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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended September 30, 1998
Commission File Number 1-8137
AMERICAN PACIFIC CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 59-6490478
(State or other jurisdiction (IRS Employer
of incorporation) Identification No.)
3770 HOWARD HUGHES PARKWAY, SUITE 300,
Las Vegas, Nevada 89109
(Address of principal executive office) (Zip Code)
(702) 735-2200
(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 ($.10
par value)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES X NO
--------- ---------
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of 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. ( )
The aggregate market value of the voting stock held by non-affiliates of the
registrant as of December 1, 1998, was approximately $54.3 million. Solely for
the purposes of this calculation, shares held by directors and officers of the
Registrant have been excluded. Such exclusion should not be deemed a
determination by the Registrant that such individuals are, in fact, affiliates
of the Registrant.
The number of shares of Common Stock, $.10 par value, outstanding as of December
1, 1998 was 8,217,137.
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DOCUMENTS INCORPORATED BY REFERENCE
Definitive Proxy Statement for 1999 Annual Meeting of Stockholders to be filed
not later than January 28, 1999 (Part III hereof).
S-14 Registration Statement (2-70830); Annual Reports on Forms 10-K for the
years ended September 30, 1997, 1995, 1994 and 1993; S-2 Registration Statement
(33-36664); Quarterly Report on Form 10-Q for the fiscal quarter ended March 31,
1998; S-8 Registration Statement (33-52898); S-3 Registration Statement (33-
52196); S-8 Registration Statement (333-53449); S-4 Registration Statement (333-
49883) and Current Reports on Forms 8-K dated February 28, 1992 and February 19,
1998; (all incorporated by reference in Part IV hereof).
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PART I
ITEM 1. BUSINESS
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American Pacific Corporation (the "Company") is principally engaged in the
production of a specialty chemical, ammonium perchlorate ("AP"), which is used
as an oxidizing agent in composite solid propellants for rockets, booster motors
and missiles. AP is employed in the Space Shuttle, the U.S. military's Titan
missile, the Delta family of commercial rockets and most other solid fuel rocket
motors. AP customers include contractors of the National Aeronautics and Space
Administration ("NASA"), the Department of Defense ("DOD") and certain
commercial rocket programs used to launch satellites for communication,
navigation, intelligence gathering, space exploration, weather forecasting and
environmental monitoring.
The Company also produces a variety of other specialty chemicals and
environmental protection equipment for niche applications, including: (i) sodium
azide, used in the inflation of automotive airbags; (ii) Halotron(TM) products,
used to extinguish fires; and (iii) water treatment equipment, used to disinfect
effluents from sewage treatment and industrial facilities and for the treatment
of seawater. In addition, the Company has interests in two real estate assets
in the Las Vegas, Nevada area, consisting of approximately 100 acres of
undeveloped land in an industrial park and a 50% interest in a master-planned
residential community on approximately 320 acres.
On March 12, 1998, the Company sold $75.0 million principal amount of
unsecured senior notes (the "Notes"), consummated an acquisition (the
"Acquisition") of certain assets from Kerr-McGee Chemical Corporation ("Kerr-
McGee") described below and repurchased the remaining $25.0 million principal
amount outstanding of subordinated secured notes (the "Azide Notes").
The Company is a party to agreements with Dynamit Nobel A.G., of Germany
("Dynamit Nobel") relating to the production and sale of sodium azide, the
principal component of a gas generant used in automotive airbag systems.
Dynamit Nobel licensed to the Company, on an exclusive basis for the North
American market, its technology and know-how in the production of sodium azide,
and provided technical support for the design, construction and start-up of the
Company's sodium azide facility. The Company commenced commercial sales of
sodium azide in fiscal 1994. In January 1996, the Company filed an antidumping
petition with the United States International Trade Commission ("ITC") and the
United States Department of Commerce ("Commerce") in response to the unlawful
pricing practices of Japanese producers of sodium azide. In the fourth quarter
of fiscal 1997, the Company recognized an impairment charge of $52.6 million
relating to the fixed assets used in the production of sodium azide. See
"Sodium Azide - Market" and "Sodium Azide - Competition."
In February 1992, the Company acquired (by exercise of an option previously
granted to it) the worldwide rights to Halotron(TM), a fire suppression system
that includes chemical compounds and application technology intended to replace
halons, which have been found to be ozone layer-depleting chemicals.
Halotron(TM) has applications as a fire suppression agent for military,
commercial and industrial uses.
See Note 13 to Notes to Consolidated Financial Statements of the Company for
information concerning revenues, operating profits and identifiable assets of
the Company's industry segments and for financial information about domestic
operations and export sales. The Company's perchlorate chemical operations
accounted for approximately 67%, 52% and 51% of revenues during the years ended
September 30, 1998, 1997 and 1996, respectively. The term "Company" used herein
includes, where the
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context requires, one or more of the direct and indirect subsidiaries or
divisions of American Pacific Corporation .
SPECIALTY CHEMICALS
STRATEGY
The Company's strategy is to become the leading world-wide producer of AP and
to apply the technology and expertise gained over 30 years in the production of
AP to other activities, such as sodium azide and Halotron(TM), perchlorate
chemicals other than AP, and additional specialty chemical business
opportunities, and to its environmental protection equipment business. Upon
consummation of the Acquisition, the Company effectively became the only North
American producer of AP. The Company's strategy has been to use its proven
technologies and target growing markets to produce and sell its specialty
chemicals for which there is perceived demand. Where feasible, the Company may
endeavor to gain access to additional technologies and markets by cooperative
arrangements with others to which it can contribute its operating and management
expertise. The Company regularly evaluates business opportunities that are
presented to it.
AMMONIUM PERCHLORATE
MARKET
AP is the sole oxidizing agent for solid fuel rockets, booster motors and
missiles used in space exploration, commercial satellite transportation and
national defense programs. A significant number of existing and planned launch
vehicles providing access to space for communications, observation, intelligence
and scientific exploration are propelled by solid fuel rockets and thus depend,
in part, upon AP. Many of the rockets and missiles used in national defense
programs are also powered by solid fuel.
The Company has supplied AP for use in space exploration programs for over 30
years beginning with the Titan program in the early 1960s. Today, its principal
space exploration customers are Thiokol Propulsion, a division of Cordant
Technologies Inc. ("Thiokol") for the Space Shuttle Program, and Alliant
Techsystems, Inc. ("Alliant") for the Delta family of commercial rockets and the
Titan program. The Company's AP is also used in expendable rockets that launch
satellites for communications, navigation, intelligence gathering, space
exploration, weather forecasting and environmental monitoring. The Company is a
qualified supplier of AP to a number of defense programs, including the Navy
Standard Missile, Patriot, and Multiple Launch Rocket System programs.
Demand for AP has declined steadily over the past five years but appears to
have leveled off recently on a worldwide basis at approximately 20.0 to 25.0
million pounds annually. Supply capacity was substantially in excess of these
demand levels. In an attempt to rationalize the AP industry, the Company
consummated the Acquisition with Kerr-McGee. See "Ammonium Perchlorate - Kerr-
McGee Acquisition."
CUSTOMERS
Prospective purchasers of AP consist principally of contractors in programs of
NASA and the DOD. As a practical matter, the specialized nature of the
activities of these contractors restricts entry by others into competition with
them. Therefore, there are relatively few potential customers for AP, and
individual AP customers account for a significant portion of the Company's
revenues. Prospective
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customers also include companies providing commercial satellite launch services
and agencies of foreign governments and their contractors, although historically
sales to foreign agencies and their contractors have not accounted for
significant percentages of AP sales. See "Competition."
Thiokol accounted for 39%, 35%, and 47% of the Company's revenues during
fiscal 1998, 1997 and 1996, respectively. Alliant accounted for approximately
16% and 10% of the Company's revenues during fiscal 1998 and 1997, respectively.
Old Thiokol Agreement
During the seven-year period ended September 30, 1996, the Company's sales to
Thiokol were governed by agreements with Thiokol that assured the Company of
certain minimum AP revenue over that period (revenues in respect of 5.0 million
pounds quarterly, 20.0 million pounds annually and 140.0 million pounds over the
seven-year period). Those agreements provided for the Company to receive
revenues from sales of AP of approximately $20.0 million during the fiscal year
ended September 30, 1996. Such agreements expired on September 30, 1996.
New Thiokol Agreement
In connection with the Acquisition, the Company entered into an agreement with
Thiokol with respect to the supply of AP through the year 2008. The agreement,
which was contingent upon consummation of the Acquisition, provides that during
its term Thiokol will make all of its AP purchases from the Company. The
agreement also establishes a pricing matrix under which AP unit prices vary
inversely with the quantity of AP sold by the Company to all of its customers.
The Company understands that, in addition to the AP purchased from the Company,
Thiokol may use AP inventoried by it in prior years and AP recycled by it from
certain existing rocket motors.
Alliant Agreement
In connection with the Acquisition, the Company entered into an agreement with
Alliant to extend an existing agreement through the year 2008. The agreement
establishes prices for any AP purchased by Alliant from the Company during the
term of the agreement as extended. Under this agreement, Alliant agrees to use
its efforts to cause the Company's AP to be qualified on all new and current
programs served by Alliant's Bacchus Works.
BACKLOG
As of November 30, 1998, the Company had a backlog of approximately $35.9
million for delivery of AP. Approximately $30.0 million of such backlog is
deliverable in fiscal 1999.
MANUFACTURING CAPACITY AND PROCESS
Production of AP at the Company's current manufacturing facility in Iron
County, Utah commenced in July 1989. This facility, as currently configured, is
capable of producing 30.0 million pounds of AP annually and is readily
expandable to 40.0 million pounds annually. AP produced at the facility and
propellants incorporating such AP have qualified for use in all NASA and DOD
programs for which testing has been conducted, including the Space Shuttle,
Titan, Minuteman and Delta programs.
The Company's AP facility is designed to site particular components of the
manufacturing process in discrete areas of the facility. It incorporates modern
equipment and materials-handling systems designed,
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constructed and operated in accordance with the operating and safety
requirements of the Company's AP customers, insurance carriers and governmental
authorities.
AP is manufactured by electrochemical processes using the Company's
proprietary technology. The principal raw materials used in the manufacture of
AP (other than electrical energy) are salt, ammonia and hydrochloric acid. All
of the raw materials used in the AP manufacturing process are available in
commercial quantities, and the Company has had no difficulty in obtaining
necessary raw materials. In addition, the Company is a party to an agreement
with Utah Power & Light Company for its electrical requirements at its AP
facility. Prices paid by the Company for raw materials have been relatively
stable, with no discernible long-term price fluctuations. The Company's
agreement with Utah Power & Light provides for the supply of power for a minimum
10-year period, which began in 1988, and obligates the Company to purchase
minimum amounts of power, while assuring the Company competitive pricing for its
electricity needs for the duration of the agreement. The Company is in the
process of negotiating for its expected power requirements beyond 1998. The
Company's AP production requires substantial amounts of electric power.
COMPETITION
Upon consummation of the Acquisition, the Company effectively became the sole
North American producer of AP. The Company is aware of production capacity for
AP at a plant in France and a plant in Japan. Although the Company has limited
information with respect to these plants, the Company believes that these
foreign AP producers operate low volume, high cost production facilities and are
not approved as AP suppliers for NASA or DOD programs, which represent the
majority of domestic AP demand. In addition, the Company believes that the
rigorous NASA and DOD program qualification process, the strategic nature of
such programs, the high cost of constructing an AP facility, and the Company's
established relationships with key customers constitute significant hurdles to
entry for prospective competitors.
KERR-MCGEE ACQUISITION
On March 12, 1998 (the "Closing Date"), the Company acquired, pursuant to a
purchase agreement (the "Purchase Agreement") with Kerr-McGee, certain
intangible assets related to Kerr-McGee's production of AP (the "Rights") for a
purchase price of $39.0 million. Under the Purchase Agreement, the Company
acquired an option (the "Option") to purchase all or any portion of the
inventory of AP stored at Kerr-McGee's premises on the Closing Date, which is
not owned by, or identified to a firm order from, a Kerr-McGee customer (the
"Inventory"). The Option is exercisable from time to time within the 12 month
period commencing on the Closing Date (the "Option Period"). The Acquisition
did not include Kerr-McGee's production facilities (the "Production Facilities")
and certain water and power supply agreements used by Kerr-McGee in the
production of AP. Under the Purchase Agreement, Kerr-McGee ceased the
production and sale of AP, although the Production Facilities may continue to be
used by Kerr-McGee for production of AP under certain limited circumstances
described below. Under the Purchase Agreement, Kerr-McGee reserved a perpetual,
royalty-free, nonexclusive license to use any of the technology forming part of
the Rights as may be necessary or useful to use, repair or sell the Production
Facilities (the "Reserved License").
Under the Purchase Agreement, Kerr-McGee reserved the right to sell the
Inventory to the extent not purchased by the Company pursuant to the Option, to
process and sell certain reclaimed AP that is not suitable for use in solid fuel
rocket motors (the "Reclaimed Product"), and to produce and sell AP (i) to
fulfill orders scheduled for delivery after the closing, subject to making
payments to the Company with respect to such orders, as provided in the Purchase
Agreement and (ii) in the event of the Company's
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inability to meet customer demand or requirements, breach of the Purchase
Agreement or termination of the Company's AP business.
The Purchase Agreement provides that, together with the Reserved License,
Kerr-McGee is permitted in its discretion to (i) lease, sell, dismantle,
demolish and/or scrap all or any portion of the Production Facilities, (ii)
retain the Production Facilities for manufacture of Reclaimed Product and (iii)
maintain the Production Facilities in a "standby" or "mothballed" condition so
they will be capable of being used to produce AP under the limited circumstances
referred to above.
Under the Purchase Agreement, Kerr-McGee has agreed to indemnify the Company
against loss or liability from claims associated with the ownership and use of
the Rights prior to consummation of the Acquisition or resulting from any breach
of its warranties, representations and covenants. The Company has agreed to
indemnify Kerr-McGee against loss and liability from claims associated with the
ownership and use of the Rights after consummation of the Acquisition or
resulting from any breach of its warranties, representations and covenants. In
addition, Kerr-McGee has agreed that it will, at the Company's request, store
any Inventory as to which the Option is exercised until 90 days after the Option
expires, introduce the Company to AP customers that are not currently customers
of the Company, and consult with the Company regarding the production and
marketing of AP. The Company has agreed that, at Kerr-McGee's request, it will
use reasonable efforts to market Reclaimed Product on Kerr-McGee's behalf for up
to three years following consummation of the Acquisition.
The Company has determined that a business was not acquired in the Acquisition
and that the Rights acquired have no independent value to the Company apart from
the overall benefit of the transaction that, as a result thereof, Kerr-McGee has
ceased production of AP (except in the limited circumstances referred to above),
thereby leaving the Company as the sole North American supplier of AP. Since
they have no independent value to the Company, the Company has assigned no value
to the Rights and assigned the entire pruchase price to an unidentified
intangible asset. The Company is amortizing the purchase price for the
unidentified intangible over ten years, the length of the terms of the pricing
agreements with its two principal AP customers referred to above.
FINANCING
On March 12, 1998 the Company sold $75.0 million in Notes. A portion of the
net proceeds ($39.0 million) was used to effect the Acquisition. The Notes
mature on March 1, 2005. Interest on the Notes will be paid in cash at a rate
of 9-1/4% per annum on each March 1 and September 1, which commenced September
1, 1998. The indebtedness evidenced by the Notes represents a senior unsecured
obligation of the Company, ranks pari passu in right of payment with all
existing and future senior indebtedness of the Company and is senior in right of
payment to all future subordinated indebtedness of the Company. The Indenture
under which the Notes were issued contains various limitations and restrictions
including (i) change in control provisions, (ii) limitations on indebtedness and
(iii) limitations on restricted payments such as dividends, stock repurchases
and investments. Management believes the Company has complied with these
limitations and restrictions. Under the Indenture, the Company was obligated to
exchange the Notes for identical notes registered with the Securities and
Exchange Commission (the "Commission") under the Securities Act of 1933, as
amended, within a specified period of time set forth in the Indenture. In April
1998 the Company filed a Form S-4 registration statement with the Commission for
the purposes of effecting this exchange. The registration statement was
declared effective by the Commission on July 29, 1998 and the exchange offer was
consummated on August 28, 1998. In September 1998, the Company repurchased and
retired $5.0 million principal amount of the Notes.
The Azide Notes were 11% noncallable subordinated secured term notes, which
were issued and sold in February 1992 to finance the design, construction and
start-up of the Company's sodium azide facility.
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A portion of the net proceeds from sale of the Notes was applied to repurchase
the Azide Notes for approximately $28.2 million (approximately 113% of the
outstanding principal amount thereof). In connection with the repurchase, the
Company recognized an extraordinary loss on debt extinguishment of approximately
$5.0 million. The extraordinary loss consisted of the cash premium paid of $3.2
million upon repurchase and a charge of $1.8 million to write-off the
unamortized balance of debt issue and discount costs.
SODIUM AZIDE
SODIUM AZIDE FACILITY
In July 1990, the Company entered into agreements (the "Azide Agreements")
pursuant to which Dynamit Nobel has licensed to the Company on an exclusive
basis for the North American market its most advanced technology and know-how
for the production of sodium azide, the principal component of the gas generant
used in certain automotive airbag safety systems. In addition, Dynamit Nobel
provided technical support for the design, construction and startup of the
facility. The facility was constructed on land owned by the Company in Iron
County, Utah for its owner and operator, American Azide Corporation ("AAC"), a
wholly-owned indirect subsidiary of the Company, and has an annual design
capacity of 6.0 million pounds.
Dynamit Nobel is an established German firm engaged in the manufacture of
explosives and detonators, specialty chemicals, defense technologies,
ammunition, plastics and composites. It is the developer of the sodium metal-
based process used in the manufacture of sodium azide, and has successfully
utilized the process on a commercial basis for over 80 years, although on a much
smaller scale than as practiced by the Company.
FINANCING
On February 21, 1992, the Company concluded a $40.0 million financing for the
design, construction and startup of the sodium azide facility through the sale
of the Azide Notes. As described above, on March 12, 1998, the Company
repurchased the remaining $25.0 million principal amount outstanding of the
Azide Notes with funds obtained through the issuance of the Notes. In
conjunction with the original Azide Notes the Company had issued Warrants ("the
Warrants") to the purchasers of the Azide Notes, which are exercisable for a 10-
year period on or after December 31, 1993, to purchase shares of the Company's
Common Stock. The exercise price of the Warrants is $14.00 per share. At a
$14.00 per share exercise price, 2,857,000 shares could be purchased under the
Warrants. The Warrants contain additional provisions for a reduction in
exercise price in the event that the Company issues or is deemed to issue stock,
rights to stock or convertible debt at a price less than the exercise price in
effect, or in the event of certain stock dividends or in the event of stock
splits, mergers or similar transactions. The Warrants are exercisable, at the
option of their holders, to purchase up to 20% of the Common Stock of AAC,
rather than the Company's Common Stock. In the event of such an election, the
exercise price of the Warrants will be based upon a pro rata share of AAC's
capital, adjusted for earnings and losses, plus interest from the date of
contribution.
On December 31, 1999, holders of the Warrants have the right to put to the
Company as much as one-third thereof at a price determined by the Company's
diluted earnings per share and a multiple of 11, but the Company's obligation in
such respect is limited to $5.0 million. Such put right may not be exercised if
the Company's Common Stock has traded at values during the preceding 90-day
period that would yield to the warrant holders a 25% per annum internal rate of
return to the date of the put (inclusive of the Azide Notes' yield). On or
after December 31 of each of the years 1998 and 1999, the Company may call
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up to 10% of the Warrants (but no more than 50% in the aggregate) at prices that
would provide a 30% internal rate of return to the holders thereof through the
date of call (inclusive of the Azide Notes' yield). The holders of the Warrants
were also granted the right to require that the Common Stock underlying the
Warrants be registered under the Securities Act of 1933, as amended, on one
occasion, as well as certain incidental registration rights.
MARKET
A number of firms have devoted extensive efforts for at least 25 years to the
development of automotive airbag safety systems. These efforts have resulted in
the acceptance by the automobile industry and the consuming public of an
inflator for automotive airbags that initially was based principally upon sodium
azide, combined in tablet or granule form with limited amounts of other
materials. Therefore, most of all the commercially developed automotive airbag
systems installed to date incorporate inflation technology based on the use of
the sodium azide, although other inflator technologies have been developed and
are rapidly gaining market share.
The Company expects demand for airbag systems in North America and worldwide
to increase over the next 10 years. However, the level of demand for sodium
azide will depend, in part, upon the penetration of competing inflator
technologies that are not based upon the use of sodium azide. Based principally
upon market information received from inflator manufacturers, the Company
expects sodium azide use to decline significantly and that inflators using
sodium azide will ultimately be phased out.
The Company previously believed that demand for sodium azide in North America
and the world would substantially exceed existing manufacturing capacity and
announced expansions or new facilities (including the AAC plant) by the 1994
model year (which for sodium azide sales purposes was the period June 1993
through May 1994). Currently, demand for sodium azide is substantially less
than supply on a worldwide basis. The Company believes this is the result of
capacity expansions by existing producers, although the Company's information
with respect to competitors' existing and planned capacity is limited. There
can be no assurance that other manufacturing capacities not now known to the
Company will not be established. By reason of this highly competitive market
environment, and other factors discussed below, sodium azide prices have
decreased significantly over the past several years.
The Company believes that the price erosion of sodium azide has been due, in
part, to unlawful pricing procedures of Japanese sodium azide producers. In
response to such practices, in January 1996, the Company filed an antidumping
petition with the International Trade Commission ("ITC") and the Department of
Commerce ("Commerce"). In August 1996, Commerce issued a preliminary
determination that Japanese imports of sodium azide have been sold in the United
States at prices that are significantly below fair value. Commerce's preliminary
dumping determination applied to all Japanese imports of sodium azide,
regardless of end-use. Commerce's preliminary determination followed a March
1996 preliminary determination by ITC that dumped Japanese imports have caused
material injury to the U.S. sodium azide industry.
On January 7, 1997 the anti-dumping investigation initiated by Commerce, based
upon the Company's petition, against the three Japanese producers of sodium
azide was suspended by agreement. It is the Company's understanding that, by
reason of the Suspension Agreement, two of the three Japanese sodium azide
producers have ceased their exports of sodium azide to the United States for the
time being. As to the third and largest Japanese sodium azide producer, which
has not admitted any prior unlawful conduct, the Suspension Agreement requires
that it make all necessary price revisions to eliminate all United States sales
at below "Normal Value," and that it conform to the requirements of sections 732
and 733 of the Tariff Act of 1930, as amended, in connection with its future
sales of sodium azide in the United States.
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The Suspension Agreement contemplates a cost-based determination of "Normal
Value" and establishes reporting and verification procedures to assure
compliance. Accordingly, the minimum pricing for sodium azide sold in the
United States by the remaining Japanese producer will be based primarily on its
actual costs, and may be affected by changes in the relevant exchange rates.
Finally, the Suspension Agreement provides that it may be terminated by any
party on 60 days' notice, in which event the anti-dumping proceeding would be
re-instituted at the stage to which it had advanced at the time the Suspension
Agreement became effective.
CUSTOMERS
In May 1997 the Company entered into a three-year agreement with Autoliv ASP,
Inc. ("Autoliv") to supply sodium azide used by Autoliv in the manufacture of
automotive airbags. Deliveries under the agreement commenced in July 1997. The
current estimated sales value of the agreement is approximately $30.0 million
over the three-year period. The actual sales value, however, will depend upon
many factors beyond the control of the Company, such as the number of
automobiles and light trucks manufactured and competitive conditions in the
airbag market, that will influence the actual magnitude of Autoliv's sodium
azide requirements, and there can therefore be no assurance as to the actual
sales value of the agreement. The Company is also qualified to supply sodium
azide to TRW, the other major supplier of airbag inflators in the United States,
but TRW's requirements are supplied by competitors of the Company.
COMPETITION
According to public announcements, a Canadian facility recently ceased the
production of commercial quantities of sodium azide. The Company believes that
competing production capacity currently operating includes Dynamit Nobel in
Germany, one producer in Japan and at least three producers in India. In
addition, idle capacity is available and it is possible that domestic or foreign
entities will seek to develop additional sodium azide production facilities in
North America. However, the Company believes that the reduced level of demand
for the product makes this unlikely.
The Company has incurred significant losses in its sodium azide operations.
Sodium azide performance improved in the fourth quarter of fiscal 1997,
principally as a result of additional sodium azide deliveries under the Autoliv
agreement referred to above. However, even though performance improved,
management's view of the economics of the sodium azide market changed during the
fourth quarter of fiscal 1997. One major inflator manufacturer announced the
acquisition of non-azide based inflator technology and that it intended to be in
the market with this new technology by model year 1999. In addition, although
the Company had achieved significant gains in market share that appeared to
relate to the Company's anti-dumping petition and the Suspension Agreement,
management believed that the effects of the anti-dumping petition were likely
fully incorporated into the sodium azide market by the end of fiscal 1997.
Recognizing that the uncertainties respecting the market and discussed above
continued to exist, during the fourth quarter of fiscal 1997, management
concluded that the cash flows associated with sodium azide operations would not
be sufficient to recover the Company's investment in sodium azide related fixed
assets. As quoted market prices were not available, the present value of
estimated future cash flows was used to estimate the fair value of sodium azide
fixed assets. Under the requirements of Statement of Financial Accounting
Standards ("SFAS") No. 121, and as a result of this valuation technique, an
impairment charge of $52.6 million was recognized in the fourth quarter of
fiscal 1997. (See Note 14 to Notes to Consolidated Financial Statements of the
Company.)
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AZIDE AGREEMENTS
Under the Azide Agreements, Dynamit Nobel was to receive, for the use of its
technology and know-how relating to its batch production process of
manufacturing sodium azide, quarterly royalty payments of 5% of the quarterly
net sales of sodium azide by AAC for a period of 15 years from the date the
Company begins to produce sodium azide in commercial quantities. In July 1996,
the Company and Dynamit Nobel agreed to suspend the royalty payment effective as
of July 1, 1995. As a result, in the third quarter of fiscal 1996, the Company
recognized an increase in sodium azide sales of approximately $600,000. This
amount had previously been recognized as a reduction of net sodium azide sales
during the period July 1, 1995 through June 30, 1996.
HALOTRON(TM)
Halotron(TM) is a fire suppression system designed to replace halons, which
are chemicals currently in wide use as fire suppression agents in military,
industrial, and commercial applications. The impetus for the invention of
Halotron(TM) was the discovery during the 1980s that halons are highly
destructive to the stratospheric ozone layer, which acts as a shield against
harmful solar ultraviolet radiation.
USE OF HALONS
Halons are used throughout the world in modalities that range from hand-held
fire extinguishers to extensively engineered aircraft installations, but which
are generally of two types, streaming and flooding systems. Streaming systems
rely upon the focused projection of a slowly gasifying liquid over distances of
up to 50 feet from the point of projection. Flooding systems release a quickly
gasifying liquid into a confined space, rendering inert a combustible atmosphere
and extinguishing any ongoing combustion. Halon 1211, principally a streaming
agent, is used on aircraft and aircraft flightlines, on small boats and ships
and in chemically clean rooms and laboratories, other commercial and industrial
facilities, including those in the lumber and petroleum industries, offices and
residences. Its worldwide production peaked in 1988 at 19,000 metric tons.
Halon 1301, principally a flooding agent, protects such installations as
computer, electronic and equipment rooms, ship and other engine room spaces,
petroleum handling stations and repositories of literature and cultural
heritage. Its worldwide production peaked in 1988 at 12,500 metric tons.
CUSTOMERS AND MARKET
The end-user market for halons and consequently, Halotron(TM), is divided into
several segments. The government segment consists of the armed services and
other agencies, including the Department of Energy, NASA and governmental
offices, laboratories and data processing centers. Historically, military
applications have predominated in this segment, and it is the military that has
taken the lead in research for halon replacements, both in streaming and in
flooding applications. It will be critical to the Company's efforts to market
Halotron(TM) to the military that military specifications for the procurement of
halon replacements include Halotron(TM). The Company is not aware of any
military specifications for halon replacements that have been issued to date.
Commercial market segments include fire critical industries such as utilities,
telecommunications firms, the oil and gas exploration and production industry,
lumbering, ocean transport and commercial aviation. Other market segments
include other business organizations and small users that typically follow
selections made by the industry users described above.
11
Halotron(TM) I, the first phase of Halotron(TM), has been extensively and
successfully tested. Halotron(TM) I is designed to replace halons in streaming
and in limited flooding applications. Halotron(TM) II is intended to replace
halons in flooding applications. Succeeding Halotron(TM) phases, if designed,
will be intended to supersede earlier Halotron(TM) phases, generally on an
optimized application by application basis, and will be intended to meet more
strict environmental constraints expected to be applied in the future.
The Company's efforts to produce, market and sell Halotron(TM) I and
Halotron(TM) II are dependent upon the political climate and environmental
regulations that exist and may vary from country to country. The magnitude of
future orders received, if any, will be dependent to a large degree upon
political issues and environmental regulations that are not within the Company's
control, as well as additional testing and qualification in certain
jurisdictions, governmental budgetary constraints and the ultimate market
acceptance of these new products.
In 1993, Halotron(TM) I was approved by the United States Environmental
Protection Agency (the "EPA") as a replacement agent for Halon 1211 (the
principal halon currently in use). During 1995, the Federal Aviation
Administration ("FAA") approved Halotron(TM) I as an acceptable airport
firefighting agent, concluding that Halotron(TM) I will suppress or extinguish
fire in the same manner as halon.
The Company, together with Buckeye Fire Equipment Company, has successfully
completed Underwriters Laboratories' ("UL") fire tests for six sizes of portable
fire extinguishers using Halotron(TM) I. Domestic distribution of the Buckeye
Halotron(TM) extinguisher line began in early 1996. In May 1998, Amerex
Corporation ("Amerex") began distribution of a line of UL listed portable fire
extinguishers using Halotron(TM) I. In June 1998, Badger Fire Protection, Inc.
("Badger") also began distribution of a line of UL listed portable fire
extinguishers using Halotron(TM) I. With the addition of these two OEM's the
Company now has three major fire extinguisher companies manufacturing and
distributing UL listed portable fire extinguishers using Halotron(TM) I. The
Company is also marketing Halotron(TM) I to other fire extinguisher
manufacturers.
In August 1997, the Company completed a study which concluded that the market
for halon substitutes anticipated by the Company when it entered into the
Halotron(TM) business in 1992 has not materialized and that the market for
"clean gas" substitutes for Halon 1211 would remain substantially smaller than
the peak use in 1988. Although the study also concluded that the Company's
Halotron(TM) product could command a significant percentage of this smaller than
anticipated market, there can be no assurance in that regard. In order for the
Company to achieve and maintain market share for Halotron(TM) and a long term
presence in the industry, it may be necessary for the Company to expend
considerable additional funds and effort in research and development. Although
current Halotron(TM) phases have an Ozone Depletion Potential ("ODP") that is
significantly lower than that of halons and that meets current environmental
standards, potential users of halon replacements may eventually require a
product with zero ODP. Environmental standards may also be expected to mandate
this result. Accordingly, the product life of current Halotron(TM) phases may
be limited, and the Company may be required to produce succeeding Halotron(TM)
phases that can meet increasingly stringent standards. There can be no
assurance that such phases will be capable of production or that a competitor or
competitors will not develop fire suppression agents with comparable or superior
qualities.
COMPETITION
Potential halon alternatives and substitutes will compete as to performance
characteristics, environmental effects and cost. Performance characteristics
include throwability, visibility after application, after-fire damage, equipment
portability and versatility, low temperature performance, corrosion probability,
shelf life and efficiency. The environmental effects include ODP, global
warming potential and toxicity. Potential halon substitutes include water,
carbon dioxide and a variety of
12
chemicals in liquid, foam and powder form. It is likely that competitors
producing alternatives and substitutes will be larger, will have experience in
the production of fire suppressing chemicals and systems and will have greater
financial resources than those available to the Company. In 1996, Dupont
introduced a new alternative fire extinguishing agent called FE-36(TM), which is
intended to replace Halon 1211. The Company has limited information with respect
to this agent, but understands that the EPA's Significant New Alternatives
Policy approval is currently pending. Dupont claims that FE-36(TM) meets
application, performance, toxicity and environmental standards as a Halon 1211
replacement. The Company expects that there will be several competitive products
in the same market as Halotron(TM) II, a product offered by the Company as a
replacement for Halon 1301. In addition, there are currently no domestic use
restrictions on halon, so that potential customers for halon substitutes may
continue to use existing halon-based systems in their possession until the
supply is exhausted, which is believed to be a substantial period of time for
some users.
HALOTRON(TM) AGREEMENT
On August 30, 1991, the Company entered into an agreement (the "Halotron(TM)
Agreement") with Jan Andersson and AB-Bejaro Product, granting the Company the
option (which was exercised in February, 1992) to acquire the exclusive
worldwide rights to manufacture and sell Halotron(TM). The Halotron(TM)
Agreement provides for disclosure to the Company of all confidential and
proprietary information concerning Halotron(TM) I (see below), which, together
with testing performed at independent laboratories in Sweden and the United
States and consulting services that have been provided by its inventors, was
intended to enable the Company to evaluate Halotron(TM) I's commercial utility
and feasibility. In February 1992, the Company announced that a series of
technical evaluations and field tests conducted at the University of New Mexico
had been positive and equivalent to the performance previously reported in
testing at the Swedish National Institute of Testing and Standards and the
University of Lund in Sweden. On February 26, 1992, the Company acquired the
rights provided for in the Halotron(TM) Agreement, gave notice to that effect to
the inventors, and exercised its option. In addition to the exclusive license
to manufacture and sell Halotron(TM) I, the rights acquired by the Company
include rights under all present and future patents relating to Halotron(TM) I
throughout the world, rights to related and follow-on products and technologies
and product and technology improvements, rights to reclaim, store and distribute
halon and rights to utilize the productive capacity of the inventors' Swedish
manufacturing facility. Upon exercise of the option, the Company paid the sum
of $700,000 (the exercise price of $1,000,000, less advance payments previously
made) and became obligated to pay the further sum of $1,500,000 in monthly
installments of $82,000, commencing in March 1992. The license agreement
between the Company and the inventors of Halotron(TM) I provide for a royalty to
the inventors of 5% of the Company's net sales of Halotron(TM) I over a period
of 15 years (however, see below for a discussion of certain litigation that
terminated the inventors' rights to royalties). In addition, the Company
entered into employment and consulting agreements with Mr. Andersson and AB-
Bejaro Product under which, among other things, Halotron(TM) II has been
developed.
See Note 15 to Notes to Consolidated Financial Statements of the Company for a
discussion of litigation associated with the Halotron(TM) Agreement.
HALOTRON(TM) FACILITY
The Company has designed and constructed a Halotron(TM) facility that has an
annual capacity of at least 6.0 million pounds, located on land owned by the
Company in Iron Country, Utah. Under the Halotron(TM) Agreement, the Company
received the technical support of the inventors for the design, construction and
operation of the new facility.
13
REAL ESTATE ASSETS
The Company has interests in two real estate assets under development in Clark
County, Nevada: the Gibson Business Park and the Ventana Canyon joint venture
residential project. The Company also owns 4,700 acres of land at the site of
its facility in Iron County, Utah that are dedicated to the Company's potential
growth and diversification.
At September 30, 1998, the Company owned approximately 100 acres of improved
undeveloped land at the Gibson Business Park near Las Vegas, Nevada. The
Company's land is held for sale.
Ventana Canyon is a 320 acre master-planned community under development near
Las Vegas, Nevada. The community is primarily residential in character,
contemplating single family detached homes, townhomes and apartment buildings.
The project is owned by Gibson Ranch Limited Liability Company ("GRLLC"), to
which the Company has contributed approximately 240 acres and an unrelated local
real estate development group (the "Developer") has contributed the remaining 80
acres. The Developer is the managing member of GRLLC and manages the business
conducted by GRLLC. Certain major decisions, such as increasing debt and
changes in the development plan or budget may be made only by a management
committee on which the Company is represented. The property contributed by the
Company had a carrying value of approximately $12.3 million at the date of
contribution in 1993.
The Company provides financing to the project under two revolving credit
facilities: (i) a $2.4 million facility with GRLLC (the "GRLLC Facility") and
(ii) a $1.7 million facility with the Developer (funds under which the Developer
is required to advance to GRLLC) (the "Developer Facility"). As of September
30, 1998, all of the funds had been advanced under the GRLLC Facility and none
were outstanding under the Developer Facility. The credit facilities remain in
effect until the property is fully developed. The profits and losses of GRLLC
will be split equally between the Company and the Developer after the return of
the advances and agreed upon values for initial contributions of property. The
Company believes that development of the property will be completed in
approximately three to four years, although no assurance can be given in this
regard, and that most of the cash flow that may be generated by the project will
be received at or near the end of the development process.
ENVIRONMENTAL PROTECTION EQUIPMENT
The Company designs, manufactures and markets systems for the control of
noxious odors, the disinfection of waste water streams and the treatment of
seawater. Its OdorMaster(TM) systems eliminate odors from gases at sewage
treatment plants, composting sites and pumping stations and at chemical, food
processing and other industrial plants. These systems, which use
electrochemical technology developed in the Company's specialty chemical
operations, chemically deodorize malodorous compounds in contaminated air.
Advanced OdorMaster(TM) systems place two or three scrubber towers in series to
treat complex odors, such as those produced at sewage composting sites or in
sewage sludge conditioning systems. ChlorMaster(TM) Brine and Sea water systems
utilize a similar process to disinfect effluent at inland sewage treatment and
industrial plants and to control marine growths in condenser cooling and service
water at power and desalination plants and at oil drilling production facilities
on seacoasts and offshore.
The Company's customers for its OdorMaster(TM) System are municipalities and
special authorities (and the contractors who build the sewage systems for such
municipalities and authorities) and plant owners. Oil and other industrial
companies are customers of its ChlorMaster(TM) systems. Its systems are
marketed domestically by sales representatives and overseas by sales
representatives and licensees. The Company competes both with companies that
utilize other decontamination processes and those that utilize
14
technology similar to the Company's. All are substantially larger than the
Company. The Company's success to date is derived from the ability of its
products both to generate sodium hypochlorite on site and to decontaminate
effectively. Its future success will depend upon the competitiveness of its
technology and the success of its sales representatives and licensees.
At September 30, 1998, the backlog for environmental protection equipment was
$1.6 million.
RESEARCH AND DEVELOPMENT
The Company's existing laboratory facilities are located on the premises of
the Company's perchlorate production activities and are used to support those
activities and its sodium azide and Halotron(TM) production activities. The
Company conducts research and development programs directed toward enhancement
of product quality and performance and the development of complementary or
related products at these facilities.
INSURANCE
The Company's insurance currently includes property insurance at estimated
replacement value on all of its facilities and business interruption insurance.
The Company also maintains liability insurance. Management believes that the
nature and extent of the Company's current insurance coverages are adequate.
The Company has not experienced difficulty obtaining these types and amounts of
insurance.
GOVERNMENT REGULATION
As a supplier to United States government projects, the Company has been and
may be subject to audit and/or review by the government of the negotiation and
performance of, and of the accounting and general practice relating to,
government contracts. Most of the Company's contracts for the sale of AP are in
whole or in part subject to the Federal Acquisition Regulations. The Company's
AP costs have been and may be audited by its customers and by government audit
agencies such as the United States Defense Contract Audit Agency. To date, such
audits have not had a material effect on the Company's results of operations or
financial position.
ENVIRONMENTAL REGULATION
The Company's operations are subject to extensive federal, state and local
regulations governing, among other things, emissions to air, discharges to water
and waste management. Management believes that the Company is currently in
compliance in all material respects with all applicable environmental, safety
and health requirements and does not anticipate any material adverse effects
from existing or known future requirements. To meet changing licensing and
regulatory standards, the Company may be required to make additional significant
site or operational modifications, potentially involving substantial
expenditures or the reduction or suspension of certain operations. In addition,
the operation of the Company's manufacturing plants entails risk of adverse
environmental and health effects and there can be no assurance that material
costs or liabilities will not be incurred to rectify any future occurrences
related to environmental or health matters.
The Southern Nevada Water Authority has detected trace amounts of perchlorate
chemicals in Lake Mead and the Las Vegas Wash, bodies of water near the
Company's real estate development property in Henderson, Nevada. Lake Mead is a
source of drinking water for the City of Las Vegas, neighboring
15
areas and certain areas of metropolitan Southern California. Perchlorate
chemicals (including AP) are a potential health concern because they can
interfere with the production of a growth hormone by the thyroid gland, although
they are not currently included in the list of hazardous substances compiled by
the EPA. The Company manufactured AP at a facility on the Henderson site until
the facility was destroyed in the May 1988 incident, described below, after
which the Company relocated its AP production to its current facilities in Iron
County, Utah. Kerr-McGee for many years operated an AP production facility at a
site near the Company's Henderson property. The Water Authority's testing showed
concentrations of 8 to 11 parts per billion (ppb) in drinking water. In response
to this discovery, the Company has engaged environmental consultants to drill
test wells in order to evaluate ground water at and in the vicinity of the
Henderson site. The results of the Company's tests have shown perchlorate
concentrations in the ground water at the Henderson property ranging from 0 to
approximately 600,000 ppb at certain wells. It has been reported that levels as
high as 3.7 million ppb have been detected at a well at the Kerr-McGee site. The
State of California has adopted a preliminary standard of 18 ppb for perchlorate
levels in drinking water, but there are currently no federal or State of Nevada
standards for acceptable levels of perchlorate in ground water or drinking
water. The Company is cooperating with State and local agencies, and with Kerr-
McGee and other interested firms, in the investigation and evaluation of
perchlorate found at its site and of the source or sources of perchlorates in
Lake Mead and potential remediation methods. Until these investigations and
evaluations have reached appropriate conclusions, it will not be possible for
the Company to determine the extent to which, if at all, the Company may be
called upon to contribute to or assist with future remediation efforts, or the
financial impact, if any, of such contributions or assistance.
SAFETY CONSIDERATIONS
AP, in the particle sizes and chemical purities produced by the Company, is
categorized for transportation purposes by the United States Department of
Transportation ("DOT") as a Class IV oxidizer. Such classification indicates
that the DOT considers AP to be non-explosive, non-flammable and non-toxic. The
Company's AP manufacturing plant was constructed in a manner intended to
minimize, to the extent of known technologies and safety measures, the
combination of AP with other materials in a manner that could result in
explosions or combustion. However, no assurance can be given that the Company's
safety precautions will be effective in preventing explosions, fires and other
such events from occurring. On July 30, 1997, an explosion and fire occurred at
the Company's AP production facility in Iron County, Utah. Although damage to
the Company's property was confined to a relatively small area, the incident
left one employee dead and three others injured, one seriously. As a result of
this incident, the Utah Occupational Safety and Health Division of the Utah
Labor Commission cited the Company for violation of certain applicable Utah
safety regulations in connection with the handling of AP and assessed fines
totaling $5,250. Although the Company has taken steps to improve safety
measures and training in response to this incident, there can be no assurance
that such measures will be effective in preventing other such events in the
future.
The Company has one major operating facility located in Iron County, Utah.
The loss or shutdown of operations over an extended period of time at such
facility would have a material adverse effect on the Company. The Company's
operations are subject to the usual hazards associated with chemical
manufacturing and the related storage and transportation of products and wastes,
including explosions, fires, inclement weather and natural disasters, mechanical
failure, unscheduled downtime, transportation interruptions, chemical spills,
discharges or releases of toxic or hazardous substances or gases and other
environmental risks, such as required remediation of contamination. These
hazards can cause personal injury and loss of life, severe damage to or
destruction of property and equipment and environmental damage, and may result
in suspension of operations and the imposition of civil or criminal penalties.
The Company maintains property, business interruption and casualty insurance at
levels which it believes are
16
in accordance with customary industry practice, but there can be no assurance
that the Company will not incur losses beyond the limits or outside the coverage
of its insurance.
On May 4, 1988, the former manufacturing and office facilities of the Company
in Henderson, Nevada were destroyed by a series of massive explosions and
associated fires. Extensive property damage occurred both at the Company's
facilities and in immediately adjacent areas, the principal damage occurring
within a three-mile radius. Production of AP, the Company's principal business,
ceased for a 15-month period. Significant interruptions were also experienced
in the Company's other businesses, which occupied the same or adjacent sites.
Although the Company's current facility is designed to site particular
components of the manufacturing process in discrete areas of the facility and
incorporates modern equipment and materials handling systems designed,
constructed and operated in accordance with the operating and safety
requirements of the Company's customers, insurance carriers and governmental
authorities, there can be no assurance that another incident could not interrupt
some or all of the activities carried on at the Company's current manufacturing
site.
Sodium azide is a strong reducing agent and is classified by the DOT as a
poison. Its manufacture entails certain hazards with which Dynamit Nobel has
become familiar over the course of time. The Company's method of production is
intended to limit the quantity of sodium azide in process at any one time and to
utilize known safety measures in an effort to lessen attendant risks. In late
1992, a fire occurred in a sodium azide reactor vessel at the Company's facility
during start-up and testing of the reactor vessel. In addition, fires are
reported to have affected production at a competitor's facility in the past.
There can be no assurance that a fire or other incident will not occur at the
Company's sodium azide production facility in the future. The Company believes
that exposure to sodium azide after an airbag is installed in an automobile is
highly unlikely due to the way in which sodium azide is used and to the housing
in which it is encased. However, the Company understands that claims have been
asserted by automobile drivers and passengers that they have suffered hand burns
from heated gas and facial abrasions from airbag fabric after its deployment,
although no such claims have been asserted against the Company.
EMPLOYEES
At September 30, 1998, the Company employed approximately 218 persons in
executive, administrative, sales and manufacturing capacities. Although efforts
have been made by union representatives to seek certification to represent
certain Company employees, no such certification has been granted and the
Company does not have collective bargaining agreements with any of its
employees. The Company considers relationships with its employees to be
satisfactory.
ITEM 2. PROPERTIES
- ------------------
The following table sets forth certain information regarding the Company's
properties at September 30, 1998.
17
Approximate
Area or Approximate
Location Principal Use Floor Space Status Annual Rent
-------- ------------- ----------- ------ -----------
Iron County, UT AP Manufacturing Facility /(a)/ 217 acres Owned ___
Iron County, UT Sodium Azide Manufacturing Facility/ (b)/ 41 acres Owned ___
Iron County, UT Halotron(TM) Manufacturing Facility/(c)/ 6,720 sq. ft. Owned ___
Las Vegas, NV Executive Offices 22,262 sq. ft. Leased(d) $550,000
(a) This facility is used for the production of perchlorate products and
consists of approximately 112,000 sq. ft. of enclosed manufacturing space,
a 12,000 sq. ft. administration building and a 3,200 sq. ft. laboratory
building. Capacity utilization rates for this production facility were
approximately 62%, 34% and 38% during the fiscal years ended September 30,
1998, 1997 and 1996, respectively.
(b) This facility is used for the production of sodium azide and consists of
approximately 34,600 sq. ft. of enclosed manufacturing and laboratory
space. Capacity utilization rates for this production facility were
approximately 39%, 45% and 39% during the fiscal years ended September 30,
1998, 1997 and 1996, respectively.
(c) Capacity utilization rates for the Halotron production facility were
approximately 4% during the fiscal years ended September 30, 1998 and
1997, and less than 1% during the fiscal year ended September 30, 1996.
(d) These facilities are leased from 3770 Howard Hughes Parkway Associates-
Limited Partnership for an initial term of 10 years, which began on March
1, 1991. See Note 5 to Notes to Consolidated Financial Statements of the
Company.
The Company's facilities are considered by it to be adequate for its present
needs and suitable for their current use. See Item I. Business-"Real Estate
Assets" for a description of the Company's development properties in Iron
County, Utah and Clark County, Nevada.
Item 3. Legal Proceedings
- -------------------------
On August 30, 1991, the Company entered into an agreement with Jan Andersson
and his corporation, AB Bejaro Product (the "Halotron(TM) Agreement") granting
the Company the option to acquire the exclusive worldwide rights to manufacture
and sell Halotron(TM) I.
In February 1992, following successful technical evaluations and field tests,
the Company exercised its option to acquire the rights provided for in the
Halotron(TM) Agreement. In addition to the exclusive license to manufacture and
sell Halotron(TM) I, the rights acquired by the Company include rights under all
present and future patents relating to Halotron(TM) I throughout the world,
rights to related and follow-on products and technologies and product and
technology improvements, rights to reclaim, store and distribute halon and
rights to utilize the productive capacity of the inventors' Swedish
manufacturing facility.
In 1992, the Company sued Andersson and Bejaro, claiming they had breached the
contract in which they had sold the rights to Halotron(TM). This initial
litigation was settled when Andersson and Bejaro
18
promised to perform faithfully their duties and to honor the terms of the
contracts that, among other things, gave the Company exclusive rights to the
Halotron(TM) chemicals and delivery systems. Following the settlement of the
initial litigation, however, Andersson and Bejaro failed to perform the acts
they had promised in order to secure dismissal of that litigation. As a result,
the Company brought an action in the Utah state courts in March 1994, for the
purpose of establishing the Company's exclusive rights to the Halotron(TM)
chemicals and delivery systems. On August 15, 1994, the court entered a default
judgment against Andersson and Bejaro granting the injunctive relief requested
by the Company and awarding damages in the amount of $42.2 million (the
"Judgment"). The trial court further ordered Andersson and Bejaro to execute
documents required for patent registration of Halotron(TM) in various countries.
When Andersson and Bejaro ignored this court order, the Court directed the Clerk
of the Court to execute these documents on behalf of Andersson and Bejaro.
Finally, the Court ordered that Andersson's and Bejaro's rights to any future
royalties from sales of Halotron(TM) were terminated. The Company is exploring
ways to collect the Judgment from Andersson and Bejaro. It appears that
Andersson and Bejaro have few assets and those assets they do have appear to
have been placed beyond reach of the Judgment.
The Company has initiated arbitration proceedings against Jan Andersson and
Bejaro to enforce Halotron(TM)'s patent rights to Halotron(TM) against
Andersson. The parties have each submitted statements of claims, with
supporting documents, affidavits and briefs to the arbitration panel. Jan
Andersson and Bejaro have also asserted a counterclaim against the Company,
alleging that the Company wrongfully deprived Andersson and Bejaro of royalties
due under the agreements with the Company. Andersson and Bejaro seek $6.2
million, including damages for alleged physical suffering and punitive damages.
The Company has sought to strike the counterclaim as having been filed untimely.
If the counterclaim is not stricken, the Company will vigorously contest claims
asserted in the counterclaim. The Company believes the counterclaim to be
without merit. The hearing for the arbitration was held in November, 1998. The
Company currently expects a decision in the arbitration in early calendar year
1999.
Trace amounts of perchlorate chemicals have been found in Lake Mead. Clark
County, Nevada, where Lake Mead is situated, was the location of Kerr-McGee's AP
operations, and was also the location of the Company's AP operations until May
1988. The Company is cooperating with State and local agencies, and with Kerr-
McGee and other interested firms, in the investigation and evaluation of the
source or sources of these trace amounts, possible environmental impacts, and
potential remediation methods. Until these investigations and evaluations have
reached definitive conclusions, it will not be possible for the Company to
determine the extent to which, if at all, the Company may be called upon to
contribute to or assist with future remediation efforts, or the financial
impacts, if any, of such cooperation, contributions or assistance. See Item I.
Business-"Environmental Regulation."
The information set forth in Notes 11 and 15 to Notes to Consolidated
Financial Statements of the Company regarding litigation and contingencies is
incorporated herein by reference. Reference is also made to Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- -----------------------------------------------------------
Not Applicable.
19
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED SECURITY HOLDER
- --------------------------------------------------------------------------
MATTERS
- -------
The Company's Common Stock is traded on the Nasdaq National Market under the
symbol "APFC." The table below sets forth the high and low bid prices of the
Common Stock on the Nasdaq National Market for the periods indicated.
Nasdaq National Market
High Low
Fiscal Year 1998
----------------
1st Quarter 8 1/4 6 3/8
2nd Quarter 11 5/8 5 3/4
3rd Quarter 11 1/4 9 1/2
4th Quarter 10 3/8 7 3/8
Fiscal Year 1997
----------------
1st Quarter 8 1/8 6 1/2
2nd Quarter 8 1/8 6 5/8
3rd Quarter 7 3/8 6 1/4
4th Quarter 7 11/16 6 5/8
At December 1, 1998, there were approximately 1,430 shareholders of record of
the Company's Common Stock. The Company has not paid a dividend on the Common
Stock since the Company's incorporation and does not anticipate paying cash
dividends in the foreseeable future. In addition, covenants contained in
certain borrowing agreements restrict the Company's ability to pay dividends.
(See Note 6 to Notes to Consolidated Financial Statements of the Company.)
20
ITEM 6. SELECTED FINANCIAL DATA
- --------------------------------
FIVE-YEAR SUMMARY OF SELECTED CONSOLIDATED FINANCIAL DATA FOR THE YEARS ENDED
- -----------------------------------------------------------------------------
SEPTEMBER 30,
- -------------
1998 1997 1996 1995 1994
-----------------------------------------------------------
..........(in thousands except per share amounts)
STATEMENT OF OPERATIONS DATA:
Sales and operating revenues $ 52,339 $ 44,050 $ 42,381 $ 39,250 $ 51,193
Cost of sales 35,792 36,420 32,579 29,861 26,317
Gross profit 16,547 7,630 9,802 9,389 24,876
Operating expenses 9,246 9,509 9,367 11,210 12,522
Impairment charge 52,605 39,401
Employee separation and management reorganization
costs 3,616 226
Operating income (loss) 7,301 (58,100) 435 (2,047) (27,047)
Equity in real estate venture 300 200 700
Interest and other income 1,294 1,115 1,381 1,429 1,088
Interest and other expense 5,734 2,001 2,836 1,709 3,315
Income (loss) before credit for
income taxes 3,161 (58,786) (320) (2,327) (29,274)
Credit for income taxes (10,101) (109) (791) (9,937)
Net income (loss) before
extraordinary losses 3,161 (48,685) (211) (1,536) (19,337)
Extraordinary loss-debt extinguishments 5,172
Net loss (2,011) (48,685) (211) (1,536) (19,337)
Basic net loss per share (.24) (6.01) (.03) (.19) (2.38)
Diluted net loss per share $ (.24) $ (6.01) $ (.03) $ (.19) $ (2.38)
BALANCE SHEET DATA:
Cash and cash equivalents and
short-term investments $ 20,389 $ 18,881 $ 20,501 $ 26,540 $ 24,884
Restricted cash 1,176 3,580 4,969 3,743 1,584
Inventories and accounts and notes receivable 23,193 17,304 16,199 13,086 14,630
Property, plant and equipment net 19,529 19,314 77,217 80,944 81,606
Intangible assets-net 38,252 1,540 1,760 2,995 3,365
Development property 7,036 7,362 8,631 10,296 11,525
Real estate equity investments 17,112 20,248 18,698 17,725 14,526
Total assets 130,759 90,081 150,019 157,789 154,922
Working capital 34,786 23,479 24,905 26,440 34,383
Notes payable and current portion
of long-term debt 1,176 6,166 7,334 8,500 504
Long-term debt 70,000 24,900 29,452 34,054 42,176
Shareholders' equity $ 44,029 $ 45,551 $ 94,156 $ 94,251 $ 95,846
21
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
- --------------------------------------------------------------------------------
OF OPERATIONS
- -------------
OVERVIEW
The Company is principally engaged in the production of AP for the aerospace
and national defense industries. In addition, the Company produces and sells
sodium azide, the primary component of a gas generant used in automotive airbag
safety systems, and Halotron(TM), a chemical used in fire suppression systems
ranging from portable fire extinguishers to airport firefighting vehicles. The
perchlorate, sodium azide and Halotron(TM) facilities are located on the
Company's property in Southern Utah and the chemicals produced and sold at these
facilities collectively represent the Company's specialty chemical segment. The
Company's other lines of business include the development of real estate in
Nevada and the production of environmental protection equipment, including
waste water and seawater treatment systems.
The Company has incurred net losses during the last three fiscal years and an
operating loss during the fiscal year ended September 30, 1997. As a result,
pre-tax income has not been sufficient to recover interest charges.
The Company believes that North American demand for AP is currently
approximately 20 to 25 million pounds annually. However, supply capacity has
historically been substantially in excess of these estimated demand levels. In
an to effort rationalize the economics of the existing AP market, the Company
entered into the Purchase Agreement with Kerr-McGee. Upon consummation of the
Acquisition, the Company effectively became the sole North American producer of
AP.
Sales and Operating Revenues. Sales of the Company's perchlorate chemical
products, consisting almost entirely of AP sales, accounted for approximately
67%, 52% and 51% of revenues during the fiscal years ended September 30, 1998,
1997 and 1996, respectively. In general, demand for AP is driven by a
relatively small number of DOD and NASA contractors; as a result, any one
individual AP customer usually accounts for a significant portion of the
revenues of AP manufacturers. For example, Thiokol accounted for approximately
39%, 35% and 47% of the Company's revenues during the fiscal years ended
September 30, 1998, 1997 and 1996, respectively.
Sodium azide sales accounted for approximately 21%, 30% and 28% of sales
during fiscal years ended September 30, 1998, 1997 and 1996, respectively.
The Company incurred significant operating losses in its sodium azide
operation in the 1997 fiscal year and prior fiscal years. Sodium azide
performance improved in the fourth quarter of fiscal 1997, principally as a
result of additional sodium azide deliveries under the Autoliv agreement
referred to below, and the operations were cash flow positive during the year
ended September 30, 1997. However, even though performance improved,
management's view of the economics of the sodium azide market changed during the
fourth quarter of fiscal 1997. One major inflator manufacturer announced the
acquisition of non-azide based inflator technology and that it intended to be in
the market with this new technology by model year 1999. In addition, although
the Company had achieved significant gains in market share that appeared to
relate to the Company's anti-dumping petition and the Suspension Agreement,
management believed that the effects of the anti-dumping petition were likely
fully incorporated into the sodium azide market by the end of fiscal 1997.
Recognizing that the uncertainties respecting the market and discussed above
continued to exist, during the fourth quarter of fiscal 1997, management
concluded that the cash flows associated with sodium azide operations would not
be sufficient to recover the Company's investment in sodium azide related fixed
assets. As quoted market prices were not available, the present value of
estimated future cash flows was used to estimate the fair value of sodium azide
fixed
22
assets. Under the requirements of SFAS No. 121, and as a result of this
valuation technique, an impairment charge of $52.6 million was recognized in the
fourth quarter of fiscal 1997. See Note 14 to Notes to Consolidated Financial
Statements of the Company for further discussion of the impairment charge.
In June, July and August of this year, shipments of sodium azide were
negatively impacted by the recent labor strike at certain General Motors ("GM")
facilities. Although this strike has recently been settled, the Company is
unable to predict any further impact this strike may have on its sodium azide
operations.
Sales of Halotron(TM) amounted to approximately 3%, 4% and less than 1% of
revenues during the fiscal years ended September 30, 1998, 1997 and 1996,
respectively. Halotron(TM) is designed to replace halon-based fire suppression
systems. Accordingly, demand for Halotron(TM) depends upon a number of factors
including the willingness of consumers to switch from halon-based systems, as
well as existing and potential governmental regulations.
Real estate and related sales amounted to approximately 5%, 8% and 12% of
revenues during the fiscal years ended September 30, 1998, 1997 and 1996,
respectively. The nature of real estate development and sales is such that the
Company is unable reliably to predict any pattern of future real estate sales or
recognition of the equity in earnings of real estate ventures.
Environmental protection equipment sales accounted for approximately 4%, 6%
and 7% of revenues during the fiscal years ended September 30, 1998, 1997 and
1996, respectively. It is currently anticipated that sales of this segment will
be adversely affected in fiscal 1999 and perhaps beyond by the continuing
adverse economic developments and conditions in the Company's foreign markets
(particularly Asian markets).
Cost of Sales. The principal elements comprising the Company's cost of sales
are raw materials, electric power, labor, manufacturing overhead and the basis
in the real estate sold. The major raw materials used by the Company in its
production processes are graphite, sodium chlorate, ammonia, hydrochloric acid,
sodium metal, and nitrous oxide. Significant increases in the cost of raw
materials may have an adverse impact on margins if the Company is unable to pass
along such increases to its customers, although all the raw materials used in
the Company's manufacturing processes have historically been available in
commercial quantities, and the Company has had no difficulty obtaining necessary
raw materials.
Raw material, electric power and labor costs have not changed significantly in
the past three fiscal years. The costs of operating the Company's specialty
chemical plants are largely fixed. Accordingly, the Company believes that the
potential additional AP sales volume resulting from the Acquisition should
generate significant incremental cash flow because of the operating leverage
associated with the perchlorate plant. However, amortization of the Acquisition
costs are expected to amount to approximately $4.0 million annually.
Operating Expenses. Operating (selling, general and administrative) expenses
were $9.2 million, $9.5 million and $9.4 million during the fiscal years ended
September 30, 1998, 1997 and 1996, respectively. Operating expenses in fiscal
1998 include approximately $1.0 million in costs related to the investigation
and evaluation of the trace amounts of perchlorate chemicals found in Lake Mead
(see Note 11 to Notes to Consolidated Financial Statements of the Company). The
Company is unable to determine the extent to which similar costs will be
incurred in the future.
23
Income Taxes. The Company's effective income tax rates were approximately 0%
in fiscal 1998, 17% in fiscal 1997 and 34% in fiscal year 1996. The Company's
effective income tax rate decreased to 17% in fiscal 1997 as a result of the
establishment of a $10.1 million deferred tax valuation allowance. The
Company's effective tax rate will be 0% until the Company's net operating losses
expire or the Company has taxable income necessary to eliminate the need for the
valuation allowance. See Note 8 to Notes to Consolidated Financial Statements
of the Company.
Net Income (Loss). Although the Company's net income (loss) and diluted net
income (loss) per common share have not been subject to seasonal fluctuations,
they have been and are expected to continue to be subject to variations from
quarter to quarter and year to year due to the following factors, among others:
(i) as discussed in Note 11 to Notes to Consolidated Financial Statements of the
Company, the Company may incur material legal and other costs associated with
certain litigation and contingencies; (ii) the timing of real estate and related
sales and equity earnings of real estate ventures is not predictable; (iii) the
recognition of revenues from environmental protection equipment orders not
accounted for as long-term contracts depends upon orders generated and the
timing of shipment of the equipment; (iv) weighted average common and common
equivalent shares for purposes of calculating diluted net income (loss) per
common share are subject to significant fluctuations based upon changes in the
market price of the Company's Common Stock due to outstanding warrants and
options; and (v) the magnitude, pricing and timing of AP, sodium azide,
Halotron(TM), and environmental protection equipment sales in the future is
uncertain. (See "Forward Looking Statements/Risk Factors" below.)
RESULTS OF OPERATIONS
Fiscal Year Ended September 30, 1998 Compared to Fiscal Year Ended September 30,
1997
Sales and Operating Revenues. Sales increased $8.2 million, or 19%, to $52.3
million in fiscal 1998 from $44.1 million in fiscal 1997. This increase was
attributable to increased sales in the Company's specialty chemical operations.
The increase in specialty chemical sales was partially offset by decreases in
environmental protection equipment and real estate sales.
Specialty chemical sales increased $9.7 million, or 26%, to $47.7 million in
fiscal 1998 from $38.0 million in fiscal 1997. This increase was principally
attributable to an increase in perchlorate sales of $12.3 million. The increase
in perchlorate sales was attributable to additional AP sales volume subsequent
to the Acquisition.
Sodium azide sales decreased $2.4 million, or 18%, to $10.9 million in fiscal
1998, from $13.3 million in fiscal 1997 due principally to a decrease in
shipments to Autoliv in the fourth quarter as a result of the GM strike referred
to above.
In May 1997, the Company entered into a three-year agreement with Autoliv.
The agreement provides for the Company to supply sodium azide used by Autoliv in
the manufacture of automotive airbags. Deliveries under the agreement commenced
in July 1997. The current estimated sales value of the agreement is
approximately $30.0 million over the three-year period. The actual sales value,
however, will depend upon many factors beyond the control of the Company, such
as the number of automobiles and light trucks manufactured and competitive
conditions in the airbag market, which will influence the actual magnitude of
Autoliv's sodium azide requirements, and there can therefore be no assurance as
to the actual sales value of the agreement.
Halotron(TM) sales were $1.7 million in fiscal 1998 and 1997.
24
Environmental protection sales decreased $0.2 million, or 8%, to $2.2 million
in fiscal 1998 from $2.4 million in fiscal 1997 as a result of a decrease in
equipment shipments.
Real estate sales decreased $1.1 million, or 31%, to $2.5 million in fiscal
1998 from $3.6 million in fiscal 1997 due to a decrease in land sales in fiscal
1998 compared to fiscal 1997.
Cost of Sales. Cost of sales decreased $0.6 million, or 2%, in fiscal 1998 to
$35.8 million from $36.4 million in fiscal 1997. As a percentage of sales, cost
of sales decreased to 68% in fiscal 1998 as compared to 83% in fiscal 1997.
These decreases were primarily attributable to the increase in perchlorate sales
volume offset by a reduction in depreciation expense of approximately $4.0
million as a result of the sodium azide impairment charge referred to above.
Cost of sales is expected to increase an additional $2.0 million in fiscal 1999
compared to fiscal 1998 as a result of a full year's amortization of capitalized
Acquisition costs.
Operating Expenses. Operating (selling, general and administrative) expenses
decreased $0.3 million, or 3%, in fiscal 1998 to $9.2 million from $9.5 million
in fiscal 1997.
Equity in Earnings of Real Estate Venture. During fiscal 1998 and 1997, the
Company recognized its share of the equity in the Company's Ventana Canyon joint
venture. The Company's equity in the earnings of the project amounted to
approximately $0.3 million and $0.2 million, respectively. Profits and losses
are split equally between the Company and its venture partner, a local real
estate development company.
Segment Operating Income (Loss). Operating income (loss) of the Company's
industry segments during the fiscal years ended September 30, 1998 and 1997 was
as follows:
1998 1997
---------------------------- ----------------------------
Specialty chemicals $ 6,422,000 $ (55,227,000)
Environmental protection equipment (2,000) (659,000)
Real estate 1,082,000 1,624,000
---------------------------- ----------------------------
Total $ 7,502,000 $ (54,262,000)
============================ ============================
The increase in operating income of the specialty chemical segment was
attributable to the fixed asset impairment charge of $52.6 million discussed
above and the increase in perchlorate sales and operating performance as a
result of the Acquisition. The decrease in operating income of the real estate
segment was attributable to a decrease in revenues from $3.6 million in fiscal
1997 to $2.5 million in fiscal 1998.
Interest and Other Income. Interest and other income increased to $1.3
million in fiscal 1998 from $1.1 million in 1997. The increase was principally
due to higher average cash and cash equivalent balances.
Interest and Other Expense. Interest and other expense increased to $5.7
million in fiscal 1998 from $2.0 million in fiscal 1997. The increase was
primarily due to the issuance of the Notes.
FISCAL YEAR ENDED SEPTEMBER 30, 1997 COMPARED TO FISCAL YEAR ENDED SEPTEMBER 30,
1996
Sales and Operating Revenues. Sales increased $1.6 million, or 4%, to $44
million in fiscal 1997 from $42.4 million in fiscal 1996. This increase was
attributable to increased sales in the Company's
25
specialty chemical operations. The increase in specialty chemical sales was
partially offset by decreases in environmental protection equipment and real
estate sales.
Specialty chemical sales increased $3.9 million, or 11.5%, to $38.0 million in
fiscal 1997 from $34.1 million in fiscal 1996. This increase was attributable to
increases in perchlorate, sodium azide and Halotron(TM) sales of $1.4 million,
$1.3 million and $1.2 million, respectively.
This increase in perchlorate sales was primarily attributable to sales of AP
to Alliant, for use in solid rocket boosters related to the Delta launch vehicle
program.
Sodium azide sales increased $1.3 million, or 11%, to $13.3 million in fiscal
1997 from $12.0 million in fiscal 1996 due principally to an increase in
shipments to Autoliv resulting from the three-year agreement referred to above.
Halotron(TM) sales increased $1.2 million, or 240%, to $1.7 million in fiscal
1997 from $0.5 million in fiscal 1996 due primarily to increased sales to
original equipment manufacturers as a result of the continued acceptance of
Halotron in the market.
Environmental protection sales decreased $0.7 million, or 21.6%, to $2.4
million in fiscal 1997 from $3.1 million in fiscal 1996 as a result of a
decrease in spare part sales.
Real estate sales decreased $1.6 million, or 30.2%, to $3.6 million in fiscal
1997 from $5.2 million in fiscal 1996 due to a decrease in land sales from
fiscal 1996.
Cost of Sales. Cost of sales increased $3.8 million, or 12%, in fiscal 1997
to $36.4 million from $32.6 million in fiscal 1996. This increase was primarily
due to increases in specialty chemical sales volumes. As a percentage of sales,
cost of sales increased to 83% as compared to 77% in fiscal 1996. This
relative increase was principally due to the decreases in average sales prices
for sodium azide and Halotron in response to competitive factors.
Operating Expenses. Operating (selling, general and administrative) expenses
increased $0.1 million, or 1%, in fiscal 1997 to $9.5 million from $9.4 million
in fiscal 1996.
Fixed Asset Impairment Charge. As discussed above, the Company recognized an
impairment charge of $52.6 million in the fourth quarter of fiscal 1997.
Employee Separation and Management Reorganization Costs. During the fourth
quarter of fiscal 1997, the Company recognized a charge of $3.6 million
associated with employee separations and management reorganization costs. In
addition, relocation costs of approximately $0.4 million were incurred in the
fourth quarter of fiscal 1997.
Equity in Earnings of Real Estate Venture. During fiscal 1997 and 1996, the
Company recognized its share of the equity in the Company's Ventana Canyon joint
venture. The Company's equity in the earnings of the project amounted to
approximately $0.2 million and $0.7 million, respectively. Profits and losses
are split equally between the Company and its venture partner, a local real
estate development company. The venture's profits decreased during fiscal 1997
principally as a result of the sale of improved land zoned for an apartment site
to an outside developer during fiscal 1996.
26
Segment Operating Income (Loss). Operating income (loss) of the Company's
industry segments during the fiscal years ended September 30, 1997 and 1996 was
as follows:
1997 1996
---------------------------- ----------------------------
Specialty chemicals $ (55,227,000) $ (879,000)
Environmental protection equipment (659,000) (249,000)
Real Estate 1,624,000 2,069,000
---------------------------- ----------------------------
Total $ (54,262,000) $ 941,000
============================ ============================
The increase in operating loss of the specialty chemical segment relates
principally to the fixed asset impairment charge of $52.6 million discussed
above. The increase in operating loss of the environmental protection equipment
segment was primarily due to a reduction in revenues from $3.1 million in fiscal
1996 to $2.4 million in fiscal 1997. The decrease in operating income of the
real estate segment was attributable to a decrease in revenues from $5.2 million
in fiscal 1996 to $3.6 million in fiscal 1997.
Interest and Other Income. Interest and other income decreased to $1.1
million in fiscal 1997 from $1.4 million in 1996. The decrease was principally
due to lower average cash and cash equivalent balances.
Interest and Other Expense. Interest and other expense decreased to $2.0
million in fiscal 1997 from $2.8 million in fiscal 1996. The decrease was
primarily due to a reduction in debt balances.
INFLATION
Inflation did not have a significant effect on the Company's sales and
operating revenues or costs during the three-year period ended September 30,
1998. Inflation may have an effect on gross profit in the future as certain of
the Company's agreements with AP and sodium azide customers require fixed
prices, although certain of such agreements contain escalation features that
should somewhat insulate the Company from increases in costs associated with
inflation.
LIQUIDITY AND CAPITAL RESOURCES
As discussed in Notes 6 and 7 to Notes to Consolidated Financial Statement of
the Company, in March 1998, the Company sold Notes in the principal amount of
$75.0 million, acquired certain assets from Kerr-McGee for a cash purchase price
of $39.0 million and paid $28.2 million to repurchase the remaining $25.0
million principal amount outstanding of the Azide Notes. The Company incurred
approximately $3.6 million in costs associated with the issuance of the Notes.
In connection with the Azide Notes repurchase, the Company recognized an
extraordinary loss on debt extinguishment of approximately $5.0 million. In
September 1998, the Company repurchased and retired $5.0 million principal
amount of Notes. Although the repurchase was effected at below par, the Company
incurred an extraordinary loss on debt extinguishment of approximately $0.2
million as a result of writing off costs associated with the issuance of the
Notes.
Cash flows provided by operating activities were $7.7 million, $9.6 million
and $4.4 million during the fiscal years ended September 30, 1998, 1997 and
1996, respectively. The changes in cash flows from operating activities result
principally from changes in certain working capital balances. The Company
believes that its cash flows from operations and existing cash balances will be
adequate for the foreseeable future to satisfy the needs of its operations.
However, the resolution of litigation and
27
contingencies, and the timing, pricing and magnitude of orders for AP, sodium
azide and Halotron(TM), may have an effect on the use and availability of cash.
Capital expenditures were $2.8 million, $1.6 million and $3.2 million during
the fiscal years ended September 30, 1998, 1997 and 1996, respectively. Capital
expenditures are budgeted to amount to approximately $4.5 million in fiscal 1999
and relate principally to specialty chemical segment capital improvement
projects. Capital expenditures are expected to be funded from existing cash
balances and operating cash flow.
During the three-year period ended September 30, 1998 the Company repaid or
repurchased $48.5 million of debt, repurchased $0.7 million in treasury stock
and issued $1.2 million in common stock as a result of the exercise of
outstanding stock options.
During fiscal 1998, the Company received cash of approximately $3.4 million
from its Ventana Canyon joint venture. The Company currently anticipates that
cash returns of invested capital and equity in earnings will continue through
the conclusion of the project currently projected to be the end of calendar
2001.
As a result of the litigation and contingencies discussed in Note 11 to Notes
to Consolidated Financial Statements of the Company, the Company has incurred
legal and other costs, and it may incur material legal and other costs
associated with the resolution of contingencies in future periods. Any such
costs, to the extent borne by the Company and not recovered through insurance,
would adversely affect the Company's liquidity. The Company is currently unable
to predict or quantify the amount or range of such costs or the period of time
over which such costs will be incurred.
The Year 2000 issue is the result of computer programs being written using two
digits rather than four to define the applicable year. Any programs that have
time-sensitive software may recognize a date using "00" as the year 1900 rather
than the year 2000. This could result in a major system failure or
miscalculations.
The Company is currently in the process of evaluating and resolving the
problems that might be associated with the Year 2000 issue. The Company's Year
2000 project has four major components:
1. Evaluation of all major manufacturing and business computing systems to
determine which systems are Year 2000 compliant.
2. For each computing system found not to be Year 2000 compliant, development
of a strategy to replace, modify or upgrade the system to a Year 2000
compliant system.
3. Evaluation of core vendors for Year 2000 compliance.
4. Preparation of contingency plans.
The Company's evaluation found that the most critical digital control system,
which is used in the manufacture of specialty chemical products, is Year 2000
compliant. The Company has received a letter of certification from its vendor,
and the Company has tested the system by turning the dates forward on the
computers to the year 2000, and all systems functioned normally.
The Company's accounting system is being upgraded to a Year 2000 compliant
version. This upgrade is in process, and should be completed in the second
quarter of fiscal 1999. New maintenance
28
and manufacturing (MRP) software packages are currently being implemented, and
each is certified and tested as Year 2000 compliant.
The majority of PC computers used by the Company are Pentium class, running
Microsoft's Windows 95 operating system, and are Year 2000 compliant. The
Company's file servers are running on Pentium computers with Microsoft NT 4.0,
and each of these is also certified Year 2000 compliant. The Company also uses
Microsoft's office suite, which is Year 2000 compliant.
During the evaluation phase of its Year 2000 project, the Company identified
certain potential issues related to many of its programmable logic controller
units used in the manufacturing process and certain of the Company's laboratory
instruments and the computers and software with which they operate. The Company
is in the process of updating the equipment that is not Year 2000 compliant.
The Company is also in the process of developing contingency plans for the
Year 2000 issue.
The Company recently reevaluated its estimates and assumptions of the costs
directly associated with its Year 2000 project and currently estimates that
approximately $0.5 million in costs will be incurred that are directly
associated with the project. At September 30, 1998, the Company had incurred
approximately $0.2 million in costs that were directly related to its Year 2000
project.
Given the inherent risks for a project of this nature, the timing and costs
involved could differ materially from those anticipated by the Company. There
can be no assurance that the Year 2000 project will be completed on schedule or
within budget.
FORWARD-LOOKING STATEMENTS/RISK FACTORS
Certain matters discussed in this Report may be forward-looking statements
that are subject to risks and uncertainties that could cause actual results to
differ materially from those projected. Such risks and uncertainties include,
but are not limited to, the risk factors set forth below.
The following risk factors, among others, may cause the Company's operating
results and/or financial position to be adversely affected from time to time:
1. (a) Declining demand or downward pricing pressure for the Company's
products as a result of general or specific economic conditions, (b)
governmental budget decreases affecting the Department of Defense or NASA
that would cause a continued decrease in demand for AP, (c) the results
achieved by the Suspension Agreement resulting from the Company's anti-
dumping petition and the possible termination of such agreement, (d)
technological advances and improvements with respect to existing or new
competitive products causing a reduction or elimination of demand for AP,
sodium azide or Halotron(TM), (e) the ability and desire of purchasers to
change existing products or substitute other products for the Company's
products based upon perceived quality, environmental effects and pricing,
and (f) the fact that perchlorate chemicals, sodium azide, Halotron(TM) and
the Company's environmental products have limited applications and highly
concentrated customer bases.
2. Competitive factors including, but not limited to, the Company's
limitations respecting financial resources and its ability to compete
against companies with substantially greater resources, significant excess
market supply in the sodium azide market and the development or penetration
of competing new products, particularly in the propulsion, airbag inflation
and fire suppression businesses.
29
3. Underutilization of the Company's manufacturing facilities resulting in
production inefficiencies and increased costs, the inability to recover
facility costs and reductions in margins.
4. Risks associated with the Company's real estate activities, including, but
not limited to, dependence upon the Las Vegas commercial, industrial and
residential real estate markets, changes in general or local economic
conditions, interest rate fluctuations affecting the availability and the
cost of financing, the performance of the managing partner of its
residential real estate joint venture (Ventana Canyon Joint Venture) and
regulatory and environmental matters that may have a negative impact on
sales or costs.
5. The effects of, and changes in, trade, monetary and fiscal policies, laws
and regulations and other activities of governments, agencies or similar
organizations, including, but not limited to, environmental, safety and
transportation issues.
6. The cost and effects of legal and administrative proceedings, settlements
and investigations, particularly those described in Note 11 to Notes to
Consolidated Financial Statements of the Company and claims made by or
against the Company relative to patents or property rights.
7. Integration of new customers and the ability to meet additional production
and delivery requirements resulting from the Acquisition.
8. The results of the Company's periodic review of impairment issues under the
provisions of SFAS No. 121.
9. The dependence upon a single facility for the production of most of the
Company's products.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
- ---------------------------------------------------
Financial statements called for hereunder are included herein on the
following pages:
Page(s)
--------
Independent Auditors' Report 39
Consolidated Balance Sheets 40
Consolidated Statements of Operations 41
Consolidated Statements of Cash Flows 42
Consolidated Statements of Changes in Shareholders' Equity 43
Notes to Consolidated Financial Statements 44-64
30
Summarized Quarterly Financial Data (Unaudited)
(amounts in thousands except per share amounts)
---------------------------------------------------------------
Quarters For Fiscal Year 1998
1st 2nd 3rd 4th Total
- --------------------------------------------------------------------------------
Sales and Operating (1) (1) (1)
Revenues $11,268 $14,119 $13,136 $13,816 $52,339
Gross Profit 3,162 4,990 4,089 4,306 16,547
Net Income Before
Extraorindary Loss 566 1,993 214 388 3,161
Net Income (Loss) 566 (3,012) 214 221 (2,011)
Diluted Net Income Before
Extraordinary Loss
Per Share .07 .24 .02 .05 .38
Diluted Net Income
(Loss) Per Share $ .07 $ (0.36) $ .02 $ .03 $ (.24)
---------------------------------------------------------------
Quarters For Fiscal Year 1997
1st 2nd 3rd 4th Total
- --------------------------------------------------------------------------------
Sales and Operating (2) (2)
Revenues $8,396 $9,382 $12,767 $ 13,505 $ 44,050
Gross Profit 1,313 1,357 2,333 2,627 7,630
Net Loss (850) (729) (114) (46,992) (48,685)
Diluted Net Loss
Per Share $ (.10) $ (.09) $ (.02) $ (5.78) $ (6.01)
(1) Net loss includes an extraordinary loss on debt extinguishment of
approximately $5.0 million in the second quarter and $0.2 million in the
fourth quarter.
(2) Net loss includes pre-tax costs for an impairment charge of $52.6 million
and for management reorganization and employee separations of $4 million.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
- -----------------------------------------------------------------------
FINANCIAL DISCLOSURE
- --------------------
Not Applicable.
31
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
- -----------------------------------------------------------
The required information regarding directors and executive officers is
incorporated herein by reference from the Company's definitive proxy statement
for its 1999 Annual Meeting of Shareholders, to be filed with the Securities and
Exchange Commission not later than January 28, 1999.
Item 11. Executive Compensation
- -------------------------------
The required information regarding executive compensation is incorporated
herein by reference from the Company's definitive proxy statement for its 1999
Annual Meeting of Shareholders, to be filed with the Securities and Exchange
Commission not later than January 28, 1999.
Item 12. Security Ownership of Certain Beneficial Owners and Management
- -----------------------------------------------------------------------
The required information regarding security ownership of certain beneficial
owners and management is incorporated herein by reference from the Company's
definitive proxy statement for its 1999 Annual Meeting of Shareholders, to be
filed with the Securities and Exchange Commission not later than January 28,
1999.
Item 13. Certain Relationships and Related Transactions
- -------------------------------------------------------
The required information regarding certain relationships and related
transactions is incorporated by reference from the Company's definitive proxy
statement for its 1999 Annual Meeting of Shareholders, to be filed with the
Securities and Exchange Commission not later than January 28, 1999.
32
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
- --------------------------------------------------------------------------
(a) (1) Financial Statements
--------------------
See Part II, Item 8 for index to the Registrant's financial statements
and supplementary data.
(2) Financial Statement Schedules
-----------------------------
None applicable.
(3) Exhibits
--------
(a) The following Exhibits are filed as part of this Report
(references are to Regulation S-K Exhibit Numbers):
2.1 Asset Purchase Agreement dated as of October 10, 1997 between
AMPAC, Inc. and Kerr-McGee Chemical Corporation, incorporated
herein by reference to Exhibit 99.1 to the Registrant's Current
Report on Form 8-K dated February 19, 1998.
3.1 Registrant's Restated Certificate of Incorporation, incorporated
by reference to Exhibit 3A to Registrant's Registration Statement
on Form S-14 (File No. 2-70830), (the "S-14").
3.2 Registrant's By-Laws, incorporated by reference to Exhibit 3B to
the S-14.
3.3 Articles of Amendment to the Restated Certificate of
Incorporation, as filed with the Secretary of State, State of
Delaware, on October 7, 1991, incorporated by reference to Exhibit
4.3 to Registrant's Registration Statement on Form S-3 (File No.
33-52196) (the "S-3").
3.4 Articles of Amendment to the Restated Certificate of Incorporation
as filed with the Secretary of State, State of Delaware, on April
21, 1992, incorporated by reference to Exhibit 4.4 to the S-3.
4.1 American Pacific Corporation 1991 Nonqualified Stock Option Plan,
incorporated by reference to Exhibit 10.26 to the Registrant's
Registration Statement on Form S-2 (File No. 33-36664) (the "1990
S-2").
4.2 Form of Note and Warrants Purchase Agreement dated February 21,
1992, relating to the Registrant's previously outstanding
Subordinated Secured Term Notes, incorporated by reference to
Exhibit 10.3 to the Registrant's Current Report on Form 8-K dated
February 28, 1992 (the "1992 8-K").
33
4.3 Form of Warrant to purchase Common Stock of the Registrant dated
February 21, 1992, incorporated by reference to Exhibit 10.4 to
the 1992 8-K.
4.4 Form of Warrant to purchase Common Stock of American Azide
Corporation dated February 21, 1992, incorporated by reference to
Exhibit 10.5 to the 1992 8-K.
4.5 Stock Option Agreement between Registrant and Joseph W. Cuzzupoli
dated January 30, 1992, incorporated by reference to Exhibit 4.6
of Registrant's Registration Statement on Form S-8 (File No. 33-
52898).
4.6 American Pacific Corporation 1994 Directors' Stock Option Plan
incorporated by reference to Exhibit 10.34 to the Registrant's
Annual Report on Form 10-K for the fiscal year ended September 30,
1995 (the "1995 10-K").
4.7 Stock Option Agreement between Registrant and General Technical
Services, Inc. dated July 11, 1995 incorporated by reference to
Exhibit 10.35 to the 1995 10-K.
4.8 Stock Option Agreement between Registrant and John R. Gibson dated
July 8, 1997 incorporated by reference to Exhibit 10.18 to the
Registrant's Annual Report on Form 10-K for the fiscal year ended
September 30, 1997 (the "1997 10-K").
4.9 Stock Option Agreement between Registrant and David N. Keys dated
July 8, 1997 incorporated by reference to Exhibit 10.19 to the
1997 10-K.
4.10 Form of Stock Option Agreement between Registrant and certain
Directors dated May 21, 1997 incorporated by reference to Exhibit
10.21 to the 1997 10-K.
4.11 American Pacific Corporation 1997 Stock Option Plan (the "1997
Plan") incorporated by reference to Exhibit 4.1 to Registrant's
Form S-8 (File No. 333-53449) (the "1998 S-8").
4.12 Form of Option Agreement under the 1997 Plan incorporated by
reference to Exhibit 4.2 to the 1998 S-8.
4.13 Indenture dated as of March 1, 1998 by and between the Registrant
and United States Trust Company of New York, incorporated by
reference to Exhibit 4.1 to Form S-4 (File No. 333-49883) (the
"1998 S-4).
10.1 Employment agreement dated November 7, 1994 between the Registrant
and David N. Keys, incorporated by reference to Exhibit 10.22 to
the Registrant's Annual Report on Form 10-K for the fiscal year
ended September 30, 1994.
10.2 Form of American Pacific Corporation Defined Benefit Pension Plan,
incorporated by reference to Exhibit 10.21 to 1990 S-2.
10.3 Lease Agreement between 3770 Hughes Parkway Associates Limited
Partnership and the Registrant, dated July 31, 1990, incorporated
by reference to Exhibit 10.22 to the 1990 S-2.
10.4 Limited Partnership Agreement of 3770 Hughes Parkway Associates,
Limited Partnership, incorporated by reference to Exhibit 10.23 to
the 1990 S-2.
34
10.5 Cooperation and Stock Option Agreement dated as of July 4, 1990 by
and between Dynamit Nobel AG and the Registrant, including
exhibits thereto, incorporated by reference to Exhibit 10.24 to
the 1990 S-2.
10.6 Articles of organization of Gibson Ranch Limited - Liability
Company dated August 25, 1993, incorporated by reference to
Exhibit 10.33 to the Registrant's Annual Report on Form 10-K for
the fiscal year ended September 30, 1993 (the "1993 10-K").
10.7 Operating agreement of Gibson Ranch Limited - Liability Company, a
Nevada Limited - Liability Company, incorporated by reference to
Exhibit 10.34 to the 1993 10-K.
10.8 Settlement Agreement between Registrant and C. Keith Rooker dated
July 17, 1997 incorporated by reference to Exhibit 10.20 to the
1997 10-K.
10.9 Long-Term Pricing Agreement dated as of December 12, 1997 between
Thiokol Corporation-Propulsion and the Registrant incorporated by
reference to Exhibit 10.1 to the Registrant's quarterly report on
Form 10-Q for the fiscal quarter ended March 31, 1998 (the "1998
March 10-Q").
10.10 Partnershipping Agreement between Alliant Techsystems Incorporated
("Alliant") and Western Electrochemical Company and letter dated
November 24, 1997 from the Registrant to Alliant and revised
Exhibit B with respect thereto, incorporated by reference to
Exhibit 10.2 to the 1998 March 10-Q.
*21 Subsidiaries of the Registrant.
*23 Consent of Deloitte & Touche LLP.
*24 Power of Attorney, included on Page 37.
*27 Financial Data Schedule
99.1 Registration Rights Agreement dated March 12, 1998, by and between
the Company and Credit Suisse First Boston Corporation,
incorporated by reference to Exhibit 99.1 to the 1998 S-4.
99.2 Form of Letter of Transmittal for Tender of outstanding 9 1/4%
Senior Notes Due 2005 in exchange for 9 1/4% Senior Notes Due
2005 of the Registrant, incorporated by reference to Exhibit 99.2
to the 1998 S-4.
99.3 Form of Tender for outstanding 9 1/4% Senior Notes Due 2005 in
exchange for 91/4% Senior Notes due 2005 of the Registrant,
incorporated by reference to Exhibit 99.3 to the 1998 S-4.
99.4 Form of Instruction to Registered Holder from Beneficial Owner of
9 1/4% Senior Unsecured Notes due 2005 of the Registrant,
incorporated by reference to Exhibit 99.4 to the 1998 S-4.
35
99.5 Form of Notice of Guaranteed Delivery for outstanding 9 1/4%
Senior Notes Due 2005 in exchange for 9 1/4% Senior Notes Due
2005 of the Registrant, incorporated by reference to Exhibit 99.5
to the 1998 S-4.
* FILED HEREWITH.
(b) Reports on Form 8-K.
--------------------
None.
36
SIGNATURES
----------
Pursuant to the requirements of Section 13 or 15(d) of the Securities and
Exchange Act of 1934, the Registrant has duly caused this Report to be signed on
its behalf by the undersigned, thereunto duly authorized.
Dated: December 11, 1998 AMERICAN PACIFIC CORPORATION
(Registrant)
By: /s/ John R. Gibson
-----------------------------------------
John R. Gibson
President & Chief Executive Officer
By: /s/ David N. Keys
-----------------------------------------
David N. Keys
Executive Vice President, Chief Financial
Officer, Secretary and Treasurer, Principal
Financial and Accounting Officer
POWER OF ATTORNEY
-----------------
American Pacific Corporation and each of the undersigned do hereby appoint
John R. Gibson and David N. Keys and each of them severally, its or his true and
lawful attorneys, with full power of substitution and resubstitution, to execute
on behalf of American Pacific Corporation and the undersigned any and all
amendments to this Report and to file the same with all exhibits thereto and
other documents in connection therewith, with the Securities and Exchange
Commission. Each of such attorneys shall have the power to act hereunder with
or without the others.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report has been signed below on behalf of the Registrant by the following
persons in the capacities and on the dates indicated.
/s/ John R. Gibson Date: December 11, 1998
- ------------------
John R. Gibson
Chief Executive Officer, President,
and Director
/s/ David N. Keys Date: December 11, 1998
- -----------------
David N. Keys
Executive Vice President, Chief
Financial Officer, Secretary and Treasurer;
Principal Financial and Accounting Officer
and Director
37
/s/ Fred D. Gibson, Jr. Date: December 11, 1998
- ---------------------------
Fred D. Gibson, Jr.
Director
/s/ C. Keith Rooker Date: December 11, 1998
- ----------------------
C. Keith Rooker
Director
/s/ Norval F. Pohl Date: December 11, 1998
- ------------------
Norval F. Pohl, Ph.D.
Director
/s/ Thomas A. Turner Date: December 11, 1998
- --------------------
Thomas A. Turner
Director
/s/ Berlyn D. Miller Date: December 11, 1998
- --------------------
Berlyn D. Miller
Director
/s/ Jane L. Williams Date: December 11, 1998
- -----------------------
Jane L. Williams
Director
/s/ Victor M. Rosenzweig Date: December 11, 1998
- ---------------------------
Victor M. Rosenzweig
Director
/s/ Dean M. Willard Date: December 11, 1998
- ----------------------
Dean M. Willard
Director
/s/ Eugene A. Cafiero Date: December 11, 1998
- ------------------------
Eugene A. Cafiero
Director
/s/ Jan H. Loeb Date: December 11, 1998
- ------------------
Jan H. Loeb
Director
38
INDEPENDENT AUDITORS' REPORT
To the Board of Directors of
American Pacific Corporation:
We have audited the accompanying consolidated balance sheets of American Pacific
Corporation and its Subsidiaries (the "Company") as of September 30, 1998 and
1997, and the related consolidated statements of operations, cash flows and
changes in shareholders' equity for each of the three years in the period ended
September 30, 1998. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on the
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of the Company at September 30, 1998
and 1997, and the results of its operations and its cash flows for each of the
three years in the period ended September 30, 1998 in conformity with generally
accepted accounting principles.
/s/ Deloitte & Touche LLP
DELOITTE & TOUCHE LLP
Las Vegas, Nevada
November 20, 1998
39
AMERICAN PACIFIC CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 1998 AND 1997
======================================================================================================
1998 1997
----------------------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 20,389,000 $ 18,881,000
Accounts and notes receivable 8,927,000 5,551,000
Related party notes receivable 536,000 637,000
Inventories 13,730,000 11,116,000
Prepaid expenses and other assets 839,000 979,000
Restricted cash 1,176,000
---------------------------
Total current assets 45,597,000 37,164,000
PROPERTY, PLANT AND EQUIPMENT, NET 19,529,000 19,314,000
INTANGIBLE ASSETS, NET 38,252,000 1,540,000
REAL ESTATE EQUITY INVESTMENTS 17,112,000 20,248,000
DEVELOPMENT PROPERTY 7,036,000 7,362,000
DEBT ISSUE COSTS, NET 3,156,000 785,000
RESTRICTED CASH 3,580,000
OTHER ASSETS 77,000 88,000
----------------------------
TOTAL ASSETS $130,759,000 $ 90,081,000
============================
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued liabilities $ 9,635,000 $ 7,519,000
Notes payable and current portion of
long-term debt 1,176,000 6,166,000
----------------------------
Total current liabilities 10,811,000 13,685,000
LONG-TERM PAYABLES 2,350,000 2,376,000
LONG-TERM DEBT 70,000,000 24,900,000
----------------------------
TOTAL LIABILITIES 83,161,000 40,961,000
----------------------------
COMMITMENTS AND CONTINGENCIES
WARRANTS TO PURCHASE COMMON STOCK 3,569,000 3,569,000
SHAREHOLDERS' EQUITY:
Common stock - $.10 par value, 20,000,000 authorized:
issued 8,423,791 in 1998 and 8,289,791 in 1997 842,000 829,000
Capital in excess of par value 79,488,000 78,561,000
Accumulated deficit (34,718,000) (32,707,000)
Treasury stock (206,654 shares in 1998 and
152,254 shares in 1997) (1,486,000) (1,035,000)
Note receivable from the sale of stock (97,000) (97,000)
----------------------------
Total shareholders' equity 44,029,000 45,551,000
----------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $130,759,000 $ 90,081,000
============================
See Notes to Consolidated Financial Statements.
40
AMERICAN PACIFIC CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
=====================================================================================================
1998 1997 1996
--------------------------------------------
SALES AND OPERATING REVENUES $52,339,000 $ 44,050,000 $42,381,000
COST OF SALES 35,792,000 36,420,000 32,579,000
--------------------------------------------
GROSS PROFIT 16,547,000 7,630,000 9,802,000
OPERATING EXPENSES 9,246,000 9,509,000 9,367,000
FIXED ASSET IMPAIRMENT CHARGE 52,605,000
EMPLOYEE SEPARATION AND MANAGEMENT
REORGANIZATION COSTS 3,616,000
--------------------------------------------
OPERATING INCOME (LOSS) 7,301,000 (58,100,000) 435,000
EQUITY IN EARNINGS OF REAL
ESTATE VENTURE 300,000 200,000 700,000
INTEREST AND OTHER INCOME 1,294,000 1,115,000 1,381,000
INTEREST AND OTHER EXPENSE 5,734,000 2,001,000 2,836,000
--------------------------------------------
INCOME (LOSS) BEFORE CREDIT FOR INCOME TAXES
3,161,000 (58,786,000) (320,000)
CREDIT FOR INCOME TAXES (10,101,000) (109,000)
--------------------------------------------
NET INCOME (LOSS) BEFORE EXTRAORDINARY LOSSES
3,161,000 (48,685,000) (211,000)
EXTRAORDINARY LOSS-DEBT EXTINGUISHMENTS
5,172,000
--------------------------------------------
NET LOSS $(2,011,000) $(48,685,000) $ (211,000)
--------------------------------------------
BASIC NET INCOME (LOSS) PER SHARE:
INCOME (LOSS) BEFORE
EXTRAORDINARY LOSS $ .39 $ (6.01) $ (.03)
EXTRAORDINARY LOSS (.63)
--------------------------------------------
NET LOSS $ (.24) $ (6.01) $ (.03)
============================================
AVERAGE SHARES OUTSTANDING 8,198,000 8,105,000 8,104,000
--------------------------------------------
DILUTED NET INCOME (LOSS) PER SHARE:
INCOME (LOSS) BEFORE
EXTRAORDINARY LOSS $ .38 $ (6.01) $ (.03)
EXTRAORDINARY LOSS (.62)
--------------------------------------------
NET LOSS $ (.24) $ (6.01) $ (.03)
============================================
DILUTED SHARES 8,321,000 8,105,000 8,104,000
--------------------------------------------
See Notes to Consolidated Financial Statements.
41
AMERICAN PACIFIC CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
1998 1997 1996
------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(2,011,000) $(48,685,000) $(211,000)
------------------------------------------------
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation and amortization 5,322,000 7,685,000 7,810,000
Fixed asset impairment charge 52,605,000
Employee separation and management reorganization costs 3,616,000
Basis in development property sold 822,000 1,498,000 2,449,000
Development property additions (496,000) (229,000) (784,000)
Equity in real estate venture (300,000) (200,000) (700,000)
Cash received on equity in real estate venture 300,000 200,000 700,000
Extraordinary debt charges 5,172,000
Changes in assets and liabilities:
Decrease in short-term investments 2,000,000
(Increase) decrease in accounts and notes receivable (3,275,000) (1,286,000) (1,480,000)
(Increase) decrease in income tax receivable 2,570,000
(Increase) decrease in inventories (2,614,000) 181,000 (4,203,000)
(Increase) decrease in restricted cash 2,404,000 1,389,000 (1,226,000)
(Increase) decrease in prepaid expenses and other 188,000 32,000 198,000
Increase (decrease) in accounts payable and accrued liabilities 2,148,000 870,000 (265,000)
Increase (decrease) in deferred income taxes (10,101,000) (467,000)
------------------------------------------------
Total adjustments 9,671,000 58,260,000 4,602,000
------------------------------------------------
Net cash provided by operating activities 7,660,000 9,575,000 4,391,000
------------------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (2,766,000) (1,557,000) (3,248,000)
Payment for Acquisition Intangible (39,000,000)
Real estate equity advances (2,680,000) (2,946,000)
Return of capital on real estate equity advances 3,135,000 1,130,000 1,973,000
------------------------------------------------
Net cash used for investing activities (38,631,000) (3,107,000) (4,221,000)
------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on debt (36,166,000) (6,168,000) (6,166,000)
Issuance of common stock 940,000 236,000 47,000
Treasury stock acquired (451,000) (156,000) (90,000)
Issuance of Notes 75,000,000
Premium Paid on Azide Note Repurchase (3,250,000)
Debt Issue Costs (3,594,000)
------------------------------------------------
Net cash provided by (used for) financing activities 32,479,000 (6,088,000) (6,209,000)
------------------------------------------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 1,508,000 380,000 (6,039,000)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 18,881,000 18,501,000 24,540,000
------------------------------------------------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 20,389,000 $ 18,881,000 $18,501,000
================================================
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during period for interest (net of amounts capitalized) $ 5,118,000 $ 1,427,000 $ 2,197,000
================================================
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVITIES:
Excess additional pension liability $ 1,175,000
================================================
See Notes to Consolidated Financial Statements.
42
AMERICAN PACIFIC CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
- ------------------------------------------------------------------------------------------------------------------------------------
Retained Note Excess
Number of Par Value Capital in Earnings Receivable Additional
Common of Shares excess of (Accumulated Treasury from the Pension
Shares Issued Par Value Deficit) Stock Sale Liability
of Stock
-----------------------------------------------------------------------------------------
BALANCES,
OCTOBER 1, 1995 8,100,791 $822,000 $78,285,000 $16,189,000 $(789,000) $(97,000) $(159,000)
Net loss (211,000)
Issuance of common
stock 12,000 1,000 46,000
Treasury stock acquired (14,170) (90,000)
Excess additional pension
liability 159,000
-----------------------------------------------------------------------------------------
BALANCES,
SEPTEMBER 30, 1996 8,098,621 823,000 78,331,000 15,978,000 (879,000) (97,000)
Net loss (48,685,000)
Issuance of common
stock 61,000 6,000 230,000
Treasury stock acquired (22,084) (156,000)
-----------------------------------------------------------------------------------------
BALANCES,
SEPTEMBER 30, 1997 8,137,537 829,000 78,561,000 (32,707,000) (1,035,000) (97,000)
Net loss (2,011,000)
Issuance of common
stock 134,000 13,000 927,000
Treasury stock acquired (54,400) (451,000)
-----------------------------------------------------------------------------------------
BALANCES,
SEPTEMBER 30, 1998 8,217,137 $842,000 $79,488,000 $ 34,718,000 $(1,486,000) $(97,000)
=========================================================================================
See Notes to Consolidated Financial Statements.
43
AMERICAN PACIFIC CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
- --------------------------------------------------------------------------------
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation - The consolidated financial statements include
---------------------------
the accounts of American Pacific Corporation and Subsidiaries (the
"Company"). All significant intercompany accounts and transactions have
been eliminated.
Cash and Cash Equivalents - All highly liquid investment securities with a
-------------------------
maturity of three months or less when acquired are considered to be cash
equivalents.
The Company's investment securities, along with certain cash and cash
equivalents that are not deemed securities under Statement of Financial
Accounting Standards ("SFAS") No. 115, "Accounting for Certain Investments
in Debt and Equity Securities," are carried on the consolidated balance
sheets in the cash and cash equivalents category. SFAS No. 115 requires all
securities to be classified as either held-to-maturity, trading or
available-for-sale. Management determines the appropriate classification of
its investment securities at the time of purchase and re-evaluates such
determination at each balance sheet date. Pursuant to the criteria that are
prescribed by SFAS No. 115, the Company has classified its investment
securities as available-for-sale. Available-for-sale securities are
required to be carried at fair value, with material unrealized gains and
losses, net of tax, reported in a separate component of shareholders'
equity. Realized gains and losses are taken into income in the period of
realization. The estimated fair value of the Company's portfolio of
investment securities at September 30, 1998 and 1997 closely approximated
amortized cost. There were no material unrealized gains or losses on
investment securities and no recorded adjustments to amortized cost at
September 30, 1998 or 1997.
Related Party Notes Receivable - Related party notes receivable represent
------------------------------
demand notes bearing interest at a bank's prime rate from the former
Chairman, a former officer and a current officer of the Company.
Inventories - Inventories are stated at the lower of cost or market. Cost
-----------
of the specialty chemicals segment inventories is determined principally on
a moving average basis and cost of the environmental protection equipment
segment inventories is determined principally on the specific identification
basis.
Property, Plant and Equipment - Property, plant and equipment are carried at
-----------------------------
cost less accumulated depreciation. The Company periodically assesses the
recoverability of property, plant and equipment and evaluates such assets
for impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. Asset impairment is
determined to exist if estimated future cash flows, undiscounted and without
interest charges, are less than the carrying amount. An impairment charge
of $52,605,000 relating to certain specialty chemical assets was recognized
in fiscal 1997. (See Note 14.) Depreciation is computed on the straight
line method over the estimated productive lives of the assets (3 to 12 years
for machinery and equipment and 15 to 31 years for buildings and
improvements).
Development Property - Development property consists of commercial and
--------------------
industrial land (principally improved land). During fiscal 1993,
approximately 240 acres of development
44
property was contributed to a real estate limited-liability company. (See
Note 5.) Development property is carried at cost not in excess of estimated
net realizable value. Estimated net realizable value is based upon the net
sales proceeds anticipated in the normal course of business, less estimated
costs to complete or improve the property to the condition used in
determining the estimated selling price, including future interest and
property taxes through the point of substantial completion. Cost includes
the cost of land, initial planning, development costs and carrying costs.
Carrying costs include interest and property taxes until projects are
substantially complete. No interest was capitalized on development property
during the three-year period ended September 30, 1998.
Debt Issue Costs - Debt issue costs represent costs associated with debt and
----------------
are amortized on the effective interest method over the terms of the related
indebtedness.
Fair Value Disclosure as of September 30, 1998:
-----------------------------------------------
Cash and cash equivalents, accounts and notes receivable, restricted cash,
and accounts payable and accrued liabilities - The carrying value of these
items is a reasonable estimate of their fair value.
Long-term debt and warrants - Market quotations are not available for the
Company's Warrants. However, the strike price of the Warrants (see Note 6)
is approximately double that of the recent trading prices of the Company's
common stock. In September 1998, the Company repurchased $5 million
principal amount of its unsecured senior notes at prices slightly below par
(see Note 6). Although these notes are thinly traded, the Company believes
the recent repurchase prices represent a reasonable estimate of the fair
value of the Notes.
Sales and Revenue Recognition - Sales of the specialty chemicals segment are
-----------------------------
recognized as the product is shipped and billed pursuant to outstanding
purchase orders. Sales of the environmental protection equipment segment
are recognized on the percentage of completion method for long-term
contracts and when the product is shipped for other contracts. Profit from
sales of development property and the Company's equity in real estate equity
investments is recognized when and to the extent permitted by SFAS No. 66,
"Accounting for Sales of Real Estate".
Research and Development - Research and development costs are charged to
------------------------
operations as incurred. These costs are for proprietary research and
development activities that are expected to contribute to the future
profitability of the Company.
Net Income (Loss) Per Common Share - During the first quarter of fiscal
----------------------------------
1998, the Company adopted SFAS No. 128 "Earnings per Share." SFAS No. 128
requires the presentation of basic net income (loss) per share and diluted
net income (loss) per share. Basic per share amounts are computed by
dividing net income (loss) by average shares outstanding during the period.
Diluted net income (loss) per share amounts are computed by dividing net
income (loss) by average shares outstanding plus the dilutive effect of
common share equivalents. Since the Company incurred a net loss before
extraordinary loss during the fiscal years ended September 30, 1997 and
1996, diluted per share calculations are based upon average shares
outstanding during these periods. Accordingly, the effect of stock options
and warrants outstanding for 3,807,000 shares at September 30, 1997 and
3,296,000 shares at September 30, 1996 was not included in diluted net loss
per share calculations. Diluted net income (loss) per share amounts during
the fiscal year ended September 30, 1998 is determined considering the
dilutive effect of stock options and
45
warrants. The effect of stock options and warrants outstanding to purchase
approximately 2,900,000 shares was not included in diluted per share
calculations during the 1998 fiscal year as the average exercise price of
such options and warrants was greater than the average price of the
Company's common stock.
Pro-Forma Net Income (Loss) Per Share
-------------------------------------
The Company has adopted the disclosures-only provision of SFAS 123,
"Accounting for Stock-Based Compensation". The Company applies Accounting
Principles Board ("APB") Opinion No. 25 and related interpretations in
accounting for its stock options. Under APB 25, no compensation cost has
been recognized in the financial statements for stock options granted. The
fair value of each option grant is estimated on the date of grant using the
Black-Scholes option-pricing model. Had compensation cost for the stock
option grants been determined based on the fair value at the date of grant
for awards consistent with the provision of SFAS 123, the Company's diluted
net loss per common share would have increased to the pro forma amounts
indicated below for the years ended September 30:
1998 1997
---- ----
Net loss-as reported $(2,011,000) $(48,685,000)
Net loss-pro forma (2,680,000) (49,791,000)
Net loss per common share-as reported $ (.24) $ (6.01)
Net loss per common share-pro forma (.32) (6.14)
The fair value of each option granted in fiscal year 1998 and 1997 was
estimated using the following assumptions for the Black-Scholes options
pricing model: (i) no dividends; (ii) expected volatility of 55%, (iii) risk
free interest rates averaging 5.5% in 1998 and 6.1% in 1997 and (iv) the
expected average life of 3.3 years. The weighted average fair values of the
options granted in 1998 was $2.71 and in 1997 was $2.97. Because the SFAS
123 method of accounting has not been applied to options granted prior to
October 1, 1996, the resulting pro forma net income may not be
representative of that to be expected in future years.
Income Taxes - The Company accounts for income taxes under the provisions of
------------
SFAS No. 109, "Accounting for Income Taxes".
Estimates and Assumptions - The preparation of financial statements in
-------------------------
conformity with generally accepted accounting principles requires management
to make estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Significant estimates used by the
Company include estimated useful lives for depreciable and amortizable
assets, the estimated valuation allowance for deferred tax assets, and
estimated cash flows in assessing the recoverability of long-lived assets.
Actual results may differ from estimates.
Recently Issued Accounting Standards In February 1998, the Financial
------------------------------------
Accounting Standards Board ("FASB") issued SFAS No. 132, "Employers'
Disclosures about Pensions and other Postretirement Benefits" which is an
amendment of FASB Statements No. 87, 88 and 106 and is effective for
financial statements for fiscal years beginning after December 15, 1998.
SFAS No. 132 revises employer's disclosures about pension and other
postretirement benefits plans but does not change the measurement or
recognition of those plans. It
46
standardizes the disclosure requirements for pensions and other
postretirement benefits to the extent practicable, requires additional
information on changes in the benefit obligations and fair values of plan
assets that will facilitate financial analysis and eliminates certain
disclosures that are not longer as useful as they were when the above
mentioned SFAS's were originally issued. The adoption of SFAS No. 132 will
not have a material effect on the disclosures in the Company's consolidated
financial statements.
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive
Income." This statement requires companies to classify items of other
comprehensive income by their nature in a financial statement and display
the accumulated balance of other comprehensive income separately from
retained earnings and additional paid-in capital in the equity section of a
balance sheet, and is effective for financial statements issued for fiscal
years beginning after December 15, 1997. Management does not believe this
statement will have material impact on the Company's consolidated financial
statements.
In June, 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of
an Enterprise and Related Information," which is effective for fiscal years
beginning after December 15, 1997. This statement redefines how operating
segments are determined and requires qualitative disclosure of certain
financial and descriptive information about a company's operating segments.
The Company will adopt SFAS No. 131 in the year ending September 30, 1999.
Management has not yet completed its analysis of which operating segments it
will report on to comply with SFAS No. 131.
Reclassification - Certain reclassifications have been made in the 1997 and
----------------
1996 consolidated financial statements in order to conform to the
presentation used in 1998.
2. INVENTORIES
Inventories consist of the following:
----------------------------------------------------
September 30,
----------------------------------------------------
1998 1997
---- ----
Work-in-process $ 8,685,000 $ 3,349,000
Raw material and supplies 5,045,000 7,767,000
----------------------------------------------------
Total $ 13,730,000 $ 11,116,000
====================================================
3. RESTRICTED CASH
At September 30, 1998, restricted cash consists of $1,176,000 held in a cash
collateral account by Seafirst Bank, the lender which provided a term loan
(the "AP Facility Loan") as the principal financing for an ammonium
perchlorate ("AP") manufacturing facility erected and operated by the
Company. Funds in the cash collateral account are restricted for future
indemnity payments (if any) relating to the AP Facility Loan. The AP
Facility Loan was repaid in 1994. The $1,176,000 will be retained in the
cash collateral account until May 11, 1999, at which time the balance
remaining after indemnity payments (if any) will be returned to Thiokol
Propulsion, a division of Cordant Technologies Inc. ("Thiokol"). The
Company's obligation to return such funds is included in the current
47
portion of long-term debt at September 30, 1998. Any indemnity payments made
will serve to reduce the cash collateral account and the Company's
obligation to Thiokol.
4. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are summarized as follows:
------------------------------------------------------------
September 30,
------------------------------------------------------------
1998 1997
---- ----
Land $ 352,000 $ 309,000
Buildings and improvements 2,129,000 1,753,000
Machinery and equipment 22,612,000 20,759,000
Construction in progress 874,000 380,000
------------------------------------------------------------
Total 25,967,000 23,201,000
Less: accumulated depreciation 6,438,000 3,887,000
------------------------------------------------------------
Property, plant and equipment, net $ 19,529,000 $ 19,314,000
============================================================
A fixed asset impairment charge was recognized in 1997. (See Note 14.)
5. REAL ESTATE EQUITY INVESTMENTS
During fiscal 1993, the Company contributed approximately 240 acres of
development property to Gibson Ranch Limited Liability Company ("GRLLC"). A
local real estate development group ("Developer") contributed an adjacent
80-acre parcel to GRLLC. GRLLC is developing the 320-acre parcel
principally as a residential real estate development.
Each of The Company and Developer is obligated to loan to GRLLC, under a
revolving line of credit, up to $2,400,000 at an annual interest rate of 10
percent. However, Developer will not be required to advance funds under its
revolving line of credit until the Company's line is exhausted. In
November, 1995, the Company committed to advance an additional $1,700,000 to
Developer. Developer is required to advance any funds received to GRLLC.
Funds advanced under this additional commitment bear annual interest of 12
percent. Total advances under these commitments were $2,400,000 at
September 30, 1998.
Developer is the managing member of GRLLC and is managing the business
conducted by GRLLC. Certain major decisions, such as incurring debt and
changes in the development plan or budget may be made only by a management
committee on which the Company is equally represented. The profits and
losses of GRLLC will be split equally between the Company and Developer
after the return of advances and agreed upon values for initial
contributions.
GRLLC operates on a calendar year. The Company recognizes its share of the
equity in GRLLC on a current quarterly basis. Summarized financial
information for GRLLC as of and for the nine months ended September 30, 1998
and as of and for the years ended December 31, 1997 and 1996 was as follows:
48
September 30, 1998 December 31, December 31,
1997 1996
------------------------ ------------------------ ------------------------
Income Statement:
Revenues $ 23,641,000 $ 21,647,000 $ 18,602,000
Gross Profit 2,325,000 3,422,000 3,182,000
Operating expenses 1,073,000 1,223,000 984,000
Net Income $ 1,252,000 $ 2,199,000 $ 2,098,000
Balance Sheet:
Assets $ 27,211,000 $ 27,659,000 $ 24,895,000
Liabilities 14,025,000 13,334,000 9,758,000
Equity $ 13,186,300 $ 14,325,300 $ 15,136,000
- -----------------------------------------------------------------------------------------------------------------------------
The Company has applied the provisions of SFAS No. 58 "Capitalization of
Interest Cost of Financial Statements that Include Investments Accounted
for by the Equity Method" to its investment in GRLLC. As of September 30,
1998, the Company has capitalized approximately $6,200,000 of interest since
the joint venture began undergoing activities to start its planned principal
operations of real estate development and sale of such real estate.
Capitalization of interest on the joint venture ceased in September 1997
since the Company's recorded investment in GRLLC approximates the amount of
cash flow that is estimated to be generated from the project.
The Company amortizes the difference resulting from the application of SFAS
No. 58 on a current quarterly basis based upon the ratio of acres sold to
total salable acres in the joint venture. Such difference will be
completely amortized upon the build-out and sale of the joint venture's real
estate project which is estimated to occur in calendar 2001. As of
September 30, 1998, approximately $2,800,000 of the $6,200,000 in
capitalized interest resulting from the application of SFAS No. 58 had been
amortized against the equity in earnings of GRLLC.
GRLLC's balance sheet is not classified. Assets consist principally of
inventories and liabilities consist principally of Notes and accounts
payable. Inventories were $23,861,000 at September 30, 1998 and $25,751,000
and $23,457,000 at December 31, 1997 and December 31, 1996, respectively.
In July 1990, the Company contributed $725,000 to Gibson Business Park
Associates 1986-I, a real estate development limited partnership (the
"Partnership"), in return for a 70% interest as a general and limited
partner, and other limited partners contributed $315,000 in return for a 30%
interest as limited partners. Such other limited partners include certain
members of the Company's Board of Directors. The Partnership, in turn,
contributed $1,040,000 to 3770 Hughes Parkway Associates Limited
Partnership, a Nevada limited partnership ("Hughes Parkway"), in return for
a 33% interest as a limited partner in Hughes Parkway. The Company entered
into an agreement with Hughes Parkway pursuant to which the Company leases
office space in a building in Las Vegas, Nevada. (See Note 11.)
49
6. NOTES PAYABLE AND LONG-TERM DEBT
Notes payable and long-term debt are summarized as follows:
--------------------------------------------------
September 30,
--------------------------------------------------
1998 1997
---- ----
9 1/4% Senior unsecured notes $70,000,000
11% Subordinated secured term notes $28,740,000
Obligation to deliver AP (see Note 10) 1,166,000
Indemnity obligation (see Notes 3 and 10) 1,176,000 1,160,000
--------------------------------------------------
Total 71,176,000 31,066,000
Less current portion 1,176,000 6,166,000
--------------------------------------------------
Total $70,000,000 $24,900,000
==================================================
On March 12, 1998, the Company sold $75,000,000 principal amount of
unsecured senior notes (the "Notes"), consummated an acquisition (the
"Acquisition") of certain assets from Kerr-McGee Chemical Corporation
("Kerr-McGee") described in Note 7 and repurchased the remaining $25,000,000
principal amount balance outstanding of subordinated secured notes (the
"Azide Notes").
The Notes mature on March 1, 2005. Interest on the Notes will be paid in
cash at a rate of 9-1/4% per annum on each March 1 and September 1,
commencing September 1, 1998. The indebtedness evidenced by the Notes
represents a senior unsecured obligation of the Company, ranks pari passu in
right of payment with all existing and future senior indebtedness of the
Company and is senior in right of payment to all future subordinated
indebtedness of the Company. The Indenture under which the Notes were
issued contains various limitations and restrictions including (i) change in
control provisions, (ii) limitations on indebtedness and (iii) limitations
on restricted payments such as dividends, stock repurchases and investments.
Management believes the Company has complied with these limitations and
restrictions. Under the Indenture, the Company was obligated to exchange
the Notes for identical notes registered with the Securities and Exchange
Commission (the "Commission") under the Securities Act of 1933, as amended,
within a specified period of time set forth in the Indenture. In April 1998
the Company filed a Form S-4 registration statement with the Commission for
the purposes of effecting this exchange. The registration statement was
declared effective by the Commission on July 29, 1998, and the exchange was
consummated on August 28, 1998.
In September 1998, the Company repurchased and retired $5.0 million
principal amount of Notes. Although the repurchase was effected at below
par, the Company incurred an extraordinary loss on debt extinguishment of
approximately $0.2 million as a result of writing off costs associated with
the issuance of the Notes.
The Azide Notes were 11% noncallable subordinated secured term notes, which
were issued and sold in February 1992 to finance the design, construction
and start-up of the Company's sodium azide facility. A portion of the net
proceeds from sale of the Notes was applied to repurchase the Azide Notes
for approximately $28.2 million (approximately 113% of the outstanding
principal amount thereof). In connection with the repurchase, the Company
recognized an extraordinary loss on debt extinguishment of approximately
$5.0 million. The extraordinary loss consisted of the cash premium paid of
$3.2 million upon
50
repurchase and a charge of $1.8 million to write-off the unamortized balance
of debt issue and discount costs.
The Company issued to the purchasers of the Azide Notes warrants (the
"Warrants"), exercisable for a ten-year period commencing on December 31,
1993, to purchase shares of Common Stock at an exercise price of $14.00 per
share. The maximum number of shares purchasable upon exercise of the
Warrants is 2,857,000 shares. The Warrants are exercisable, at the option
of their holders, to purchase up to 20 percent of the common stock of
American Azide Corporation ("AAC"), a wholly-owned subsidiary of the
Company, rather than the Company's Common Stock. In the event of such an
election, the exercise price of the Warrants will be based upon a pro rata
share of AAC's capital, adjusted for earnings and losses, plus interest from
the date of contribution.
On December 31, 1999, holders of the Warrants will have the right to put to
the Company as much as one-third thereof based upon the differences between
the Warrant exercise price and a price determined by multiplying the
Company's diluted earnings per share at a multiple of 11, but the Company's
obligation in such respect is limited to $5,000,000. Such put right may not
be exercised if the Company's Common Stock has traded at values during the
preceding 90-day period that would yield to the warrant holders a 25%
internal rate of return to the date of the put (inclusive of the 11% Azide
Notes' yield). At September 30, 1998, it is not probable that the put right
will be exercised since the Company believes, based on current market
conditions, that its stock will trade at a higher multiple of diluted
earnings per share than the 11 multiple used to determine the put value, if
any, at December 31, 1999, thereby making exercise of the Warrants more
valuable than exercise of the put rights. On or after December 31 of each
of the years 1998 and 1999, the Company may call up to 10% of the Warrants
(but no more than 50% in the aggregate) at prices that would provide a 30%
internal rate of return to the holders thereof through the date of call
(inclusive of the 11% Azide Notes' yield). The holders of the Warrants were
also granted the right to require that the Common Stock underlying the
Warrants be registered on one occasion, as well as certain incidental
registration rights.
The Company has accounted for the proceeds of the financing applicable to
the Warrants (and the potential put right) as temporary capital. Any
adjustment of the value assigned at the date of issuance will be reported as
an adjustment to retained earnings. The value assigned to the Warrants was
determined in accordance with Accounting Principle Board Opinion No. 14
"Accounting for Convertible Debt and Debt Issued with Stock Purchase
Warrants" and was based upon the relative fair value of the Warrants and
indebtedness at the time of issuance.
Notes payable and long-term debt maturities are as follows:
- --------------------
For the Years Ending
September 30,
- ---------------------
1999 $ 1,176,000
2005 70,000,000
-----------------------------------
Total $ 71,176,000
===================================
51
7. ACQUISITION
On March 12, 1998 (the "Closing Date"), the Company acquired, pursuant to a
purchase agreement (the "Purchase Agreement") with Kerr-McGee, certain
intangible assets related to Kerr-McGee's production of AP (the "Rights")
for a purchase price of $39.0 million. Under the Purchase Agreement, the
Company acquired an option (the "Option") to purchase all or any portion of
the inventory of AP stored at Kerr-McGee's premises on the Closing Date,
which is not owned by, or identified to a firm order from, a Kerr-McGee
customer (the "Inventory"). The Option is exercisable from time to time
within the 12 month period commencing on the Closing Date (the "Option
Period"). The Acquisition did not include Kerr-McGee's production
facilities (the "Production Facilities") and certain water and power supply
agreements used by Kerr-McGee in the production of AP. Under the Purchase
Agreement, Kerr-McGee ceased the production and sale of AP although the
Production Facilities may continue to be used by Kerr-McGee for production
of AP under certain limited circumstances described below. Under the
Purchase Agreement, Kerr-McGee reserved a perpetual, royalty-free,
nonexclusive license to use any of the technology forming part of the Rights
as may be necessary or useful to use, repair or sell the Production
Facilities (the "Reserved License").
Under the Purchase Agreement, Kerr-McGee reserved the right to sell the
Inventory to the extent not purchased by the Company pursuant to the Option,
to process and sell certain reclaimed AP that is not suitable for use in
solid fuel rocket motors (the "Reclaimed Product"), and to produce and sell
AP (i) to fulfill orders scheduled for delivery after the closing, subject
to making payments to the Company with respect to such orders, as provided
in the Purchase Agreement and (ii) in the event of the Company's inability
to meet customer demand or requirements, breach of the Purchase Agreement or
termination of the Company's AP business.
The Purchase Agreement provides that, together with the Reserved License,
Kerr-McGee is permitted in its discretion to (i) lease, sell, dismantle,
demolish and/or scrap all or any portion of the Production Facilities, (ii)
retain the Production Facilities for manufacture of Reclaimed Product and
(iii) maintain the Production Facilities in a "standby" or "mothballed"
condition so they will be capable of being used to produce AP under the
limited circumstances referred to above.
Under the Purchase Agreement, Kerr-McGee has agreed to indemnify the Company
against loss or liability from claims associated with the ownership and use
of the Rights prior to consummation of the Acquisition or resulting from any
breach of its warranties, representations and covenants. The Company has
agreed to indemnify Kerr-McGee against loss and liability from claims
associated with the ownership and use of the Rights after consummation of
the Acquisition or resulting from any breach of its warranties,
representations and covenants. In addition, Kerr-McGee has agreed that it
will, at the Company's request, store any Inventory as to which the Option
is exercised until 90 days after the Option expires, introduce the Company
to AP customers that are not currently customers of the Company, and consult
with the Company regarding the production and marketing of AP. The Company
has agreed that, at Kerr-McGee's request, it will use reasonable efforts to
market Reclaimed Product on Kerr-McGee's behalf for up to three years
following consummation of the Acquisition.
The Company has determined that a business was not acquired in the
Acquisition and that the Rights acquired have no independent value to the
Company apart from the overall benefit of the transaction that, as a result
thereof, Kerr-McGee has ceased
52
production of AP (except in the limited circumstances referred to above),
thereby leaving the Company as the sole North American supplier of AP. The
Company is amortizing the purchase price of $39.0 million for the
unidentified intangible over ten years, the length of the terms of pricing
contracts with two principal AP customers referred to below. Approximately
$2.1 million was amortized to cost of sales during the fiscal year ended
September 30, 1998.
In connection with the Acquisition, the Company entered into an agreement
with Thiokol with respect to the supply of AP through the year 2008. The
agreement, which was contingent upon consummation of the Acquisition,
provides that during its term Thiokol will make all of its AP purchases from
the Company. The agreement also establishes a pricing matrix under which AP
unit prices vary inversely with the quantity of AP sold by the Company to
all of its customers. The Company understands that, in addition to the AP
purchased from the Company, Thiokol may use AP inventoried by it in prior
years and AP recycled by it from certain existing rocket motors.
In connection with the Acquisition, the Company also entered into an
agreement with Alliant Techsystems Incorporated ("Alliant") to extend an
existing agreement through the year 2008. The agreement establishes prices
for any AP purchased by Alliant from the Company during the term of the
agreement as extended. Under this agreement, Alliant agrees to use its
efforts to cause the Company's AP to be qualified on all new and current
programs served by Alliant's Bacchus Works.
8. INCOME TAXES
The Company accounts for income taxes using the asset and liability approach
required by SFAS 109. The asset and liability approach requires the
recognition of deferred tax liabilities and assets for the expected future
tax consequences of temporary differences between the carrying amounts and
the tax bases of the Company's assets and liabilities. Future tax benefits
attributable to temporary differences are recognized to the extent that
realization of such benefits are more likely than not. These future tax
benefits are measured by applying currently enacted tax rates.
The following table provides an analysis of the Company's credit for income
taxes for the years ended September 30:
1998 1997 1996
-------------------- ------------------- -------------------
Current $ $ $(1,349,000)
Deferred (federal and state) (10,101,000) 1,240,000
-------------------- ------------------- -------------------
Credit for income taxes $ $(10,101,000) $ (109,000)
==================== =================== ===================
A valuation allowance for a deferred tax asset was established in the amount
of $10,431,000 in 1997 and such allowance increased to $10,993,000 at
September 30, 1998. The valuation allowance is necessary due to the
uncertainty related to the realizability of future tax benefits. The
deferred tax assets are composed, for the most part, of alternative minimum
tax credits and net operating losses. The alternative minimum tax credit
carryforward, valued at approximately $976,000, may be carried forward
indefinitely as a credit against regular tax. The net operating loss
carryforwards, valued at approximately $19,272,000, will begin to expire for
tax purposes in 2008 as follows:
53
NOL Deduction Tax Rate NOL Asset
--------------------- ------------- ---------------------
Expiration of net operating losses
2008 $ 3,398,000 34.0% $ 1,155,000
2009 25,607,000 34.0% 8,706,000
2010 14,080,000 34.0% 4,787,000
2011 and thereafter 13,597,000 34.0% 4,624,000
--------------------- ---------------------
TOTAL $56,682,000 $19,272,000
===================== =====================
The Company's effective tax rate declined to 0% in fiscal 1998 and 16.7% in
fiscal 1997 with the establishment of the valuation allowance. The
Company's effective tax rate will be 0% until the net operating losses
expire or the Company has taxable income necessary to eliminate the need for
the valuation allowance. Income taxes for the years ended September 30,
1998, 1997 and 1996, differ from the amount computed at the federal income
tax statutory rate as a result of the following:
1998% 1997% 1996%
-----------------------------------------------------------------------------------
Expected credit for income taxes $ (518,000) 34% $ (20,591,000) 34.0% $ (109,000) 34.0%
Adjustment:
Nondeductible expenses 16,000 (1.1%) 59,000 (0.1%)
Tax benefit limitation due
to the valuation allowance 502,000 (32.9%) 10,431,000 (17.2%)
-------------- -------------- --------------
Credit for income taxes $ $ (10,101,000) 16.7% $ (109,000) 34.0%
============== ============== ==============
The components of net deferred taxes at September 30, 1998, 1997 and 1996
consisted of the following:
1998 1997
------------------- -------------------
Deferred tax assets:
Net operating losses $ 19,272,000 $ 16,278,000
Alternative minimum tax credits 976,000 1,233,000
Employee separation and management
reorganization costs 795,000 1,172,000
Inventory capitalization 500,000 436,000
Accruals 490,000 408,000
Other 461,000 250,000
------------------- -------------------
Total deferred tax assets: $ 22,494,000 $ 19,777,000
------------------- -------------------
Deferred tax liabilities:
Property $ (5,416,000) $ (4,350,000)
Accrued income and expenses (661,000) (653,000)
State Taxes (600,000) (600,000)
Other taxes payable (1,476,000) (1,251,000)
Amortization (1,315,000) (1,020,000)
Other (2,093,000) (1,472,000)
------------------- -------------------
Total deferred tax liabilities: (11,561,000) (9,346,000)
------------------- -------------------
Preliminary net deferred tax asset 10,933,000 10,431,000
Valuation allowance for deferred tax asset (10,933,000) (10,431,000)
------------------- -------------------
Net deferred tax credit: $ $
=================== ===================
54
9. EMPLOYEE BENEFIT PLANS
The Company maintains, for the benefit of its employees, a group health and
life benefit plan, an employee stock ownership plan ("ESOP") that includes a
Section 401(k) feature, and a defined benefit pension plan (the "Plan").
The ESOP permits employees to make contributions. The Company does not
presently match any portion of employee ESOP contributions.
All full-time employees age 21 and over with one year of service are
eligible to participate in the Plan. Benefits are paid based on an average
of earnings, retirement age, and length of service, among other factors.
The discount rate was 6.75% in 1998 and 7.5% in 1997 and 1996. The rate of
salary progression used to determine the projected benefit obligations was
4% in 1998, and 5% in 1997 and 1996. The expected long-term rate of return
on plan assets was 8%. The following table reconciles the Plan's funded
status and summarizes amounts recognized in the Company's consolidated
financial statements for the years ended September 30, 1998 and 1997.
---------------------------------------------------
1998 1997
---------------------------------------------------
Actuarial present value of benefit obligations:
Vested benefits $ 9,881,000 $ 7,758,000
Nonvested benefits 1,436,000 1,219,000
---------------------------------------------------
Accumulated benefit $11,317,000 $ 8,977,000
===================================================
Projected benefit obligation $13,495,000 $11,275,000
Plan assets at fair value 10,177,000 9,937,000
---------------------------------------------------
Projected benefit obligation in excess of
Plan assets 3,318,000 1,338,000
Unrecognized net transition obligation
amortized over fifteen years (1,847,000) (764,000)
Unrecognized net loss and prior service cost (423,000) (174,000)
---------------------------------------------------
Accrued pension $ 1,048,000 $ 400,000
===================================================
Net periodic pension cost was $956,000, $986,000 and $1,187,000,
respectively, for the years ended September 30, 1998, 1997 and 1996, and
consists of the following:
---------------------------------------------------------------------------
1998 1997 1996
---------------------------------------------------------------------------
Service cost $ 687,000 $ 687,000 $ 765,000
Interest cost 863,000 772,000 696,000
Return on Plan assets (582,000) (1,415,000) (519,000)
Net total of other components (12,000) 942,000 245,000
---------------------------------------------------------------------------
Net periodic pension cost $ 956,000 $ 986,000 $1,187,000
===========================================================================
See Note 16 for a discussion of the Company's Supplemental
Retirement Plan.
55
10. AGREEMENTS WITH THIOKOL CORPORATION
In 1989, the Company entered into an Advance Agreement and Surcharge
Agreement and certain other agreements (collectively the "NASA/Thiokol
Agreements") with Thiokol. Under the Advance and Surcharge Agreements,
Thiokol was required to place sufficient orders for AP such that, combined
with orders from other AP customers, the Company would receive revenues in
respect of at least 20.0 million pounds per year, 5.0 million per quarter,
over seven years (140.0 million pounds in the aggregate), beginning with
initial production. The Company was required to impose a surcharge on all
sales of AP sufficient to amortize the AP Facility Loan over or during the
period of such revenue assurance.
On May 10, 1994, the Company and Thiokol executed an amendment to the
Advance Agreement (the "Amendment") and the AP Facility Loan was repaid.
Upon early repayment in full of the AP Facility Loan, the Amendment provided
for the termination as fulfilled of the Surcharge Agreement and termination
of certain other agreements relating to the repayment of advances (the
Working Capital Agreement and the Repayment Plan).
The Amendment provided for the Company to receive revenues, excluding
surcharge revenues, from sales of AP of approximately $33 million, $28
million and $20 million during the fiscal years ending September 30, 1994,
1995 and 1996, respectively. Prior to the effective date of the Amendment,
the Company was indebted to Thiokol for approximately $10,208,000 under the
Working Capital Agreement and Repayment Plan. The Amendment required the
Company to pay $750,000 of this amount ratably as deliveries of AP were made
over the remainder of the fiscal year ended September 30, 1994. The
remaining obligation under the Working Capital Agreement and Repayment Plan
was repaid by the Company through delivery of AP.
11. COMMITMENTS AND CONTINGENCIES
During the third quarter of fiscal 1996, the Company settled certain matters
with its insurance carrier relating to legal fees and other costs associated
with the successful defense of certain shareholder lawsuits. Under this
settlement, the Company was reimbursed for approximately $450,000 in costs
that had previously been expensed and incurred in connection with the
defense. Such amount was recognized as a reduction in operating expenses in
the third quarter of fiscal 1996.
Trace amounts of perchlorate chemicals were recently found in Lake Mead.
Clark County, Nevada, where Lake Mead is situated, is the location of Kerr-
McGee's AP operations, and was the location of the Company's AP operations
until May 1988. The Company is cooperating with State and local agencies,
and with Kerr-McGee and other interested firms, in the investigation and
evaluation of the source or sources of these trace amounts, possible
environmental impacts, and potential remediation methods. Until these
investigations and evaluations have reached appropriate conclusions, it will
not be possible for the Company to determine the extent to which, if at all,
the Company may be called upon to contribute to or assist with future
remediation efforts, or the financial impacts, if any, of such contributions
or assistance. Accordingly, no accrual for potential losses has been made
in the accompanying Consolidated Financial Statements of the Company.
56
The Company is a party to an agreement with Utah Power and Light Company for
its electrical requirements. The agreement provides for the supply of power
for a minimum of a ten-year period, which began in 1988, and obligates the
Company to purchase minimum amounts of power, while assuring the Company
competitive pricing for its electricity needs for the duration of the
agreement. Under the terms of the agreement, the Company's minimum monthly
charge for firm and interruptible demand is approximately $22,000.
See Note 15 for a discussion of certain litigation involving Halotron.
The Company and its subsidiaries are also involved in other lawsuits. The
Company believes that these other lawsuits, individually or in the
aggregate, will not have a material adverse effect on the Company or any of
its subsidiaries.
As discussed in Note 5, the Company entered into an agreement with Hughes
Parkway pursuant to which the Company leases office space. The lease is for
an initial term of 10 years and is subject to escalation every three years
based on changes in the consumer price index, and provides for the Company
to occupy 22,262 square feet of office space. Rental payments were
approximately $550,000 during the fiscal years ended September 30, 1998,
1997 and 1996. Future minimum rental payments under this lease for the
years ending September 30, are as follows:
1999 550,000
2000 550,000
2001 275,000
----------------
Total $1,375,000
================
12. SHAREHOLDERS' EQUITY
The Company has authorized the issuance of 3,000,000 shares of preferred
stock, of which 125,000 shares have been designated as Series A, 125,000
shares have been designated as Series B and 15,340 shares have been
designated as Series C redeemable convertible preferred stock. The Series C
redeemable convertible preferred stock was redeemed in December 1989, and is
no longer authorized for issuance. No preferred stock is issued or
outstanding.
The Company has granted options and warrants to purchase shares of the
Company's common stock at prices at or in excess of market value at the date
of grant. The options and warrants were granted under various plans or by
specific grants approved by the Company's Board of Directors. In 1994, the
former Executive Vice President of the Company exercised options for 45,000
shares of the Company's common stock by executing demand notes bearing
interest at a bank's prime rate for the total option price of $174,000.
Approximately $97,000 of this amount remains outstanding at September 30,
1998. Interest income of approximately $8,000 was recorded on these notes
in each of the fiscal years ended 1998, 1997 and 1996.
57
Option and warrant transactions are summarized as follows:
Shares Under
Options and
Warrants Option Price
----------------------------------------------------
October 1, 1995 3,330,050 $ 3.88 - $ 21.50
Exercised, expired or canceled (35,000) 3.88 - 12.50
----------------------------------------------------
September 30, 1996 3,295,050 3.88 - 21.50
Granted 587,000 6.38 - 7.13
Exercised, expired or canceled (75,050) 3.88 - 12.63
----------------------------------------------------
September 30, 1997 3,807,000 4.88 - 21.50
Granted 116,000 7.00 - 7.19
Exercised, expired or canceled (169,000) 3.88 - 21.50
----------------------------------------------------
September 30, 1998 3,754,000 $ 3.88 - $ 21.50
----------------------------------------------------
In February 1992, the Company issued $40,000,000 in Azide Notes with
Warrants. See Note 6 for a description of the Warrants. Shares under
options and warrants at September 30, 1998 include approximately 2,857,000
Warrants at a price of $14 per Warrant.
The following table summarizes information about stock options and warrants
outstanding at September 30, 1998:
Options and Warrants Outstanding Options Exercisable
------------------------------------------------------------ --------------------------------
Weighted
Average Weighted
Remaining Weighted Average
Range of Number Contractual Average Number Exercise
Exercise Price Outstanding Life (Years) Exercise Price Exercisable Price
------------------- -------------- ------------------ ----------------- -------------- -------------
$ 4.88 40,000 1.5 $ 4.88 40,000 $ 4.88
5.63 - 7.50 832,000 3.4 6.96 684,000 6.92
21.50 25,000 .2 21.50 25,000 21.50
14.00 2,857,000 5.0 14.00 2,857,000 14.00
-------------- ------------------ ----------------- -------------- -------------
3,754,000 4.54 $12.45 3,606,000 $12.67
============== ================== ================= ============== =============
13. SEGMENT INFORMATION
The Company's principal business segments are specialty chemicals,
environmental protection equipment and technology, and industrial/commercial
and residential real estate development. Products of the specialty
chemicals segment include AP used in the solid rocket propellant for the
space shuttle and defense programs, other perchlorate chemicals, sodium
azide, and Halotron.
Information about the Company's industry segments is as follows:
58
--------------------------------------------------
Years ended September 30,
--------------------------------------------------
1998 1997 1996
---- ---- ----
Revenues:
Specialty chemicals $ 47,718,000 $ 37,976,000 $ 34,061,000
Environmental protection 2,153,000 2,429,000 3,099,000
Real estate 2,468,000 3,645,000 5,221,000
--------------------------------------------------
Total $ 52,339,000 $ 44,050,000 $ 42,381,000
==================================================
Operating income (loss) before
unallocated income and expenses:
Specialty chemicals $ 6,422,000 $(55,227,000) $ (879,000)
Environmental protection (2,000) (659,000) (249,000)
Real estate 1,082,000 1, 624,000 2,069,000
--------------------------------------------------
Total 7,502,000 (54,262,000) 941,000
--------------------------------------------------
Deduct (add) unallocated expense (income):
General corporate (1) 201,000 3,838,000 506,000
Equity in earnings of real estate venture (300,000) (200,000) (700,000)
Interest and other income (1,294,000) (1,115,000) (1,381,000)
Interest and other expense 5,734,000 2,001,000 2,836,000
Extraordinary loss 5,172,000
Income tax credit (10,101,000) (109,000)
--------------------------------------------------
Net loss $ (2,011,000) $(48,685,000) $ (211,000)
==================================================
Identifiable assets:
Specialty chemicals $ 76,265,000 $ 32,166,000 $ 91,869,000
Environmental protection 1,345,000 1,667,000 1,476,000
Real estate 23,881,000 29,215,000 28,996,000
Corporate 24,537,000 27,033,000 27,678,000
--------------------------------------------------
Total $126,028,000 $ 90,081,000 $150,019,000
==================================================
Financial information relating to domestic and export sales
(domestic operations):
Domestic revenues $ 50,629,000 $ 42,723,000 $ 40,029,000
Export revenues 1,710,000 1,327,000 2,784,000
--------------------------------------------------
Total $ 52,339,000 $ 44,050,000 $ 42,381,000
==================================================
(1) The increase in general corporate expenses in fiscal 1997 relates to
employee separation and management reorganization costs recognized in the
fourth quarter. (See Note 16.)
The Company's operations are located in the United States. It is not
practicable to compute a measure of profitability for domestic and export
sales or for sales by geographic location. Substantially all export
revenues relate to environmental protection equipment sales in the Far and
Middle East.
59
The majority of depreciation and amortization expense and capital
expenditures relate to the Company's specialty chemicals segment.
Depreciation and amortization expenses for the years ended September 30 are
as follows:
---------------------------------------------------------------------
1998 1997 1996
---------------------------------------------------------------------
Specialty chemicals $4,718,000 $6,749,000 $6,899,000
All other segments 604,000 936,000 911,000
---------------------------------------------------------------------
Total $5,322,000 $7,685,000 $7,810,000
=====================================================================
Capital expenditures for the years ended September 30 are as follows:
----------------------------------------------
1998 1997
----------------------------------------------
Specialty chemicals $2,284,000 $1,524,000
All other segments 482,000 33,000
----------------------------------------------
Total $2,766,000 $1,557,000
==============================================
The Company had three customers that accounted for 10% or more of the
Company's revenues in one or more of fiscal 1998, 1997 and 1996. These
three customers accounted respectively for the following revenues during the
fiscal years ended September 30:
-----------------------------------------
Customer Chemical Industry 1998 1997 1996
- ------------------------------------------------------------------------------------------------------
A Ammonium Perchlorate Space $20,421,000 $15,661,000 $20,000,000
B Ammonium Perchlorate Space 8,633,000 4,614,000
C Sodium Azide Airbag 9,884,000 11,715,000 9,378,000
------------------------------------------
14. SODIUM AZIDE
In July 1990, the Company entered into agreements (the "Azide Agreements")
pursuant to which Dynamit Nobel licensed to the Company on an exclusive
basis for the North American market its most advanced technology and know-
how for the production of sodium azide, the principal component of the gas
generant used in automotive airbag safety systems. In addition, Dynamit
Nobel provided technical support for the design, construction and start-up
of the facility.
Under the Azide Agreements, Dynamit Nobel was to receive, for the use of
its technology and know-how relating to its batch production process of
manufacturing sodium azide, quarterly royalty payments of 5% of the
quarterly net sales of sodium azide by AAC for a period of 15 years from the
date the Company begins to produce sodium azide in commercial quantities.
In July 1996, the Company and Dynamit Nobel agreed to suspend the royalty
payment effective as of July 1, 1995. As a result, in the third quarter of
fiscal 1996, the Company recognized an increase in sodium azide sales of
approximately $600,000. This amount had previously been recognized as a
reduction of net sodium azide sales during the period July 1, 1995 through
June 30, 1996.
In May 1997, the Company entered into a three-year agreement with Autoliv
ASP, Inc. ("Autoliv") (formerly Morton International Automotive Safety
Products). The agreement provides for the Company to supply sodium azide
used by Autoliv in the manufacture of automotive airbags. Deliveries under
the contract commenced in July 1997. The current estimated sales value of
the agreement is approximately $30.0 million over the three-year
60
period. This actual sales value, however, will depend upon many factors
beyond the control of the Company, such as the number of automobiles and
light trucks manufactured and competitive conditions in the airbag market,
that will influence the actual magnitude of Autoliv's sodium azide
requirements, and there can therefore be no assurance as to the actual sales
value of the agreement.
The Company previously believed that demand for sodium azide in North
America and the world would substantially exceed existing manufacturing
capacity and announced expansions or new facilities (including the Company's
plant) by the 1994 model year (which for sodium azide sales purposes is the
period June 1993 through May 1994). Currently, demand for sodium azide is
substantially less than supply on a worldwide basis. The Company believes
this is the result of capacity expansions by existing producers, although
the Company's information with respect to competitors' existing and planned
capacity is limited. There can be no assurance that other manufacturing
capacities not now known to the Company will not be established. By reason
of this highly competitive market environment, and other factors discussed
below, there exists considerable pressure on the price of sodium azide.
The Company believes that the price erosion of sodium azide over the past
few years has been due, in part, to unlawful pricing procedures of Japanese
sodium azide producers. In response to such practices, in January 1996, the
Company filed an antidumping petition with the International Trade
Commission ("ITC") and the Department of Commerce ("Commerce"). In August
1996, Commerce issued a preliminary determination that Japanese imports of
sodium azide have been sold in the United States at prices that are
significantly below fair value. Commerce's preliminary dumping
determination applied to all Japanese imports of sodium azide, regardless of
end-use. Commerce's preliminary determination followed a March 1996
preliminary determination by ITC that dumped Japanese imports have caused
material injury to the U.S. sodium azide industry.
On January 7, 1997 the anti-dumping investigation initiated by Commerce,
based upon the Company's petition, against the three Japanese producers of
sodium azide was suspended by agreement. It is the Company's understanding
that, by reason of the Suspension Agreement, two of the three Japanese
sodium azide producers have ceased their exports of sodium azide to the
United States for the time being. As to the third and largest Japanese
sodium azide producer, which has not admitted any prior unlawful conduct,
the Suspension Agreement requires that it make all necessary price revisions
to eliminate all United States sales at below "Normal Value," and that it
conform to the requirements of sections 732 and 733 of the Tariff Act of
1930, as amended, in connection with its future sales of sodium azide in the
United States.
The Suspension Agreement contemplates a cost-based determination of "Normal
Value" and establishes reporting and verification procedures to assure
compliance. Accordingly, the minimum pricing for sodium azide sold in the
United States by the remaining Japanese producer will be based primarily on
its actual costs, and may be affected by changes in the relevant exchange
rates.
Finally, the Suspension Agreement provides that it may be terminated by any
party on 60 days' notice, in which event the anti-dumping proceeding would
be re-instituted at the stage to which it had advanced at the time the
Suspension Agreement became effective.
61
The Company incurred significant operating losses in its sodium azide
operation in the fiscal year 1997 and prior fiscal years. Such operating
history was partially expected by the Company as a result of the generally
lengthy process of qualification for use of new material in automotive
safety equipment. Sodium azide performance improved in the fourth quarter
of fiscal 1997, principally as a result of additional sodium azide
deliveries under the Autoliv agreement referred to above, and the operations
were cash flow positive during the year ended September 30, 1997. Capacity
utilization rates increased from approximately 45% in the third quarter of
fiscal 1997 to approximately 55% in the fourth quarter of 1997. However,
even though performance improved, management's view of the economics of the
sodium azide market changed significantly during the fourth quarter of
fiscal 1997. During late August, September, October and November of 1997
the following events or developments occurred that changed the Company's
view of the economics of the sodium azide market:
. The Company was unsuccessful in its attempts to sell sodium azide to
major users other than Autoliv. With the procurement cycle for the
automotive model year beginning in July or August, the Company previously
believed it would be successful in achieving significant sales to other
major users.
. One major inflator manufacturer announced the acquisition of non-azide
based inflator technology and that they intended to be in the market with
this new technology by model year 1999. This announcement, coupled with
the fact that other inflator manufacturers appear to be pursuing non-
azide based inflator technology more aggressively than before, caused a
reduction in the Company's estimates of annual sodium azide demand
requirements and, possibly more importantly, the duration that such
requirements would exist.
. The effects of the antidumping petition appeared to have been fully
incorporated into the sodium azide market by the end of fiscal 1997. At
September 30, 1997, management believed that the antidumping related
environment would remain unchanged as a result of the continued strength
and outlook of the U.S. dollar relative to the Japanese yen (the home
country currency of the Company's major competitor).
As a result of these events and developments, the Company's view of the
economics of the sodium azide market and the Company's future participation
in such market degraded substantially by October 30, 1997 and management
concluded that the cash flows associated with sodium azide operations would
not be sufficient to recover the Company's investment in sodium azide
related fixed assets. As quoted market prices were not available, the
present value of estimated future cash flows was used to estimate the fair
value of sodium azide fixed assets. Under the requirements of SFAS No. 121,
and as a result of this valuation technique, an impairment charge of
$52,605,000 was recognized in the fourth quarter of fiscal 1997.
This impairment charge was recorded as a reduction of the sodium azide
building and equipment and related accumulated depreciation in the amounts
of approximately $69,537,000 and $16,932,000, respectively, to reduce the
carrying value of these assets to $13,500,000, or the estimate of their fair
value.
The Company will continue to use the sodium azide assets in its operations
as long as the cash flows generated from the use of such assets are
positive. The Company estimates
62
that cash flows will be negligible around calendar 2005 and as such the
sodium azide assets are being depreciated over the lesser of their useful
lives or seven years.
15. HALOTRON(TM)
On August 30, 1991, the Company entered into an agreement (the "Halotron(TM)
Agreement") granting the Company the option to acquire the exclusive
worldwide rights to manufacture and sell Halotron I (a replacement for halon
1211). Halotron products are fire suppression systems, including a series of
chemical compounds and application technologies, designed to replace halons,
chemicals presently in wide use as a fire suppression agent in military,
industrial, commercial and residential applications.
The Halotron(TM) Agreement provides for disclosure to the Company of all
confidential and proprietary information concerning Halotron(TM) I, which
together with testing undergone by Halotron(TM) I at independent
laboratories in Sweden and the United States and consulting services that
were provided, was intended to enable the Company to evaluate Halotron I's
commercial utility and feasibility. In February 1992, the Company announced
that a series of technical evaluations and field tests conducted at the
University of New Mexico had been positive and equivalent to the performance
previously reported in testing at the Swedish National Institute of Testing
and Standards and the University of Lund in Sweden.
In February 1992, the Company determined to acquire the rights provided for
in the Halotron(TM) Agreement, gave notice to that effect to the inventors,
and exercised its option. In addition to the exclusive license to
manufacture and sell Halotron(TM) I, the rights acquired by the Company
include rights under all present and future patents relating to Halotron(TM)
I throughout the world, rights to related and follow-on products and
technologies and product and technology improvements, rights to reclaim,
store and distribute halon and rights to utilize the productive capacity of
the inventors' Swedish manufacturing facility. Upon exercise of the option,
the Company paid the sum of $700,000 (the exercise price of $1,000,000, less
advance payments previously made) and became obligated to pay the further
sum of $1,500,000 in equal monthly installments of $82,000, commencing in
March 1992. The license agreement entered into between the Company and the
inventors of Halotron(TM) I provides for a royalty to the inventors of 5% of
the Company's net sales of Halotron(TM) I over a period of 15 years.
The Company has designed and constructed a Halotron(TM) facility that has an
annual capacity of approximately 6,000,000 pounds, located on land owned by
the Company in Iron County, Utah.
As discussed above, in 1992, the Company purchased the rights to certain
fire suppression chemicals and delivery systems called Halotron(TM) from
their Swedish inventor, Jan Andersson and his corporation, AB Bejaro
Product. The Company claimed that Andersson and Bejaro breached the contract
in which they had sold the rights to Halotron(TM). This alleged breach
resulted in litigation initiated by the Company. This initial litigation was
settled when Andersson and Bejaro promised to perform faithfully their
duties and to honor the terms of the contracts that, among other things,
gave the Company exclusive rights to the Halotron(TM) chemicals and delivery
systems.
Following the settlement of the initial litigation, however, Andersson and
Bejaro failed to perform the acts they had promised in order to secure
dismissal of that litigation. As a
63
result, litigation was initiated in the Utah state courts in March 1994, for
the purpose of establishing the Company's exclusive rights to the
Halotron(TM) chemicals and delivery systems. On August 15, 1994, the court
entered a default judgment ("Judgment") against Andersson and Bejaro
granting the injunctive relief requested by the Company and awarding damages
in the amount of $42,233,000.
The trial court further ordered Andersson and Bejaro to execute documents
required for patent registration of Halotron (TM) in various countries. When
Andersson and Bejaro ignored this order, the Court directed the Clerk of the
Court to execute these documents on behalf of Andersson and Bejaro. Finally,
the Court ordered that Andersson's and Bejaro's rights to any future
royalties from sales of Halotron(TM) were terminated. The Company is
exploring ways to collect the Judgment from Andersson and Bejaro. It appears
that Andersson and Bejaro have few assets and those assets they do have
appear to have been placed beyond reach of the Judgment.
The Company has initiated arbitration proceedings against Jan Andersson and
Bejaro to enforce Halotron's(TM) patent rights to Halotron(TM) against
Andersson. The parties have each submitted statements of claims, with
supporting documents, affidavits and briefs to the arbitration panel. Jan
Andersson and Bejaro have also asserted a counterclaim against the Company,
alleging that the Company wrongfully deprived Andersson and Bejaro of
royalties due under the agreements with the Company. Andersson and Bejaro
seek $6,200,000, including damages for alleged physical suffering and
punitive damages. The Company has sought to strike the counterclaim as
having been filed untimely. If the counterclaim is not stricken, the Company
will vigorously contest claims asserted in the counterclaim. The Company
believes the counterclaim to be without merit. The hearing for the
arbitration was held in early November, 1998. The Company currently expects
a decision in the arbitration in early calendar 1999.
16. EMPLOYEE SEPARATION AND MANAGEMENT REORGANIZATION COSTS
During the fourth quarter of fiscal 1997, the Company implemented a
management reorganization plan. As a result, the former Chief Executive
Officer, Executive Vice President and two other senior executives separated
their employment with the Company and the Company vacated approximately one-
half of its leased corporate office facilities space. In addition,
activities associated with the Company's environmental protection equipment
division were relocated to the Company's Utah facilities.
The Company recognized a charge of $3,616,000 to account for the costs
associated with the employee separations and vacating leased space. The
charge consists principally of four years of salary and benefits payable to
the former Executive Vice President under the terms of an employment
agreement, the present value of the estimated amount payable to the former
Chief Executive Officer under the terms of the Company's Supplemental
Executive Retirement Plan ("SERP") and severance costs payable to the two
other former senior executives. The former Chief Executive Officer is the
only person currently covered under the SERP.
Relocation costs amounted to approximately $387,000 and are classified in
operating expenses in the accompanying consolidated statement of operations.
64