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FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the Quarter Ended January 31, 2004
Commission File Number 0-26230
WESTERN POWER & EQUIPMENT CORP.
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(Exact name of registrant as specified in its charter)
DELAWARE 91-1688446
- ------------------------------- ----------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) I.D. number)
6407-B N.E. 117th Avenue, Vancouver, WA 98662
- ---------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
Registrant's telephone no.: 360-253-2346
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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 and 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
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Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the close of the period covered by this report.
Title of Class Number of shares
Common Stock Outstanding
(par value $.001 per share) 10,130,000
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WESTERN POWER & EQUIPMENT CORP.
INDEX
Page
PART I. FINANCIAL INFORMATION Number
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Item 1. Financial Statements
Condensed Consolidated Balance Sheets
January 31, 2004 (Unaudited) and July 31, 2003......... 2
Condensed Consolidated Statements of Operations
Three months ended January 31, 2004 (Unaudited)
and January 31, 2003 (Unaudited)....................... 3
Condensed Consolidated Statements of Operations
Six months ended January 31, 2004 (Unaudited)
and January 31, 2003 (Unaudited)....................... 4
Condensed Consolidated Statements of Cash Flows
Six months ended January 31, 2004 (Unaudited)
and January 31, 2003 (Unaudited)....................... 5
Notes to Consolidated Financial Statements............. 6-10
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations.......... 11-15
Item 3. Quantitative and Qualitative Disclosures about
Market Risk............................................ 15
Item 4. Controls and Procedures................................ 15
PART II. OTHER INFORMATION
Item 1. Legal Proceedings...................................... 16
Item 2. Changes in Securities.................................. 16
Item 3. Defaults Upon Senior Securities........................ 16
Item 4. Submission of Matters to a Vote of
Security Holders....................................... 16
Item 5. Other Information...................................... 16
Item 6. Exhibits and Reports on Form 8-K....................... 16
SIGNATURES .............................................................. 17
ITEM 1. FINANCIAL STATEMENTS
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WESTERN POWER & EQUIPMENT CORP.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
JANUARY 31, JULY 31,
2004 2003
------------ ------------
(Unaudited)
ASSETS (PLEDGED)
----------------
Current assets:
Cash and cash equivalents ...................... $ 9 $ 8
Restricted Cash ................................ 278 400
Accounts receivable, less allowance for doubtful
accounts of $841 and $555, respectively ...... 8,415 9,779
Inventories .................................... 23,698 27,494
Prepaid expenses ............................... 162 126
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Total current assets ...................... 32,562 37,807
Fixed assets:
Property, plant and equipment (net) ............ 2,746 2,843
Rental equipment fleet (net) ................... 14,032 13,663
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Total fixed assets ........................ 16,778 16,506
Other assets ....................................... 131 153
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Total assets ....................................... $ 49,471 $ 54,466
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LIABILITIES & STOCKHOLDERS' DEFICIT
-----------------------------------
Current liabilities:
Borrowings under floor plan financing .......... $ 10,843 10,959
Short-term borrowings .......................... 30,148 34,566
Convertible debt ............................... 50 63
Accounts payable and accrued expenses .......... 7,419 8,214
Accrued payroll and vacation ................... 561 572
Other accrued liabilities ...................... 950 984
Notes Payable .................................. 9 --
Capital lease obligation ....................... 34 39
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Total current liabilities ................. 50,014 55,397
Long-term liabilities
Notes Payable .................................. 56 --
Capital lease obligation ....................... 866 880
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Total long-term liabilities ............... 922 880
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Total liabilities .................................. 50,936 56,277
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Stockholders' deficit:
Preferred stock-10,000,000 shares authorized;
none issued and outstanding .................. -- --
Common stock-$.001 par value; 20,000,000 shares
authorized; 10,260,300 issued and 10,130,000
outstanding .................................. 10 10
Additional paid-in capital ..................... 16,933 16,933
Accumulated deficit ............................ (17,564) (17,910)
Less common stock in treasury, at cost
(130,300 shares) ............................. (844) (844)
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Total stockholders' deficit ............... (1,465) (1,811)
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Total liabilities and stockholders' deficit ........ $ 49,471 $ 54,466
============ ============
The accompanying notes are an integral part of
these condensed consolidated financial statements.
3
WESTERN POWER & EQUIPMENT CORP.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(Dollars in thousands, except per share amounts)
THREE MONTHS ENDED
JANUARY 31,
--------------------------
2004 2003
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Net revenue ........................................ $ 27,960 $ 24,662
Cost of revenues (includes depreciation of
$989 and $1,187 respectively) .................... 25,147 21,232
---------- ----------
Gross profit ....................................... 2,813 3,430
Selling, general and administrative expenses........ 2,427 2,374
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Operating income ................................... 386 1,056
Other income (expense):
Interest expense ............................... (690) (852)
Other income ................................... 78 31
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Income before income tax provision ................. (226) 235
Income tax provision ............................... 12 12
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Net income ......................................... $ (238) $ 223
========== ==========
Average outstanding common shares for basic
and diluted earnings per share ................... 10,130 4,003
========== ==========
Basic and diluted earnings per common share......... $ (0.02) $ 0.06
========== ==========
The accompanying notes are an integral part of
these condensed consolidated financial statements.
4
WESTERN POWER & EQUIPMENT CORP.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(Dollars in thousands, except per share amounts)
SIX MONTHS ENDED
JANUARY 31,
--------------------------
2004 2003
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Net revenue ........................................ $ 55,693 $ 48,757
Cost of revenues (includes depreciation of
$2,602 and $3,153, respectively) ................. 49,311 41,866
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Gross profit ....................................... 6,382 6,891
Selling, general and administrative expenses........ 4,750 4,664
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Operating income ................................... 1,632 2,227
Other income (expense):
Interest expense ............................... (1,412) (1,797)
Other income ................................... 150 96
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Income before income tax provision ................. 370 526
Income tax provision ............................... 24 25
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Net income ......................................... $ 346 $ 501
========== ==========
Average outstanding common shares for basic
and diluted earnings per share ................... 10,130 4,003
========== ==========
Basic and diluted earnings per common share ........ $ 0.03 $ 0.13
========== ==========
The accompanying notes are an integral part of
these condensed consolidated financial statements.
5
WESTERN POWER & EQUIPMENT CORP.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(Dollars in thousands)
SIX MONTHS ENDED
JANUARY 31,
--------------------------
2004 2003
---------- ----------
Cash flows from operating activities:
Net income ..................................... $ 346 $ 501
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation ................................... 2,840 3,482
Bad Debts ...................................... 174 142
Gain on sale of fixed assets and
rental equipment .......................... (324) (226)
Changes in assets and liabilities:
Accounts receivable ....................... 1,190 3,210
Restricted Cash ........................... 122 304
Inventories ............................... 2,382 2,265
Prepaid expenses .......................... (37) (81)
Accounts payable and accrued expenses...... (794) (130)
Accrued payroll and vacation .............. (11) (153)
Other accrued liabilities ................. (35) 60
Sale of other assets ...................... 23 --
Income taxes receivable/payable ........... -- 5
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Net cash provided by operating activities .......... 5,876 9,379
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Cash flows from investing activities:
Purchase of fixed assets ....................... (169) (48)
Purchases of rental equipment .................. (3,789) (789)
Proceeds on sale of fixed assets ............... -- 5
Proceeds on sale of rental equipment ........... 2,582 3,040
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Net cash provided by (used in) investing
activities ................................... (1,376) 2,208
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Cash flows from financing activities:
Principal payments on capital leases ........... (18) (20)
Payments on floor-plan financing ............... (116) (4,341)
Payments on short-term borrowings .............. (4,418) (7,149)
Long-term debt borrowings ...................... 66 --
Payments on convertible debt ................... (13) (77)
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Net cash used in financing activities .............. (4,499) (11,587)
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Decrease in cash and cash equivalents .............. 1 --
Cash and cash equivalents at beginning
of period ........................................ 8 5
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Cash and cash equivalents at end of period ......... $ 9 $ 5
========== ==========
The accompanying notes are an integral part of
these condensed consolidated financial statements.
6
Western Power & Equipment Corp.
Notes to Consolidated Financial Statements
(Dollars in thousands)
1. BASIS OF PRESENTATION
The accompanying consolidated financial statements are unaudited and in the
opinion of management contain all the adjustments (consisting of those of a
normal recurring nature) considered necessary to present fairly the consolidated
financial position and the consolidated results of operations and cash flows for
the periods presented in conformity with accounting principles generally
accepted in the United States applicable to interim periods. The results of
operations for the quarterly periods ended January 31, 2004 are not necessarily
indicative of results that may be expected for any other interim periods or for
the full year. This report should be read in conjunction with the Company's
consolidated financial statements included in the Annual Report on Form 10-K for
the fiscal year ended July 31, 2003 filed with the Securities and Exchange
Commission. The accounting policies used in preparing these unaudited condensed
consolidated financial statements are consistent with those described in the
July 31, 2003 consolidated financial statements.
The accompanying consolidated financial statements have been prepared on a going
concern basis, which contemplates the realization of assets and the satisfaction
of liabilities in the normal course of business.
The Company has recurring losses and is currently in default on its short-term
borrowing facility as discussed in Note 6 of these consolidated financial
statements, both of which create substantial doubt about the Company's ability
to continue as a going concern. The accompanying unaudited consolidated
financial statements do not include any adjustments that might be necessary
should the Company be unable to continue as a going concern.
2. ACCOUNTING POLICIES
The accounting policies followed by the Company are set forth in Note 1 to the
Company's consolidated financial statements as filed in its Form 10-K for the
year ended July 31, 2003. Inventories are stated at the lower of cost or market.
During the first quarter of fiscal year 2004 the company adopted Statement of
Financial Accounting Standards ("SFAS") No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity." SFAS
No. 150 addresses certain financial instruments that, under previous guidance,
could be accounted for as equity, but now must be classified as liabilities in
statements of financial position. These financial instruments include: (1)
mandatorily redeemable financial instruments. (2) obligations to repurchase the
issuer's equity shares by transferring assets, and (3) obligations to issue a
variable number of shares. SFAS No. 150 is effective for all financial
instruments entered into or modified after May 31, 2003, and otherwise effective
at the beginning of the first interim period beginning after June 15, 2003.
There was no effect on the condensed consolidated financial statements from the
adoption of this pronouncement.
3. EARNING PER SHARE
Basic net income per share of common stock is computed based on the weighted
average number of common shares outstanding during the period.
Diluted net income per share of common stock is computed based on the weighted
average number of common shares outstanding during the period plus any dilutive
securities outstanding (stock options). There were no dilutive
7
securities for the three-month period ended January 31, 2004. Total outstanding
options as January 31, 2004 totaled 1,600,000.
4. Stock Based Compensation
During the year ended July 31, 2003, the Company adopted SFAS No. 148,
"Accounting for Stock-based Compensation-Transition and Disclosure." This
statement amended Statement No. 123, "Accounting for Stock-based Compensation."
As permitted under Statement No. 123, the Company continues to apply the
Accounting Principles Board Opinion (APB) No. 25, "Accounting for Stock Issued
to Employees." As required under Statement No. 148, the following table presents
pro- forma net loss and basic and diluted loss per share as if the fair
value-based method had been applied to all awards.
(in thousands) Three Months Ended Six Months Ended
Periods Ended January 31, 2004
- ------------------------------
2004 2003 2004 2003
---- ---- ---- ----
Net Income (Loss) $ (238) 223 346 $ 501
Stock-based employee compensation
cost, net of tax effect, under fair
value accounting (83) -- (83) --
----------------------------------------
Pro-forma net income (loss) under
Fair Value Method $ (321) 223 263 $ 501
========================================
Income (Loss) per share
Basic and Diluted $ (.02) .06 .03 $ .13
Per share stock-based employee
compensation cost, net of tax
effect, under fair value accounting $ (.01) -- (.01) $ --
----------------------------------------
Pro-forma income (loss) share basic
& diluted $ (.03) .06 .02 $ .13
========================================
The fair value of each option grant was estimated at the date of grant using the
Black-Scholes option valuation model. The Black-Scholes option valuation model
was developed for use in estimating the fair value of traded options which have
no vesting restrictions and are fully transferable. During the three months
ended January 31, 2004, the Company granted 440,000 stock options to employees
and directors. The exercise price of the stock options was $.35 and vest
immediately. The options may be exercised over a period of ten years. Because
the Company's stock options have characteristics significantly different from
those of traded options, and because changes in the subjective input assumptions
can materially affect the fair value estimate, in management's opinion, the
existing models do not necessarily provide a reliable single measure of the fair
value estimate of its stock options. The total number of stock options
outstanding as of January 31, 2004 was 1,600,000. In calculating the fair values
of the stock options, the following assumptions were used:
FISCAL YEAR FISCAL YEAR 2003
2004 GRANTS GRANTS
Dividend yield -- --
Weighted average expected life: 5 years --
Weighted average risk-free interest rate 2.99% --
Expected volatility 60.5% --
8
5. INVENTORIES
Inventories and consist of the following:
January 31, July 31,
2004 2003
---- ----
Equipment (net of reserve allowances of $4,504 and $4,493,
respectively):
New $13,218 $15,460
Used 4,561 5,370
Parts (net of reserve allowance of $425
and $378, respectively) 5,919 6,664
------- -------
$23,698 $27,494
======= =======
6. FIXED ASSETS
Fixed assets consist of the following:
January 31, July 31,
2004 2003
---- ----
Operating property, plant and equipment:
Land $ 522 $ 522
Buildings 1,749 1,749
Machinery and equipment 3,127 3,092
Office furniture and fixtures 2,213 2,213
Computer hardware and software 1,520 1,525
Vehicles 1,303 1,226
Leasehold improvements 974 967
------ ------
11,408 11,294
Less: accumulated depreciation (8,662) (8,451)
------- -------
Property, plant, and equipment (net) $ 2,746 $ 2,843
======= =======
Rental equipment fleet $22,307 $21,046
Less: accumulated depreciation (8,275) (7,383)
------- -------
Rental equipment (net) $14,032 $13,663
======= =======
Depreciation and amortization on the property, plant, and equipment are computed
using the straight-line method over the estimated useful lives of the assets,
ranging from 5 to 20 years. Depreciation on the rental fleet is calculated using
the straight-line method over the estimated useful lives, ranging from 3 to 7
years after considering salvage values.
7. SHORT-TERM BORROWINGS
The Company has inventory floor plan financing arrangements with Case Credit
Corporation, an affiliate of Case, for Case inventory and with other finance
companies affiliated with other equipment manufacturers. The terms of these
agreements generally include a one-month to twelve-month interest free term
followed by a term during which interest is charged. Principal payments are
generally due at the earlier of sale of the equipment or twelve to forty-eight
months from the invoice date.
The Company has an inventory floor plan and operating line of credit through GE
Commercial Distribution Finance ("GE"), fka Deutsche Financial Services. The
credit facility matured December 31, 2001 and had provided terms with a floating
interest rate based on prime with rates between 0.75% under prime to 2.25% over
prime depending on the amount of total debt leverage of the Company. Amounts may
be advanced to the Company based on its assets, including accounts receivable,
parts inventory, new and used equipment inventory, rental fleet, real property,
and vehicles. Interest payments on the outstanding balance are due monthly.
As of June 21, 2002, the Company entered into a Forbearance Agreement with GE
under the terms of which GE raised the interest rate to prime plus 4% while the
Company was in technical default and required the Company to pay a $45 fee
to GE for the forbearance. In addition, under the terms of the Forbearance
Agreement, the Company is required to meet certain financial covenants and meet
certain debt reduction schedules. At January 31, 2004, the Company continued to
be in technical default of the GE Loan Agreement. The Company has requested but
did not receive a waiver from GE. Although GE has not called the debt due to
such defaults, there is no guarantee that GE will not require the Company to
repay the debt at any time.
All floor plan debt is classified as current since the inventory to which it
relates is generally sold within twelve months of the invoice date.
8. RECENT ACCOUNTING PRONOUNCEMENTS
The following pronouncements have been issued by the Financial Accounting
Standards Board ("FASB").
In January 2003, the FASB issued Interpretation No. 46 ("FIN 46"),
"Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51."
FIN 46 requires certain variable interest entities to be consolidated by the
primary beneficiary of the entity if the entity investors in the equity do not
have the characteristics of a controlling financial interest or do not have a
sufficient equity risk for the entity to finance its activities without
additional financial support from other parties. FIN 46 is effective for all new
variable interest entities created or acquired after January 31, 2003. For
variable interest entities created or acquired prior to February 1, 2003, the
provisions of FIN 46 must be applied for the first interim or annual period
beginning after March 15, 2004.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities." This Statement amends and
clarifies SFAS No. 133 "Accounting for Derivative Instruments and Hedging
Activities." This statement clarifies the accounting guidance on (1) derivative
instruments (including certain derivative instruments embedded in other
contracts) and (2) hedging activities that fall within the scope of the SFAS No.
133. SFAS No. 149 also amends certain other existing pronouncements, which will
result in more consistent reporting of contracts that are derivatives in their
entirety or that contain embedded derivatives that warrant separate accounting.
SFAS No. 149 is effective (1) for contracts entered into or modified after
September 30, 2003, with certain exceptions, and (2) for hedging relationships
designated after September 30, 2003. The guidance is applied prospectively.
Management does not believe that the adoption of any of these pronouncements
will have a material effect on the Company's condensed consolidated financial
statements.
9. PRODUCT INFORMATION
For the purpose of providing segment information, management believes that all
of the Company's operations consist of one segment. However, the Company
evaluates performance based on revenue and gross margin of three distinct
business categories. Revenue and gross margin by product categories are
summarized as follows:
10
Three Months Ended Six Months Ended
Business product category January 31, January 31,
Net Revenues 2004 2003 2004 2003
- ------------------------- ------- ------- ------- -------
Equipment Sales $20,812 $17,579 $39,584 $32,696
Equipment Rental 989 1,229 2,469 3,049
Product Support 6,159 5,855 13,640 13,012
------- ------- ------- -------
Total $27,960 $24,663 $55,693 $48,757
======= ======= ======= =======
Three Months Ended Six Months Ended
Business product category January 31, January 31,
Gross Margins 2004 2003 2004 2003
- ------------------------- ------- ------- ------- -------
Equipment Sales $ 1,847 $ 2,519 $ 3,556 $ 3,975
Equipment Rental 35 (17) 451 588
Product Support 931 928 2,375 2,328
------- ------- ------- -------
Total $ 2,813 $ 3,430 $ 6,382 $ 6,891
======= ======= ======= =======
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
LIQUIDITY AND CAPITAL RESOURCES
The following discussion and analysis should be read in conjunction with the
Consolidated Financial Statements and Notes thereto appearing elsewhere in this
Form 10-Q. Information included herein relating to projected growth and future
results and events constitutes forward-looking statements. Actual results in
future periods may differ materially from the forward-looking statements due to
a number of risks and uncertainties, including but not limited to fluctuations
in the construction, agricultural, and industrial sectors; the success of the
Company's restructuring and cost reduction plans; the success of the Company's
equipment rental business; rental industry conditions and competitors;
competitive pricing; the Company's relationship with its suppliers; relations
with the Company's employees; the Company's ability to manage its operating
costs; the continued availability of financing; the Company's ability to
refinance/restructure its existing debt; governmental regulations and
environmental matters; risks associated with regional, national, and world
economies; and consummation of the merger and asset purchase transactions. Any
forward-looking statements should be considered in light of these factors.
Results of Operations
- ---------------------
The Three Months and Six months ended January 31, 2004 compared to the Three
Months and Six months ended January 31, 2003.
Revenues for the three-month period ended January 31, 2004 increased 13.4% to
$28.0 million compared with $24.7 million for the three-month period ended
January 31, 2003. For the three-month period ended January 31, 2004 equipment
sales increased by 18.4%, equipment rental revenues decreased by 19.5% and
product support revenues increased by 5.2% over the comparative three month
period ended January 31, 2003. Revenues for the six-month period ended January
31, 2004 increased 14.2% to $55.7 million compared with $48.8 million for the
six-month period ended January 31, 2003. For the six-month period ended January
31, 2004 equipment sales were up by 21.1%, rental revenues decreased by 19.0%
and product support revenues increased by 4.8% over the six-month period ended
January 31, 2003. Revenues were up from the prior year's comparative periods as
a result of improved economic conditions, especially in the Pacific Northwest.
Rental revenues decreased as a result of increased purchasing activities.
The Company's gross profit margin of 10.1% for the three-month period ended
January 31, 2004 was lower than the prior year's comparative period margin of
14.0%. Gross margin for equipment sales was 8.9% compared to 14.3% for the prior
year's comparative period. Equipment rental gross margin was 3.6% compared to
(1.4)% for the prior year's comparative period. Product support gross margin was
15.1% compare to 15.8% for the prior year's comparative period. The Company's
total gross profit margin of 11.5% for the six-month period ended January 31,
2004 was lower than the prior year's comparative period margin of 14.1%.
Equipment sales gross margin was 9.0% compared to 12.2% for the prior year's
comparative six month period. Equipment rental gross margin was 18.3% compared
to 19.3% for the prior year's comparative six month period. Product support
gross margin was 17.4% compared to 17.9% for the prior year's comparative
six-month period. The decrease in margins is associated with sales of aged
equipment with higher net book value after markdowns than that of the prior year
and a change in the sales and rental mix of products. There were several large
sales to certain customers that also required lower margins in the bidding
process.
For the three-month period ended January 31, 2004, selling, general, and
administrative ("SG&A") expenses as a percentage of sales were 8.7%, down from
9.6% for the prior year's second quarter. For the six-month period ended January
31, 2004, selling, general, and administrative ("SG&A") expenses as a
12
percentage of sales were 8.5%, down from 9.6%. The decreases from the prior
year's comparative periods reflect the Company's continued efforts to reduce
operating expenses and increase revenue levels.
Interest expense for the three months ended January 31, 2004 of $690,000 was
down from $852,000 in the prior year comparative period. Interest expense for
the six months ended January 31, 2004 of $1,412,000 was down from $1,796,000 in
the prior year comparative period. These decreases form the prior year's
comparative periods are the result of reduced overall inventory levels as well
as lower average interest rates and a lower balance on the GE facility.
The Company had net income for the quarter ended January 31, 2004 of $(238,000)
or $(0.02) per share (basic and diluted) compared with a net income of $223,000
or $0.06 per share (basic and diluted) for the prior year's six month period.
The Company had net income for the six months ended January 31, 2004 of $346,000
or $0.03 per share (basic and diluted) compared with a net income of $501,000 or
$0.13 per share (basic and diluted) for the prior year's second quarter.
Liquidity and Capital Resources
The Company's primary needs for liquidity and capital resources are related to
its acquisition of inventory for sale and its rental fleet. The Company's
primary source of internal liquidity has been from its operations. As more fully
described below, the Company's primary sources of external liquidity are
equipment inventory floor plan financing arrangements provided to the Company by
the manufacturers of the products the Company sells as well as the credit
facility with GE more fully described below.
Under inventory floor planning arrangements the manufacturers of products sold
by the Company provide interest free credit terms on new equipment purchases for
periods ranging from one to twelve months, after which interest commences to
accrue monthly at rates ranging from zero percent to two percent over the prime
rate of interest. Principal payments are typically made under these agreements
at scheduled intervals and/or as the equipment is rented, with the balance due
at the earlier of a specified date or upon sale of the equipment. At January 31,
2004, the Company was indebted under manufacturer provided floor planning
arrangements in the aggregate amount of $ 10,843,000.
The Company has an inventory floor plan and operating line of credit with GE
which expired on December 31, 2001. The line of credit agreement has not been
renewed and the Company is operating under the agreement on a month-to-month
basis. Amounts are advanced against the Company's assets, including accounts
receivable, parts, new equipment, rental fleet, and used equipment. The
agreement provided for a floating interest rate based on prime with rates
between 0.75% under prime to 2.25% over prime depending on the amount of total
debt leverage of the Company. The Company uses this borrowing facility to lower
flooring related interest expense by using advances under such line to finance
inventory purchases in lieu of financing provided by suppliers, to take
advantage of cash purchase discounts from its suppliers, to provide operating
capital for further growth. Borrowings are collateralized by the Company's
assets, including accounts receivable, parts inventory, new and used equipment
inventory and rental equipment. As of January 31, 2004, approximately $
30,148,000 was outstanding under the GE credit facility.
On June 21, 2002, the Company entered into a Forbearance Agreement with GE under
the terms of which GE raised the interest rate to prime plus 4% while the
Company is in default and required the Company to pay a $45,000 fee to GE for
the forbearance. In addition, under the terms of the Forbearance Agreement, the
Company is required to meet certain financial covenants and meet certain debt
reduction schedules. At January 31, 2004, the Company was in technical default
of the GE Loan Agreement. The Company has requested, but has not obtained a
waiver. Although GE has not called the debt due to such defaults, there is no
guarantee that GE will not require the Company to repay the debt at any time in
full.
13
During the six months ended January 31, 2004 the Company had positive cash flow
from operating activities during the year of $ 5,876. The Company's cash flow
from operating activities consisted primarily of a reduction of accounts
receivable of $ 1,190,000, depreciation of $ 2,840,000, and a decrease in
inventories of $ 2,382,000. Purchases of fixed assets during the period were
related mainly to the ongoing replacement of aged operating assets and rental
sold during the period. The Company paid down its short-term financing by $
4,418,000 during the six month period ending January 31,2004.
The Company's cash and cash equivalents was approximately $9,000 as of January
31, 2004. The Company's current level and anticipated available cash flow will
not be sufficient to support the Company's operations during the next twelve
months. The Company must have continued availability of borrowing from its
current lender GE or it cannot fund current levels of operations. Under the
existing credit facility with GE, GE is entitled to all cash collections from
the Company's accounts receivable, which are applied as they are received by GE
against the total amount due GE from the Company under the credit facility.
Since the Company has essentially no cash flow other than from accounts
receivable (which are remitted to GE), the Company cannot fund operations
without continued borrowing from GE. If GE decided to stop making borrowing
available to the Company, the Company would immediately be unable to continue
its operations. The Company currently has no alternative sources of
liquidity/borrowing available to it to meet its operating obligations.
Although the Company and GE are in negotiations to extend or renew the credit
facility, there can be no assurance that the Company will be able to
successfully negotiate an acceptable extension or renewal of the expired GE
credit facility or that GE will continue to make borrowing available to the
Company. The Company continues to investigate alternative sources of financing
and/or capital infusion in an effort to meet its operational needs. However, if
GE decided to stop lending to the Company, the Company would have to discontinue
its operations immediately.
Off-Balance Sheet Arrangements
- ------------------------------
The Company is not a party to any off-balance sheet arrangements.
Inventory; Effects of Inflation and Interest Rates; General Economic Conditions
- -------------------------------------------------------------------------------
Controlling inventory is a key ingredient to the success of an equipment
distributor because the equipment is characterized by long order cycles, high
ticket prices, and the related exposure to "flooring" interest. The Company's
interest expense may increase if inventory is too high or interest rates rise.
The Company manages its inventory through Company-wide information and inventory
sharing systems wherein all locations have access to the Company's entire
inventory. In addition, the Company closely monitors inventory turnover by
product categories and places equipment orders based upon targeted turn ratios.
All of the products and services provided by the Company are either capital
equipment or included in capital equipment, which are used in the construction,
industrial, and agricultural sectors. Accordingly, the Company's sales are
affected by inflation or increased interest rates which tend to hold down new
construction, and consequently adversely affect demand for the equipment sold
and rented by the Company. In addition, although agricultural equipment sales
are less than 2% of the Company's total revenues, factors adversely affecting
the farming and commodity markets also can adversely affect the Company's
agricultural equipment related business.
14
The Company's business can also be affected by general economic conditions in
its geographic markets as well as general national and global economic
conditions that affect the construction, industrial, and agricultural sectors. A
further erosion in North American and/or other countries' economies could
adversely affect the Company's business.
Although the principal products sold, rented, and serviced by the Company are
manufactured by Case, the Company also sells, rents, and services equipment and
sells related parts (e.g., tires, trailers, and compaction equipment)
manufactured by others. Approximately 50% of the Company's net sales for the six
months ended January 31, 2004 resulted from sales, rental, and servicing of
products manufactured by companies other than Case. That compares with a figure
of 50% for the fiscal year ended July 31, 2003. Manufacturers other than Case
represented by the Company offer various levels of supplies and marketing
support along with purchase terms which vary from cash upon delivery to
interest-free, 12-month flooring.
The Company purchases its equipment and parts inventory from Case and other
manufacturers. No supplier other than Case accounted for more than 10% of such
inventory purchases during the six months ended January 31, 2004. While
maintaining its commitment to Case to primarily purchase Case Equipment and
parts as an authorized Case dealer, the Company plans to expand the number of
products and increase the aggregate dollar value of those products which the
Company purchases from manufacturers other than Case in the future.
The generally soft economic conditions in the equipment market, particularly in
the northwest, have contributed to a decline in equipment sales in prior years.
A further softening in the industry could severely affect the Company's sales
and profitability. Market specific factors could also adversely affect one or
more of the Company's target markets and/or products. The Company expects the
construction equipment market in its store locations to remain flat or slightly
down over the next 6 to 12 months.
Recent Accounting Pronouncements
- --------------------------------
The following pronouncements have been issued by the Financial Accounting
Standards Board ("FASB").
In January 2003, the FASB issued Interpretation No. 46 ("FIN 46"),
"Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51."
FIN 46 requires certain variable interest entities to be consolidated by the
primary beneficiary of the entity if the entity investors in the equity do not
have the characteristics of a controlling financial interest or do not have a
sufficient equity risk for the entity to finance its activities without
additional financial support from other parties. FIN 46 is effective for all new
variable interest entities created or acquired after January 31, 2003. For
variable interest entities created or acquired prior to February 1, 2003, the
provisions of FIN 46 must be applied for the first interim or annual period
beginning after March 15, 2004.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities." This Statement amends and
clarifies SFAS No. 133 "Accounting for Derivative Instruments and Hedging
Activities." This statement clarifies the accounting guidance on (1) derivative
instruments (including certain derivative instruments embedded in other
contracts) and (2) hedging activities that fall within the scope of the SFAS No.
133. SFAS No. 149 also amends certain other existing pronouncements, which will
result in more consistent reporting of contracts that are derivatives in their
entirety or that contain embedded derivatives that warrant separate accounting.
SFAS No. 149 is effective (1) for contracts entered into or modified after
September 30, 2003, with certain exceptions, and (2) for hedging relationships
designated after September 30, 2003. The guidance is applied prospectively.
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Management does believe that the adoption of any of these pronouncements will
have a material effect on the Company's condensed consolidated financial
statements.
Item 3. Quantitative And Qualitative Disclosures About Market Risk
The Company is exposed to market risk from changes in interest rates. Market
risk is the potential loss arising from adverse changes in market rates and
prices such as interest rates. For fixed rate debt, interest rate changes affect
the fair value of financial instruments but do not impact earnings or cash
flows. Conversely for floating rate debt, interest rate changes generally do not
affect the fair market value but do impact future earnings and cash flows,
assuming other factors are held constant. At January 31, 2004, the Company had
variable rate floor plan payables, notes payable, and short-term debt of
approximately $39.7 million. Holding other variables constant, the pre-tax
earnings and cash flow impact for the next year resulting from a one percentage
point increase in interest rates would be approximately $0.4 million. The
Company's policy is not to enter into derivatives or other financial instruments
for trading or speculative purposes.
Item 4. Controls and Procedures
Based on their evaluation as of the date of the end of the period covered by
this Form 10-Q, our management, with the participation of our Chief Executive
Office and Chief Financial Officer, conducted an evaluation of the effectiveness
of the design and operation of our disclosure controls and procedures, as
required by Exchange Act Rule 13a-15. Based on that evaluation, the Chief
Executive Officer and Chief Financial Officer have concluded that our disclosure
controls and procedures were effective to ensure that information required to be
disclosed by us in the reports that we file or submit under the Exchange Act is
recorded, processed, summarized and reported within the time periods specified
by the SEC's rules and forms.
Changes in Internal Controls
- ----------------------------
There were no significant changes in our internal controls over financial
reporting that occurred during the six months ended January 31, 2004 that have
materially affected, or are reasonably likely to materially affect, our internal
control over financial reporting.
Limitations on the Effectiveness of Controls
- --------------------------------------------
We believe that a control system, no matter how well designed and operated,
cannot provide absolute assurance that the objectives of the control system are
met, and no evaluation of controls can provide absolute assurance that all
control issues and instances of fraud, if any, within a company have been
detected.
16
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
-----------------
The Company is involved in various legal proceedings which are
incidental to the industry and for which certain matters are
covered in whole or in part by insurance or, otherwise, the
Company has recorded accruals for estimated settlements.
Management believes that any liability which may result from
these proceedings will not have a material adverse effect on
the Company's business, results of operations, and financial
condition.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
-----------------------------------------
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
As of January 31, 2004, the Company was in technical default
of the financial covenants in the GE Forbearance Agreement.
The Company has not received a waiver of such defaults from GE
and although GE has not called the loan, there is no guarantee
that it will not do so in the future.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
---------------------------------------------------
None.
ITEM 5. OTHER INFORMATION
-----------------
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 31.1 Rule 13a-14(a)/15d-14(a) Certification by the
Chief Executive Officer.
Exhibit 31.2 Rule 13a-14(a)/15d-14(a) Certification by the
Chief Financial Officer.
Exhibit 32.1 Certification by the Chief Executive Officer
Relating to a Periodic Repost Containing
Financial Statements.*
Exhibit 32.2 Certification by the Chief Financial Officer
Relating to a Periodic Report Containing
Financial Statements.*
(b) Reports on Form 8-K
None.
* The Exhibit attached to this Form 10-Q shall not be deemed
"filed" for purposes of Section 18 of the Securities Exchange
Act of 1934 (the "Exchange Act") or otherwise subject to
liability under that section, nor shall it be deemed
incorporated by reference in any filing under the Securities
Act of 1933, as amended, or the Exchange Act, except as
expressly set forth by specific reference in such filing.
17
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
WESTERN POWER & EQUIPMENT CORP.
February 27, 2004
By: /s/ Mark J. Wright
-----------------------------
Mark J. Wright
Vice President of Finance and
Chief Financial Officer
18