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FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the Quarterly Period Ended September 30, 2003
Commission file number #0-10786
Insituform Technologies, Inc.
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(Exact name of registrant as specified in its charter)
Delaware 13-3032158
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
702 Spirit 40 Park Drive, Chesterfield, Missouri 63005
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(Address of Principal Executive Offices)
(636) 530-8000
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(Registrant's telephone number including area code)
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(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
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 [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Outstanding at November 7, 2003
- ----------------------------------------- -----------------------------------
Class A Common Stock, $.01 par value 26,457,080 Shares
INDEX
Page No.
--------
Part I Financial Information:
Item 1. Financial Statements (unaudited):
Consolidated Statements of Income...................................... 3
Consolidated Balance Sheets............................................ 4
Consolidated Statements of Cash Flows.................................. 5
Notes to Consolidated Financial Statements............................. 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations.................................... 13
Item 3. Quantitative and Qualitative Disclosures About Market Risk............. 19
Item 4. Controls and Procedures................................................ 19
Part II Other Information:
Item 1. Legal Proceedings...................................................... 20
Item 6. Exhibits and Reports on Form 8-K....................................... 20
Signatures..................................................................................... 21
2
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
INSITUFORM TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
FOR THE THREE MONTHS FOR THE NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
2003 2002 2003 2002
---------------------------------------------------
REVENUES $ 117,360 $ 125,523 $ 365,486 $ 355,187
COST OF REVENUES 89,941 92,765 280,531 262,543
---------------------------------------------------
GROSS PROFIT 27,419 32,758 84,955 92,644
Selling, general and administrative 19,909 17,720 55,974 52,134
Restructuring charges (261) 2,458 (261) 2,458
Impairment charges - 3,499 - 3,499
---------------------------------------------------
TOTAL SELLING, GENERAL AND ADMINISTRATIVE 19,648 23,677 55,713 58,091
OPERATING INCOME 7,771 9,081 29,242 34,553
OTHER (EXPENSE) INCOME:
Interest expense (2,391) (2,103) (5,763) (5,935)
Other 331 1,736 573 2,520
---------------------------------------------------
TOTAL OTHER EXPENSE (2,060) (367) (5,190) (3,415)
---------------------------------------------------
INCOME BEFORE TAXES ON INCOME 5,711 8,714 24,052 31,138
TAXES ON INCOME 2,228 3,326 9,381 11,921
---------------------------------------------------
INCOME BEFORE MINORITY INTERESTS, EQUITY IN EARNINGS
AND DISCONTINUED OPERATIONS 3,483 5,388 14,671 19,217
MINORITY INTERESTS (84) (56) (144) (124)
EQUITY IN EARNINGS OF AFFILIATED COMPANIES 101 333 201 715
---------------------------------------------------
INCOME FROM CONTINUING OPERATIONS 3,500 5,665 14,728 19,808
LOSS FROM DISCONTINUED OPERATIONS (215) (788) (231) (3,317)
---------------------------------------------------
NET INCOME $ 3,285 $ 4,877 $ 14,497 $ 16,491
===================================================
EARNINGS PER SHARE OF COMMON STOCK AND COMMON
STOCK EQUIVALENTS:
Basic:
Income from continuing operations $ 0.13 $ 0.21 $ 0.56 $ 0.75
Discontinued operations (0.01) (0.03) (0.01) (0.13)
Net income 0.12 0.18 0.55 0.62
Diluted:
Income from continuing operations $ 0.13 $ 0.21 $ 0.56 $ 0.74
Discontinued operations (0.01) (0.03) (0.01) (0.12)
Net income 0.12 0.18 0.55 0.62
See accompanying notes to consolidated financial statements.
3
INSITUFORM TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
SEPTEMBER 30, 2003 DECEMBER 31, 2002
-------------------------------------------
ASSETS
CURRENT ASSETS
Cash and cash equivalents, including restricted cash of
$8,442 and $3,985, respectively $ 98,907 $ 75,386
Receivables, net 85,674 82,962
Retainage 23,398 23,726
Costs and estimated earnings in excess of billings 31,846 36,680
Inventories 13,065 12,402
Prepaid expenses and other assets 15,056 13,586
Assets related to discontinued operations 3,884 7,909
----------------------------------
TOTAL CURRENT ASSETS 271,830 252,651
----------------------------------
PROPERTY, PLANT AND EQUIPMENT, less accumulated depreciation 73,382 71,579
----------------------------------
OTHER ASSETS
Goodwill 135,005 131,032
Other assets 17,449 17,751
----------------------------------
TOTAL OTHER ASSETS 152,454 148,783
----------------------------------
TOTAL ASSETS $ 497,666 $ 473,013
==================================
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Current maturities of long-term debt and line of credit $ 16,900 $ 49,360
Accounts payable and accrued expenses 66,762 69,776
Billings in excess of costs and estimated earnings 6,011 5,992
Liabilities related to discontinued operations 891 3,293
----------------------------------
TOTAL CURRENT LIABILITIES 90,564 128,421
----------------------------------
LONG-TERM DEBT, less current maturities 114,276 67,014
OTHER LIABILITIES 3,069 3,530
----------------------------------
TOTAL LIABILITIES 207,909 198,965
----------------------------------
MINORITY INTERESTS 1,361 1,430
----------------------------------
COMMITMENTS AND CONTINGENCIES (NOTE 10)
STOCKHOLDERS' EQUITY
Preferred stock, undesignated, $.10 par - shares authorized
1,400,000; none outstanding - -
Series A Junior Participating Preferred stock, $.10 par - shares
authorized 600,000; none outstanding - -
Common stock, $.01 par - shares authorized 60,000,000;
shares outstanding 26,457,080 and 26,558,165 288 288
Unearned restricted stock compensation (538) -
Additional paid-in capital 134,370 132,820
Retained earnings 209,300 194,803
Treasury stock - 2,357,464 and 2,218,273 shares (51,596) (49,745)
Accumulated other comprehensive loss (3,428) (5,548)
----------------------------------
TOTAL STOCKHOLDERS' EQUITY 288,396 272,618
----------------------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 497,666 $ 473,013
==================================
See accompanying notes to consolidated financial statements.
4
INSITUFORM TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
FOR THE NINE MONTHS
ENDED SEPTEMBER 30,
2003 2002
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
NET INCOME $ 14,497 $ 16,491
Loss from discontinued operations 231 3,317
-------- --------
INCOME FROM CONTINUING OPERATIONS 14,728 19,808
-------- --------
ADJUSTMENTS TO RECONCILE NET CASH PROVIDED BY OPERATING ACTIVITIES:
Depreciation 11,213 10,861
Amortization 1,005 1,099
Deferred income taxes (30) 61
Gain on sale of investment - (1,225)
Other (gain) loss on asset sales 518 (551)
Income from equity investments (201) (715)
Impairment of intangibles - 3,499
Restructuring charge (261) 2,458
Other 2,181 (16)
CHANGES IN OPERATING ASSETS AND LIABILITIES, NET OF PURCHASED BUSINESSES:
Receivables, including costs and estimated earnings in excess of billings and retainage 2,451 (1,442)
Inventories (415) 82
Prepaid expenses and other assets (3,693) (2,388)
Accounts payable, accrued expenses and billings in excess of costs and estimated earnings (1,065) (9,614)
-------- --------
NET CASH PROVIDED BY OPERATING ACTIVITIES OF CONTINUING OPERATIONS 26,431 21,917
NET CASH PROVIDED (USED) BY OPERATING ACTIVITIES OF DISCONTINUED OPERATIONS (1,558) 1,718
-------- --------
NET CASH PROVIDED BY OPERATING ACTIVITIES 24,873 23,635
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (12,573) (18,174)
Proceeds from sale of fixed assets 780 1,605
Proceeds from sale of investment - 1,920
Proceeds from sale of businesses (discontinued operations) - 4,065
Purchases of businesses, net of cash acquired (6,337) (8,459)
Other investing activities 1,406 (372)
-------- --------
NET CASH USED IN INVESTING ACTIVITIES (16,724) (19,415)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock 557 1,637
Purchases of treasury stock (1,597) (4,850)
Principal payments on long-term debt (22,734) (19,959)
Issuance of long-term debt 65,000 -
Increase (decrease) in line of credit (25,835) 10,052
Deferred financing charges (692) -
-------- --------
NET CASH PROVIDED (USED) BY FINANCING ACTIVITIES 14,699 (13,120)
-------- --------
Effect of exchange rate changes on cash 673 913
-------- --------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS FOR THE PERIOD 23,521 (7,987)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 75,386 74,649
-------- --------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 98,907 $ 66,662
========= ========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
CASH PAID FOR:
Interest expense $ 5,859 $ 7,353
Income taxes 8,425 12,083
NONCASH INVESTING AND FINANCING ACTIVITIES:
Notes receivable on sale of business (discontinued operations) $ - $ 3,500
Liabilities established in connection with business acquisitions - 1,690
Amounts due to the Company settled in business acquisitions - 2,300
Note payable recovered in settlement 5,350 -
Accrued interest recovered in settlement 557 -
Treasury stock recovered in settlement 254 -
See accompanying notes to consolidated financial statements.
5
INSITUFORM TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SEPTEMBER 30, 2003
1. GENERAL
In the opinion of the Company's management, the accompanying
consolidated financial statements reflect all adjustments (consisting
of only normal recurring adjustments) necessary to present fairly the
Company's unaudited consolidated balance sheets as of September 30,
2003 and December 31, 2002 and the unaudited consolidated statements of
income and cash flows for the three and nine months ended September 30,
2003 and 2002. The financial statements have been prepared in
accordance with the requirements of Form 10-Q and consequently do not
include all the disclosures normally made in an Annual Report on Form
10-K. Accordingly, the consolidated financial statements included
herein should be reviewed in conjunction with the financial statements
and the footnotes thereto included in the Company's 2002 Annual Report
on Form 10-K.
The results of operations for the three and nine months ended September
30, 2003 and 2002 are not necessarily indicative of the results to be
expected for the full year.
2. STOCK-BASED COMPENSATION
At September 30, 2003, the Company had two plans under which equity
incentives may be granted. On May 29, 2003, shareholders approved an
increase in the number of shares available under the 2001 Employee
Equity Incentive Plan from 1,000,000 to 2,000,000. The Company applies
the recognition and measurement principles of Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees," and
related Interpretations in accounting for those plans. No compensation
expense from stock options was reflected in the net income for the
quarters ended September 30, 2003 and 2002, respectively, as all
options granted during these and other time periods had an exercise
price equal to the market value of the underlying common stock on the
date of the grant. The following table illustrates the effect on net
income and earnings per share if the Company had applied the fair value
recognition provisions of Statement of Financial Accounting Standards
No. 123 ("SFAS No. 123"), "Accounting for Stock-Based Compensation," to
stock-based compensation (in thousands, except share data):
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
2003 2002 2003 2002
--------------------------------------------------
Net income - as reported $ 3,285 $ 4,877 $ 14,497 $ 16,491
Deduct: Total stock-based compensation
expense determined under fair value
method for all awards, net of related
tax effects (966) (1,241) (3,415) (4,817)
--------------------------------------------------
Pro forma net income $ 2,319 $ 3,636 $ 11,082 $ 11,674
==================================================
Basic earnings per share:
As reported $ 0.12 $ 0.18 $ 0.55 $ 0.62
Pro forma 0.09 0.14 0.42 0.44
Diluted earnings per share:
As reported 0.12 0.18 0.55 0.62
Pro forma 0.09 0.14 0.42 0.44
For SFAS No. 123 disclosure purposes, the weighted average fair value
of stock options is required to be based on a theoretical
option-pricing model such as the Black-Scholes method. In actuality,
because the Company's employee stock options are not traded on an
exchange and are subject to vesting periods, the disclosed fair value
represents only an approximation of option value based solely on
historical performance. Beginning in 2000, the Company decided to
increase the alignment of key employee goals and shareholder objectives
by increasing the relative value of variable compensation.
On May 27, 2003, the Company granted 57,300 shares of restricted stock
to executives and key employees. The grant of restricted stock to
executives is contingent on meeting performance goals over a one-year
period, and all restricted stock is generally subject to a three-year
service term before vesting. The grant date fair value of these shares
was $0.9 million. The value of the restricted stock grant was added to
additional paid-in capital at the grant date and an
6
equal amount was established in unearned restricted stock compensation.
All shares subject to performance restrictions are revalued at each
reporting date to reflect the then current market price of the
Company's stock. Revaluations are treated as a change in accounting
estimate and accounted for prospectively with an appropriate increase
or decrease to additional paid-in capital, unearned restricted stock
compensation and a current period adjustment in compensation expense.
All restricted shares are expensed as compensation through the service
restriction term. Compensation expense related to restricted stock
grants was $35 thousand and $68 thousand for the three and nine months
ended September 30, 2003, respectively. There were no shares of
restricted stock outstanding in 2002.
On July 22, 2003, Anthony W. (Tony) Hooper resigned as Chairman of the
Board and Chief Executive Officer. Consequently, Mr. Hooper forfeited
21,900 shares of restricted stock. As a result, the unearned restricted
stock balance was reduced by approximately $0.4 million, which
represents the recorded value of the restricted shares at his departure
on July 22, 2003. The Company recorded associated severance costs of
$1.2 million during the third quarter of 2003.
3. BUSINESS ACQUISITIONS
Effective May 1, 2002, the Company acquired the business and certain
assets and liabilities of Elmore Pipe Jacking, Inc. ("Elmore") for
approximately $12.5 million. Elmore was a regional provider of
trenchless tunneling, microtunneling, segmented lining and pipe jacking
services in the western United States. The purchase price included $8.5
million in cash, settlement of $2.3 million of debt owed by Elmore to
the Company, and the assumption of an additional $1.7 million of
liabilities, of which $0.2 million was interest-bearing and the
remainder, including covenants not to compete, owed to the former
owners of the Elmore assets. The purchase price was allocated to assets
acquired and liabilities assumed based on their respective fair values
at the date of acquisition and resulted in goodwill of $8.9 million.
The Company's results reflect the operation of Elmore's former assets
from the date of acquisition. The Elmore acquisition added $2.4 million
of revenues and $0.8 million of operating loss in the tunneling segment
for the third quarter of 2003, with the resulting revenues and
operating loss for the first nine months of 2003 equaling $9.4 million
and $5.9 million, respectively. In the three months ended September 30,
2002, Elmore generated $6.1 million in revenues and $0.2 million of
operating loss. For the period May 1 to September 30, 2002, Elmore
accounted for $10.3 million of revenue and approximately $30 thousand
of operating income. Pro forma information relative to the quarter and
nine months ended September 30, 2002 is immaterial and has not been
presented relative to the Elmore acquisition.
Effective September 5, 2003, the Company acquired the business and
certain assets of Insituform East, Inc. ("East") for $5.5 million.
Insituform East, Inc. was the final remaining independent licensee of
the Insituform(R) cured-in-place pipe ("CIPP") and NuPipe(R) fold and
form processes in North America. Certain selected assets such as
equipment, inventory, backlog, licenses and an option to purchase
certain additional assets were included in the acquisition. The Company
exercised its option to purchase additional assets from East for $0.7
million. The purchase price for both the original purchase and the
subsequent purchase of assets was paid entirely in cash. The purchase
price has been preliminarily allocated to assets acquired based on
their respective fair values at the date of acquisition and resulted in
goodwill of $3.5 million. This preliminary allocation is subject to
review based on the completion of independent appraisals in the fourth
quarter of 2003. The Company's results reflect the operations of East's
former assets from the date of acquisition. The East acquisition added
$0.5 million in revenues and negligible operating income and net income
in the rehabilitation segment from September 5, 2003 through September
30, 2003. Pro forma information is immaterial and has not been
presented relative to the East acquisition.
4. DISCONTINUED OPERATIONS
In 2001, the Company made the decision to sell certain operations
acquired in the Kinsel Industries, Inc. ("Kinsel") acquisition.
Accordingly, the Company classified as discontinued the wastewater
treatment plant, commercial construction and highway operations
acquired as part of the Kinsel acquisition. These operations were not
consistent with the Company's operating strategy of providing
differentiated trenchless rehabilitation and tunneling services. The
Company completed the sale of the wastewater treatment plant operations
effective January 1, 2002. The Company received $1.5 million in cash
and a $2.0 million note for a total sale price of $3.5 million,
resulting in a slight loss on the sale. During the third quarter of
2002, the Company sold the heavy highway construction business for $2.6
million in cash and $1.5 million in notes, resulting in a pre-tax gain
of $1.5 million, or $0.9 million after-tax. The Company completed the
sale of certain assets and contracts of the Kinsel highway maintenance
business during the fourth quarter of 2002 for certain assumed
liabilities, $1.4 million in cash and a $1.5 million subordinated note,
with no material gain or loss on the sale. Pursuant to the terms of the
sale agreements described above, the Company retained responsibility
for some uncompleted jobs, which has resulted in the absorption of
additional trailing costs. This completes the disposition of all
material assets classified as discontinued pursuant to the acquisition
of Kinsel.
7
The Company negotiated settlements, without litigation, during the
first quarter of 2003 between the Company and the former Kinsel owners,
and the Company and the purchasers of the wastewater treatment plant
operations acquired from Kinsel. The Company made various claims
against the former shareholders of Kinsel, arising out of the February
2001 acquisition of Kinsel and Tracks. Those claims were settled in
March 2003 without litigation. Under the terms of the settlement,
18,891 shares of Company common stock and all of the promissory notes,
totaling $5,350,000 in principal (together with all accrued and unpaid
interest), issued to former Kinsel shareholders in connection with the
acquisition, were returned to the Company from the claim collateral
escrow account established at the time of the acquisition. The
remaining 56,672 shares of Company common stock held in the escrow
account were distributed to the former Kinsel shareholders. The
settlement of the escrow account primarily related to matters
associated with Kinsel operations that have been sold and presented as
discontinued operations. In January 2003, the Company received notice
of multiple claims, totaling more than $3.5 million, from the buyer of
the former Kinsel wastewater treatment division. The claims, which were
also settled in the first quarter of 2003, arose out of the January
2002 sale of the Kinsel wastewater treatment division and alleged the
valuation of the assets sold was overstated. These settlements resulted
in a $0.6 million after-tax non-operating gain in the results of
continuing operations and a net after-tax $0.7 million gain in
discontinued operations for the nine months ended September 30, 2003.
As of September 30, 2003 and December 31, 2002, assets related to
discontinued operations totaled $3.9 million and $7.9 million,
respectively, and included $0.2 million and $0.7 million of unbilled
receivables, respectively. Assets related to discontinued operations
also included $0.6 million in retainage receivables, $0.2 million of
trade receivables, $2.5 million of prepaid and other assets, and $0.4
million of fixed assets at September 30, 2003. Liabilities related to
discontinued operations totaled $0.9 million and $3.3 million at
September 30, 2003 and December 31, 2002, respectively. Discontinued
operations will be substantially completed in the fourth quarter of
2003. The results of operations for the discontinued operations were as
follows (in thousands):
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
2003 2002 2003 2002
-----------------------------------------------
REVENUES:
Wastewater treatment plant $ - $ - $ - $ -
Commercial construction and highway
operations 437 4,034 2,588 20,904
INCOME (LOSS) FROM DISCONTINUED
OPERATIONS:
Wastewater treatment plant,
net of tax expense (benefit)
of $0, $0, $0, and $(348), respectively - - - (642)
Commercial construction and highway
operations, net of tax expense (benefit)
of $(138), $(489), $(148), and $(1,052),
respectively (215) (788) (231) (2,675)
5. RESTRUCTURING
In the third quarter of 2002, the Company recorded a pre-tax
restructuring charge of $2.5 million ($1.5 million after-tax), $1.3
million of which was severance costs associated with the elimination of
75 salaried positions, primarily related to administrative and other
overhead functions. An additional $1.2 million involved related
decisions for information technology asset write-downs, lease
cancellations, and disposal of certain identifiable fixed assets
primarily at the corporate level. The remaining unused portion of this
reserve, approximating $0.2 million, was reversed to income in the
third quarter of 2003. As of September 30, 2003, there was no remaining
liability on this restructuring.
In the fourth quarter of 2001, the Company recorded a pre-tax
restructuring charge of $4.1 million ($2.5 million after-tax), $0.9
million of which was severance costs associated with the elimination of
112 company-wide positions specifically identified as of December 31,
2001. An additional $3.2 million of the charge related to asset
write-downs, lease cancellations and other costs associated with the
closure of eight facilities in the United States and the disposal of
the associated assets. The remaining portion of this reserve,
approximating $27 thousand, was reversed to income in the third quarter
of 2003. As of September 30, 2003, there was no remaining liability
related to this restructuring.
8
The following table illustrates each of the restructuring reserve
components and the related balances at September 30, 2003 (in
thousands):
BALANCE AT CHARGED DURING BALANCE AT
DECEMBER 31, 2002 CHARGED DURING FIRST NINE MONTHS SEPTEMBER 30,
2001 RESERVE 2002 OF 2003 REVERSED 2003
-----------------------------------------------------------------------------------------------------
CASH NON-CASH CASH NON-CASH
-------------------- --------------------
2001 RESERVE
Severance $ 844 $ (844) $ - $ - $ - $ - $ -
Equipment 616 (122) (237) (104) (153) - -
Facility 1,702 (1,171) (302) (202) - (27) -
------------------------------------------------------------------------------------------------
Total $ 3,162 $ (2,137) $ (539) $ (306) $ (153) $ (27) $ -
================================================================================================
2002 RESERVE
Severance $ - $ 1,258 $ (465) $ - $ (559) $ - $ (234) $ -
Equipment - 1,200 (852) - - (348) - -
------------------------------------------------------------------------------------------------
Total $ - $ 2,458 $ (1,317) $ - $ (559) $ (348) $ (234) $ -
================================================================================================
6. COMPREHENSIVE INCOME
For the quarters ended September 30, 2003 and 2002, comprehensive
income was $3.6 million and $5.9 million, respectively, with
comprehensive income of $16.6 million and $17.8 million for the nine
months ended September 30, 2003 and 2002, respectively. The Company's
adjustment to net income to calculate comprehensive income consists
solely of cumulative foreign currency translation adjustments of $0.3
million and $1.1 million for the quarters ended September 30, 2003 and
2002, respectively, and $2.1 million and $1.3 million for the nine
months ended September 30, 2003 and 2002, respectively.
7. SHARE INFORMATION
Earnings per share have been calculated using the following share
information:
THREE MONTHS ENDED SEPTEMBER 30,
2003 2002
--------------------------------
Weighted average number of common shares
used for basic EPS 26,451,421 26,506,967
Effect of dilutive stock options and restricted stock 186,978 108,091
-------------------------------
Weighted average number of common shares
and dilutive potential common stock used in dilutive EPS 26,638,399 26,615,058
===============================
NINE MONTHS ENDED SEPTEMBER 30,
2003 2002
-------------------------------
Weighted average number of common shares
used for basic EPS 26,475,029 26,534,329
Effect of dilutive stock options and restricted stock 118,320 228,614
-------------------------------
Weighted average number of common shares
and dilutive potential common stock used in dilutive EPS 26,593,349 26,762,943
===============================
8. SEGMENT REPORTING
The Company has principally three operating segments: rehabilitation,
tunneling, and TiteLiner(R), the Company's corrosion and abrasion
segment ("TiteLiner"). The segments were determined based upon the
types of products sold by each segment and each is regularly reviewed
and evaluated separately.
The following disaggregated financial results have been prepared using
a management approach, which is consistent with the basis and manner
with which management internally disaggregates financial information
for the purpose of assisting in making internal operating decisions.
The Company evaluates performance based on stand-alone operating
income.
9
Financial information by segment is as follows (in thousands):
THREE MONTHS NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
2003 2002 2003 2002
-----------------------------------------------------
REVENUES
Rehabilitation $ 89,456 $ 96,601 $ 275,706 $ 281,395
Tunneling 22,611 24,682 74,581 62,107
TiteLiner 5,293 4,240 15,199 11,685
-----------------------------------------------------
TOTAL REVENUES $ 117,360 $ 125,523 $ 365,486 $ 355,187
=====================================================
GROSS PROFIT
Rehabilitation $ 22,005 $ 25,963 $ 70,478 $ 76,348
Tunneling 3,791 4,776 9,725 12,052
TiteLiner 1,623 2,019 4,752 4,244
-----------------------------------------------------
TOTAL GROSS PROFIT $ 27,419 $ 32,758 $ 84,955 $ 92,644
=====================================================
OPERATING INCOME
Rehabilitation $ 5,090 $ 5,155 $ 22,493 $ 25,668
Tunneling 1,876 2,738 4,293 7,100
TiteLiner 805 1,188 2,456 1,785
-----------------------------------------------------
TOTAL OPERATING INCOME $ 7,771 $ 9,081 $ 29,242 $ 34,553
=====================================================
9. ACQUIRED INTANGIBLE ASSETS AND GOODWILL
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 142 ("SFAS 142"),
"Goodwill and Other Intangible Assets," which requires that an
intangible asset that is acquired shall be initially recognized and
measured based on its fair value. This statement also provides that
certain intangible assets deemed to have an indefinite useful life,
such as goodwill, should not be amortized, but shall be tested for
impairment annually, or more frequently if circumstances indicate
potential impairment, through a comparison of fair value to its
carrying amount. SFAS 142 was effective for fiscal periods beginning
after December 15, 2001. The Company adopted SFAS 142 on January 1,
2002, at which time amortization of goodwill ceased and a transitional
impairment test was performed. The annual impairment test for goodwill
was performed in the fourth quarter of 2002. Management retained an
independent party to perform a valuation of the Company's reporting
units as of these dates and determined that no impairment of goodwill
existed. The Company's 2003 annual impairment test of goodwill will be
performed in the fourth quarter of 2003.
Intangible assets were as follows (in thousands):
AS OF SEPTEMBER 30, 2003
GROSS CARRYING ACCUMULATED
AMOUNT AMORTIZATION
---------------------------
Amortized intangible assets:
Patents $ 13,943 $ (12,186)
License agreements 3,221 (2,002)
Non-compete agreements 4,677 (2,497)
-------------------------
Total $ 21,841 $ (16,685)
=========================
Aggregate amortization expense:
For quarter ended September 30, 2003 $ 353
For nine months ended September 30, 2003 1,005
Estimated amortization expense:
For year ending December 31, 2003 $ 1,166
For year ending December 31, 2004 1,072
For year ending December 31, 2005 730
For year ending December 31, 2006 725
For year ending December 31, 2007 332
Effective June 1, 2003, the Company completed the acquisition of the
business of Sewer Services Ltd., a United Kingdom-based contractor
specializing in the rehabilitation of man-entry pipes and culverts. The
acquisition, with a
10
purchase price of $0.4 million, resulted in an increase of $143
thousand in goodwill. Pro forma information relative to this
acquisition was not considered material.
Effective July 31, 2003, the Company purchased the remaining minority
interest in Video Injection, Inc., a France-based company specializing
in robotic pipe inspection. The purchase price was $0.5 million and
resulted in $0.3 million of additional goodwill. Pro forma information
relative to this acquisition was not considered material.
Effective September 5, 2003, the Company completed the acquisition of
the business of Insituform East, Inc., the last independent licensee of
the Insituform(R) CIPP and NuPipe(R) fold and form processes in North
America. The purchase price was $5.5 million and resulted in a $3.5
million increase in goodwill. Pro forma information relative to this
acquisition was not considered material.
The following represents a rollforward of goodwill from December 31,
2002 to September 30, 2003:
REHABILITATION TUNNELING TOTAL
------------------------------------------------
Balance as of December 31, 2002 $ 122,140 $ 8,892 $ 131,032
Addition - Sewer Services, Ltd. 143 143
Addition - Video Injection, Inc. 285 285
Addition - Insituform East, Inc. 3,454 3,454
Other 63 28 91
----------------------------------------------
Ending balance $ 126,085 $ 8,920 $ 135,005
10. COMMITMENTS AND CONTINGENCIES
Litigation
The Company is involved in certain litigation incidental to the conduct
of its business. The Company does not believe that the outcome of any
such litigation will have a material adverse effect on the Company's
financial position, results of operations and liquidity. During the
third quarter of 2002, a Company crew had an accident on a
cured-in-place pipe project in Des Moines, Iowa. Two workers died and
five workers were injured in the accident. The financial statements
include the estimated amounts of liabilities that are likely to be
incurred from these and various other pending litigation and claims.
Guarantees
The Company has entered into several contractual joint ventures to
develop joint bids on contracts for its installation businesses, and
for tunneling operations in the ordinary course of business. In these
cases, the Company could be required to complete the partner's portion
of the contract if the partner is unable to complete its portion. The
Company is at risk for any amounts for which the Company itself could
not complete the work and for which a third party contractor could not
be located to complete the work for the amount awarded in the contract.
The Company has not experienced material adverse results from such
arrangements and foresees no future material adverse impact on
financial position, results of operations or cash flows. As a result,
the Company has not recorded a liability on the balance sheet
associated with this risk.
The Company has many contracts that require the Company to indemnify
the other party against loss from claims of patent or trademark
infringement. The Company also indemnifies its bonding agents against
losses from third party claims of subcontractors. The Company has not
experienced material losses under these provisions and foresees no
future material adverse impact on financial position, results of
operations or cash flows.
11. FINANCINGS
Credit Facility
Effective March 27, 2003, the Company entered into a new three-year
bank revolving credit facility to replace its expiring bank credit
facility. This new facility provides the Company with borrowing
capacity of up to $75 million. The quarterly commitment fee ranges from
0.2% to 0.3% per annum on the unborrowed balance depending on the
leverage ratio determined as of the last day of the Company's preceding
fiscal quarter. At the Company's option, the interest rates will be
either (i) the LIBOR plus an additional percentage that varies from
0.75% to 1.5% depending on the leverage ratio or (ii) the higher of (a)
the prime rate or (b) the federal funds rate plus 0.50%. As of
September 30, 2003, there was no borrowing on the credit facility and
therefore there is no applicable interest rate as rates are determined
on the borrowing date. The available balance was $69.8 million and the
commitment fee was 0.20%. The
11
remaining $5.2 million was used for non-interest bearing letters of
credit, the majority of which was collateral for insurance. The Company
generally uses the credit facility for short-term borrowings and
discloses amounts outstanding as a current liability.
Senior Notes
The Company's Senior Notes, Series A, due February 14, 2007, bear
interest, payable semi-annually in August and February of each year, at
the rate per annum of 7.88%. Each year, from February 2004 to February
2007, inclusive, the Company will be required to make principal
payments of $15.7 million, together with an equivalent payment at
maturity. On September 30, 2003, the principal amount of Senior Notes,
Series A, outstanding was $62.9 million.
On April 24, 2003, the Company placed $65 million of Senior Notes,
Series 2003-A, due April 24, 2013 and bearing interest, payable
semi-annually in April and October of each year, at a rate of 5.29% per
annum, with certain institutional investors through a private offering.
The principal amount is due in a single payment on April 24, 2013. The
Senior Notes, Series 2003-A, may be prepaid at the Company's option, in
whole or in part, at any time, together with a make-whole premium. Upon
specified change in control events each holder has the right to require
the Company to purchase its Senior Notes, Series 2003-A, without any
premium thereon.
Debt Covenant Compliance
At September 30, 2003, the Company was in compliance with all debt
covenants. If the Company's net income from continuing operations drops
below approximately $7.4 million in the fourth quarter of 2003, the
Company will violate its covenants. The Company may violate covenants
in the fourth quarter or early in 2004 and has begun discussions with
its lenders regarding waivers or covenant modifications.
12. NEW ACCOUNTING PRONOUNCEMENTS
In June 2002, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 146 ("SFAS 146"),
"Accounting for Costs Associated with Exit or Disposal Activities."
SFAS 146 requires an entity to recognize, and measure at fair value, a
liability for costs associated with an exit or disposal activity in the
period in which the liability is incurred. SFAS 146 supercedes Emerging
Issues Task Force Issue ("EITF") No. 94-3, "Liability Recognition for
Certain Employee Termination Benefits and Other Costs to Exit an
Activity (Including Certain Costs Incurred in a Restructuring)." SFAS
146 is effective for exit or disposal activities that are initiated
after December 31, 2002. The Company has adopted the provisions of SFAS
146 effective January 1, 2003. There was no material impact upon
adoption.
In January 2003, FASB issued FASB Interpretation No. 46 ("FIN 46"),
"Consolidation of Variable Interest Entities," which addresses the
reporting and consolidation of variable interest entities as they
relate to a business enterprise. This interpretation incorporates and
supercedes the guidance set forth in Accounting Research Bulletin No.
51 ("ARB 51"), "Consolidated Financial Statements." It requires the
consolidation of variable interests into the financial statements of a
business enterprise if that enterprise holds a controlling financial
interest via other means than the traditional voting majority. The
requirements of FIN 46 are effective immediately for variable interest
entities created after January 31, 2003 and thereafter, or the first
reporting period after December 15, 2003 for variable interest entities
for which an enterprise holds a variable interest that it acquired
prior to February 1, 2003. The Company is evaluating FIN 46 relative to
its equity investments, joint venture agreements and lease agreements,
among other things.
13. SUBSEQUENT EVENT
Effective November 1, 2003, the Company acquired the remaining 50%
share of its Swiss joint venture, Ka-Te Insituform AG, along with
selected assets and business of the former joint venture partner's
robotic repair division for an initial cash price of $2.2 million. Net
of related party debt due to the joint venture and split of accrued
employee liabilities (holiday and overtime entitlements), the cash paid
at closing to the former joint venture partner was approximately $0.5
million. Approximately $73 thousand will remain in escrow to the
satisfactory completion of contractual work in progress at closing. The
deal also calls for an earnout arrangement over the next three years,
beginning with calendar year 2004, based on achievement of selected
earnings targets.
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following is management's discussion and analysis of certain significant
factors that have affected the Company's financial condition and results of
operations during the periods included in the accompanying consolidated
financial statements. See the discussion of the Company's critical accounting
policies in its Annual Report on Form 10-K for the year ended December 31, 2002;
there have been no changes to these policies during the quarter and nine months
ended September 30, 2003.
RESULTS OF OPERATIONS - Three and Nine Months Ended September 30, 2003 and 2002
The following table highlights the results for each of the segments and periods
presented (in thousands):
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, 2003 SEPTEMBER 30, 2003
GROSS GROSS OPERATING GROSS GROSS OPERATING
REVENUES PROFIT PROFIT % INCOME REVENUES PROFIT PROFIT % INCOME
--------------------------------------------------- --------------------------------------------------
Rehabilitation $ 89,456 $ 22,005 24.6% $ 5,090 $ 275,706 $ 70,478 25.6% $ 22,493
Tunneling 22,611 3,791 16.8% 1,876 74,581 9,725 13.0% 4,293
TiteLiner 5,293 1,623 30.7% 805 15,199 4,752 31.3% 2,456
--------------------------------------------------- --------------------------------------------------
$ 117,360 $ 27,419 23.4% $ 7,771 $ 365,486 $ 84,955 23.2% $ 29,242
--------------------------------------------------- --------------------------------------------------
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, 2003 SEPTEMBER 30, 2003
GROSS GROSS OPERATING GROSS GROSS OPERATING
REVENUES PROFIT PROFIT % INCOME REVENUES PROFIT PROFIT % INCOME
--------------------------------------------------- --------------------------------------------------
Rehabilitation $ 96,601 $ 25,963 26.9% $ 5,155 $ 281,395 $ 76,348 27.1% $ 25,668
Tunneling 24,682 4,776 19.4% 2,738 62,107 12,052 19.4% 7,100
TiteLiner 4,240 2,019 47.6% 1,188 11,685 4,244 36.3% 1,785
--------------------------------------------------- --------------------------------------------------
$ 125,523 $ 32,758 26.1% $ 9,081 $ 355,187 $ 92,644 26.1% $ 34,553
--------------------------------------------------- --------------------------------------------------
Consolidated revenues from continuing operations were $117.4 million in the
third quarter of 2003, a decrease of 6.5% from $125.5 million in the third
quarter of 2002. Third quarter 2003 rehabilitation revenues decreased $7.1
million, or 7.4%, to $89.5 million, tunneling revenues decreased $2.1 million,
or 8.4%, to $22.6 million, and TiteLiner revenues increased $1.1 million, or
24.9% to $5.3 million compared to the third quarter of 2002. Rehabilitation
revenues decreased due to the decline in productivity of product lines acquired
with Kinsel Industries, Inc. ("Kinsel"), which suffered a 20% decline in volume
from year-ago levels largely due to the cancellation of one large project. In
addition, two regions within the domestic rehabilitation business generated
revenues well below year-ago levels. The decrease in rehabilitation revenues in
North America in the third quarter of 2003 was partially offset by a $2.4
million, or 20.7%, increase in rehabilitation revenues in Europe. Tunneling
revenues decreased compared to the third quarter of 2002 due to a low volume of
work available in the Elmore division. Elmore volume was 60% and 9% lower in the
third quarter and the first nine months of 2003, respectively, compared to the
same periods in 2002. Tunneling revenues in the Affholder division were $1.6
million and $13.4 million higher in the third quarter and first nine months of
2003, respectively. However, work delays caused tunneling revenues to fall below
expectations in the third quarter of 2003. TiteLiner revenues were higher for
the third quarter and nine months ended 2003 compared to the same periods in
2002 due to higher order activity in late 2002 and continuing into 2003.
Cost of revenues decreased 3.0% in the third quarter of 2003 to $89.9 million
from $92.8 million in the third quarter of 2002. The decrease in cost of
revenues in the third quarter of 2003 was due to lower variable costs as a
result of lower volume. The decreases in cost of revenues in the third quarter
were partially offset by increases in healthcare claims and employee costs as
well as costs associated with under-absorbed equipment due to crew downtime.
Year-to-date, cost of revenues increased 6.9% to $280.5 million in the first
nine months of 2003 compared to $262.5 million in the same period of 2002.
Higher than expected casualty, workers compensation and healthcare claims
impacted cost of revenues in all segments compared to the first nine months of
2002, and inventory and equipment write-offs associated with obsolete
small-diameter installation methods increased the cost of revenues in
rehabilitation during the first nine months of 2003 compared to the same period
in 2002. Poor performance on specific identifiable projects and in some regions
in domestic rehabilitation operations during the first nine months of 2003
resulted in crew downtime and excessive costs. Additional unanticipated costs
were incurred during the first nine months of 2003 on some of the contracts
acquired with the Elmore division, increasing the cost of revenues in the
tunneling segment.
13
Gross profit from continuing operations was $27.4 million in the third quarter
of 2003, a 16.3% decrease from gross profit of $32.8 million in the third
quarter of 2002. Based on the discussion of revenues and cost of revenues above,
gross profit margin decreased to 23.4% in the third quarter of 2003 from 26.1%
in the third quarter of 2002. Performance issues with some jobs in the product
lines acquired from Kinsel caused lower gross profit margins in the
rehabilitation segment. For the first nine months of 2003, gross profit was down
8.3% to $85.0 million from $92.6 million in the first nine months of 2002. As
tunneling grows in its contribution to the consolidated results, its historical
lower margins also continue to lower the consolidated margins. Projects
associated with the Elmore acquisition in the tunneling segment were completed
in the second quarter of 2003 at low or negative margins. While gross margin at
Elmore improved in the third quarter of 2003 as expected, the year-to-date
margin continues to be affected by the jobs completed in the first half of the
year. The aforementioned issues in the Kinsel product lines as well as
unanticipated increases in casualty, healthcare and workers compensation claims
for all segments, the write-off of obsolete equipment and regional domestic
rehabilitation issues accounted for decreased margins for the first nine months
of 2003 compared to the same period in 2002.
Selling, general and administrative costs were 17.1% lower in the third quarter
of 2003 at $19.6 million compared to $23.7 million in the third quarter of 2002.
This is largely due to restructuring charges and intangible write-offs of $2.5
and $3.5 million, respectively, in the third quarter of 2002, partially offset
by $1.2 million in severance costs recognized after changes in the Company's
senior management in the third quarter of 2003. For the first nine months of
2003, selling, general and administrative costs decreased 4.1% to $55.7 million
from $58.1 million in the same period of 2002. The aforementioned 2002
restructuring charges and intangible write-offs accounted for most of the
decrease, but was partially offset by increased casualty, healthcare, workers
compensation and senior management severance costs as well as the addition of
Elmore in the tunneling segment for a full three quarters in 2003 compared to
five months in 2002.
Consolidated operating income from continuing operations decreased 14.3% to $7.8
million for the third quarter of 2003 from $9.1 million in the third quarter of
2002. Volume and performance issues on several jobs in the product lines
acquired from Kinsel and the remaining domestic rehabilitation business units
caused operating income to decrease $5.1 million, severance charges related to
management changes in the third quarter of 2003 caused a $1.2 million decrease,
and low volume and job delays in the tunneling segment caused an additional $0.9
million decrease in operating income in the third quarter of 2003 compared to
the third quarter of 2002. The decline in operating income was offset by
restructuring charges and intangible writeoffs of $6.0 million that were taken
in the third quarter of 2002. Strong performance in Europe also partially offset
the overall decrease in operating income. Operating income in Europe increased
49.9% in the third quarter of 2003 compared to the third quarter of 2002.
Operating income is also impacted by the aforementioned increases in casualty,
healthcare and workers compensation claims that have been higher in 2003 than in
2002. For the first nine months of 2003, operating income from continuing
operations decreased 15.4% to $29.2 million from $34.6 million in the first nine
months of 2002. During the first nine months of 2003, rehabilitation operating
income was lower than year-ago amounts by $3.2 million due to low work volume
and performance issues on several Kinsel jobs and similar issues in two regions
of the domestic rehabilitation business. Tunneling operating income decreased
$2.8 million compared to the first nine months of 2003 primarily due to low work
volume at the Elmore division that persisted through the first and much of the
second quarter of 2003. TiteLiner's operating income was up $0.7 million to $2.5
million from $1.8 million in the first nine months of 2002.
Interest expense in the third quarter of 2003 was $2.4 million, up 13.7%
compared to third quarter 2002 interest expense of $2.1 million. The Company
financed an additional $65 million in Senior Notes in April 2003, resulting in
an overall increase in interest expense. Interest expense in the first nine
months of 2003 was $5.8 million, down 2.9% from $5.9 million in the first nine
months of 2002. This reflects lower debt balances for all of the first quarter
and lower interest rates in 2003 compared to 2002. The Company had other income
of $0.3 million, down from $1.7 million in the third quarter of 2002.
Year-to-date, other income was $0.6 million, down from $2.5 million in the first
nine months of 2002. The Company sold a real estate venture owned by Kinsel and
previously reported in continuing operations for a pre-tax gain of $1.9 million,
or $1.2 million after tax in the third quarter of 2002. The effective tax rate
for the first nine months of 2003 was 39.0% compared to 38.3% for the first nine
months of 2002. During the third quarter of 2002, the Company sold the heavy
highway business, previously classified as discontinued operations, for a
pre-tax gain of $1.5 million, or $0.9 million after tax.
Income from continuing operations was $3.5 million for the third quarter of
2003, or $0.13 per diluted share, down 38.2% from $5.7 million, or $0.21 per
diluted share, in the third quarter of 2002, due to the factors described
previously. Discontinued operations resulted in a loss of $0.2 million in the
third quarter, or approximately $0.01 per diluted share, down from a $0.8
million loss, or $0.03 per diluted share, in the third quarter of 2002. For the
first nine months of 2003, loss from discontinued operations was $0.2 million,
or $0.01 per diluted share, compared to $3.3 million, or $0.12 per diluted
share, in the first nine months of 2002. The Company expects that discontinued
operations will be completed in the fourth quarter of 2003, and any future
impact to the Company will be negligible.
14
Based on current economic conditions, uncertainty still remains about the
levels of municipal spending for the remainder of 2003 and fiscal 2004. Orders
during the third quarter of 2003 were relatively strong, particularly in the
domestic cured-in-place pipe ("CIPP") business, where orders exceeded revenues
by 15.1%. However, the distribution of backlog remains uneven. Two of the
domestic CIPP units and the product lines acquired from Kinsel face sub-optimal
backlog levels. These units will continue to confront the challenges posed by
their backlog positions for the remainder of the year. The Elmore division of
the tunneling segment had struggled with low backlog for most of the first three
quarters of this year. However, orders picked up late in the second quarter and
continued into the third quarter.
BACKLOG
In addition to the Company's decision not to give specific earnings guidance for
the remainder of 2003, the Company has decided to discontinue voluntary
disclosure of backlog balances for the remainder of the year. See the preceding
paragraph for a narrative commentary on the Company's backlog situation.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents at September 30, 2003 totaled $98.9 million, an
increase of $23.5 million from the December 31, 2002 balance of $75.4 million.
Continuing operations contributed $26.4 million in operating cash flow during
the first nine months of 2003. This is a 20.6% increase compared to operating
cash flow from continuing operations of $21.9 million in the first nine months
of 2002. Operating cash flow benefited from accelerated collections during the
second and third quarters of 2003, specifically in the tunneling segment where
production on large projects began generating strong cash flow. These
receivables had been classified as costs in excess of billings in recent prior
quarters. Working capital changes for the nine months ended September 30, 2003
resulted in a $2.7 million use of funds compared to a $13.4 million use for the
nine months ended September 30, 2002. Current asset accounts increased during
the first nine months of 2002 while they remained relatively stable during the
first nine months of 2003. Current liabilities declined substantially less in
the first nine months of 2003 compared to the first nine months of 2002.
Discontinued operations used $1.6 million of cash in the first nine months of
2003 compared to a contribution of $1.7 million in the first nine months of
2002. It is expected that the impact from discontinued operations on the
Company's cash flow will be negligible in the fourth quarter of 2003 and going
forward.
Trade receivables and retainage totaled $109.1 million at September 30, 2003, up
2.2% from December 31, 2002 trade receivables and retainage of $106.7 million.
The increase is primarily a result of the movement of unbilled receivables to
trade receivables in the tunneling segment based on the production cycle. Based
on the percentage of completion method of revenue recognition, typically, work
is started on large tunneling jobs and substantial costs are incurred and
revenue recognized before billings can be issued, as was the case on three large
tunneling jobs in Dallas, Chicago, and St. Louis in late 2002. As production
continues, these revenues are generated and the receivable is moved into trade
receivables. The tunneling segment has also seen accelerated collection of much
of these receivables as well. This is evident in the fact that costs and
estimated earnings in excess of billings in the tunneling segment decreased
39.1% from December 31, 2002 to $13.1 million at September 30, 2003. On a
consolidated basis, costs and estimated earnings in excess of billings were down
13.2% to $31.8 million at September 30, 2003 from $36.7 million at December 31,
2002.
The Company decreased spending on investing activities by 25.1% in the first
nine months of 2003 to $6.3 million from $8.5 million in the first nine months
of 2002. Decreased capital asset acquisitions and the purchase of Elmore in the
second quarter of 2002 were the primary reasons for the difference. The Company
spent approximately $5.5 million in its purchase of the business of Insituform
East, Inc. ("East"), an additional $0.7 million for additional assets from East,
and approximately $0.4 million for the purchase of specifically identified
assets of Sewer Services Ltd. in the first nine months of 2003 compared to $8.5
million paid for Elmore in the first nine months of 2002. The Company spent
$12.6 million on capital assets during the first nine months of 2003 compared to
$18.2 million in the first nine months of 2002, a 30.8% decline in spending.
However, due to the planned expansion of the Company's manufacturing facility in
Batesville, Mississippi, the Company expects an increase in capital expenditures
in the fourth quarter of 2003, resulting in total capital expenditures for the
year ending December 31, 2003 that are relatively consistent with recent years.
The Company received $0.8 million for the sale of assets, and had no sales of
investments or businesses in the first nine months of 2003 compared to $7.6
million in proceeds received from the sale of investment property, the Kinsel
heavy highway business, the Kinsel wastewater treatment plant business and the
sale of fixed assets in the first nine months of 2002. The Company received
$14.7 million in cash from financing activities in the first nine months of
2003, up significantly from the use of $13.1 million in the first nine months of
2002. The primary cause of the increase in cash from financing activities was
$65 million provided by the Company's new Senior Notes, Series A, issued during
the second quarter of 2003. During the first nine months of 2003, the Company
paid down its long-term debt by $22.7 million. The net of loans and repayments
on the Company's line of credit resulted in a $25.8 million reduction of the
line of credit during the nine months ended September 30, 2003.
15
The Company purchased 10,300 shares of its own stock during the third quarter
of 2003, compared to 30,000 shares purchased during the third quarter of 2002.
During the first nine months of 2003, the Company has purchased 139,191 shares
of its own stock for $1.9 million compared to 230,000 repurchased shares in the
first nine months of 2002 for $4.9 million. On a cumulative basis, the Company
has spent $74.5 million to repurchase 3,948,806 shares through September 30,
2003 since the inception of the stock repurchase program originally authorized
in 1998. In April 2003, the Company indefinitely extended its repurchase
program, which was due to expire in June 2003. Repurchased shares are held as
treasury stock until reissued.
Effective March 27, 2003, the Company entered into a new three-year bank
revolving credit facility (the "Credit Agreement") to replace its expiring bank
credit facility. This new facility provides the Company with borrowing capacity
of up to $75 million. The quarterly commitment fee ranges from 0.2% to 0.3% per
annum on the unborrowed balance depending on the leverage ratio determined as of
the last day of the Company's preceding fiscal quarter. At the Company's option,
the interest rates will be either (i) the LIBOR plus an additional percentage
that varies from 0.75% to 1.5% depending on the leverage ratio or (ii) the
higher of (a) the prime rate or (b) the federal funds rate plus 0.50%. The
Company paid $40 million in principal towards the line of credit facility during
the second quarter of 2003. At September 30, 2003, the Company had unused
committed bank credit facilities under the Credit Agreement totaling $69.8
million and the commitment fee was 0.20%. The remaining $5.2 million was
utilized for non-interest bearing letters of credit, the majority of which was
collateral for insurance. As of September 30, 2003, there was no borrowing on
the credit facility and therefore there is no applicable interest rate as rates
are determined on the borrowing date.
Under the Credit Agreement, the Company has certain debt covenant provisions
that require, among other things, a minimum fixed charge coverage ratio of 1.1
and a maximum leverage ratio of 2.25. The fixed charge coverage ratio was 1.21
at September 30, 2003, 1.34 at June 30, 2003 and 1.45 at March 31, 2003. The
leverage ratio was 2.16, 2.02 and 1.03 at September 30, June 30 and March 31,
2003, respectively. At September 30, 2003, the Company was in compliance with
all debt covenants under the Credit Agreement.
The Company's Senior Notes, Series A, due February 14, 2007, bear interest,
payable semi-annually in August and February of each year, at the rate per annum
of 7.88%. Each year, from February 2004 to February 2007, inclusive, the Company
will be required to make principal payments of $15.7 million, together with an
equivalent payment at maturity. On September 30, 2003, the principal amount of
Senior Notes, Series A, outstanding was $62.9 million.
On April 24, 2003, the Company placed an additional $65 million of Senior Notes,
Series 2003-A, with certain institutional investors through a private offering,
bringing the total Series A and Series 2003-A Senior Notes outstanding to $127.9
million at that date and as of September 30, 2003. The Senior Notes, Series
2003-A, are due April 24, 2013 and bear interest, payable semi-annually in April
and October of each year, at a rate of 5.29% per annum. The principal amount is
due in a single payment on April 24, 2013. The Senior Notes, Series 2003-A, may
be prepaid at the Company's option, in whole or in part, at any time, together
with a make-whole premium. Upon specified change in control events, each holder
has the right to require the Company to purchase its Senior Notes, Series
2003-A, without any premium thereon. The proceeds of the Senior Notes, Series
2003-A, were used to pay off the balance on the line of credit and to provide
future liquidity.
The note purchase agreements pursuant to which the Senior Notes, Series A and
Series 2003-A, were issued, and the Credit Agreement, obligate the Company to
comply with certain financial ratios and restrictive covenants that, among other
things, place limitations on operations and sales of assets by the Company or
its subsidiaries, limit the ability of the Company to incur further secured
indebtedness and liens and of subsidiaries to incur indebtedness, and, in the
event of default, limit the ability of the Company to pay cash dividends or make
other distributions to the holders of its capital stock or to redeem such stock.
At September 30, 2003, the Company was in compliance with all debt covenants
under the note purchase agreements.
At September 30, 2003, the Company was in compliance with all debt covenants. If
the Company's net income from continuing operations drops below approximately
$7.4 million in the fourth quarter of 2003, the Company will violate its
covenants. The Company may violate covenants in the fourth quarter or early in
2004 and has begun discussions with its lenders regarding waivers or covenant
modifications.
The Company believes it has adequate resources and liquidity to fund future cash
requirements for working capital, capital expenditures and debt repayments with
cash generated from operations, existing cash balances, additional short- and
long-term borrowing and the sale of assets.
The Company has identified a number of initiatives that management feels will
reposition the Company to maintain its prominent status in its industry. In
order to accomplish these initiatives, the Company will strategically invest
money over the next two years. These initiatives will accomplish either cost
reduction, product innovation, or business growth. Some
16
of the initiatives are already in the implementation phase, and the Company will
continue to make planned investments to accomplish its goals. The Company
expects the accomplishment of these identified initiatives to benefit the
financial statements beginning in 12 to 18 months.
On May 27, 2003, the Company granted 57,300 shares of restricted stock to
executives and key employees. The grant of restricted stock to executives is
contingent on meeting performance goals over a one-year period, and all
restricted stock is generally subject to a three-year service term before
vesting. The grant date fair value of these shares was $0.9 million. The value
of the restricted stock grant was added to additional paid-in capital at the
grant date, and an equal amount was established in unearned restricted stock
compensation. All restricted shares are expensed as compensation through the
service restriction term. On July 22, 2003, Anthony W. (Tony) Hooper resigned as
Chairman of the Board and Chief Executive Officer. Consequently, Mr. Hooper
forfeited 21,900 shares of restricted stock.
DISCLOSURE OF FINANCIAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
The Company has entered into various financial obligations and commitments in
the course of its ongoing operations and financing strategies. Financial
obligations are considered to represent known future cash payments that the
Company is required to make under existing contractual arrangements, such as
debt and lease agreements. These obligations may result from both general
financing activities as well as from commercial arrangements that are directly
supported by related revenue-producing activities. Commercial commitments
represent contingent obligations of the Company, which become payable only if
certain pre-defined events were to occur, such as funding financial guarantees.
See Note 14 to the Consolidated Financial Statements included in the Company's
2002 Annual Report on Form 10-K for additional disclosure of financial
obligations and commercial commitments.
The following table provides a summary of the Company's financial obligations
and commercial commitments as of September 30, 2003 (in thousands). This table
includes cash obligations related to principal outstanding under existing debt
arrangements and operating leases.
PAYMENTS DUE BY PERIOD
REMAINING
Cash Obligations* TOTAL 2003 2004 2005 2006 2007 THEREAFTER
Long-term debt** $ 131,176 $ 217 $ 17,335 $ 16,213 $ 16,213 $ 16,198 $ 65,000
Line of credit facility*** - - - - - - -
Operating leases 36,150 4,074 9,877 6,587 4,578 3,963 7,071
----------------------------------------------------------------------------------------------
Total contractual cash
obligations $ 167,326 $ 4,291 $ 27,212 $ 22,800 $ 20,791 $ 20,161 $ 72,071
==============================================================================================
* Cash obligations herein are not discounted and do not include related
interest. See Notes 10 and 11 to the Consolidated Financial Statements regarding
commitments and contingencies and debt issued, respectively.
** On April 24, 2003, the Company placed an additional $65 million of Senior
Notes, Series 2003-A, with principal due in a single payment on April 24, 2013.
See Note 11 to the Consolidated Financial Statements for additional discussion
regarding the Senior Notes.
*** Effective March 27, 2003, the Company entered into a new three-year bank
revolving credit facility to replace its expiring bank credit facility. The
Company uses the credit facility for short-term borrowing and discloses amounts
outstanding as a current liability. See Note 11 to the Consolidated Financial
Statements for additional discussion regarding the credit facility.
NEW ACCOUNTING PRONOUNCEMENTS
See Note 12 to the Consolidated Financial Statements for discussion of new
accounting pronouncements and their impact on the Company.
MARKET RISK
The Company is exposed to the effect of interest rate changes and foreign
currency fluctuations. Due to the immateriality of potential impacts from
changes in these rates, the Company does not use derivative contracts to manage
these risks.
17
INTEREST RATE RISK
The fair value of the Company's cash and short-term investment portfolio at
September 30, 2003 approximated carrying value. Given the short-term nature of
these instruments, market risk, as measured by the change in fair value
resulting from a hypothetical 10% change in interest rates, is not material.
The Company's objectives in managing exposure to interest rate changes are to
limit the impact of interest rate changes on earnings and cash flows and to
lower overall borrowing costs. To achieve these objectives, the Company
maintains fixed rate debt as a percentage of its net debt in a percentage range
set by policy. The impact to earnings and cash flows from a hypothetical 10%
decrease in the Company's debt specific borrowing rates at September 30, 2003
was not material.
FOREIGN EXCHANGE RISK
The Company operates subsidiaries, and is associated with licensees and
affiliates operating solely in countries outside of the United States, and in
currencies other than the U.S. dollar. Consequently, these operations are
inherently exposed to risks associated with fluctuation in the value of the
local currencies of these countries compared to the U.S. dollar. The effect of a
hypothetical adverse change of 10% in exchange rates (a strengthening of the
U.S. dollar) was immaterial and would be largely offset by cash activity.
OFF-BALANCE SHEET ARRANGEMENTS
The Company uses various structures for the financing of operating equipment,
including borrowing, operating and capital leases, and sale-leaseback
arrangements. All debt, including the discounted value of future minimum lease
payments under capital lease arrangements, is presented in the balance sheet.
The Company also has exposure under performance guarantees by contractual joint
ventures and indemnification of its bonding agent and licensees. However, the
Company has never experienced any material adverse effects to financial
position, results of operations or cash flows relative to these arrangements.
The Company has no other off-balance sheet financing arrangements or
commitments.
MANAGEMENT CHANGES
Effective July 22, 2003, Anthony W. (Tony) Hooper resigned as Chairman of the
Board and Chief Executive Officer. Effective on that same date, the Company's
board of directors named Thomas S. Rooney, Jr. as Chief Executive Officer. Mr.
Rooney retained the responsibilities of his previous position and was elected as
a new member to the board of directors. The Company recorded associated
severance costs of $1.2 million during the third quarter of 2003.
Also effective July 22, 2003, Alfred L. Woods, an independent member of the
Company's board of directors, was elected non-executive Chairman of the Board.
Mr. Woods has been an independent member of the Company's board since 1997. He
has served as chair of the Corporate Governance & Nominating Committee and as a
member of the Compensation Committee. He is president of Woods Group, a
management consulting company based in Williamsburg, Virginia.
Effective July 31, 2003, Carroll W. Slusher resigned his position as the
Company's Vice President - North America.
FORWARD-LOOKING INFORMATION
This quarterly report contains various forward-looking statements that are based
on information currently available to management and on management's beliefs and
assumptions. When used in this document, the words "anticipate," "estimate,"
"believes," "plans," and similar expressions are intended to identify
forward-looking statements, but are not the exclusive means of identifying such
statements. Such statements are subject to risks and uncertainties. The
Company's actual results may vary materially from those anticipated, estimated
or projected due to a number of factors, such as the competitive environment for
the Company's products and services, the geographical distribution and mix of
the Company's work, the timely award or cancellation of projects, political
circumstances impeding the progress of work, timely integration of acquired
operations and other factors set forth in reports and other documents filed by
the Company with the Securities and Exchange Commission from time to time. The
Company does not assume a duty to update forward-looking statements. Please use
caution and do not place reliance on forward-looking statements.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
For information concerning this item, see "Item 2. Management's Discussion and
Analysis of Financial Condition and Results of Operations - Market Risk," which
information is incorporated herein by reference.
ITEM 4. CONTROLS AND PROCEDURES
The Company's Chief Executive Officer and Chief Financial Officer carried out an
evaluation of the effectiveness of the Company's "disclosure controls and
procedures" (as defined in the Securities Exchange Act of 1934 Rules 13a-14(c)
and 15(d)-14(c)). Based on that evaluation, these officers have concluded that
as of September 30, 2003, the Company's disclosure controls and procedures were
adequate and designed to provide reasonable assurance that material information
relating to the Company and the Company's consolidated subsidiaries would be
made known to them by others within those entities.
There were no changes in the Company's internal controls over financial
reporting that occurred during the Company's fiscal quarter ended September 30,
2003 that has materially affected, or is reasonably likely to materially affect,
the Company's internal control over financial reporting.
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PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
There have been no material changes since the filing of the Company's Form 10-Q
for the period ended June 30, 2003.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The exhibits filed as part of this Quarterly Report on Form
10-Q are listed on the annexed Index to Exhibits.
(b) On July 14, 2003, the Company filed a Current Report on Form
8-K, under Item 9 and pursuant to Item 12, to provide the
Company's press release, dated July 9, 2003, announcing that
it lowered guidance for the second quarter of 2003, and to
provide a transcript of the Company's July 10, 2003 conference
call held to announce and discuss its guidance for the second
quarter of 2003.
On July 24, 2003, the Company filed a Current Report on Form
8-K, under Item 5 regarding the issuance of the Company's
press release, dated July 22, 2003, concerning the election of
Thomas S. Rooney, Jr., to President and Chief Operating
Officer, as Chief Executive Officer and a member of the board
of directors, and the election of Alfred L. Woods, an
independent member of the Company's board of directors, as
Non-executive Chairman of the Board.
The Company also filed a Current Report on Form 8-K on July
30, 2003, under Item 12, to provide the Company's press
release, dated July 24, 2003, announcing its financial results
for the fiscal quarter ended June 30, 2003, and to provide a
transcript of the Company's July 25, 2003 conference call held
to announce and discuss its financial results for the fiscal
quarter ended June 30, 2003.
On September 8, 2003, the Company filed a Current Report on
Form 8-K, under Item 9, to provide the Company's press
release, dated September 5, 2003, announcing acquisition of
the business of Insituform East, Inc.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
INSITUFORM TECHNOLOGIES, INC.
November 14, 2003 /s/ Joseph A. White
------------------------------------------
Joseph A. White
Vice President - Chief Financial Officer
Principal Financial and Accounting Officer
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INDEX TO EXHIBITS
31.1 Certification of Thomas S. Rooney, Jr. pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certification of Joseph A. White pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.1 Certification of Thomas S. Rooney, Jr. pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
32.2 Certification of Joseph A. White pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
22