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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

FORM 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 31, 2004

 

Commission File Number 333-70363

 


 

DECRANE HOLDINGS CO.

(Exact name of registrant as specified in its charter)

 

Delaware

 

13-4019703

(State or other jurisdiction of
incorporation or organization)

 

(I.R.S. Employer
Identification No.)

 

 

 

c/o Credit Suisse First Boston / DLJ Merchant Banking Partners II, L.P.

Eleven Madison Avenue, New York, NY 10010

(Address, including zip code, of principal executive offices)

 

 

 

(212) 325-2000

(Registrant’s telephone number, including area code)

 

 

 

(Not Applicable)

(Former address and telephone number of principal executive offices, if changed since last report)

 


 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  ý Yes   o No

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).  o Yes   ý No

 


 

The number of shares of Registrant’s Common Stock, $.01 par value, outstanding as of May 3, 2004 was 4,009,297 shares.

 

 



 

Table of Contents

 

Part I – Financial Information

 

 

 

 

Item 1.

Financial Statements (Unaudited)

 

 

 

 

 

Consolidated Balance Sheets as of March 31, 2004 and December 31, 2003

 

 

 

 

 

Consolidated Statements of Operations for the three months ended March 31, 2004 and 2003

 

 

 

 

 

Consolidated Statements of Stockholders’ Equity (Deficit) for the three months ended March 31, 2004

 

 

 

 

 

Consolidated Statements of Cash Flows for the three months ended March 31, 2004 and 2003

 

 

 

 

 

Condensed Notes to Consolidated Financial Statements

 

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

 

 

 

 

Results of Operations

 

 

 

 

 

 

Performance Measures

 

 

 

 

 

 

 

Changes in Accounting Principles

 

 

 

 

 

 

 

Three months ended March 31 2004

 

 

 

 

 

Liquidity and Capital Resources

 

 

 

 

 

Disclosure of Contractual Obligations and Commitments

 

 

 

 

 

Disclosure About Off-Balance Sheet Commitments and Indemnities

 

 

 

 

 

Recent Accounting Pronouncements

 

 

 

 

 

Special Note Regarding Forward Looking Statements and Risk Factors

 

 

 

 

Item 3.

Quantitative and Qualitative Disclosure About Market Risk

 

 

 

 

Item 4.

Controls and Procedures

 

 

 

 

Part II – Other Information

 

 

 

 

Item 1.

Legal Proceedings

 

 

 

 

Item 6.

Exhibits and Reports on Form 8-K

 

 

 

 

 

Exhibits

 

 

 

 

 

Reports on Form 8-K

 

 

 

 

Signatures

 

 

 



 

PART I – FINANCIAL INFORMATION

ITEM 1.          FINANCIAL STATEMENTS

DECRANE HOLDINGS CO. AND SUBSIDIARY

Consolidated Balance Sheets

 

(In thousands, except share data)

 

March 31,
2004

 

December 31,
2003

 

 

 

(Unaudited)

 

 

 

 

 

 

 

 

 

Assets

 

 

 

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

2,689

 

$

6,936

 

Accounts receivable, net

 

26,969

 

21,455

 

Inventories

 

47,621

 

42,981

 

Prepaid expenses and other current assets

 

1,159

 

1,082

 

Total current assets

 

78,438

 

72,454

 

 

 

 

 

 

 

Property and equipment, net

 

29,962

 

30,900

 

Goodwill

 

162,430

 

162,430

 

Other assets, principally intangibles, net

 

36,407

 

38,092

 

Total assets

 

$

307,237

 

$

303,876

 

 

 

 

 

 

 

Liabilities, Mandatorily Redeemable Preferred Stock and Stockholders’ Equity (Deficit)

 

 

 

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Current portion of long-term debt

 

$

1,271

 

$

1,198

 

Accounts payable

 

14,943

 

15,462

 

Accrued liabilities

 

19,953

 

17,890

 

Income taxes payable

 

41

 

 

Total current liabilities

 

36,208

 

34,550

 

 

 

 

 

 

 

Long-term debt

 

277,326

 

268,208

 

Mandatorily redeemable preferred stock

 

116,585

 

 

Other long-term liabilities

 

5,366

 

5,464

 

 

 

 

 

 

 

Commitments and contingencies (Note 9)

 

 

 

 

 

 

 

 

 

 

 

Mandatorily redeemable preferred stock

 

 

112,237

 

 

 

 

 

 

 

Stockholders’ equity (deficit):

 

 

 

 

 

Undesignated preferred stock, $.01 par value, 1,140,000 shares authorized; None issued and outstanding as of March 31, 2004 and December 31, 2003

 

 

 

Common stock, $.01 par value, 10,000,000 shares authorized; 4,009,297 shares issued and outstanding as of March 31, 2004 and December 31, 2003

 

40

 

40

 

Additional paid-in capital

 

61,475

 

61,475

 

Notes receivable for shares sold

 

(1,286

)

(1,268

)

Accumulated deficit

 

(188,209

)

(176,562

)

Accumulated other comprehensive loss

 

(268

)

(268

)

Total stockholders’ equity (deficit)

 

(128,248

)

(116,583

)

Total liabilities, mandatorily redeemable preferred stock and stockholders’ equity (deficit)

 

$

307,237

 

$

303,876

 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

1



 

DECRANE HOLDINGS CO. AND SUBSIDIARY

 

Consolidated Statements of Operations

 

 

 

Three Months Ended
March 31,

 

(In thousands)

 

2004

 

2003

 

 

 

(Unaudited)

 

Revenues

 

$

48,597

 

$

41,900

 

Cost of sales

 

36,839

 

28,878

 

 

 

 

 

 

 

Gross profit

 

11,758

 

13,022

 

 

 

 

 

 

 

Operating expenses:

 

 

 

 

 

Selling, general and administrative expenses

 

7,237

 

9,930

 

Research and development expenses

 

2,181

 

1,573

 

Amortization of intangible assets

 

912

 

912

 

Total operating expenses

 

10,330

 

12,415

 

 

 

 

 

 

 

Income from operations

 

1,428

 

607

 

 

 

 

 

 

 

Other expenses:

 

 

 

 

 

Interest expense

 

8,702

 

5,869

 

Mandatorily redeemable preferred stock dividends

 

4,231

 

1,597

 

Other expenses, net

 

112

 

339

 

 

 

 

 

 

 

Loss from continuing operations before provision for income taxes

 

(11,617

)

(7,198

)

Provision for income (taxes) benefit

 

(30

)

1,265

 

 

 

 

 

 

 

Loss from continuing operations

 

(11,647

)

(5,933

)

 

 

 

 

 

 

Loss from discontinued operations, net of tax

 

 

(6,397

)

Cumulative effect of change in accounting principles

 

 

(13,764

)

 

 

 

 

 

 

Net loss

 

(11,647

)

(26,094

)

 

 

 

 

 

 

Noncash preferred stock dividend accretion

 

 

(2,178

)

 

 

 

 

 

 

Net loss applicable to common stockholders

 

$

(11,647

)

$

(28,272

)

 

The accompanying notes are an integral part of the consolidated financial statements.

 

2



 

DECRANE HOLDINGS CO. AND SUBSIDIARY

 

Consolidated Statement of Stockholders’ Equity (Deficit)

 

 

 

Common Stock

 

Additional
Paid-in

 

Notes
Receivable
For Shares

 

Accumulated

 

Accumulated
Other
Comprehensive

 

 

 

(In thousands, except share data)

 

Shares

 

Amount

 

Capital

 

Sold

 

Deficit

 

Loss

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2003

 

4,009,297

 

$

40

 

$

61,475

 

$

(1,268

)

$

(176,562

)

$

(268

)

$

(116,583

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive loss:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net loss

 

 

 

 

 

(11,647

)

 

(11,647

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Notes receivable interest accrued

 

 

 

 

(18

)

 

 

(18

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, March 31, 2004 (Unaudited)

 

4,009,297

 

$

40

 

$

61,475

 

$

(1,286

)

$

(188,209

)

$

(268

)

$

(128,248

)

 

The accompanying notes are an integral part of the consolidated financial statements.

 

3



 

DECRANE HOLDINGS CO. AND SUBSIDIARY

 

Consolidated Statements of Cash Flows

 

 

 

Three Months Ended
March 31,

 

(In thousands)

 

2004

 

2003

 

 

 

(Unaudited)

 

Cash flows from operating activities:

 

 

 

 

 

Net loss

 

$

(11,647

)

$

(26,094

)

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

Cumulative effect of change in accounting principles

 

 

13,764

 

Loss from discontinued operations

 

 

6,397

 

Depreciation and amortization

 

3,116

 

3,211

 

Mandatorily redeemable preferred stock dividends

 

4,231

 

1,597

 

Interest accretion on second-lien term debt

 

606

 

 

Preferred stock redemption value accretion

 

117

 

 

Deferred income taxes

 

 

(1,869

)

Other, net

 

10

 

404

 

Changes in assets and liabilities:

 

 

 

 

 

Accounts receivable

 

(5,514

)

(233

)

Inventories

 

(4,640

)

(9,861

)

Prepaid expenses and other assets

 

(192

)

(3,248

)

Accounts payable

 

(519

)

2,521

 

Accrued liabilities

 

2,063

 

(7,877

)

Income taxes payable

 

139

 

46

 

Other long-term liabilities

 

(98

)

(1,125

)

Net cash used for operating activities

 

(12,328

)

(22,367

)

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

Capital expenditures

 

(504

)

(1,098

)

Cash paid for acquisition contingent consideration

 

 

(600

)

Net cash used for investing activities

 

(504

)

(1,698

)

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

Debt borrowings:

 

 

 

 

 

Revolving line of credit, net

 

8,850

 

27,150

 

Other secured long-term

 

46

 

 

Debt repayments:

 

 

 

 

 

First-lien term debt

 

 

(3,275

)

Other secured long-term debt

 

(311

)

(935

)

Net cash provided by financing activities

 

8,585

 

22,940

 

 

 

 

 

 

 

Net cash provided by discontinued operations

 

 

3,341

 

 

 

 

 

 

 

Net increase (decrease) in cash and cash equivalents

 

(4,247

)

2,216

 

Cash and cash equivalents at beginning of period

 

6,936

 

12,421

 

Cash and cash equivalents at end of period

 

$

2,689

 

$

14,637

 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

4



 

DECRANE HOLDINGS CO. AND SUBSIDIARY

 

Condensed Notes to Consolidated Financial Statements

(Unaudited)

 

Note 1.          Summary of Significant Accounting Policies

 

Basis of Presentation

 

These consolidated interim financial statements are unaudited.  The Company believes the interim financial statements are presented on a basis consistent with the audited financial statements and include all adjustments necessary for a fair presentation of the financial condition, results of operations and cash flows for such interim periods.  All of these adjustments are normal recurring adjustments.

 

Preparation of these consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods.  Actual results could differ from those estimates.

 

The results of operations for interim periods do not necessarily predict the operating results for any other interim period or for the full year.  The consolidated balance sheet as of December 31, 2003 has been derived from audited financial statements but does not include all disclosures required by accounting principles generally accepted in the United States of America as permitted by interim reporting requirements.  These consolidated interim financial statements should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations and the audited financial statements and related notes included in the Company’s 2003 Form 10-K.  Reclassifications have been made to the financial statements for prior periods to conform to the current year presentation.

 

Changes in Accounting Principles

 

SFAS No. 150 Adopted January 1, 2004

 

Effective January 1, 2004, the Company adopted SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.”  SFAS No. 150 establishes standards for the classification and measurement of certain financial instruments with characteristics of both liabilities and equity.  SFAS No. 150 requires classification of financial instruments within its scope as a liability, including financial instruments issued in the form of shares that are mandatorily redeemable, because those financial instruments are deemed to be, in essence, obligations of the issuer.  As a result of adopting of SFAS No. 150 on January 1, 2004, all mandatorily redeemable preferred stock was reclassified as a liability and all quarterly dividends are reflected as a charge against pre-tax income.  In periods prior to January 1, 2004, DeCrane Holdings’ 14% preferred stock dividends were deducted in arriving at the net income or loss applicable to the Company’s common stockholders; DeCrane Aircraft’s 16% preferred stock dividends were charged against pre-tax income as minority interest in preferred stock of subsidiary.

 

The following table summarizes the results of operations for the three months ended March 31, 2003 as if SFAS No. 150 had been in effect as of the beginning of 2003.

 

5



 

 

 

Three Months Ended
March 31, 2003

 

(In thousands)

 

As Reported

 

Pro Forma

 

 

 

(Unaudited)

 

Loss from continuing operations

 

$

(5,933

)

$

(8,111

)

Net loss

 

(26,094

)

(28,272

)

 

The pro forma data reflects $2,178,000 of DeCrane Holdings 14% preferred stock dividends as a charge against income during the period.

 

Discontinued Use of Program Accounting Commencing January 1, 2003

 

As more fully described in “Note 1—Change in Accounting Principle” to the audited financial statements included in the Company’s 2003 Form 10-K, the Company elected to discontinue the use of program accounting for the costs of products manufactured for delivery under production-type contracts.  As a result, certain deferred program costs are no longer included in inventory commencing January 1, 2003.

 

This change in accounting policy was made after concluding the 2003 fiscal year but was applied retroactively to the beginning of the year, January 1, 2003, as required by generally accepted accounting principles.  As a result of the change, program-related product development costs are now classified as a component of research and development expenses in the consolidated financial statements rather than classified as a component of inventory cost.  As a result of the change, the Company has restated its results of operations for the three months ended March 31, 2003 by charging $1,573,000 of previously inventoried costs to research and development expense and recording a $13,764,000 charge as of January 1, 2003 to reflect the cumulative effect of the change in accounting principle.

 

Stock Option Plan

 

The Company has one stock-based employee compensation plan, which is more fully described in the notes to its audited financial statements.  As permitted under SFAS No. 123, “Accounting for Stock-Based Compensation,” the Company measures compensation expense related to the employee stock option plan utilizing the intrinsic value method as prescribed by Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations.  No stock-based employee compensation cost is reflected in net income (loss), as all options granted under the plan had an exercise price equal to the value of the underlying common stock on the date of grant.

 

The following table illustrates the effect on net income if the Company had applied the fair value recognition provisions of SFAS No. 123 to stock-based employee compensation.

 

 

 

Three Months Ended
March 31,

 

(In thousands)

 

2004

 

2003

 

 

 

(Unaudited)

 

Net loss, as reported

 

$

(11,647

)

$

(26,094

)

Less total stock-based employee compensation expense determined under the fair value based method for all awards, net of related tax effects

 

(81

)

(94

)

Pro forma net loss

 

$

(11,728

)

$

(26,188

)

 

The effect of applying SFAS No. 123 may not be representative of the pro forma effect in future years since additional options may be granted during those future years.

 

6



 

Note 2.          Disposition of Specialty Avionics Group

 

On March 14, 2003, the Company entered into a definitive agreement to sell its equity interests in the subsidiaries comprising its Specialty Avionics Group for $140,000,000 in cash.  The sale was consummated on May 23, 2003.  Based upon the fair value of the group implied in the definitive agreement, the Company determined that the carrying value of the group’s net assets was not fully recoverable.  As required by SFAS No. 142, the Company recorded a goodwill impairment charge of $7,500,000 during the three months ended March 31, 2003 to reduce the carrying value to the estimated net realizable value established by the definitive agreement.  As a result of the sale, the Specialty Avionics Group is presented as a discontinued operation in the accompanying consolidated financial statements.

 

In accordance with the Financial Accounting Standards Board’s Emerging Issues Task Force Issue No. 87-24, “Allocation of Interest to Discontinued Operations,” as amended, interest expense includes interest on debt that is to be assumed by the buyer as well as interest on the $130,723,000 of debt that was required to be repaid as a result of the sale.  Interest expense was based on the historical interest rates charged during each of the periods.  In addition, and also in accordance with EITF 87-24, costs and expenses exclude the allocation of general corporate overhead.

 

The following tables summarize the results operations and cash flows of the Specialty Avionics Group for the three months ended March 31, 2003.

 

(In thousands)

 

Three
Months Ended
March 31,
2003

 

 

 

(Unaudited)

 

Results of Operations:

 

 

 

Revenues

 

$

23,470

 

 

 

 

 

Operating expenses:

 

 

 

Costs and expenses

 

18,992

 

Impairment of goodwill

 

7,500

 

Amortization of intangible assets

 

557

 

Total operating expenses

 

27,049

 

 

 

 

 

Loss from operations

 

(3,579

)

 

 

 

 

Other expenses:

 

 

 

Interest expense:

 

 

 

Debt required to be repaid with proceeds from sale

 

1,806

 

Debt obligations assumed by the buyer

 

202

 

Other expenses, net

 

101

 

 

 

 

 

Pre-tax loss

 

(5,688

)

Provision for income taxes

 

(709

)

 

 

 

 

Net loss from discontinued operations

 

$

(6,397

)

 

7



 

(In thousands)

 

Three
Months Ended
March 31,
2003

 

 

 

(Unaudited)

 

Cash Flows Provided By (Used For):

 

 

 

Operating activities

 

$

4,138

 

Investing activities

 

(269

)

Financing activities

 

(587

)

Net increase in cash and cash equivalents

 

57

 

Effect of foreign currency translation on cash

 

2

 

Net cash provided by discontinued operations

 

$

3,341

 

 

Note 3.          Inventories

 

Inventories are comprised of the following as of March 31, 2004 and December 31, 2003:

 

(In thousands)

 

March 31,
2004

 

December 31,
2003

 

 

 

(Unaudited)

 

 

 

Raw materials

 

$

31,838

 

$

30,414

 

Work-in-process

 

11,379

 

6,817

 

Finished goods

 

1,028

 

1,693

 

Costs and estimated earnings in excess of billings on uncompleted contracts

 

3,376

 

4,057

 

Total inventories

 

$

47,621

 

$

42,981

 

 

Total costs and estimated earnings on all uncompleted contracts as of March 31, 2004 and December 31, 2004 are comprised of the following:

 

(In thousands)

 

March 31,
2004

 

December 31,
2003

 

 

 

(Unaudited)

 

 

 

Costs incurred on uncompleted contracts

 

$

71,977

 

$

71,784

 

Estimated earnings recognized

 

78,358

 

77,782

 

Total costs and estimated earnings

 

150,335

 

149,566

 

Less billings to date

 

(150,581

)

(145,661

)

Net

 

$

(246

)

$

3,905

 

 

 

 

 

 

 

Balance sheet classification:

 

 

 

 

 

Asset – Costs and estimated earnings in excess of billings

 

$

3,376

 

$

4,057

 

Liability – Billings in excess of costs and estimated earnings (Note 5)

 

(3,622

)

(112

)

Net

 

$

(246

)

$

3,945

 

 

8



 

Note 4.          Other Assets, Principally Intangibles

 

Other assets are comprised of the following as of March 31, 2004 and December 31, 2003:

 

(In thousands)

 

March 31,
2004

 

December 31,
2003

 

 

 

(Unaudited)

 

 

 

Identifiable intangible assets with finite useful lives

 

$

24,543

 

$

25,455

 

Deferred financing costs

 

11,022

 

11,812

 

Other non-amortizable assets

 

842

 

825

 

Total other assets

 

$

36,407

 

$

38,092

 

 

Identifiable Intangible Assets with Finite Useful Lives

 

Identifiable intangible assets with finite useful lives are comprised of the following as of March 31, 2004 and December 31, 2003:

 

 

 

March 31, 2004 (Unaudited)

 

December 31, 2003

 

(In thousands)

 

Cost

 

Accumulated
Amortization

 

Net

 

Cost

 

Accumulated
Amortization

 

Net

 

FAA certifications

 

$

22,272

 

$

(6,593

)

$

15,679

 

$

22,272

 

$

(6,222

)

$

16,050

 

Engineering drawings

 

7,645

 

(2,413

)

5,232

 

7,645

 

(2,286

)

5,359

 

Other identifiable intangibles

 

11,345

 

(7,713

)

3,632

 

11,345

 

(7,299

)

4,046

 

Total identifiable intangibles

 

$

41,262

 

$

(16,719

)

$

24,543

 

$

41,262

 

$

(15,807

)

$

25,455

 

 

Estimated annual amortization expense for all identifiable intangible assets with finite useful lives for the five-year period ending December 31, 2008 is as follows: 2004 – $3,644,000; 2005 – $3,477,000; 2006 – $2,275,000; 2007 – $2,175,000; and 2008 – $2,171,000.

 

Note 5.          Accrued Liabilities

 

Accrued liabilities are comprised of the following as of March 31, 2004 and December 31, 2003:

 

(In thousands)

 

March 31,
2004

 

December 31,
2003

 

 

 

(Unaudited)

 

 

 

Salaries, wages, compensated absences and payroll related taxes

 

$

5,024

 

$

4,017

 

Billings in excess of costs and estimated earnings on uncompleted contracts

 

3,622

 

112

 

Accrued interest

 

3,556

 

4,969

 

Customer advances and deposits

 

2,696

 

3,147

 

Current portion of accrued product warranty obligations

 

2,077

 

2,064

 

Other accrued liabilities

 

2,978

 

3,581

 

Total accrued liabilities

 

$

19,953

 

$

17,890

 

 

9



 

Note 6.          Long-Term Debt

 

Long-term debt includes the following amounts as of March 31, 2004 and December 31, 2003:

 

(In thousands)

 

March 31,
2004

 

December 31,
2003

 

 

 

(Unaudited)

 

 

 

 

 

 

 

 

 

First-lien credit facility:

 

 

 

 

 

Term debt

 

$

80,521

 

$

80,521

 

Revolving line of credit

 

8,850

 

 

Second-lien term debt

 

80,673

 

80,067

 

Capital lease obligations and other debt, secured by property and equipment

 

8,553

 

8,818

 

12% subordinated notes

 

100,000

 

100,000

 

Total long-term debt

 

278,597

 

269,406

 

Less current portion

 

(1,271

)

(1,198

)

Long-term debt, less current portion

 

$

277,326

 

$

268,208

 

 

A portion of the interest charged on the second-lien term debt is pay-in-kind or “accreted” interest, payable at maturity.  An additional $606,000 of pay-in-kind interest accreted to the initial principal balance of the term debt during the three months ended March 31, 2004.

 

As of March 31, 2004, the Company had irrevocable standby letters of credit in the amount of $318,000 issued and outstanding under the first-lien credit facility, which reduces borrowings available under the $24,000,000 revolving line of credit.

 

Note 7.          Mandatorily Redeemable Preferred Stock

 

As more fully described in “Note 1—Changes in Accounting Principles,” the Company adopted the provisions of SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity,” as of January 1, 2004.

 

The table below summarizes the increase in mandatorily redeemable preferred stock during the three months ended March 31, 2004.

 

 

 

DeCrane Aircraft
16% Preferred Stock

 

DeCrane Holdings
14% Preferred Stock

 

(In thousands, except share and per share data)

 

Number
of
Shares

 

Mandatory
Redemption
Value

 

Unamortized
Issuance
Discount

 

Net
Book
Value

 

Number
of
Shares

 

Mandatory
Redemption
Value

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2003

 

432,919

 

$

43,292

 

$

(2,457

)

$

40,835

 

342,417

 

$

71,402

 

$

112,237

 

Preferred stock dividends

 

17,317

 

1,732

 

 

1,732

 

 

2,499

 

4,231

 

Redemption value accretion

 

 

 

117

 

117

 

 

 

117

 

Balance, March 31, 2004 (Unaudited)

 

450,236

 

$

45,024

 

$

(2,340

)

$

42,684

 

342,417

 

$

73,901

 

$

116,585

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Per share liquidation value as of March 31, 2004 (Unaudited)

 

 

 

$

100.00

 

 

 

 

 

 

 

$

215.82

 

 

 

 

DeCrane Aircraft 16% Mandatorily Redeemable Preferred Stock

 

Holders of the preferred stock are entitled to receive, when, as and if declared, dividends at a rate equal to 16% per annum.  Prior to June 30, 2005, DeCrane Aircraft may, at its option, pay dividends either in cash or by the issuance of additional shares of preferred stock.  Since the preferred stock issuance date on June 30, 2000, DeCrane Aircraft has elected to issue additional shares in lieu of cash dividend payments; such shares are reflected as a component of minority interest in preferred stock of subsidiary.  The preferred stock is mandatorily redeemable in cash on March 31, 2009.

 

10



 

DeCrane Holdings 14% Mandatorily Redeemable Preferred Stock

 

Holders of the preferred stock are entitled to receive, when, as and if declared, dividends at a rate equal to 14% per annum.  Prior to September 30, 2005, dividends are not paid in cash but instead accrete to the liquidation value of the preferred stock, which, in turn, increases the redemption obligation.  The preferred stock is mandatorily redeemable in cash on September 30, 2009.

 

Note 8.          Income Taxes

 

The components of income (loss) before income taxes and cumulative effect of change in accounting principle and the provisions for income tax benefit are as follows:

 

 

 

Three Months Ended
March 31,

 

(In thousands)

 

2004

 

2003

 

 

 

(Unaudited)

 

Pre-tax loss reported by:

 

 

 

 

 

Continuing operations

 

$

(11,617

)

$

(7,198

)

Discontinued operations

 

 

(5,688

)

Consolidated pre-tax loss

 

$

(11,617

)

$

(12,886

)

 

 

 

 

 

 

Total provision for income taxes (benefit):

 

 

 

 

 

Income tax benefit based on pre-tax loss

 

$

(2,524

)

$

(556

)

Net deferred tax asset valuation allowance

 

2,554

 

 

Net provision for income taxes (benefit)

 

$

30

 

$

(556

)

 

 

 

 

 

 

Allocation of total provision for income taxes (benefit):

 

 

 

 

 

Continuing operations

 

$

30

 

$

(1,265

)

Discontinued operations

 

 

709

 

Net provision for income tax benefit

 

$

30

 

$

(556

)

 

For the three months ended March 31, 2003, the provision for income taxes, based on the reported consolidated pre-tax loss, differs from the amount determined by applying the applicable U.S. statutory federal rate to the pre-tax loss primarily due to the effects of state and foreign income taxes and non-deductible expenses, principally the non-deductible portion of goodwill impairment charges and DeCrane Aircraft’s 16% preferred stock dividends.

 

For the three months ended March 31, 2004, the provision for income taxes, based on the reported consolidated pre-tax loss, differs from the amount determined by applying the applicable U.S. statutory federal rate to the pre-tax loss primarily due to the effects of state and foreign income taxes and non-deductible expenses, principally mandatorily redeemable preferred stock dividends due to the adoption of SFAS No. 150 effective January 1, 2004 (Note 1).

 

As more fully described in Note 11 to the audited financial statements included in the Company’s 2003 Form 10-K, the Company had a net deferred tax asset of $19,528,000 fully offset by a valuation allowance of the same amount as of December 31, 2003.

 

11



 

As required by SFAS No. 109, the Company evaluated its deferred assets for expected recoverability based on the nature of the item, the associated taxing jurisdictions, the applicable expiration dates and future taxable income forecasts that would impact utilization.  Since there is no loss carry back potential and the Company does not have any tax planning strategies to assure recoverability, the only possibility for recovery of the net deferred assets is future taxable income.  Since there have been prior year losses, the Company believes it is not prudent to rely on future income as the means to support the carrying value of the net asset.  As a result of the evaluation, the Company recorded a $19,528,000 valuation allowance, eliminating the net deferred asset, as of December 31, 2003.  Based upon the results of operations for the three months ended March 31, 2004, the Company determined that an additional $2,554,000 valuation allowance was required as of that date.

 

Note 9.          Commitments and Contingencies

 

Litigation

 

Raytheon Aircraft Company (“Raytheon”) has filed a complaint against the Company and one of its subsidiaries in the state court of Kansas with respect to alleged product liability related to certain aircraft seats sold to Raytheon by the Company’s subsidiary.  The complaint does not specify the amount of damages claimed by Raytheon, but the amount could be material.

 

This action has just been served on the Company and no discovery has commenced; accordingly, management has not had an opportunity to determine the likely outcome of this claim.  However, based on the allegations in the complaint and the facts currently available, management does not know of a basis which would result in this action having a material adverse effect on the Company’s business, consolidated financial position, results of operations or cash flows.  Further, the Company’s subsidiary may be indemnified by the entity from which it acquired the seat product line.

 

The Company and its subsidiaries are also involved in other routine legal and administrative proceedings incident to the normal conduct of business.  Management believes the ultimate disposition of all such matters will not have a material adverse effect on the Company’s business, consolidated financial position, results of operations or cash flows.

 

12



 

Note 10. Business Segment Information

 

The Company supplies products and services to the business, VIP and head-of-state aircraft market within the aerospace industry.  The Company’s subsidiaries are organized into two groups, each of which is a strategic business that develops, manufactures and sells distinct products and services.  The groups and a description of their businesses are as follows:

 

      Cabin Management – manufactures interior cabin components, including cabin interior furnishings, cabin management systems, seating and composite components;

 

      Systems Integration – manufactures auxiliary fuel systems and auxiliary power units, provides system integration services, provides aircraft completion and refurbishment services and is a Boeing Business Jet authorized service center.

 

In prior periods, the Company’s Specialty Avionics Group was a third strategic business for which segment information was provided.  As a result of the sale of the Specialty Avionics Group, this group is reflected as a discontinued operation and segment information for prior periods has been restated.

 

Management utilizes more than one measurement to evaluate group performance and allocate resources; however, management considers Adjusted EBITDA, as defined, to be the primary measurement of a group’s overall core economic performance and return on invested capital.  Management also uses Adjusted EBITDA in the Company’s annual budget and planning process for future periods, as one of the decision-making criteria for funding discretionary capital expenditures and product development programs and as the measure in determining the value of acquisitions and dispositions.  The board of directors uses Adjusted EBITDA as one of the performance metrics for determining the amount of bonuses awarded to pursuant to the Company’s cash incentive bonus plan and as an indicator of enterprise value used in determining the exercise price of stock options granted and the acceleration of stock option vesting pursuant to the Company’s incentive stock option plan.

 

Management defines Adjusted EBITDA as earnings, determined using program accounting for product development costs, before interest, income taxes, depreciation and amortization, restructuring, asset impairment and other related charges, acquisition related charges not capitalized and other noncash and nonoperating charges.  Management believes the presentation of this measure is relevant and useful to investors because it allows investors and analysts to view group performance in a manner similar to the method used by management, helps improve their ability to understand the Company’s core segment performance, adjusted for items management believes are unusual, and makes it easier to compare the Company’s results with other companies that have different financing, capital structures and tax rates.  In addition, management believes these measures are consistent with the manner in which its lenders and investors measure the Company’s overall performance and liquidity, including its ability to service debt and fund discretionary capital expenditure and product development programs.

 

The financial measure Adjusted EBITDA, as defined, excludes certain charges reflected in the Company’s financial statements which are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”).  However, the Company’s presentation of Adjusted EBITDA is in accordance with the GAAP requirements of SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information,” which requires the Company to report the primary measure of segment performance used by management to evaluate and manage its businesses.  The Company’s method of calculating Adjusted EBITDA may not be consistent with that of other companies and should be viewed in conjunction with measurements that are computed in accordance GAAP, such as net income (loss), the nearest comparable GAAP financial measure.  A reconciliation of Adjusted EBITDA to net income (loss) is included herein to clarify the differences between these financial measures.

 

13



 

The accounting policies of the groups are substantially the same as those described in the summary of significant accounting policies Note 1 to the audited financial statements.  Some transactions are recorded at the Company’s corporate headquarters and are not allocated to the groups, such as most of the Company’s cash and cash equivalents, debt and related net interest expense, corporate headquarters costs and income taxes.

 

The tables below summarize selected financial data by business segment.

 

 

 

Three Months Ended
March 31,

 

(In thousands)

 

2004

 

2003

 

 

 

(Unaudited)

 

 

 

 

 

 

 

Revenues:

 

 

 

 

 

Cabin Management

 

$

34,338

 

$

30,620

 

Systems Integration

 

14,531

 

12,132

 

Inter-group elimination (1)

 

(272

)

(852

)

Consolidated totals

 

$

48,597

 

$

41,900

 

 

 

 

 

 

 

Adjusted EBITDA (as defined):

 

 

 

 

 

Cabin Management

 

$

3,440

 

$

4,550

 

Systems Integration

 

3,029

 

2,157

 

Corporate (2)

 

(1,093

)

(2,112

)

Inter-group elimination (3)

 

3

 

110

 

Consolidated totals

 

5,379

 

4,705

 

Reconciling items (4)

 

(17,026

)

(30,799

)

Net loss

 

$

(11,647

)

$

(26,094

)

 

(In thousands)

 

March 31,
2004

 

December 31,
2003

 

 

 

(Unaudited)

 

 

 

 

 

 

 

 

 

Total assets (as of period end):

 

 

 

 

 

Cabin Management

 

$

231,888

 

$

224,116

 

Systems Integration

 

59,315

 

58,395

 

Corporate (5)

 

16,127

 

21,456

 

Inter-group elimination (6)

 

(93

)

(91

)

Consolidated totals

 

$

307,237

 

$

303,876

 

 


(1)       Inter-group sales are accounted for at prices comparable to sales to unaffiliated customers, and are eliminated in consolidation.

 

(2)       Reflects the Company’s corporate headquarters costs and expenses not allocated to the groups.

 

(3)       Reflects elimination of the effect of inter-group profits in inventory.

 

14



 

(4)       Adjusted EBITDA (as defined) excludes the following charges reflected in the Company’s financial statements which are prepared in accordance with generally accepted accounting principles:

 

 

 

Three Months Ended
March 31,

 

(In thousands)

 

2004

 

2003

 

 

 

(Unaudited)

 

Depreciation and amortization of long-lived assets (a)

 

$

(2,326

)

$

(2,516

)

Adjustment to reflect program costs as research and development expenses (b)

 

(1,616

)

(1,573

)

Acquisition related charges not capitalized

 

(9

)

(9

)

Interest expense

 

(8,702

)

(5,869

)

Mandatorily redeemable preferred stock dividends

 

(4,231

)

(1,597

)

Other expenses, net

 

(112

)

(339

)

Provision for income (taxes) benefit

 

(30

)

1,265

 

Income (loss) from discontinued operations

 

 

(6,397

)

Cumulative effect of change in accounting principle

 

 

(13,764

)

Total reconciling items

 

$

(17,026

)

$

(30,799

)

 


(a)           Reflects depreciation and amortization of long-lived assets and amortization of deferred financing costs, which are classified as a component of interest expense, as follows:

 

 

 

Three Months Ended
March 31,

 

(In thousands)

 

2004

 

2003

 

 

 

(Unaudited)

 

Depreciation and amortization of long-lived assets

 

$

2,326

 

$

2,516

 

Amortization of deferred financing costs

 

790

 

695

 

Consolidated depreciation and amortization

 

$

3,116

 

$

3,211

 

 

(b)           Under program accounting, which the Company is required to use for determining covenant compliance under its credit agreements, certain product development costs incurred in connection with specific contracted programs are deferred and charged to cost of sales as revenues related to the program are recognized.  For financial reporting purposes, these costs are charged to research and development expense as incurred.  This adjustment reflects the net difference between these two methods of accounting.

 

(5)       Reflects the Company’s corporate headquarters assets, excluding investments in and notes receivable from subsidiaries.

 

(6)       Reflects elimination of inter-group receivables and profits in inventory as of period end.

 

15



 

Note 11. Supplemental Condensed Consolidating Financial Information

 

In conjunction with the 12% subordinated notes described in Note 6, the following condensed consolidating financial information is presented segregating DeCrane Aircraft, as the issuer, and the guarantor and non-guarantor subsidiaries.  The accompanying financial information in the guarantor subsidiaries column reflects the financial position, results of operations and cash flows for those subsidiaries guaranteeing the notes.  DeCrane Holdings is not a guarantor of the notes and is therefore reflected in the non-guarantor subsidiary column with DeCrane Aircraft’s non-guarantor subsidiaries.  DeCrane Aircraft’s non-guarantor subsidiaries are companies within the Specialty Avionics Group which was sold in May 2003 and is therefore classified as a component of discontinued operations.

 

The guarantor subsidiaries are wholly-owned subsidiaries of DeCrane Aircraft and their guarantees are full and unconditional on a joint and several basis.  There are no restrictions on the ability of the guarantor subsidiaries to transfer funds to the issuer in the form of cash dividends, loans or advances.  Separate financial statements of the guarantor subsidiaries are not presented because management believes that such financial statements would not be material to investors.  Investments in subsidiaries in the following condensed consolidating financial information are accounted for under the equity method of accounting.  Consolidating adjustments include the following:

 

(1)           Elimination of investments in subsidiaries.

 

(2)           Elimination of intercompany accounts.

 

(3)           Elimination of equity in earnings of subsidiaries.

 

16



 

Balance Sheets

 

 

 

March 31, 2004 (Unaudited)

 

(In thousands)

 

Issuer

 

Guarantor
Subsidiaries

 

Non-Guarantor
Subsidiaries

 

Consolidating
Adjustments

 

Consolidated
Total

 

 

 

 

 

 

 

 

 

 

 

 

 

Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

2,209

 

$

480

 

$

 

$

 

$

2,689

 

Accounts receivable, net

 

 

26,969

 

 

 

26,969

 

Inventories

 

 

47,621

 

 

 

47,621

 

Other current assets

 

122

 

1,037

 

 

 

1,159

 

Total current assets

 

2,331

 

76,107

 

 

 

78,438

 

 

 

 

 

 

 

 

 

 

 

 

 

Property and equipment, net

 

951

 

29,011

 

 

 

29,962

 

Other assets, principally goodwill and intangibles, net

 

12,845

 

185,992

 

 

 

198,837

 

Investments in subsidiaries

 

83,962

 

 

(52,793

)

(31,169

)(1)

 

Intercompany receivables

 

230,562

 

62,826

 

 

(293,388

)(2)

 

Total assets

 

$

330,651

 

$

353,936

 

$

(52,793

)

$

(324,557

)

$

307,237

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities and Stockholders’ Equity (Deficit)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

 

 

 

Current portion of long-term debt

 

$

7

 

$

1,264

 

$

 

$

 

$

1,271

 

Other current liabilities

 

6,111

 

28,826

 

 

 

34,937

 

Total current liabilities

 

6,118

 

30,090

 

 

 

36,208

 

 

 

 

 

 

 

 

 

 

 

 

 

Long-term debt, less current portion

 

270,111

 

7,215

 

 

 

277,326

 

Mandatorily redeemable preferred stock

 

42,684

 

 

73,901

 

 

116,585

 

Intercompany payables

 

62,826

 

230,562

 

 

(293,388

)(2)

 

Other long-term liabilities

 

2,991

 

2,375

 

 

 

5,366

 

 

 

 

 

 

 

 

 

 

 

 

 

Stockholders’ equity (deficit):

 

 

 

 

 

 

 

 

 

 

 

Paid-in capital

 

111,701

 

151,492

 

61,515

 

(264,479

)(1)

60,229

 

Accumulated deficit

 

(165,780

)

(67,530

)

(188,209

)

233,310

 (1)

(188,209

)

Accumulated other comprehensive loss

 

 

(268

)

 

 

(268

)

Total stockholders’ equity (deficit)

 

(54,079

)

83,694

 

(126,694

)

(31,169

)

(128,248

)

Total liabilities, mandatorily redeemable preferred stock and stockholders’ equity (deficit)

 

$

330,651

 

$

353,936

 

$

(52,793

)

$

(324,557

)

$

307,237

 

 

17



 

 

 

December 31, 2003

 

(In thousands)

 

Issuer

 

Guarantor
Subsidiaries

 

Non-Guarantor
Subsidiaries

 

Consolidating
Adjustments

 

Consolidated
Total

 

 

 

 

 

 

 

 

 

 

 

 

 

Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

6,540

 

$

396

 

$

 

$

 

$

6,936

 

Accounts receivable, net

 

 

21,455

 

 

 

21,455

 

Inventories

 

 

42,981

 

 

 

42,981

 

Other current assets

 

254

 

828

 

 

 

1,082

 

Total current assets

 

6,794

 

65,660

 

 

 

72,454

 

 

 

 

 

 

 

 

 

 

 

 

 

Property and equipment, net

 

1,047

 

29,853

 

 

 

30,900

 

Other assets, principally goodwill

 

13,615

 

186,907

 

 

 

200,522

 

Investments in subsidiaries

 

85,668

 

 

(44,913

)

(40,755

)(1)

 

Intercompany receivables

 

261,631

 

100,642

 

 

(362,273

)(2)

 

Total assets

 

$

368,755

 

$

383,062

 

$

(44,913

)

$

(403,028

)

$

303,876

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities, Mandatorily Redeemable Preferred Stock and Stockholders’ Equity (Deficit)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

 

 

 

Current portion of long-term debt

 

$

11

 

$

1,187

 

$

 

$

 

$

1,198

 

Other current liabilities

 

8,532

 

24,820

 

 

 

33,352

 

Total current liabilities

 

8,543

 

26,007

 

 

 

34,550

 

 

 

 

 

 

 

 

 

 

 

 

 

Long-term debt, less current portion

 

260,654

 

7,554

 

 

 

268,208

 

Intercompany payables

 

100,642

 

261,631

 

 

(362,273

)(2)

 

Other long-term liabilities

 

2,994

 

2,470

 

 

 

5,464

 

 

 

 

 

 

 

 

 

 

 

 

 

Minority interest in preferred stock of subsidiary

 

40,835

 

 

 

 

40,835

 

Mandatorily redeemable 14% preferred stock

 

 

 

71,402

 

 

71,402

 

 

 

 

 

 

 

 

 

 

 

 

 

Stockholders’ equity (deficit):

 

 

 

 

 

 

 

 

 

 

 

Paid-in capital

 

111,719

 

151,492

 

60,247

 

(263,211

)(1)

60,247

 

Retained earnings (deficit)

 

(156,632

)

(65,824

)

(176,562

)

222,456

(1)

(176,562

)

Accumulated other comprehensive loss

 

 

(268

)

 

 

(268

)

Total stockholders’ equity

 

(44,913

)

85,400

 

(116,315

)

(40,755

)

(116,583

)

Total liabilities, mandatorily redeemable preferred stock and stockholders’ equity (deficit)

 

$

368,755

 

$

383,062

 

$

(44,913

)

$

(403,028

)

$

303,876

 

 

18



 

Statements of Operations

 

 

 

Three Months Ended March 31, 2004 (Unaudited)

 

(In thousands)

 

Issuer

 

Guarantor
Subsidiaries

 

Non-Guarantor
Subsidiaries

 

Consolidating
Adjustments

 

Consolidated
Total

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenues

 

$

 

$

48,597

 

$

 

$

 

$

48,597

 

Cost of sales

 

 

36,839

 

 

 

36,839

 

Gross profit

 

 

11,758

 

 

 

11,758

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating and other expenses (income):

 

 

 

 

 

 

 

 

 

 

 

Selling, general and administrative expenses

 

1,198

 

6,039

 

 

 

7,237

 

Research and development expenses

 

 

2,181

 

 

 

2,181

 

Amortization of intangible assets

 

 

912

 

 

 

912

 

Interest expense

 

8,516

 

186

 

 

 

8,702

 

Mandatorily redeemable preferred stock dividends

 

1,732

 

 

2,499

 

 

4,231

 

Intercompany charges

 

(5,257

)

5,257

 

 

 

 

Equity in loss of subsidiaries

 

1,706

 

 

9,148

 

(10,854

)(3)

 

Other expenses (income), net

 

118

 

(6

)

 

 

112

 

Provision for income taxes (benefit)

 

1,135

 

(1,105

)

 

 

30

 

Net loss

 

$

(9,148

)

$

(1,706

)

$

(11,647

)

$

10,854

 

$

(11,647

)

 

 

 

Three Months Ended March 31, 2003 (Unaudited)

 

(In thousands)

 

Issuer

 

Guarantor
Subsidiaries

 

Non-Guarantor
Subsidiaries

 

Consolidating
Adjustments

 

Consolidated
Total

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenues

 

$

 

$

41,900

 

$

 

$

 

$

41,900

 

Cost of sales

 

 

28,878

 

 

 

28,878

 

Gross profit

 

 

13,022

 

 

 

13,022

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating and other expenses (income):

 

 

 

 

 

 

 

 

 

 

 

Selling, general and administrative expenses

 

3,036

 

6,894

 

 

 

9,930

 

Research and development expenses

 

 

1,573

 

 

 

1,573

 

Amortization of intangible assets

 

 

912

 

 

 

912

 

Interest expense

 

5,820

 

49

 

 

 

5,869

 

Mandatorily redeemable preferred stock dividends

 

 

 

1,597

 

 

1,597

 

Intercompany charges

 

(6,523

)

6,523

 

 

 

 

Equity in loss of subsidiaries

 

19,748

 

69

 

24,497

 

(44,314

)(3)

 

Other expenses, net

 

174

 

165

 

 

 

339

 

Provision for income taxes (benefit)

 

2,242

 

(3,507

)

 

 

(1,265

)

Loss from discontinued operations

 

 

6,328

 

69

 

 

6,397

 

Cumulative effect of change in accounting principle

 

 

13,764

 

 

 

13,764

 

Net loss

 

$

(24,497

)

$

(19,748

)

$

(26,163

)

$

44,314

 

$

(26,094

)

 

19



 

Statements of Cash Flows

 

 

 

Three Months Ended March 30, 2004 (Unaudited)

 

(In thousands)

 

Issuer

 

Guarantor
Subsidiaries

 

Non-Guarantor
Subsidiaries

 

Consolidating
Adjustments

 

Consolidated
Total

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash flows from operating activities:

 

 

 

 

 

 

 

 

 

 

 

Net loss

 

$

(9,148

)

$

(1,706

)

$

(11,647

)

$

10,854 

 (3)

$

(11,647

)

Noncash adjustments:

 

 

 

 

 

 

 

 

 

 

 

Equity in loss of subsidiaries

 

1,706

 

 

9,148

 

(10,854

)(3)

 

Other noncash adjustments

 

3,322

 

2,259

 

2,499

 

 

8,080

 

Changes in working capital

 

(9,058

)

297

 

 

 

(8,761

)

Net cash provided by (used for) operating activities

 

(13,178

)

850

 

 

 

(12,328

)

 

 

 

 

 

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

 

 

 

 

 

 

Capital expenditures

 

 

(504

)

 

 

(504

)

Net cash used for investing activities

 

 

(504

)

 

 

(504

)

 

 

 

 

 

 

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

 

 

 

 

 

 

Net revolving line of credit borrowings Other secured long-term debt:

 

8,850

 

 

 

 

8,850

 

Borrowings

 

 

46

 

 

 

46

 

Repayments

 

(3

)

(308

)

 

 

(311

)

Net cash provided by (used for) financing activities

 

8,847

 

(262

)

 

 

8,585

 

Net increase (decrease) in cash and equivalents

 

(4,331

)

84

 

 

 

(4,247

)

Cash and equivalents at beginning of period

 

6,540

 

396

 

 

 

6,936

 

Cash and equivalents at end of period

 

$

2,209

 

$

480

 

$

 

$

 

$

2,689

 

 

20



 

 

 

Three Months Ended March 31, 2003 (Unaudited)

 

(In thousands)

 

Issuer

 

Guarantor
Subsidiaries

 

Non-Guarantor
Subsidiaries

 

Consolidating
Adjustments

 

Consolidated
Total

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash flows from operating activities:

 

 

 

 

 

 

 

 

 

 

 

Net loss

 

$

(24,497

)

$

(19,748

)

$

(26,163

)

$

44,314

 (3)

$

(26,094

)

Noncash adjustments:

 

 

 

 

 

 

 

 

 

 

 

Cumulative effect of change in accounting principle

 

 

13,764

 

 

 

13,764

 

Loss from discontinued operations

 

 

6,328

 

69

 

 

6,397

 

Equity in loss of subsidiaries

 

19,748

 

69

 

24,497

 

(44,314

)(3)

 

Other noncash adjustments

 

237

 

1,509

 

1,597

 

 

3,343

 

Changes in working capital

 

(16,438

)

(3,339

)

 

 

(19,777

)

Net cash used for operating activities

 

(20,950

)

(1,417

)

 

 

(22,367

)

 

 

 

 

 

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

 

 

 

 

 

 

Cash paid for acquisitions, net of cash acquired

 

(600

)

 

 

 

(600

)

Capital expenditures

 

(3

)

(1,095

)

 

 

(1,098

)

Net cash used for investing activities

 

(603

)

(1,095

)

 

 

(1,698

)

 

 

 

 

 

 

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

 

 

 

 

 

 

Net revolving line of credit borrowings

 

27,150

 

 

 

 

27,150

 

First-lien term debt repayments

 

(3,275

)

 

 

 

(3,275

)

Other secured long-term debt repayments

 

(114

)

(821

)

 

 

(935

)

Net cash provided by (used for) financing activities

 

23,761

 

(821

)

 

 

22,940

 

Net cash provided by discontinued operations

 

 

3,341

 

 

 

3,341

 

Net increase in cash and equivalents

 

2,208

 

8

 

 

 

2,216

 

Cash and equivalents at beginning of period

 

12,343

 

78

 

 

 

12,421

 

Cash and equivalents at end of period

 

$

14,551

 

$

86

 

$

 

$

 

$

14,637

 

 

21



 

ITEM 2.          MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following discussions should be read in conjunction with our financial statements and accompanying notes included in this report.

 

Results of Operations

 

Performance Measures

 

The following discussion of our results of operations includes discussions of financial measures and operating statistics we use to evaluate the performance of, and trends in, our businesses.  We believe the presentation of these measures and statistics are relevant and useful to investors because it allows them to view performance and trends in a manner similar to the methods we use.  These measures and statistics, and why they are important to us and could be of interest to you, are described below.

 

Adjusted EBITDA.  Our discussion of the results of operations includes discussions of financial measures determined in accordance with accounting principles generally accepted in the United States of America (“GAAP”) as well as the financial measure Adjusted EBITDA, which excludes certain charges reflected in our GAAP basis financial statements.  Our presentation of Adjusted EBITDA is in accordance with the GAAP requirements of SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information,” which requires us to report the primary measure of segment performance we use to evaluate and manage our businesses.

 

We utilize more than one measurement to evaluate segment performance and allocate resources among our operating segments; however, we consider Adjusted EBITDA, as defined below, to be the primary measurement of overall operating segment core economic performance and return on invested capital.  We also use Adjusted EBITDA in the annual budgeting and planning for future periods, as one of the decision-making criteria for funding discretionary capital expenditure and product development programs and as the measure for determining the value of acquisitions and dispositions.  Our board of directors uses Adjusted EBITDA as one of the performance metrics for determining the amount of bonuses awarded to pursuant to the cash incentive bonus plan and as an indicator of enterprise value used in determining the exercise price of stock options granted and the acceleration of stock option vesting pursuant the incentive stock option plan.

 

We define Adjusted EBITDA as earnings, determined using program accounting for product development costs, before interest, income taxes, depreciation and amortization, restructuring, asset impairment and other related charges, acquisition related charges not capitalized and other noncash and nonoperating charges.  We believe the presentation of this measure is relevant and useful to investors because it allows investors and analysts to view group performance in a manner similar to the method we use, helps improve their ability to understand our core segment performance, adjusted for items we believe are unusual, and makes it easier to compare our results with other companies that have different financing, capital structures and tax rates.  In addition, we believe these measures are consistent with the manner in which our lenders and investors measure our overall performance and liquidity, including our ability to service debt and fund discretionary capital expenditure and product development programs.

 

Our method of calculating Adjusted EBITDA may not be consistent with that of other companies and should be viewed in conjunction with measurements that are computed in accordance GAAP, such as net income (loss), the nearest comparable GAAP financial measure.  Adjusted EBITDA should not be viewed as substitutes for or superior to net income (loss), cash flow from operations or other data prepared in accordance with GAAP as a measure of our profitability or liquidity.  The notes to our financial statements include information about our operating segments, including Adjusted EBITDA, and should be read in conjunction with the discussions presented herein.  The notes to our financial statements

 

22



also include a reconciliation of Adjusted EBITDA to net income (loss) to clarify the differences between these financial measures.

 

Bookings and Backlog.  Bookings and backlog are operating statistics we use as leading trend indicators of future demand for our products and services.  Bookings and backlog are based upon the value of purchase orders received from our customers, which will result in revenues, if and when such orders are filled.

 

Bookings represent the total invoice value of purchase orders received during the period and backlog represents the total invoice value of unfilled purchase orders as of the end of a period.  Orders may be subject to change or cancellation by the customer prior to shipment.  The level of unfilled orders at any given date during the year will be materially affected by the timing of our receipt of orders and the speed with which those orders are filled.

 

Changes in Accounting Principles

 

Adoption of SFAS No. 150.  Effective January 1, 2004, we adopted SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.”  SFAS No. 150 establishes standards for the classification and measurement of certain financial instruments with characteristics of both liabilities and equity.  SFAS No. 150 requires classification of financial instruments within its scope as a liability, including financial instruments issued in the form of shares that are mandatorily redeemable, because those financial instruments are deemed to be, in essence, obligations of the issuer.  As a result of adopting of SFAS No. 150 on January 1, 2004, all mandatorily redeemable preferred stock was reclassified as a liability and all quarterly dividends are reflected as a charge against pre-tax income.  In periods prior to January 1, 2004, DeCrane Holdings’ 14% preferred stock dividends were deducted in arriving at the net income or loss applicable to the Company’s common stockholders; DeCrane Aircraft’s 16% preferred stock dividends were charged against pre-tax income as minority interest in preferred stock of subsidiary.

 

The following table summarizes the results of operations for the three months ended March 31, 2003 as if SFAS No. 150 had been in effect as of the beginning of 2003.

 

 

 

Three Months Ended
March 31, 2003

 

(In millions)

 

As Reported

 

Pro Forma

 

 

 

(Unaudited)

 

Loss from continuing operations

 

$

(5.9

)

$

(8.1

)

Net loss

 

(26.1

)

(28.3

)

 

The pro forma data reflects $2.2 million of DeCrane Holdings 14% preferred stock dividends as a charge against income during the period.

 

Change in Accounting for Product Development Costs.  In addition, and as more fully described in “Note 1—Change in Accounting Principle” to the audited financial statements included in the Company’s 2003 Form 10-K, we elected to discontinue the use of program accounting for the costs of products manufactured for delivery under production-type contracts.  As a result, certain deferred program costs are no longer included in inventory commencing January 1, 2003.

 

This change in accounting policy was made after concluding the 2003 fiscal year but was applied retroactively to the beginning of the year, January 1, 2003, as required by generally accepted accounting principles.  As a result of the change, program-related product development costs are now classified as a component of research and development expenses in the consolidated financial statements rather than classified as a component of inventory cost.  As a result of the change, we have restated the results of operations for the three months ended March 31, 2003 by charging $1,573,000 of previously inventoried

 

23



 

costs to research and development expense and recording a $13,764,000 charge as of January 1, 2003 to reflect the cumulative effect of the change in accounting principle.

 

Three Months Ended March 31, 2004 Compared to Three Months Ended March 31, 2003

 

Revenues.  Revenues increased $6.7 million, or 16.0%, to $48.6 million for the three months ended March 31, 2004 from $41.9 million for the three months ended March 31, 2003.  By segment, revenues changed as follows:

 

 

 

Increase (Decrease)
From 2003

 

(In millions)

 

Amount

 

Percent

 

 

 

 

 

 

 

Cabin Management

 

$

3.7

 

12.1

%

Systems Integration

 

2.4

 

19.8

 

Decrease in inter-group elimination

 

0.6

 

 

 

Total

 

$

6.7

 

 

 

 

Cabin Management.  Revenues increased by $3.7 million, or 12.1% compared to the prior year due to a higher volume of corporate jet production by aircraft manufacturers.  The increase consisted of the following:

 

      a $1.1 million increase in aircraft furniture and related products revenues;

 

      a $1.2 million increase in cabin management and entertainment systems revenues; and

 

      a $1.5 million increase in seating products revenues; offset by

 

      a $0.1 million decrease in other product and services revenues.

 

Systems Integration.  Revenues increased by $2.4 million, or 19.8% compared to the prior year, due to:

 

      the receipt of $4.2 million for the conversion of a major supply contract for auxiliary fuel systems to a “requirements” only contract from a guaranteed “take-or-pay” contract; and

 

      a $0.8 million increase in the commercial aircraft systems integration engineering services; offset by

 

      a $2.6 million decrease resulting from lower production of auxiliary fuel tank systems.

 

Gross profit.  Gross profit decreased $1.3 million, or 9.7%, to $11.7 million for the three months ended March 31, 2004 from $13.0 million for the same period in the prior year.  By segment, gross profit changed as follows:

 

 

 

Increase (Decrease)
From 2003

 

(In millions)

 

Amount

 

Percent

 

 

 

 

 

 

 

Cabin Management

 

$

(0.8

)

(8.6

)%

Systems Integration

 

(0.5

)

(9.5

)

Total

 

$

(1.3

)

 

 

 

Cabin Management.  Gross profit decreased by $0.8 million, or 8.6% compared to the prior year, primarily due to:

 

      a $1.6 million decrease due to lower margins resulting from the costs associated with the start-up of production for new aircraft programs as well as a change in sales mix; offset by

 

      a $0.8 million increase in gross profit related to higher volume for our cabin management and entertainment systems.

 

24



 

Systems Integration.  Gross profit decreased by $0.5 million, or 9.5% compared to the prior year, primarily due to:

 

      a $2.3 million decrease resulting from lower revenues and a change in product delivery mix; offset by

 

      a $1.5 million increase resulting from the conversion of a major supply contract for auxiliary fuel systems to a “requirements” only contact from a guaranteed “take-or-pay” contract; and

 

      a $0.3 million increase resulting from the increase in commercial aircraft systems integration engineering services revenues.

 

During the three months ended March 31, 2004, we received $4.2 million as compensation for converting the supply contract to a requirements-only contract.  In conjunction with the conversion, we charged $2.7 million to cost of sales to write-off unamortized design and engineering costs and to reduce excess raw material inventory related to this contract to its net realizable value.

 

Selling, general and administrative expenses.  Selling, general and administrative expenses decreased $2.7 million, or 27.1%, to $7.2 million for the three months ended March 31, 2004, from $9.9 million for the same period in the prior year.  By segment, SG&A expenses changed as follows:

 

 

 

Increase (Decrease)
From 2003

 

(In millions)

 

Amount

 

Percent

 

 

 

 

 

 

 

Cabin Management

 

$

(0.2

)

(4.4

)%

Systems Integration

 

(1.4

)

(41.4

)

Corporate

 

(1.1

)

 

 

Total

 

$

(2.7

)

 

 

 

Cabin Management.  SG&A expenses decreased by $0.2 million, or 4.4% compared to the prior year, due to ongoing cost reduction measures.

 

Systems Integration.  SG&A expenses decreased by $1.4 million, or 41.4% compared to the prior year, due to lower labor and employee benefit costs resulting from workforce reductions in 2003 as well as other cost reduction efforts.

 

Corporate.  SG&A expenses decreased by $1.1 million compared to the prior year due principally to lower costs pursuant to the incentive compensation plan.

 

Research and development expenses.  Research and development expenses increased $0.6 million, or 38.6%, to $2.2 million for the three months ended March 31, 2004 compared to $1.6 million in the prior year.  By segment, research and development expenses changed as follows:

 

 

 

Increase (Decrease)
From 2003

 

(In millions)

 

Amount

 

Percent

 

 

 

 

 

 

 

Cabin Management

 

$

0.2

 

14.9

%

Systems Integration

 

0.4

 

411.7

 

Total

 

$

0.6

 

 

 

 

Cabin Management.  R&D expenses increased $0.2 million, or 14.9% compared to the prior year. The increase is primarily related to the development of our new single-design seat technology and design of new interior furnishing components for a major customer’s recently introduced new model of aircraft.

 

Systems Integration.  R&D expenses increased $0.4 million, or 411.7% compared to the prior year.  The increase is principally due to the development of several new products.

 

25



 

Depreciation and amortization of intangibles.  Depreciation and amortization expense decreased $0.2 million to $2.3 million for the three months ended March 31, 2004 from $2.5 million for the same period in the prior year.  The decline is attributable to reduced capital expenditures and lower depreciable base.  By segment, depreciation and amortization changed as follows.

 

 

 

Increase (Decrease)
From 2003

 

(In millions)

 

Amount

 

Percent

 

 

 

 

 

 

 

Depreciation charged to:

 

 

 

 

 

Cost of sales

 

$

(0.1

)

(6.9

)%

Selling, general and administrative expense

 

(0.1

)

(21.0

)

Amortization of intangible assets

 

0.0

 

0.0

 

Total

 

$

(0.2

)

 

 

 

Adjusted EBITDA.  As described above in “—Performance Measures–Adjusted EBITDA,” we use this financial measure to evaluate the core economic performance of our operating segments.  The notes to our financial statements include additional information about Adjusted EBITDA, and should be read in conjunction with the discussions presented herein.  The notes to our financial statements also include a reconciliation of Adjusted EBITDA to net income (loss), a GAAP financial measure, to clarify the differences between these two measures.

 

Cabin Management.  Adjusted EBITDA decreased by $1.2 million, or 24.4%, to $3.4 million for the three months ended March 31, 2004 compared to $4.6 million for the same period in the prior year primarily due to:

 

      a $1.6 million decrease in gross profit related to our business, VIP and head-of-state aircraft furniture and seating operations; and

 

      a $0.4 million unfavorable impact resulting from adjusting for program costs; and

 

      a $0.2 million increase in research and development expenses; offset by

 

      a $0.8 million increase in gross profit related our cabin management and entertainment systems; and

 

      a $0.2 million decrease in SG&A spending.

 

Systems Integration.  Adjusted EBITDA increased by $0.8 million, or 40.4%, to $3.0 million for the three months ended March 31, 2004 compared to $2.2 million for the same period in the prior year due to:

 

      a $1.4 million decrease in SG&A spending; and

 

      a $0.3 million favorable impact resulting from adjusting for program costs; offset by

 

      a $0.5 million decline in gross profit; and

 

      a $0.4 million increase in research and development expenses.

 

Operating income.  Operating income increased $0.8 million, or 135.3%, to $1.4 million for the three months ended March 31, 2004, from $0.6 million for the same period in the prior year.  By segment, operating income changed as follows:

 

 

 

Increase (Decrease)
From 2003

 

(In millions)

 

Amount

 

Percent

 

 

 

 

 

 

 

Cabin Management

 

$

(0.7

)

(47.9

)%

Systems Integration

 

0.5

 

35.3

 

Corporate

 

1.0

 

 

 

Total

 

$

0.8

 

 

 

 

26



 

Cabin Management.  Operating income decreased by $0.7 million, or 47.9% compared to the prior year, due to:

 

      a $1.5 million decrease in gross profit, primarily due to lower revenues related to our furniture and seating operations; and

 

      an $0.2 million increase in research and development expenses; offset by

 

      a $0.8 million increase in gross profit related to higher volume for our cabin management and entertainment systems; and

 

      a $0.2 million decrease in expenses resulting from cost reduction measures.

 

Systems Integration. Operating income increased by $0.5 million, or 35.3% compared to the prior year, due to:

 

      a net $1.5 million increase resulting from the conversion of a major customer supply contract to a requirements-only contract; and

 

      a $1.4 million decrease in SG&A spending; offset by

 

      a $1.9 million decrease resulting from reduced gross profit on lower revenues; and

 

      a $0.4 million increase in research and development expenses.

 

Interest expense.  Interest expense increased $2.8 million, or 48.3%, to $8.7 million for the three months ended March 31, 2004 compared to $5.9 million for the same period in the prior year.  The increase is attributable to:

 

      $3.0 million of additional interest expense attributable to $80.0 million of second-lien term debt issued in December 2003; and

 

      a $0.3 million increase in other interest expense; offset by

 

      a $0.5 million decrease in our first-lien interest expense due to lower principal balances outstanding resulting from the partial refinancing with second-lien debt in December, partially offset by a 1.5% increase in interest rate margins charged by our lenders based on the consolidated debt leverage ratio.

 

Mandatorily redeemable preferred stock dividends.  Mandatorily redeemable preferred stock dividends increased $2.6 million to $4.2 million for the three months ended March 31, 2004 from $1.6 million for the same period in the prior year as follows:

 

 

 

Three Months Ended
March 31,

 

(In millions)

 

2004

 

2003

 

 

 

 

 

 

 

DeCrane Holdings 14% preferred stock

 

$

2.5

 

$

 

DeCrane Aircraft 16% preferred stock

 

1.7

 

1.6

 

Net income tax benefit

 

$

4.2

 

$

1.6

 

 

 

As more fully described in “—Changes in Accounting Principles” above, effective January 1, 2004 we adopted SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.”

 

As a result of adopting of SFAS No. 150, the 14% quarterly preferred stock dividends are reflected as a charge against pre-tax income.  In periods prior to January 1, 2004, the 14% preferred stock dividends were deducted in arriving at the net income or loss applicable to DeCrane Holdings’ common stockholders and amounted to $2.2 million of the three months ended March 31, 2004; DeCrane Aircraft’s 16% preferred stock dividends totaled $1.6 million and were charged against pre-tax income as

 

27



 

minority interest in preferred stock of subsidiary.  The increase between periods is attributable to the quarterly compounding of the dividends accrued but not declared and paid.

 

Provision for income tax benefit.  The provision for income taxes is comprised of the following:

 

 

 

Three Months Ended
March 31,

 

(In millions)

 

2004

 

2003

 

 

 

 

 

 

 

Income tax (benefit) based on reported pre-tax loss

 

$

(2.5

)

$

(1.2

)

Net deferred tax asset valuation allowance

 

2.5

 

 

Net income tax benefit

 

$

 

$

(1.2

)

 

For the three months ended March 31, 2003, the provision for income taxes, based on the reported consolidated pre-tax loss, differs from the amount determined by applying the applicable U.S. statutory federal rate to the pre-tax loss primarily due to the effects of state and foreign income taxes and non-deductible expenses, principally the non-deductible portion of goodwill impairment charges and DeCrane Aircraft’s 16% preferred stock dividends.

 

For the three months ended March 31, 2004, the provision for income taxes, based on the reported consolidated pre-tax loss, differs from the amount determined by applying the applicable U.S. statutory federal rate to the pre-tax loss primarily due to the effects of state and foreign income taxes and non-deductible expenses, principally mandatorily redeemable preferred stock dividends due to the adoption of SFAS No. 150 effective January 1, 2004 described above..

 

As more fully described in Note 11 to the audited financial statements included in our 2003 Form 10-K, we had a net deferred tax asset of $19.5 million fully offset by a valuation allowance of the same amount as of December 31,2003.

 

As required by SFAS No. 109, we evaluated our deferred assets for expected recoverability based on the nature of the item, the associated taxing jurisdictions, the applicable expiration dates and future taxable income forecasts that would impact utilization.  Since there is no loss carry back potential and there are no tax planning strategies to assure recoverability, the only possibility for recovery of the net deferred assets is future taxable income.  Since there have been prior year losses, we believe it is not prudent to rely on future income as the means to support the carrying value of the net asset.  As a result of the evaluation, we recorded a $19.5 million valuation allowance, eliminating the net deferred asset, as of December 31, 2003.  Based upon the results of operations for the three months ended March 31, 2004, we Company determined that an additional $2.5 million valuation allowance was required as of that date.

 

Loss from continuing operations.  The loss from continuing operations increased $5.7 million to a loss of $11.6 million for the three months ended March 31, 2004 compared to a loss of $5.9 million for the same period in the prior year, primarily due to:

 

      a $2.7 million increase in interest and other expenses (net);

 

      a $1.3 million decrease in income tax benefit; and

 

      a $2.6 million increase in preferred stock dividends, principally resulting from the adoption of SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity” as described above; offset by

 

      a $0.8 million increase in operating income.

 

Loss from discontinued operations.  Loss from discontinued operations was $6.4 million for the three months ended March 31, 2003 and reflects the results of operations of our Specialty Avionics Group which was sold on May 22, 2003.

 

28



 

Cumulative effect of change in accounting principle.  As more fully described in “—Changes in Accounting Principles” above, the $13.8 million charge during the three months ended March 31, 2003 was to reflect the cumulative effect of the change in accounting for product development costs.

 

Net loss.  Net loss decreased $14.5 million to a net loss of $11.6 million for the three months ended March 31, 2004 compared to a net loss of $26.1 million for the same period in the prior year.  The decrease is attributable to:

 

      a net decrease in cumulative effect of change in accounting principles of $13.8 million; and

 

      a decrease in the loss from discontinued operations of $6.4 million; offset by

 

      an increase in loss from continuing operations of $5.7 million.

 

Net loss applicable to common stockholders.  Net loss applicable our common stockholders decreased $16.7 million to a net loss of $11.6 million for the three months ended March 31, 2004 compared to a net loss of $28.3 million for the same period in the prior year.  The decrease in the net loss applicable to our common stockholder is attributable to:

 

      a $14.5 million decrease in our net loss; and

 

      a $2.2 million decrease in preferred stock dividends resulting from the January 1, 2004 adoption of SFAS No. 150 which requires preferred stock dividends be deducted from the net income or loss for the period.

 

Bookings.  Bookings increased $26.8 million, or 64.8%, to $68.2 million for the three months ended March 31, 2004 compared to $41.4 million for the same period in the prior year.  The increase in bookings for 2004 is due to increases in orders for all of our business segments.

 

Backlog at end of period.  Backlog increased $19.6 million to $77.6 million as of March 31, 2004 compared to $58.0 million as of March 31, 2003.

 

Liquidity and Capital Resources

 

We are a holding company and have no direct material operations.  Our only asset is our ownership of all of the common stock of DeCrane Aircraft, and our only material liability is our guarantee of the DeCrane Aircraft first-lien credit facility and second-lien term debt.  Our principal liquidity needs are for income taxes and, beginning in 2005, the payment cash dividends on our preferred stock, if declared.

 

Our only source of cash is dividends from DeCrane Aircraft.  The first-lien credit facility, second-lien term debt and subordinated notes described below are obligations of DeCrane Aircraft and impose limitations on its ability to pay dividends to us.  We believe that DeCrane Aircraft’s debt instruments will permit it to supply us with sufficient cash to meet the cash needs referred to above for the next twelve months.  However, if that is not the case, we would not be able to satisfy those needs, because we have no other source of cash other than dividends from DeCrane Aircraft.  We would then be required to secure alternate financing, which may not be available on acceptable terms, or at all.

 

DeCrane Aircraft’s principal cash needs are for debt service, working capital, capital expenditures and strategic acquisitions, as well as to provide us with cash to finance our needs.  Its principal sources of liquidity are expected to be cash flow from operations, potential capital market transactions and third party borrowings, principally under its first-lien credit facility.

 

29



 

Cash Flows During the Three months ended March 31, 2004

 

Net cash used by operating activities was $12.3 million for the three months ended March 31, 2004 and consisted of $3.5 million of cash used by operations after adding back depreciation, amortization, preferred stock dividends, interest accretion and other noncash items and $8.7 million used for working capital and a $0.1 million decrease in other liabilities.  The following factors contributed to the $8.7 million working capital increase:

 

      a $5.5 million increase in accounts receivables due to higher revenues;

 

      a $4.6 million increase in inventory commensurate with higher revenues; and

 

      a $0.2 million net increase in other working capital items; offset by

 

      a $1.5 million increase in accounts payable and accrued expenses (net); and

 

      a $0.1 million increase in income taxes payable due to lower levels of taxable income.

 

Net cash used by investing activities consisted of capital expenditures of $0.5 million for the three months ended March 31, 2004.  We anticipate spending approximately $3.0 to $5.0 million for capital expenditures in 2004.

 

Net cash provided by financing activities was $8.6 million for the three months ended March 31, 2004 and consisted of:

 

      $8.9 million of debt borrowings, primarily on the revolving line of credit; offset by

 

      $0.3 million of other secured long-term debt repayments.

 

Debt Obligations and Capital Resources as of March 31, 2004

 

As of March 31, 2004, first-lien credit facility borrowings and second-lien term debt totaling $99.5 million are at variable interest rates based on defined margins over the current prime rate or LIBOR.  We also had $100.0 million of 12% subordinated notes, $70.6 million of 15% second-lien term debt and other secured indebtedness totaling $8.5 million outstanding as of March 31, 2004.  In addition, our 14% and 16% mandatorily redeemable preferred stock, which has characteristics of both liabilities and equity, had an aggregate $118.9 million mandatorily redemption value as of March 31, 2004.

 

As of March 31, 2004, we had $42.2 million of working capital and $14.8 million of borrowings available under our revolving line of credit, which expires in March 2006.

 

Financial Condition and Liquidity

 

We believe our expected operating cash flows, together with borrowings under our first-lien credit facility ($14.8 million of which was available as of March 31, 2004, the commitment for which expires in March 2006), will be sufficient to meet our operating expenses, working capital requirements, capital expenditures and debt service obligations for the next twelve months.  However, our ability to comply with our debt financial covenants, pay principal or interest and satisfy our other debt obligations will depend on our future operating performance as well as competitive, legislative, regulatory, business and other factors beyond our control.  Although we cannot be certain, we expect to be in compliance with the revised financial covenants through the end of the year based on our current operating plan.

 

We continue to explore the possible restructuring of our other debt and equity instruments that would improve our liquidity and reduce our cash needs.  We have not entered into any definitive documentation to do so and cannot assure you that we will be able to do so in the future.

 

30



 

Disclosure of Contractual Obligations and Commitments

 

The following table summarizes our known contractual obligations to make future cash payments as of March 31, 2004, as well an estimate of the periods during which these payments are expected to be made.

 

 

 

 

 

Years Ending December 31,

 

(In millions)

 

Total

 

2004

 

2005
and
2006

 

2007
and
2008

 

2009
and
Beyond

 

 

 

 

 

 

 

 

 

 

 

 

 

Long-term debt (a):

 

 

 

 

 

 

 

 

 

 

 

First-lien credit facility (b):

 

 

 

 

 

 

 

 

 

 

 

Term debt

 

$

80.5

 

$

 

$

15.0

 

$

65.5

 

$

 

Revolving line of credit

 

8.9

 

 

8.9

 

 

 

Second-lien term debt (c)

 

80.7

 

 

 

80.7

 

 

12% subordinated notes (d)

 

100.0

 

 

 

100.0

 

 

Capital lease obligations (e)

 

3.3

 

0.4

 

0.9

 

0.6

 

1.4

 

Other indebtedness (e)

 

5.2

 

0.5

 

1.7

 

0.6

 

2.4

 

Total long-term debt

 

278.6

 

0.9

 

26.5

 

247.4

 

3.8

 

 

 

 

 

 

 

 

 

 

 

 

 

Mandatorily redeemable preferred stock:

 

 

 

 

 

 

 

 

 

 

 

DeCrane Aircraft preferred stock (f)

 

45.0

 

 

 

 

45.0

 

DeCrane Holdings preferred stock (g)

 

73.9

 

 

 

 

73.9

 

Other long-term liabilities

 

5.4

 

 

3.7

 

1.7

 

 

Operating lease obligations

 

14.0

 

2.2

 

5.0

 

2.4

 

4.4

 

Total obligations as of March 31, 2004

 

$

416.9

 

$

3.1

 

$

35.2

 

$

251.5

 

$

127.1

 

 


(a)       Excludes interest payments.

 

(b)       The first-lien credit facility bears interest at variable rates and therefore the amount of future interest payments are uncertain.  The debt bears interest based on a margin over, at our option, the prime rate or LIBOR.  As of March 31, 2004, the current prime rate was 4.00% and the current LIBOR was 1.08%.  The margins applicable to portions of amounts borrowed vary depending on our consolidated debt leverage ratio.  Currently, the applicable margins are 4.00% to 4.75% for prime rate borrowings and 5.25% to 6.00% for LIBOR borrowings.  The weighted-average interest rate on all first-lien debt was 6.98% as of March 31, 2004.

 

(c)       The second-lien term debt is comprised of $70.0 million of fixed rate debt and $10.0 million of variable rate debt.  The fixed rate debt bears interest at 15%; 12% payable quarterly in cash and 3% pay-in-kind or “accreted” interest, payable at maturity.  The variable rate debt bears cash interest, at our option, at the prime rate plus 7.5% or LIBOR plus 8.5%, plus 3% pay-in-kind interest payable at maturity.  The weighted-average interest rate on all second-lien debt was 14.33% as of March 31, 2004.  All of the second-lien debt matures on June 30, 2008, at which time the cash payment obligation will be $91.7 million, including the 3% pay-in-kind interest obligation.

 

(d)       Interest on the 12% subordinated notes is payable semiannually.

 

(e)       Interest is generally payable monthly.

 

(f)        Dividends accrue quarterly at a 16% annual rate.  Prior to June 30, 2005, we may, at our option, pay dividends either in cash or by the issuance of additional shares of preferred stock.  Since the issuance of the preferred stock in June 2000, we have elected to issue additional shares in lieu of cash dividend payments and may continue to do so until June 2005, after which time we are required to pay quarterly dividends in cash, if declared.  Our debt instruments restrict our ability to make payments on our preferred stock.  If we elect to continue issuing additional shares until June 2005, our mandatory redemption obligation on March 31, 2009, the mandatory

 

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redemption date, will be $54.8 million and our annual cash dividend payment obligation will be $8.8 million, payable quarterly, commencing September 2005, if declared.

 

(g)       Dividends accrue quarterly at a 14% annual rate.  Prior to September 30, 2005, dividends are not paid in cash but instead accrete to the liquidation value of the preferred stock.  Our debt instruments restrict our ability to make payments on our preferred stock.  Our annual cash dividend payment obligation will be $12.7 million, payable quarterly, commencing December 31, 2005, if declared, and our mandatory redemption obligation on September 30, 2009, the mandatory redemption date, will be $90.8 million.

 

Disclosure About Off-Balance Sheet Commitments and Indemnities

 

During our normal course of business, we have entered into agreements containing indemnities pursuant to which we may be required to make payments in the future.  These indemnities are in connection with facility leases and liabilities for specified claims arising from investment banking services our financial advisors provide to us.  The duration of these indemnities, commitments and guarantees varies, and in certain cases, is indefinite.  Substantially all of these indemnities provide no limitation on the maximum potential future payments we could be obligated to make and is not quantifiable.  We have not recorded any liability for these indemnities since no claims have been asserted to date.

 

In connection with the sale of the Specialty Avionics Group, we made indemnities to the buyer with respect to a number of customary, and certain other specific, representations and warranties.  Our indemnities with respect to some of these matters are limited in terms of duration with the maximum of potential future payments capped at $14.0 million and our indemnities with respect to specified environmental matters will expire not later than October 2010 and provides for a maximum liability of $5.0 million, while others will have no limitations.

 

As of March 31, 2004, we also had irrevocable standby letters of credit in the amount of $0.3 million issued and outstanding under our first-lien credit facility.

 

Recent Accounting Pronouncements

 

Accounting Pronouncements Adopted January 1, 2004

 

As more fully described in Note 1 accompanying our financial statements included in this report and “—Changes in Accounting Principles” above, effective January 1, 2004 we adopted the provisions of SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.”

 

Special Note Regarding Forward-Looking Statements and Risk Factors

 

All statements other than statements of historical facts included in this report, including statements about our future performance and liquidity and future industry performance, are considered forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.  These statements are subject to known and unknown risks, uncertainties and other factors, which are difficult to predict.  We are vulnerable to a variety of factors that affect many businesses, such as:

 

      fuel prices and general economic conditions that affect demand for aircraft and air travel, which in turn affect demand for our products and services;

 

      acts, and ongoing threats, of global terrorism, military conflicts and health epidemics that affect demand for aircraft and air travel, which in turn affect demand for our products and services;

 

      our reliance on key customers and the adverse effect a significant decline in business from any one of them would have on our business;

 

32



 

      changes in prevailing interest rates and the availability of financing to fund our plans for continued growth;

 

      competition from larger companies;

 

      Federal Aviation Administration prescribed standards and licensing requirements, which apply to many of the products and services we provide;

 

      inflation, and other general changes in costs of goods and services;

 

      price and availability of raw materials, component parts and electrical energy;

 

      liability and other claims asserted against us that exceeds our insurance coverage;

 

      the ability to attract and retain qualified personnel;

 

      labor disturbances; and

 

      changes in operating strategy, or our acquisition and capital expenditure plans.

 

Some of the more significant factors listed above are further described in our 2003 Annual Report on Form 10-K and should be read in conjunction with this report.  Changes in such factors could cause our actual results to differ materially from those contemplated in such forward-looking statements.  Although we believe that the expectations reflected in such forward-looking statements are reasonable, we can give no assurance that such expectations will prove to be correct.  We undertake no obligation to release publicly any revisions to these forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.  You should not rely on our forward-looking statements as if they were certainties.

 

ITEM 3.          QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

We are exposed to various market risks, including interest rates and changes in foreign currency exchange rates.  Market risk is the potential loss arising from adverse changes in prevailing market rates and prices.  From time to time, we use derivative financial instruments to manage and reduce risks associated with these factors.  We do not enter into derivatives or other financial instruments for trading or speculative purposes.

 

Interest Rate Risk.  A significant portion of our capital structure is comprised of long-term variable and fixed-rate debt.

 

Market risk related to our variable-rate debt is estimated as the potential decrease in pre-tax earnings resulting from an increase in interest rates.  The interest rates applicable to variable-rate debt are, at our option, based on defined margins over the current prime rate or LIBOR.  As of March 31, 2004, the current prime rate was 4.00% and the current LIBOR was 1.08%.  Based on $99.5 million of variable-rate debt outstanding as of March 31, 2004, a hypothetical one percent rise in interest rates, to 5.00% for prime rate borrowings and 2.08% for LIBOR borrowings, would reduce our pre-tax earnings by $1.0 million annually.

 

To limit a portion of our exposure related to rising interest rates, we have entered into an interest rate swap contract to effectively convert our variable-rate industrial revenue bonds to 4.2% fixed-rate debt until maturity in 2008.  The contract is considered to be a hedge against changes in the amount of future cash flows associated with interest payments on this portion of our variable-rate debt.  Market risk related to this interest rate swap contract is estimated as the potential higher interest expense we will incur if the variable interest rate decreases below the 4.2% fixed rate.  Based on the $3.1 million of variable-rate debt converted to fixed-rate debt outstanding as of March 31 2004, a hypothetical one percent decrease in the variable interest rate to 3.2%, would reduce our pre-tax earnings by less than $0.1 million annually.

 

33



 

The estimated fair value of our $100.0 million fixed-rate long-term debt increased $20.0 million, or 44.4%, to approximately $65.0 million as of March 31, 2004 from $45.0 million as of December 31, 2003.  Market risk related to our fixed-rate debt is deemed to be the potential increase in fair value resulting from a decrease in interest rates.  For example, a hypothetical ten percent decrease in the interest rates, from 12.0% to 10.8%, would increase the fair value of our fixed-rate debt by approximately $5.0 million.

 

Foreign Currency Exchange Rate Risk.  Our foreign customers are located in various parts of the world, primarily Canada, the Far and Middle East and Western Europe, and we have a subsidiary with manufacturing facilities in Mexico.  To limit our foreign currency exchange rate risk related to sales to our customers, orders are almost always valued and sold in U.S. dollars.  We have entered into forward foreign exchange contracts in the past, primarily to limit exposure related to foreign inventory procurement and operating costs.  While we have not entered into any such contracts since 1998, we may do so in the future depending on the volume of non-U.S. dollar denominated transactions and our assessment of future foreign exchange rate trends.

 

ITEM 4.          CONTROLS AND PROCEDURES

 

The management of DeCrane Holdings Co. (the “Company”), under the supervision and with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the Company’s “disclosure controls and procedures” (as defined in Exchange Act Rules 13a-15(e) or 15d-15(e)) as of the end of the period covered by this report.  Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective as of the end of the period covered by this report.

 

There was no change in the Company’s internal control over financial reporting identified in connection with the evaluation required by paragraph (d) of Exchange Act Rules 13a-15 or 15d-15 that occurred during the Company’s last fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

34



 

PART II – OTHER INFORMATION

 

ITEM 1.          LEGAL PROCEEDINGS

 

See Note 9 to the consolidated financial statements included in this report.

 

ITEM 6.          EXHIBITS AND REPORTS ON FORM 8-K

 

a.         Exhibits

 

18                Letter regarding change in accounting principle effective January 1, 2003 (1)

 

31.1             Chief Executive Officer Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 *

 

31.2             Chief Financial Officer Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 *

 

32                Chief Executive Officer and Chief Financial Officer Certifications Pursuant to Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 *

 


*                  Filed herewith

 

(1)               Filed as an exhibit to our Form 10-K dated December 31, 2003 filed with the Commission on March 29, 2004

 

b.         Reports on Form 8-K

 

None.

 

35



 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

 

 

DECRANE HOLDINGS CO. (Registrant)

 

 

 

 

 

 

 

 

 

May 14, 2004

By:

/s/  RICHARD J. KAPLAN

 

 

Name:

Richard J. Kaplan

 

Title:

Chief Financial Officer and
Assistant Secretary

 

36