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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE
SECURITIES EXCHANGE ACT OF 1934.
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2005
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934.
COMMISSION FILE NUMBER: 1-4743
STANDARD MOTOR PRODUCTS, INC.
(Exact name of registrant as specified in its charter)
NEW YORK 11-1362020
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
37-18 NORTHERN BLVD., LONG ISLAND CITY, N.Y. 11101
-------------------------------------------- -----
(Address of principal executive offices) (Zip Code)
(718) 392-0200
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(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes |X| No |_|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes |X| No |_|
As of the close of business on April 30, 2005, there were 19,833,728 outstanding
shares of the registrant's Common Stock, par value $2.00 per share.
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STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
INDEX
PART I - FINANCIAL INFORMATION
Page No.
--------
Item 1. Consolidated Financial Statements:
Consolidated Balance Sheets
as of March 31, 2005 (Unaudited) and December 31, 2004.......... 3
Consolidated Statements of Operations and Retained Earnings
(Unaudited) for the Three Months Ended March 31, 2005 and 2004.. 4
Consolidated Statements of Cash Flows (Unaudited)
for the Three Months Ended March 31, 2005 and 2004.............. 5
Notes to Consolidated Financial Statements (Unaudited).......... 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations........................................... 16
Item 3. Quantitative and Qualitative Disclosures about Market Risk...... 23
Item 4. Controls and Procedures......................................... 24
PART II - OTHER INFORMATION
Item 1. Legal Proceedings............................................... 27
Item 5. Other Information............................................... 27
Item 6. Exhibits........................................................ 28
Signature............................................................... 29
2
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except for shares and per share data)
March 31, December 31,
2005 2004
----------- -----------
(Unaudited)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents ............................................. $ 8,795 $ 14,934
Accounts receivable, less allowance for discounts and doubtful
accounts of $9,732 and $9,354 for 2005 and 2004, respectively ..... 198,843 151,352
Inventories ........................................................... 264,571 258,641
Deferred income taxes ................................................. 14,755 14,809
Prepaid expenses and other current assets ............................. 9,887 7,480
---------- ----------
Total current assets .............................................. 496,851 447,216
---------- ----------
Property, plant and equipment, net ........................................... 95,256 97,425
Goodwill and other intangibles, net .......................................... 69,475 69,911
Other assets ................................................................. 41,743 42,017
---------- ----------
Total assets ...................................................... $ 703,325 $ 656,569
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Notes payable ......................................................... $ 146,439 $ 109,416
Current portion of long-term debt ..................................... 534 534
Accounts payable ...................................................... 69,809 46,487
Sundry payables and accrued expenses .................................. 22,046 31,241
Restructuring accrual ................................................. 5,767 6,999
Accrued rebates ....................................................... 21,950 24,210
Accrued customer returns .............................................. 22,607 23,127
Payroll and commissions ............................................... 9,518 10,442
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Total current liabilities ...................................... 298,670 252,456
---------- ----------
Long-term debt ............................................................... 114,101 114,236
Postretirement medical benefits and other accrued liabilities ................ 45,888 44,111
Restructuring accrual ........................................................ 11,301 12,394
Accrued asbestos liabilities ................................................. 25,985 26,060
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Total liabilities .............................................. 495,945 449,257
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Commitments and contingencies (Notes 6, 8, 10 and 12) Stockholders' equity:
Common stock - par value $2.00 per share:
Authorized - 30,000,000 shares; issued 20,486,036 shares ....... 40,972 40,972
Capital in excess of par value ........................................ 57,037 57,424
Retained earnings ..................................................... 119,117 120,218
Accumulated other comprehensive income ................................ 4,633 4,805
Treasury stock - at cost (952,808 and 1,067,308 shares in
2005 and 2004, respectively) ................................... (14,379) (16,107)
---------- ----------
Total stockholders' equity ................................. 207,380 207,312
---------- ----------
Total liabilities and stockholders' equity ................. $ 703,325 $ 656,569
========== ==========
See accompanying notes to consolidated financial statements.
3
STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND RETAINED EARNINGS
(In thousands, except for shares and per share data)
Three Months Ended
March 31,
----------------------------
(Unaudited)
2005 2004
---- ----
Net sales ....................................................... $ 207,326 $ 204,781
Cost of sales ................................................... 158,891 153,821
------------ ------------
Gross profit ............................................... 48,435 50,960
Selling, general and administrative expenses .................... 42,076 47,328
Restructuring expenses .......................................... 524 1,367
------------ ------------
Operating income ........................................... 5,835 2,265
Other income (expense), net ..................................... (215) 243
Interest expense ................................................ 3,775 3,234
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Earnings (loss) from continuing operations before taxes .... 1,845 (726)
Provision (benefit) for income tax ............................. 792 (181)
------------ ------------
Earnings (loss) from continuing operations ................. 1,053 (545)
Loss from discontinued operation, net of tax .................... (407) (425)
Net earnings (loss) ........................................ 646 (970)
Retained earnings at beginning of period ........................ 120,218 141,553
------------ ------------
120,864 140,583
Less: cash dividends for period ................................. 1,747 1,729
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Retained earnings at end of period .............................. $ 119,117 $ 138,854
============ ============
PER SHARE DATA:
Net earnings (loss) per common share - Basic:
Earnings (loss) from continuing operations ................. $ 0.05 $ (0.03)
Discontinued operation ..................................... (0.02) (0.02)
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Net earnings (loss) per common share - Basic .................... $ 0.03 $ (0.05)
============ ============
Net earnings (loss) per common share - Diluted:
Earnings (loss) from continuing operations ................. $ 0.05 $ (0.03)
Discontinued operation ..................................... (0.02) (0.02)
------------ ------------
Net earnings (loss) per common share - Diluted .................. $ 0.03 $ (0.05)
============ ============
Average number of common shares ................................. 19,440,356 19,233,543
============ ============
Average number of common shares and dilutive common shares ...... 19,478,064 19,233,543
============ ============
See accompanying notes to consolidated financial statements.
4
STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
For the Three Months Ended
March 31,
--------------------------
2005 2004
---- ----
(Unaudited)
CASH FLOW FROM OPERATING ACTIVITIES
Net earnings (loss) .......................................................... $ 646 $ (970)
Adjustments to reconcile net earnings (loss) to net operating activities:
Depreciation and amortization .............................................. 4,384 4,574
Loss on disposal of property, plant and equipment .......................... -- 7
Equity income from joint ventures .......................................... (8) (100)
Employee stock ownership plan allocation ................................... 335 411
Loss from discontinued operation ........................................... 407 425
Change in assets and liabilities, net of effects from acquisitions:
Increase in accounts receivable, net ....................................... (47,491) (35,851)
(Increase) decrease in inventories ......................................... (5,930) 2,045
Increase in prepaid expenses and other current assets ...................... (1,346) (2,120)
Decrease in other assets ................................................... 234 1,285
Increase in accounts payable ............................................... 19,991 2,818
Decrease in sundry payables and accrued expenses ........................... (11,455) (1,933)
Decrease in restructuring accrual .......................................... (2,325) (2,225)
Increase (decrease) in other liabilities ................................... 70 (1,818)
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Net cash used in operating activities ................................. (42,488) (33,452)
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CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from the sale of property, plant and equipment .................... -- 50
Capital expenditures, net of effects from acquisitions ..................... (1,873) (1,964)
Payments for acquisitions, net of cash acquired ............................ -- (984)
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Net cash used in investing activities ................................. (1,873) (2,898)
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CASH FLOWS FROM FINANCING ACTIVITIES
Net borrowings under line-of-credit agreements ............................. 37,023 27,047
Principal payments and retirement of long term debt ........................ (135) (236)
Increase in overdraft balances ............................................. 3,331 9,554
Dividends paid ............................................................. (1,747) (1,729)
Proceeds from exercise of employee stock options ........................... -- 192
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Net cash provided by financing activities ............................. 38,472 34,828
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Effect of exchange rate changes on cash ...................................... (250) (245)
---------- ----------
Net decrease in cash and cash equivalents .................................... (6,139) (1,767)
CASH AND CASH EQUIVALENTS AT BEGINNING OF THE PERIOD ......................... 14,934 19,647
---------- ----------
CASH AND CASH EQUIVALENTS AT END OF THE PERIOD ............................... $ 8,795 $ 17,880
========== ==========
Supplemental disclosure of cash flow information Cash paid during the
period for:
Interest ................................................................ $ 5,472 $ 4,784
========== ==========
Income Taxes ............................................................ $ 1,563 $ 612
========== ==========
See accompanying notes to consolidated financial statements.
5
STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
NOTE 1. BASIS OF PRESENTATION
Standard Motor Products, Inc. (referred to hereinafter in these notes to
consolidated financial statements as the "Company," "we," "us," or "our") is
engaged in the manufacture and distribution of replacement parts for motor
vehicles in the automotive aftermarket industry.
The accompanying unaudited financial information should be read in conjunction
with the audited consolidated financial statements and the notes thereto
included in our Annual Report on Form 10-K for the year ended December 31, 2004.
The unaudited consolidated financial statements include our accounts and all
domestic and international companies in which we have more than a 50% equity
ownership. Our investments in unconsolidated affiliates are accounted for on the
equity method. All significant inter-company items have been eliminated.
The accompanying unaudited consolidated financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring adjustments) considered necessary for a fair presentation
have been included. The results of operations for the interim periods are not
necessarily indicative of the results of operations for the entire year.
Where appropriate, certain amounts in 2004 have been reclassified to conform
with the 2005 presentation.
NOTE 2. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
SHARE-BASED PAYMENT
In December 2004, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 123R, "Share-Based
Payment" ("SFAS 123R"). SFAS 123R is a revision to SFAS No. 123, "Accounting for
Stock-Based Compensation" and supercedes Accounting Principles Board ("APB")
Opinion No. 25, "Accounting for Stock Issued to Employees." SFAS 123R
establishes standards for the accounting for transactions in which an entity
exchanges its equity instruments for goods or services, primarily focusing on
the accounting for transactions in which an entity obtains employee services in
share-based payment transactions. Entities will be required to measure the cost
of employee services received in exchange for an award of equity instruments
based on the grant-date fair value of the award (with limited exceptions). That
cost will be recognized over the period during which an employee is required to
provide service, the requisite service period (usually the vesting period), in
exchange for the award. The grant-date fair value of employee share options and
similar instruments will be estimated using option-pricing models. If an equity
award is modified after the grant date, incremental compensation cost will be
recognized in an amount equal to the excess of the fair value of the modified
award over the fair value of the original award immediately before the
modification. SFAS 123R is effective for interim and annual financial statements
beginning after June 15, 2005 and will apply to all outstanding and unvested
share-based payments at the time of adoption. On April 14, 2005, the SEC adopted
a rule amendment that delayed the compliance dates for SFAS 123R such that we
are now allowed to adopt the new standard no later than January 1, 2006. The
Company is currently evaluating the impact SFAS 123R will have on its
consolidated financial statements and will adopt such standard as required.
6
STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
NOTE 3. RESTRUCTURING AND INTEGRATION COSTS
RESTRUCTURING COSTS
In connection with the acquisition of substantially all of the assets and the
assumption of substantially all of the operating liabilities of Dana
Corporation's Engine Management Group ("DEM"), we have reviewed our operations
and implemented integration plans to restructure the operations of DEM. We
announced in a press release on July 8, 2003 that we will close seven DEM
facilities, and we have subsequently ceased operations in all of these
facilities. As part of the integration and restructuring plans, we accrued an
initial restructuring liability of approximately $34.7 million at June 30, 2003
(subsequently reduced to $33.7 million during 2003). Such amounts were
recognized as liabilities assumed in the acquisition and included in the
allocation of the costs to acquire DEM. Accordingly, such amounts resulted in
additional goodwill being recorded in connection with the acquisition.
Of the total restructuring accrual, approximately $15.7 million related to work
force reductions and represented employee termination benefits. The accrual
amount primarily provides for severance costs relating to the involuntary
termination of DEM employees, individually employed throughout DEM's facilities
across a broad range of functions, including managerial, professional, clerical,
manufacturing and factory positions. During the year ended December 31, 2004 and
the three months ended March 31, 2005, termination benefits of $9.4 million and
$1.1 million, respectively, have been charged to the restructuring accrual. As
of March 31, 2005, the reserve balance was at $3.1 million. We expect to pay
$2.8 million in 2005 for work force reductions.
The restructuring accrual also includes approximately $18.0 million associated
with exiting certain activities, primarily related to lease and contract
termination costs, which will not have future benefits. Specifically, our plans
are to consolidate certain of DEM operations into our existing plants. At March
31, 2005, seven facilities have ceased operating activities for which we have
lease commitments through 2021. Exit costs of $1.2 million were paid as of March
31, 2005 leaving a reserve balance at $14.0 million as of March 31, 2005.
Selected information relating to the remaining restructuring costs is as follows
(in thousands):
Workforce Other
Reduction Exit Costs Totals
-----------------------------------
Restructuring liability at December 31, 2004 ....... $ 4,250 $ 15,143 $ 19,393
Cash payments during first three months of 2005 .... 1,149 1,176 2,325
-------- -------- --------
Restructuring liability as of March 31, 2005 ....... $ 3,101 $ 13,967 $ 17,068
======== ======== ========
INTEGRATION EXPENSES
During the first quarter of 2005 and 2004, we incurred $524,000 and $1.4
million, respectively, of costs related primarily to the DEM integration. These
costs primarily related to equipment and inventory move costs, employee stay
bonuses and other facility consolidation costs.
NOTE 4. CHANGE IN ACCOUNTING PRINCIPLE
ACCOUNTING FOR NEW CUSTOMER ACQUISITION COSTS
New customer acquisition costs refer to arrangements pursuant to which we incur
change over costs to induce a new or existing customer to switch from a
competitor's brand. In addition, change over costs include the costs related to
removing the new customer's inventory and replacing it with Standard Motor
Products inventory commonly referred to as a stocklift. New customer acquisition
costs were initially
7
STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
recorded as a prepaid asset and the related expense was recognized ratably over
a 12-month period beginning in the month following the stocklift as an offset to
sales. In the fourth quarter of 2004, we determined that it was a preferable
accounting method to reflect the customer acquisition costs as a reduction to
revenue when incurred. In accordance with APB No. 20, "Accounting Changes" and
FAS No. 3, the change in accounting for new customer acquisition costs effective
as of October 1, 2004 is reflected in the following unaudited quarterly 2004
results as if the change had occurred on January 1, 2004 with the quarterly
results for the first quarter of 2004 restated as if the new policy had been in
effect throughout 2004 (in thousands, except per share data):
1st Quarter
(Restated)
(Unaudited)
-----------
2004
Net sales, as reported ................................ $ 204,781
Cumulative effect at January 1, 2004 .................. (2,605)
Effect of change in accounting for new customer
acquisition costs, net of tax effects .............. 148
New sales, as adjusted ................................ 202,324
Net loss, as reported ................................. (970)
Cumulative effect at January 1, 2004, net of tax
effects ............................................ (1,564)
Effect of change in accounting for new customer
acquisition costs, net of tax effects .............. 89
Net loss, as adjusted ................................. (2,445)
Basic net loss per share, as reported ................. (0.05)
Cumulative effect at January 1, 2004, net of tax
effects ............................................ (0.08)
Effect of change in accounting for new customer
acquisition costs, net of tax effects .............. --
Basic net loss per share, as adjusted ................. (0.13)
Diluted net loss per share, as reported ............... (0.05)
Cumulative effect at January 1, 2004, net of tax
effects ............................................ (0.08)
Effect of change in accounting for new customer
acquisition costs, net of tax effects .............. --
Diluted net loss per share, as adjusted ............... (0.13)
NOTE 5. INVENTORIES
March 31, December 31,
2005 2004
(unaudited)
-------------------------
(in thousands)
Finished goods, net .................... $195,074 $192,017
Work in process, net ................... 4,505 4,691
Raw materials, net ..................... 64,992 61,933
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Total inventories, net ............. $264,571 $258,641
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8
STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
NOTE 6. CREDIT FACILITIES AND LONG-TERM DEBT
Effective April 27, 2001, we entered into an agreement with General Electric
Capital Corporation, as agent, and a syndicate of lenders for a secured
revolving credit facility. The term of the credit agreement was for a period of
five years and provided for a line of credit up to $225 million.
Effective June 30, 2003, in connection with our acquisition of DEM, we amended
and restated our credit agreement to provide for an additional $80 million
commitment. This additional commitment increases the total amount available for
borrowing under the revolving credit facility to $305 million from $225 million,
and extends the term of the credit agreement from 2006 to 2008. Availability
under our revolving credit facility is based on a formula of eligible accounts
receivable, eligible inventory and eligible fixed assets, which includes the
purchased assets of DEM. After taking into effect outstanding borrowings under
the revolving credit facility, there was an addition $74.1 million available for
us to borrow pursuant to the formula at March 31, 2005. Our credit agreement
also permits dividends and distributions by us provided specific conditions are
met.
At December 31, 2004 and March 31, 2005, the interest rate on the Company's
revolving credit facility was 4.4% and 4.7%, respectively. Direct borrowings
under our revolving credit facility bear interest at the prime rate plus the
applicable margin (as defined) or the LIBOR rate plus the applicable margin (as
defined), at our option. Outstanding borrowings under the revolving credit
facility, classified as current liabilities, were $103.6 million and $139.3
million at December 31, 2004 and March 31, 2005, respectively. The Company
maintains cash management systems in compliance with its credit agreements. Such
systems require the establishment of lock boxes linked to blocked accounts
whereby cash receipts are channeled to various banks to insure pay-down of debt.
Agreements also classify such accounts and the cash therein as additional
security for loans and other obligations to the credit providers. Borrowings are
collateralized by substantially all of our assets, including accounts
receivable, inventory and fixed assets, and those of our domestic and Canadian
subsidiaries. The terms of our revolving credit facility provide for, among
other provisions, financial covenants requiring us, on a consolidated basis, (1)
to maintain specified levels of earnings before interest, taxes, depreciation
and amortization (EBITDA), as defined in the credit agreement, at the end of
each fiscal quarter through December 31, 2004, (2) commencing September 30,
2004, to maintain specified levels of fixed charge coverage at the end of each
fiscal quarter (rolling twelve months) through 2007, and (3) to limit capital
expenditure levels for each fiscal year through 2007. We subsequently received a
waiver of compliance with the EBITDA covenant for the fiscal quarters ending
September 30, 2004 and December 31, 2004, and received a waiver of compliance
with the fixed charge coverage ratio for the quarter ended December 31, 2004.
In March 2005, we amended our revolving credit facility to provide, among other
things, for the following: (1) borrowings of the Company are no longer
collateralized by the assets, including accounts receivable, inventory and fixed
assets, of our Canadian subsidiary; (2) the specified levels of fixed charge
coverage has been modified for 2005 and thereafter; (3) our Canadian subsidiary
was released from its obligations under a guaranty and security agreement; and
(4) the Company's pledge of stock of its Canadian subsidiary to the lenders was
reduced from a 100% to a 65% pledge of stock.
At March 31, 2005, we were not in compliance with the minimum fixed charge
coverage ratio contained in our revolving credit facility. However, we received
a waiver of compliance of such covenant for the quarter ended March 31, 2005.
The waiver was part of an amendment to our revolving credit facility, which
provided, among other things, for the following: (1) the specified levels of
fixed charge coverage has been modified for the remainder of 2005 and
thereafter; and (2) there is a limit on our ability to redeem drafts prior to
the maturity date thereof under our customer draft programs.
In addition, a foreign subsidiary of the Company has a revolving credit
facility. The amount of short-term bank borrowings outstanding under this
facility was $5.8 million and $7.1 million at December 31, 2004
9
STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
and March 31, 2005, respectively. The weighted average interest rates on these
borrowings at December 31, 2004 and March 31, 2005 were 6.9% and 7.3%,
respectively.
On July 26, 1999, we completed a public offering of convertible subordinated
debentures amounting to $90 million. The convertible debentures carry an
interest rate of 6.75%, payable semi-annually, and will mature on July 15, 2009.
The convertible debentures are convertible into 2,796,120 shares of our common
stock at the option of the holder. We may, at our option, redeem some or all of
the convertible debentures at any time on or after July 15, 2004, for a
redemption price equal to the issuance price plus accrued interest. In addition,
if a change in control, as defined in the agreement, occurs at the Company, we
will be required to make an offer to purchase the convertible debentures at a
purchase price equal to 101% of their aggregate principal amount, plus accrued
interest. The convertible debentures are subordinated in right of payment to all
of the Company's existing and future senior indebtedness.
In connection with our acquisition of DEM, we issued to Dana Corporation an
unsecured subordinated promissory note in the aggregate principal amount of
approximately $15.1 million. The promissory note bears an interest rate of 9%
per annum for the first year, with such interest rate increasing by one-half of
a percentage point (0.5%) on each anniversary of the date of issuance. Accrued
and unpaid interest is due quarterly under the promissory note. The maturity
date of the promissory note is five and a half years from the date of issuance.
The promissory note may be prepaid in whole or in part at any time without
penalty.
On June 27, 2003, we borrowed $10 million under a mortgage loan agreement. The
loan is payable in monthly installments. The loan bears interest at a fixed rate
of 5.50% maturing in July 2018. The mortgage loan is secured by a building and
related property.
Long-term debt consists of (in thousands):
December 31,
---------------------
2005 2004
---- ----
6.75% convertible subordinated debentures ............ $ 90,000 $ 90,000
Unsecured promissory note ............................ 15,125 15,125
Mortgage loan ........................................ 9,265 9,381
Other ................................................ 245 264
-------- --------
114,635 114,770
Less current portion ................................. 534 534
-------- --------
Total non-current portion of long-term debt ..... $114,101 $114,236
======== ========
Maturities of long-term debt during the five years ending December 31, 2005
through 2009 are $0.5 million, $0.6 million, $0.6 million, $15.7 million and
$90.6 million, respectively.
The Company had deferred financing cost in other assets of $5.2 million and $4.9
million as of December 31, 2004 and March 31, 2005, respectively. These costs
are related to the Company's revolving credit facility, the convertible
subordinated debentures and a mortgage loan agreement, and these costs are being
amortized over three to eight years.
10
STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
NOTE 7. COMPREHENSIVE INCOME (LOSS)
Comprehensive income (loss), net of income tax expense is as follows (in
thousands):
Three Months Ended
March 31,
------------------
2005 2004
---- ----
Net earnings (loss) as reported ..................... $ 646 $ (970)
Foreign currency translation adjustments ............ (393) (166)
Minimum pension liability adjustment ................ 71 --
Change in fair value of interest rate swap agreements 150 (71)
----- -------
Total comprehensive earnings (loss), net of taxes ... $ 474 $(1,207)
===== =======
Accumulated other comprehensive income is comprised of the following (in
thousands):
March 31, December 31,
2005 2004
-----------------------
Foreign currency translation adjustments ... $ 7,629 $ 8,022
Unrealized loss on interest rate swap
agreement, net of tax ................. 422 272
Minimum pension liability, net of tax ...... (3,418) (3,489)
------- -------
Total accumulated other comprehensive income $ 4,633 $ 4,805
======= =======
NOTE 8. STOCK-BASED COMPENSATION PLAN
Under SFAS No. 123, "Accounting for Stock-Based Compensation," we account for
stock-based compensation using the intrinsic value method in accordance with APB
Opinion No. 25, "Accounting for Stock Issued to Employees," and related
interpretations. Stock options granted are exercisable at prices equal to the
fair market value or greater of our common stock on the dates the options were
granted; therefore, no compensation cost has been recognized for any stock
options granted. There were no stock options granted during the three months
ended March 31, 2005 and 2004. If we accounted for stock-based compensation
using the fair value method of SFAS, as amended by Statement No. 148, the effect
on net earnings (loss) and basic and diluted earnings (loss) per share would
have been as follows (in thousands, except per share amounts):
Three Months Ended
March 31,
------------------------
2005 2004
---- ----
Net earnings (loss) as reported .................. $ 646 $ (970)
Less: Total stock-based employee compensation
expense determined under fair value method
for all awards, net of related tax effects .. (129) (65)
---------- ----------
Pro forma net earnings (loss) .................... $ 517 $ (1,035)
========== ==========
Earnings (loss) per share:
Basic - as reported .......................... $ 0.03 $ (0.05)
========== ==========
Basic - pro forma ............................ $ 0.03 $ (0.05)
========== ==========
Diluted - as reported ........................ $ 0.03 $ (0.05)
========== ==========
Diluted - pro forma .......................... $ 0.03 $ (0.05)
========== ==========
11
STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
At March 31, 2005, under our stock option plans there were an aggregate of (a)
1,434,785 shares of common stock authorized for grants, (b) 1,128,535 shares of
common stock granted, and (c) 306,250 shares of common stock available for
future grants.
In December 2004, the FASB issued SFAS No. 123R, "Share-Based Payment." SFAS
123R requires companies to expense the value of employee stock options and
similar awards. SFAS 123R is effective for interim and annual financial
statements beginning after June 15, 2005 and will apply to all outstanding and
unvested share-based payments at the time of adoption. On April 14, 2005, the
SEC adopted a rule amendment that delayed the compliance dates for SFAS 123R
such that we are now allowed to adopt the new standard no later than January 1,
2006. The Company is currently evaluating the impact SFAS 123R will have on its
consolidated financial statements and will adopt such standard as required.
NOTE 9. EARNINGS PER SHARE
The following are reconciliations of the earnings available to common
stockholders and the shares used in calculating basic and dilutive net earnings
per common share (in thousands, except share amounts):
Three Months Ended
March 31,
-----------------------------
2005 2004
---- ----
Earnings (loss) from continuing operations $ 1,053 $ (545)
Loss from discontinued operations ........ (407) (425)
------------ ------------
Net earnings (loss) available to
common stockholders .................. $ 646 $ (970)
============ ============
Weighted average common shares
outstanding - basic .................. 19,440,356 19,233,543
Dilutive effect of stock options ......... 37,708 --
------------ ------------
Weighted average common shares
outstanding - diluted ................ 19, 478,064 19,233,543
============ ============
The shares listed below were not included in the computation of diluted earnings
(loss) per share because to do so would have been anti-dilutive for the periods
presented.
Three Months Ended
March 31,
-----------------------------
2005 2004
---- ----
Stock options 897,043 681,473
Convertible debentures 2,796,120 2,796,120
NOTE 10. EMPLOYEE BENEFITS
In 2000, we created an employee benefits trust to which we contributed 750,000
shares of treasury stock to the trust. We are authorized to instruct the
trustees to distribute such shares toward the satisfaction of our future
obligations under employee benefit plans. The shares held in trust are not
considered outstanding for purposes of calculating earnings per share until they
are committed to be released. The trustees will vote the shares in accordance
with their fiduciary duties. During the first quarter of 2005, we committed
114,500 shares to be released leaving 300,500 shares remaining in the trust.
12
STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
In August 1994, we established an unfunded Supplemental Executive Retirement
Plan (SERP) for key employees. Under the plan, these employees may elect to
defer a portion of their compensation and, in addition, we may at our discretion
make contributions to the plan on behalf of the employees. During March 2005,
contributions were $79,000 for calendar year 2004.
In October 2001, we adopted a second unfunded SERP. The SERP is a defined
benefit plan pursuant to which we will pay supplemental pension benefits to
certain key employees upon retirement based upon the employees' years of service
and compensation. We use a January 1 measurement date for this plan.
We provide certain medical and dental care benefits to eligible retired
employees. Our current policy is to fund the cost of the health care plans on a
pay-as-you-go basis.
The components of net period benefit cost for the three months ended March 31 of
our US and UK deferred benefit plans are as follows (in thousands):
Pension Benefits Postretirement Benefits
------------------------------------------
2005 2004 2005 2004
------ ------ ------ ------
Service cost ........................ $ 130 $ 113 $ 910 $ 871
Interest cost ....................... 131 80 549 455
Amortization of prior service cost .. 40 28 31 31
Actuarial net loss .................. 5 37 1 20
Amortization of unrecognized loss ... -- -- 1 --
------ ------ ------ ------
Net periodic benefit cost ........... $ 306 $ 258 $1,492 $1,377
====== ====== ====== ======
NOTE 11. INDUSTRY SEGMENTS
Our three reportable operating segments are Engine Management, Temperature
Control and Europe.
Three Months Ended March 31,
-------------------------------------------------
2005 2004
-------------------------------------------------
OPERATING OPERATING
INCOME INCOME
NET SALES (LOSS) NET SALES (LOSS)
--------- --------- --------- ---------
(in thousands)
Engine Management ....... $140,441 $ 10,080 $141,665 $ 9,093
Temperature Control ..... 53,562 1,557 51,194 (1,168)
Europe .................. 10,945 (479) 10,269 (221)
All Other ............... 2,378 (5,323) 1,653 (5,439)
-------- -------- -------- --------
Consolidated ............ $207,326 $ 5,835 $204,781 $ 2,265
======== ======== ======== ========
NOTE 12. COMMITMENTS AND CONTINGENCIES
In 1986, we acquired a brake business, which we subsequently sold in March 1998
and which is accounted for as a discontinued operation. When we originally
acquired this brake business, we assumed future liabilities relating to any
alleged exposure to asbestos-containing products manufactured by the seller of
the acquired brake business. In accordance with the related purchase agreement,
we agreed to assume the liabilities for all new claims filed on or after
September 1, 2001. Our ultimate exposure will depend upon the number of claims
filed against us on or after September 1, 2001 and the amounts paid for
indemnity and defense thereof. At December 31, 2001, approximately 100 cases
were outstanding for which we were responsible for any related liabilities. At
December 31, 2002, the number of cases outstanding for which we were responsible
for related liabilities increased to approximately 2,500, which include
approximately 1,600 cases filed in December 2002 in Mississippi. We believe that
these
13
STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
Mississippi cases filed against us in December 2002 were due in large part to
potential plaintiffs accelerating the filing of their claims prior to the
effective date of Mississippi's tort reform statue in January 2003, which
statute eliminated the ability of plaintiffs to file consolidated cases. At
December 31, 2004 and March 31, 2005, approximately 3,700 cases and 3,780 cases,
respectively, were outstanding for which we were responsible for any related
liabilities. We expect the outstanding cases to increase gradually due to recent
legislation in certain states mandating minimum medical criteria before a case
can be heard. Since inception in September 2001, the amounts paid for settled
claims are $2.4 million. We do not have insurance coverage for the defense and
indemnity costs associated with these claims.
In evaluating our potential asbestos-related liability, we have considered
various factors including, among other things, an actuarial study performed by a
leading actuarial firm with expertise in assessing asbestos-related liabilities,
our settlement amounts and whether there are any co-defendants, the jurisdiction
in which lawsuits are filed, and the status and results of settlement
discussions. Actuarial consultants with experience in assessing asbestos-related
liabilities completed a study in September 2002 to estimate our potential claim
liability. The methodology used to project asbestos-related liabilities and
costs in the study considered: (1) historical data available from publicly
available studies; (2) an analysis of our recent claims history to estimate
likely filing rates for the remainder of 2002 through 2052; (3) an analysis of
our currently pending claims; and (4) an analysis of our settlements to date in
order to develop average settlement values. Based upon all the information
considered by the actuarial firm, the actuarial study estimated an undiscounted
liability for settlement payments, excluding legal costs, ranging from $27.3
million to $58 million for the period through 2052. Accordingly, based on the
information contained in the actuarial study and all other available information
considered by us, we recorded an after tax charge of $16.9 million as a loss
from discontinued operation during the third quarter of 2002 to reflect such
liability, excluding legal costs. We concluded that no amount within the range
of settlement payments was more likely than any other and, therefore, recorded
the low end of the range as the liability associated with future settlement
payments through 2052 in our consolidated financial statements, in accordance
with generally accepted accounting principles.
As is our accounting policy, we update the actuarial study during the third
quarter of each year. The most recent update to the actuarial study was
performed as of August 31, 2004 using methodologies consistent with the
September 2002 study. The updated study has estimated an undiscounted liability
for settlement payments, excluding legal costs, ranging from $28 to $63 million
for the period through 2049. The change from the prior year study was a $1.5
million increase for the low end of the range and a $7.9 million decrease for
the high end of the range. As a result, in September 2004, an incremental $3
million provision was added to the asbestos accrual increasing the reserve to
approximately $28.2 million. Legal costs, which are expensed as incurred, are
estimated to range from $22 to $27 million during the same period.
We plan on performing a similar annual actuarial analysis during the third
quarter of each year for the foreseeable future. Given the uncertainties
associated with projecting such matters into the future, the short period of
time that we have been responsible for defending these claims, and other factors
outside our control, we can give no assurance that additional provisions will
not be required. Management will continue to monitor the circumstances
surrounding these potential liabilities in determining whether additional
provisions may be necessary. At the present time, however, we do not believe
that any additional provisions would be reasonably likely to have a material
adverse effect on our liquidity or consolidated financial position.
On November 30, 2004, we were served with a summons and complaint in the U.S.
District Court for the Southern District of New York by The Coalition For A
Level Playing Field, which is an organization comprised of a large number of
auto parts retailers. The complaint alleges antitrust violations by the Company
and a number of other auto parts manufacturers and retailers and seeks
injunctive relief and unspecified monetary damages. The Company is in the
process of preparing its answer to the complaint.
14
STANDARD MOTOR PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
Although we cannot predict the ultimate outcome of this case or estimate the
range of any potential loss that may be incurred in the litigation, we believe
that the lawsuit is without merit, strenuously deny all of the plaintiff's
allegations of wrongdoing and believe we have meritorious defenses to the
plaintiff's claims. We intend to defend vigorously this lawsuit.
We are involved in various other litigation and product liability matters
arising in the ordinary course of business. Although the final outcome of any
asbestos-related matters or any other litigation or product liability matter
cannot be determined, based on our understanding and evaluation of the relevant
facts and circumstances, it is our opinion that the final outcome of these
matters will not have a material adverse effect on our business, financial
condition or results of operations.
We generally warrant our products against certain manufacturing and other
defects. These product warranties are provided for specific periods of time of
the product depending on the nature of the product. As of March 31, 2005 and
2004, we have accrued $13.0 million and $14.7 million, respectively, for
estimated product warranty claims included in accrued customer returns. The
accrued product warranty costs are based primarily on historical experience of
actual warranty claims. Warranty expense for the three months ended March 31,
2005 and 2004 were $11.1 million and $12.1 million, respectively.
The following table provides the changes in our product warranties (in
thousands):
Three Months Ended
March 31,
-------------------------
2005 2004
---- ----
Balance, beginning of period ..................... $ 13,194 $ 13,987
Liabilities accrued for current year sales ....... 11,127 12,064
Settlements of warranty claims ................... (11,339) (11,313)
---------- ----------
Balance, end of period ........................... $ 12,982 $ 14,738
========== ==========
15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THIS REPORT CONTAINS HISTORICAL INFORMATION AND FORWARD-LOOKING STATEMENTS.
FORWARD-LOOKING STATEMENTS IN THIS REPORT ARE INDICATED BY WORDS SUCH AS
"ANTICIPATES," "EXPECTS," "BELIEVES," "INTENDS," "PLANS," "ESTIMATES,"
"PROJECTS" AND SIMILAR EXPRESSIONS. THESE STATEMENTS REPRESENT OUR EXPECTATIONS
BASED ON CURRENT INFORMATION AND ASSUMPTIONS AND ARE INHERENTLY SUBJECT TO RISKS
AND UNCERTAINTIES. OUR ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE WHICH
ARE ANTICIPATED OR PROJECTED AS A RESULT OF CERTAIN RISKS AND UNCERTAINTIES,
INCLUDING, BUT NOT LIMITED TO, ECONOMIC AND MARKET CONDITIONS; THE PERFORMANCE
OF THE AFTERMARKET SECTOR; CHANGES IN BUSINESS RELATIONSHIPS WITH OUR MAJOR
CUSTOMERS AND IN THE TIMING, SIZE AND CONTINUATION OF OUR CUSTOMERS' PROGRAMS;
THE ABILITY OF OUR CUSTOMERS TO ACHIEVE THEIR PROJECTED SALES; COMPETITIVE
PRODUCT AND PRICING PRESSURES; INCREASES IN PRODUCTION OR MATERIAL COSTS THAT
CANNOT BE RECOUPED IN PRODUCT PRICING; SUCCESSFUL INTEGRATION OF ACQUIRED
BUSINESSES; PRODUCT LIABILITY MATTERS (INCLUDING, WITHOUT LIMITATION, THOSE
RELATED TO ESTIMATES TO ASBESTOS-RELATED CONTINGENT LIABILITIES); AS WELL AS
OTHER RISKS AND UNCERTAINTIES, SUCH AS THOSE DESCRIBED UNDER QUANTITATIVE AND
QUALITATIVE DISCLOSURES ABOUT MARKET RISK AND THOSE DETAILED HEREIN AND FROM
TIME TO TIME IN THE FILINGS OF THE COMPANY WITH THE SECURITIES AND EXCHANGE
COMMISSION. THOSE FORWARD-LOOKING STATEMENTS ARE MADE ONLY AS OF THE DATE
HEREOF, AND THE COMPANY UNDERTAKES NO OBLIGATION TO UPDATE OR REVISE THE
FORWARD-LOOKING STATEMENTS, WHETHER AS A RESULT OF NEW INFORMATION, FUTURE
EVENTS OR OTHERWISE. IN ADDITION, HISTORICAL INFORMATION SHOULD NOT BE
CONSIDERED AS AN INDICATOR OF FUTURE PERFORMANCE. THE FOLLOWING DISCUSSION
SHOULD BE READ IN CONJUNCTION WITH THE UNAUDITED CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS, INCLUDING THE NOTES THERETO, INCLUDED ELSEWHERE IN THIS
REPORT.
BUSINESS OVERVIEW
We are a leading independent manufacturer and distributor of replacement parts
for motor vehicles in the automotive aftermarket industry. We are organized into
two major operating segments, each of which focuses on a specific segment of
replacement parts. Our Engine Management Segment manufactures ignition and
emission parts, on-board computers, ignition wires, battery cables and fuel
system parts. Our Temperature Control Segment manufactures and remanufactures
air conditioning compressors, and other air conditioning and heating parts. We
sell our products primarily in the United States, Canada and Latin America. We
also sell our products in Europe through our European Segment.
As part of our efforts to grow our business, as well as to achieve increased
production and distribution efficiencies, on June 30, 2003 we completed the
acquisition of substantially all of the assets and assumed substantially all of
the operating liabilities of Dana Corporation's Engine Management Group
(subsequently referred to as "DEM"). Prior to the sale, DEM was a leading
manufacturer of aftermarket parts in the automotive industry focused exclusively
on engine management. Our plan was to restructure and to integrate the DEM
business into our existing Engine Management Business, which we have
substantially accomplished.
Under the terms of the acquisition, we paid Dana Corporation $93.2 million in
cash, issued an unsecured promissory note of $15.1 million, and issued 1,378,760
shares of our common stock valued at $15.1 million. Including transaction costs,
our total purchase price was approximately $130.5 million.
In connection with the acquisition, we have reviewed our operations and
implemented integration plans to restructure the operations of DEM. As part of
the integration and restructuring plans, we closed seven of the nine acquired
DEM facilities, and we estimated total restructuring costs of $33.7 million.
Such amounts were recognized as liabilities assumed in the acquisition and
included in the allocation of the cost to acquire DEM.
Based on our most recent estimates of the total restructuring costs,
approximately $15.7 million relates to work force reductions and employee
termination benefits. This amount primarily represents severance costs relating
to the involuntary termination of DEM employees individually employed throughout
DEM facilities across a broad range of functions, including managerial,
professional, clerical, manufacturing and factory positions. As of March 31,
2005, the reserve balance was at $3.1 million, and we expect to
16
pay $2.8 million in 2005 for work force reductions. Termination benefits of $1.1
million were paid in the first quarter of 2005. The restructuring costs also
include approximately $18.0 million associated with exiting certain activities,
primarily related to lease and contract termination costs. Exit costs of $1.2
million were paid in the first quarter of 2005 leaving the exit reserve balance
at $14.0 million as of March 31, 2005.
The DEM acquisition in 2003 was strategic and continues to be our primary focus
in 2005. The critical goals we established for a successful integration were to
(1) maintain the DEM customer base; (2) reduce excess capacity by closing seven
of the acquired facilities in a 12 to 18 month timeframe; and (3) complete the
transition for $30-35 million of cash outlays in restructuring and integration
costs during this same period. The integration has proceeded on schedule, and
all DEM operations including manufacturing, distribution, MIS, finance, sales
and marketing have been transferred to SMP locations. As planned, we have exited
seven of the acquired nine facilities, and this has been accomplished within our
original time frame of twelve to eighteen months. The integration moves have
been completed within budget, and thus far we have maintained all the DEM
customers.
On February 3, 2004, we acquired inventory from the Canadian distribution
operation of DEM for approximately $1.0 million. We have relocated such
inventory into our distribution facility in Mississauga, Canada.
SEASONALITY. Historically, our operating results have fluctuated by quarter,
with the greatest sales occurring in the second and third quarters of the year
and revenues generally being recognized at the time of shipment. It is in these
quarters that demand for our products is typically the highest, specifically in
the Temperature Control segment of our business. In addition to this
seasonality, the demand for our Temperature Control products during the second
and third quarters of the year may vary significantly with the summer weather.
For example, a cool summer may lessen the demand for our Temperature Control
products, while a hot summer may increase such demand. As a result of this
seasonality and variability in demand of our Temperature Control products, our
working capital requirements peak near the end of the second quarter, as the
inventory build-up of air conditioning products is converted to sales and
payments on the receivables associated with such sales have yet to be received.
During this period, our working capital requirements are typically funded by
borrowings from our revolving credit facility.
The seasonality of our business offers significant operational challenges in our
manufacturing and distribution functions. To limit these challenges and to
provide a rapid turnaround time of customer orders, we traditionally offer a
pre-season selling program, known as our "Spring Promotion," in which customers
are offered a choice of a price discount or longer payment terms.
INVENTORY MANAGEMENT. We face inventory management issues as a result of
warranty and overstock returns. Many of our products carry a warranty ranging
from a 90-day limited warranty to a lifetime limited warranty, which generally
covers defects in materials or workmanship and failure to meet industry
published specifications. In addition to warranty returns, we also permit our
customers to return products to us within customer-specific limits in the event
that they have overstocked their inventories. In particular, the seasonality of
our Temperature Control segment requires that we increase our inventory during
the winter season in preparation of the summer selling season and customers
purchasing such inventory have the right to make returns.
In order to better control warranty and overstock return levels, beginning in
2000 we tightened the rules for authorized warranty returns, placed further
restrictions on the amounts customers can return and instituted a program so
that our management can better estimate potential future product returns. In
addition, with respect to our air conditioning compressors, our most significant
customer product warranty returns, we established procedures whereby a warranty
will be voided if a customer does not follow a twelve-step warranty return
process.
17
INTERIM RESULTS OF OPERATIONS
COMPARISON OF THREE MONTHS ENDED MARCH 31, 2005 TO THE THREE MONTHS ENDED MARCH
31, 2004
SALES. Consolidated net sales in the first quarter of 2005 were $207.3 million,
an increase of $2.5 million or 1.2%, compared to $204.8 million in the first
quarter of 2004. Net sales increased modestly in Temperature Control and Europe
Segments offset by a $1.2 million decrease in Engine Management sales.
GROSS MARGINS. Gross margins were 23.4% in the first quarter of 2005 compared to
24.9% in the first quarter of 2004. The decrease was primarily from Engine
Management gross margins at 22.8% in the first quarter of 2005 compared to 27.1%
in the first quarter of 2004. The margins were negatively impacted by added
costs from outside purchases to maintain customer fill levels and inefficiencies
from new hires in the new facilities. The Engine Management margins are expected
to improve going forward from the benefit of planned price increases, material
cost savings and improved labor efficiencies.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses (SG&A) decreased by $5.3 million to $42.1 million in the
first quarter of 2005, compared to $47.3 million in the first quarter of 2004.
The reduction in SG&A expenses was attributable to synergies from the DEM
integration. The most significant reduction was in distribution expenses as we
exited the 677,000 square foot Nashville, Tennessee distribution center during
the second half of 2004. As a percentage of net sales, SG&A expenses decreased
to 20.3% in the first quarter of 2005 from 23.1% in the first quarter of 2004.
INTEGRATION EXPENSES. Integration expenses in the first quarter of 2005 were
$524,000, compared to $1.4 million in the first quarter of 2004 primarily from
the DEM integration.
OPERATING INCOME. Operating income was $5.8 million in the first quarter of
2005, compared to $2.3 million in the first quarter of 2004. The increase was
primarily due to the reduction in SG&A expenses slightly offset by lower gross
margins explained above.
OTHER INCOME (EXPENSE), NET. Other expense, net decreased to $215,000 in the
first quarter of 2005, compared to other income, net of $243,000 in the first
quarter of 2004 primarily due to reduced income from disposal of property, plant
and equipment, foreign exchange impact and other net expenses.
INTEREST EXPENSE. Interest expense increased by $541,000 in the first quarter
2005 compared to the same period in 2004, due to higher borrowings and higher
average borrowing costs.
INCOME TAX PROVISION. The effective tax rate for continuing operations increased
from 25% in the first quarter of 2004 to 43% in first quarter of 2005, primarily
due to lower earnings from our Puerto Rico operations which has a lower tax
jurisdiction and slightly higher losses from our European Segment for which no
income tax benefit is being recorded.
LOSS FROM DISCONTINUED OPERATION. Losses from discontinued operation reflect
legal expenses associated with our asbestos-related liability. We recorded
$407,000 and $425,000 as a loss from discontinued operation in the first quarter
of 2005 and 2004, respectively. As discussed more fully in note 12 of our notes
to our consolidated financial statements, we are responsible for certain future
liabilities relating to alleged exposure to asbestos-containing products.
LIQUIDITY AND CAPITAL RESOURCES
OPERATING ACTIVITIES. During the first quarter of 2005, cash used in operations
amounted to $42.5 million, compared to $33.5 million in the same period of 2004.
The increase is primarily attributable to an increase in inventory and accounts
receivable and a decrease in sundry payables and accrued expenses, offset by an
increase in accounts payable.
18
INVESTING ACTIVITIES. Cash used in investing activities was $1.9 million in the
first quarter of 2005, compared to $2.9 million in the same period of 2004. The
decrease is primarily due to the 2004 payment of the inventory acquisition from
the Canadian distribution of Dana Corporation.
FINANCING ACTIVITIES. Cash provided by financing activities was $38.5 million in
the first quarter of 2005, compared to $34.8 million in the same period of 2004.
The increase is primarily due to an increase in borrowings under our line of
credit offset by a decrease in our overdraft balances.
Effective April 27, 2001, we entered into an agreement with General Electric
Capital Corporation, as agent, and a syndicate of lenders for a secured
revolving credit facility. The term of the credit agreement was for a period of
five years and provided for a line of credit up to $225 million.
Effective June 30, 2003, in connection with our acquisition of DEM, we amended
and restated our credit agreement to provide for an additional $80 million
commitment. This additional commitment increases the total amount available for
borrowing under our revolving credit facility to $305 million from $225 million,
and extends the term of the credit agreement from 2006 to 2008. Availability
under our revolving credit facility is based on a formula of eligible accounts
receivable, eligible inventory and eligible fixed assets, which includes the
purchased assets of DEM. We expect such availability under the revolving credit
facility to be sufficient to meet our ongoing operating and integration costs.
Our credit agreement also permits dividends and distributions by us provided
specific conditions are met.
Direct borrowings under our revolving credit facility bear interest at the prime
rate plus the applicable margin (as defined in the credit agreement) or the
LIBOR rate plus the applicable margin (as defined in the credit agreement), at
our option. Borrowings are collateralized by substantially all of our assets,
including accounts receivable, inventory and fixed assets, and those of our
domestic and Canadian subsidiaries. The terms of our revolving credit facility
provide for, among other provisions, new financial covenants requiring us, on a
consolidated basis, (1) to maintain specified levels of earnings before
interest, taxes, depreciation and amortization (EBITDA) as defined in the
amendments to the credit agreement, at the end of each fiscal quarter through
December 31, 2004, (2) commencing September 30, 2004, to maintain specified
levels of fixed charge coverage at the end of each fiscal quarter (rolling
twelve months) through 2007, and (3) to limit capital expenditure levels for
each fiscal year through 2007. We subsequently received a waiver of compliance
with the EBITDA covenant for the fiscal quarters ending September 30, 2004 and
December 31, 2004 and received a waiver of compliance with the fixed charge
coverage ratio for the fiscal quarter ending December 31, 2004.
In March 2005, we amended our revolving credit facility to provide, among other
things, for the following: (1) borrowings of the Company are no longer
collateralized by the assets, including accounts receivable, inventory and fixed
assets, of our Canadian subsidiary; (2) the specified levels of fixed charge
coverage has been modified for 2005 and thereafter; (3) our Canadian subsidiary
was released from its obligations under a guaranty and security agreement; and
(4) the Company's pledge of stock of its Canadian subsidiary to the lenders was
reduced from a 100% to a 65% pledge of stock.
At March 31, 2005, we were not in compliance with the minimum fixed charge
coverage ratio contained in our revolving credit facility. However, we received
a waiver of compliance of such covenant for the quarter ended March 31, 2005.
The waiver was part of an amendment to our revolving credit facility, which
provided, among other things, for the following: (1) the specified levels of
fixed charge coverage has been modified for the remainder of 2005 and
thereafter; and (2) there is a limit on our ability to redeem drafts prior to
the maturity date thereof under our customer draft programs.
In connection with out acquisition of DEM, on June 30, 2003 we also issued to
Dana Corporation an unsecured subordinated promissory note in the aggregate
principal amount of approximately $15.1 million. The promissory note bears an
interest rate of 9% per annum for the first year, with such interest rate
increasing by one-half of a percentage point (0.5%) on each anniversary of the
date of issuance. Accrued and unpaid interest is due quarterly under the
promissory note. The maturity date of the promissory note is December 31, 2008.
The promissory note may be prepaid in whole or in part of any time without
penalty.
19
On June 27, 2003, we borrowed $10 million under a mortgage loan agreement. The
loan is payable in equal monthly installments. The loan bears interest at a
fixed rate of 5.50% maturing in July 2018. The mortgage loan is secured by the
related building and property.
Our profitability and working capital requirements are seasonal due to the sales
mix of temperature control products. Our working capital requirements usually
peak near the end of the second quarter, as the inventory build-up of air
conditioning products is converted to sales and payments on the receivables
associated with such sales begin to be received. Our working capital is further
being impacted by restructuring and integration costs, as well as inventory
build-ups necessary to ensure order fulfillment during the DEM integration.
These increased working capital requirements are funded by borrowings from our
lines of credit. In 2004 and the first quarter of 2005, we also received the
benefit from accelerating accounts receivable collections from customer draft
programs. While this program was new in 2004, we cannot ensure such programs
will remain going forward. An amendment to our revolving credit facility limits
our ability to redeem drafts prior to the maturity date thereof under our
customer draft programs. We anticipate that our present sources of funds will
continue to be adequate to meet our near term needs.
In October 2003, we entered into a new interest rate swap agreement with a
notional amount of $25 million that is to mature in October 2006. Under this
agreement, we receive a floating rate based on the LIBOR interest rate, and pay
a fixed rate of 2.45% on the notional amount of $25 million.
On July 26, 1999, we issued convertible debentures, payable semi-annually, in
the aggregate principal amount of $90 million. The debentures carry an interest
of 6.75%, payable semi-annually, debentures are convertible into 2,796,120
shares of our common stock, and mature on July 15, 2009. The proceeds from the
sale of the debentures were used to prepay an 8.6% senior note, reduce
short-term bank borrowings and repurchase a portion of our common stock.
During 1998 through 2000, the Board of Directors authorized multiple repurchase
programs under which we could repurchase shares of our common stock. During such
years, $26.7 million (in the aggregate) of common stock was repurchased to meet
present and future requirements of our stock option programs and to fund our
Employee Stock Option Plan (ESOP). As of March 31, 2005, we have Board
authorization to repurchase additional shares at a maximum cost of $1.7 million.
During 2004, 2003 and 2002 and the first quarter of 2005, we did not repurchase
any shares of our common stock.
The following is a summary of our contractual commitments, inclusive of our
acquisition of DEM as of December 31, 2004. There have been no significant
changes to this information at March 31, 2005.
----------------------------------------------------------------
(IN THOUSANDS) 2005 2006 2007 2008 2009 THEREAFTER TOTAL
- -------------------------------------------------------------------------------------------------------------------------------
Principal payments of
long term debt .............. $ 534 $ 586 $ 615 $ 15,695 $ 90,597 $ 6,743 $ 114,770
Operating leases ................ 7,079 6,421 5,358 4,621 3,720 19,784 46,983
Interest rate swap agreements.... -- (362) -- -- -- -- (362)
Postemployee retirement
funding ..................... 1,201 1,278 1,408 1,556 1,720 12,475 19,638
Severance payments related
to integration .............. 3,999 251 -- -- -- -- 4,250
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total commitments ..... $ 12,813 $ 8,174 $ 7,381 $ 21,872 $ 96,037 $ 39,002 $ 185,279
========== ========== ========== ========== ========== ========== ==========
20
CRITICAL ACCOUNTING POLICIES
We have identified the policies below as critical to our business operations and
the understanding of our results of operations. The impact and any associated
risks related to these policies on our business operations is discussed
throughout "Management's Discussion and Analysis of Financial Condition and
Results of Operations," where such policies affect our reported and expected
financial results. For a detailed discussion on the application of these and
other accounting policies, see note 1 of the notes to our consolidated financial
statements in our Annual Report on Form 10-K for the year ended December 31,
2004. You should be aware that preparation of our consolidated quarterly
financial statements in this Report requires us to make estimates and
assumptions that affect the reported amount of assets and liabilities,
disclosure of contingent assets and liabilities at the date of our consolidated
financial statements, and the reported amounts of revenue and expenses during
the reporting periods. We can give no assurance that actual results will not
differ from those estimates.
REVENUE RECOGNITION. We derive our revenue primarily from sales of replacement
parts for motor vehicles from both our Engine Management and Temperature Control
Segments. We recognize revenues when products are shipped and title has been
transferred to a customer, the sales price is fixed and determinable, and
collection is reasonably assured. We estimate and record provisions for cash
discounts, quantity rebates, sales returns and warranties in the period the sale
is recorded, based upon our prior experience and current trends. As described
below, significant management judgments and estimates must be made and used in
estimating sales returns and allowances relating to revenue recognized in any
accounting period.
INVENTORY VALUATION. Inventories are valued at the lower of cost or market. Cost
is generally determined on the first-in, first-out basis. Where appropriate,
standard cost systems are utilized for purposes of determining cost; the
standards are adjusted as necessary to ensure they approximate actual costs.
Estimates of lower of cost or market value of inventory are determined at the
reporting unit level and are based upon the inventory at that location taken as
a whole. These estimates are based upon current economic conditions, historical
sales quantities and patterns and, in some cases, the specific risk of loss on
specifically identified inventories.
We also evaluate inventories on a regular basis to identify inventory on hand
that may be obsolete or in excess of current and future projected market demand.
For inventory deemed to be obsolete, we provide a reserve on the full value of
the inventory. Inventory that is in excess of current and projected use is
reduced by an allowance to a level that approximates our estimate of future
demand.
SALES RETURNS AND OTHER ALLOWANCES AND ALLOWANCE FOR DOUBTFUL ACCOUNTS. The
preparation of financial statements requires our management to make estimates
and assumptions that affect the reported amount of assets and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reported period.
Specifically, our management must make estimates of potential future product
returns related to current period product revenue. Management analyzes
historical returns, current economic trends, and changes in customer demand when
evaluating the adequacy of the sales returns and other allowances. Significant
management judgments and estimates must be made and used in connection with
establishing the sales returns and other allowances in any accounting period. At
March 31, 2005, the allowance for sales returns was $22.6 million. Similarly,
our management must make estimates of the uncollectability of our accounts
receivables. Management specifically analyzes accounts receivable and analyzes
historical bad debts, customer concentrations, customer credit-worthiness,
current economic trends and changes in our customer payment terms when
evaluating the adequacy of the allowance for doubtful accounts. At March 31,
2005, the allowance for doubtful accounts and for discounts was $9.7 million.
CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING FOR NEW CUSTOMER ACQUISITION COSTS.
New customer acquisition costs refer to arrangements pursuant to which we incur
change over costs to induce a new customer to switch from a competitor's brand.
In addition, change over costs include the costs related to removing the new
customer's inventory and replacing it with Standard Motor Products inventory
commonly referred to as a stocklift. New customer acquisition costs were
initially recorded as a prepaid
21
asset and the related expense was recognized ratably over a 12-month period
beginning in the month following the stocklift as an offset to sales. In the
fourth quarter of 2004, we determined that it was a preferable accounting method
to reflect the customer acquisition costs as a reduction to revenue when
incurred. We recorded a cumulative effect of a change in accounting for new
customer acquisition costs totaling $2.6 million (or $1.6 million, net of tax
effects) and recorded the amount as if the change in accounting principle had
taken effect on October 1, 2004.
ACCOUNTING FOR INCOME TAXES. As part of the process of preparing our
consolidated financial statements, we are required to estimate our income taxes
in each of the jurisdictions in which we operate. This process involves
estimating our actual current tax exposure together with assessing temporary
differences resulting from differing treatment of items for tax and accounting
purposes. These differences result in deferred tax assets and liabilities, which
are included within our consolidated balance sheet. We must then assess the
likelihood that our deferred tax assets will be recovered from future taxable
income, and to the extent we believe that recovery is not likely, we must
establish a valuation allowance. To the extent we establish a valuation
allowance or increase this allowance in a period, we must include an expense
within the tax provision in the statement of operations.
Significant management judgment is required in determining our provision for
income taxes, our deferred tax assets and liabilities and any valuation
allowance recorded against our net deferred tax assets. At March 31, 2005, we
had a valuation allowance of $23.1 million, due to uncertainties related to our
ability to utilize some of our deferred tax assets. The valuation allowance is
based on our estimates of taxable income by jurisdiction in which we operate and
the period over which our deferred tax assets will be recoverable.
In the event that actual results differ from these estimates, or we adjust these
estimates in future periods, we may need to establish an additional valuation
allowance, which could materially impact our business, financial condition and
results of operations.
VALUATION OF LONG-LIVED AND INTANGIBLE ASSETS AND GOODWILL. We assess the
impairment of identifiable intangibles and long-lived assets whenever events or
changes in circumstances indicate that the carrying value may not be
recoverable. Factors we consider important, which could trigger an impairment
review, include the following: significant underperformance relative to expected
historical or projected future operating results; significant changes in the
manner of our use of the acquired assets or the strategy for our overall
business; and significant negative industry or economic trends. With respect to
goodwill, if necessary, we test for potential impairment in the fourth quarter
of each year as part of our annual budgeting process. We review the fair values
of each of our reporting units using the discounted cash flows method and market
multiples.
RETIREMENT AND POSTRETIREMENT MEDICAL BENEFITS. Each year, we calculated the
costs of providing retiree benefits under the provisions of SFAS 87, Employers'
Accounting for Pensions, and SFAS 106, Employers' Accounting for Postretirement
Benefits Other than Pensions. The key assumptions used in making these
calculations are disclosed in notes 11 and 12 of the notes to our consolidated
financial statements in our Annual Report on Form 10-K for the year ended
December 31, 2004. The most significant of these assumptions are the discount
rate used to value the future obligation, expected return on plan assets and
health care cost trend rates. We select discount rates commensurate with current
market interest rates on high-quality, fixed-rate debt securities. The expected
return on assets is based on our current review of the long-term returns on
assets held by the plans, which is influenced by historical averages. The
medical cost trend rate is based on our actual medical claims and future
projections of medical cost trends.
ASBESTOS RESERVE. We are responsible for certain future liabilities relating to
alleged exposure to asbestos-containing products. A September 2002 actuarial
study estimated a liability for settlement payments ranging from $27.3 million
to $58 million. We concluded that no amount within the range of settlement
payments was more likely than any other and, therefore, recorded the low end of
the range as the liability associated with future settlement payments through
2052 in our consolidated financial statements, in accordance with generally
accepted accounting principles.
22
In accordance with our accounting policy, we update the actuarial study during
the third quarter of each year. The most recent update to the actuarial study
was performed as of August 31, 2004 using methodologies consistent with the
September 2002 study. The updated study has estimated an undiscounted liability
for settlement payments, excluding legal costs, ranging from $28 to $63 million
for the period through 2049. The change from the prior year study was a $1.5
million increase for the low end of the range and a $7.9 million decrease for
the high end of the range. As a result, in September 2004, an incremental $3
million provision was added to the asbestos accrual increasing the reserve to
approximately $28.2 million. Legal costs are estimated to range from $22 to $27
million during the same period. We plan on performing a similar annual actuarial
analysis during the third quarter of each year for the foreseeable future. Based
on this analysis and all other available information, we will reassess the
recorded liability and, if deemed necessary, record an adjustment to the
reserve, which will be reflected as a loss or gain from discontinued operation.
Legal expenses associated with asbestos-related matters are expensed as incurred
and recorded as a loss from discontinued operation in the statement of
operations.
OTHER LOSS RESERVES. We have numerous other loss exposures, such as
environmental claims, product liability and litigation. Establishing loss
reserves for these matters requires the use of estimates and judgment of risk
exposure and ultimate liability. We estimate losses using consistent and
appropriate methods; however, changes to our assumptions could materially affect
our recorded liabilities for loss.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
SHARE-BASED PAYMENT
In December 2004, the FASB issued SFAS No. 123R, "Share-Based Payment" ("SFAS
123R"). SFAS 123R is a revision to SFAS No. 123, "Accounting for Stock-Based
Compensation" and supercedes APB Opinion No. 25, "Accounting for Stock Issued to
Employees." SFAS 123R establishes standards for the accounting for transactions
in which an entity exchanges its equity instruments for goods or services,
primarily focusing on the accounting for transactions in which an entity obtains
employee services in share-based payment transactions. Entities will be required
to measure the cost of employee services received in exchange for an award of
equity instruments based on the grant-date fair value of the award (with limited
exceptions). That cost will be recognized over the period during which an
employee is required to provide service, the requisite service period (usually
the vesting period), in exchange for the award. The grant-date fair value of
employee share options and similar instruments will be estimated using
option-pricing models. If an equity award is modified after the grant date,
incremental compensation cost will be recognized in an amount equal to the
excess of the fair value of the modified award over the fair value of the
original award immediately before the modification. SFAS 123R is effective for
interim and annual financial statements beginning after June 15, 2005 and will
apply to all outstanding and unvested share-based payments at the time of
adoption. On April 14, 2005, the SEC adopted a rule amendment that delayed the
compliance dates for SFAS 123R such that we are now allowed to adopt the new
standard no later than January 1, 2006. The Company is currently evaluating the
impact SFAS 123R will have on its consolidated financial statements and will
adopt such standard as required.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risk, primarily related to foreign currency exchange
and interest rates. These exposures are actively monitored by management. Our
exposure to foreign exchange rate risk is due to certain costs, revenues and
borrowings being denominated in currencies other than one of our subsidiary's
functional currency. Similarly, we are exposed to market risk as the result of
changes in interest rates, which may affect the cost of our financing. It is our
policy and practice to use derivative financial instruments only to the extent
necessary to manage exposures. We do not hold or issue derivative financial
instruments for trading or speculative purposes.
We have exchange rate exposure, primarily, with respect to the Canadian dollar
and the British pound. As of December 31, 2004 and March 31, 2005, our financial
instruments which are subject to this exposure
23
are immaterial, therefore the potential immediate loss to us that would result
from a hypothetical 10% change in foreign currency exchange rates would not be
expected to have a material impact on our earnings or cash flows. This
sensitivity analysis assumes an unfavorable 10% fluctuation in both of the
exchange rates affecting both of the foreign currencies in which the
indebtedness and the financial instruments described above are denominated and
does not take into account the offsetting effect of such a change on our
foreign-currency denominated revenues.
We manage our exposure to interest rate risk through the proportion of fixed
rate debt and variable rate debt in our debt portfolio. To manage a portion of
our exposure to interest rate changes, we enter into interest rate swap
agreements. We invest our excess cash in highly liquid short-term investments.
Our percentage of variable rate debt to total debt was 49% at December 31, 2004
and 56% at March 31, 2005.
Other than the aforementioned, there have been no significant changes to the
information presented in Item 7A (Market Risk) of our Annual Report on Form 10-K
for the year ended December 31, 2004.
ITEM 4. CONTROLS AND PROCEDURES
(a) EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES.
Under the supervision and with the participation of our management, including
our Chief Executive Officer and Chief Financial Officer, we conducted an
evaluation of our disclosure controls and procedures, as such term is defined
under Rule 13a-15(e) promulgated under the Exchange Act, as of the end of the
period covered by this Report. This evaluation also included consideration of
our internal controls and procedures for the preparation of our financial
statements as required under Section 404 of the Sarbanes-Oxley Act.
Grant Thornton LLP, our independent registered public accounting firm, has
provided us with an unqualified report on our consolidated financial statements
for 2004. However, in the course of conducting its assessment of our internal
controls and its audit of our financial statements for our year ended December
31, 2004, Grant Thornton advised management and the audit committee of our board
of directors that it had identified the following material weaknesses in our
internal controls:
(1) There were insufficient personnel resources within the accounting
and financial reporting function due to accounting staff (including
senior level employees) turnover occurring in the fourth quarter of
2004.
(2) There were deficiencies identified in the following areas of the
Company's information technology function which, when considered in
the aggregate, constitute a material weakness over financial
reporting:
o The Company's IT system is decentralized with disparate IT
platforms, business solutions and software applications being
utilized.
o System maintenance policies and procedures (including an
enhanced disaster recovery plan) require development and
adoption.
o Security of systems used for the entry and maintenance of
accounting records requires additional documentation and
scrutiny to ensure that appropriate access to such systems and
the data contained therein is restricted.
o A policy and procedure to address an overall security
framework, including password usage, intrusion detection,
system security monitoring and back-up recovery must be
written and implemented.
(3) There were deficiencies in the analysis and reconciliation of
general ledger accounts which were indicative of a material weakness
in controls over closing procedures, including the (a) month end cut
off processes, and (b) the accounting and reporting of restructuring
charges.
24
While these material weaknesses did not have an effect on our reported results,
they nevertheless constituted deficiencies in our disclosure controls. In light
of these material weaknesses and the requirements enacted by the Sarbanes-Oxley
Act of 2002 and the related rules and regulations adopted by the SEC, our Chief
Executive Officer and Chief Financial Officer concluded that, as of March 31,
2005, our disclosure controls and procedures needed improvement and were not
effective at a reasonable assurance level. Despite those deficiencies in our
disclosure controls, management believes that there were no material
inaccuracies or omissions of material facts in this Report.
Since the discovery of the material weaknesses in internal controls described
above, management is strengthening the Company's internal control over financial
reporting beyond what has existed in prior years, and we have taken various
actions to improve our disclosure controls and procedures and to remediate our
internal control over financial reporting including, but not limited to, the
following:
(1) We have engaged a search firm to assist us in the hiring of
additional senior level accounting staff. We expect to fill such
positions by the second or third quarters of 2005. In addition, in
the first quarter of 2005, we hired a Financial Compliance Manager
to assist us with our Sarbanes-Oxley compliance.
(2) We have re-allocated resources to our accounting and finance
department to strengthen our accounting function. In particular, in
the first quarter of 2005 we have transferred one employee from our
European operations to become our Engine Management Group
Controller, and in the second quarter of 2005 we will be
transferring one employee from our Canadian operations to serve in a
senior level accounting position in our Engine Management division.
In addition, in the fourth quarter of 2004 we have hired an outside
consultant to assist us with our accounting function.
(3) In 2004, we retained an independent third party consulting firm to
assist us in the preparation, documentation and testing of our
compliance with Section 404 of the Sarbanes-Oxley Act of 2002. We
intend to continue to utilize this consulting firm with our
Sarbanes-Oxley compliance efforts in 2005.
(4) As part of our efforts to improve our IT function, we are in the
process of:
o Establishing an enterprise wide information technology
strategy to synthesize the disparate IT platforms and to
develop policies to unify the business solutions and software
applications being employed;
o Establishing a plan for uniform upgrades of workstations and
software, including virus protection and software fixes;
o Establishing a formal policy and procedure to address the
overall security framework, including password usage,
intrusion detection and system security monitoring;
o Improving our security measures to safeguard our data,
including enhancing our disaster recovery plan;
o Improving our policies and procedures for system maintenance
and handling back-up and recovery tapes; and
o Utilizing a consulting firm to assist us with preparing an IT
policy and procedures manual to document all of our updated IT
procedures/standards on a company-wide basis.
The continued implementation of the initiatives described above is among our
highest priorities. We have discussed our corrective actions and future plans
with our audit committee and Grant Thornton and, as of the date of this Report,
we believe the actions outlined above should correct the above-listed material
weaknesses in our internal controls. However, in designing and evaluating the
disclosure controls and procedures, management recognizes that any controls and
procedures, no matter how well designed and operated, can provide only
reasonable assurance of achieving the desired control objectives and are subject
to certain limitations, including the exercise of judgment by individuals, the
inability to identify
25
unlikely future events, and the inability to eliminate misconduct completely. As
a result, there can be no assurance that our disclosure controls and procedures
will prevent all errors or fraud or ensure that all material information will be
made known to management in a timely manner. In addition, we cannot assure you
that neither we nor our independent auditors will in the future identify further
material weaknesses or significant deficiencies in our internal control over
financial reporting that we have not discovered to date.
When in certain of the Company's prior filings under the Exchange Act officers
of the Company provided conclusions regarding the effectiveness of our
disclosure controls and procedures, they believed that their conclusions were
accurate. However, after receiving and assessing the formal advice regarding our
internal control over financial reporting that our independent auditors provided
in the course of the audit of our financial statements for the year ended
December 31, 2004, our Chief Executive Officer and Chief Financial Officer have
reached the conclusions set forth above.
We believe that the material weaknesses in our internal controls identified
during our Sarbanes-Oxley testing review and described above do not materially
affect the fairness or accuracy of the presentation of our financial condition
and results of operation in our historical financial statements as set forth in
this Report or in our reports previously filed with the SEC under the Exchange
Act.
(b) CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING.
During the quarter ended March 31, 2005 and subsequent to that date, we made and
continue to make changes in the Company's internal control over financial
reporting that have materially affected, or are reasonably likely to materially
affect, the Company's internal control over financial reporting, including the
following:
(1) Changes in our accounting personnel by (a) hiring a new Engine
Management Group Controller and a Financial Compliance Manager, and
(b) launching a search for additional senior level accounting staff.
(2) Increased employee training and subscribed to an accounting research
service in an effort to keep more current with accounting
pronouncements and financial reporting matters.
(3) Increased responsibilities of a consulting firm with the requisite
experience and expertise to assist us in the implementation and
compliance with Section 404 of the Sarbanes-Oxley Act.
(4) Improved the documentation of our significant accounting and IT
policies.
We continue to review, document and test our internal control over financial
reporting, and may from time to time make changes aimed at enhancing their
effectiveness and to ensure that our systems evolve with our business. These
efforts will lead to various changes in our internal control over financial
reporting.
The certifications of the Company's Chief Executive Officer and Chief Financial
Officer attached as Exhibits 31.1 and 31.2 to this Report include, in paragraph
4 of such certifications, information concerning the Company's disclosure
controls and procedures and internal control over financial reporting. These
officers believe these certifications to be accurate, because we did have
procedures in place during the quarter ended March 31, 2005 to detect errors in
our systems. Such certifications should be read in conjunction with the
information contained in this Item 4 for a more complete understanding of the
matters covered by such certifications.
26
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In 1986, we acquired a brake business, which we subsequently sold in March 1998
and which is accounted for as a discontinued operation. When we originally
acquired this brake business, we assumed future liabilities relating to any
alleged exposure to asbestos-containing products manufactured by the seller of
the acquired brake business. In accordance with the related purchase agreement,
we agreed to assume the liabilities for all new claims filed on or after
September 1, 2001. Our ultimate exposure will depend upon the number of claims
filed against us on or after September 1, 2001 and the amounts paid for
indemnity and defense thereof. At December 31, 2001, approximately 100 cases
were outstanding for which we were responsible for any related liabilities. At
December 31, 2002, the number of cases outstanding for which we were responsible
for related liabilities increased to approximately 2,500, which include
approximately 1,600 cases filed in December 2002 in Mississippi. We believe that
these Mississippi cases filed against us in December 2002 were due in large part
to potential plaintiffs accelerating the filing of their claims prior to the
effective date of Mississippi's tort reform statue in January 2003, which
statute eliminated the ability of plaintiffs to file consolidated cases. At
December 31, 2004 and March 31, 2005 approximately 3,700 cases and 3,780 cases,
respectively, were outstanding for which we were responsible for any related
liabilities. We expect the outstanding cases to increase gradually due to recent
legislation in certain states mandating minimum medical criteria before a case
can be heard. Since inception in September 2001, the amounts paid for settled
claims are $2.4 million. We do not have insurance coverage for the defense and
indemnity costs associated with these claims.
On November 30, 2004, we were served with a summons and complaint in the U.S.
District Court for the Southern District of New York by The Coalition For A
Level Playing Field, which is an organization comprised of a large number of
auto parts retailers. The complaint alleges antitrust violations by the Company
and a number of other auto parts manufacturers and retailers and seeks
injunctive relief and unspecified monetary damages. The Company is in the
process of preparing its answer to the complaint. Although we cannot predict the
ultimate outcome of this case or estimate the range of any potential loss that
may be incurred in the litigation, we believe that the lawsuit is without merit,
strenuously deny all of the plaintiff's allegations of wrongdoing and believe we
have meritorious defenses to the plaintiff's claims. We intend to defend
vigorously this lawsuit.
We are involved in various other litigation and product liability matters
arising in the ordinary course of business. Although the final outcome of any
asbestos-related matters or any other litigation or product liability matter
cannot be determined, based on our understanding and evaluation of the relevant
facts and circumstances, it is our opinion that the final outcome of these
matters will not have a material adverse effect on our business, financial
condition or results of operations.
ITEM 5. OTHER INFORMATION
AMENDMENT TO CREDIT AGREEMENT
On May 9, 2005, the Company and certain of its wholly owned subsidiaries entered
into an amendment of its Amended and Restated Credit Agreement dated as of
February 7, 2003, as further amended (the "Credit Agreement"), with General
Electric Capital Corporation, as agent for the lenders, Bank of America, N.A.,
for itself and as syndicate agent, and GMAC Commercial Finance LLC, for itself
and as documentation agent. The amendment provides for the following: (1) the
specified levels of fixed charge coverage has been modified for the remainder of
2005 and thereafter; and (2) there is a limit on our ability to redeem drafts
prior to the maturity date thereof under our customer draft programs.
The description set forth above is qualified by the Waiver and Amendment No. 5
to the Amended and Restated Credit Agreement filed herewith as exhibit 10.16.
27
ITEM 6. EXHIBITS
10.16 Waiver and Amendment No. 5 to Amended and Restated Credit Agreement,
dated as of May 9, 2005, among Standard Motor Products, Inc., as
Borrower, and General Electric Capital Corp. and Bank of America, as
Lenders.
31.1 Certification of Chief Executive Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
32.1 Certification of Chief Executive Officer furnished pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of Chief Financial Officer furnished pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
28
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
STANDARD MOTOR PRODUCTS, INC.
(Registrant)
Date: May 10, 2005 /s/ James J. Burke
------------------
James J. Burke
Vice President Finance,
Chief Financial Officer
(Principal Financial and
Accounting Officer)
29
STANDARD MOTOR PRODUCTS, INC.
EXHIBIT INDEX
EXHIBIT
NUMBER
- ------
10.16 Waiver and Amendment No. 5 to Amended and Restated Credit Agreement,
dated as of May 9, 2005, among Standard Motor Products, Inc., as
Borrower, and General Electric Capital Corp. and Bank of America, as
Lenders.
31.2 Certification of Chief Executive Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
32.3 Certification of Chief Executive Officer furnished pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
32.4 Certification of Chief Financial Officer furnished pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
30