UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

 

FORM 10-Q

 

ý                                 QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2004

 

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

 

COMMISSION FILE NUMBER 001-11911

 

STEINWAY MUSICAL INSTRUMENTS, INC.

(Exact name of registrant as specified in its charter)

 

DELAWARE		35-1910745
(State or Other Jurisdiction of Incorporation or Organization)		(I.R.S. Employer Identification No.)
800 South Street, Suite 305 Waltham, Massachusetts		02453
(Address of Principal Executive Offices)		(Zip Code)

 

Registrant’s telephone number including area code:     (781) 894-9770

 

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 during the past 90 days.

Yes ý    No o

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Yes ý    No o

 

Number of shares of Common Stock issued and outstanding as of November 4, 2004:		Class A		477,952
		Ordinary		7,535,195
		Total		8,013,147

 

 

STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES

FORM 10-Q

INDEX

 

PART I.		UNAUDITED FINANCIAL INFORMATION
Item 1.		Consolidated and Condensed Consolidated Financial Statements:
		Consolidated Statements of Income Three months and nine months ended September 30, 2004 and September 27, 2003
		Condensed Consolidated Balance Sheets September 30, 2004 and December 31, 2003
		Consolidated Statements of Cash Flows Nine months ended September 30, 2004 and September 27, 2003
		Consolidated Statement of Stockholders’ Equity Nine months ended September 30, 2004
		Notes to Consolidated and Condensed Consolidated Financial Statements.
Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3.		Quantitative and Qualitative Disclosures about Market Risk
Item 4.		Controls and Procedures
PART II.		OTHER INFORMATION
Item 6.		Exhibits and Reports on Form 8-K
		Signatures

 

2

 

ITEM 1                                                        CONSOLIDATED AND CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

 STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

Unaudited

(In Thousands Except Share and Per Share Amounts)

 

		Three Months Ended						Nine Months Ended
		September 30, 2004			September 27, 2003			September 30, 2004			September 27, 2003
Net sales		$	94,653		$	82,546		$	268,402		$	243,090
Cost of sales		68,757			59,655			192,378			176,654
Gross Profit		25,896			22,891			76,024			66,436
Operating expenses:
Sales and marketing		10,465			9,383			32,298			31,340
General and administrative		7,358			5,480			19,771			16,969
Amortization of intangibles		269			288			815			865
Other operating expenses		207			110			232			418
Facility rationalization charges		—			2,075			—			2,075
Total operating expenses		18,299			17,336			53,116			51,667
Income from operations		7,597			5,555			22,908			14,769
Other income, net		(806		)	(699		)	(2,152		)	(2,032		)
Interest income		(512		)	(352		)	(1,740		)	(1,473		)
Interest expense		4,202			3,541			11,994			10,641
Income before income taxes		4,713			3,065			14,806			7,633
Income taxes		1,885			1,227			5,920			2,952
Net income		$	2,828		$	1,838		$	8,886		$	4,681
Earnings per share:
Basic		$	0.35		$	0.21		$	1.10		$	0.53
Diluted		$	0.34		$	0.21		$	1.06		$	0.53
Weighted average shares:
Basic		7,998,481			8,930,613			8,055,457			8,914,363
Diluted		8,282,498			8,931,709			8,385,558			8,914,712

 

See notes to consolidated and condensed consolidated financial statements.

 

3

 

STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

Unaudited

(In Thousands)

 

		September 30, 2004			December 31, 2003
ASSETS:
Current assets:
Cash		$	14,118		$	42,283
Accounts, notes and leases receivable, net of allowances for doubtful accounts of $10,152 and $9,944 in 2004 and 2003, respectively		107,076			76,403
Inventories		176,392			152,029
Prepaid expenses and other current assets		4,043			4,533
Deferred tax assets		13,244			13,022
Total current assets		314,873			288,270
Property, plant and equipment, net of accumulated depreciation of $67,344 and $63,952 in 2004 and 2003, respectively		100,665			98,937
Trademarks		10,456			10,319
Goodwill		31,520			31,665
Other intangibles, net		5,569			5,782
Other assets		18,478			10,692
TOTAL ASSETS		$	481,561		$	445,665
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt		$	10,427		$	10,638
Accounts payable		13,011			11,554
Other current liabilities		46,712			39,112
Total current liabilities		70,150			61,304
Long-term debt		229,742			185,964
Deferred tax liabilities		25,390			25,565
Other non-current liabilities		20,652			20,197
Total liabilities		345,934			293,030
Commitments and contingent liabilities
Stockholders’ equity:
Common stock		10			10
Additional paid-in capital		80,881			74,626
Retained earnings		105,606			96,720
Accumulated other comprehensive loss		(3,434		)	(2,868		)
Treasury stock, at cost		(47,436		)	(15,853		)
Total stockholders’ equity		135,627			152,635
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY		$	481,561		$	445,665

 

See notes to consolidated and condensed consolidated financial statements.

 

4

 

STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

Unaudited

(In Thousands)

 

		Nine Months Ended
		September 30, 2004			September 27, 2003
Cash flows from operating activities:
Net income		$	8,886		$	4,681
Adjustments to reconcile net income to cash flows from operating activities:
Depreciation and amortization		8,153			8,214
Amortization of bond premium		(167		)	—
Deferred tax expense (benefit)		(323		)	231
Debt issuance costs		(105		)	—
Other		105			235
Facility rationalization charges		—			2,075
Changes in operating assets and liabilities:
Accounts, notes and leases receivable		(17,308		)	(16,512		)
Inventories		(4,221		)	3,846
Prepaid expenses and other assets		(5,678		)	788
Accounts payable		14			(1,708		)
Other liabilities		2,855			3,877
Cash flows from operating activities		(7,789		)	5,727
Cash flows from investing activities:
Capital expenditures		(3,192		)	(2,752		)
Proceeds from disposals of fixed assets		76			4
Acquisition of subsidiary, net of cash acquired		(35,309		)	—
Cash flows from investing activities		(38,425		)	(2,748		)
Cash flows from financing activities:
Borrowings under lines of credit		66,875			8,465
Repayments under lines of credit		(48,928		)	(7,523		)
Repayments of long-term debt		(4,984		)	(4,874		)
Proceeds from issuance of common stock		5,441			501
Cash flows from financing activities		18,404			(3,431		)
Effect of foreign exchange rate changes on cash		(355		)	66
Decrease in cash		(28,165		)	(386		)
Cash, beginning of period		42,283			19,099
Cash, end of period		$	14,118		$	18,713
Supplemental Cash Flow Information
Interest paid		$	8,928		$	7,719
Taxes paid		$	7,453		$	6,443
Non-cash transaction:
Purchase of common stock by issuance of bonds		$	31,583		$	—

 

See notes to consolidated and condensed consolidated financial statements.

 

5

 

STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

Unaudited

(In Thousands Except Share Data)

 

		Common Stock			Additional Paid-In Capital			Retained Earnings			Accumulated Other Comprehensive Loss			Treasury Stock			Total Stockholders’ Equity
Balance, December 31, 2003		$	10		$	74,626		$	96,720		$	(2,868	)	$	(15,853	)	$	152,635
Comprehensive income:
Net income								8,886									8,886
Foreign currency translation adjustment											(416		)				(416		)
Additional minimum pension liability, net											(145		)				(145		)
Unrealized holding loss on certain marketable securities, net											(5		)				(5		)
Total comprehensive income																	8,320
Exercise of 252,035 options for shares of common stock					4,971												4,971
Issuance of 33,018 shares of common stock					470												470
Tax benefit of options exercised					814												814
Purchase of 1,271,450 shares of common stock														(31,583		)	(31,583		)
Balance, September 30, 2004		$	10		$	80,881		$	105,606		$	(3,434	)	$	(47,436	)	$	135,627

 

See notes to consolidated and condensed consolidated financial statements.

 

6

 

STEINWAY MUSICAL INSTRUMENTS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED AND CONDENSED CONSOLIDATED

FINANCIAL STATEMENTS

SEPTEMBER 30, 2004

 

Unaudited

(Tabular Amounts In Thousands Except Share and Per Share Data)

 

(1)   Basis of Presentation

 

The accompanying consolidated and condensed consolidated financial statements of Steinway Musical Instruments, Inc. and subsidiaries (the “Company”) for the three months and nine months ended September 30, 2004 and September 27, 2003 are unaudited.  In the opinion of management, these statements have been prepared on the same basis as the audited consolidated financial statements as of and for the year ended December 31, 2003, and include all adjustments which are of a normal and recurring nature, necessary for the fair presentation of financial position, results of operations and cash flows for the interim period.  You should read the consolidated and condensed consolidated financial statements in conjunction with the consolidated financial statements and notes thereto contained in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2003 filed with the Securities and Exchange Commission.  The results of operations for the three months and nine months ended September 30, 2004 are not necessarily indicative of the results that may be expected for the entire year.

 

Throughout this report “we”, “us”, and “our” refer to Steinway Musical Instruments, Inc. and subsidiaries taken as a whole.

 

(2)   Summary of Significant Accounting Policies

 

Principles of Consolidation - Our consolidated financial statements include the accounts of all direct and indirect subsidiaries, all of which are wholly-owned, including The Steinway Piano Company, Inc. (“Steinway”) and Conn-Selmer. Inc. (“Conn-Selmer”).  Significant intercompany balances have been eliminated in consolidation.

 

Stock-based Compensation - We have an employee stock purchase plan (“Purchase Plan”) and a stock option plan (“Stock Plan”).  As permitted under accounting principles generally accepted in the United States of America, we have elected to continue to follow the intrinsic value method in accounting for our stock-based employee compensation arrangements.

 

7

 

The following table illustrates the effect on net income and earnings per share as if we had applied the fair value method to measure stock-based employee compensation:

 

		Three Months Ended						Nine Months Ended
		September 30, 2004			September 27, 2003			September 30, 2004			September 27, 2003
Net income, as reported		$	2,828		$	1,838		$	8,886		$	4,681
Deduct: Total stock-based employee compensation expense determined under fair-value based method for all awards, net of related tax effects		(257		)	(189		)	(765		)	(625		)
Pro forma net income		$	2,571		$	1,649		$	8,121		$	4,056
Earnings per share:
Basic - as reported		$	0.35		$	0.21		$	1.10		$	0.53
Basic - pro forma		$	0.32		$	0.18		$	1.01		$	0.45
Diluted - as reported		$	0.34		$	0.21		$	1.06		$	0.53
Diluted - pro forma		$	0.31		$	0.18		$	0.97		$	0.45

 

We measured the fair value of options on their grant date, including the valuation of the option feature implicit in our Purchase Plan, using the Black-Scholes option-pricing model.  Key assumptions used to apply this pricing model are as follows:

 

		Three Months Ended				Nine Months Ended
		September 30, 2004		September 27, 2003		September 30, 2004		September 27, 2003
Weighted-average interest rates		1.72%		1.60%		1.38%		2.12%
Weighted-average expected life of option feature in the Purchase Plan (in years)		0.92		0.92		0.92		0.92
Weighted-average expected life of option grants (in years)		—		—		—		6
Expected volatility of underlying stock		26%		27%		26%		27%

 

The weighted-average fair value of options on their grant date is as follows:

 

		Three Months Ended								Nine Months Ended
		September 30, 2004				September 27, 2003				September 30, 2004				September 27, 2003
Stock Plan		$	—			$	—			$	—			$	4.77
Option feature in Purchase Plan		$	6.03			$	4.48			$	4.62			$	4.64

 

8

 

It should be noted that the Black-Scholes option-pricing model was designed to value readily tradable options with relatively short lives and no vesting restrictions.  In addition, option valuation models require the input of highly subjective assumptions including the expected price volatility.  Because the options granted are not tradable and have contractual lives of up to ten years, and because changes in the subjective input assumptions can materially affect the fair value estimate, in our opinion, the existing models do not provide a reliable measure of the fair value of the options issued under either the Stock Plan or Purchase Plan.

 

Earnings per Common Share – We compute basic earnings per share using the weighted-average number of common shares outstanding during each period.  Diluted earnings per common share reflects the effect of our outstanding options using the treasury stock method, except when such options would be antidilutive.

 

A reconciliation of the weighted-average shares used for the basic and diluted computations is as follows:

 

		Three Months Ended				Nine Months Ended
		September 30, 2004		September 27, 2003		September 30, 2004		September 27, 2003
Weighted-average shares:
For basic earnings per share		7,998,481		8,930,613		8,055,457		8,914,363
Dilutive effect of stock options		284,017		1,096		330,101		349
For diluted earnings per share		8,282,498		8,931,709		8,385,558		8,914,712

 

All outstanding options were included in the computation of diluted net earnings per common share for the three months and nine months ended September 30, 2004.  Under the Stock Plan, options to purchase 991,800 shares of common stock at prices ranging from $18.55 to $21.94 were outstanding during the three months and nine months ended September 27, 2003 but were not included in the computation of diluted earnings per share because the exercise prices of the options were greater than the average market price of the common shares.

 

Accumulated Other Comprehensive Income/Loss — Accumulated other comprehensive income/loss is comprised of net income, foreign currency translation adjustments, additional minimum pension liabilities, and unrealized holding gains and losses on certain marketable securities.  The components of accumulated other comprehensive loss are as follows:

 

		Foreign Currency Translation Adjustment			Unrealized Holding Gain/(Loss) on Marketable Securities			Tax Impact of Unrealized Holding Gain/(Loss) on Marketable Securities			Additional Minimum Pension Liability			Tax Impact of Additional Minimum Pension Liability			Accumulated Other Comprehensive Loss
December 31, 2003		$	1,226		$	73		$	(29	)	$	(6,853	)	$	2,715		$	(2,868	)
Activity		(416		)	(7		)	2			(208		)	63			(566		)
September 30, 2004		$	810		$	66		$	(27	)	$	(7,061	)	$	2,778		$	(3,434	)

 

New Accounting Pronouncements – In December 2003, the Financial Accounting Standards Board (“FASB”) revised Statement of Financial Accounting Standard (“SFAS”) No. 132, “Employers’ Disclosures

 

9

 

about Pensions and Other Postretirement Benefits.”  SFAS No. 132 requires additional disclosure about the assets, obligations, cash flows, and net periodic benefit cost of defined benefit pension plans and other defined benefit postretirement plans.  This statement also requires disclosure about the types of plan assets, investment strategy, measurement dates, plan obligations, and cash flows.  SFAS No. 132 is effective for fiscal years ending after December 15, 2003. Disclosure of information about foreign plans required by this statement is effective for fiscal years ending after June 15, 2004.  Interim period disclosures for both domestic and foreign plans required by this statement are effective for periods beginning after December 15, 2003, and are included in Note 12.

 

Reclassifications – Certain prior year amounts have been reclassified to conform to the current year presentation.

 

(3)   Acquisitions

 

On August 12, 2004, we acquired substantially all of the assets of G. Leblanc Corporation (“Leblanc”) of Wisconsin, a high-quality band instrument manufacturer.  We have included the results of Leblanc since the date of acquisition in our financial statements.

 

We acquired Leblanc because its complete line of wind instruments and accessories is complementary to our existing product lines, enabling us to gain or strengthen market share in certain instrument categories. Under terms of the asset purchase agreement, the Company provisionally disbursed $37.6 million for the purchase price.  The final purchase price is dependent upon a calculation derived from the closing balance sheet, which when finalized, may result in a recovery of a portion of the initial payment, or may require an additional payment to be made.  At September 30, 2004, the Company recognized an expected recovery of $2.2 million based on preliminary information.  The purchase price allocation has been based on the preliminary determination of $35.4 million as the acquisition cost and has been allocated to acquired assets and assumed liabilities as follows:

 

Inventories		$	21,874
Receivables and other current assets		13,797
Property, plant, and equipment		5,588
Other assets		1,257
Accounts payable and other current liabilities		(7,115		)
		$	35,401

 

10

 

(4)   Inventories

 

		September 30, 2004			December 31, 2003
Raw materials		$	25,163		$	21,268
Work in process		58,015			50,620
Finished goods		93,214			80,141
Total		$	176,392		$	152,029

 

(5)   Goodwill, Trademarks, and Other Intangible Assets

 

We test our goodwill and indefinite lived trademark assets for impairment annually, or on an interim basis if events or circumstances indicate that the fair value of an asset has decreased below its carrying value.  At July 31, 2004 we evaluated such assets and determined that the fair value had not decreased below the carrying value and, accordingly, no impairments have been recognized since we ceased amortization.

 

The changes in net carrying amounts of goodwill and trademarks, which include the impact of the preliminary purchase price allocation associated with the acquisition of certain assets of Leblanc, are as follows:

 

		Piano Segment			Band Segment
Goodwill:
Balance at December 31, 2003		$	23,110		$	8,555
Foreign currency translation impact		(145		)	—
Balance at September 30, 2004		$	22,965		$	8,555
Trademarks:
Balance at December 31, 2003		$	7,648		$	2,671
Additions based on preliminary purchase price allocation to acquired assets		—			183
Foreign currency translation impact		(46		)	—
Balance at September 30, 2004		$	7,602		$	2,854

 

11

 

We also carry certain intangible assets that are amortized.  Once fully amortized, these assets are removed from both the gross and accumulated amortization balance.  These assets consist of the following:

 

		September 30, 2004			December 31, 2003
Gross deferred financing costs		$	8,653		$	9,293
Accumulated amortization		(3,619		)	(3,596		)
Deferred financing costs, net		$	5,034		$	5,697
Gross covenants not to compete		$	750		$	250
Accumulated amortization		(215		)	(165		)
Covenants not to compete, net		$	535		$	85

 

The weighted-average amortization period for deferred financing costs is 9.1 years, and the weighted-average amortization period of covenants not to compete is 5.0 years.  Total amortization expense is as follows:

 

		Three Months Ended						Nine Months Ended
		September 30, 2004			September 27, 2003			September 30, 2004			September 27, 2003
Amortization expense		$	269		$	288		$	815		$	865

 

The following table shows the total estimated amortization expense for 2004 and the next five succeeding fiscal years:

 

Estimated amortization expense:

 

2004		$	1,096
2005		1,101
2006		1,066
2007		1,066
2008		921
2009		528

 

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(6)   Other Current Liabilities

 

		September 30, 2004			December 31, 2003
Accrued payroll and related benefits		$	17,212		$	16,986
Current portion of pension liability		983			2,663
Accrued warranty expense		2,373			2,602
Accrued interest		7,051			2,706
Deferred income		5,290			4,161
Other accrued expenses		13,803			9,994
Total		$	46,712		$	39,112

 

Accrued warranty expense for instruments that have a warranty period ranging from five to ten years is generally recorded at the time of sale.  The warranty cost estimate is based on a percentage of sales and is adjusted periodically following an analysis of actual warranty claim activity.  Accrued warranty expense for instruments that have a warranty period of one year is recorded based on warranty return trends.

 

The accrued warranty expense activity for the nine months ended September 30, 2004 and the year ended December 31, 2003 is as follows:

 

		September 30, 2004			December 31, 2003
Beginning balance		$	2,602		$	2,357
Additions		840			1,361
Claims and reversals		(1,064		)	(1,314		)
Foreign exchange impact		(5		)	198
Ending balance		$	2,373		$	2,602

 

(7)   Long-Term Debt

 

Long-term debt consists of the following:

		September 30, 2004
Term loans		$	42,194
8.75% Senior Notes		174,345
Unamortized bond premium		1,647
Domestic line of credit		18,167
Open account loans, payable on demand to a foreign bank		3,816
Total		240,169
Less current portion		10,427
Long-term debt		$	229,742

 

13

 

Scheduled payments of long-term debt are as follows:

 

		September 30, 2004
Remainder of 2004		$	5,429
2005		7,041
2006		8,204
2007		8,259
2008		35,244
Thereafter		174,345
Total		$	238,522

 

(8)   Stockholders’ Equity

 

Our common stock is comprised of two classes: Class A and Ordinary.  With the exception of disparate voting power, both classes are substantially identical.  Each share of Class A common stock entitles the holder to 98 votes.  Holders of Ordinary common stock are entitled to one vote per share.  Class A common stock shall automatically convert to Ordinary common stock if, at any time, the Class A common stock is not owned by an original Class A holder.  At September 30, 2004 the Chairman and Chief Executive Officer own 100% of the Class A common shares, representing approximately 86% of the combined voting power of the Class A common stock and Ordinary common stock.

 

On February 4, 2004 we purchased 1,271,450 shares of our Ordinary common stock from AIG Retirement Services, Inc. (formerly AIG SunAmerica), our then largest institutional shareholder.  In exchange, we issued $29.0 million in principal amount of our 8.75% Senior Notes due 2011 under our existing indenture.  We issued these bonds at a premium of 106.3%.  This transaction resulted in an increase to our treasury stock of $31.6 million.

 

14

 

(9)           Facility Rationalization Charges – Band Segment

 

In 2003, we began a facility rationalization project to reduce excess manufacturing capacity in our band segment.  As part of this project, we closed our woodwind manufacturing facility in Nogales, Arizona in November 2003.  This facility is currently valued at $1.0 million and is held as an asset available for sale.  In April 2004, we closed one of our woodwind manufacturing facilities in Elkhart, Indiana and transferred that plant’s production to other company-owned facilities. As a result of this closure, we recorded charges of $1.4 million in severance and related expenses through September 30, 2004.  We expect to pay out the remainder of these costs by the end of 2004.

 

The severance liability and related activity associated with the band segment’s facility rationalization project is as follows:

 

Facility rationalization severance liability:
Balance at January 1, 2003		$	—
Additions charged to cost of sales		1,683
Payments		(525		)
Balance January 1, 2004		1,158
Additions charged to cost of sales		1,444
Payments		(2,514		)
Balance at September 30, 2004		$	88

 

(10)         Other Income, Net

 

		Three Months Ended						Nine Months Ended
		September 30, 2004			September 27, 2003			September 30, 2004			September 27, 2003
West 57th building income		$	(1,164	)	$	(1,164	)	$	(3,490	)	$	(3,490	)
West 57th building expenses		813			813			2,441			2,441
Foreign exchange (gains) losses, net		(27		)	(63		)	(110		)	(453		)
Miscellaneous		(428		)	(285		)	(993		)	(530		)
Other income, net		$	(806	)	$	(699	)	$	(2,152	)	$	(2,032	)

 

(11)         Commitments and Contingent Liabilities

 

We are involved in certain legal proceedings regarding environmental matters, which are described below.  Further, in the ordinary course of business, we are party to various legal actions that we believe are routine in nature and incidental to the operation of our business.  While the outcome of such actions cannot be predicted with certainty, we believe that, based on our experience in dealing with these matters, their ultimate resolution will not have a material adverse impact on our business, financial condition, or results of operations.

 

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We operated manufacturing facilities at certain locations where hazardous substances (including chlorinated solvents) were used.  We believe that an entity that formerly operated one such facility may have released hazardous substances at such location, which we leased through July 2001.  We did not contribute to the release.  Further, we have a contractual indemnity from certain stockholders of this entity.  This facility is not the subject of a legal proceeding that involves us, nor, to our knowledge, is the facility subject to investigation.  However, no assurance can be given that legal proceedings will not arise in the future and that such indemnitors would make the payments described in the indemnity.

 

We operate other manufacturing facilities which were previously owned by Philips Electronics North America Corporation (“Philips”).  Philips agreed to indemnify us for any and all losses, damages, liabilities and claims relating to environmental matters resulting from certain activities of Philips occurring prior to December 29, 1988 (the “Environmental Indemnity Agreement”).  Philips has fully performed its obligations under the Environmental Indemnity Agreement, which terminates on December 29, 2008.  Four matters covered by the Environmental Indemnity Agreement are currently pending.  Philips has entered into Consent Orders with the Environmental Protection Agency (“EPA”) for one site and the North Carolina Department of Environment, Health and Natural Resources for a second site, whereby Philips has agreed to pay required response costs.  On October 22, 1998, we were joined as defendant in an action involving a site formerly occupied by a business we acquired in Illinois.  Philips has accepted the defense of this action pursuant to the terms of the Environmental Indemnity Agreement.  For the fourth site, the EPA has notified us it intends to carry out the final remediation itself.  The EPA estimates that this remedy has a present net cost of approximately $14.5 million. The EPA has named over 40 persons or entities as potentially responsible parties at this Elkhart, Indiana site, including four Conn-Selmer predecessor entities.  For two of these entities, which were previously owned by Philips, this matter has been tendered to Philips pursuant to the Environmental Indemnity Agreement.  Our potential liability at any of these sites is affected by several factors including, but not limited to, the method of remediation, our portion of the materials in the site relative to that of the other named parties, the number of parties participating, and the financial capabilities of the other potentially responsible parties once the relative share has been determined.  No assurance can be given, however, that additional environmental issues will not require additional, currently unanticipated investigation, assessment or remediation expenditures or that Philips will make payments that it is obligated to make under the Environmental Indemnity Agreement.

 

We are continuing an existing environmental remediation program at a facility we acquired in 2000.  We currently estimate that this project will take eighteen years to complete, at a total cost of approximately $0.9 million.  We have accrued approximately $0.7 million for the estimated remaining cost of this remediation program, which represents the present value total cost using a discount rate of 4.5%.  A summary of expected payments associated with this project is as follows:

 

		Environmental Payments
2004		$	124
2005		136
2006		46
2007		46
2008		46
Thereafter		516
Total		$	914

 

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