e10vq
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
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þ |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934 |
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2005
OR
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o |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 |
FOR THE TRANSITION PERIOD FROM
to
.
Commission File No. 1-13179
FLOWSERVE CORPORATION
(Exact name of registrant as specified in its charter)
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New York
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31-0267900 |
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(State or other jurisdiction of
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(I.R.S. Employer Identification No.) |
incorporation or organization) |
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5215 N. OConnor Blvd., Suite 2300, Irving Texas
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75039 |
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(Address of principal executive offices)
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(Zip Code) |
(972) 443-6500
(Registrants 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.
o Yes þ No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated
filer, or a non-accelerated filer. See definition of accelerated filer and large accelerated
filer in Rule 12b-2 of the Exchange Act. (Check one):
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Large accelerated filer þ
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Accelerated filer o
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Non-accelerated filer o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of
the Exchange Act). o Yes þ No
As of July 24, 2006, there were 56,503,473 shares of the issuers common stock outstanding.
FLOWSERVE CORPORATION
FORM 10-Q
TABLE OF CONTENTS
EXPLANATORY NOTE
As a result of the significant delay in completing our Annual Report on Form 10-K for the
year ended December 31, 2005 and the obligations regarding internal control certification under
Section 404 of the Sarbanes-Oxley Act of 2002 (Section 404), we were unable to timely file with
the Securities and Exchange Commission (SEC), this Quarterly Report on Form 10-Q for the
quarterly period ended September 30, 2005 (Quarterly Report) and certain other period reports.
We continue to work toward becoming current in our quarterly filings with the SEC as soon as
practicable after the filing of this Quarterly Report.
1
PART I FINANCIAL INFORMATION
Item 1. Financial Statements.
FLOWSERVE CORPORATION
(Unaudited)
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
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(Amounts in thousands, except per share data) |
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Three Months Ended September 30, |
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2005 |
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2004 |
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Sales |
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$ |
649,485 |
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$ |
623,426 |
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Cost of sales |
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|
438,269 |
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433,975 |
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Gross profit |
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211,216 |
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189,451 |
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Selling, general and administrative expense |
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156,405 |
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|
146,271 |
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Operating income |
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54,811 |
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43,180 |
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Interest expense |
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(18,972 |
) |
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|
(21,025 |
) |
Interest income |
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1,335 |
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|
667 |
|
Loss on early extinguishment of debt |
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(27,856 |
) |
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(963 |
) |
Other income (expense), net |
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|
365 |
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(4,016 |
) |
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Earnings before income taxes |
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9,683 |
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17,843 |
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Provision for income taxes |
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4,500 |
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10,573 |
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Income from continuing operations |
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5,183 |
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7,270 |
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Discontinued operations, net of tax |
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(15,133 |
) |
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(902 |
) |
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Net (loss) earnings |
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$ |
(9,950 |
) |
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$ |
6,368 |
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Earnings (loss) per share: |
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Basic: |
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Continuing operations |
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$ |
0.09 |
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$ |
0.14 |
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Discontinued operations |
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(0.27 |
) |
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(0.02 |
) |
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Net (loss) earnings |
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$ |
(0.18 |
) |
|
$ |
0.12 |
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Diluted: |
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Continuing operations |
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$ |
0.08 |
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$ |
0.13 |
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Discontinued operations |
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(0.27 |
) |
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(0.02 |
) |
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Net (loss) earnings |
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$ |
(0.19 |
) |
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$ |
0.11 |
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See accompanying notes to condensed consolidated financial statements.
2
FLOWSERVE CORPORATION
(Unaudited)
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS) INCOME
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(Amounts in thousands) |
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Three Months Ended September 30, |
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2005 |
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2004 |
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Net (loss) earnings |
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$ |
(9,950 |
) |
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$ |
6,368 |
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Other comprehensive income (expense): |
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Foreign currency translation adjustments, net of tax |
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690 |
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3,362 |
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Cash flow hedging activity, net of tax |
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1,178 |
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(4,840 |
) |
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Other comprehensive income (loss) |
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1,868 |
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(1,478 |
) |
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Comprehensive (loss) income |
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$ |
(8,082 |
) |
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$ |
4,890 |
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See accompanying notes to condensed consolidated financial statements.
3
FLOWSERVE CORPORATION
(Unaudited)
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
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(Amounts in thousands, except per share data) |
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Nine Months Ended September 30, |
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2005 |
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2004 |
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Sales |
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$ |
1,956,767 |
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$ |
1,818,762 |
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Cost of sales |
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1,331,708 |
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1,264,618 |
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Gross profit |
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625,059 |
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554,144 |
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Selling, general and administrative expense |
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488,120 |
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428,527 |
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Operating income |
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136,939 |
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125,617 |
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Interest expense |
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(58,867 |
) |
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(60,596 |
) |
Interest income |
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2,797 |
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1,232 |
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Loss on early extinguishment of debt |
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(27,744 |
) |
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(1,048 |
) |
Other expense, net |
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(8,326 |
) |
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(8,771 |
) |
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Earnings before income taxes |
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44,799 |
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56,434 |
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Provision for income taxes |
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18,158 |
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34,781 |
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Income from continuing operations |
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26,641 |
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21,653 |
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Discontinued operations, net of tax |
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(22,655 |
) |
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(1,870 |
) |
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Net earnings |
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$ |
3,986 |
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$ |
19,783 |
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Earnings (loss) per share: |
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Basic: |
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Continuing operations |
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$ |
0.48 |
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$ |
0.39 |
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Discontinued operations |
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(0.41 |
) |
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(0.03 |
) |
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Net earnings |
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$ |
0.07 |
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$ |
0.36 |
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Diluted: |
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Continuing operations |
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$ |
0.47 |
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$ |
0.39 |
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Discontinued operations |
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(0.40 |
) |
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(0.03 |
) |
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Net earnings |
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$ |
0.07 |
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$ |
0.36 |
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See accompanying notes to condensed consolidated financial statements. |
4
FLOWSERVE CORPORATION
(Unaudited)
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS) INCOME
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(Amounts in thousands) |
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Nine Months Ended September 30, |
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2005 |
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2004 |
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Net earnings |
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$ |
3,986 |
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$ |
19,783 |
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|
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|
|
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Other comprehensive (expense) income: |
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Foreign currency translation adjustments, net of tax |
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(24,457 |
) |
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(10,951 |
) |
Cash flow hedging activity, net of tax |
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|
1,996 |
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(4,433 |
) |
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Other comprehensive loss |
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(22,461 |
) |
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(15,384 |
) |
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Comprehensive (loss) income |
|
$ |
(18,475 |
) |
|
$ |
4,399 |
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|
|
|
|
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|
See accompanying notes to condensed consolidated financial statements.
5
FLOWSERVE CORPORATION
(Unaudited)
CONDENSED CONSOLIDATED BALANCE SHEETS
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September 30, |
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December 31, |
|
(Amounts in thousands, except per share data) |
|
2005 |
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2004 |
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|
ASSETS |
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Current assets: |
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Cash and cash equivalents |
|
$ |
35,234 |
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$ |
63,759 |
|
Restricted cash |
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2,159 |
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|
|
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|
Accounts receivable, net of allowance for doubtful accounts
of $7,782 and $7,281, respectively |
|
|
424,006 |
|
|
|
462,120 |
|
Inventories, net |
|
|
405,298 |
|
|
|
388,402 |
|
Deferred taxes |
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|
113,044 |
|
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|
81,225 |
|
Prepaid expenses and other |
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|
67,805 |
|
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|
54,162 |
|
|
|
|
|
|
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Total current assets |
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|
1,047,546 |
|
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|
1,049,668 |
|
Property, plant and equipment, net of accumulated depreciation
of $451,656 and $444,976, respectively |
|
|
397,322 |
|
|
|
432,809 |
|
Goodwill |
|
|
839,674 |
|
|
|
865,351 |
|
Deferred taxes |
|
|
28,778 |
|
|
|
10,430 |
|
Other intangible assets, net |
|
|
146,667 |
|
|
|
157,893 |
|
Other assets, net |
|
|
110,041 |
|
|
|
117,884 |
|
|
|
|
|
|
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|
Total assets |
|
$ |
2,570,028 |
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|
$ |
2,634,035 |
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|
LIABILITIES AND SHAREHOLDERS EQUITY |
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Current liabilities: |
|
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|
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Accounts payable |
|
$ |
297,259 |
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|
$ |
316,545 |
|
Accrued liabilities |
|
|
337,803 |
|
|
|
347,766 |
|
Debt due within one year |
|
|
18,837 |
|
|
|
44,098 |
|
Deferred taxes |
|
|
5,217 |
|
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
659,116 |
|
|
|
708,409 |
|
Long-term debt due after one year |
|
|
680,347 |
|
|
|
657,746 |
|
Retirement obligations and other liabilities |
|
|
367,832 |
|
|
|
397,655 |
|
Shareholders equity: |
|
|
|
|
|
|
|
|
Serial preferred stock, $1.00 par value, 1,000 shares authorized, no
shares issued |
|
|
|
|
|
|
|
|
Common shares, $1.25 par value |
|
|
72,018 |
|
|
|
72,018 |
|
Shares authorized 120,000 |
|
|
|
|
|
|
|
|
Shares issued 57,614 |
|
|
|
|
|
|
|
|
Capital in excess of par value |
|
|
474,470 |
|
|
|
472,180 |
|
Retained earnings |
|
|
438,314 |
|
|
|
434,328 |
|
|
|
|
|
|
|
|
|
|
|
984,802 |
|
|
|
978,526 |
|
Treasury shares, at cost 1,663 and 2,146 shares, respectively |
|
|
(37,818 |
) |
|
|
(48,171 |
) |
Deferred compensation obligation |
|
|
5,124 |
|
|
|
6,784 |
|
Accumulated other comprehensive loss |
|
|
(89,375 |
) |
|
|
(66,914 |
) |
|
|
|
|
|
|
|
Total shareholders equity |
|
|
862,733 |
|
|
|
870,225 |
|
|
|
|
|
|
|
|
Total liabilities and shareholders equity |
|
$ |
2,570,028 |
|
|
$ |
2,634,035 |
|
|
|
|
|
|
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|
See accompanying notes to condensed consolidated financial statements.
6
FLOWSERVE CORPORATION
(Unaudited)
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
|
|
|
|
|
|
|
|
|
(Amounts in thousands) |
|
Nine Months Ended September 30, |
|
|
|
2005 |
|
|
2004 |
|
Cash flows Operating activities: |
|
|
|
|
|
|
|
|
Net earnings |
|
$ |
3,986 |
|
|
$ |
19,783 |
|
Adjustments to reconcile net earnings to net cash provided by operating
activities: |
|
|
|
|
|
|
|
|
Depreciation |
|
|
45,694 |
|
|
|
46,650 |
|
Amortization |
|
|
7,651 |
|
|
|
8,031 |
|
Amortization of deferred loan costs and discount |
|
|
3,006 |
|
|
|
3,787 |
|
Write-off of unamortized deferred loan costs and discount |
|
|
11,307 |
|
|
|
1,048 |
|
Loss on early extinguishment of debt |
|
|
16,437 |
|
|
|
|
|
Net loss on the disposition of assets |
|
|
801 |
|
|
|
314 |
|
Equity compensation expense |
|
|
11,405 |
|
|
|
735 |
|
Equity income, net of dividends received |
|
|
(5,143 |
) |
|
|
4,694 |
|
Impairment of assets |
|
|
23,602 |
|
|
|
|
|
Change in assets and liabilities, net of acquisitions: |
|
|
|
|
|
|
|
|
Accounts receivable, net |
|
|
12,844 |
|
|
|
4,063 |
|
Inventories, net |
|
|
(38,815 |
) |
|
|
(20,898 |
) |
Prepaid expenses and other |
|
|
(13,578 |
) |
|
|
(5,625 |
) |
Other assets, net |
|
|
2,582 |
|
|
|
(4,313 |
) |
Accounts payable |
|
|
2,976 |
|
|
|
7,590 |
|
Accrued liabilities and income taxes payable |
|
|
3,658 |
|
|
|
18,685 |
|
Retirement obligations and other liabilities |
|
|
(34,711 |
) |
|
|
7,226 |
|
Net deferred taxes |
|
|
(33,780 |
) |
|
|
(4,926 |
) |
|
|
|
|
|
|
|
Net cash flows provided by operating activities |
|
|
19,922 |
|
|
|
86,844 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows Investing activities: |
|
|
|
|
|
|
|
|
Capital expenditures |
|
|
(25,522 |
) |
|
|
(28,527 |
) |
Cash received for disposal of assets |
|
|
|
|
|
|
4,093 |
|
Cash paid for acquisition |
|
|
|
|
|
|
(9,429 |
) |
Change in restricted cash |
|
|
(2,159 |
) |
|
|
|
|
|
|
|
|
|
|
|
Net cash flows used by investing activities |
|
|
(27,681 |
) |
|
|
(33,863 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows Financing activities: |
|
|
|
|
|
|
|
|
Net repayments under other financing arrangements |
|
|
(3,989 |
) |
|
|
(355 |
) |
Payments on long-term debt |
|
|
|
|
|
|
(152,480 |
) |
Proceeds from issuance of long-term debt |
|
|
600,000 |
|
|
|
85,000 |
|
Payment of deferred loan costs |
|
|
(9,322 |
) |
|
|
(665 |
) |
Proceeds from stock option activity |
|
|
1,111 |
|
|
|
2,487 |
|
Repurchase of term loans and senior subordinated notes
(includes premiums paid of $16.5 million) |
|
|
(607,043 |
) |
|
|
|
|
|
|
|
|
|
|
|
Net cash flows used by financing activities |
|
|
(19,243 |
) |
|
|
(66,013 |
) |
Effect of exchange rate changes on cash |
|
|
(1,523 |
) |
|
|
(7 |
) |
|
|
|
|
|
|
|
Net change in cash and cash equivalents |
|
|
(28,525 |
) |
|
|
(13,039 |
) |
Cash and cash equivalents at beginning of year |
|
|
63,759 |
|
|
|
53,522 |
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period |
|
$ |
35,234 |
|
|
$ |
40,483 |
|
|
|
|
|
|
|
|
See accompanying notes to condensed consolidated financial statements.
7
FLOWSERVE CORPORATION
(Unaudited)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation and Accounting Policies
Basis of Presentation
The accompanying condensed consolidated balance sheet as of September 30, 2005, and the
related condensed consolidated statements of operations and comprehensive (loss) income for the
three and nine months ended September 30, 2005 and 2004, and the condensed consolidated statements
of cash flows for the nine months ended September 30, 2005 and 2004, are unaudited. In
managements opinion, all adjustments comprising normal recurring adjustments necessary for a fair
presentation of such condensed consolidated financial statements have been made.
The accompanying condensed consolidated financial statements and notes in this Quarterly
Report are presented as permitted by Regulation S-X and do not contain certain information included
in our annual financial statements and notes to the financial statements. Accordingly, the
accompanying condensed consolidated financial information should be read in conjunction with the
consolidated financial statements for the year ended December 31, 2005 presented in our Annual
Report on Form 10-K for the year ended December 31, 2005 (2005 Annual Report), which was filed
with the SEC on June 30, 2006.
Certain reclassifications have been made to prior period amounts to conform with the current
period presentation.
Stock-Based Compensation
We have several stock-based employee compensation plans, which we account for under the
recognition and measurement principles of Accounting Principles Board Opinion (APB) No. 25,
Accounting for Stock Issued to Employees, and related interpretations. It is our policy to set
the exercise price of stock options at the closing price of our common stock on the New York Stock
Exchange on the date such grants are authorized by our Board of Directors. For 2005 and prior
years, no stock-based employee compensation cost is reflected in net earnings for stock option
grants, as all options granted under those plans had an exercise price equal to or in excess of the
market value of the underlying common stock on the date of grant. Should we elect to modify any of
our existing stock option awards, APB No. 25, as interpreted by Financial Accounting Standards
Board (FASB) Financial Interpretation (FIN) No. 44, Accounting for Certain Transactions
Involving Stock Compensation, requires us to recognize the intrinsic value of the underlying
options at the date the modification becomes effective. Modifications could include accelerated
vesting, a reduction in exercise prices or extension of the exercise period.
Awards of restricted stock are valued at the market price of our common stock on the grant
date and recorded as unearned compensation within shareholders equity. The unearned compensation
is amortized to compensation expense over the vesting period of the restricted stock. We have
unearned compensation of $10.5 million and $5.2 million at September 30, 2005 and December 31,
2004, respectively. These amounts will be recognized into net earnings in prospective periods.
The following table illustrates the effect on net earnings and earnings per share if we had
applied the fair value recognition provisions of Statement of Financial Accounting Standards
(SFAS) No. 123, Accounting for Stock-Based Compensation, to all stock-based employee
compensation, calculated using the Black-Scholes option-pricing model.
8
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
(Amounts in thousands, except per share data) |
|
2005 |
|
|
2004 |
|
|
Net (loss) earnings, as reported |
|
$ |
(9,950 |
) |
|
$ |
6,368 |
|
Restricted stock compensation expense included in net (loss) earnings, net of
related tax effects |
|
|
4,644 |
|
|
|
385 |
|
Less: Stock-based employee compensation expense determined under fair value
method for all awards, net of related tax effects |
|
|
(5,297 |
) |
|
|
(297 |
) |
|
|
|
|
|
|
|
Pro forma net (loss) earnings |
|
$ |
(10,603 |
) |
|
$ |
6,456 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (loss) earnings per share basic: |
|
|
|
|
|
|
|
|
As reported |
|
$ |
(0.18 |
) |
|
$ |
0.12 |
|
Pro forma |
|
|
(0.19 |
) |
|
|
0.12 |
|
Net (loss) earnings per share diluted: |
|
|
|
|
|
|
|
|
As reported |
|
$ |
(0.19 |
) |
|
$ |
0.11 |
|
Pro forma |
|
|
(0.19 |
) |
|
|
0.12 |
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
(Amounts in thousands, except per share data) |
|
2005 |
|
|
2004 |
|
Net earnings, as reported |
|
$ |
3,986 |
|
|
$ |
19,783 |
|
Restricted stock compensation expense included in net earnings, net of
related tax effects |
|
|
7,069 |
|
|
|
482 |
|
Less: Stock-based employee compensation expense determined under fair value
method for all awards, net of related tax effects |
|
|
(9,017 |
) |
|
|
(1,309 |
) |
|
|
|
|
|
|
|
Pro forma net earnings |
|
$ |
2,038 |
|
|
$ |
18,956 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net earnings per share basic: |
|
|
|
|
|
|
|
|
As reported |
|
$ |
0.07 |
|
|
$ |
0.36 |
|
Pro forma |
|
|
0.04 |
|
|
|
0.34 |
|
Net earnings per share diluted: |
|
|
|
|
|
|
|
|
As reported |
|
$ |
0.07 |
|
|
$ |
0.36 |
|
Pro forma |
|
|
0.04 |
|
|
|
0.34 |
|
The above pro forma disclosures may not be representative of effects for future years, since
the determination of the fair value of stock options granted includes an expected volatility factor
and additional option grants are expected to be made each year.
Other Accounting Policies
Our significant accounting policies, for which no significant changes have occurred in the
quarter ended September 30, 2005, are detailed in Note 1 of our 2005 Annual Report.
Accounting Developments
Pronouncements Implemented
In December 2004, the FASB issued SFAS No. 153, Exchanges of Non-monetary Assets, which
addresses the measurement of exchanges of non-monetary assets. SFAS No. 153 eliminates the
exception from fair value measurement for non-monetary exchanges of similar productive assets,
which was previously provided by APB No. 29, Accounting for Non-monetary Transactions, and
replaces it with an exception for exchanges that do not have commercial substance. SFAS No. 153
specifies that a non-monetary exchange has commercial substance if the future cash flows of the
entity are
9
expected to change significantly as a result of the exchange. SFAS No. 153 is effective
for non-monetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. The
adoption of SFAS No. 153 during 2005 had no impact on our consolidated financial position or
results of operations.
In April 2005, the FASB issued FIN No. 47, Accounting for Conditional Asset Retirement
Obligations. FIN No. 47 clarifies that the term conditional asset retirement obligation as used
in SFAS No. 143, Accounting for Asset Retirement Obligations, requiring companies to recognize a
liability for the fair value of an asset retirement obligation that may be
conditional on a future event if the fair value of the liability can be reasonably estimated.
FIN No. 47 is effective as of the end of fiscal years ending after December 15, 2005. Our adoption
of FIN No. 47, effective in the first quarter of 2005, did not have a material impact on our
consolidated financial position or results of operation.
Pronouncements Not Yet Implemented
In December 2004, the FASB issued SFAS No. 123(R), Share-Based Payment. SFAS No. 123(R)
requires compensation costs related to share-based payment transactions to be recognized in the
financial statements. With limited exceptions, the amount of the compensation cost is to be
measured based on the grant-date fair value of the equity or liability instruments issued. In
addition, liability awards are to be re-measured each reporting period. Compensation cost will be
recognized over the period that an employee provides service in exchange for the award. SFAS No.
123(R) is a revision of SFAS No. 123, Accounting for Stock-Based Compensation, as amended by SFAS
No. 148, Accounting for Stock-Based Compensation Transition and Disclosure and supersedes APB
No. 25. SFAS No. 123(R) is effective for public companies as of the first interim or annual
reporting period of the first fiscal year beginning after June 15, 2005. We adopted SFAS No. 123(R)
effective January 1, 2006 using the modified prospective transition method. The specific magnitude
of the impact of SFAS No. 123(R) on our results of operations for the year ended December 31, 2006
cannot be predicted at this time because it will depend on levels of share-based incentive awards
granted in the future, as well as the effect of the pending modification discussed in Note 5.
However, had we adopted SFAS No. 123(R) in prior periods, the impact would have approximated the
impact of SFAS No. 123 as described in the disclosure of pro forma net income and earnings per
share in Stock-Based Compensation above.
In November 2004, the FASB issued SFAS No. 151, Inventory Costs, an amendment of Accounting
Research Bulletin No. 43, Chapter 4. SFAS No. 151 amends Accounting Research Bulletin (ARB) No.
43, Chapter 4 and seeks to clarify the accounting for abnormal amounts of idle facility expense,
freight, handling costs, and wasted materials by requiring those items to be recognized as current
period charges. Additionally, SFAS No. 151 requires that fixed production overheads be allocated to
conversion costs based on the normal capacity of the production facilities. SFAS No. 151 is
effective prospectively for inventory costs incurred in fiscal years beginning after June 15, 2005.
We do not expect the adoption of SFAS No. 151 to have a material effect on our consolidated
financial position or results of operations.
In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections. SFAS
No. 154 establishes new standards on accounting for changes in accounting principles. All such
changes must be accounted for by retrospective application to the financial statements of prior
periods unless it is impracticable to do so. SFAS No. 154 replaces APB No. 20, Accounting
Changes, and SFAS No. 3, Reporting Accounting Changes in Interim Periods. However, it carries
forward the guidance in those pronouncements with respect to accounting for changes in estimates,
changes in the reporting entity and the correction of errors. SFAS No. 154 is effective for
accounting changes and error corrections made in fiscal years beginning after December 15, 2005,
with early adoption permitted for changes and corrections made in years beginning after June 1,
2005. The application of SFAS No. 154 does not affect the transition provisions of any existing
pronouncements, including those that are in the transition phase as of the effective date of SFAS
No. 154. We do not expect the adoption of SFAS No. 154 to have a material effect on our
consolidated financial position or results of operations.
Although there are no other final pronouncements recently issued that we have not adopted and
that we expect to impact reported financial information or disclosures, accounting promulgating
bodies have a number of pending projects which may directly impact us. We continue to evaluate the
status of these projects and as these projects become final, we will provide disclosures regarding
the likelihood and magnitude of their impact, if any.
2. Discontinued Operations
General Services Group During the first quarter of 2005 we made a definitive decision to
divest certain non-core service operations, collectively called the General Services Group (GSG),
and accordingly, evaluated impairment pursuant
10
to a held for sale concept as opposed to the
previously held and used concept. As part of our decision to sell, we allocated $12.3 million of
goodwill to GSG based on its relative fair value to the total reporting units estimated fair
value. We recognized impairment charges aggregating $30.1 million during 2005, of which $5.9
million and $17.6 million were recorded during the first and third quarters, respectively, relating
to GSG as the number of potential buyers diminished to one purchaser during the bidding process and
the business underperformed during the year due to the pending sale. Effective December 31, 2005,
we sold GSG to Furmanite, a unit of Dallas-based Xanser Corporation for approximately $16 million
in gross cash proceeds, including $2 million held in escrow pending final settlement, subject to
final working capital adjustments, excluding
approximately $12 million of net accounts receivable, generating a pre-tax loss of $3.8
million, which was recognized in the fourth quarter of 2005. The pre-tax loss on the sale of GSG
is subject to final working capital adjustments, which remain under negotiation. The outcome of
such negotiations could result in a change in the ultimate loss on sale in the period of
resolution. We used approximately $11 million of the net cash proceeds to reduce our indebtedness
in January 2006. We have allocated estimated interest expense related to this repayment to each
period presented based upon then prevailing interest rates. As a result of this sale, we have
presented the results of operations of GSG as discontinued operations for all periods presented.
GSG generated the following results of operations:
|
|
|
|
|
|
|
|
|
(Amounts in millions) |
|
Three Months Ended September 30, |
|
|
|
2005 |
|
|
2004 |
|
Sales |
|
$ |
21.6 |
|
|
$ |
28.7 |
|
Cost of sales |
|
|
20.0 |
|
|
|
24.3 |
|
Selling, general and administrative expense |
|
|
22.3 |
|
|
|
6.1 |
|
Interest expense |
|
|
0.2 |
|
|
|
0.2 |
|
Other expense, net |
|
|
|
|
|
|
(0.1 |
) |
|
|
|
|
|
|
|
Earnings (loss) before income taxes |
|
|
(20.9 |
) |
|
|
(2.0 |
) |
Income tax benefit |
|
|
(5.8 |
) |
|
|
(0.6 |
) |
|
|
|
|
|
|
|
Results for discontinued operations, net of tax |
|
$ |
(15.1 |
) |
|
$ |
(1.4 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Amounts in millions) |
|
Nine Months Ended September 30, |
|
|
|
2005 |
|
|
2004 |
|
Sales |
|
$ |
76.3 |
|
|
$ |
87.0 |
|
Cost of sales |
|
|
63.6 |
|
|
|
70.7 |
|
Selling, general and administrative expense |
|
|
42.4 |
|
|
|
19.6 |
|
Interest expense |
|
|
0.6 |
|
|
|
0.4 |
|
Other expense, net |
|
|
(0.1 |
) |
|
|
(0.2 |
) |
|
|
|
|
|
|
|
Earnings before income taxes |
|
|
(30.4 |
) |
|
|
(3.9 |
) |
Income tax benefit |
|
|
(7.7 |
) |
|
|
(1.0 |
) |
|
|
|
|
|
|
|
Results for discontinued operations, net of tax |
|
$ |
(22.7 |
) |
|
$ |
(2.9 |
) |
|
|
|
|
|
|
|
11
GSGs assets and liabilities have been reclassified to prepaid expenses and other, other
assets, net and accounts payable to reflect discontinued operations. As of September 30, 2005 and
December 31, 2004, GSGs assets and liabilities consisted of the following:
|
|
|
|
|
|
|
|
|
(Amounts in millions) |
|
September 30, |
|
|
December 31, |
|
|
|
2005 |
|
|
2004 |
|
Accounts receivable, net |
|
$ |
19.7 |
|
|
$ |
23.0 |
|
Inventory, net |
|
|
12.0 |
|
|
|
13.3 |
|
Prepaid expenses and other |
|
|
0.4 |
|
|
|
0.4 |
|
|
|
|
|
|
|
|
Total current assets |
|
|
32.1 |
|
|
|
36.7 |
|
Property, plant and equipment, net |
|
|
6.2 |
|
|
|
17.5 |
|
Other intangible assets, net |
|
|
0.1 |
|
|
|
0.1 |
|
|
|
|
|
|
|
|
Total assets (1) |
|
$ |
38.4 |
|
|
$ |
54.3 |
|
|
|
|
|
|
|
|
Accounts payable |
|
$ |
5.5 |
|
|
$ |
8.3 |
|
Accrued liabilities |
|
|
4.3 |
|
|
|
1.7 |
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
9.8 |
|
|
|
10.0 |
|
Long-term liabilities |
|
|
0.1 |
|
|
|
0.1 |
|
|
|
|
|
|
|
|
Total liabilities (2) |
|
$ |
9.9 |
|
|
$ |
10.1 |
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Excludes $12.3 million of goodwill allocated to GSG upon classification of GSG as
assets held for sale. |
|
(2) |
|
Excludes $10.9 million of debt retired with net proceeds from the sale of GSG. |
Government Marine Business Unit In the first quarter of 2004, we made a definitive decision
to sell our Government Marine Business Unit (GMBU), a business within our Flowserve Pump Division
(FPD). As a result, we reclassified the operation to discontinued operations in the first
quarter of 2004. In November 2004, we sold GMBU to Curtiss-Wright Electro-Mechanical Corporation
for approximately $28 million, generating a pre-tax gain of $7.4 million after the allocation of
approximately $8 million of FPD goodwill and $1 million of intangible assets. GMBU, which provided
pump technology and service for U.S. Navy submarines and aircraft carriers, did not serve our core
market and represented only a small part of our total pump business. We used net proceeds from the
disposition of GMBU to reduce our outstanding indebtedness. As a result of this sale, we have
presented the assets, liabilities and results of operations of the GMBU as discontinued operations
for all periods included.
12
GMBU generated the following results of operations:
|
|
|
|
|
|
|
Three Months |
|
|
|
Ended |
|
(Amounts in millions) |
|
September 30, |
|
|
|
2004 |
|
Sales |
|
$ |
7.4 |
|
Cost of sales |
|
|
6.0 |
|
Selling, general and administrative expense |
|
|
0.7 |
|
|
|
|
|
Earnings (loss) before income taxes |
|
|
0.7 |
|
Provision (benefit) for income taxes |
|
|
0.2 |
|
|
|
|
|
Results for discontinued operations, net of tax |
|
$ |
0.5 |
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months |
|
|
|
Ended |
|
(Amounts in millions) |
|
September 30, |
|
|
|
2004 |
|
Sales |
|
$ |
19.1 |
|
Cost of sales |
|
|
15.3 |
|
Selling, general and administrative expense |
|
|
2.3 |
|
|
|
|
|
Earnings before income taxes |
|
|
1.5 |
|
Provision for income taxes |
|
|
0.5 |
|
|
|
|
|
Results for discontinued operations, net of tax |
|
$ |
1.0 |
|
|
|
|
|
3. Acquisition
We acquired the remaining 75% interest in Thompsons, Kelly and Lewis, Pty. Ltd (TKL), an
Australian manufacturer and supplier of pumps, during March 2004. The incremental interests
acquired were accounted for as a step acquisition and TKLs results of operations have been
consolidated since the date of acquisition. The estimated fair value of the net assets acquired
(including approximately $2.2 million of cash acquired) exceeded the cash paid of $12 million and,
accordingly, no goodwill was recognized.
4. Goodwill
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Amounts in thousands) |
|
Flowserve |
|
Flow |
|
Flow |
|
|
|
|
Pump |
|
Solutions |
|
Control |
|
Total |
|
|
|
Balance as of December 31, 2004 |
|
$ |
459,896 |
|
|
$ |
33,618 |
|
|
$ |
371,837 |
|
|
$ |
865,351 |
|
Impairment of GSG (1) |
|
|
|
|
|
|
|
|
|
|
(12,327 |
) |
|
|
(12,327 |
) |
Currency translation |
|
|
(3,014 |
) |
|
|
(2,069 |
) |
|
|
(8,267 |
) |
|
|
(13,350 |
) |
|
|
|
Balance as of September 30, 2005 |
|
$ |
456,882 |
|
|
$ |
31,549 |
|
|
$ |
351,243 |
|
|
$ |
839,674 |
|
|
|
|
(1) |
|
As discussed in Note 2 above, in the first quarter of 2005 we classified GSG as a
discontinued operation, and we allocated goodwill of $12.3 million to GSG. Based on the
fair value of GSG at March 31, 2005, we recorded a goodwill impairment of $5.9 million. We
recorded an impairment of the remainder of the goodwill allocated to GSG during the three
months ended September 30, 2005. |
5. Stock Plans
During 2005, we made a number of modifications to our stock plans, including the acceleration
of the vesting of certain restricted stock grants and outstanding options, as well as the extension
of the exercise period associated with certain outstanding options. These modifications resulted
from severance agreements with former executives and from our decision to temporarily suspend
option exercises. As a result of the modifications primarily related to severance agreements with
former
13
executives, we recorded additional compensation expenses in 2005 of approximately $7.2
million, of which $0 and $6.2 million were recorded in the three and nine months ended September
30, 2005, respectively, based upon the intrinsic values of the awards on the dates the
modifications were made.
On June 1, 2005, we took action to extend to December 31, 2006, the regular term of certain
options granted to employees, including executive officers, qualified retirees and directors, which
were scheduled to expire in 2005. Subsequently, we took action on November 4, 2005, to extend the
exercise date of these options, and options expiring in 2006, to January 1, 2009. We thereafter
concluded, however, that recent regulatory guidance issued under Section 409A of the Internal
Revenue Code might cause the recipients extended options to become subject to unintended adverse
tax consequences under Section 409A. Accordingly, effective December 14, 2005, the Organization and
Compensation Committee of the Board of Directors partially rescinded, in accordance with the
regulations, the extensions of the regular term of these options, to provide as follows:
|
(i) |
|
the regular term of options otherwise expiring in 2005 will expire 30 days after
the options first become exercisable when our SEC filings have become current and an
effective SEC Form S-8 Registration Statement has been filed with the SEC, and |
|
|
(ii) |
|
the regular term of options otherwise expiring in 2006 will expire on the later
of: |
|
(1) |
|
75 days after the regular term of the option as originally granted expires, or |
|
|
(2) |
|
December 31, 2006 (assuming the options become exercisable in 2006 for the
reasons included in (i) above). |
These extensions are subject to our shareholders approving certain applicable plan amendments
at our next annual shareholders meeting, scheduled for
August 24, 2006. If shareholders do not approve
the plan amendments as currently posed in our proxy statement, these extension actions will become
void. If such plan amendments are approved at our next annual shareholders meeting, the extensions
will be considered as a stock modification for financial reporting purposes subject to the
recognition of a non-cash compensation charge in accordance with SFAS No. 123(R). Our actual charge
will be contingent upon many factors, including future share price volatility, risk free interest
rate, option maturity, strike price, share price and dividend yield.
The earlier extension actions also extended the option exercise period available following
separation from employment for reasons of death, disability and termination not for cause or
certain voluntary separations. These separate extensions were partially rescinded at the December
14, 2005, meeting of the Organization and Compensation Committee of the Board of Directors, and as
so revised are currently effective and not subject to shareholder approval. The exercise period
available following such employment separations has been extended to the later of (i) 30 days after
the options first became exercisable when our SEC filings have become current and an effective
Registration Statement on Form S-8 has been filed with the SEC, or (ii) the period available for
exercise following separation from employment under the terms of the option as originally granted.
This extension is considered for financial reporting purposes as a stock modification subject to
the recognition of a non-cash compensation change in accordance with APB No. 25 of $1.0 million in 2005, none of which was recorded in the nine months ended September 30, 2005. The
extension of the exercise period following separation from employment does not apply to option
exercise periods governed by a separate separation contract or agreement.
6. Derivative Instruments and Hedges
We enter into forward contracts to hedge our risk associated with transactions denominated in
currencies other than the local currency of the operation engaging in the transaction. Our risk
management and derivatives policy specify the conditions in which we enter into derivative
contracts. As of September 30, 2005, we had approximately $210.5 million of notional amount in
outstanding contracts with third parties. As of September 30, 2005, the maximum length of any
forward contract in place was 23 months.
Certain of our forward contracts do not qualify for hedge accounting. The fair value of these
outstanding forward contracts at September 30, 2005 was a liability of $3.0 million and an asset of
$3.4 million at December 31, 2004. Unrealized gains (losses) from the changes in the fair value of
these forward contracts of $0.2 million and $3,000 for the quarters ended September 30, 2005 and
2004, respectively, and $(5.8) million and $4.6 million for the nine months ended September 30,
2005 and 2004, respectively, are included in other income (expense), net in the consolidated
statements of operations. The fair value
14
of outstanding forward contracts qualifying for hedge
accounting at September 30, 2005 was an asset of $85,000 and a liability of $2.3 million at
December 31, 2004. Unrealized gains (losses) from the changes in the fair value of qualifying
forward contracts and the associated underlying exposures of $0.3 million and $(49,000), net of
tax, for the quarters ended September
30, 2005 and 2004, respectively, and $0.2 million and $86,000, net of tax, for the nine months
ended September 30, 2005 and 2004, respectively, are included in other comprehensive (loss) income.
Also as part of our risk management program, we enter into interest rate swap agreements to
hedge exposure to floating interest rates on certain portions of our debt. As of September 30,
2005, we have $325 million of notional amount in outstanding interest rate swaps with third
parties. As of September 30, 2005, the maximum remaining length of any interest rate contract in
place was approximately 39 months. The fair value of the interest rate swap agreements was a
liability of $0.8 million and $3.4 million at September 30, 2005 and December 31, 2004,
respectively. Unrealized gains from the changes in fair value of our interest rate swap
agreements, net of reclassifications, of $1.3 million and $2.1 million, net of tax, for the
quarters ended September 30, 2005 and 2004, respectively, and $2.2 million and $1.8 million, net of
tax, for the nine months ended September 30, 2005 and 2004, respectively, are included in other
comprehensive (loss) income.
During the third quarter of 2004, we entered into a compound derivative contract to hedge
exposure to both currency translation and interest rate risks associated with our European
Investment Bank (EIB) loan. The notional amount of the derivative was $85 million, and it served
to convert floating rate interest rate risk to a fixed rate, as well as U.S. dollar currency risk
to Euros. The derivative matures in 2011. At September 30, 2005 and December 31, 2004, the fair
value of this derivative was a liability of $6.0 million and $15.9 million respectively. This
derivative did not qualify for hedge accounting. The unrealized gain (loss) on the derivative,
offset with the foreign currency translation gain on the underlying loan aggregates to $1.0 million
and $(3.1) million for the quarters ended September 30, 2005 and 2004, respectively, and $(1.7)
million and $(3.1) million for the nine months ended September 30, 2005 and 2004, respectively, and
is included in other income (expense), net in the consolidated statements of operations.
We are exposed to risk from credit-related losses resulting from nonperformance by
counterparties to our financial instruments. We perform credit evaluations of our counterparties
under forward contracts and interest rate swap agreements and expect all counterparties to meet
their obligations. We have not experienced credit losses from our counterparties.
7. Debt
Debt, including capital lease obligations, consisted of:
|
|
|
|
|
|
|
|
|
(Amounts in thousands) |
|
September 30, |
|
|
December 31, |
|
|
|
2005 |
|
|
2004 |
|
Term Loan interest rate of 5.81% |
|
$ |
600,000 |
|
|
$ |
|
|
Term Loan Tranche A: |
|
|
|
|
|
|
|
|
U.S. Dollar Tranches, interest rate of 5.02% |
|
|
|
|
|
|
76,240 |
|
Euro Tranche, interest rate of 4.69% |
|
|
|
|
|
|
13,257 |
|
Term Loan Tranche C, interest rate of 5.20% |
|
|
|
|
|
|
233,851 |
|
Senior Subordinated Notes, net of discount, coupon of 12.25%: |
|
|
|
|
|
|
|
|
U.S. Dollar denominated |
|
|
|
|
|
|
187,004 |
|
Euro denominated |
|
|
|
|
|
|
87,484 |
|
EIB loan, interest rate of 3.80% in 2005 and 2.39% in 2004 |
|
|
85,000 |
|
|
|
85,000 |
|
Receivable securitization and factoring obligations |
|
|
12,369 |
|
|
|
17,635 |
|
Capital lease obligations and other |
|
|
1,815 |
|
|
|
1,373 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Debt and capital lease obligations |
|
|
699,184 |
|
|
|
701,844 |
|
Less amounts due within one year |
|
|
18,837 |
|
|
|
44,098 |
|
|
|
|
|
|
|
|
Total debt due after one year |
|
$ |
680,347 |
|
|
$ |
657,746 |
|
|
|
|
|
|
|
|
15
New Credit Facilities
In March 2005, we obtained consents from our major lenders that enhanced our flexibility under
our 2000 Credit Facilities (described below) to among other things permit the August 2005
refinancing of our 2000 Credit Facilities and the repurchase of our 12.25% Senior Subordinated
Notes. On August 12, 2005, we entered into credit facilities comprised of a $600 million term loan
expiring on August 10, 2012 and a $400 million revolving line of credit, which can be utilized to
provide up to
$300 million in letters of credit, expiring on August 12, 2010. We refer to these credit
facilities collectively as our New Credit Facilities. The proceeds of borrowings under our New
Credit Facilities were used to call our 12.25% Senior Subordinated Notes and retire our
indebtedness outstanding under our 2000 Credit Facilities. We also replaced the letter of credit
agreement guaranteeing our obligations under the EIB credit facility (described below) with a
letter of credit issued under the new revolving line of credit. We had outstanding letters of
credit of $142.6 million at September 30, 2005 under the revolving line of credit, which reduced
borrowing capacity to $257.4 million, compared with a borrowing capacity of $248.7 million at
December 31, 2004 under our 2000 Credit Facilities. During the nine months ended September 30,
2005, we made no payments under our New Credit Facilities. During the remainder of 2005, we made
scheduled payments of $1.5 million and optional payments of $38.4 million.
We incurred $9.3 million in fees related to the New Credit Facilities, of which $0.8 million
were expensed in the third quarter of 2005. Prior to the refinancing, we had $11.8 million of
unamortized deferred loan costs related to the 2000 Credit Facilities and the Senior Subordinated
Notes. Based upon the final syndicate of financial institutions for the New Credit Facilities, we
expensed $10.5 million of these unamortized deferred loan costs in the third quarter of 2005. In
addition to the total loan costs of $11.3 million that were expensed, we recorded a charge of $16.4
million for premiums paid to call the Senior Subordinated Notes, for a total loss on extinguishment
of $27.7 million recorded in the third quarter of 2005. The remaining $8.5 million of fees related
to the New Credit Facilities were capitalized and combined with the remaining $1.3 million of
previously unamortized deferred loan costs for a total of $9.8 million in deferred loan costs
included in other assets, net. These costs are being amortized over the term of the New Credit
Facilities.
Borrowings under our New Credit Facilities bear interest at a rate equal to, at our option,
either (1) the base rate (which is based on the greater of the prime rate most recently announced
by the administrative agent under our New Credit Facilities or the Federal Funds rate plus 0.50%)
or (2) London Interbank Offered Rate (LIBOR) plus an applicable margin determined by reference to
the ratio of our total debt to consolidated Earnings Before Interest, Taxes, Depreciation and
Amortization (EBITDA), which at September 30, 2005 was 1.75% for LIBOR borrowings. In addition,
we pay lenders under the New Credit Facilities a commitment fee equal to a percentage, determined
by reference to the ratio of our total debt to consolidated EBITDA, of the unutilized portion of
the revolving line of credit, and letter of credit fees with respect to each financial standby
letter of credit outstanding under our New Credit Facilities equal to a percentage based on the
applicable margin in effect for LIBOR borrowings under the new revolving line of credit. The fee
for performance standby letters of credit is 0.5% lower than the fee for financial standby letters
of credit.
In connection with the New Credit Facilities entered into in August 2005, we entered into $275
million of notional amount of interest rate swaps to hedge exposure of floating interest rates. Of
this total notional amount of $275 million, $130 million carried a start date of September 30, 2005
and $145 million carried a start date of December 30, 2005. These swaps, combined with the $135
million of interest rates swaps held by us at the time of the refinancing, total $410 million of
notional amount of interest rate swaps outstanding at December 31, 2005.
Our obligations under the New Credit Facilities are unconditionally guaranteed, jointly and
severally, by substantially all of our existing and subsequently acquired or organized domestic
subsidiaries and 65% of the capital stock of certain foreign subsidiaries. In addition, prior to
our obtaining and maintaining investment grade credit ratings, our and the guarantors obligations
under the New Credit Facilities are collateralized by substantially all of our and the guarantors
assets.
The loans under our New Credit Facilities are subject to mandatory repayment with, in general:
|
|
|
100% of the net cash proceeds of asset sales; and |
|
|
|
|
Unless we attain and maintain investment grade credit ratings: |
|
◦ |
|
75% of our excess cash flow, subject to a reduction based on the ratio of our total
debt to consolidated EBITDA; |
|
|
◦ |
|
50% of the proceeds of any equity offerings; and |
|
|
◦ |
|
100% of the proceeds of any debt issuances (subject to certain exceptions). |
16
We may prepay loans under our New Credit Facilities in whole or in part, without premium or
penalty.
Our New Credit Facilities contain covenants requiring us to deliver to lenders leverage and
interest coverage financial covenants and our audited annual and unaudited quarterly financial
statements. Under the leverage covenant, the maximum permitted leverage ratio steps down beginning
with the fourth quarter of 2006, with a further step-down beginning with the fourth quarter of
2007. Under the interest coverage covenant, the minimum required interest coverage ratio steps up
beginning with the fourth quarter of 2006, with a further step-up beginning with the fourth quarter
of 2007. Compliance with these financial covenants under our New Credit Facilities is tested
quarterly, and we have complied with the financial covenants as of December 31, 2005. Further, we
are required to furnish to our lenders within 50 days of the end of each of the first three
quarters of each year our consolidated balance sheet, and related statements of operations,
shareholders equity and cash flows.
Our New Credit Facilities also contain covenants restricting our and our subsidiaries ability
to dispose of assets, merge, pay dividends, repurchase or redeem capital stock and indebtedness,
incur indebtedness and guarantees, create liens, enter into agreements with negative pledge
clauses, make certain investments or acquisitions, enter into sale and leaseback transactions,
enter into transactions with affiliates, make capital expenditures, engage in any business activity
other than our existing business or any business activities reasonably incidental thereto. We are
currently in compliance with all debt covenants under the New Credit Facilities.
EIB Credit Facility
On April 14, 2004, we and one of our European subsidiaries, Flowserve B.V., entered into an
agreement with EIB, pursuant to which EIB agreed to loan us up to 70 million, with the ability to
draw funds in multiple currencies, to finance in part specified research and development projects
undertaken by us in Europe. Borrowings under the EIB credit facility bear interest at a fixed or
floating rate of interest agreed to by us and EIB with respect to each borrowing under the
facility. Loans under the EIB credit facility are subject to mandatory repayment, at EIBs
discretion, upon the occurrence of certain events, including a change of control or prepayment of
certain other indebtedness. In addition, the EIB credit facility contains covenants that, among
other things, limit our ability to dispose of assets related to the financed project and require us
to deliver to EIB our audited annual financial statements within 30 days of publication. In August
2004, we borrowed $85 million at a floating interest rate based on 3-month U.S. LIBOR that resets
quarterly. As of September 30, 2005, the interest rate was 3.80%. The maturity of the amount drawn
is June 15, 2011, but may be repaid at any time without penalty. Our obligations under the EIB
credit facility are guaranteed by a letter of credit outstanding under our New Credit Facilities.
2000 Credit Facilities
As of December 31, 2004, our credit facilities were composed of Tranche A and Tranche C term
loans and a revolving line of credit. Tranche A consisted of a United States (U.S.) dollar
denominated tranche and a Euro denominated tranche, the latter of which was a term note due in
2006. We refer to these credit facilities collectively as our 2000 Credit Facilities.
The Tranche A and Tranche C loans had ultimate maturities of June 2006 and June 2009,
respectively. The term loans bore floating interest rates based on LIBOR plus a borrowing spread,
or the prime rate plus a borrowing spread, at our option. The borrowing spread for the senior
credit facilities can increase or decrease based on the leverage ratio as defined in the credit
facility and on our public debt ratings.
As part of the 2000 Credit Facilities, we also had a $300 million revolving line of credit
that was set to expire in June 2006. The revolving line of credit allowed us to issue up to $200
million in letters of credit. We had no amounts outstanding under the revolving line of credit at
December 31, 2004.
We were required, under certain circumstances as defined in the 2000 Credit Facilities, to use
a percentage of excess cash generated from operations to reduce the outstanding principal of the
term loans in the following year. Based upon the annual calculations performed at December 31,
2004, no additional principal payments became due in 2005 under this provision. Amounts
outstanding under the 2000 Credit Facilities were repaid in August 2005 using the proceeds from the
New Credit Facilities.
17
Senior Subordinated Notes
At September 30, 2005, we had no Senior Subordinated Notes outstanding. The Senior
Subordinated Notes were originally issued in 2000 at a discount to yield 12.5%, but had a coupon
interest rate of 12.25%. Interest on these notes was
payable semi-annually in February and August. In August 2005, all remaining Senior
Subordinated Notes outstanding were called by us at 106.125% of face value as specified in the loan
agreement and repaid, along with accrued interest.
Accounts Receivable Securitization
In October 2004, Flowserve US Inc., one of our wholly owned subsidiaries, and Flowserve
Receivables Corporation (FRC), a wholly owned subsidiary of Flowserve US Inc., entered into a
receivables purchase agreement (RPA) with Jupiter Securitization Corporation (Jupiter) and
JPMorgan Chase Bank, N.A. (successor by merger to Bank One, NA) whereby FRC could obtain up to $75
million in financing on a revolving basis by securitizing certain U.S.-based trade receivables.
To obtain financing, Flowserve US Inc. transferred certain receivables to FRC, which was
formed solely for this accounts receivable securitization program. Pursuant to the RPA, FRC then
sold undivided purchaser interests in these receivables to Jupiter, which then pooled these
interests with other unrelated interests and issued short-term commercial paper, which was repaid
from cash flows generated by collections on the receivables. Flowserve US Inc. continued to service
the receivables for a servicing fee of 0.5% of the average net receivable balance. No servicing
liability was recognized at December 31, 2004 because the amount was immaterial due to the
short-term average collection period of the securitized receivables. FRC has no recourse against
Flowserve US Inc. for failure of the debtors to pay when due. As of December 31, 2004, FRC had
secured $60 million in financing under the program. The proceeds were used to repay $16 million and
$44 million of Tranche A and Tranche C bank term loans, respectively, outstanding under our 2000
Credit Facilities. As of September 30, 2005, FRC had repaid $11.6 million and had outstanding
financing under the program of $48.4 million.
We account for this transaction in accordance with SFAS No. 140, Accounting for Transfers and
Servicing of Financial Assets and Extinguishment of Liabilities-a Replacement of FASB Statement No.
125. Under this guidance borrowings under the facility in excess of $11.3 million are excluded
from our debt balance in the consolidated balance sheets but included for purposes of covenant
calculations under the 2000 Credit Facilities.
FRC retains a subordinate interest in the receivables, which represents the amount in excess
of purchaser interests transferred to Jupiter. As of September 30, 2005 the short-term portion of
$87.9 million of this subordinate interest is included in accounts receivable, net on the
consolidated balance sheet. The long-term portion of $2.9 million of this subordinate interest is
included in the other assets, net on the consolidated balance sheet. Our retained interest in the
receivables is recorded at the present value of its estimated net realizable value based on an
assumed days sales outstanding (DSO) of 60 days and a discount rate of 5.4%.
During the third quarter of 2005 Flowserve US Inc. transferred $215.5 million of receivables
to FRC which then sold undivided purchaser interests in the receivables to Jupiter. In the third
quarter of 2005, FRC collected $217.9 million in cash that was used to purchase additional
receivables from Flowserve US Inc. and return invested capital to Flowserve US Inc. Losses on the
sales of purchaser interests totaled $0.5 million and $1.5 million for the three and nine months
ended September 30, 2005, respectively. FRC also recorded interest expense of $0.1 million and
$0.3 million for the three and nine months ended
September 30, 2005, respectively.
On October 31, 2005, we terminated the RPA. In connection with this, we borrowed approximately
$48 million under our New Credit Facilities and repurchased outstanding receivable interests from
Jupiter.
Accounts Receivable Factoring
Through our European subsidiaries, we engage in non-recourse factoring of certain accounts
receivable. The various agreements have different terms, including options for renewal and mutual
termination clauses. Under our 2000 Credit Facilities, such factoring was generally limited to $50
million, based on due date of the factored receivables. The limit on factoring was raised to $75
million under the New Credit Facilities entered into in August 2005.
18
8. Inventories
Inventories are stated at lower of cost or market. Cost is determined for principally all
U.S. inventories by the LIFO method and for other inventories by the first-in, first-out (FIFO)
method.
Inventories and the method of determining costs were:
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
(Amounts in thousands) |
|
2005 |
|
|
2004 |
|
Raw materials |
|
$ |
122,106 |
|
|
$ |
123,149 |
|
Work in process |
|
|
224,395 |
|
|
|
197,850 |
|
Finished goods |
|
|
222,053 |
|
|
|
214,929 |
|
Less: Progress billings |
|
|
(69,297 |
) |
|
|
(59,048 |
) |
Less: Excess and obsolete reserve |
|
|
(59,214 |
) |
|
|
(58,181 |
) |
|
|
|
|
|
|
|
|
|
|
440,043 |
|
|
|
418,699 |
|
LIFO reserve |
|
|
(34,745 |
) |
|
|
(30,297 |
) |
|
|
|
|
|
|
|
Net inventory |
|
$ |
405,298 |
|
|
$ |
388,402 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Percent of inventory accounted for by: |
|
|
|
|
|
|
|
|
LIFO |
|
|
44 |
% |
|
|
42 |
% |
FIFO |
|
|
56 |
% |
|
|
58 |
% |
9. Earnings Per Share
Basic and diluted earnings per weighted average share outstanding were calculated as follows:
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
(Amounts in thousands, except per share amounts) |
|
2005 |
|
|
2004 |
|
Income from continuing operations |
|
$ |
5,183 |
|
|
$ |
7,270 |
|
|
|
|
|
|
|
|
Net (loss) earnings |
|
$ |
(9,950 |
) |
|
$ |
6,368 |
|
|
|
|
|
|
|
|
Denominator for basic earnings per share weighted average shares |
|
|
55,139 |
|
|
|
55,174 |
|
Effect of potentially dilutive securities |
|
|
1,346 |
|
|
|
553 |
|
|
|
|
|
|
|
|
Denominator for diluted earnings per share weighted average shares |
|
|
56,485 |
|
|
|
55,727 |
|
|
|
|
|
|
|
|
Net earnings per share: |
|
|
|
|
|
|
|
|
Basic: |
|
|
|
|
|
|
|
|
Continuing operations |
|
$ |
0.09 |
|
|
$ |
0.14 |
|
Net (loss) earnings |
|
|
(0.18 |
) |
|
|
0.12 |
|
Diluted: |
|
|
|
|
|
|
|
|
Continuing operations |
|
$ |
0.08 |
|
|
$ |
0.13 |
|
Net (loss) earnings |
|
|
(0.19 |
) |
|
|
0.11 |
|
19
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
(Amounts in thousands, except per share amounts) |
|
2005 |
|
|
2004 |
|
Income from continuing operations |
|
$ |
26,641 |
|
|
$ |
21,653 |
|
|
|
|
|
|
|
|
Net earnings |
|
$ |
3,986 |
|
|
$ |
19,783 |
|
|
|
|
|
|
|
|
Denominator for basic earnings per share weighted average shares |
|
|
55,439 |
|
|
|
54,976 |
|
Effect of potentially dilutive securities |
|
|
1,131 |
|
|
|
552 |
|
|
|
|
|
|
|
|
Denominator for diluted earnings per share weighted average shares |
|
|
56,570 |
|
|
|
55,528 |
|
|
|
|
|
|
|
|
Net earnings per share: |
|
|
|
|
|
|
|
|
Basic: |
|
|
|
|
|
|
|
|
Continuing operations |
|
$ |
0.48 |
|
|
$ |
0.39 |
|
Net earnings |
|
|
0.07 |
|
|
|
0.36 |
|
Diluted: |
|
|
|
|
|
|
|
|
Continuing operations |
|
$ |
0.47 |
|
|
$ |
0.39 |
|
Net earnings |
|
|
0.07 |
|
|
|
0.36 |
|
10. Legal Matters and Contingencies
We are a defendant in a large number of pending lawsuits (which include, in many cases,
multiple claimants) that seek to recover damages for personal injury allegedly caused by exposure
to asbestos-containing products manufactured and/or distributed by us in the past. Any such
products were encapsulated and used only as components of process equipment, and we do not believe
that any emission of respirable asbestos-containing fibers occurred during the use of this
equipment. We believe that a high percentage of the applicable claims are covered by applicable
insurance or indemnities from other companies.
On February 4, 2004, we received an informal inquiry from the SEC requesting the voluntary
production of documents and information related to our February 3, 2004 announcement that we would
restate our financial results for the nine months ended September 30, 2003 and the full years 2002,
2001 and 2000. On June 2, 2004, we were advised that the SEC had issued a formal order of private
investigation into issues regarding this restatement and any other issues that arise from the
investigation. On May 31, 2006, we were informed by the staff of the SEC that it had concluded this
investigation without recommending any enforcement action against us.
During the quarter ended September 30, 2003, related lawsuits were filed in federal court in
the Northern District of Texas (the Court), alleging that we violated federal securities laws.
Since the filing of these cases, which have been consolidated, the lead plaintiff has amended its
complaint several times. The lead plaintiffs current pleading is the fifth consolidated amended
complaint (the Complaint). The Complaint alleges that federal securities violations occurred
between February 6, 2001 and September 27, 2002 and names as defendants our company, C. Scott
Greer, our former Chairman, President and Chief Executive Officer, Renée J. Hornbaker, our former
Vice President and Chief Financial Officer, PricewaterhouseCoopers LLP, our independent registered
public accounting firm, and Banc of America Securities LLC and Credit Suisse First Boston LLC,
which served as underwriters for our two public stock offerings during the relevant period. The
Complaint asserts claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, and
Rule 10b-5 thereunder, and Sections 11 and 15 of the Securities Act of 1933. The lead plaintiff
seeks unspecified compensatory damages, forfeiture by Mr. Greer and Ms. Hornbaker of unspecified
incentive-based or equity-based compensation and profits from any stock sales, and recovery of
costs. On November 22, 2005, the Court entered an order denying the defendants motions to dismiss
the Complaint. The case is currently set for trial on March 27, 2007. We continue to believe that
the lawsuit is without merit and are vigorously defending the case.
As of May 1, 2005, due to the non-current status of our filings with the SEC in accordance
with the Securities Exchange Act of 1934, our Registration Statements on Form S-8 were no longer
available to cover offers and sales of securities to our employees and other persons. Since that
date, the acquisition of interests in our common stock fund under our 401(k) plan by plan
participants may have been subject to the registration requirements of the Securities Act of 1933
or applicable state securities laws and may not have qualified for an available exemption from such
requirements. Federal securities laws generally provide for a one-year rescission right for an
investor who acquires unregistered securities in a transaction that is subject to registration and
for which no exemption was available. As such, an investor successfully asserting a rescission
right
20
during the one-year time period has the right to require an issuer to repurchase the
securities acquired by the investor at the price paid by the investor for the securities (or if
such security has been disposed of, to receive damages with respect to any loss on such
disposition), plus interest from the date of acquisition. These rights may apply to affected
participants in our
401(k) plan. Based on our current stock price, we believe that our current potential liability
for rescission claims is not material to our financial condition or results of operations; however,
our potential liability could become material in the future if our stock price were to fall below
participants acquisition prices for their interest in our stock fund during the one-year period
following the unregistered acquisitions.
We have been involved as a potentially responsible party (PRP) at former public waste
disposal sites that may be subject to remediation under pending government procedures. The sites
are in various stages of evaluation by federal and state environmental authorities. The projected
cost of remediation at these sites, as well as our alleged fair share allocation, is uncertain
and speculative until all studies have been completed and the parties have either negotiated an
amicable resolution or the matter has been judicially resolved. At each site, there are many other
parties who have similarly been identified, and the identification and location of additional
parties is continuing under applicable federal or state law. Many of the other parties identified
are financially strong and solvent companies that appear able to pay their share of the remediation
costs. Based on our information about the waste disposal practices at these sites and the
environmental regulatory process in general, we believe that it is likely that ultimate remediation
liability costs for each site will be apportioned among all liable parties, including site owners
and waste transporters, according to the volumes and/or toxicity of the wastes shown to have been
disposed of at the sites. We believe that our exposure for existing disposal sites will be less
than $100,000.
We are also a defendant in several other lawsuits, including product liability claims, that
are insured, subject to the applicable deductibles, arising in the ordinary course of business.
Based on currently available information, we believe that we have adequately accrued estimated
probable losses for such lawsuits. We are also involved in a substantial number of labor claims,
including one case where we had a confidential settlement reflected in our results of operations
for the second quarter of 2004.
Although none of the aforementioned potential liabilities can be quantified with absolute
certainty, we have established reserves covering these exposures, which we believe to be reasonable
based on past experience and available facts. While additional exposures beyond these reserves
could exist, they currently cannot be estimated. We will continue to evaluate these potential
contingent loss exposures and, if they develop, recognize expense as soon as such losses become
probable and can be reasonably estimated.
We are also involved in ordinary routine litigation incidental to our business, none of which
we believe to be material to our business, operations or overall financial condition. However,
resolutions or dispositions of claims or lawsuits by settlement or otherwise could have a
significant impact on our operating results for the reporting period in which any such resolution
or disposition occurs.
11. Retirement and Postretirement Benefits
Components of the net periodic cost (benefit) for the three months ended September 30, 2005
and 2004 were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. |
|
|
Non-U.S. |
|
|
Postretirement |
|
(Amounts in millions) |
|
Defined Benefit Plans |
|
|
Defined Benefit Plans |
|
|
Medical Benefits |
|
Net periodic cost (benefit) |
|
2005 |
|
|
2004 |
|
|
2005 |
|
|
2004 |
|
|
2005 |
|
|
2004 |
|
Service cost |
|
$ |
3.7 |
|
|
$ |
3.5 |
|
|
$ |
0.8 |
|
|
$ |
0.9 |
|
|
$ |
|
|
|
$ |
0.1 |
|
Interest cost |
|
|
3.9 |
|
|
|
3.8 |
|
|
|
2.6 |
|
|
|
2.2 |
|
|
|
1.0 |
|
|
|
1.3 |
|
Expected return on plan assets |
|
|
(4.1 |
) |
|
|
(4.3 |
) |
|
|
(1.4 |
) |
|
|
(1.1 |
) |
|
|
|
|
|
|
|
|
Curtailments/settlements |
|
|
(0.1 |
) |
|
|
0.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization of unrecognized net loss |
|
|
1.3 |
|
|
|
0.6 |
|
|
|
0.3 |
|
|
|
0.3 |
|
|
|
0.2 |
|
|
|
0.4 |
|
Amortization of prior service costs/ (benefit) |
|
|
(0.4 |
) |
|
|
(0.3 |
) |
|
|
|
|
|
|
|
|
|
|
(1.0 |
) |
|
|
(0.8 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cost recognized |
|
$ |
4.3 |
|
|
$ |
3.9 |
|
|
$ |
2.3 |
|
|
$ |
2.3 |
|
|
$ |
0.2 |
|
|
$ |
1.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
21
Components of the net periodic cost (benefit) for the nine months ended September 30, 2005 and
2004 were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. |
|
|
Non-U.S. |
|
|
Postretirement |
|
(Amounts in millions) |
|
Defined Benefit Plans |
|
|
Defined Benefit Plans |
|
|
Medical Benefits |
|
Net periodic cost (benefit) |
|
2005 |
|
|
2004 |
|
|
2005 |
|
|
2004 |
|
|
2005 |
|
|
2004 |
|
Service cost |
|
$ |
11.1 |
|
|
$ |
10.4 |
|
|
$ |
2.5 |
|
|
$ |
2.5 |
|
|
$ |
0.1 |
|
|
$ |
0.1 |
|
Interest cost |
|
|
11.6 |
|
|
|
11.6 |
|
|
|
7.7 |
|
|
|
6.6 |
|
|
|
3.1 |
|
|
|
4.0 |
|
Expected return on plan assets |
|
|
(12.3 |
) |
|
|
(13.0 |
) |
|
|
(4.3 |
) |
|
|
(3.3 |
) |
|
|
|
|
|
|
|
|
Curtailments/settlements |
|
|
(0.2 |
) |
|
|
0.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization of unrecognized net loss |
|
|
3.8 |
|
|
|
1.9 |
|
|
|
1.1 |
|
|
|
1.0 |
|
|
|
0.5 |
|
|
|
1.1 |
|
Amortization of prior service costs |
|
|
(1.1 |
) |
|
|
(1.0 |
) |
|
|
|
|
|
|
|
|
|
|
(3.1 |
) |
|
|
(2.3 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cost recognized |
|
$ |
12.9 |
|
|
$ |
10.5 |
|
|
$ |
7.0 |
|
|
$ |
6.8 |
|
|
$ |
0.6 |
|
|
$ |
2.9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
12. Income Taxes
For the three months ended September 30, 2005, we earned $9.7 million before taxes and
provided for income taxes of $4.5 million, resulting in an effective tax rate of 46.5%. For the
nine months ended September 30, 2005, we earned $44.8 million before taxes and provided for income
taxes of $18.2 million, resulting in an effective tax rate of 40.5%. The effective tax rate varied
from the U.S. federal statutory rate for the three and nine months ended September 30, 2004
primarily due to the net impact of foreign operations.
For the three months ended September 30, 2004, we earned $17.8 million before taxes and
provided for income taxes of $10.6 million, resulting in an effective tax rate of 59.3%. For the
nine months ended September 30, 2004, we earned $56.4 million before taxes and provided for income
taxes of $34.8 million, resulting in an effective tax rate of 61.6%. The effective tax rate varied
from the U.S. federal statutory rate for the three and nine months ended September 30, 2004
primarily due to the impact of increased foreign earnings repatriation used to pay down U.S. debt.
13. Segment Information
We are principally engaged in the worldwide design, manufacture, distribution and service of
industrial flow management equipment. We provide pumps, valves and mechanical seals primarily for
the petroleum industry, chemical-processing industry, power-generation industry, water industry,
general industry and other industries requiring flow management products.
We have the following three divisions, each of which constitutes a business segment:
|
|
|
Flowserve Pump Division; |
|
|
|
|
Flow Solutions Division; and |
|
|
|
|
Flow Control Division. |
Each division manufactures different products and is defined by the type of products and
services provided. Each division has a President, who reports directly to our Chief Executive
Officer, and a Division Controller, who reports directly to our Chief Accounting Officer. For
decision-making purposes, our Chief Executive Officer and other members of senior executive
management use financial information generated and reported at the division level. Our corporate
headquarters does not constitute a separate division or business segment.
We evaluate segment performance and allocate resources based on each segments operating
income. Amounts classified as All Other include the corporate headquarters costs and other minor
entities that do not constitute separate segments. Intersegment sales and transfers are recorded at
cost plus a profit margin, with the margin on such sales eliminated with consolidation.
22
The following is a summary of the financial information of the reportable segments reconciled
to the amounts reported in the condensed consolidated financial statements.
Three Months Ended September 30, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal |
|
|
|
|
|
|
|
|
Flowserve |
|
Flow |
|
Flow |
|
Reportable |
|
|
|
|
|
Consolidated |
(Amounts in thousands) |
|
Pump |
|
Solutions |
|
Control |
|
Segments |
|
All Other |
|
Total |
Sales to external customers |
|
$ |
321,156 |
|
|
$ |
103,338 |
|
|
$ |
223,613 |
|
|
$ |
648,107 |
|
|
$ |
1,378 |
|
|
$ |
649,485 |
|
Intersegment sales |
|
|
810 |
|
|
|
9,852 |
|
|
|
1,076 |
|
|
|
11,738 |
|
|
|
(11,738 |
) |
|
|
- |
|
Segment operating income |
|
|
28,971 |
|
|
|
23,006 |
|
|
|
25,280 |
|
|
|
77,257 |
|
|
|
(22,446 |
) |
|
|
54,811 |
|
Three Months Ended September 30, 2004
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal |
|
|
|
|
|
|
|
|
Flowserve |
|
Flow |
|
Flow |
|
Reportable |
|
|
|
|
|
Consolidated |
(Amounts in thousands) |
|
Pump |
|
Solutions |
|
Control |
|
Segments |
|
All Other |
|
Total |
Sales to external customers |
|
$ |
322,468 |
|
|
$ |
88,749 |
|
|
$ |
210,772 |
|
|
$ |
621,989 |
|
|
$ |
1,437 |
|
|
$ |
623,426 |
|
Intersegment sales |
|
|
1,362 |
|
|
|
7,143 |
|
|
|
1,052 |
|
|
|
9,557 |
|
|
|
(9,557 |
) |
|
|
|
|
Segment operating income |
|
|
23,482 |
|
|
|
18,761 |
|
|
|
18,765 |
|
|
|
61,008 |
|
|
|
(17,828 |
) |
|
|
43,180 |
|
Nine Months Ended September 30, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal |
|
|
|
|
|
|
|
|
Flowserve |
|
Flow |
|
Flow |
|
Reportable |
|
|
|
|
|
Consolidated |
(Amounts in thousands) |
|
Pump |
|
Solutions |
|
Control |
|
Segments |
|
All Other |
|
Total |
Sales to external customers |
|
$ |
992,061 |
|
|
$ |
300,993 |
|
|
$ |
660,020 |
|
|
$ |
1,953,074 |
|
|
$ |
3,693 |
|
|
$ |
1,956,767 |
|
Intersegment sales |
|
|
3,040 |
|
|
|
26,950 |
|
|
|
3,050 |
|
|
|
33,040 |
|
|
|
(33,040 |
) |
|
|
|
|
Segment operating income |
|
|
84,355 |
|
|
|
65,891 |
|
|
|
71,456 |
|
|
|
221,702 |
|
|
|
(84,763 |
) |
|
|
136,939 |
|
Nine Months Ended September 30, 2004
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal |
|
|
|
|
|
|
|
|
Flowserve |
|
Flow |
|
Flow |
|
Reportable |
|
|
|
|
|
Consolidated |
(Amounts in thousands) |
|
Pump |
|
Solutions |
|
Control |
|
Segments |
|
All Other |
|
Total |
Sales to external customers |
|
$ |
935,615 |
|
|
$ |
266,309 |
|
|
$ |
612,649 |
|
|
$ |
1,814,573 |
|
|
$ |
4,189 |
|
|
$ |
1,818,762 |
|
Intersegment sales |
|
|
4,328 |
|
|
|
22,297 |
|
|
|
3,405 |
|
|
|
30,030 |
|
|
|
(30,030 |
) |
|
|
|
|
Segment operating income |
|
|
64,620 |
|
|
|
54,524 |
|
|
|
53,712 |
|
|
|
172,856 |
|
|
|
(47,239 |
) |
|
|
125,617 |
|
14. Subsequent Events
Legal Matters
On October 6, 2005, a shareholder derivative lawsuit was filed purportedly on our behalf in
the 193rd Judicial District of Dallas County, Texas. The lawsuit names as defendants Mr. Greer, Ms.
Hornbaker, and current board members Hugh K. Coble, George T. Haymaker, Jr., William C. Rusnack,
Michael F. Johnston, Charles M. Rampacek, Kevin E. Sheehan, Diane C. Harris, James O. Rollans and
Christopher A. Bartlett. We are named as a nominal defendant. Based primarily on the purported
misstatements alleged in the above-described federal securities case, the plaintiff asserts claims
against the defendants for breach of fiduciary duty, abuse of control, gross mismanagement, waste
of corporate assets and unjust enrichment. The plaintiff alleges that these purported violations of
state law occurred between April 2000 and the date of suit. The plaintiff seeks on our behalf an
unspecified amount of damages, injunctive relief and/or the imposition of a constructive trust on
defendants assets, disgorgement of compensation, profits or other benefits received by the
defendants from us, and recovery of attorneys fees and costs. We strongly believe that the suit
was improperly filed and have filed a motion seeking dismissal of the case.
On February 7, 2006, we received a subpoena from the SEC regarding goods and services that
certain foreign subsidiaries delivered to Iraq from 1996 through 2003 during the United Nations
Oil-for-Food program. This investigation includes a review of whether any inappropriate payments
were made to Iraqi officials in violation of the Foreign Corrupt Practices Act. The investigation
includes periods prior to, as well as subsequent to our acquisition of the foreign operations
involved in the investigation. We may be subject to liabilities if violations are found regardless
of whether they relate to periods before or subsequent to our acquisition.
23
In addition, one of our foreign subsidiarys operations is cooperating with a foreign
governmental investigation of that sites involvement in the United Nations Oil-for-Food program.
This cooperation has included responding to an investigative trip by foreign authorities to the
foreign subsidiarys site, providing relevant documentation to these authorities and answering
their questions. We are unable to predict how or if the foreign authorities will pursue this matter
in the future.
We believe that both the SEC and foreign authorities are investigating other companies from
their actions arising from the United Nations Oil-for-Food program.
We are in the process of reviewing and responding to the SEC subpoena and assessing the
implications of the foreign investigation, including the continuation of a thorough internal
investigation. Our investigation is in the early stages and has included and will include a
detailed review of contracts with the Iraqi government during the period in question and certain
payments associated therewith. Additionally, we have and will continue to conduct interviews with
employees with knowledge of the contracts and payments in question. We are in the early phases of
our internal investigation and as a result are unable to make any definitive determination whether
any inappropriate payments were made and accordingly are unable to predict the ultimate outcome of
this matter.
We will continue to fully cooperate in both the SEC and the foreign investigations. Both
investigations are in progress but, at this point, are incomplete. Accordingly, if the SEC and/or
the foreign authorities take enforcement action with regard to these investigations, we may be
required to pay fines, consent to injunctions against future conduct or suffer other penalties
which could potentially materially impact our business financial statements and cash flows.
On March 14, 2006, a shareholder derivative lawsuit was filed purportedly on our behalf in
federal court in the Northern District of Texas. The lawsuit names as defendants Mr. Greer, Ms.
Hornbaker, and current board members Mr. Coble, Mr. Haymaker, Jr., Lewis M. Kling, Mr. Rusnack, Mr.
Johnston, Mr. Rampacek, Mr. Sheehan, Ms. Harris, Mr. Rollans and Mr. Bartlett. We are named as a
nominal defendant. Based primarily on certain of the purported misstatements alleged in the
above-described federal securities case, the plaintiff asserts claims against the defendants for
breaches of fiduciary duty. The plaintiff alleges that the purported breaches of fiduciary duty
occurred between 2000 and 2004. The plaintiff seeks on our behalf an unspecified amount of damages,
disgorgement by Mr. Greer and Ms. Hornbaker of salaries, bonuses, restricted stock and stock
options, and recovery of attorneys fees and costs. We strongly believe that the suit was
improperly filed and have filed a motion seeking dismissal of the case.
In March 2006, we initiated a process to determine our compliance posture with respect to U.S.
export control laws and regulations. Upon initial investigation, it appears that some product
transactions and technology transfers may technically not be in compliance with U.S. export control
laws and regulations and require further review. With assistance from outside counsel, we are
currently involved in a systematic process to conduct further review, which we believe will take
about 18 months to complete given the complexity of the export laws and the scope of our
investigation. Any potential violations of U.S. export control laws and regulations that are
identified may result in civil or criminal penalties, including fines and/or other penalties.
Because our review into this issue is ongoing, we are currently unable to determine the full extent
of potential violations or the nature or amount of potential penalties to which we might be subject
to in the future. Given that the resolution of this matter is uncertain at this time, we are not
able to reasonably estimate the maximum amount of liability that could result from final resolution
of this matter. We cannot currently predict whether the ultimate resolution of this matter will
have a material adverse effect on our business, including our ability to do business outside the
U.S, or on our financial condition.
Other Matters
The
Internal Revenue Service (IRS) substantially concluded
its audit of our U.S. federal
income tax returns for the years 1999 through 2001 during December 2005. Based on its audit work,
the IRS has issued proposed adjustments to increase taxable income during 1999 through 2001 by
$12.8 million, and to deny foreign tax credits of $2.4 million in the aggregate. The tax liability
resulting from these proposed adjustments will be offset with foreign tax credit carryovers and
other refund claims, and therefore should not result in a material future cash payment, pending
final review by the Joint Committee on Taxation. We anticipate this review will be completed by
December 31, 2006. The effect of the adjustments to current and deferred taxes has been reflected
in the consolidated financial statements for the applicable periods.
24
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion and analysis should be read in conjunction with the information
contained in the condensed consolidated financial statements and notes thereto included in this
Quarterly Report and our 2005 Annual Report.
OVERVIEW
We produce engineered and industrial pumps, industrial valves, control valves, nuclear valves,
valve actuation and precision mechanical seals, and provide a range of related flow management
services worldwide, primarily for the process industries. Equipment manufactured and serviced by
us is predominately used in industries that deal with difficult-to-handle and corrosive fluids as
well as environments with extreme temperature, pressure, horsepower and speed. Our businesses are
affected by economic conditions in the U.S. and other countries where our products are sold and
serviced, by the cyclical nature of the petroleum, chemical, power, water and other industries
served, by the relationship of the U.S. dollar to other currencies, and by the demand for and
pricing of customers products. We believe the impact of these conditions is somewhat mitigated by
the strength and diversity of our product lines, geographic coverage and significant installed
base, which provides potential for an annuity stream of revenue from parts and services.
RECENT DEVELOPMENTS
In an effort to better align our business portfolio with our core strategic objectives, in the
first quarter of 2005, we made a definitive decision to divest the General Services Group (GSG),
non-core service operations which provide online repair and other third-party services, and we
engaged an investment banking firm to commence marketing. As a result, we reclassified the group to
discontinued operations in the first quarter of 2005. Sales for GSG were $103 million and $116
million in 2005 and 2004, respectively. We performed an impairment analysis of GSG at March 31,
2005 on a held for sale basis and, after the allocation of goodwill, we recognized an impairment
charge of $5.9 million during the first quarter of 2005. The initial estimated fair value at March
31, 2005 was based upon investment bankers valuation of GSGs estimated fair value as well as
initial bids received from potential purchasers. As the year progressed, the number of potential
buyers diminished to one potential purchaser and the business underperformed due to the pending
sale. As a result, the lone bidder reduced its initial offer and accordingly, we recognized
additional impairment charges aggregating approximately $24.2 million throughout 2005, of which $0
and $17.6 million were recorded in the second and third quarters, respectively, for total
impairment charges in 2005 of $30.1 million. GSG was sold on December 31, 2005 for approximately
$16 million in gross cash proceeds, including $2 million held in escrow pending final settlement,
subject to final working capital adjustments that remain under negotiation, while retaining
approximately $12 million of net accounts receivable. We used approximately $11 million of the net
cash proceeds to reduce our outstanding indebtedness in January 2006.
For further discussion of other recent developments, see Item 7. Managements Discussion and
Analysis of Financial Condition and Results of Operations. included in our 2005 Annual Report.
RESULTS OF OPERATIONS Three and Nine Months ended September 30, 2005 and 2004
Consolidated Results
Bookings, Sales and Backlog
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Bookings |
|
$ |
794.2 |
|
|
$ |
664.7 |
|
Sales |
|
|
649.5 |
|
|
|
623.4 |
|
Backlog |
|
|
994.9 |
|
|
|
896.6 |
|
25
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Bookings |
|
$ |
2,230.1 |
|
|
$ |
1,997.7 |
|
Sales |
|
|
1,956.8 |
|
|
|
1,818.8 |
|
Backlog |
|
|
994.9 |
|
|
|
896.6 |
|
We define a booking as the receipt of a customer order that contractually engages us to
perform activities on behalf of our customer with regard to manufacture, service or support.
Bookings for the three months ended September 30, 2005 increased by $123.1 million, or 18.5%,
excluding currency benefits of approximately $6 million, as compared with the same period in 2004.
Bookings for the nine months ended September 30, 2005 increased by $191.5 million, or 9.6%,
excluding currency benefits of approximately $41 million, as compared with the same period in 2004.
The increases are primarily attributable to the strong industry conditions across all of our
divisions, particularly the oil and gas, power, and chemical industries.
Sales for the three months ended September 30, 2005 increased by $21.1 million, or 3.4%,
excluding currency benefits of approximately $5 million, as compared with the same period in 2004.
Sales for the nine months ended September 30, 2005 increased by $100.6 million, or 5.5%, excluding
currency benefits of approximately $37 million, as compared with the same period in 2004.
Consistent with the increases in bookings, the increases are primarily attributable to strong
market conditions across all of our divisions, particularly the engineered pump products and
services, improved Russian and Asian valve markets and the oil and gas seal industry.
Net sales to international customers, including export sales from the U.S., were approximately
64% of sales for both the three and nine months ended September 30, 2005 compared with 67% in the
same periods in 2004. Weaker non-U.S. currency effects was the primary factor for the increase in
2005.
Backlog represents the accumulation of uncompleted customer orders. Backlog at September 30,
2005 increased by $152.6 million, or 17.0%, excluding negative currency effects of approximately
$54 million, as compared with September 30, 2004. The backlog increase compared with the prior
year resulted from increased bookings during the nine months ended September 30, 2005.
Gross Profit and Gross Profit Margin
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Gross profit |
|
$ |
211.2 |
|
|
$ |
189.5 |
|
Gross profit margin |
|
|
32.5 |
% |
|
|
30.4 |
% |
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Gross profit |
|
$ |
625.1 |
|
|
$ |
554.1 |
|
Gross profit margin |
|
|
31.9 |
% |
|
|
30.5 |
% |
Gross profit margin of 32.5% for the three months ending September 30, 2005 increased from
30.4% for the same period in 2004. Gross profit margin of 31.9% for the nine months ending
September 30, 2005 increased from 30.5% for the same period in 2004. The increases are a result of
increased sales of engineered parts and services, which generally have a higher margin, by our
Flowserve Pump Divisions and cost savings achieved through our Continuous Improvement Process
(CIP) initiative.
26
Selling, General and Administrative Expense (SG&A)
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
SG&A expense |
|
$ |
156.4 |
|
|
$ |
146.3 |
|
SG&A expense as a percentage of sales |
|
|
24.1 |
% |
|
|
23.5 |
% |
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
SG&A expense |
|
$ |
488.1 |
|
|
$ |
428.5 |
|
SG&A expense as a percentage of sales |
|
|
24.9 |
% |
|
|
23.6 |
% |
SG&A for the three months ended September 30, 2005 increased by $9.0 million, or 6.2%,
excluding currency effects of approximately $1 million, as compared with the same period in 2004.
The increase in SG&A is due primarily to an increase in professional fees of $5.5 million generally
related to audit and tax consulting fees. In addition, we had an increase in employee-related
costs of $2.9 million, which includes sales commissions, incentive compensation and equity
incentive programs ($1.1 million) and severance and transition expenses ($1.0 million).
SG&A for the nine months ended September 30, 2005 increased by $52.0 million, or 12.1%,
excluding currency effects of approximately $8 million, as compared with the same period in 2004,
due primarily to increases in employee related costs and professional fees. Employee-related costs
increased by $31.1 million, which includes sales commissions, incentive compensation and equity
incentive programs ($11.3 million), severance and transition expenses ($3.9 million) and
modification of stock option expiration terms for former executives, current and former employees
and board of directors ($6.2 million). Professional fees increased primarily due to an increase of
$12.4 million in audit fees and $12.8 million in fees related to tax consulting, accounting and
internal audit assistance. These were partially offset by a $10.0 million decrease in legal fees
and expenses.
Operating Income
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Operating income |
|
$ |
54.8 |
|
|
$ |
43.2 |
|
Operating income as a percentage of sales |
|
|
8.4 |
% |
|
|
6.9 |
% |
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Operating income |
|
$ |
136.9 |
|
|
$ |
125.6 |
|
Operating income as a percentage of sales |
|
|
7.0 |
% |
|
|
6.9 |
% |
Operating income for the three months ended September 30, 2005 increased by $10.8 million, or
25.0%, excluding currency benefits of approximately $1 million, as compared with the same period in
2004. Operating income for the nine months ended September 30, 2005 increased by $6.9 million, or
5.5%, excluding currency benefits of approximately $4 million, as compared with the same period in
2004. The increases are primarily a result of the increase in gross profit discussed above,
partially offset by the increase in SG&A discussed above.
27
Interest Expense, Interest Income and Loss on Repayment of Debt
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Interest expense |
|
$ |
(19.0 |
) |
|
$ |
(21.0 |
) |
Interest income |
|
|
1.3 |
|
|
|
0.7 |
|
Loss on early extinguishment of debt |
|
|
(27.9 |
) |
|
|
(1.0 |
) |
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Interest expense |
|
$ |
(58.9 |
) |
|
$ |
(60.6 |
) |
Interest income |
|
|
2.8 |
|
|
|
1.2 |
|
Loss on early extinguishment of debt |
|
|
(27.7 |
) |
|
|
(1.0 |
) |
Interest expense for the three months ended September 30, 2005 decreased by $2.0 million as
compared with the same period in 2004. Interest expense for the nine months ended September 30,
2005 decreased by $1.7 million, as compared with the same period in 2004. The decreases are
primarily attributable to the refinancing of our 12.25% Senior Subordinated Notes with the proceeds
of borrowings under our New Credit Facilities. Approximately 37.9% of our debt was at fixed rates
at September 30, 2005, including the effects of $265 million notional interest rate swaps.
Interest income was higher for both the three and nine months ended September 30, 2005 as
compared with the same periods in 2004 due to a higher average cash balance in 2005.
For the three and nine months ended September 30, 2005, we recognized $27.9 million and $27.7
million, respectively, in expenses related to the write-off of unamortized prepaid financing fees,
primarily due to our refinancing. See further discussion of our refinancing in the Liquidity and
Capital Resources section of this Managements Discussion and Analysis and in Note 7 to our
condensed consolidated financial statements included in this Quarterly Report. For the same periods
in 2004, we recognized expenses of $1.0 million, for the write-off of unamortized prepaid financing
fees related to optional debt repayments of $40.0 million.
Other Income (Expense), net
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Other income (expense), net |
|
$ |
0.4 |
|
|
$ |
(4.0 |
) |
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Other income (expense), net |
|
$ |
(8.3 |
) |
|
$ |
(8.8 |
) |
Other expense, net for the three months ended September 30, 2005 decreased by $4.4 million as
compared with the same period in 2004 primarily due to a decrease in foreign currency transaction
losses.
Other expense, net for the nine months ended September 30, 2005 decreased by $0.5 million as
compared with the same period in 2004 due to decreases in foreign currency transaction losses,
partially offset by increases in unrealized losses on forward exchange contracts.
28
Tax Expense and Tax Rate
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Provision for income tax |
|
$ |
4.5 |
|
|
$ |
10.6 |
|
Effective tax rate |
|
|
46.5 |
% |
|
|
59.3 |
% |
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Provision for income tax |
|
$ |
18.2 |
|
|
$ |
34.8 |
|
Effective tax rate |
|
|
40.5 |
% |
|
|
61.6 |
% |
Our effective tax rate of 46.5% for the three months ended September 30, 2005 decreased from
59.3% for the same period in 2004. Our effective tax rate of 40.5% for the nine months ended
September 30, 2005 decreased from 61.6% for the same period in 2004. The decreases are due
primarily to the net impact of foreign operations.
Net (Loss) Earnings and (Loss) Earnings Per Share
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Income from continuing operations |
|
$ |
5.2 |
|
|
$ |
7.3 |
|
Net (loss) earnings |
|
|
(10.0 |
) |
|
|
6.4 |
|
Net earnings per share from continuing operations diluted |
|
|
0.08 |
|
|
|
0.13 |
|
Net (loss) earnings per share diluted |
|
|
(0.19 |
) |
|
|
0.11 |
|
Average diluted shares |
|
|
56.5 |
|
|
|
55.7 |
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Income from continuing operations |
|
$ |
26.6 |
|
|
$ |
21.7 |
|
Net earnings |
|
|
4.0 |
|
|
|
19.8 |
|
Net earnings per share from continuing operations diluted |
|
|
0.47 |
|
|
|
0.39 |
|
Net earnings per share diluted |
|
|
0.07 |
|
|
|
0.36 |
|
Average diluted shares |
|
|
56.6 |
|
|
|
55.5 |
|
Income from continuing operations for the three months ended September 30, 2005 decreased as
compared to the same period in 2004 primarily as a result of the loss on early extinguishment of
debt recorded in connection with our refinancing, partially offset by the increase in operating
income and decrease in provision for income tax discussed above. The increase in income from
continuing operations for the nine months ended September 30, 2005 as compared with the same period
in 2004 is a result of the increase in operating income, combined with the decrease in the tax
provision discussed above, partially offset by the increase in loss on early extinguishment of debt
recorded in conjunction with our refinancing.
The net loss for the three months ended September 30, 2005 was significantly lower than income
from continuing operations for the same period. This is primarily attributable to a $17.6 million
impairment recorded in the third quarter of 2005 for assets held for sale, which is included in
discontinued operations. Net earnings for the nine months ended September 30, 2005 was
significantly lower than income from continuing operations for the same period due primarily to an
aggregate $23.5 million impairment recorded during the period for assets held for sale, which is
included in discontinued operations.
Average diluted shares were relatively flat in the first nine months of 2005 compared with the
same period in 2004.
29
Other Comprehensive Income (Loss)
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Other comprehensive income (loss)
|
|
$ |
1.9 |
|
|
$ |
(1.5 |
) |
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Other comprehensive income (loss)
|
|
$ |
(22.5 |
) |
|
$ |
(15.4 |
) |
Other comprehensive income (loss) changed from a loss of $1.5 million for the quarter ended
September 30, 2004 to income of $1.9 million for the quarter ended September 30, 2005 primarily
reflecting an increase in unrealized gain on hedging activity partially offset by a strengthening
of the Euro and British pound during the three months ended September 30, 2005.
Other comprehensive loss for the nine months ended September 30, 2005 increased $7.1 million
as compared with the same period in 2004, reflecting a strengthening of the Euro and British pound
during the nine-month period ended September 30, 2005, as compared with the same period in 2004.
Business Segments
We conduct our business through three business segments that represent our major product
areas: Flowserve Pump Division (FPD) for engineered pumps, industrial pumps and related services;
Flow Control Division (FCD) for industrial valves, manual valves, control valves, nuclear valves,
valve actuators and related services; and Flow Solutions Division (FSD) for precision mechanical
seals and related services. We evaluate segment performance and allocate resources based on each
segments operating income. See Note 13 to our condensed consolidated financial statements included
in this Quarterly Report for further discussion of our segments. The key operating results for our
three business segments, FPD, FCD and FSD are discussed below.
Flowserve Pump Division
Through FPD, we design, manufacture, distribute and service engineered and industrial pumps
and pump systems, replacement parts and related equipment, principally to industrial markets. FPD
has 27 manufacturing facilities worldwide, of which nine are located in North America, 11 in
Europe, four in South America and three in Asia. FPD also has more than 50 service centers, which
are either free standing or co-located in a manufacturing facility. In March 2004, we acquired the
remaining 75% interest in TKL, a leading Australian designer, manufacturer and supplier of
centrifugal pumps, railway track work products and steel castings. As a result of this acquisition,
we strengthened our product offering in the mining industry, broadened our manufacturing capacity
in the Asia Pacific region and gained foundry capacity.
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Bookings |
|
$ |
436.5 |
|
|
$ |
349.7 |
|
Sales |
|
|
322.0 |
|
|
|
323.8 |
|
Gross profit |
|
|
90.0 |
|
|
|
82.9 |
|
Gross profit margin |
|
|
27.9 |
% |
|
|
25.6 |
% |
Operating income |
|
|
29.0 |
|
|
|
23.5 |
|
Operating income as a percentage of sales |
|
|
9.0 |
% |
|
|
7.3 |
% |
Backlog |
|
|
690.9 |
|
|
|
628.3 |
|
30
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Bookings |
|
$ |
1,138.6 |
|
|
$ |
1,011.1 |
|
Sales |
|
|
995.1 |
|
|
|
939.9 |
|
Gross profit |
|
|
268.2 |
|
|
|
235.7 |
|
Gross profit margin |
|
|
27.0 |
% |
|
|
25.1 |
% |
Operating income |
|
|
84.4 |
|
|
|
64.6 |
|
Operating income as a percentage of sales |
|
|
8.5 |
% |
|
|
6.9 |
% |
Backlog |
|
|
690.9 |
|
|
|
628.3 |
|
Bookings for the three months ended September 30, 2005 increased by $82.1 million, or 23.5%,
excluding currency benefits of approximately $5 million, as compared with the same period in 2004.
All regions contributed to the increased bookings, due to strong market conditions for oil and
gas, power, and chemical products.
Bookings for the nine months ended September 30, 2005 increased by $104.8 million, or 10.4%,
excluding currency benefits of approximately $23 million, as compared with the same period in
2004 . Continued improvement in oil and gas, water, and power markets resulted in improved
bookings across all regions.
Sales for the three months ended September 30, 2005 decreased by $5.4 million, or 1.7%,
excluding currency benefits of approximately $4 million, as compared with the same period in 2004.
The decrease is due primarily to a number of large projects that were in process during the period
and shipped subsequent to September 30, 2005.
Sales for the nine months ended September 30, 2005 increased by $34.1 million, or 3.6%,
excluding currency benefits of approximately $21 million, as compared with the same period in 2004.
The addition of TKL in March 2004 and improved markets for engineered products and services were
the primary drivers of the increase.
Gross profit margin of 27.9% for the three months ending September 30, 2005 increased from
25.6% for the same period in 2004 as a result of a more favorable product mix.
Gross profit margin of 27.0% for the nine months ending September 30, 2005 increased from
25.1% for the same period in 2004. The increase is a result of a more profitable product mix and
increased sales, which favorably impacts our absorption of fixed costs.
Operating income for the three months ended September 30, 2005 increased by $5.5 million, or
23.4% as compared with the same period in 2004. Currency had a negligible impact on operating
income for the quarter. The improvement was a result if increased gross profit for the period as
described above.
Operating income for the nine months ended September 30, 2005 increased by $17.6 million, or
27.2%, excluding currency benefits of approximately $2 million, as compared with the same period in
2004. Increased gross profit positively impacted operating income, as described above, partially
offset by an increase in SG&A due to increased marketing and information technology costs.
Flow Control Division
Our second largest business segment is FCD, which designs, manufactures and distributes a
broad portfolio of industrial valve products, including modulating and finite valves, actuators and
controls. FCD leverages its experience and application know-how by offering a complete
menu of engineered services to complement its expansive product portfolio. FCD has more than 4,000
employees at its manufacturing and service facilities in 19 countries around the world, with only
five of its 22 manufacturing operations located in the U.S.
31
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Bookings |
|
$ |
250.6 |
|
|
$ |
228.9 |
|
Sales |
|
|
224.7 |
|
|
|
211.8 |
|
Gross profit |
|
|
72.1 |
|
|
|
65.1 |
|
Gross profit margin |
|
|
32.1 |
% |
|
|
30.7 |
% |
Operating income |
|
|
25.3 |
|
|
|
18.8 |
|
Operating income as a percentage of sales |
|
|
11.3 |
% |
|
|
8.9 |
% |
Backlog |
|
|
246.5 |
|
|
|
234.6 |
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Bookings |
|
$ |
770.3 |
|
|
$ |
725.6 |
|
Sales |
|
|
663.1 |
|
|
|
616.1 |
|
Gross profit |
|
|
216.0 |
|
|
|
192.7 |
|
Gross profit margin |
|
|
32.6 |
% |
|
|
31.3 |
% |
Operating income |
|
|
71.5 |
|
|
|
53.7 |
|
Operating income as a percentage of sales |
|
|
10.8 |
% |
|
|
8.7 |
% |
Backlog |
|
|
246.5 |
|
|
|
234.6 |
|
Bookings for the three months ended September 30, 2005 increased by $21.7 million, or 9.5% as
compared with the same period in 2004. Currency had a nominal effect for the period. The increase
is primarily attributable to the continued strengthening of key end-markets, most notably the
chemical and mining markets in Asia.
Bookings for the nine months ended September 30, 2005 increased by $32.1 million, or 4.4%,
excluding currency benefits of approximately $13 million as compared with the same period in 2004.
This increase is due to higher demand in the industrial and commercial markets and increased
project sales, particularly in Asia and Russia.
Sales for the three months ended September 30, 2005 increased by $12.9 million, or 6.1%, as
compared with the same period in 2004. Currency had a nominal effect for the period. The increase
in sales is the result of price increases implemented in the latter half of 2004, higher Asian
chemical sales and improved U.S. petrochemical and Russian power markets.
Sales for the nine months ended September 30, 2005 increased by $35.3 million, or 5.7%,
excluding currency benefits of approximately $12 million as compared with the same period in 2004.
This increase is a result of the aforementioned continued strengthening of key-end markets,
particularly within Asia and Russia, as well as the positive impact of the price increases
implemented in the latter half of 2004.
Gross profit margin of 32.1% for the three months ended September 30, 2005 increased from
30.7% for the same period in 2004. Gross profit margin of 32.6% for the nine months ended September
30, 2005 increased from 31.3% for the same period in 2004. The improvements reflect the benefit of
operating efficiencies realized as a result of our various initiatives to reduce manufacturing
costs and to achieve cost savings via supply chain, offset in part by an increase in the original
equipment manufacturer business, which has a comparatively lower margin than the aftermarket
business.
Operating income for the three months ended September 30, 2005 increased by $6.5 million, or
34.6% as compared with the same period in 2004. Currency had a nominal effect for the period. This
increase is driven by the improvement in gross profit, while partially offset by higher value of
SG&A costs associated with increased headcount and higher information technology costs, although
the decrease in SG&A as a percentage of sales contributed 100 basis points to operating margin.
Operating income for the nine months ended September 30, 2005 increased by $16.4 million, or
30.6%, excluding currency benefits of approximately $1 million as compared with the same period in
2004. This increase is driven by the improvement in gross profit, offset partially by the
aforementioned higher value of SG&A costs associated with increased
32
headcount and higher
information technology costs, although the decrease in SG&A as a percentage of sales contributed 80
basis points to operating margin.
Flow Solutions Division
Through FSD, we design, manufacture and distribute mechanical seals, sealing systems and
parts, and provide related services, principally to industrial markets. FSD has seven manufacturing
operations, three of which are located in the U.S. FSD operates 64 QRCs worldwide, including 25
sites in North America, 14 in Europe, and the remainder in South America and Asia. Our ability to
manufacture engineered seal products within 72 hours from the customers request through design,
engineering, manufacturing, testing and delivery is a significant competitive advantage. Based on
independent industry sources, we believe that we are the second largest mechanical seal supplier in
the world.
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Bookings |
|
$ |
116.5 |
|
|
$ |
98.5 |
|
Sales |
|
|
113.2 |
|
|
|
95.9 |
|
Gross profit |
|
|
50.0 |
|
|
|
42.2 |
|
Gross profit margin |
|
|
44.1 |
% |
|
|
44.0 |
% |
Operating income |
|
|
23.0 |
|
|
|
18.8 |
|
Operating income as a percentage of sales |
|
|
20.3 |
% |
|
|
19.6 |
% |
Backlog |
|
|
67.0 |
|
|
|
46.6 |
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Bookings |
|
$ |
353.1 |
|
|
$ |
294.0 |
|
Sales |
|
|
327.9 |
|
|
|
288.6 |
|
Gross profit |
|
|
144.3 |
|
|
|
126.3 |
|
Gross profit margin |
|
|
44.0 |
% |
|
|
43.8 |
% |
Operating income |
|
|
65.9 |
|
|
|
54.5 |
|
Operating income as a percentage of sales |
|
|
20.1 |
% |
|
|
18.9 |
% |
Backlog |
|
|
67.0 |
|
|
|
46.6 |
|
Bookings for the three months ended September 30, 2005 increased by $16.8 million, or 17.0%,
excluding currency benefits of approximately $1 million, as compared with the same period in 2004.
Bookings for the nine months ended September 30, 2005 increased by $53.3 million, or 18.1%,
excluding currency benefits of approximately $6 million, as compared with the same period in 2004.
The bookings improvements generally reflect FSDs emphasis on end user business and success in
establishing longer-term customer alliance programs. Increased market conditions and a focus on
customer service also contributed to the increase.
Sales for the three months ended September 30, 2005 increased by $16.4 million, or 17.1%,
excluding currency benefits of approximately $1 million, as compared with the same period in 2004.
Sales for the nine months ended September 30, 2005 increased by $34.7 million, or 12.0%, excluding
currency benefits of approximately $5 million, as compared with the same period in 2004. As
discussed above, the improved market conditions, combined with heightened levels of service and
customer alliance programs have contributed to the sales growth.
Gross profit margin of 44.1% and 44.0% for the three and nine months ending September 30,
2005, respectively, were relatively flat as compared with the same period in 2004.
Operating income for the three months ended September 30, 2005 increased by $4.2 million, or
22.3%, as compared with the same period in 2004. Currency had a negligible impact on operating
income for the quarter. Operating income for the nine months ended September 30, 2005 increased by
$10.3 million, or 18.9%, excluding currency benefits of approximately
33
$1 million, as compared with
the same period in 2004. These improvements reflect the benefits of increased sales, as well as
the operating efficiencies resulting from our CIP initiative.
LIQUIDITY AND CAPITAL RESOURCES
Cash Flow Analysis
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
(Amounts in millions) |
|
2005 |
|
2004 |
|
Net cash flows provided by operating activities |
|
$ |
19.9 |
|
|
$ |
86.8 |
|
Net cash flows used by investing activities |
|
|
(27.7 |
) |
|
|
(33.9 |
) |
Net cash flows used by financing activities |
|
|
(19.2 |
) |
|
|
(66.0 |
) |
Cash generated by operations and borrowings available under our existing revolving credit
facility are our primary sources of short-term liquidity. Our sources of operating cash include
the sale of our products and services. Our cash balance at September 30, 2005 was $35.2 million,
as compared with $63.8 million at December 31, 2004.
Cash flows provided by operating activities in the first nine months of 2005 were $19.9
million, compared with $86.8 million in the first nine months of 2004. Working capital, excluding
cash, was a use of operating cash flow of $32.9 million in the first nine months of 2005, compared
with a source of $3.8 million in the prior year period. Working capital for the current period
primarily reflects an increase of $38.8 million in inventories versus the prior year, which
corresponds to the increase in business volume and sales activity, and a decrease of $34.7 million
in retirement obligations and other liabilities due primarily to increased funding of pension plans
(see below). These were partially offset by a decrease in accounts receivable of $12.8 million
primarily due to improving collections.
We made the following quarterly contributions to our U.S. defined benefit pension plans:
|
|
|
|
|
|
|
|
|
Quarter ending: |
|
2005 |
|
2004 |
|
|
(Amounts in millions) |
March 31 |
|
$ |
4.1 |
|
|
$ |
0.2 |
|
June 30 |
|
|
7.7 |
|
|
|
8.1 |
|
September 30 |
|
|
32.0 |
|
|
|
5.3 |
|
December 31 |
|
|
1.0 |
|
|
|
1.7 |
|
|
|
|
|
|
$ |
44.8 |
|
|
$ |
15.3 |
|
|
|
|
Cash flows used by investing activities in the first nine months of 2005 were $27.7 million,
compared with $33.9 million in the first nine months of 2004. Cash outflows in 2005 and 2004 were
due primarily to capital expenditures, as well as the acquisition of TKL in March 2004 (described
below).
Cash flows used by financing activities in the first nine months of 2005 were $19.2 million,
compared with $66.0 million in the first nine months of 2004. Cash outflows in both periods were
primarily due to net payments of long-term debt.
We believe cash flows from operating activities combined with availability under our existing
revolving credit agreement and our existing cash balance will be sufficient to enable us to meet
our cash flow needs for the next 12 months. Cash flows from operations could be adversely affected
by economic, political and other risks associated with sales of our products, operational factors,
competition, fluctuations in foreign exchange rates and fluctuations in interest rates, among other
factors.
We have a substantial number of outstanding stock options granted in past years to employees
under our stock option plans which have been unexercisable for an extended period due to our
non-current filing status of all our SEC financial reports. These outstanding options include
options for 809,667 shares held by our former Chairman, President and Chief Executive Officer, C.
Scott Greer. Given the significant increase in our share price during the period in which optionees
have been unable to exercise their options, it is possible that many holders may want to exercise
soon after they are first able to do so. We will reopen our stock option exercise program and allow
optionees to exercise their options once we become current
34
with our SEC financial reporting
obligations and have registered the issuance of our common shares upon exercise of such stock
options with the SEC. We currently expect this to occur in 2006. If the holders of a large number
of these options promptly exercise following such reopening, there would be some dilutive impact on
our earnings per share. We anticipate that a significant number of stock option exercises at one
time would positively impact our cash flow, however, we are still
evaluating the extent of such impact and alternatives to satisfy our obligation under the
stock option program, up to and including repurchasing shares on the market to offset some or all
of the dilutive impact on our earnings per share which could negatively impact our cash flow. The
impacts on our cash flow and earnings per share are dependent upon share price, number of shares
and strike price of shares exercised.
Acquisitions
We regularly evaluate acquisition opportunities of various sizes. The cost and terms of any
financing to be raised in conjunction with any acquisition, including our ability to raise
economical capital, is a critical consideration in any such evaluation.
In March 2004, we acquired the remaining 75% interest in TKL for approximately $12 million. We
paid for the acquisition with cash generated by operations. Prior to the acquisition, we held a 25%
interest in TKL. As a result of this acquisition, we strengthened our product offering in the
mining industry, broadened our manufacturing capacity in the Asia Pacific region and gained foundry
capacity.
Capital Expenditures
Capital expenditures were $25.5 million for the nine months ended September 30, 2005 compared
with $28.5 million for the same period in 2004. Capital expenditures were funded primarily by
operating cash flows. Capital expenditures in 2005 focused on new product development, information
technology infrastructure and cost reduction opportunities. Capital expenditures in 2004 were
invested in new and replacement machinery and equipment and information technology. For the full
year 2005, our capital expenditures were approximately $49 million. Certain of our facilities may
face capacity constraints in the foreseeable future, which may lead to higher capital expenditure
levels.
We received cash on disposal of a divestiture of a small distribution business of $3.6 million
in the first quarter of 2004.
Financing
New Credit Facilities
On August 12, 2005, we entered into New Credit Facilities comprised of a $600.0 million term
loan maturing on August 10, 2012 and a $400.0 million revolving line of credit, which can be
utilized to provide up to $300.0 million in letters of credit, expiring on August 12, 2010. We used
the proceeds of borrowings under our New Credit Facilities to refinance our 12.25% Senior
Subordinated Notes and indebtedness outstanding under our 2000 Credit Facilities. Further, we
replaced the letter of credit agreement that guaranteed our EIB credit facility (described below)
with a letter of credit issued as part of the New Credit Facilities.
Borrowings under our New Credit Facilities bear interest at a rate equal to, at our option,
either (1) the base rate (which is based on the greater of the prime rate most recently announced
by the administrative agent under our New Credit Facilities or the Federal Funds rate plus 0.50%)
or (2) LIBOR plus an applicable margin determined by reference to the ratio of our total debt to
consolidated EBITDA, which as of December 31, 2005 was 1.75% for LIBOR borrowings.
The loans under our New Credit Facilities are subject to mandatory repayment with, in general:
|
|
|
100% of the net cash proceeds of asset sales; and |
|
|
|
|
Unless we attain and maintain investment grade credit ratings: |
|
◦ |
|
75% of our excess cash flow, subject to a reduction based on the ratio of our total
debt to consolidated EBITDA; |
|
|
◦ |
|
50% of the proceeds of any equity offerings; and |
|
|
◦ |
|
100% of the proceeds of any debt issuances (subject to certain exceptions). |
35
We may prepay loans under our New Credit Facilities in whole or in part, without premium or
penalty. During the fourth quarter of 2005, we made scheduled and optional principal payments of
$1.5 million and $38.4 million, respectively.
EIB Credit Facility
On April 14, 2004, we and one of our European subsidiaries, Flowserve B.V., entered into an
agreement with EIB, pursuant to which EIB agreed to loan us up to 70 million, with the ability to
draw funds in multiple currencies, to finance in part specified research and development projects
undertaken by us in Europe. Borrowings under the EIB credit facility bear interest at a fixed or
floating rate of interest agreed to by us and EIB with respect to each borrowing under the
facility. Loans under the EIB credit facility are subject to mandatory repayment, at EIBs
discretion, upon the occurrence of certain events, including a change of control or prepayment of
certain other indebtedness. In addition, the EIB credit facility contains covenants that, among
other things, limit our ability to dispose of assets related to the financed project and require us
to deliver to EIB our audited annual financial statements within 30 days of publication. Our
obligations under the EIB credit facility are guaranteed by a letter of credit outstanding under
our New Credit Facilities.
In August 2004, we borrowed $85 million at a floating interest rate based on 3-month U.S.
LIBOR that resets quarterly. As of September 30, 2005, the interest rate was 3.80%. The maturity of
the amount drawn is June 15, 2011, but may be repaid at any time without penalty. Concurrent with
borrowing the $85 million we entered into a derivative contract with a third party financial
institution, swapped this principal amount to 70.6 million and fixed the LIBOR portion of the
interest rate to a fixed interest rate of 4.19% through the scheduled repayment date. Additional
discussion of the derivative, is included in Note 6 to our condensed consolidated financial
statements, included in this Quarterly Report.
Additional discussion of our New Credit Facilities, EIB credit facility and 2000 Credit
Facilities, is included in Note 7 to our condensed consolidated financial statements, included in
this Quarterly Report.
We have entered into interest rate and currency swap agreements to hedge our exposure to cash
flows related to the credit facilities discussed above. These agreements are more fully described
in Item 3. Quantitative and Qualitative Disclosures about Market Risk.
Accounts Receivable Securitization
In October 2004, one of our wholly owned subsidiaries entered into an accounts receivable
securitization whereby we could obtain up to $75 million in financing by securitizing certain
U.S.-based receivables with a third party. In October 2005, we terminated this accounts receivable
securitization facility. In connection with the termination, we borrowed approximately $48 million
under our New Credit Facilities to repurchase our receivables then held by such third party. See
additional discussion of our accounts receivable securitization program in Note 7 to our condensed
consolidated financial statements included in this Quarterly Report.
2000 Credit Facilities
On August 8, 2000, we entered into senior credit facilities comprised of a $275.0 million
Tranche A term loan, a $475.0 million Tranche B term loan and a $300.0 million revolving line of
credit, hereinafter collectively referred to as our 2000 Credit Facilities. In connection with
our acquisition of Invensys flow control division in May 2002, we amended and restated our 2000
Credit Facilities to provide for (1) an incremental $95.3 million Tranche A term loan and (2) a
$700.0 million Tranche C term loan. The proceeds of the incremental Tranche A term loan and the
Tranche C term loan were used to finance a portion of the acquisition purchase price and to repay
in full the Tranche B term loan.
Borrowings under our 2000 Credit Facilities bore interest at a rate equal to, at our option,
either (1) the base rate (which was based on the prime rate most recently announced by the
administrative agent under our 2000 Credit Facilities or the Federal Funds rate plus 0.50%) or (2)
London Interbank Offered Rate (LIBOR), plus, in the case of Tranche A term loan and loans under
the revolving line of credit, an applicable margin determined by reference to the ratio of our
total debt to consolidated EBITDA, and, in the case of Tranche C term loan, an applicable margin
based on our long-term debt ratings.
36
Amounts outstanding under the 2000 Credit Facilities were repaid in August 2005 using the
proceeds from the New Credit Facilities.
Senior Subordinated Notes
At September 30, 2005, we had no amounts outstanding on our Senior Subordinated Notes. The
Senior Subordinated Notes were originally issued in 2000 at a discount to yield 12.5%, but have a
coupon interest rate of 12.25%. Interest on these notes was payable semi-annually in February and
August. In August 2005, all remaining Senior Subordinated Notes outstanding were called by us at
106.125% of face value as specified in the loan agreement and repaid, along with accrued interest.
Debt Covenants and Other Matters
Our 2000 Credit Facilities that have now been refinanced, the letter of credit facility
guaranteeing our obligations under the EIB credit facility, and the agreements governing our
domestic receivables program each required us to deliver to creditors thereunder our audited annual
consolidated financial statements within a specified number of days following the end of each
fiscal year. In addition, the indentures governing our 12.25% Senior Subordinated Notes required us
to timely file with the SEC our annual and quarterly reports. As a result of the restatement of our
prior period financial statements as disclosed in our 2004 Annual Report and the new obligations regarding internal controls
attestation under Section 404, we did not timely issue our financial statements for the year ended
December 31, 2004 and 2005 and the quarterly periods ended June 30, 2004, September 30, 2004, March
31, 2005, June 30, 2005, September 30, 2005 and March 31, 2006, and were unable to timely file with
the SEC our Annual Report on Form 10-K and Quarterly Reports on Form 10-Q for such periods. Prior
to the refinancing of our 2000 Credit Facilities and the replacement of the standby letter of
credit facility, we obtained waivers thereunder extending the deadline for the delivery of our
financial statements to the lenders under our 2000 Credit Facilities and the letter of credit
facility guaranteeing the EIB credit facility and, as a result of obtaining such waivers, we were
not in default as a result of the delay in the delivery of our financial statements. We did not
seek or obtain a waiver under the indentures governing our 12.25% Senior Subordinated Notes with
respect to our inability to timely file with the SEC the required reports and, prior to the
refinancing of our 12.25% Senior Subordinated Notes, were in default thereunder.
Our New Credit Facilities contain covenants requiring us to deliver to lenders leverage and
interest coverage financial covenants and our audited annual and unaudited quarterly financial
statements. Under the leverage covenant, the maximum permitted leverage ratio steps down beginning
with the fourth quarter of 2006, with a further step-down beginning with the fourth quarter of
2007. Under the interest coverage covenant, the minimum required interest coverage ratio steps up
beginning with the fourth quarter of 2006, with a further step-up beginning with the fourth quarter
of 2007. Compliance with these financial covenants under our New Credit Facilities is tested
quarterly, and we have complied with the financial covenants as of December 31, 2005. Further, we
are required to furnish within 50 days of the end of each of the first three quarters of each year
our consolidated balance sheet, and related statements of operations, shareholders equity and cash
flows.
Our New Credit Facilities also contain covenants restricting our and our subsidiaries ability
to dispose of assets, merge, pay dividends, repurchase or redeem capital stock and indebtedness,
incur indebtedness and guarantees, create liens, enter into agreements with negative pledge
clauses, make certain investments or acquisitions, enter into sale and leaseback transactions,
enter into transactions with affiliates, make capital expenditures, engage in any business activity
other than our existing business or any business activities reasonably incidental thereto. With the
waiver for delivery of the December 31, 2004 audited financial statements, we are currently in
compliance with all debt covenants under the New Credit Facilities.
37
CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
The following table presents a summary of our contractual obligations at September 30, 2005:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payments Due By Period |
|
|
Remainder of |
|
|
|
|
|
|
|
|
|
2010 & |
|
|
(Amounts in millions) |
|
2005 |
|
2006 2007 |
|
2008 2009 |
|
Beyond |
|
Total |
|
Long-term debt |
|
$ |
1.5 |
|
|
$ |
12.0 |
|
|
$ |
12.0 |
|
|
$ |
659.5 |
|
|
$ |
685.0 |
|
Fixed interest payments (1) |
|
|
1.5 |
|
|
|
13.1 |
|
|
|
10.4 |
|
|
|
7.5 |
|
|
|
32.5 |
|
Variable interest payments (2) |
|
|
8.6 |
|
|
|
68.1 |
|
|
|
67.0 |
|
|
|
76.6 |
|
|
|
220.3 |
|
Capital lease obligations |
|
|
0.2 |
|
|
|
0.4 |
|
|
|
|
|
|
|
|
|
|
|
0.6 |
|
Operating leases |
|
|
4.7 |
|
|
|
29.5 |
|
|
|
16.1 |
|
|
|
19.3 |
|
|
|
69.6 |
|
Purchase obligations: (3) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Inventory |
|
|
189.7 |
|
|
|
0.6 |
|
|
|
0.0 |
|
|
|
|
|
|
|
190.3 |
|
Non-inventory |
|
|
11.6 |
|
|
|
1.0 |
|
|
|
0.4 |
|
|
|
|
|
|
|
13.0 |
|
|
|
|
(1) |
|
Fixed interest payments include payments on fixed and synthetically fixed rate debt. |
|
(2) |
|
Variable interest payments under our New Credit Facilities were estimated using a base
rate of three-month LIBOR as of September 30, 2005. |
|
(3) |
|
Purchase obligations are presented at the face value of the purchase order, excluding
the effects of early termination provisions. Actual payments could be less than amounts
presented herein. |
The following table presents a summary of our commercial commitments at September 30, 2005:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commitment Expiration By Period |
|
|
Remainder of |
|
|
|
|
|
|
|
|
|
2010 & |
|
|
(Amounts in millions) |
|
2005 |
|
2006 2007 |
|
2008 2009 |
|
Beyond |
|
Total |
|
Letters of credit |
|
$ |
53.3 |
|
|
$ |
250.9 |
|
|
$ |
18.6 |
|
|
$ |
1.3 |
|
|
$ |
324.1 |
|
Surety bonds |
|
|
2.3 |
|
|
|
27.8 |
|
|
|
1.1 |
|
|
|
|
|
|
|
31.2 |
|
We expect to satisfy these commitments through performance under our contracts.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Managements discussion and analysis are based on our condensed consolidated financial
statements and related footnotes contained within this report. Our more critical accounting
policies used in the preparation of the consolidated financial statements were discussed in our
2005 Annual Report. These critical policies, for which no significant changes have occurred in the
nine months of 2005, include:
|
|
|
Revenue Recognition; |
|
|
|
|
Allowance for Doubtful Accounts; |
|
|
|
|
Inventories and Related Reserves; |
|
|
|
|
Deferred Taxes and Tax Valuation Allowances; |
|
|
|
|
Tax Reserves; |
|
|
|
|
Restructuring and Integration Expense; |
|
|
|
|
Legal and Environmental Accruals; |
|
|
|
|
Warranty Accruals; |
|
|
|
|
Retirement and Postretirement Benefits; and |
|
|
|
|
Valuation of Goodwill, Indefinite-Lived Intangible Assets and Other Long-Lived Assets.
|
38
Based on an assessment of our accounting policies and the underlying judgments and
uncertainties affecting the application of those policies, we believe that our condensed
consolidated financial statements provide a meaningful and fair perspective of our financial
position and results of operations. This is not to suggest that other general risk factors, such
as changes in worldwide demand, changes in material costs, performance of acquired businesses and
others, could not adversely impact our consolidated financial position, results of operations and
cash flows in future periods.
The process of preparing financial statements in conformity with GAAP requires the use of
estimates and assumptions to determine certain of the assets, liabilities, revenues and expenses.
These estimates and assumptions are based upon the best information available at the time of the
estimates or assumptions. The estimates and assumptions could change materially as conditions
within and beyond our control change. Accordingly, actual results could differ materially from
those estimates. The significant estimates are reviewed quarterly with our Audit Committee.
ACCOUNTING DEVELOPMENTS
We have presented the information about accounting pronouncements not yet implemented in Note
1 to our condensed consolidated financial statements included in this Quarterly Report.
39
Forward-Looking Information is Subject to Risk and Uncertainty
This Quarterly Report and other written reports and oral statements we make from time-to-time
contain various forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933, Section 21E of the Securities Exchange Act of 1934 and the Private Securities
Litigation Reform Act of 1995 and include assumptions about our future financial and market
conditions, operations and results. In some cases forward looking statements can be identified by
terms such as may, will, should, expect, plans, seeks, anticipate, believe,
estimate, predicts, potential, continue, intends, or other comparable terminology. These
statements are not historical facts or guarantees of future performance but instead are based on
current expectations and are subject to significant risks, uncertainties and other factors, many of
which are outside of our control. Among the many factors that could cause actual results to differ
materially from the forward-looking statements are:
|
|
|
we have material weaknesses in our internal control over financial reporting; |
|
|
|
|
continuing delays in our filing of our periodic public reports and any SEC, New
York Stock Exchange or debt rating agencies actions resulting therefrom; |
|
|
|
|
the possibility of adverse consequences of the pending securities litigation
and on-going SEC investigations; |
|
|
|
|
we may be exposed to product liability and warranty claims if the use of our
products results, or is alleged to result, in bodily injury and/or property damage or our
products fail to perform as expected; |
|
|
|
|
the possibility of adverse consequences of governmental tax audits of our tax
returns, including the IRS audit of our U.S. tax returns for the years 2002 through 2004; |
|
|
|
|
there are a substantial amount of outstanding stock options which have been
unexercisable for an extended period due to our non-current filing status of all our SEC
financial reports. Given the significant increase in our share price during this exercise
unavailability period, it is possible that many holders may want to exercise promptly when
first able to do so. We currently expect to allow stock options to be exercised in late
2006. If the holders of a large number of these shares do then promptly exercise once they
are able to do so, there would be some dilutive impact on the outstanding shares. We are
still evaluating the impact of the reopening the stock option exercise program on our cash
flows; |
|
|
|
|
the costs of energy, metal alloys, nickel and other raw materials have
increased and our operating margins and results of operations could be adversely affected
if we are unable to pass such increases on to our customers; |
|
|
|
|
all of our bookings may not lead to completed sales, therefore we may not be
able to convert bookings into revenues at acceptable, if any, profit margins, since such
profit margins cannot be assured nor be necessarily assumed to follow historical trends; |
|
|
|
|
our business depends on the levels of capital investment and maintenance
expenditures by our customers, which in turn are affected by the cyclical nature of their
markets and liquidity; |
|
|
|
|
work stoppages and other labor matters could adversely impact our business; |
|
|
|
|
changes in the financial markets and the availability of capital could adversely impact our business operations; |
|
|
|
|
we sell our products in highly competitive markets, which puts pressure on our
profit margins and limits our ability to maintain or increase the market share of our
products; |
|
|
|
|
we may not be able to continue to expand our market presence through
acquisitions, and any future acquisitions may present unforeseen integration difficulties
or costs; |
|
|
|
|
a substantial portion of our operations is conducted and located outside of the
U.S. and economic, political and other risks associated with international operations could
adversely affect our business in the U.S. and other countries and regions; |
|
|
|
|
our ability to comply with the laws and regulations affecting our international
operations, including the U.S. export laws, and the effect of any noncompliance; |
|
|
|
|
political risks, military actions or trade embargoes affecting customer
markets, including the continuing conflict in Iraq and its potential impact on Middle
Eastern markets and global petroleum producers; |
40
|
|
|
our sales are substantially dependent upon the petroleum, chemical, power and
water industries and any down turn in these industries could adversely impact such sales; |
|
|
|
|
a substantial portion of our business consists of international operations and
therefore an adverse movement in currency exchange rates could adversely impact our
profits; |
|
|
|
|
we operate and manage our business on a number of different computer systems,
including several aging Enterprise Resource Planning systems that rely on manual processes,
which could adversely affect our ability to accurately report our financial condition,
results of operations and cash flows; |
|
|
|
|
our relative geographical profitability and its impact on our ability to
utilize foreign tax credits; |
|
|
|
|
the recognition of significant expenses associated with realigning operations
of acquired companies with those of our company; |
|
|
|
|
our ability to meet the financial covenants and other restrictive covenants in
our debt agreements may limit our operating and financial flexibility; |
|
|
|
|
the loss of services of any of our key personnel could adversely affect our
ability to implement our business strategy; |
|
|
|
|
any terrorist attacks and the response of the U.S. to such attacks or to the
threat of such attacks could adversely impact our business operations, including the
ability to deliver our products; |
|
|
|
|
our ability to protect our intellectual property affects our competitive
position; |
|
|
|
|
changes in prevailing interest rates and our effective interest costs could
make borrowing more costly in the future; and |
|
|
|
|
compliance with regulatory and other legal obligations could require
substantial costs and prohibit or restrict our operations. |
A detailed discussion of these and other risks and uncertainties that could cause actual
results and events to differ materially from such forward-looking statements is included in Item
1A. Risk Factors. of our 2005 Annual Report, filed with the SEC on June 30, 2006. It is not
possible to foresee or identify all the factors that may affect our future performance or any
forward-looking information, and new risk factors can emerge from time to time. Given these risks
and uncertainties, you should not place undue reliance on forward-looking statements as a
prediction of actual results.
All forward-looking statement included in this Quarterly Report are based on information
available to us on the date of this Quarterly Report. We undertake no obligation to revise or
update any forward-looking statement or disclose any facts, events or circumstances that occur
after the date hereof that may affect the accuracy of any forward-looking statement.
41
Item 3. Quantitative and Qualitative Disclosures about Market Risk.
We have market risk exposure arising from changes in interest rates and foreign currency
exchange rate movements.
Our earnings are impacted by changes in short-term interest rates as a result of borrowings
under our 2000 Credit Facilities, which bear interest based on floating rates. At September 30,
2005, after the effect of interest rate swaps, we have approximately $420.0 million of variable
rate debt obligations outstanding with a weighted average interest rate of 5.8%. A hypothetical
change of 100-basis points in the interest rate for these borrowings, assuming constant variable
rate debt levels, would have changed interest expense by approximately $3.2 million for the nine
months ended September 30, 2005.
We are exposed to credit-related losses in the event of non-performance by counterparties to
financial instruments including interest rate swaps, but we expect all counterparties to meet their
obligations given their creditworthiness. As of September 30, 2005, we have $265 million of
notional amount in outstanding interest rate swaps with third parties with maturities through June
2011 compared to $210 million as of the same period in 2004.
We employ a foreign currency hedging strategy to minimize potential losses in earnings or cash
flows from unfavorable foreign currency exchange rate movements. These strategies also minimize
potential gains from favorable exchange rate movements. Foreign currency exposures arise from
transactions, including firm commitments and anticipated transactions, denominated in a currency
other than an entitys functional currency and from foreign-denominated revenues and profits
translated back into U.S. dollars. Based on a sensitivity analysis at September 30, 2005, a 10%
adverse change in the foreign currency exchange rates could impact our results of operations for
the nine months ended September 30, 2005 by $7.7 million as shown below:
|
|
|
|
|
(Amounts in millions) |
|
|
|
|
Euro |
|
$ |
2.4 |
|
Swiss franc |
|
|
0.9 |
|
Canadian dollar |
|
|
0.7 |
|
Singapore dollar |
|
|
0.7 |
|
Indian rupee |
|
|
0.6 |
|
Venezuelan bolivar |
|
|
0.5 |
|
Australian dollar |
|
|
0.3 |
|
British pound |
|
|
0.3 |
|
Mexican peso |
|
|
0.3 |
|
Argentina peso |
|
|
0.3 |
|
Brazil real |
|
|
0.3 |
|
All other |
|
|
0.4 |
|
|
|
|
|
Total |
|
$ |
7.7 |
|
|
|
|
|
Exposures are hedged primarily with foreign currency forward contracts that generally have
maturity dates less than one year. Company policy allows foreign currency coverage only for
identifiable foreign currency exposures and, therefore, we do not enter into foreign currency
contracts for trading purposes where the objective would be to generate profits. As of September
30, 2005, we have a U.S. dollar equivalent of $210.5 million in outstanding forward contracts with
third parties compared with $83.4 million at September 30, 2004.
Generally, we view our investments in foreign subsidiaries from a long-term perspective, and
therefore, do not hedge these investments. We use capital structuring techniques to manage our
investment in foreign subsidiaries as deemed necessary.
We realized gains (losses) associated with foreign currency translation of $0.7 million and
$3.4 million for the three months ended September 30, 2005 and 2004, respectively, and $(24.5)
million and $(11.0) million for the nine months ended September 30, 2005 and 2004, respectively,
which are included in other comprehensive income (loss). Transactional currency gains and losses
arising from transactions outside of our sites functional currencies and changes in fair value of
forward contracts that do not qualify for hedge accounting are included in our consolidated results
of operations. We realized foreign currency losses of $(1.0) million and $4.6 million for the
three months ended September 30, 2005 and 2004, respectively, and
42
$8.2 million and $10.4 million
for the nine months ended September 30, 2005 and 2004, respectively, which is included in
other (income) expense, net in the accompanying consolidated statements of operations. The
currency losses in 2005 compared with 2004 reflect strengthening of the Euro and the Singapore
dollar versus the U.S. dollar.
Item 4. Controls and Procedures.
Disclosure Controls and Procedures
Disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange
Act of 1934, as amended (the Exchange Act)) are controls and other procedures that are designed
to provide reasonable assurance that the information that we are required to disclose in the
reports that we file or submit under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the SECs rules and forms, and that such information
is accumulated and communicated to our management, including our Chief Executive Officer and Chief
Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
In connection with the preparation of this Quarterly Report, our management, with the
participation of our Chief Executive Officer and our Chief Financial Officer, carried out an
evaluation of the effectiveness of the design and operation of our disclosure controls and
procedures as of September 30, 2005. In making this evaluation, our management considered the
matters relating to the material weaknesses described in our 2004 Annual Report and our 2005 Annual
Report. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer
concluded that our disclosure controls and procedures were not effective at the reasonable
assurance level as of September 30, 2005.
A material weakness is a control deficiency, or combination of control deficiencies, that
result in more than a remote likelihood that a material misstatement of the annual or interim
financial statements will not be prevented or detected. As more fully described in Managements
Report on Internal Control Over Financial Reporting in Item 9A of our
2004 Annual Report, management identified the following material weaknesses in our internal control
over financial reporting as of December 31, 2004, which also existed as of September 30, 2005:
We did not maintain (1) an effective control environment, (2) effective monitoring controls to
determine the adequacy of its internal control over financial reporting and related policies and
procedures, (3) effective controls over certain of our period-end financial close and reporting
processes, (4) effective segregation of duties over automated and manual transaction processes, (5)
effective controls over the preparation, review and approval of account reconciliations, (6)
effective controls over the complete and accurate recording and monitoring of intercompany
accounts, (7) effective controls over the recording of journal entries, both recurring and
non-recurring, (8) effective controls over the existence, completeness and accuracy of fixed assets
and related depreciation and amortization expense, (9) effective controls over the completeness and
accuracy of revenue, deferred revenue, accounts receivable and accrued liabilities, (10) effective
controls over the completeness, accuracy, valuation and existence of our inventory and related cost
of sales accounts, (11) effective controls over the completeness and accuracy of our reporting of
certain non-U.S. pension plans, (12) effective controls over the complete and accurate recording of
rights and obligations associated with our accounts receivable factoring and securitization
transactions, (13) effective controls over our accounting for certain derivative transactions, (14)
effective controls over our accounting for equity investments, (15) effective controls over our
accounting for income taxes, including income taxes payable, deferred income tax assets and
liabilities and the related income tax provision, (16) effective controls over our accounting for
mergers and acquisitions, (17) effective controls over the completeness and accuracy of certain
accrued liabilities and the related operating expense accounts, (18) effective controls over the
completeness, accuracy and validity of payroll and accounts payable disbursements to ensure that
they were adequately reviewed and approved prior to being recorded and reported, (19) effective
controls over the completeness, accuracy and validity of spreadsheets used in our financial
reporting process to ensure that access was restricted to appropriate personnel, and that
unauthorized modification of the data or formulas within spreadsheets was prevented, and (20)
effective controls over the accuracy, valuation and disclosure of our goodwill and intangible asset
accounts and the related amortization and impairment expense accounts, based on criteria
established in Internal Control Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO).
As more fully described in Managements Report on Internal Control Over Financial Reporting
included in Item 9A of our 2005 Annual Report, management identified
the following material weakness in our internal control over financial reporting as of December 31,
2005, which also existed as of September 30, 2005: we did not maintain
43
effective controls over the completeness, accuracy and valuation of stock-based employee
compensation expense, based on criteria established in Internal Control Integrated Framework
issued by COSO.
In light of the material weaknesses identified above, we performed additional analyses and
other procedures to ensure that our unaudited condensed consolidated financial statements included
in this Quarterly Report were prepared in accordance with GAAP. As a result of these procedures,
we believe that the unaudited condensed consolidated financial statements included in this
Quarterly Report present fairly, in all material respects, our financial position, results of
operations and cash flows for the periods presented in conformity with GAAP.
Plan for Remediation of Material Weaknesses
In response to the identified material weaknesses, our management, with oversight from our
audit committee, has dedicated significant resources, including the engagement of external
consultants, to support management in its efforts to improve our control environment and to remedy
the identified material weaknesses. As more fully described in our 2004 Annual Report, the ongoing
remediation efforts subsequent to December 31, 2004 are focused on (i) expanding our organizational
capabilities to improve our control environment; (ii) implementing process changes to strengthen
our internal control and monitoring activities; and (iii) implementing adequate information
technology general controls.
We believe that these remediation efforts will continue to improve our
internal control over financial reporting, as well as our disclosure controls and procedures.
However, not all of the material weaknesses described above were remediated by December 31, 2005,
our next reporting as of date under Section 404. Our management, with the
oversight of our audit committee, will continue to take steps to remedy known material weaknesses
as expeditiously as possible.
Changes in Internal Control over Financial Reporting
There have been no material changes in our internal control over financial reporting during
the three months ended September 30, 2005 that have materially affected, or are reasonably likely
to materially affect, our internal control over financial reporting.
44
PART II OTHER INFORMATION
Item 1. Legal Proceedings.
We are a defendant in a large number of pending lawsuits (which include, in many cases,
multiple claimants) that seek to recover damages for personal injury allegedly caused by exposure
to asbestos-containing products manufactured and/or distributed by us in the past. Any such
products were encapsulated and used only as components of process equipment, and we do not believe
that any emission of respirable asbestos fibers occurred during the use of this equipment. We
believe that a high percentage of the applicable claims are covered by applicable insurance or
indemnities from other companies.
On February 4, 2004, we received an informal inquiry from the SEC requesting the voluntary
production of documents and information related to our February 3, 2004 announcement that we would
restate our financial results for the nine months ended September 30, 2003 and the full years 2002,
2001 and 2000. On June 2, 2004, we were advised that the SEC had issued a formal order of private
investigation into issues regarding this restatement and any other issues that arise from the
investigation. On May 31, 2006, we were informed by the staff of the SEC that it had concluded this
investigation without recommending any enforcement action against us.
During the quarter ended September 30, 2003, related lawsuits were filed in federal court in
the Northern District of Texas (the Court), alleging that we violated federal securities laws.
Since the filing of these cases, which have been consolidated, the lead plaintiff has amended its
complaint several times. The lead plaintiffs current pleading is the fifth consolidated amended
complaint (the Complaint). The Complaint alleges that federal securities violations occurred
between February 6, 2001 and September 27, 2002 and names as defendants our company, C. Scott
Greer, our former Chairman, President and Chief Executive Officer, Renee J. Hornbaker, our former
Vice President and Chief Financial Officer, PricewaterhouseCoopers LLP, our independent registered
public accounting firm, and Banc of America Securities LLC and Credit Suisse First Boston LLC,
which served as underwriters for our two public stock offerings during the relevant period. The
Complaint asserts claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, and
Rule 10b-5 thereunder, and Sections 11 and 15 of the Securities Act of 1933. The lead plaintiff
seeks unspecified compensatory damages, forfeiture by Mr. Greer and Ms. Hornbaker of unspecified
incentive-based or equity-based compensation and profits from any stock sales, and recovery of
costs. On November 22, 2005, the Court entered an order denying the defendants motions to dismiss
the Complaint. The case is currently set for trial on March 27, 2007. We continue to believe that
the lawsuit is without merit and are vigorously defending the case.
On October 6, 2005, a shareholder derivative lawsuit was filed purportedly on our behalf in
the 193rd Judicial District of Dallas County, Texas. The lawsuit names as defendants Mr. Greer, Ms.
Hornbaker, and current board members Hugh K. Coble, George T. Haymaker, Jr., William C. Rusnack,
Michael F. Johnston, Charles M. Rampacek, Kevin E. Sheehan, Diane C. Harris, James O. Rollans and
Christopher A. Bartlett. We are named as a nominal defendant. Based primarily on the purported
misstatements alleged in the above-described federal securities case, the plaintiff asserts claims
against the defendants for breach of fiduciary duty, abuse of control, gross mismanagement, waste
of corporate assets and unjust enrichment. The plaintiff alleges that these purported violations of
state law occurred between April 2000 and the date of suit. The plaintiff seeks on our behalf an
unspecified amount of damages, injunctive relief and/or the imposition of a constructive trust on
defendants assets, disgorgement of compensation, profits or other benefits received by the
defendants from us, and recovery of attorneys fees and costs. We strongly believe that the suit
was improperly filed and have filed a motion seeking dismissal of the case.
On March 14, 2006, a shareholder derivative lawsuit was filed purportedly on our behalf in
federal court in the Northern District of Texas. The lawsuit names as defendants Mr. Greer, Ms.
Hornbaker, and current board members Mr. Coble, Mr. Haymaker, Jr., Lewis M. Kling, Mr. Rusnack, Mr.
Johnston, Mr. Rampacek, Mr. Sheehan, Ms. Harris, Mr. Rollans and Mr. Bartlett. We are named as a
nominal defendant. Based primarily on certain of the purported misstatements alleged in the
above-described federal securities case, the plaintiff asserts claims against the defendants for
breaches of fiduciary duty. The plaintiff alleges that the purported breaches of fiduciary duty
occurred between 2000 and 2004. The plaintiff seeks on our behalf an unspecified amount of damages,
disgorgement by Mr. Greer and Ms. Hornbaker of salaries, bonuses, restricted stock and stock
options, and recovery of attorneys fees and costs. We strongly believe that the suit was
improperly filed and have filed a motion seeking dismissal of the case.
On February 7, 2006, we received a subpoena from the SEC regarding goods and services that
certain foreign subsidiaries delivered to Iraq from 1996 through 2003 during the United Nations
Oil-for-Food program. This investigation
45
includes a review of whether any inappropriate payments were made to Iraqi officials in
violation of the Foreign Corrupt Practices Act. The investigation includes periods prior, to as
well as subsequent to our acquisition of the foreign operations involved in the investigation. We
may be subject to liabilities if violations are found regardless of whether they relate to periods
before or subsequent to our acquisition.
In addition, one of our foreign subsidiarys operations is cooperating with a foreign
governmental investigation of that sites involvement in the United Nations Oil-for-Food program.
This cooperation has included responding to an investigative trip by foreign authorities to the
foreign subsidiarys site, providing relevant documentation to these authorities and answering
their questions. We are unable to predict how or if the foreign authorities will pursue this matter
in the future.
We believe that both the SEC and foreign authorities are investigating other companies from
their actions arising from the United Nations Oil-for-Food program.
We are in the process of reviewing and responding to the SEC subpoena and assessing the
implications of the foreign investigation, including the continuation of a thorough internal
investigation. Our investigation is in the early stages and has included and will include a
detailed review of contracts with the Iraqi government during the period in question and certain
payments associated therewith. Additionally, we have and will continue to conduct interviews with
employees with knowledge of the contracts and payments in question. We are in the early phases of
our internal investigation and as a result are unable to make any definitive determination whether
any inappropriate payments were made and accordingly are unable to predict the ultimate outcome of
this matter.
We will continue to fully cooperate in both the SEC and the foreign investigations. Both
investigations are in progress but, at this point, are incomplete. Accordingly, if the SEC and/or
the foreign authorities take enforcement action with regard to these investigations, we may be
required to pay fines, consent to injunctions against future conduct or suffer other penalties
which could potentially materially impact our business financial statements and cash flows.
In March 2006, we initiated a process to determine our compliance posture with respect to U.S.
export control laws and regulations. Upon initial investigation, it appears that some product
transactions and technology transfers may not technically been in compliance with U.S. export
control laws and regulations and require further review. With assistance from outside counsel, we
are currently involved in a systematic process to conduct further review which we believe will take
about 18 months to complete given the complexity of the export laws and the scope of the
investigation. Any potential violations of U.S. export control laws and regulations that are
identified may result in civil or criminal penalties, including fines and/or other penalties.
Because our review into this issue is ongoing, we are currently unable to determine the full extent
of potential violations or the nature or amount of potential penalties to which we might be subject
to in the future. Given that the resolution of this matter is uncertain at this time, we are not
able to reasonably estimate the maximum amount of liability that could result from final resolution
of this matter. We cannot currently predict whether the ultimate resolution of this matter will
have a material adverse effect on our business, including our ability to do business outside the
United States, or on our financial condition.
As of May 1, 2005, due to the non-current status of our filings with the SEC in accordance
with the Securities Exchange Act of 1934, our Registration Statements on Form S-8 were no longer
available to cover offers and sales of securities to our employees and other persons. Since that
date, the acquisition of interests in our common stock fund under our 401(k) plan by plan
participants may have been subject to the registration requirements of the Securities Act of 1933
or applicable state securities laws and may not have qualified for an available exemption from such
requirements. Federal securities laws generally provide for a one-year rescission right for an
investor who acquires unregistered securities in a transaction that is subject to registration and
for which no exemption was available. As such, an investor successfully asserting a rescission
right during the one-year time period has the right to require an issuer to repurchase the
securities acquired by the investor at the price paid by the investor for the securities (or if
such security has been disposed of, to receive damages with respect to any loss on such
disposition), plus interest from the date of acquisition. These rights may apply to affected
participants in our 401(k) plan. Based on our current stock price, we believe that our current
potential liability for rescission claims is not material to our financial condition or results of
operations; however, our potential liability could become material in the future if our stock price
were to fall below participants acquisition prices for their interest in our stock fund during the
one-year period following the unregistered acquisitions.
We have been involved as a potentially responsible party (PRP) at former public waste
disposal sites that may be subject to remediation under pending government procedures. The sites
are in various stages of evaluation by federal and state
46
environmental authorities. The projected cost of remediation at these sites, as well as our
alleged fair share allocation, is uncertain and speculative until all studies have been completed
and the parties have either negotiated an amicable resolution or the matter has been judicially
resolved. At each site, there are many other parties who have similarly been identified, and the
identification and location of additional parties is continuing under applicable federal or state
law. Many of the other parties identified are financially strong and solvent companies that appear
able to pay their share of the remediation costs. Based on our information about the waste disposal
practices at these sites and the environmental regulatory process in general, we believe that it is
likely that ultimate remediation liability costs for each site will be apportioned among all liable
parties, including site owners and waste transporters, according to the volumes and/or toxicity of
the wastes shown to have been disposed of at the sites. We believe that our exposure for existing
disposal sites will be less than $100,000.
We are also a defendant in several other lawsuits, including product liability claims, that
are insured, subject to the applicable deductibles, arising in the ordinary course of business.
Based on currently available information, we believe that we have adequately accrued estimated
probable losses for such lawsuits. We are also involved in a substantial number of labor claims,
including one case where we had a confidential settlement reflected in our 2004 results.
Although none of the aforementioned potential liabilities can be quantified with absolute
certainty except as otherwise indicated above, we have established reserves covering exposures
relating to probable contingencies, to the extent believed to be reasonably estimable and probable,
which we believe to be reasonable based on past experience and available facts. While additional
exposures beyond these reserves could exist, they currently cannot be estimated. We will continue
to evaluate these potential contingent loss exposures and, if they develop, recognize expense as
soon as such losses become probable and can be reasonably estimated.
We are also involved in ordinary routine litigation incidental to our business, none of which
we believe to be material to our business, operations or overall financial condition. However,
resolutions or dispositions of claims or lawsuits by settlement or otherwise could have a
significant impact on our operating results for the reporting period in which any such resolution
or disposition occurs.
Item 1A. Risk Factors.
There
have been no material changes to the risk factors presented in Item 1A. Risk Factors.
included in our 2005 Annual Report, filed with the SEC on June 30, 2006.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
As of May 1, 2005, due to the non-current status of our filings with the SEC in accordance
with the Securities Exchange Act of 1934, our Registration Statements on Form S-8 were no longer
available to cover offers and sales of securities to our employees and other persons. Since that
date, the acquisition of interests in our common stock fund under our 401(k) plan by plan
participants may have been subject to the registration requirements of the Securities Act of 1933
or applicable state securities laws and may not have qualified for an available exemption from such
requirements. Federal securities laws generally provide for a one-year rescission right for an
investor who acquires unregistered securities in a transaction that is subject to registration and
for which no exemption was available. As such, an investor successfully asserting a rescission
right during the one-year time period has the right to require an issuer to repurchase the
securities acquired by the investor at the price paid by the investor for the securities (or if
such security has been disposed of, to receive damages with respect to any loss on such
disposition), plus interest from the date of acquisition. These rights may apply to affected
participants in our 401(k) plan and their affected interest in this plan may involve up to 270,000
shares of our common stock acquired pursuant to the 401(k) plan during 2005 and an indeterminate
number of shares acquired during 2006. Based on our current stock price, we believe that our
current potential liability for rescission claims is not material to our financial condition or
results of operations; however, our potential liability could become material in the future if our
stock price were to fall below participants acquisition prices for their interest in our stock
fund during the one-year period following the unregistered acquisitions.
During the third quarter of 2005, we issued an aggregate of 140,800 shares of restricted stock
to employees pursuant to the 2004 Stock Compensation Plan. We believe these securities are not
subject to registration under the no sale principle or were otherwise issued pursuant to
exemptions from registration under Section 4(2) of the
Securities Act of 1933 as transactions by an issuer
not involving a public offering.
47
Issuer Purchases of Equity Securities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Number of Shares |
|
|
Maximum Number of |
|
|
|
Total Number |
|
|
Weighted |
|
|
Purchased as Part of |
|
|
Shares That May Yet Be |
|
|
|
of Shares |
|
|
Average Price |
|
|
Publicly Announced |
|
|
Purchased Under the |
|
Period |
|
Purchased (1) |
|
|
Paid per Share |
|
|
Plan (2) |
|
|
Plan (2) |
|
July 1-31, 2005 |
|
|
12,588 |
|
|
$ |
30.74 |
|
|
|
N/A |
|
|
|
N/A |
|
August 1-31, 2005 |
|
|
2,861 |
|
|
|
35.93 |
|
|
|
N/A |
|
|
|
N/A |
|
September 1-30, 2005 |
|
|
|
|
|
|
|
|
|
|
N/A |
|
|
|
N/A |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
15,449 |
|
|
$ |
31.70 |
|
|
|
N/A |
|
|
|
N/A |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Represents 12,633 shares that were tendered by employees to satisfy minimum tax withholding
amounts for restricted stock awards and 2,816 shares of common stock purchased by a rabbi
trust that we established in connection with our director deferral plans pursuant to which
non-employee directors may elect to defer directors cash compensation to be paid at a later
date in the form of common stock. |
|
(2) |
|
We do not have a publicly announced program for repurchase of shares of our common stock. |
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Submission of Matters to a Vote of Security Holders.
None.
Item 5. Other Information.
None.
48
Item 6. Exhibits.
Set forth below is a list of exhibits included as part of this Quarterly Report:
|
|
|
Exhibit No. |
|
Description |
3.1
|
|
1988 Restated Certificate of Incorporation of The Duriron Company,
Inc., filed as Exhibit 3.1 to Flowserve Corporations (f/k/a The
Duriron Company) Annual Report on Form 10-K for the year ended December
31, 1988. |
|
|
|
3.2
|
|
1989 Amendment to Certificate of Incorporation, filed as Exhibit 3.2 to
Flowserve Corporations Annual Report on Form 10-K for the year ended
December 31, 1989. |
|
|
|
3.3
|
|
1996 Certificate of Amendment of Certificate of Incorporation, filed as
Exhibit 3.4 to Flowserve Corporations Annual Report on Form 10-K for
the year ended December 31, 1995. |
|
|
|
3.4
|
|
April 1997 Certificate of Amendment of Certificate of Incorporation,
filed as part of Annex VI to the Joint Proxy Statement/ Prospectus,
which is part of Flowserve Corporations Registration Statement on Form
S-4, dated June 19, 1997. |
|
|
|
3.5
|
|
July 1997 Certificate of Amendment of Certificate of Incorporation,
filed as Exhibit 3.6 to Flowserve Corporations Quarterly Report on
Form 10-Q for the quarter ended June 30, 1997. |
|
|
|
3.6
|
|
Amended and Restated By-Laws of Flowserve Corporation, as amended,
filed as Exhibit 3.9 to Flowserve Corporations Annual Report on Form
10-K for the year ended December 31, 2003. |
|
|
|
10.1
|
|
Credit Agreement, dated as of August 12, 2005, among the Company, the
lenders referred to therein, the Bank of America, N.A., as swingline
lender, administrative agent and collateral agent, filed as Exhibit
10.1 to the Companys Current Report on Form 8-K dated as of August 12,
2005. |
|
|
|
10.2
|
|
Employment Agreement between the Company and Lewis M. Kling, dated July
28, 2005, filed as Exhibit 10.1 to the Companys Current Report on Form
8-K, dated as of July 28, 2005. |
|
|
|
31.1
|
|
Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
|
|
|
31.2
|
|
Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
|
|
|
32.1
|
|
Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
|
|
|
32.2
|
|
Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
49
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.
|
|
|
|
|
|
|
FLOWSERVE CORPORATION |
|
|
|
|
(Registrant) |
|
|
|
|
|
|
|
Date: July 27, 2006
|
|
/s/ Lewis M. Kling |
|
|
|
|
|
|
|
|
|
Lewis M. Kling |
|
|
|
|
President and Chief Executive Officer |
|
|
|
|
|
Date: July 27, 2006
|
|
/s/ Mark A. Blinn |
|
|
|
|
|
|
|
|
|
Mark A. Blinn |
|
|
|
|
Vice President and Chief Financial Officer |
50
Exhibits Index
|
|
|
Exhibit No. |
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Description |
3.1
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1988 Restated Certificate of Incorporation of The Duriron Company,
Inc., filed as Exhibit 3.1 to Flowserve Corporations (f/k/a The
Duriron Company) Annual Report on Form 10-K for the year ended December
31, 1988. |
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3.2
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1989 Amendment to Certificate of Incorporation, filed as Exhibit 3.2 to
Flowserve Corporations Annual Report on Form 10-K for the year ended
December 31, 1989. |
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3.3
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1996 Certificate of Amendment of Certificate of Incorporation, filed as
Exhibit 3.4 to Flowserve Corporations Annual Report on Form 10-K for
the year ended December 31, 1995. |
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3.4
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April 1997 Certificate of Amendment of Certificate of Incorporation,
filed as part of Annex VI to the Joint Proxy Statement/ Prospectus,
which is part of Flowserve Corporations Registration Statement on Form
S-4, dated June 19, 1997. |
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3.5
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July 1997 Certificate of Amendment of Certificate of Incorporation,
filed as Exhibit 3.6 to Flowserve Corporations Quarterly Report on
Form 10-Q for the quarter ended June 30, 1997. |
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3.6
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Amended and Restated By-Laws of Flowserve Corporation, as amended,
filed as Exhibit 3.9 to Flowserve Corporations Annual Report on Form
10-K for the year ended December 31, 2003. |
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10.1
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Credit Agreement, dated as of August 12, 2005, among the Company, the
lenders referred to therein, the Bank of America, N.A., as swingline
lender, administrative agent and collateral agent, filed as Exhibit
10.1 to the Companys Current Report on Form 8-K dated as of August 12,
2005. |
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10.2
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Employment Agreement between the Company and Lewis M. Kling, dated July
28, 2005, filed as Exhibit 10.1 to the Companys Current Report on Form
8-K, dated as of July 28, 2005. |
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31.1
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Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
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31.2
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Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
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32.1
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Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
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32.2
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Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
51
exv31w1
EXHIBIT 31.1
CERTIFICATION BY PRINCIPAL EXECUTIVE OFFICER
PURSUANT TO 18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO SECTION 302
OF THE SARBANES-OXLEY ACT OF 2002
I, Lewis M. Kling, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Flowserve Corporation;
2. Based on my knowledge, this report does not contain any untrue statement of a
material fact or omit to state a material fact necessary to make the statements made, in light of
the circumstances under which such statements were made, not misleading with respect to the period
covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included
in this report, fairly present in all material respects the financial condition, results of
operations and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrants other certifying officer and I are responsible for establishing and
maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and
15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules
13a-15(f) and 15d-15(f)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and
procedures to be designed under our supervision, to ensure that material information relating to
the registrant, including its consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused such internal
control over financial reporting to be designed under our supervision, to provide reasonable
assurance regarding the reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally accepted accounting principles;
(c) Evaluated the effectiveness of the registrants disclosure controls and procedures and
presented in this report our conclusions about the effectiveness of the disclosure controls and
procedures, as of the end of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrants internal control over financial
reporting that occurred during the registrants most recent fiscal quarter (the registrants fourth
fiscal quarter in the case of an annual report) that has materially affected, or is reasonably
likely to materially affect, the registrants internal control over financial reporting; and
5. The registrants other certifying officer and I have disclosed, based on our most recent
evaluation of internal control over financial reporting, to the registrants auditors and the audit
committee of the registrants board of directors (or persons performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the design or operation of
internal control over financial reporting which are reasonably likely to adversely affect the
registrants ability to record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other employees who have a
significant role in the registrants internal control over financial reporting.
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/s/ Lewis M. Kling |
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President and Chief Executive Officer |
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Date: July 27, 2006
exv31w2
EXHIBIT 31.2
CERTIFICATION BY PRINCIPAL FINANCIAL OFFICER
PURSUANT TO 18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO SECTION 302
OF THE SARBANES-OXLEY ACT OF 2002
I, Mark A. Blinn, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Flowserve Corporation;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact
or omit to state a material fact necessary to make the statements made, in light of the
circumstances under which such statements were made, not misleading with respect to the period
covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included
in this report, fairly present in all material respects the financial condition, results of
operations and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrants other certifying officer and I are responsible for establishing and
maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and
15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules
13a-15(f) and 15d-15(f)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls
and procedures to be designed under our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused such internal control
over financial reporting to be designed under our supervision, to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of financial statements for
external purposes in accordance with generally accepted accounting principles;
(c) Evaluated the effectiveness of the registrants disclosure controls and procedures
and presented in this report our conclusions about the effectiveness of the disclosure controls and
procedures, as of the end of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrants internal control over
financial reporting that occurred during the registrants most recent fiscal quarter (the
registrants fourth fiscal quarter in the case of an annual report) that has materially affected,
or is reasonably likely to materially affect, the registrants internal control over financial
reporting; and
5. The registrants other certifying officer and I have disclosed, based on our most
recent evaluation of internal control over financial reporting, to the registrants auditors and
the audit committee of the registrants board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design or operation of
internal control over financial reporting which are reasonably likely to adversely affect the
registrants ability to record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other employees who
have a significant role in the registrants internal control over financial reporting.
|
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/s/ Mark A. Blinn |
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|
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Vice President and Chief Financial Officer |
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Date: July 27, 2006
exv32w1
EXHIBIT 32.1
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
I, Lewis M. Kling, President and Chief Executive Officer of Flowserve Corporation (the
Company), certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002, that to my knowledge:
(1) the quarterly report of the Company on Form 10-Q for the period ended September 30, 2005,
as filed with the Securities and Exchange Commission on the date hereof (the Quarterly Report)
fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of
1934, as amended; and
(2) the information contained in the Quarterly Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
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/s/ Lewis M. Kling |
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|
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President and Chief Executive Officer |
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Date: July 27, 2006
exv32w2
EXHIBIT 32.2
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
I, Mark A. Blinn, Vice President and Chief Financial Officer of Flowserve Corporation
(the Company), certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002, that to my knowledge:
(1) the quarterly report of the Company on Form 10-Q for the period ended September 30,
2005, as filed with the Securities and Exchange Commission on the date hereof (the Quarterly
Report) fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange
Act of 1934, as amended; and
(2) the information contained in the Quarterly Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
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/s/ Mark A. Blinn |
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|
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Vice President and Chief Financial Officer |
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|
Date: July 27, 2006