income from operations.
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting
and Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others." This Interpretation requires the recognition of certain
guarantees as liabilities at fair market value and is effective for guarantees
issued or modified after December 31, 2002. Adoption of the provisions of the
Interpretation has not had and will not have a material effect on the financial
statements of the Company, based on guarantees in effect on January 31, 2003.
In December 2002, the FASB issued SFAS No. 148 "Accounting for Stock-Based
Compensation" which was effective for the Company December 15, 2002. SFAS No.
148 provides alternative methods of transition for a voluntary change to the
fair-value method of accounting for stock-based employee compensation. In
addition, this Statement amends the disclosure requirements of SFAS No. 123 to
require prominent disclosures in both the annual and interim financial
statements about the Company's method of accounting for stock-based employee
compensation and the effects of the method used on reported results. Adoption of
SFAS No. 148 did not have a material effect on the results of operations,
financial condition or cash flows of the Company.
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is subject to market risk associated with changes in foreign
currency exchange rates and interest rates. Foreign currency exchange rate risk
is mitigated through maintenance of local production facilities in the markets
served, invoicing of customers in the same currency as the source of the
products and use of foreign currency denominated debt in Denmark. The Company
has used foreign currency forward contracts to reduce exposure to exchange rate
risks. The forward contracts are short-term in duration, generally one year or
less. The major currency exposure hedged by the Company is the Canadian dollar.
The contract amounts, carrying amounts and fair values of these contracts were
not significant at January 31, 2003, 2002 and 2001.
The changeover from national currencies to the Euro began on January 1, 2002 and
it has not materially affected and is not expected to materially affect the
Company's foreign currency exchange risk profile, although some customers may
require the Company to invoice or pay in Euros rather than the functional
currency of the manufacturing entity.
The Company has attempted to mitigate its interest rate risk through the maximum
possible use of fixed-rate long-term debt.
24
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements of the Company as of January 31, 2003 and
January 31, 2002 and for each of the three years in the period ended January 31,
2003 and the notes thereto are set forth elsewhere herein.
Item 9. CHANGES IN AND DISAGREEMENTS WITH
ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
PART III
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information with respect to directors of the Company is incorporated herein by
reference to the table under the caption "Nominees for Election as Directors"
and the textual paragraphs following the aforesaid table in the Company's proxy
statement for the 2003 annual meeting of stockholders.
Information with respect to executive officers of the Company is included in
Item 1, Part I hereof under the caption "Executive Officers of the Registrant."
Item 11. EXECUTIVE COMPENSATION
Information with respect to executive compensation is incorporated herein by
reference to the information under the caption "Executive Compensation" in the
Company's proxy statement for the 2003 annual meeting of stockholders.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT AND RELATED STOCKHOLDER MATTERS
Information with respect to security ownership of certain beneficial owners and
management of the Company and related stockholder matters is incorporated herein
by reference to the information under the captions "Beneficial Ownership of
Common Stock" and "Equity Compensation Plan Information" in the Company's proxy
statement for the 2003 annual meeting of stockholders.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information with respect to certain relationships and transactions is
incorporated herein by reference to the information under the caption "Certain
Transactions" in the Company's proxy statement for the 2003 annual meeting of
stockholders.
Item 14. CONTROLS AND PROCEDURES
Within the 90 days prior to the date of this report, the Company carried out an
evaluation, under the supervision and with the participation of its management,
including its principal executive officer and principal financial officer, of
the effectiveness of the design and operation of the Company's disclosure
controls and procedures pursuant to Rule 13a-14 under the Securities Exchange
Act of 1934, as amended. Based upon that evaluation, the principal executive
officer and principal financial officer concluded that the Company's disclosure
controls and procedures are adequate and effective for the purposes set forth in
the definition in the Exchange Act rules. There have been no significant changes
in the Company's internal controls or in other factors that could significantly
affect these controls subsequent to the date of that evaluation.
25
PART IV
Item 15. EXHIBITS, FINANCIAL STATEMENT
SCHEDULES AND REPORTS ON FORM 8-K
a. List of documents filed as part of this report:
(1) Financial Statements - Consolidated Financial Statements of the
Company Refer to Part II, Item 8 of this report.
(2) Financial Statement Schedules Schedule II - Valuation and
Qualifying Accounts
b. Reports on Form 8-K: MFRI filed no reports on Form 8-K with the
Securities and Exchange Commission during the last quarter of the
fiscal year ended January 31, 2003.
c. Exhibits: The exhibits, as listed in the Exhibit Index included
herein, are submitted as a separate section of this report.
d. The response to this portion of Item 15 is submitted under 15a(2)
above.
26
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
MFRI, Inc. and subsidiaries
Chicago, IL
We have audited the accompanying consolidated balance sheets of MFRI, Inc. and
subsidiaries as of January 31, 2003 and 2002, and the related consolidated
statements of operations, stockholders' equity, and cash flows for each of the
three years in the period ended January 31, 2003. Our audits also included the
financial statement schedule listed in the Index at Item 15a(2). 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 of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of MFRI, Inc. and subsidiaries at
January 31, 2003 and 2002, and the results of their operations and their cash
flows for each of the three years in the period ended January 31, 2003 in
conformity with accounting principles generally accepted in the United States of
America. Also, in our opinion, such financial statement schedule, when
considered in relation to the basic consolidated financial statements taken as a
whole, presents fairly in all material respects the information set forth
therein.
As discussed in Note 2, effective February 1, 2002, MFRI, Inc. changed its
method of accounting for goodwill and intangible assets upon adoption of
Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets."
DELOITTE & TOUCHE LLP
Chicago, Illinois
May 12, 2003
27
MFRI, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands except per share information)
2002 2001 2000
Fiscal Year Ended January 31,
2003 2002 2001
- -----------------------------------------------------------------------------------------------------
Net sales $122,897 $125,534 $149,533
Cost of sales 95,957 99,202 117,412
-------- -------- --------
Gross profit 26,940 26,332 32,121
Operating expenses:
Selling expense 10,446 9,775 12,075
General and administrative expense 15,501 14,459 15,045
Management services agreement - net - (74) 81
-------- -------- --------
Total operating expenses 25,947 24,160 27,201
-------- -------- --------
Income from operations 993 2,172 4,920
Other income 57 - -
Interest expense - net 2,107 2,600 2,938
-------- -------- --------
Income (loss) before income taxes, extraordinary items and cumulative
effect of accounting change (1,057) (428) 1,982
Income tax (benefit) (312) (54) 856
-------- -------- --------
Income (loss) before extraordinary items and cumulative effect of
accounting change (745) (374) 1,126
Net extraordinary loss, net of tax benefit of $31 (44) - -
-------- -------- --------
Income (loss) before cumulative effect of accounting change (789) (374) 1,126
Loss on cumulative effect of a change in accounting for goodwill, net
of tax benefit of $1,110 (10,739) - -
-------- -------- --------
Net income (loss) $(11,528) $ (374) $ 1,126
======== ======== ========
Weighted average common shares outstanding 4,922 4,922 4,922
Weighted average common shares outstanding
assuming full dilution 4,922 4,922 4,922
Basic earnings per share
Income (loss) before extraordinary items and cumulative effect of
accounting change $(0.15) $(0.08) $0.23
Net extraordinary loss (0.01) - -
Income (loss) before cumulative effect of accounting change (0.16) (0.08) 0.23
Loss on cumulative effect of accounting change (2.18) - -
Net income (loss) $(2.34) $(0.08) $0.23
Diluted earnings per share
Income (loss) before extraordinary items and cumulative effect of
accounting change $(0.15) $(0.08) $0.23
Net extraordinary loss (0.01) - -
Income (loss) before cumulative effect of accounting change (0.16) (0.08) 0.23
Loss on cumulative effect of accounting change (2.18) - -
Net income (loss) $(2.34) $(0.08) $0.23
See notes to consolidated financial statements.
28
MFRI, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands except per share information)
As of January 31,
ASSETS 2003 2002
- -------------------------------------------------------------------------------------------------------
Current Assets:
Cash and cash equivalents $ 346 $ 119
Restricted cash 276 -
Trade accounts receivable, less allowance for doubtful
accounts of $410 in 2002 and $343 in 2001 18,859 18,845
Accounts receivable - related companies 329 2
Costs and estimated earnings in excess of billings
on uncompleted contracts 2,044 3,324
Income taxes receivable 1,043 1,000
Inventories 19,582 18,682
Deferred income taxes 1,822 2,179
Prepaid expenses and other current assets 775 1,461
-------- --------
Total current assets 45,076 45,612
-------- --------
Property, Plant and Equipment, Net 27,888 30,065
Other Assets:
Assets held for sale 277 -
Patents, net of accumulated amortization 844 962
Goodwill, net of accumulated amortization 2,353 13,923
Other assets 2,538 1,967
-------- --------
Total other assets 6,012 16,852
-------- --------
Total Assets $ 78,976 $ 92,529
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
- --------------------------------------------------------------------------------
Current Liabilities:
Trade accounts payable $ 9,673 $ 9,643
Accounts payable - related companies - 188
Accrued compensation and payroll taxes 2,193 2,009
Other accrued liabilities 2,262 2,459
Commissions payable 4,163 4,821
Current maturities of long-term debt 2,415 11,100
Billings in excess of costs and estimated earnings
on uncompleted contracts 299 525
Income taxes payable 82 27
-------- --------
Total current liabilities 21,087 30,772
-------- --------
Long-Term Liabilities:
Long-term debt, less current maturities 29,261 21,100
Deferred income taxes - 1,143
Other 2,016 1,527
-------- --------
Total long-term liabilities 31,277 23,770
-------- --------
Stockholders' Equity:
Common stock, $0.01 par value, authorized-
50,000 shares in 2002 and 2001, respectively;
4,922 issued and outstanding in 2002 and 2001,
respectively 49 49
Additional paid-in capital 21,397 21,397
Retained earnings 6,197 17,725
Accumulated other comprehensive loss (1,031) (1,184)
-------- --------
Total stockholders' equity 26,612 37,987
-------- --------
Total Liabilities and Stockholders' Equity $ 78,976 $ 92,529
======== ========
See notes to consolidated financial statements.
29
MFRI INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(In thousands)
Accumulated
Common Stock Additional Other
------------------ Paid-in Retained Comprehensive Comprehensive
Shares Amount Capital Earnings Loss Income (Loss)
--------------------------------------------------------------------------------------
Balance February 1, 2000 4,922 $ 49 $ 21,397 $ 16,973 $ (591)
Net income 1,126 $ 1,126
Minimum pension liability adjustment
(net of tax expense of $121) (197) (197)
Unrealized translation adjustment 42 42
-------- -------- -------- -------- -------- --------
Balance January 31, 2001 4,922 49 21,397 18,099 (746) $ 971
========
Net loss (374) (374)
Minimum pension liability adjustment
(net of tax benefit of $138) (227) (227)
Unrealized translation adjustment (211) (211)
-------- -------- -------- -------- -------- --------
Balance January 31, 2002 4,922 49 21,397 17,725 (1,184) $ (812)
========
Net loss (11,528) (11,528)
Minimum pension liability adjustment
(net of tax benefit of $354) (577) (577)
Unrealized translation adjustment 730 730
-------- -------- -------- -------- -------- --------
Balance January 31, 2003 4,922 $ 49 $ 21,397 $ 6,197 $ (1,031) $(11,375)
======== ======== ======== ======== ======== ========
See notes to consolidated financial statements.
30
MFRI, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
2002 2001 2000
Fiscal Year Ended January 31,
2003 2002 2001
- -------------------------------------------------------------------------------------------------------
Cash Flows from Operating Activities:
Net income (loss) $(11,528) $ (374) $ 1,126
Adjustments to reconcile net income (loss) to
net cash flows from operating activities:
Net extraordinary loss (net of tax of $31) 44 - -
Loss on impairment of goodwill (net of tax of $1,110) 10,739 - -
Provision for depreciation and amortization 3,944 4,110 4,124
Deferred income taxes 365 (89) (293)
(Gain) loss on sale of asset - (8) 241
Loss on sale of business - 204 -
Change in operating assets and liabilities:
Accounts receivable 515 7,308 (4,338)
Income taxes receivable (9) (975) 710
Inventories (7) 2,378 (718)
Prepaid expenses and other current assets 1,428 (835) (1,331)
Accounts payable (159) (2,050) 2,838
Compensation and payroll taxes 138 (391) (322)
Other assets and liabilities (2,580) (716) 1,068
-------- -------- --------
Net Cash Flows from Operating Activities 2,890 8,562 3,105
-------- -------- --------
Cash Flows from Investing Activities:
Proceeds from sale of business - 184 -
Reduction in cash balance due to sale of business - (3) (356)
Proceeds from sale of property and equipment 10 1,380 30
Purchases of property and equipment (1,185) (3,455) (5,534)
Purchase of a business by acquiring specified assets and
assuming specified liabilities (500) - -
Investment in joint venture (67) - -
-------- -------- --------
Net Cash Flows from Investing Activities (1,742) (1,894) (5,860)
-------- -------- --------
Cash Flows from Financing Activities:
Net payments on capitalized lease obligations (142) (157) (196)
Borrowings under revolving, term and mortgage loans 25,050 321 6,891
Repayment of debt (25,610) (6,968) (4,448)
-------- -------- --------
Net Cash Flows from Financing Activities (702) (6,804) 2,247
-------- -------- --------
Effect of Exchange Rate Changes on Cash and
Cash Equivalents (219) (35) 132
-------- -------- --------
Net Increase (Decrease) in Cash and Cash Equivalents 227 (171) (375)
Cash and Cash Equivalents - Beginning of Year 119 290 665
-------- -------- --------
Cash and Cash Equivalents - End of Year $ 346 $ 119 $ 290
======== ======== ========
See notes to consolidated financial statements.
31
MFRI, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED JANUARY 31, 2003, 2002 AND 2001
Note 1 - Basis of Presentation
MFRI, Inc. ("MFRI" or the "Company") was incorporated on October 12, 1993. MFRI
is a holding company which has subsidiaries engaged in the manufacture and sale
of products in three distinct business segments: filtration products, piping
systems and industrial process cooling equipment. MFRI became successor by
merger to Midwesco Filter Resources, Inc. ("Midwesco Filter") on January 28,
1994, when all the assets of the Perma-Pipe division of Midwesco, Inc.
("Perma-Pipe") were acquired, subject to specified liabilities, in exchange for
cash and common stock of MFRI.
Through the merger of Midwesco, Inc. ("Midwesco") into MFRI on December 30, 1996
(the "Midwesco Merger"), MFRI acquired all the assets of Midwesco's Thermal Care
business, subject to specified liabilities, which included the following: all
liabilities associated with three lawsuits arising from warranty obligations of
Perma-Pipe; Midwesco's rights under leases, primarily its lease of the building
in Niles, Illinois that serves as the principal offices of both MFRI and
Midwesco and as the manufacturing facility of the Thermal Care business; the
deferred tax assets of Midwesco and 1,718,000 shares of the common stock of MFRI
owned by Midwesco. Prior to the Midwesco Merger, Midwesco was primarily owned by
certain management stockholders of MFRI and their families.
Fiscal Year: The Company's fiscal year ends on January 31. Years described as
2002, 2001 and 2000 are the fiscal years ended January 31, 2003, 2002 and 2001,
respectively. Balances described as balances as of 2002, 2001 and 2000 are
balances as of January 31, 2003, 2002 and 2001, respectively.
Principles of Consolidation: The consolidated financial statements include the
accounts of MFRI; its principal wholly owned subsidiaries, Midwesco Filter,
Perma-Pipe and Thermal Care, Inc. ("Thermal Care"); and the majority-owned and
controlled domestic and foreign subsidiaries of MFRI, Midwesco Filter,
Perma-Pipe and Thermal Care (collectively referred to as the "Company"). All
significant intercompany balances and transactions have been eliminated.
Acquired businesses are included in the results of operations since their
acquisition dates.
Nature of Business: Midwesco Filter is engaged principally in the manufacture
and sale of filter elements for use in industrial air filtration systems and
particulate collection systems. Air filtration systems are used in a wide
variety of industries to limit particulate emissions, primarily to comply with
environmental regulations. Midwesco Filter markets air-filtration-related
products and accessories, and provides maintenance services, consisting
primarily of dust collector inspection, filter cleaning and filter replacement.
Perma-Pipe is engaged in engineering, designing, manufacturing and sells
specialty piping systems and leak detection and location systems. Perma-Pipe's
specialty piping systems include (i) industrial and secondary containment piping
systems for transporting chemicals, waste streams and petroleum liquids, (ii)
insulated and jacketed district heating and cooling piping systems for efficient
energy distribution to multiple locations from central energy plants, and (iii)
oil and gas gathering flow lines and long lines for oil and mineral
transportation. Perma-Pipe's leak detection and location systems are sold as
part of many of its piping system products and, on a stand-alone basis, to
monitor areas where fluid intrusion may contaminate the environment, endanger
personal safety, cause a fire hazard, impair essential services or damage
equipment or property. Thermal Care is engaged in engineering, designing and
manufacturing industrial process cooling equipment, including chillers, cooling
towers, plant circulating systems, and related accessories for use in industrial
process applications. The Company's products are sold both within the United
States and internationally.
Contingencies: The Company is subject to various legal proceedings and claims
that arise in the ordinary course of business, including those involving
environmental, tax, product liability and general liability claims. The Company
accrues for such liabilities when it is probable that future costs will be
incurred and such costs can be reasonably estimated. Such accruals are based on
developments to date, the Company's estimates of the outcomes of these matters,
its experience in contesting, litigating and settling other similar matters, and
any related insurance coverage.
32
The Company does not currently anticipate the amount of any ultimate liability
with respect to these matters will materially affect the Company's financial
position, liquidity or future operations.
Other: MFRI has no material exposures to off-balance sheet arrangements; no
variable interest entities; nor activities that include non-exchange-traded
contracts accounted for at fair value.
Reclassifications: Certain minor reclassifications and additional disclosures
have been made to prior-year financial statements to conform to the current-year
presentation.
Note 2 - Significant Accounting Policies
Revenue Recognition: Perma-Pipe recognizes revenues on contracts under the
"percentage of completion" method. The percentage of completion is determined by
the relationship of costs incurred to the total estimated costs of the contract.
Provisions are made for estimated losses on uncompleted contracts in the period
in which such losses are determined. Changes in job performance, job conditions,
and estimated profitability, including those arising from contract penalty
provisions and final contract settlements may result in revisions to costs and
income. Such revisions are recognized in the period in which they are
determined. Claims for additional compensation due the Company are recognized in
contract revenues when realization is probable and the amount can be reliably
estimated.
All other subsidiaries of the Company recognize revenues at the date of
shipment.
Use of Estimates: The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosures of contingent assets and
liabilities at the date of the financial statements, and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
Operating Cycle: The length of Perma-Pipe contracts vary, but are typically less
than one year. The Company includes in current assets and liabilities amounts
realizable and payable in the normal course of contract completion unless
completion of such contracts extends significantly beyond one year.
Cash Equivalents: All highly liquid investments with a maturity of three months
or less when purchased are considered to be cash equivalents.
Inventories: Inventories are stated at the lower of cost or market. Cost is
determined using the first-in, first-out method for substantially all
inventories. Inventories consist of the following:
(In thousands)
2002 2001
-------- --------
Raw materials $14,647 $ 14,720
Work in process 1,881 1,551
Finished goods 3,054 2,411
-------- --------
Total $ 19,582 $ 18,682
======== ========
Long-Lived Assets: Property, plant and equipment are stated at cost. Interest is
capitalized in connection with the construction of facilities and amortized over
the asset's estimated useful life. No interest was capitalized during 2002 and
2001.
Depreciation is computed using the straight-line method over the estimated
useful lives of the assets, which range from 3 to 30 years. Amortization of
assets under capital leases is included in depreciation and amortization.
33
The Company's investment in property, plant and equipment as of January 31 is
summarized below:
(In thousands)
2002 2001
-------- --------
Land, buildings and improvements $ 19,197 $ 18,901
Machinery and equipment 20,367 20,229
Furniture, office equipment and computer software and systems 7,750 7,038
Transportation equipment 418 520
-------- --------
47,732 46,688
Less accumulated depreciation and amortization (19,844) (16,623)
-------- --------
Property, plant and equipment, net $ 27,888 $ 30,065
======== ========
Goodwill and other intangible assets with indefinite lives: Goodwill, which
represents the excess of acquisition cost over the net assets acquired in
business combinations, was amortized, in 2001 and 2000, on a straight-line basis
over periods ranging from 25 to 40 years. On February 1, 2002, the Company
adopted SFAS No. 142, "Goodwill and Other Intangible Assets". SFAS No. 142
changes the accounting for goodwill and intangible assets with indefinite lives
from an amortization method to an impairment-only approach. Amortization of
goodwill and intangible assets with indefinite lives, including such assets
recorded in past business combinations, ceased upon adoption. Thus, no
amortization for such goodwill and indefinite lived intangibles was recognized
in the accompanying consolidated statements of operations for the year ended
January 31, 2003. SFAS No. 142 requires that goodwill be analyzed for impairment
in the year following its adoption. Any resulting impairment loss is recorded as
a cumulative effect of change in accounting principle. SFAS No. 142 requires
that goodwill be analyzed for impairment on an annual basis or when there is
reason to suspect that their values have been impaired. The Company has
designated the beginning of its fiscal year as the date of its annual goodwill
test. Therefore, pursuant to SFAS No. 142, the Company's 2002 impairment test of
goodwill is its transitional test and its annual test. The Company's analysis of
its goodwill in 2002 resulted in an impairment loss of $11,849,000 or
$10,739,000 net of a tax benefit of $1,110,000. The carrying amounts of goodwill
were $2,353,000 and $13,923,000 at January 31, 2003 and 2002, respectively. None
of the Company's covenants with lenders was affected by the impairment
write-down of goodwill.
The following is a reconciliation of reported net income adjusted for adoption
of SFAS No. 142:
2002 2001 2000
-------- -------- --------
Reported net income (loss) $(11,528) $ (374) $ 1,126
Add back: goodwill amortization, net of tax - 304 304
Adjusted net income (loss) $(11,528) $ (70) $ 1,430
Basic earnings per share:
Reported net income (loss) $ (2.34) $ (0.08) $ 0.23
Add back: goodwill amortization, net of tax - 0.06 0.06
Adjusted net income (loss) $ (2.34) $ (0.02) $ 0.29
Diluted earnings per share:
Reported net income (loss) $ (2.34) $ (0.08) $ 0.23
Add back: goodwill amortization, net of tax - 0.06 0.06
Adjusted net income (loss) $ (2.34) $ (0.02) $ 0.29
34
The changes in the carrying amount of goodwill for the year ended January 31,
2003, are as follows:
Balance as of February 1, 2002 $13,923,000
Goodwill acquired during the year -
Foreign translation effect 279,000
Impairment loss (11,849,000)
Balance as of January 31, 2003 $ 2,353,000
Other intangible assets with definite lives: Patents are capitalized and
amortized on a straight-line basis over a period not to exceed the legal lives
of the patents. Patents, net of accumulated amortization, were $844,000 and
$962,000 at January 31, 2003 and 2002, respectively. Accumulated amortization
was $1,273,000 and $1,099,000 at January 31, 2003 and 2002, respectively. Future
amortizations over the next five years ending January 31, will be 2004 -
$177,500, 2005 - $177,500, 2006 - $177,500, 2007 - $171,500 and 2008 - $26,400.
Assets held for sale: Certain machinery in Perma-Pipe is classified as
held-for-sale. The estimated fair value is $277,000 at January 31, 2003. The
weighted average remaining useful lives is 7.2 years.
Financial Instruments: The Company uses foreign currency forward contracts to
reduce exposure to exchange rate risks primarily associated with transactions in
the regular course of the Company's export and international operations. The
Company uses forward contracts which are short-term in duration, generally one
year or less. The major currency exposure hedged by the Company is the Canadian
dollar. The contract amount, carrying amount and fair value of these contracts
were not significant at January 31, 2003, 2002 and 2001.
Net Income (Loss) Per Common Share: Earnings (loss) per share are computed by
dividing net income by the weighted average number of common shares outstanding
(basic) plus all potentially dilutive common shares outstanding during the year
(diluted).
The basic weighted average shares reconcile to diluted weighted average shares
as follows:
(In thousands except per share information)
2002 2001 2000
-------- -------- --------
Net Income (loss) $(11,528) $ (374) $ 1,126
======== ======== ========
Basic weighted average common shares outstanding 4,922 4,922 4,922
Dilutive effect of stock options - - 1
-------- -------- --------
Weighted average common shares
outstanding assuming full dilution 4,922 4,922 4,923
======== ======== ========
Net income (loss) per common share - basic $ (2.34) $ (0.08) $ 0.23
Net income (loss per common share - diluted $ (2.34) $ (0.08) $ 0.23
In 2002, 2001 and 2000, the weighted average number of stock options not
included in the computation of diluted earnings (loss) per share of common stock
because the options exercise price exceeded the average market price of the
common shares were 910,000, 846,000 and 876,000, respectively. These options
were outstanding at the end of each of the respective years, except for options
for 14,750, 4,000 and 13,000 shares, which expired in 2002, 2001 and 2000,
respectively.
Fair Value of Financial Instruments: The carrying values of cash and cash
equivalents, accounts receivable and accounts payable are reasonable estimates
of their fair value due to their short-term nature. The carrying values of the
35
Company's unsecured senior notes at January 31, 2003 and 2002 are also
reasonable estimates of their fair value, as evidenced by the renegotiation of
interest rates and terms that occurred recently as described in Note 7.
Accumulated Other Comprehensive Loss: Accumulated other comprehensive loss
consists of the following:
Minimum
Accumulated Pension
(In thousands) Translation Liability
Adjustment Adjustment Total
-------- -------- --------
Balance - February 1, 2000 $ (522) $ (69) $ (591)
Unrealized translation adjustment 42 - 42
Minimum pension liability adjustment
(net of tax benefit of $121) - (197) (197)
-------- -------- --------
Balance - January 31, 2001 (480) (266) (746)
Unrealized translation adjustment (211) - (211)
Minimum pension liability adjustment
(net of tax benefit of $138) - (227) (227)
-------- -------- --------
Balance - January 31, 2002 (691) (493) (1,184)
Unrealized translation adjustment 730 - 730
Minimum pension liability adjustment
(net of tax benefit of $354) - (577) (577)
-------- -------- --------
Balance - January 31, 2003 $ 39 $ (1,070) $ (1,031)
======== ======== ========
Accounting Pronouncements: In June 2001, the Financial Accounting Standards
Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 141,
"Business Combinations." The Statement requires all business combinations
initiated after June 30, 2001 to be accounted for by the purchase method.
Adoption of SFAS No. 141 did not have a material effect on reported results of
operations, financial condition or cash flows of the Company.
In October 2001, the FASB issued SFAS No. 144 "Accounting for the Impairment or
Disposal of Long-Lived Assets," which was effective for the Company February 1,
2002. SFAS No. 144 addresses accounting and reporting for the impairment or
disposal of long-lived assets, including discontinued operations, and
establishes a single accounting method for the sale of long-lived assets.
Impairment testing required by the adoption of SFAS No. 144, when events or
changes in circumstances indicate that asset carrying amounts might not be
recoverable, did not have a material effect on the results of operations,
financial condition or cash flows of the Company.
On February 1, 2002, the Company adopted SFAS No. 142, "Goodwill and Other
Intangible Assets". SFAS No. 142 changes the accounting for goodwill and other
intangible assets with indefinite lives from an amortization method to an
impairment-only approach. Amortization of goodwill and intangible assets with
indefinite lives, including such assets recorded in past business combinations,
ceased upon adoption. Thus, no amortization for such goodwill and indefinite
lived intangibles was recognized in the accompanying consolidated statements of
operations for the year ended January 31, 2003. SFAS No. 142 requires that
goodwill and other intangible assets with indefinite lives be analyzed for
impairment in the year following its adoption. Any resulting impairment loss is
recorded as a cumulative effect of change in accounting principle. SFAS No. 142
requires that goodwill and other intangible assets with indefinite lives be
analyzed for impairment on an annual basis or when there is reason to suspect
that their values have been impaired. The Company has designated the beginning
of its fiscal year as the date of its annual goodwill impairment test.
Therefore, pursuant to SFAS No. 142, the Company's 2002 impairment test of
goodwill is its transitional test and its annual test. The Company's analysis of
its goodwill in 2002 resulted in an impairment loss of $11,849,000 or
$10,739,000 net of a tax benefit of $1,110,000. Goodwill, net of accumulated
amortization, was $2,353,000 and $13,923,000 at January 31, 2003 and 2002,
respectively.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements 4,
44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections." The
Statement is effective for fiscal years beginning after May 15, 2002 and
rescinds SFAS No. 4, "Reporting Gains and Losses from Extinguishment of Debt",
36
and an amendment of that Statement, SFAS No. 64, "Extinguishments of Debt Made
to Satisfy Sinking-Fund Requirements." Under SFAS No. 4, all gains and losses
from extinguishments of debt were required to be aggregated and, if material,
classified as an extraordinary item, net of related income tax effect. SFAS No.
145 eliminated SFAS No. 4 and, thus, the exception to applying Accounting
Principles Board (APB) No. 30 to all gains and losses related to extinguishments
of debt (other than extinguishments of debt to satisfy sinking-fund requirements
- - the exception to applications of SFAS No. 4 noted in SFAS No. 64). As a
result, gains and losses from extinguishments of debt should be classified as
extraordinary items only if they meet the criteria in APB No. 30. Applying the
provisions of APB No. 30 will distinguish transactions that are part of an
entity's recurring operations from those that are unusual or infrequent or that
meet the criteria for classification as an extraordinary item. The Company does
not expect adoption of SFAS No. 145 to have a material effect on the results of
operations, financial condition or cash flows. Had the Company adopted SFAS No.
145 in the current year, the extraordinary loss of $133,000 ($79,000 net of tax)
would have been classified as income from operations.
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting
and Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others." This Interpretation requires the recognition of certain
guarantees as liabilities at fair market value and is effective for guarantees
issued or modified after December 31, 2002. Adoption of the provisions of the
Interpretation has not had and will not have a material effect on the financial
statements of the Company, based on guarantees in effect on January 31, 2003.
In December 2002, the FASB issued SFAS No. 148 "Accounting for Stock-Based
Compensation" which was effective for the Company December 15, 2002. SFAS No.
148 provides alternative methods of transition for a voluntary change to the
fair-value method of accounting for stock-based employee compensation. In
addition, this Statement amends the disclosure requirements of SFAS No. 123 to
require prominent disclosures in both the annual and interim financial
statements about the Company's method of accounting for stock-based employee
compensation and the effects of the method used on reported results. Adoption of
SFAS No. 148 did not have a material effect on the results of operations,
financial condition or cash flows of the Company.
Note 3 - Related Party Transactions
On September 20, 2000, the Company purchased an 8.1-acre parcel of land with a
131,000-square foot building in Niles, Illinois from two principal stockholders
who are also members of management. Prior to the purchase, the land and building
had been leased from the two principal stockholders. The aggregate purchase
price was $4,438,000, which includes the assumption of a mortgage note with a
remaining balance of $2,405,000. During 2000, the Company paid $359,000, under
the lease agreement in effect prior to the property purchase.
The Company also provides certain services and facilities to a company
(affiliate) primarily owned by those management stockholders and purchases
certain services from those companies under a management services agreement. The
Company billed the affiliate $250,000 and was invoiced $167,000 by the affiliate
under such agreements in 2002. The Company billed $244,000 and was invoiced
$170,000 under such agreements in 2001. During 2000, the Company billed $269,000
and was invoiced $350,000 under such agreements.
Until February 28, 2001, the Company leased certain office and warehouse
facilities substantially all of which are occupied by a company primarily owned
by the two management stockholders. The Company made rental payments of $236,000
directly to the lessor in 2000, and allocated the expense to users based on
space occupied. The Company paid $54,000 in 2001 to the related company for
space occupied. On February 28, 2001, the affiliated company began leasing the
facilities directly from the lessor.
The purchase agreement, lease agreement and the management services agreements
were approved by the Company's Committee of Independent Directors. Management of
the Company believes the amounts paid and received under these agreements were
comparable to those which would have been paid and received in arm's-length
transactions.
37
Note 4 - Acquisitions and Divestitures
Perma-Pipe Services Limited
In December 2001, the Company sold its subsidiary, Perma-Pipe Services Ltd. Cash
proceeds of $358,000 were received in May 2002. The aggregate value of the book
basis of the investment and a related intercompany receivable was $562,000
resulting in a loss of $204,000.
SZE Hagenuk GmbH
On December 31, 2000, the Company sold its 81 percent interest in SZE Hagenuk
GmbH ("SZE Hagenuk") to the former minority shareholder. The Company received a
note receivable of 500,000 Deutsche Marks ("DM") (approximately $240,000) from
the former minority shareholder. The Company received 400,000 DM in the first
quarter of 2001 and the remaining balance, in full, in April 2003. The aggregate
value of the book basis of the investment and a related intercompany receivable
was $482,000, resulting in a loss of $242,000.
Other
On June 19, 2002, the Company purchased a business by acquiring specified assets
and assuming specified liabilities for $500,000 in cash. In accordance with SFAS
No. 141, the purchase price plus purchase-related expenses is first applied to
current assets and any excess of value over the current assets is allocated to
extraordinary gain. The asset values were $815,000 and $0 for inventory and
other assets, which mainly consisted of property, plant and equipment,
respectively, which, combined with purchase-related expenses of $257,000,
resulted in the recognition of an extraordinary gain of $58,000 ($35,000 net of
tax).
Note 5 - Retention Receivable
Retention is the amount withheld by a customer until a long-term contract is
completed. Retentions of $193,000 and $506,000 are included in the balance of
trade accounts receivable at January 31, 2003 and 2002, respectively.
Note 6 - Costs and Estimated Earnings on Uncompleted Contracts
Costs and estimated earnings on uncompleted contracts are as follows:
(In thousands)
2002 2001
-------- --------
Costs incurred on uncompleted contracts $ 6,990 $ 13,926
Estimated earnings 1,969 1,834
-------- --------
Earned revenue 8,959 15,760
Less billings to date 7,214 12,961
-------- --------
Total $ 1,745 $ 2,799
======== ========
Classified as follows:
Costs and estimated earnings in excess of
billings on uncompleted contracts $ 2,044 $ 3,324
Billings in excess of costs and estimated
earnings on uncompleted contracts (299) (525)
-------- --------
Total $ 1,745 $ 2,799
======== ========
38
Note 7 - Debt
Long-term debt consists of the following:
(In thousands)
2002 2001
-------- --------
Secured senior notes due 2007 $ 4,626 $ 18,714
Revolving bank loan 10,211 2,300
Industrial Revenue Bonds 5,200 5,200
Mortgage notes 8,552 4,416
Term loans 2,274 871
Short-term credit arrangements 597 339
Capitalized lease obligations (Note 8) 216 358
Other - 2
-------- --------
31,676 32,200
Less current maturities 2,415 11,100
-------- --------
Total $ 29,261 $ 21,100
======== ========
Financing
On January 29, 2003, the Company obtained a loan from a Danish bank to purchase
a building, in the amount of 1,050,000 Euro, approximately $1,136,000 at the
exchange rate prevailing at the time of the transaction. The loan has a term of
twenty years. The loan bears interest at 6.1 percent with quarterly payments of
$19,000 for both principal and interest.
On July 11, 2002, the Company entered into secured note purchase agreements with
certain institutional investors ("Note Purchase Agreements"). Under the terms of
the Note Purchase Agreements, the Company entered into a five-year $6,000,000
term loan replacing prior term loans with an aggregate original principal
balance of $25,000,000 ("Prior Term Loans"). The outstanding principal balance
of the Prior Term Loans at July 11, 2002 was $16,000,000. The Company borrowed
$10,000,000 from its new revolving line of credit from another financial
institution (described below) to pay down this loan from $16,000,000 to
$6,000,000. Interest rates under the Note Purchase Agreements are 12% per annum
if the outstanding principal is greater than $5,000,000 or 10% per annum if the
outstanding principal is $5,000,000 or less. The Company is scheduled to pay
$188,000 in aggregate principal on the last days of March, June, September and
December in each year, commencing on September 30, 2002 and ending on June 30,
2007. In addition, the Company is scheduled to make annual prepayments of excess
cash flow (as defined in the Note Purchase Agreements). Finally, the Loan
Agreement (defined below) and the Note Purchase Agreements permit voluntary
prepayments sufficient to reduce the outstanding term loan principal to
$5,000,000 subject to certain conditions. The Company met such conditions and
made such prepayments on July 31, 2002. At January 31, 2003, the Company was not
in compliance with one covenant contained in the Note Purchase Agreements. The
Company has received a waiver of such non-compliance and an amendment of the
covenant to levels that the Company believes should be attainable.
On July 11, 2002, the Company entered into a secured loan and security agreement
with a financial institution ("Loan Agreement"). Under the terms of the Loan
Agreement, which matures on July 10, 2005, the Company can borrow up to
$28,000,000 (which was reduced to $27,000,000 when the Lebanon, Tennessee
mortgage note described below was completed on July 31, 2002), subject to
borrowing base and other requirements, under a revolving line of credit.
Interest rates generally are based on options selected by the Company as
follows: (a) a margin in effect plus a base rate; or (b) a margin in effect plus
the LIBOR rate for the corresponding interest period. At January 31, 2003, the
prime rate was 4.25 percent, and the margins added to the prime rate and the
LIBOR rate, which are determined each quarter based on the applicable financial
statement ratio, were 1.00 and 3.00 percentage points respectively. As of
January 31, 2003, the Company had borrowed $10,211,000 under the revolving line
of credit, $10,700,000 of which was used in July 2002 to reduce debt outstanding
to other financial institutions under the Prior Term Loans (see above) and under
the Prior Credit Agreement (see below). In addition, $6,135,000 was drawn under
the Loan Agreement as letters of credit to guarantee amounts owed for Industrial
Revenue Bond borrowings, property taxes and insurance premiums. The Loan
39
Agreement replaced a three-year secured credit agreement with a bank (the
"Bank") which had provided a revolving line of credit of $8,000,000 ("Prior
Credit Agreement") and a loan with a principal balance of $700,000. The early
extinguishment of the Prior Credit Agreement resulted in an extraordinary loss
of $133,000 ($79,000, net of tax). The Company's policy is to classify
borrowings under the revolving line of credit as long-term debt, as the Company
has the ability and the intent to maintain the revolving line of credit for
longer than one year. The Loan Agreement provides that all payments by the
Company's customers are deposited in a bank account from which all funds may
only be used to pay the debt under the Loan Agreement. At January 31, 2003, the
amount of restricted cash was $276,000. Cash required for operations is provided
by draw-downs on the line of credit. At January 31, 2003, the Company was not in
compliance with two covenants under the Loan Agreement. The Company has received
a waiver of such non-compliance and an amendment of the covenants to levels that
the Company believes should be attainable.
On April 26, 2002 Midwesco Filter borrowed $3,450,000 under two mortgage notes
secured by two parcels of real property and improvements owned by Midwesco
Filter in Winchester, Virginia. Proceeds from the mortgages, net of a prior
mortgage loan, were approximately $2,700,000 and were used to make principal
payments to the lenders under the Prior Term Loans and the Bank. The notes each
bear interest at 7.10 percent with a combined monthly payment of $40,235 for
both principal and interest, and the note's amortization schedules and terms are
each ten years.
On July 31, 2002 Perma-Pipe, Inc. borrowed $1,750,000 under a mortgage note
secured by its manufacturing facility in Lebanon, Tennessee. From the proceeds,
$1,000,000 was used for a payment of amounts borrowed under the Loan Agreement
with the remaining proceeds used to repay amounts borrowed under the Note
Purchase Agreements. The loan bears interest at 7.75 percent with monthly
payments of $21,001 for both principal and interest, and has a ten-year term.
On September 20, 2000, the Company purchased an 8.1-acre parcel of land with a
131,000-square foot building in Niles, Illinois, from two principal
stockholders, who are also members of management, for approximately $4,438,000.
This amount included the assumption of a $2,500,000 mortgage note with a
remaining balance of $2,405,000. The loan bears interest at 7.52 percent with
monthly payments of $18,507 for both principal and interest based on an
amortization schedule of 25 years with a balloon payment at the end of the
ten-year term. At the date of purchase, the remaining term of the loan was 7.25
years.
On August 10, 1999, the Company obtained a loan from a Danish bank in the amount
of 3,000,000 Danish Krone (DKK), approximately $425,000 at the prevailing
exchange rate at the time of the transaction, to complete the permanent
financing of the acquisition of Nordic Air A/S, a subsidiary of Midwesco Filter.
The loan bears interest at 6.22 percent and has a term of five years.
On June 30, 1998, the Company borrowed $1,400,000 under a mortgage note secured
by the manufacturing facility in Cicero, Illinois. The loan bears interest at
6.76 percent with monthly payments of $9,682 for both principal and interest
based on an amortization schedule of 25 years with a balloon payment at the end
of the ten-year term.
On June 1, 1998, the Company obtained two loans from a Danish bank to partially
finance the acquisition of Boe-Therm A/S ("Boe-Therm"). The first loan in the
amount of 4,500,000 DKK (approximately $650,000 at the prevailing exchange rate
at the time of the transaction) is secured by the land and building of
Boe-Therm, bears interest at 6.48 percent and has a term of twenty years. The
second loan in the amount of 2,750,000 DKK (approximately $400,000 at the
prevailing exchange rate at the time of the transaction) is secured by the
machinery and equipment of Boe-Therm, bears interest at 5.80 percent and has a
term of five years. A third loan in the amount of 850,000 DKK (approximately
$134,000 at the prevailing exchange rate at the time of the transaction) was
obtained on January 1, 1999 to acquire land and a building, bears interest at
6.1 percent and has a term of twenty years. The interest rates on both the
twenty-year loans are guaranteed for the first ten years, after which they will
be renegotiated based on prevailing market conditions.
On September 14, 1995, Midwesco Filter in Winchester, Virginia received
$3,150,000 of proceeds of Industrial Revenue Bonds, which mature on August 1,
2007, and on October 18, 1995, Perma-Pipe in Lebanon, Tennessee received
40
$3,150,000 of proceeds of Industrial Revenue Bonds, which mature on September 1,
2007. These bonds are fully secured by bank letters of credit, which the Company
expects to renew, reissue, extend or replace prior to each expiration date
during the term of the bonds. The bonds bear interest at a variable rate, which
approximates 4.5 percent per annum, including letter of credit and re-marketing
fees. The bond proceeds were available for capital expenditures related to
manufacturing capacity expansions and efficiency improvements during a
three-year period which commenced in the fourth quarter of 1995 and ended during
the Company's fiscal quarter ended October 31, 1998. On November 1, 1999, the
Company used $1,100,000 of unspent bond proceeds to redeem bonds outstanding as
provided in the indenture.
The Company also has short-term credit arrangements used by its European
subsidiaries. These credit arrangements are generally in the form of overdraft
facilities at rates competitive in the countries in which the Company operates.
At January 31, 2003, borrowings under these credit arrangements totaled
$514,000; an additional $526,000 remained unused. Effective in January 2003,
Boe-Therm's line of credit was increased from 2,500,000 DKK to 3,000,000 DKK.
The Company also had outstanding letters of credit in the amount of $78,000 to
guarantee performance to third parties of various foreign trade activities and
contracts.
Scheduled maturities, excluding the revolving line of credit, for each of the
next five years are as follows: 2003 - $2,264,000; 2004 - $2,528,000; 2005 -
$1,322,000; 2006 - $2,987,000; 2007 - $5,856,000; thereafter - $6,292,000.
Note 8 - Lease Information
The following is an analysis of property under capitalized leases:
(In thousands)
2002 2001
-------- --------
Machinery and equipment $ 124 $ 124
Furniture and office equipment 698 698
Transportation equipment 292 438
-------- --------
1,114 1,260
Less accumulated amortization 898 902
-------- --------
$ 216 $ 358
======== ========
Until February 28, 2001, the Company leased certain office and warehouse
facilities, substantially all of which were occupied by a related company
primarily owned by two management stockholders. The Company made the rental
payments directly to the lessor in 2000, and allocated the expense to users
based on space occupied. On February 28, 2001, the related company began leasing
the facilities directly from the lessor.
The Company sold equipment for $1,345,000 in November 1998 and $295,000 in July
1999. The equipment was leased back from the purchaser under a master lease
agreement for a period of five years. No gain or loss was recognized on these
transactions and the lease is being accounted for as an operating lease. The
lease requires the Company to pay customary operating and repair expenses. The
lease also contains a renewal option at lease termination and purchase options
at amounts that approximate fair market value at the end of 54 months and at
lease termination.
The Company sold equipment for $1,359,000 in June 2001. The equipment was leased
back from the purchaser under a master lease agreement for a period of seven
years. No gain or loss was recognized on this transaction and the lease is being
accounted for as an operating lease. The lease requires the Company to pay
customary operating and repair expenses. The lease also contains a renewal
option at lease termination and a purchase option at the higher of fair market
value or 20% of cost.
The Company leases manufacturing and warehouse facilities, land, transportation
equipment and office space under non-cancelable operating leases, which expire
through 2017. Management expects that these leases will be renewed or replaced
by other leases in the normal course of business.
41
At January 31, 2003, future minimum annual rental commitments under
non-cancelable lease obligations were as follows:
Capital Operating
Leases Leases
(In thousands) -------- --------
2004 $ 157 $ 645
2005 66 326
2006 - 234
2007 - 234
2008 - 234
Thereafter - 403
-------- --------
223 2,076
Less amount representing interest 7 -
-------- --------
Present value of future minimum lease payments (Note 7) $ 216 $ 2,076
======== ========
Rental expense for operating leases was $914,000, $834,000 and $1,082,000 in
2002, 2001 and 2000, respectively.
Note 9 - Income Taxes
The following is a summary of domestic and foreign income (loss) before income
taxes, extraordinary items and cumulative effect of accounting change:
(In thousands)
2002 2001 2000
-------- -------- --------
Domestic $ (1,738) $ (417) $ 1,702
Foreign 681 (11) 280
-------- -------- --------
Total $ (1,057) $ (428) $ 1,982
======== ======== ========
Components of income tax expense (benefit) are as follows:
(In thousands)
2002 2001 2000
-------- -------- --------
Current:
Federal $ (390) $ 60 $ 928
Foreign 173 (43) 151
State and other (460) 18 70
-------- -------- --------
(677) 35 1,149
Deferred 365 (89) (293)
-------- -------- --------
Total $ (312) $ (54) $ 856
======== ======== ========
The difference between the provision (benefit) for income taxes and the amount
computed by applying the federal statutory rate is as follows:
(In thousands)
2002 2001 2000
-------- -------- --------
Tax (benefit) at federal statutory rate $ (359) $ (146) $ 674
Foreign rate tax differential (13) (150) 13
State (benefit) taxes, net of federal benefit (70) (11) 82
Amortization of cost in excess of assets acquired - 108 108
Officer's life insurance - 60 -
Other - net 130 85 (21)
-------- -------- --------
Total $ (312) $ (54) $ 856
======== ======== ========
42
Components of the current deferred income tax asset balance are as follows:
(In thousands)
2002 2001 2000
-------- -------- --------
Accrued commissions $ 613 $ 1,055 $ 1,179
Other accruals not yet deducted 807 842 706
Capital loss carryforward from sale of foreign
subsidiary - - 395
Non-qualified deferred compensation 19 23 272
Inventory valuation allowance 297 182 214
Allowance for doubtful accounts 109 113 78
Inventory uniform capitalization 32 12 32
Foreign acquisition adjustments - - -
NOL carryforward - - 83
Other (55) (48) (54)
-------- -------- --------
Total $ 1,822 $ 2,179 $ 2,905
======== ======== ========
Components of the long-term deferred income tax asset (liability) balances are
as follows:
(In thousands)
2002 2001 2000
-------- -------- --------
Capital loss carryforward from sale of foreign
subsidiary $ 307 $ 466 $ -
Depreciation (1,470) (1,590) (1,801)
Goodwill 594 (429) (398)
Non-qualified deferred compensation 200 220 -
Minimum pension liability 656 302 164
Other 9 (112) (55)
-------- -------- --------
Total $ 296 $ (1,143) $ (2,090)
======== ======== ========
Note 10 - Employee Retirement Plans
Pension Plan
Midwesco Filter has a defined benefit plan covering its hourly rated employees.
The benefits are based on fixed amounts multiplied by years of service of
retired participants. The funding policy is to contribute such amounts as are
necessary to provide for benefits attributed to service to date and those
expected to be earned in the future. The amounts contributed to the plan are
sufficient to meet the minimum funding requirements set forth in the Employee
Retirement Income Security Act of 1974. Midwesco Filter may contribute
additional amounts at its discretion.
43
The following provides a reconciliation of benefit obligations, plan assets and
funded status of the plan:
(In thousands) 2002 2001
-------- --------
Accumulated benefit obligations:
Vested benefits $ 2,451 $ 1,957
======== ========
Accumulated benefits $ 2,479 $ 1,983
======== ========
Change in benefit obligation:
Benefit obligation - beginning of year $ 2,211 $ 1,874
Service cost 98 90
Interest cost 150 129
Actuarial loss 315 215
Benefits paid (63) (97)
-------- --------
Benefit obligation - end of year 2,711 2,211
-------- --------
Change in plan assets:
Fair value of plan assets - beginning of year 1,576 1,313
Actual return on plan assets (175) (17)
Company contributions 530 377
Benefits paid (63) (97)
-------- --------
Fair value of plan assets - end of year 1,868 1,576
-------- --------
Funded status (843) (635)
Unrecognized prior service cost 504 566
Unrecognized actuarial loss 1,148 546
-------- --------
Prepaid benefit cost recognized in the
consolidated balance sheet $ 809 $ 477
======== ========
Amounts recognized in the consolidated
balance sheet:
Accrued benefit liability $ (1,420) $ (883)
Intangible asset 504 566
Accumulated other comprehensive income 1,725 794
-------- --------
Net amount recognized $ 809 $ 477
======== ========
2002 2001
-------- --------
Weighted-average assumptions at end of year:
Discount rate 6.32% 6.89%
Expected return on plan assets 8.00% 8.00%
Rate of compensation increase N/A N/A
Components of net periodic benefit cost:
Service cost $ 98 $ 90
Interest cost 150 129
Expected return on plan assets (145) (110)
Amortization of prior service cost 62 62
Recognized actuarial loss 32 22
-------- --------
Net periodic benefit cost $ 197 $ 193
======== ========
44
401(k) Plan
The domestic employees of the Company participate in the MFRI, Inc. Employee
Savings and Protection Plan, which is applicable to all employees except certain
employees covered by collective bargaining agreement benefits. The plan allows
employee pretax payroll contributions of up to 16 percent of total compensation.
The Company matches 50 percent of each participant's contribution, up to a
maximum of 2 percent of each participant's salary.
Contributions to the 401(k) Plan and its predecessors were $329,000, $319,000,
and $348,000 for the years ended January 31, 2003, 2002 and 2001, respectively.
Deferred Compensation Plans
The Company also has deferred compensation agreements with key employees.
Vesting is based on years of service. Life insurance contracts have been
purchased which may be used to fund the Company's obligation under these
agreements. The cash surrender value of the life insurance contracts is included
in other assets and the deferred compensation liability is included in other
long-term liabilities in the consolidated balance sheet. The charges to expense
were $187,000, $150,000, and $226,000 in 2002, 2001 and 2000, respectively.
Note 11 - Business Segment and Geographic Information
Business Segment Information
The Company has three reportable segments: the Filtration Products Business, the
Piping Systems Business and the Industrial Process Cooling Equipment Business.
The Filtration Products Business manufactures and sells a wide variety of filter
elements for air filtration and particulate collection systems. The Piping
Systems Business engineers, designs and manufactures specialty piping systems
and leak detection and location systems. The Industrial Process Cooling
Equipment Business engineers, designs and manufactures chillers, mold
temperature controllers, cooling towers, plant circulating systems and coolers
for industrial process applications.
The accounting policies of the segments are the same as those described in the
summary of significant accounting policies. (See Note 2.) The Company evaluates
performance based on gross profit and income or loss from operations.
Intersegment sales and transfers are accounted for as if sales or transfers were
to third parties (i.e., at current market prices) and were not material for
2002, 2001 and 2000.
MFRI's reportable segments are strategic businesses that offer different
products and services. Each is managed separately based on fundamental
differences in their operations. Each strategic business was acquired as a unit
and management at the time of acquisition was retained.
45
The following is information relevant to the Company's business segments:
(In thousands)
2002 2001 2000
-------- -------- --------
Net Sales:
Filtration Products $ 53,174 $ 54,434 $ 64,950
Piping Systems 44,037 49,417 54,809
Industrial Process Cooling Equipment 25,686 21,683 29,774
-------- -------- --------
Total Net Sales $122,897 $125,534 $149,533
======== ======== ========
Gross Profit:
Filtration Products $ 9,498 $ 10,063 $ 11,844
Piping Systems 10,187 10,208 10,784
Industrial Process Cooling Equipment 7,255 6,061 9,493
-------- -------- --------
Total Gross Profit $ 26,940 $ 26,332 $ 32,121
======== ======== ========
Income from Operations:
Filtration Products $ 400 $ 2,168 $ 3,026
Piping Systems 4,321 3,347 3,085
Industrial Process Cooling Equipment 702 627 2,995
Corporate (4,430) (3,970) (4,186)
-------- -------- --------
Total Income from Operations $ 993 $ 2,172 $ 4,920
======== ======== ========
Segment Assets:
Filtration Products $ 39,916 $ 40,848 $ 43,591
Piping Systems 25,444 33,934 38,605
Industrial Process Cooling Equipment 11,560 10,932 17,223
Corporate 2,056 6,815 5,366
-------- -------- --------
Total Segment Assets $ 78,976 $ 92,529 $104,785
======== ======== ========
Capital Expenditures:
Filtration Products $ 297 $ 866 $ 1,066
Piping Systems 698 1,687 1,878
Industrial Process Cooling Equipment 50 740 93
Corporate 140 162 2,497
-------- -------- --------
Total Capital Expenditures $ 1,185 $ 3,455 $ 5,534
======== ======== ========
Depreciation and Amortization:
Filtration Products $ 1,222 $ 1,396 $ 1,359
Piping Systems 1,493 1,500 1,628
Industrial Process Cooling Equipment 377 334 327
Corporate 852 880 810
-------- -------- --------
Total Depreciation and Amortization $ 3,944 $ 4,110 $ 4,124
======== ======== ========
46
Geographic Information
Net sales are attributed to a geographic area based on the destination of the
product shipment. Long-lived assets are based on the physical location of the
assets and consist of property, plant and equipment used in the generation of
revenues in the geographic area.
(In thousands)
2002 2001 2000
-------- -------- --------
Net Sales:
United States $107,513 $104,155 $128,379
Canada 2,776 7,055 7,241
Europe 8,502 10,400 10,624
Mexico, South America, Central America
and the Caribbean 1,224 1,689 969
Asia 2,253 1,600 1,889
Other 629 635 431
-------- -------- --------
Total Net Sales $122,897 $125,534 $149,533
======== ======== ========
Long-Lived Assets:
United States $ 26,408 $ 28,859 $ 29,958
Europe 1,480 1,206 1,393
-------- -------- --------
Total Long-Lived Assets $ 27,888 $ 30,065 $ 31,351
======== ======== ========
Note 12 - Supplemental Cash Flow Information
A summary of annual supplemental cash flow information follows:
(In thousands)
2002 2001 2000
-------- -------- --------
Cash paid for:
Income taxes, net of refunds received $ (796) $ 1,096 $ 396
======== ======== ========
Interest, net of amounts capitalized $ 2,099 $ 2,837 $ 2,980
======== ======== ========
Noncash Financing and Investing Activities:
Fixed assets acquired under capital leases $ - $ - $ 46
======== ======== ========
Sale of business:
Note receivable from buyer $ 44 $ 358 $ 241
======== ======== ========
Purchase of building:
Purchase price $ - $ - $ 4,438
Cash paid - - 1,767
Net liabilities assumed $ - $ - $ 2,671
======== ======== ========
Purchase of a business for specified assets and
assumption of specified liabilities:
Purchase price $ 500 $ - $ -
Cash paid 500 - -
Net liabilities assumed $ 257 $ - $ -
======== ======== ========
47
Note 13 - Stock Options
Under the 1993 and 1994 Stock Option Plans ("Option Plans"), 100,000 and 250,000
shares of common stock, respectively, are reserved for issuance to key employees
of the Company and its affiliates as well as certain advisors and consultants to
the Company. In addition, under the 1994 Option Plan, an additional one percent
of shares of the Company's common stock outstanding have been added to the
shares reserved for issuance each February 1, beginning February 1, 1995 and
ending February 1, 1997, and an additional two percent of shares of the
Company's common stock outstanding are added to the shares reserved for issuance
each February 1, beginning February 1, 1998. Option exercise prices will be no
less than fair market value for the common stock on the date of grant. The
options granted under the Option Plans may be either non-qualified options or
incentive options. Such options vest ratably over four years and are exercisable
for up to ten years from the date of grant.
Pursuant to the 2001 Independent Directors' Stock Option Plan (the "Directors'
Plan"), an option to purchase 10,000 shares of common stock is granted
automatically to each director who is not an employee of the Company (an
"Independent Director") on the date the individual is first elected as an
Independent Director, an option to purchase 1,000 shares was granted to each
Independent Director on December 31, 2001, and options to purchase 1,000 shares
are granted to each Independent Director upon each date such Independent
Director is re-elected as an Independent Director, commencing with the Company's
annual meeting for the year 2002. Provisions of a predecessor plan, the 1990
Independent Directors' Stock Option Plan, were the same as those of the
Directors' Plan in every significant respect.
The MFRI 2001 Stock Option Exchange Plan ("Exchange Plan"), offered eligible
optionees an opportunity to replace their stock options with new options. On the
Exchange Plan offer's expiration date of June 26, 2001, the Company accepted and
canceled 728,800 options. Pursuant to the terms of the Exchange Plan, the
Company granted 674,600 new options to those tendering optionees who were active
employees at December 31, 2001. Additionally, 54,200 options were tendered by
individuals no longer employed by the Company at December 31, 2001.
In connection with the purchase agreement relating to the acquisition of TDC
Filter Manufacturing, Inc., (acquired in December 1997 as part of the Filtration
business), the Company issued stock options to purchase 75,000 shares of common
stock at $9.60. These options may be exercised through November 2008.
The following summarizes the changes in options under the plans:
2002 2001 2000
--------------------------- -------------------------- ---------- ---------------
Weighted Weighted Weighted
Average Average Average
Shares Exercise Price Shares Exercise Price Shares Exercise Price
----------- --------------- ---------- --------------- ---------- ---------------
Outstanding at beginning of year 845,600 $3.80 875,550 $6.40 821,650 $6.68
Granted 132,000 2.15 731,800 3.12 114,700 4.09
Exercised - - - - - -
Cancelled (31,200) 3.77 (761,750) 6.13 (60,800) 5.79
--------- ------- --------- ------- --------- -------
Outstanding at end of year 946,400 $3.57 845,600 $3.80 875,550 $6.40
========= ======= ========= ======= ========= =======
Options exercisable at year-end 276,899 109,425 600,800
========= ========= =========
48
The following table summarizes information concerning outstanding and
exercisable options at January 31, 2003:
Options Outstanding Options Exercisable
---------------------------------------------------------- ------------------------------------
Range of Number Weighted Average Weighted Average Number Weighted
Exercise Outstanding at Remaining Exercise Price Exercisable at Average
Prices Jan. 31, 2003 Contractual Life Jan. 31, 2003 Exercise Price
----------------- -------------------- ----------------- ---------------- ------------------
$2.00-$2.99 130,000 9.4 years $2.15 - $ -
$3.00-$3.99 709,000 8.9 years 3.12 177,249 3.12
$4.00-$4.99 19,800 6.6 years 4.16 12,050 4.19
$6.00-$6.99 10,600 2.8 years 6.85 10,600 6.85
$8.00-$8.99 2,000 5.3 years 8.10 2,000 8.10
$9.00-$9.99 75,000 4.8 years 9.60 75,000 9.60
----------- ------------- --------- ---------- --------
946,400 8.5 years $3.57 276,899 $5.10
=========== ============= ========= ========== ========
The Company's stock option plans are accounted for using the intrinsic value
method and, accordingly, no compensation cost has been recognized. Had
compensation cost been determined using the fair value method in 2002, 2001 and
2000, the Company's pro forma net income (loss) and earnings (loss) per share
would have been as follows:
2002 2001 2000
-------- -------- --------
Net income (loss) - as reported (in thousands) $(11,528) $ (374) $ 1,126
Compensation cost under fair-market value-based accounting
method, net of tax (in thousands) $ (136) $ (31) $ (279)
Net income (loss) - pro forma (in thousands) $(11,664) $ (405) $ 847
Net income (loss) per common share - basic, as reported $ (2.34) $ (0.08) $ 0.23
Net income (loss) per common share - basic, pro forma $ (2.37) $ (0.08) $ 0.17
Net income (loss) per common share - diluted, as reported $ (2.34) $ (0.08) $ 0.23
Net income (loss) per common share - diluted, pro forma $ (2.37) $ (0.08) $ 0.17
Reported diluted EPS higher than pro forma diluted EPS $ 0.03 - $ 0.06
The weighted average fair value of options granted during 2002 (net of options
surrendered), 2001 and 2000 are estimated at $1.17, $1.14 and $2.36, per share,
respectively, on the date of grant using the Black-Scholes option-pricing model
with the following weighted average assumptions:
2002 2001 2000
-------- -------- --------
Expected volatility 46.81% 44.85% 46.33%
Risk-free interest rate 4.51% 4.95% 6.49%
Dividend yield 0.0% 0.0% 0.0%
Expected life in years 7.0 7.0 7.0
Note 14 - Stock Rights
On September 15, 1999, the Company's Board of Directors declared a dividend of
one common stock purchase right (a "Right") for each share of MFRI's common
stock outstanding at the close of business on September 22, 1999. The stock
issued after September 22, 1999 and before the redemption or expiration of the
Rights are also entitled to one Right for each such additional share. Each Right
entitles the registered holders, under certain circumstances, to purchase from
the Company one share of MFRI's common stock at $25.00, subject to adjustment.
At no time will the Rights have any voting power.
The Rights may not be exercised until 10 days after a person or group acquires
15 percent or more of the Company's common stock, or announces a tender offer
that, if consummated, would result in 15 percent or more ownership of the
Company's common stock. Separate Rights certificates will not be issued and the
Rights will not be traded separately from the stock until then.
49
Should an acquirer become the beneficial owner of 15 percent or more of the
Company's common stock, Rights holders other than the acquirer would have the
right to buy common stock in MFRI, or in the surviving enterprise if MFRI is
acquired, having a value of two times the exercise price then in effect. Also,
MFRI's Board of Directors may exchange the Rights (other than those of the
acquirer which will have become void), in whole or in part, at an exchange ratio
of one share of MFRI common stock (and/or other securities, cash or other assets
having equal value) per Right subject to adjustment. The Rights described in
this paragraph and the preceding paragraph shall not apply to an acquisition,
merger or consolidation approved by the Company's Board of Directors.
The Rights will expire on September 15, 2009, unless exchanged or redeemed prior
to that date. The redemption price is $0.01 per Right. MFRI's Board of Directors
may redeem the Rights by a majority vote at any time prior to the 20th day
following public announcement that a person or group has acquired 15 percent of
MFRI's common stock. Under certain circumstances, the decision to redeem
requires the concurrence of a majority of the independent directors.
Note 15 - Quarterly Financial Data (Unaudited)
The following is a summary of the unaudited quarterly results of operations for
the years 2002 and 2001:
(In thousands except per share information) 2002
-----------------------------------------------------------------
First Second Third Fourth
Quarter Quarter Quarter Quarter
--------- ---------- --------- ---------
Net Sales $ 26,768 $ 34,326 $ 33,230 $ 28,573
Gross Profit 5,780 8,239 7,830 5,091
Net income (loss) (10,921)1 470 251 (1,328)
Per Share Data:
Net income (loss) - basic $ (2.22) $ 0.10 $ 0.05 $ (0.27)
Net income (loss) - diluted $ (2.22) $ 0.10 $ 0.05 $ (0.27)
1 First quarter net loss is restated to reflect the cumulative effect of
accounting change (see Note 2).
2001
-----------------------------------------------------------------
First Second Third Fourth
Quarter Quarter Quarter Quarter
--------- ---------- --------- ---------
Net Sales $ 30,692 $ 34,190 $ 32,393 $ 28,259
Gross Profit 7,011 8,179 6,929 4,213
Net income (loss) 140 796 161 (1,471)
Per Share Data:
Net income (loss) - basic $ 0.03 $ 0.16 $ 0.03 $ (0.30)
Net income (loss) - diluted $ 0.03 $ 0.16 $ 0.03 $ (0.30)
Note 16 - Product Warranties
The Company issues a standard warranty with the sale of its products and sells
extended warranty contracts to customers. The Company's recognition of warranty
liability is based, generally, on analyses of warranty claims experiences in the
operating units in the preceding years. Changes in the warranty liability in
2002 are summarized below:
2002
--------
Aggregate product warranty liability at January 31, 2002 $359,052
Aggregate accruals related to product warranties in 2002 504,944
Aggregate reductions for payments made in 2002 (213,214)
Aggregate changes in 2002 for pre-existing warranties (98,138)
--------
Aggregate product warranty liability at January 31, 2003 $552,644
========
50
Schedule II
MFRI, INC. AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
For the Years Ended January 31, 2003, 2002 and 2001
MFRI, INC. AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
For the Years Ended January 31, 2003, 2002 AND 2001
- -------------------------------------------------------------------------------------------------------------------------------
Column A Column B Column C Column D Column E
- -------------------------------------------------------------------------------------------------------------------------------
Balance at Charged to
Beginning of Costs and Charged to Other Deductions from Balance at
Description Period Expenses Accounts (1) Reserves (2) End of Period
- -------------------------------------------------------------------------------------------------------------------------------
Year Ended January 31, 2003:
Allowance for possible
losses in collection of
trade receivables $343,000 $352,000 - $285,000 $410,000
======== ======== ======== ======== ========
Year Ended January 31, 2002:
Allowance for possible
losses in collection of
trade receivables $410,000 $335,000 $139,000 $263,000 $343,000
======== ======== ======== ======== ========
Year Ended January 31, 2001:
Allowance for possible
losses in collection of
trade receivables $250,000 $333,000 - $173,000 $410,000
======== ======== ======== ======== ========
(1) Disposed with sale of business.
(2) Uncollectible accounts charged off.
51
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
MFRI, INC.
Date: May 14, 2003 By: /s/ David Unger
David Unger,
Chairman of the Board of Directors, President
and Chief Executive Officer
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following person on behalf of the registrant
and in the capacities and on the date indicated.
DAVID UNGER* Director and Chairman of the )
Board of Directors, President )
and Chief Executive Officer )
(Principal Executive Officer) )
)
HENRY M. MAUTNER* Director )May 14, 2003
)
GENE K. OGILVIE* Director )
)
FATI A. ELGENDY* Director )
)
BRADLEY E. MAUTNER* Director )
)
DON GRUENBERG* Director )
)
MICHAEL D. BENNETT* Vice President, Secretary and )
Treasurer (Principal Financial )
and Accounting Officer) )
)
ARNOLD F. BROOKSTONE* Director )
)
EUGENE MILLER* Director )
)
STEPHEN B. SCHWARTZ* Director )
)
DENNIS KESSLER* Director )
)
*By: /s/ David Unger Individually and as Attorney-in-Fact )
David Unger )
52
I, Michael D. Bennett, certify that:
1. I have reviewed this annual report on Form 10-K of MFRI, Inc.
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the Registrant as of, and for, the periods presented in this annual report;
4. The Registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
(a) designed such disclosure controls and procedures to ensure that
material information relating to the Registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report
is being prepared;
(b) evaluated the effectiveness of the Registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this annual report (the "Evaluation Date"); and
(c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The Registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the Registrant's auditors and the Audit
Committee of Registrant's Board of Directors (or persons performing the
equivalent functions):
(a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the Registrant's ability to
record, process, summarize and report financial data and have
identified for the Registrant's auditors any material weaknesses in
internal controls; and
(b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the Registrant's internal
controls; and
6. The Registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
May 14, 2003
_____________________
Michael D. Bennett
Vice President, Secretary and Treasurer
(Principal Financial and Accounting Officer)
53
I, David Unger, certify that:
1. I have reviewed this annual report on Form 10-K of MFRI, Inc.
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the Registrant as of, and for, the periods presented in this annual report;
4. The Registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have;
(a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report
is being prepared;
(b) evaluated the effectiveness of the Registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this annual report (the "Evaluation Date"); and
(c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The Registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the Registrant's auditors and the Audit
Committee of Registrant's Board of Directors (or persons performing the
equivalent functions):
(a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the Registrant's ability to
record, process, summarize and report financial data and have
identified for the Registrant's auditors any material weaknesses in
internal controls; and
(b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the Registrant's internal
controls; and
6. The Registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
May 14, 2003
_____________________
David Unger
Director and Chairman of the Board of Directors,
President and Chief Executive Officer
(Principal Executive Officer)
54
EXHIBIT INDEX
Exhibit No. Description
- -------------- ----------------------------------------------------------------
3(i) Certificate of Incorporation of MFRI, Inc. [Incorporated by
reference to Exhibit 3.3 to Registration Statement No. 33-70298]
3(ii) By-Laws of MFRI, Inc. [Incorporated by reference to Exhibit 3.4
to Registration Statement No. 33-70298]
4 Specimen Common Stock Certificate [Incorporated by reference to
Exhibit 4 to Registration Statement No. 33-70794]
10(a) 1993 Stock Option Plan [Incorporated by reference to
Exhibit 10.4 of Registration Statement No. 33-70794]
10(b) 1994 Stock Option Plan [Incorporated by reference to
Exhibit 10(c) to the Company's Annual Report on Form 10-K for
the fiscal year ended January 31, 1994 (SEC File No. 0-18370)]
10(c) 2001 Independent Directors Stock Option Plan, as amended
[Incorporated by reference to Exhibit 10(d)(5) to the Company's
Schedule TO filed on May 25, 2001(SEC File No. 0-18370)]
10(d) Form of Directors Indemnification Agreement [Incorporated by
reference to Exhibit-10.7 to Registration Statement No.33-70298]
10(e) Offer to Exchange dated May 25, 2001 [Incorporated by reference
to Exhibit(a)(1)(A) to the Company's Schedule TO filed on
May 25, 2001(SEC File No. 0-18370)]
10(f) Form of Supplemental Letter to Eligible Option holders
[Incorporated by reference to Exhibit (a)(1)(C) to Amendment
No. 3 to the Company's Schedule TO filed on June 19, 2001
(SEC File No. 0-18370)]
21* Subsidiaries of MFRI, Inc.
23* Consent of Deloitte & Touche LLP
24* Power of Attorney executed by directors and officers of the
Company
99(a)* Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 -
Michael D. Bennett
99(b)* Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 -
David Unger
* Filed herewith
55
Exhibit 21
MFRI, Inc. has the following wholly owned subsidiaries:
1. Midwesco Filter Resources, Inc. (Delaware corporation)
2. Perma-Pipe, Inc. (Delaware corporation)
3. TDC Filter Manufacturing, Inc. (Delaware corporation)
4. Thermal Care, Inc. (Delaware corporation)
56
Exhibit 23
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in Registration Statement No.
333-21951 on Form S-3, Registration Statement No. 333-44787 on Form S-3 and
Registration Statement No. 333-08767 on Form S-8, of MFRI, Inc. of our report
dated May 12, 2003, (which report expresses an unqualified opinion and includes
an explanatory paragraph as to MFRI, Inc.'s change in its method of accounting
for goodwill and intangible assets) appearing in the Annual Report on Form 10-K
of MFRI, Inc. and subsidiaries for the year ended January 31, 2003.
DELOITTE & TOUCHE LLP
Chicago, Illinois
May 12, 2003
57
Exhibit 24
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each of the undersigned, being a
director or officer, or both, of MFRI, INC., a Delaware corporation (the
"Company"), does hereby constitute and appoint DAVID UNGER, HENRY M. MAUTNER and
MICHAEL D. BENNETT, with full power to each of them to act alone, as the true
and lawful attorneys and agents of the undersigned, with full power of
substitution and resubstitution to each of said attorneys to execute, file or
deliver any and all instruments and to do all acts and things which said
attorneys and agents, or any of them, deem advisable to enable the Company to
comply with the Securities Exchange Act of 1934, as amended, and any
requirements or regulations of the Securities and Exchange Commission in respect
thereof, in connection with the Company's filing of an annual report on Form
10-K for the Company's fiscal year 2002, including specifically, but without
limitation of the general authority hereby granted, the power and authority to
sign his name as a director or officer, or both, of the Company, as indicated
below opposite his signature, to the Form 10-K, and any amendment thereto; and
each of the undersigned does hereby fully ratify and confirm all that said
attorneys and agents, or any of them, or the substitute of any of them, shall do
or cause to be done by virtue hereof.
IN WITNESS WHEREOF, each of the undersigned has executed this Power of
Attorney as of this 21st day of April, 2003.
//s/ David Unger /s/ Arnold F. Brookstone
David Unger, Chairman of the Board of Arnold F. Brookstone, Director
Directors, President and Chief Executive
Officer (Principal Executive Officer)
/s/ Henry M. Mautner /s/ Don Gruenberg
Henry M. Mautner, Vice Chairman of Don Gruenberg, Director and
the Board of Directors Vice President
/s/ Bradley E. Mautner /s/ Eugene Miller
Bradley E. Mautner, Director Eugene Miller, Director
and Executive Vice President
/s/ Gene K. Ogilvie /s/ Stephen B. Schwartz
Gene K. Ogilvie, Director and Stephen B. Schwartz, Director
Vice President
/s/ Michael D. Bennett /s/ Dennis Kessler
Michael D. Bennett, Vice President, Dennis Kessler, Director
Secretary and Treasurer (Principal
Financial and Accounting Officer)
/s/ Fati A. Elgendy
Fati A. Elgendy, Director and
Vice President
58
Exhibit 99(a)
Certification of Principal Financial Officer
Pursuant to 18 U.S.C. 1350
(Section 906 of the Sarbanes-Oxley Act of 2002)
I, Michael D. Bennett, Chief Financial Officer (principal financial officer), of
MFRI, Inc. (the "Registrant"), certify that to the best of my knowledge, based
upon a review of the Annual Report on Form 10-K for the period ended January 31,
2003 of the Registrant (the "Report"):
(1) The Report fully complies with the requirements of section 13(a) of
the Securities Exchange Act of 1934, as amended; and
(2) The information contained in the Report fairly presents, in all
material respects, the financial condition and results of operations
of the Registrant.
____________________________
Michael D. Bennett
May 14, 2003
59
Exhibit 99(b)
Certification of Principal Executive Officer
Pursuant to 18 U.S.C. 1350
(Section 906 of the Sarbanes-Oxley Act of 2002)
I, David Unger, President and Chief Executive Officer (principal executive
officer), of MFRI, Inc. (the "Registrant"), certify that to the best of my
knowledge, based upon a review of the Annual Report on Form 10-K for the period
ended January 31, 2003 of the Registrant (the "Report"):
(1) The Report fully complies with the requirements of section 13(a) of
the Securities Exchange Act of 1934, as amended; and
(2) The information contained in the Report fairly presents, in all
material respects, the financial condition and results of operations
of the Registrant.
____________________________
David Unger
May 14, 2003
60