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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
- ------- ------------------------------------------------------------------------
For the quarterly period ended July 31, 2003
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OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
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For the transition period from to
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Commission file number 0-18370
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MFRI, INC.
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 36-3922969
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
7720 Lehigh Avenue Niles, Illinois 60714
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(Address of principal executive offices) (Zip Code)
(847) 966-1000
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(Registrant's telephone number, including area code)
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(Former name, former address and former fiscal year, if changed since last
report)
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 whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes No X
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On September 15, 2003, there were 4,922,364 shares of the registrant's common
stock outstanding.
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
The accompanying interim condensed consolidated financial statements of MFRI,
Inc. and subsidiaries (the "Company") are unaudited, but include all adjustments
which the Company's management considers necessary to present fairly the
financial position and results of operations for the periods presented. These
adjustments consist of normal recurring adjustments. Certain information and
footnote disclosures have been condensed or omitted pursuant to Securities and
Exchange Commission rules and regulations. These condensed consolidated
financial statements should be read in conjunction with the consolidated
financial statements and the notes thereto included in the Company's annual
report on Form 10-K for the year ended January 31, 2003. Certain
reclassifications have been made in prior-year financial statements to conform
to the current-year presentation. The results of operations for the quarter
ended July 31, 2003 are not necessarily indicative of the results to be expected
for the full year ending January 31, 2004.
1
MFRI, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(In thousands except per share information)
Three Months Ended Six Months Ended
July 31, July 31,
--------------------- ---------------------
2003 2002(1) 2003 2002(1)
-------- -------- -------- --------
Net sales $ 33,148 $ 34,326 $ 61,158 $ 61,095
Cost of sales 25,467 26,087 48,283 47,104
-------- -------- -------- --------
Gross profit 7,681 8,239 12,875 13,991
Operating expenses:
Selling expense 2,564 2,614 5,164 4,875
General and administrative expense 3,786 4,662 7,329 7,940
-------- -------- -------- --------
Total operating expenses 6,350 7,276 12,493 12,815
-------- -------- -------- --------
Income from operations 1,331 963 382 1,176
Income from Joint Venture 176 - 186 -
Interest Expense - net 528 517 1,020 1,036
-------- -------- -------- --------
Income (loss) before income taxes, extraordinary item
and cumulative effect of accounting change 979 446 (452) 140
Income taxes (benefit) 376 184 (190) 60
-------- -------- -------- --------
Income (loss) before extraordinary item and cumulative
effect of accounting change 603 262 (262) 80
Extraordinary gain, net of tax of $138 - 208 - 208
-------- -------- -------- --------
Income (loss) before cumulative effect of accounting
change 603 470 (262) 288
Cumulative effect of a change in accounting for
goodwill, net of tax benefit of $1,110 - - - (10,739)
-------- -------- -------- --------
Net income (loss) $ 603 $ 470 $ (262) $(10,451)
======== ======== ======== ========
Weighted average common shares outstanding
(basic and fully diluted) 4,922 4,922 4,922 4,922
Basic earnings per share
Income (loss) before extraordinary item and
cumulative effect of accounting change $ 0.12 $ 0.05 $ (0.05) $ 0.02
accounting change $ 0.12 $ 0.10 $ (0.05) $ 0.06
Cumulative effect of accounting change - - - (2.18)
Net income (loss) $ 0.12 $ 0.10 $ (0.05) $ (2.12)
Diluted earnings per share
Income (loss) before extraordinary item and
cumulative effect of accounting change $ 0.12 $ 0.05 $ (0.05) $ 0.02
Income (loss) before cumulative effect of
accounting change $ 0.12 $ 0.10 $ (0.05) $ 0.06
Cumulative effect of accounting change - - - (2.18)
Net income (loss) $ 0.12 $ 0.10 $ (0.05) $ (2.12)
(1) The first quarter of fiscal year 2002 was restated to reflect the cumulative
effect of accounting change in accordance with SFAS 142 and the second quarter
of fiscal year 2002 was restated to reclass the loss on extinguishment of debt
from extraordinary item to operating expense in accordance with SFAS 145.
Management's estimate of the extraordinary gain was adjusted subsequent to July
31, 2002 to $35,000 (net of tax of $23,000) which results in a $0.04 per share
decrease in net income (loss) for basic and diluted earnings.
See notes to condensed consolidated financial statements.
2
MFRI, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(In thousands)
July 31, January 31,
Assets 2003 2003
- --------------------------------------------------------------------------------
Current Assets:
Cash and cash equivalents $ 204 $ 346
Restricted cash 142 276
Trade accounts receivable, net 19,297 17,806
Accounts receivable - related companies 716 329
Costs and estimated earnings in excess of
billings on uncompleted contracts 2,469 2,044
Income taxes receivable 1,490 1,043
Inventories 19,159 19,582
Deferred income taxes 2,090 1,822
Prepaid expenses and other current assets 597 1,828
-------- --------
Total current assets 46,164 45,076
Property, plant and equipment, net 28,707 27,888
Other Assets:
Assets held for sale 147 277
Patents, net of accumulated amortization 777 844
Goodwill 2,410 2,353
Other assets 2,267 2,538
-------- --------
Total other assets 5,601 6,012
-------- --------
Total Assets $ 80,472 $ 78,976
======== ========
Liabilities and Stockholders' Equity
- --------------------------------------------------------------------------------
Current Liabilities:
Trade accounts payable $ 9,493 $ 9,673
Accrued compensation and payroll taxes 2,150 2,193
Other accrued liabilities 2,999 2,262
Commissions payable 4,103 4,163
Current maturities of long-term debt 16,734 2,415
Billings in excess of costs and estimated
earnings on uncompleted contracts 525 299
Income taxes payable 232 82
-------- --------
Total current liabilities 36,236 21,087
Long-Term Liabilities:
Long-term debt, less current maturities 15,646 29,261
Other 2,069 2,016
-------- --------
Total long-term liabilities 17,715 31,277
Stockholders' Equity:
Common stock, $.01 par value, authorized - 50,000
shares in July 2003 and January 2003;
4,922 issued and outstanding in July 2003 and
January 2003 49 49
Additional paid-in capital 21,397 21,397
Retained earnings 5,935 6,197
Accumulated other comprehensive loss (860) (1,031)
-------- --------
Total stockholders' equity 26,521 26,612
-------- --------
Total Liabilities and Stockholders' Equity $ 80,472 $ 78,976
======== ========
See notes to condensed consolidated financial statements.
3
MFRI, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In thousands) Six Months Ended July 31,
-------------------------
2003 2002(1)
-------- --------
Cash Flows from Operating Activities:
Net loss $ (262) $(10,451)
Adjustments to reconcile net loss to
net cash flows from operating activities:
Cumulative effect of change in accounting for
goodwill - 10,739
Extraordinary (gain), net of tax of $138 - (208)
(Income) from joint venture (186) -
Provision for depreciation and amortization 2,023 1,919
(Gain) loss on sale of property, plant and
equipment (21) -
Change in operating assets and liabilities:
Trade accounts receivable (1,491) (2,392)
Costs and estimated earnings in excess of
billings on uncompleted contracts (199) 215
Inventories 502 (671)
Prepaid expenses and other current assets 512 (765)
Current liabilities 135 4,015
Other operating assets and liabilities 560 (908)
-------- --------
Net Cash Flows from Operating Activities 1,573 1,493
-------- --------
Cash Flows from Investing Activities:
Proceeds from sale of property and equipment 466 -
Purchases of property and equipment (2,804) (587)
Purchase of a business by acquiring specified assets
and assuming specified liabilities - (500)
Investment in joint venture - (60)
-------- --------
Net Cash Flows from Investing Activities (2,338) (1,147)
-------- --------
Cash Flows from Financing Activities:
Payments on capitalized lease obligations (75) (68)
Borrowings under revolving, term and mortgage loans 11,669 17,729
Repayment of debt (11,019) (17,890)
-------- --------
Net Cash Flows from Financing Activities 575 (229)
-------- --------
Effect of Exchange Rate Changes on Cash
and Cash Equivalents 48 17
-------- --------
Net increase (decrease) in Cash and Cash Equivalents (142) 134
Cash and Cash Equivalents - Beginning of Period 346 119
-------- --------
Cash and Cash Equivalents - End of Period $ 204 $ 253
======== ========
Supplemental cash flow information:
Cash paid for:
Interest, net of capitalized amounts $ 1,016 $ 1,022
Income taxes, net of refunds received 5 66
1) The first quarter of fiscal year 2002 was restated to reflect the cumulative
effect of accounting change in accordance with SFAS 142 and the second quarter
of fiscal year 2002 was restated to reclass the loss on extinguishment of debt
from extraordinary item to operating expense in accordance with SFAS 145.
Management's estimate of the extraordinary gain was adjusted subsequent to July
31, 2002 to $35,000 (net of tax of $23,000) which results in a $0.04 per share
decrease in net income (loss) for basic and diluted earnings.
See notes to condensed consolidated financial statements.
4
MFRI, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
JULY 31, 2003
1. The unaudited financial statements herein have been prepared by the Company
pursuant to the rules and regulations of the Securities and Exchange
Commission. The accompanying interim financial statements have been
prepared under the presumption that users of the interim financial
information have either read or have access to the audited financial
statements for the latest fiscal year ended January 31, 2003. Accordingly,
footnote disclosures which would substantially duplicate the disclosures
contained in the January 31, 2003 audited financial statements have been
omitted from these interim financial statements. Certain reclassifications
have been made in prior-year financial statements to conform to the
current-year presentation. Certain information and footnote disclosures
normally included in financial statements prepared in accordance with
accounting principles generally accepted in the United States of America
have been condensed or omitted pursuant to such rules and regulations.
Although the Company believes that the disclosures are adequate to make the
information presented not misleading, it is suggested that these interim
financial statements be read in conjunction with the financial statements
and the notes thereto included in the Company's latest Annual Report on
Form 10-K.
2. Inventories consisted of the following:
July 31, January 31,
(In thousands) 2003 2003
-------- --------
Raw materials $ 13,871 $ 14,647
Work in process 2,160 1,881
Finished goods 3,128 3,054
-------- --------
Total $ 19,159 $ 19,582
======== ========
3. 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
$777,000 and $844,000 at July 31, 2003 and January 31, 2003, respectively.
Accumulated amortization was $1,363,000 and $1,273,000 at July 31, 2003 and
January 31, 2003, 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.
4. Assets held for sale: Certain machinery in Perma-Pipe is classified as
held-for-sale. The estimated fair value is $147,000 and $277,000 at July
31, 2003 and January 31, 2003, respectively. At July 31, 2003, the
estimated remaining useful life is 5.0 years.
5. Investment in Joint Venture: In April 2002, the Company's Piping Systems
Business and two unrelated companies formed an equally owned joint venture
to more efficiently market their complementary thermal insulation products
and systems for use in undersea pipeline flow assurance projects worldwide.
During the year ended January 31, 2003, the Company invested $67,000 as its
initial capital contribution and its share of advances to fund costs and
expenses. The Company accounts for its joint venture investment using the
equity method. The Company's share of income for the current year is
$186,000.
5
6. The basic weighted average shares reconcile to diluted weighted average
shares as follows:
Three Months Ended Six Months Ended
(In thousands) July 31, July 31,
--------------------- ---------------------
2003 2002(1) 2003 2002(1)
-------- -------- -------- --------
Net income (loss) $ 603 $ 470 $ (262) $(10,451)
======== ======== ======== ========
Basic weighted average common
shares outstanding 4,922 4,922 4,922 4,922
Dilutive effect of stock options - - - -
-------- -------- -------- --------
Weighted average common shares
outstanding assuming full dilution 4,922 4,922 4,922 4,922
======== ======== ======== ========
Basic earnings per share
Income (loss) before cumulative effect of
accounting change $ 0.12 $ 0.10 $ (0.05) $ 0.06
Cumulative effect of accounting
change - - - (2.18)
Net income (loss) $ 0.12 $ 0.10 $ (0.05) $ (2.12)
Diluted earnings per share
Income (loss) before cumulative effect of
accounting change $ 0.12 $ 0.10 $ (0.05) $ 0.06
Cumulative effect of accounting
change - - - (2.18)
Net income (loss) $ 0.12 $ 0.10 $ (0.05) $ (2.12)
1) The first quarter of fiscal year 2002 was restated to reflect the
cumulative effect of accounting change in accordance with SFAS 142 and
the second quarter of fiscal year 2002 was restated to reclass the
loss on extinguishment of debt from extraordinary item to operating
expense in accordance with SFAS 145.
Management's estimate of the extraordinary gain was adjusted
subsequent to July 31, 2002 to $35,000 (net of tax of $23,000) which
results in a $0.04 per share decrease in net income (loss) for basic
and diluted earnings.
The weighted average number of stock options not included in the
computation of diluted earnings per share of common stock because the
option exercise prices exceeded the average market prices of the common
shares were 1,002,000 and 926,000 for the three months ended July 31, 2003
and 2002, respectively, and 971,000 and 886,000 for the six months ended
July 31, 2003 and 2002, respectively. These options were outstanding at the
end of each of the respective periods.
6
7. The components of comprehensive income (loss), net of tax, were as follows:
Three Months Ended Six Months Ended
(In thousands) July 31, July 31,
--------------------- ---------------------
2003 2002(1) 2003 2002(1)
-------- -------- -------- --------
Net income (loss) $ 603 $ 470 $ (262) $(10,451)
Change in foreign currency translation
adjustments 19 339 171 401
-------- -------- -------- --------
Comprehensive income (loss) $ 622 $ 809 $ (91) $(10,050)
======== ======== ======== ========
Accumulated other comprehensive loss presented on the accompanying
condensed consolidated balance sheet consists of the following:
July 31, January 31,
(In thousands) 2003 2003
-------- --------
Accumulated translation adjustment $ 210 $ 39
Minimum pension liability adjustment (net of
tax benefit of $655 at July 31 and
January 31, 2003) (1,070) (1,070)
-------- --------
Total $ (860) $ (1,031)
======== ========
1) The first quarter of fiscal year 2002 was restated to reflect the
cumulative effect of accounting change in accordance with SFAS 142 and
the second quarter of fiscal year 2002 was restated to reclass the
loss on extinguishment of debt from extraordinary item to operating
expense in accordance with SFAS 145.
Management's estimate of the extraordinary gain was adjusted
subsequent to July 31, 2002 to $35,000 (net of tax of $23,000) which
results in a $0.04 per share decrease in net income (loss) for basic
and diluted earnings.
8. The Company has three reportable segments under the criteria of Statement
of Financial Accounting Standards No. 131, "Disclosures about Segments of
an Enterprise and Related Information." 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, manufactures and sells specialty piping systems and leak detection
and location systems. The Industrial Process Cooling Equipment Business
engineers, designs, manufactures and sells chillers, cooling towers, plant
circulating systems and accessories for industrial process applications.
7
Three Months Ended Six Months Ended
(In thousands) July 31, July 31,
--------------------- ---------------------
2003 2002(1) 2003 2002(1)
-------- -------- -------- --------
Net Sales:
Filtration Products $ 14,587 $ 13,575 $ 27,977 $ 25,967
Piping Systems 12,148 14,471 20,953 23,795
Industrial Process Cooling Equipment 6,413 6,280 12,228 11,333
-------- -------- -------- --------
Total Net Sales $ 33,148 $ 34,326 $ 61,158 $ 61,095
======== ======== ======== ========
Gross Profit:
Filtration Products $ 3,060 $ 2,792 $ 5,335 $ 5,005
Piping Systems 2,804 3,435 4,078 5,577
Industrial Process Cooling Equipment 1,817 2,012 3,462 3,409
-------- -------- -------- --------
Total Gross Profit $ 7,681 $ 8,239 $ 12,875 $ 13,991
======== ======== ======== ========
Income (loss) from Operations:
Filtration Products $ 761 $ 174 $ 959 $ 544
Piping Systems 1,551 1,776 1,656 2,508
Industrial Process Cooling Equipment 273 298 281 299
Corporate (1,254) (1,285) (2,514) (2,175)
-------- -------- -------- --------
Income from Operations $ 1,331 $ 963 $ 382 $ 1,176
======== ======== ======== ========
1) The first quarter of fiscal year 2002 was restated to reflect the
cumulative effect of accounting change in accordance with SFAS 142 and
the second quarter of fiscal year 2002 was restated to reclass the
loss on extinguishment of debt from extraordinary item to operating
expense in accordance with SFAS 145.
Management's estimate of the extraordinary gain was adjusted
subsequent to July 31, 2002 to $35,000 (net of tax of $23,000) which
results in a $0.04 per share decrease in net income (loss) for basic
and diluted earnings.
9. In May 2003, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 150 "Accounting for
certain financial instruments with characteristics of both liabilities and
equity," effective in June 2003. SFAS No. 150 requires an issuer to
classify, as liabilities, any financial instruments that fall within the
scope of this pronouncement. Many of those instruments were previously
classified as equity. Adoption of SFAS 150 did not have a material effect
on the results of operations, financial condition, or cash flows of the
Company.
In April 2003, the FASB issued SFAS No. 149 "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities," parts of which apply to
existing contracts, but which is generally effective for contracts entered
into after June 30, 2003. Adoption of SFAS No. 149 did not have a material
effect on the results of operations, financial condition or cash flows of
the Company.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
variable interest entities, an interpretation of ARB No. 51," which
requires that the assets, liabilities, and the results of activities of a
variable interest entity in which a business enterprise has controlling
financial interest be included in consolidation with those of the business
enterprise. Adoption of FIN No. 46 did not have a material effect on the
results of operations, financial condition or cash flows of the Company.
8
In December 2002, the FASB issued SFAS No. 148 "Accounting for Stock-Based
Compensation" which was effective for the Company on 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.
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 July 31, 2003.
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 extraordinary items.
Adoption of SFAS No. 145 resulted in the reclassification of an
extraordinary loss of $133,000 ($79,000 net of tax) recorded in the quarter
ended July 31, 2002 to an operating expense in the current year's
presentation of the prior year financial information.
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 condensed consolidated statements of operations for the
quarters and six-month periods ended July 31, 2003 and July 31, 2002. SFAS
No. 142 requires that goodwill and other intangible assets with indefinite
lives be analyzed for impairment at its adoption with any resulting
impairment loss recorded as a cumulative effect of change in accounting
principle. Subsequent to the initial impairment test, 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. The
Company's initial impairment 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 for the year ended January 31, 2003. The impairment loss was
restated to the
9
first quarter of 2002 to reflect the cumulative effect of accounting
change. The Company's annual impairment test at February 1, 2003 did not
result in an impairment. Goodwill was $2,410,000 and $2,353,000 at July 31,
2003 and January 31, 2003, respectively. The change from $2,353,000 at
January 31, 2003 to $2,410,000 at July 31, 2003 was due to foreign currency
translation.
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 2003
and 2002, the Company's pro forma net income (loss) and earnings (loss) per
share would have been as follows:
Three Months Ended Six Months Ended
July 31, July 31,
--------------------- ---------------------
2003 2002(1) 2003 2002(1)
-------- -------- -------- --------
Net income (loss) - as reported (in
thousands) $ 603 $ 470 $ (262) $(10,451)
Compensation cost under fair-market
value-based accounting method, net
of tax (in thousands) (45) (35) (79) (69)
Net income (loss) - pro forma (in
thousands) $ 558 $ 435 $ (341) $(10,520)
Net income (loss) per common share -
basic, as reported $ 0.12 $ 0.10 $ (0.05) $ (2.12)
Net income (loss) per common share -
basic, pro forma $ 0.11 $ 0.09 $ (0.07) $ (2.14)
Net income (loss) per common share -
diluted, as reported $ 0.12 $ 0.10 $ (0.05) $ (2.12)
Net income (loss) per common share -
diluted, pro forma $ 0.11 $ 0.09 $ (0.07) $ (2.14)
1) The first quarter of fiscal year 2002 was restated to reflect the
cumulative effect of accounting change in accordance with SFAS 142 and
the second quarter of fiscal year 2002 was restated to reclass the
loss on extinguishment of debt from extraordinary item to operating
expense in accordance with SFAS 145.
Management's estimate of the extraordinary gain was adjusted
subsequent to July 31, 2002 to $35,000 (net of tax of $23,000) which
results in a $0.04 per share decrease in net income (loss) for basic
and diluted earnings.
11. 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
10
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 a prepayment on July 31, 2002.
At July 31, 2003, the Company was not in compliance with one covenant under
the Note Purchase Agreements. The Company and the lenders are discussing a
waiver. Also, the Company's noncompliance with a covenant under the Loan
Agreement constitutes an event of default under the Note Purchase
Agreements (see the paragraphs below that refer to the Loan Agreement). The
holders of Notes due 2007 have not declared an event of default or
accelerated the indebtedness of the Company evidenced by the Notes. The
Company has made all required payments of principal and interest under the
Note Purchase Agreements to date. See the Loan Agreement paragraph below
for a discussion relating to a waiver and amendment under the Loan
Agreement.
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 $27,000,000, 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 July 31, 2003, the prime rate was 4.00
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 1.25 and 3.00 percentage points, respectively.
As of July 31, 2003, the Company had borrowed $11,028,000 and had
$1,031,000 available to it under the revolving line of credit. In addition,
$6,140,000 of availability was used under the Loan Agreement primarily to
support letters of credit to guarantee amounts owed for Industrial Revenue
Bond borrowings. 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 July 31,
2003, the amount of restricted cash was $142,000. Cash required for
operations is provided by draw-downs on the line of credit.
At July 31, 2003, the Company was not in compliance with two covenants
under the Loan Agreement. The Company has not yet obtained a waiver for
such noncompliance. Although this noncompliance constitutes an event of
default under the Loan Agreement, the lender has not declared an event of
default or accelerated the indebtedness of the Company under the Loan
Agreement. The Company has made all required payments of principal and
interest under the Loan Agreement to date. The Company and the lender are
discussing a waiver and amendment. The Company believes it is probable that
agreement will be reached for the waiver and amendment, although agreement
is not assured. If it does not occur, the Company believes it will be able
to obtain replacement financing on acceptable terms, although there is no
assurance that any such financing will be obtained. As required by
accounting principles generally accepted in the United States, due to the
unwaived covenant noncompliance discussed above, all amounts owing under
the Note Purchase Agreements and the Loan Agreement have been classified as
current in the accompanying Balance Sheet.
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 July 31, 2003, borrowings under these credit
arrangements totaled $415,000; an additional $237,000 remained unused.
11
Item 2. 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 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.
RESULTS OF OPERATIONS
MFRI, Inc.
Three months ended July 31
Net sales of $33,148,000 for the quarter ended July 31, 2003 decreased 3.4
percent from $34,326,000 for the comparable quarter in the prior year. (See
discussion of each business segment below.)
Gross profit of $7,681,000 decreased 6.8 percent from $8,239,000 in the prior
year quarter, and gross margin decreased to 23.2 percent of net sales in the
current year from 24.0 percent of net sales in the prior year. (See discussion
of each business segment below.)
Net income before extraordinary item and cumulative effect of accounting change
increased 130.0 percent to $603,000 in the current year quarter from $262,000 in
the prior year quarter. Net income before extraordinary item and cumulative
effect of accounting change per common share (diluted) increased to $0.12 from
$0.05. The increase in net income was due to lower general and administrative
expenses and income from a joint venture investment, partially offset by
decreased gross profits. (See discussion of each business segment below.)
Six months ended July 31
Net sales of $61,158,000 for the six months ended July 31, 2003 increased 0.1
percent from $61,095,000 for the comparable period in the prior year. (See
discussion of each business segment below.)
Gross profit of $12,875,000 decreased 8.0 percent from $13,991,000 for the
comparable period in the prior year, while gross margin decreased to 21.1
percent of net sales in the current year from 22.9 percent of net sales in the
prior year. (See discussion of each business segment below.)
Net income before extraordinary item and cumulative effect of accounting change
decreased from $80,000 for the six months ended July 31, 2002, to a net loss of
$262,000 in the comparable period ended July 31, 2003. Net income before
extraordinary item and cumulative effect of accounting change per common share
12
(diluted) decreased from $0.02 in the six months ended July 31, 2002, to a net
loss of $0.05 in the current year. The decrease was due to decreased gross
profit and increased selling expense in the current year, partially offset by
decreased general and administrative expenses and income from a joint venture
investment. (See discussion of each business segment below.)
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. At July 31, 2002 the purchase, resulted in the recognition
of an extraordinary gain of $346,000 ($208,000 net of tax). Management's
estimate of the extraordinary gain was adjusted subsequent to July 31, 2002 to
$35,000 (net of tax of $23,000) which results in a $0.04 per share decrease in
net income (loss) for basic and diluted earnings.
The 2002 net loss of $10,451,000 or $2.12 per common share is mainly the result
of an adjustment for a write-off of impaired goodwill (see Note 9 of the
financial statements). 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.
Filtration Products Business
Three months ended July 31
Net sales for the quarter ended July 31, 2003 increased 7.5 percent to
$14,587,000 from $13,575,000 for the comparable quarter in the prior year. This
increase is primarily the result of increased sales of pleated filter elements.
Gross profit as a percent of net sales increased from 20.6 percent in the prior
year to 21.0 percent in the current year, primarily as a result of a favorable
product mix in the current quarter.
Selling expense for the quarter ended July 31, 2003 was essentially level, at
$1,421,000 or 9.7 percent of net sales, compared with $1,406,000 or 10.4 percent
of net sales for the comparable quarter last year.
General and administrative expenses decreased from $1,212,000 or 8.9 percent of
net sales in the prior-year quarter to $877,000 or 6.0 percent of net sales in
the current-year quarter. The prior-year period included significant legal
expense associated with a patent-infringement suit that has been settled and a
warranty claim that has been settled. Additionally, cost-reduction measures
implemented in the current year have led to reductions in current general and
administrative expense.
Six months ended July 31
Net sales for the six months ended July 31, 2003 increased 7.7 percent to
$27,977,000 from $25,967,000 for the comparable period in the prior year. This
increase is primarily the result of increased sales of pleated filter elements.
Gross profit as a percent of net sales decreased from 19.3 percent in the prior
year to 19.1 percent in the current year, primarily as a result of product mix
and competitive pricing pressures in the marketplace.
13
Selling expense for the six months ended July 31, 2003 increased to $2,852,000
or 10.2 percent of net sales from $2,628,000 or 10.1 percent of net sales for
the comparable period in the prior year. The increase is attributable to higher
advertising, commissions, and travel expenses, primarily in the first quarter.
General and administrative expenses decreased from $1,833,000 or 7.1 percent of
net sales in the prior-year period to $1,523,000 or 5.4 percent of net sales in
the current year period. The prior-year period included significant legal
expense associated with a patent-infringement suit that has been settled and a
warranty claim that has been settled. Additionally, cost-reduction measures
implemented in the current year have led to reductions in current general and
administrative expense.
Piping Systems Business
Three months ended July 31
Net sales decreased 16.1 percent from $14,471,000 in the prior year quarter to
$12,148,000 for the quarter ended July 31, 2003. This decrease is primarily due
to lower sales in products that are mainly dependent on state and federal
government spending, which declined in the quarter.
Gross profit as a percent of net sales decreased from 23.7 percent to 23.1
percent, mainly as a result of the lower margin work to maintain work levels and
under-absorption of manufacturing expenses due to lower volume.
Selling expense decreased from $370,000 or 2.6 percent of net sales for the
prior year quarter to $346,000 or 2.9 percent of net sales in the current year
quarter. The dollar decrease is primarily due to lower marketing expenses and
reduced commissions due to lower sales.
General and administrative expense decreased from $1,262,000 in the prior year
quarter to $909,000 in the current year quarter, and decreased as a percent of
net sales from 8.7 percent to 7.5 percent. The dollar decrease is primarily due
to lower management information systems (MIS) expenses, currency exchange gains
from the collection of Canadian Dollar accounts receivable, lower management
incentive expenses, and reduced salaries charged to general and administrative
expense.
Six months ended July 31
Net sales of $20,953,000 for the six months ended July 31, 2003 decreased 12.0
percent from $23,795,000 for the comparable period in the prior year. This
decrease is primarily due to lower sales in product lines that are mainly
dependent on state and federal government spending, which declined in the
quarter.
Gross profit as a percent of net sales decreased from 23.4 percent to 19.5
percent, mainly due to lower margin work to maintain work levels and
under-absorption of manufacturing expenses due to lower volume.
Selling expense decreased from $709,000 or 3.0 percent of net sales in the prior
year period to $687,000 or 3.3 percent of net sales in the current year period.
The dollar decrease is primarily due to reduced commissions due to lower sales.
14
General and administrative expense decreased to $1,736,000, compared with
$2,360,000 in the prior year period, and decreased as a percent of net sales
from 9.9 percent to 8.3 percent. The decrease is primarily due to lower MIS
expenses, currency exchange gains from the collection of Canadian Dollar
accounts receivable, lower management incentive expenses, and reduced salaries
charged to general and administrative expense.
Industrial Process Cooling Equipment Business
Three months ended July 31
Net sales of $6,413,000 for the quarter ended July 31, 2003 increased 2.1
percent from $6,280,000 for the comparable quarter in the prior year. The
increase is primarily due to new products resulting from the July 2002 purchase
of a business (by acquiring specified assets and assuming specified
liabilities).
Gross profit decreased to 28.3 percent of net sales from 32.0 percent of net
sales in the prior-year quarter, primarily due to higher production costs
associated with new products.
Selling expense decreased to $797,000 or 12.4 percent of net sales in the
current-year quarter from $838,000 or 13.3 percent of net sales in the
prior-year quarter. The decrease is due to product mix and lower selling
expenses.
General and administrative expense decreased to $746,000 or 11.6 percent of net
sales from $876,000 or 13.9 percent of net sales in the prior-year quarter. The
decrease is due to elimination of expenses associated with the prior-year
completion of a new enterprise resource planning ERP business applications
software, partially offset by additional employees and certification expenses
for the International Organization for Standardization (ISO).
Six months ended July 31
Net sales of $12,228,000 for the six months ended July 31, 2003 increased 7.9
percent from $11,333,000 for the comparable period in the prior year, mainly due
to new products resulting from the July 2002 purchase of a business (by
acquiring specified assets and assuming specified liabilities) and increases in
demand for installation and other services.
Gross margin decreased from 30.1 percent of net sales in the prior year to 28.3
percent of net sales in the current year, primarily due to higher production
costs associated with new products.
Selling expense increased to $1,625,000 or 13.3 percent of net sales in the
current year period from $1,538,000 or 13.6 percent of net sales in the prior
year. The dollar increase is primarily due to the additional sales employees
associated with the July 2002 purchase of a business (by acquiring specified
assets and assuming specified liabilities).
General and administrative expense decreased to $1,556,000 or 12.7 percent of
net sales in the current year period from $1,572,000 or 13.9 percent of net
sales in the prior year. The decrease is due to elimination of expenses
associated with the prior-year completion of a new ERP business applications
software, partially offset by additional employees and certification expenses
for the ISO.
15
General Corporate Expense
General corporate expense includes interest expense and general and
administrative expense incurred by MFRI, Inc. Corporate that has not been
allocated to the business segments.
Three months ended July 31
General and administrative expense decreased from $1,285,000 in the prior year
quarter to $1,254,000 in the current year quarter, and increased as a percentage
of net sales from 3.7 percent in the prior year quarter to 3.8 percent in the
current year quarter. Adoption of SFAS No. 145 resulted in the reclassification
of an extraordinary loss of $133,000 recorded in the quarter ended July 31, 2002
to an operating expense in the current year's presentation of prior-year
financial information. In the current year, the decrease is mainly due to
reduced hospitalization expense, partially offset by increased loan amortization
expense due to debt restructuring in July 2002 and amendments thereafter, and
increased costs related to maintenance of director and officer insurance.
Interest expense increased to $528,000 for the current year quarter from
$517,000 in the prior year quarter. The increase is primarily due to a new euro-
denominated loan acquired in January 2003 by one of the Company's foreign
subsidiaries for the construction of a building.
Six months ended July 31
General and administrative expense increased from $2,175,000 in the prior year
period to $2,514,000 in the current-year six-month period, and increased as a
percentage of net sales from 3.6 percent in the prior year period to 4.1 percent
in the current year period. Adoption of SFAS No. 145 resulted in the
reclassification of an extraordinary loss of $133,000 recorded in the quarter
ended July 31, 2002 to an operating expense in the current year's presentation
of prior-year financial information. The increase in the current year is mainly
due to increased salaries due to filled positions that were vacant in the
prior-year, partially offset by reduced expenses for temporary help, increased
loan amortization expense due to debt restructuring in July 2002 and amendments
thereafter, and an adjustment for accrued expenses. The above increase was
partially offset by reduced hospitalization expense.
Interest expense decreased to $1,020,000 for the current year period from
$1,036,000 for the comparable period in the prior year. The decrease is
primarily due to reduced interest rates from the July 2002 debt restructuring,
partially offset by interest expense on increased debt borrowings.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents as of July 31, 2003 were $204,000 as compared to
$253,000 at July 31, 2002. The Company generated $1,573,000 from operations
during the first six months. Operating cash flows increased by $80,000 from the
same period in the prior year. The cash from investing activities of $466,000
mainly resulted from the sale of certain equipment to a third party in July
2003. The Company leased back the equipment from the third party purchaser.
These cash flows, plus borrowings of $575,000 from the Company's credit
facility, were used to support $2,804,000 in capital spending.
16
Trade receivables increased from January 31, 2003 due to sales seasonality. The
months of November and December are traditionally our lowest sales months.
Inventories decreased from January 31, 2003 due to the reduction of excess
specialized inventories at January 2003 for which awaited orders were received.
The decrease is also a result of higher levels of work in process inventories
from January 2003 that have been completed and sold. Prepaid expenses and other
current assets decreased from January 31, 2003 due to the receipt of remaining
$1,053,000 receivable from the Danish Bank loan that was obtained in January
2003, partially offset by increased income tax receivable and increased
receivable from related companies. Other operating assets and liabilities
decreased from January 31, 2003 due to increased real estate taxes related to
the timing of the payments, increased sales tax payable due to sales
seasonality, partially offset by decreased balance in customer deposits.
Net cash used for investing activities for the six months ended July 31, 2003
and 2002 were $2,338,000 and $1,147,000, respectively. Capital expenditures
increased from $587,000 in the prior year to $2,804,000 in the current year.
Capital additions of $1,732,000 relate to the Company's construction of a new
building for one of its foreign subsidiaries, $110,000 relate to a new ERP
business applications software, and the remainder relates to equipment
purchases.
Debt totaled $32,380,000, up $704,000 since the beginning of the year. Refer to
the 2002 Annual Report for a complete discussion of the Company's debt and
credit facilities. For the six months ended July 31, 2003, net cash inflows from
financing activity was $575,000, consisting of $650,000 from net borrowings and
$75,000 used for payments on capitalized lease obligations. In the comparable
prior-year period, the Company used $161,000 for net payments of long-term debts
and utilized $68,000 to pay capitalized lease obligations. As of July 31, 2003,
scheduled maturities, excluding the revolving line of credit, for each of the
next five years are as follows: remainder of 2003 - $1,238,000; 2004 -
$1,634,000; 2005 - $1,399,000; 2006 - $3,066,000; 2007 - $5,933,000; thereafter
- - $7,866,000.
The Company's working capital was approximately $9,928,000 at July 31, 2003
compared to approximately $23,990,000 at January 31, 2003. This change is due to
the reclassification of long-term debt to current liability due to the unwaived
debt covenant non-compliance discussed in Note 11 of the financial statements.
The Company's current ratio was 1.3 to 1 and 2.1 to 1 at July 31, 2003 and
January 31, 2003, respectively. Debt to total capitalization at July 31, 2003
increased to 55.0 percent from 54.3 percent at January 31, 2003.
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).
17
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 a prepayment on July 31, 2002.
At July 31, 2003, the Company was not in compliance with one covenant under the
Note Purchase Agreements. The Company and the lenders are discussing a waiver.
Also, the Company's noncompliance with a covenant under the Loan Agreement
constitutes an event of default under the Note Purchase Agreements (see the
paragraphs below that refer to the Loan Agreement). The holders of Notes due
2007 have not declared an event of default or accelerated the indebtedness of
the Company evidenced by the Notes. The Company has made all required payments
of principal and interest under the Note Purchase Agreements to date. See the
Loan Agreement paragraph below for a discussion relating to a waiver and
amendment under the Loan Agreement.
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
$27,000,000, 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 July 31,
2003, the prime rate was 4.00 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 1.25 and 3.00 percentage points, respectively.
As of July 31, 2003, the Company had borrowed $11,028,000 and had $1,031,000
available to it under the revolving line of credit. In addition, $6,140,000 of
availability was used under the Loan Agreement primarily to support letters of
credit to guarantee amounts owed for Industrial Revenue Bond borrowings. 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 July 31, 2003, the amount of restricted cash
was $142,000. Cash required for operations is provided by draw-downs on the line
of credit.
At July 31, 2003, the Company was not in compliance with two covenants under the
Loan Agreement. The Company has not yet obtained a waiver for such
noncompliance. Although this noncompliance constitutes an event of default under
the Loan Agreement, the lender has not declared an event of default or
accelerated the indebtedness of the Company under the Loan Agreement. The
Company has made all required payments of principal and interest under the Loan
Agreement to date. The Company and the lender are discussing a waiver and
amendment. The Company believes it is probable that agreement will be reached
for the waiver and amendment, although agreement is not assured. If it does not
occur, the Company believes it will be able to obtain replacement financing on
acceptable terms, although there is no assurance that any such financing will be
obtained. As required by accounting principles generally accepted in the United
States, due to the unwaived covenant noncompliance discussed above, all amounts
owing under the Note Purchase Agreements and the Loan Agreement have been
classified as current in the accompanying Balance Sheet.
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 July 31, 2003, borrowings under these credit arrangements totaled $415,000;
an additional $237,000 remained unused.
18
ACCOUNTING PRONOUNCEMENTS
In May 2003, the Financial Accounting Standards Board (FASB) issued Statement of
Financial Accounting Standards (SFAS) No. 150 "Accounting for certain financial
instruments with characteristics of both liabilities and equity," effective in
June 2003. SFAS No. 150 requires an issuer to classify, as liabilities, any
financial instruments that fall within the scope of this pronouncement. Many of
those instruments were previously classified as equity. Adoption of SFAS 150 did
not have a material effect on the results of operations, financial condition, or
cash flows of the Company.
In April 2003, the FASB issued SFAS No. 149 "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities," parts of which apply to existing
contracts, but which is generally effective for contracts entered into after
June 30, 2003. Adoption of SFAS No. 149 did not have a material effect on the
results of operations, financial condition or cash flows of the Company.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
variable interest entities, an interpretation of ARB No. 51," which requires
that the assets, liabilities, and the results of activities of a variable
interest entity in which a business enterprise has controlling financial
interest be included in consolidation with those of the business enterprise.
Adoption of FIN No. 46 did not have a material effect on the results of
operations, financial condition or cash flows of the Company.
In December 2002, the FASB issued SFAS No. 148 "Accounting for Stock-Based
Compensation" which was effective for the Company on 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.
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 July 31, 2003.
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
19
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 extraordinary items. Adoption of SFAS
No. 145 resulted in the reclassification of an extraordinary loss of $133,000
($79,000 net of tax) recorded in the quarter ended July 31, 2002 to an operating
expense in the current year's presentation of the prior year financial
information.
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 condensed consolidated
statements of operations for the quarters and six-month periods ended July 31,
2003 and July 31, 2002. SFAS No. 142 requires that goodwill and other intangible
assets with indefinite lives be analyzed for impairment at its adoption with any
resulting impairment loss recorded as a cumulative effect of change in
accounting principle. Subsequent to the initial impairment test, 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. The
Company's initial impairment 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
for the year ended January 31, 2003. The impairment loss was restated to the
first quarter of 2002 to reflect the cumulative effect of accounting change. The
Company's annual impairment test at February 1, 2003 did not result in an
impairment. Goodwill was $2,410,000 and $2,353,000 at July 31, 2003 and January
31, 2003, respectively. The change from $2,353,000 at January 31, 2003 to
$2,410,000 at July 31, 2003 was due to foreign currency translation.
Item 3. 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
also utilizes 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 July 31, 2003 or January 31, 2003.
The changeover from national currencies to the Euro began on January 1, 2002,
and 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 by combining
fixed-rate long-term debt with floating rate debt.
20
Item 4. Controls and Procedures
As of July 31, 2003, the Company carried out an evaluation, under the
supervision and with the participation of our management, including our Chief
Executive Officer and Chief Financial Officer, of the effectiveness of the
design and operation of our disclosure controls and procedures pursuant to Rule
13a-14 under the Securities Exchange Act of 1934, as amended. Based upon that
evaluation, the Chief Executive Officer and Chief Financial Officer concluded
that our disclosure controls and procedures are effective in timely alerting
them to material information relating to us required to be included in the
Company's periodic SEC filings. 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.
PART II - OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders.
The annual meeting of the stockholders of the Company was held on June
26, 2003. David Unger, Henry M. Mautner, Bradley E. Mautner, Arnold F.
Brookstone, Eugene Miller, Stephen B. Schwartz and Dennis Kessler were
elected as directors of the Company at the meeting. The following is a
tabulation of the votes cast for, or against, with respect to each
nominee:
For Against
--------------- ---------------
David Unger 4,209,000 174,200
Henry M. Mautner 4,210,100 174,000
Bradley E. Mautner 4,210,100 174,000
Arnold F. Brookstone 4,210,100 174,000
Eugene Miller 4,210,100 174,000
Stephen B. Schwartz 4,210,100 174,000
Dennis Kessler 4,210,100 174,000
Item 5. Not Applicable
Item 6. Exhibits and Reports on Form 8-K.
Exhibits:
(31) Rule 13a - 14(a)/15d - 14(a) Certifications
(1) Chief Executive Officer certification pursuant to Section
302 of the Sarbanes-Oxley Act of 2002
(2) Chief Financial Officer certification pursuant to Section
302 of the Sarbanes-Oxley Act of 2002
(32) Section 1350 Certifications
(1) Chief Executive Officer certification pursuant to Section
906 of the Sarbanes-Oxley Act of 2002
(2) Chief Financial Officer certification pursuant to Section
906 of the Sarbanes-Oxley Act of 2002
21
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MFRI, INC.
Date: September 15, 2003 /s/ David Unger
--------------------------------------------
David Unger
Chairman of the Board of Directors,
President and Chief Executive Officer
(Principal Executive Officer)
Date: September 15, 2003 /s/ Michael D. Bennett
--------------------------------------------
Michael D. Bennett
Vice President, Secretary and Treasurer
(Principal Financial and Accounting Officer)
22
Exhibit 31.1
I, David Unger, certify that:
1. I have reviewed this quarterly report on Form 10-Q of MFRI, Inc.
2. Based on my knowledge, this 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
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this 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 report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act rules 13a-15(e) and 15d-15(e)) for the registrant and we
have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, 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 report is being prepared;
(b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(c) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of the registrant's board
of directors (or persons performing the equivalent functions):
a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
control over financial reporting.
Date: September 15, 2003
/s/ David Unger
- ---------------------------
David Unger
Director and Chairman of the Board of Directors,
President and Chief Executive Officer
(Principal Executive Officer)
Exhibit 31.2
I, Michael D. Bennett, certify that:
1. I have reviewed this quarterly report on Form 10-Q of MFRI, Inc.
2. Based on my knowledge, this 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
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this 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 report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act rules 13a-15(e) and 15d-15(e)) for the registrant and we
have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, 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 report is being prepared;
(b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based on such evaluation; and
(c) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of the registrant's board
of directors (or persons performing the equivalent functions):
a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
control over financial reporting.
Date: September 15, 2003
/s/ Michael D. Bennett
- ---------------------------
Michael D. Bennett
Vice President, Secretary and Treasurer
(Principal Financial and Accounting Officer)
Exhibit 32.1
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 Quarterly Report on Form 10-Q for the
period ended July 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.
/s/ David Unger
- ------------------------------
David Unger
Director and Chairman of the Board of Directors,
President and Chief Executive Officer
(Principal Executive Officer)
September 15, 2003
A signed original of this written statement required by Section 906 has been
provided to MFRI, Inc. and will be retained by MFRI, Inc. and furnished to the
Securities and Exchange Commission or its staff upon request.
Exhibit 32.2
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 Quarterly Report on Form 10-Q for the period ended July 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.
/s/ Michael D. Bennett
- ------------------------------
Michael D. Bennett
Vice President, Secretary and Treasurer
(Principal Financial and Accounting Officer)
September 15, 2003
A signed original of this written statement required by Section 906 has been
provided to MFRI, Inc. and will be retained by MFRI, Inc. and furnished to the
Securities and Exchange Commission or its staff upon request.