ITEM 1. BUSINESS
The following description of Wells Aluminum Corporation ("Wells" or the "Company"), the aluminum extrusion industry, and the Company's business contains statements which constitute forward looking statements, and not historical facts, within the meaning of the Private Securities Litigation Reform Act of 1995. These statements appear in a number of places and include statements regarding the intent, belief or current expectations of the Company or its officers primarily with respect to the future prospects, financial condition and operating performance of the Company. Any such forward looking statements regarding the Company, the aluminum extrusion industry, and the Company's business are not guarantees of future performance and involve risks and uncertainties. A variety of factors could cause actual results to differ materially from those anticipated in the Company's forward looking statements.
THE COMPANY - -----------
Wells Aluminum Corporation was incorporated in Maryland in November 1967 as the successor to an aluminum extrusion business which began in the early 1950's. Gibbons, Goodwin, van Amerongen ("GGvA") is the sole general partner of Wells Holdings Limited Partnership, which currently owns 76.7% of the outstanding shares of the Company's common stock. As a result, GGvA has the controlling interest in the Company and has the power to elect a majority of the directors of the Company and to control all matters submitted to the stockholders of the Company, including approving business combinations involving the Company.
Wells is a custom extruder, finisher and fabricator of soft alloy aluminum products, principally for the building/construction, transportation, consumer durables and equipment/electrical markets. In addition to the production of mill finished extrusions, the Company's operations include painting, anodizing and fabrication, which enables the Company to provide its customers with assembly-ready aluminum components and assemblies. The Company shipped approximately 166.3 million pounds of aluminum extrusions in 1998, an increase of 11.4 million pounds, or 7.4%, over the 1997 shipments of 154.9 million pounds.
The Company's network of plants consists of seven facilities in six states in the midwestern and southeastern United States. These facilities contain twelve extrusion presses, sizes 7" to 10", and are located to meet various regional demands, minimize transportation costs, balance production requirements among plants and provide single source reliability to large customers. The Company also operates its own casting facility for aluminum billet, enabling the Company to manage its internal billet requirements as well as to recycle its scrap for use in its extrusion operations. The Company believes that its ability to cast the majority of its billet needs provides a cost advantage over those extruders without an internal casting capability.
The Company sells its products to approximately 800 customers primarily in the building/construction, transportation, consumer durables and equipment/electrical markets. In 1998, the Company's top ten customers received approximately 38% of the Company's shipped volume in pounds sold, with the top twenty-five customers accounting for approximately 57%. In 1998, one customer, Navistar International Corporation, accounted for 10.4% of the Company's gross sales measured in dollars.
The Company focuses on long-term customer relationships to maintain and enhance its business prospects. Approximately two-thirds of the Company's 1998 sales in extrusion pounds shipped were made to customers that have been customers of the Company for more than ten years. The Company believes that its relatively stable customer base is attributable, in part, to the Company's ability to provide a high level of customer service, engineering expertise and quality products at competitive prices.
PRODUCTS - --------
Through its regional plant system, Wells is able to produce a broad range of extruded, finished and fabricated aluminum products used by its customers in the manufacture of their end products. In 1998, over 90% of the products sold by the Company were designed and manufactured according to individual customer specifications. The Company believes that the large share of customized products sold by the Company can be attributed to the Company's product quality, high level of customer service, the coordination between its sales force and engineering staff at each plant, engineering design capabilities, and its extensive extrusion, finishing and fabrication capabilities.
Building/Construction
In the building/construction market, the Company produces extrusions and fabricated products for residential and commercial window and door frames, storm doors, vents and louvers, railings, stadium seating systems, patio enclosures and a variety of architectural specialty applications. The Company also manufactures and markets a proprietary line of sliding patio doors and a line of commercial entrance doors and storefront systems. In 1998, shipments to customers in the building/construction market represented approximately 44% of the Company's total pounds sold. Of the pounds sold in this market, approximately 58% were shipped to customers in the residential segment with the remaining pounds being shipped to customers in the commercial segment.
Transportation
In the transportation market, the Company produces extrusions and fabricated products for truck cabs, commercial truck trailers, recreational vehicles, golf carts, utility trailers and automotive accessories. The Company also produces a number of complex assemblies, including complete door frames and structural sub frames for use in Class 8 truck tractors and complete window assemblies for use in school buses and delivery vans. In 1998, approximately 25% of the Company's total pounds sold were shipped to customers in the transportation market.
Consumer Durables
In the consumer durables market, the Company produces extrusions and fabricated products for a wide variety of applications, including the manufacture of high-end office furniture and pleasure boats. In 1998, shipments to customers in the consumer durables market represented approximately 10% of the Company's total pounds sold.
Equipment/Electrical
In the equipment/electrical market, the Company produces extrusions and fabricated products for applications such as heat sinks and electronic component mounting systems, electrical distribution and commercial lighting systems, material handling systems, and industrial guarding and fixturing systems. In 1998, approximately 8% of the Company's total pounds sold were shipped to customers in the equipment/electrical market.
Distributors
For the distributor market, the Company produces extruded products which the distributors then resell to manufacturers, contractors and other industrial end users. The Company's focus in the distribution market is on producing application specific components, which are sold via specialty, value added distributors. The Company does not regularly participate in the stock shape/metal service center portion of the distribution market. Thus, the Company believes that the end use of products produced for distributors and then resold tends to parallel the uses of customers which the Company serves directly. In 1998, shipments to distributors represented approximately 13% of the Company's total pounds sold.
MANUFACTURING - -------------
Wells' manufacturing processes involve casting, extruding, finishing and fabricating soft alloy aluminum. The Company's operations and engineering activities are directed by its Vice President of Operations, from the Company's corporate headquarters. Management of production activities is structured to provide strong decentralized plant operations in combination with certain centralized corporate functions. Each plant location, of which there are seven, is managed by an operations manager, who in most cases, is supported by a plant manager. Operations management focuses on plant site issues, such as customer service, delivery, product quality, productivity, operating costs and labor, that are directly under operations control.
Casting
The Company has two casting furnaces and ancillary equipment which are used to produce aluminum billet. The first step in the casting process is to melt primary aluminum and aluminum scrap in a large furnace. The molten aluminum is either directly alloyed in this furnace or transferred to another furnace where the alloying materials are added. The aluminum is then cast into logs of varying diameters with lengths of up to 16 feet. Next, these logs are heated and then cooled at a controlled rate to allow the cast aluminum to achieve the optimally distributed chemical composition for extrusion, a process called homogenization. Afterwards, some aluminum logs are cut into shorter lengths called billets, the main raw material for the production on aluminum extrusions. Aluminum logs and billets are then transferred to the Company's extrusion plants for subsequent production of aluminum extrusions.
Extrusion
The Company operates five extrusion plants which have in the aggregate twelve extrusion presses producing varying sizes of extrusions. Extrusion is a manufacturing process by which aluminum billet is heated and pushed by a press, or extruded, through a die to produce a piece of metal in the shape of the die and at the desired length. Extrusions are then straightened by stretching and cut to the required lengths which range from 8 to 50 feet. Most extrusions are hardened by aging in large ovens from 6 to 12 hours. Typically, 75% of the results of the extrusion process are salable products; the remaining 25% is aluminum scrap, which is either recast into aluminum billet by the Company or sold on the open market to metal dealers. Almost all of the Company's dies are designed to produce aluminum extrusions according to individual customer specifications.
Finishing
The Company has extensive finishing capabilities with two painting and two anodizing facilities providing coverage of markets from the East Coast through the Midwest. In addition, the Company uses contract painters and anodizers to augment its finishing capabilities. These combined finishing capabilities allow the Company to provide its customers a single source for components and assemblies ready for processing. Often additional finishing-related services are provided, including two-tone painting and taping of painted surfaces for protection during the customer's manufacturing process. These services enhance the Company's value to its customers and provide appreciable added income and profit margin.
Fabrication
The Company has six fabrication operations, of which two are dedicated fabrication plants. The Company employs a variety of fabrication processes, including notching, bending, punching, drilling, tight tolerance cutting, computerized numerical control ("CNC") machining, manual and robotic welding, and assembly. These fabrication operations differ in complexity, ranging from Tier #3 activities, which include welding, high tolerance machining and assembly, to Tier #1 activities, which involve light punching, manual sawing and drilling, and hand deburring. Fabricated products may range from a simple cut-to-length extrusion notched and punched for use as a door threshold, to a step assembly for a truck cab, to a curved and fully formed trim cap for use on an
office partition, to a panel van window assembly complete with glass. In 1998, the Company's two Tier #3 operations received QS9000/ISO9002 certification demonstrating the Company's commitment to the production of quality products. The Company's fabrication operations are attractive to those customers interested in outsourcing certain manufacturing in order to better control operating costs, manage inventory, accommodate growth, or more sharply focus their own operations. The Company's fabrication operations provide additional opportunities to enhance profit margins and help protect the business from market penetration by other competitors.
Backlog
Extrusion turnaround time is generally sufficiently short as to permit the Company to fill customer orders for most of its products in a short time period. Accordingly, the Company does not consider backlog to have a material effect on its business.
RAW MATERIALS - -------------
Wells' principal raw material for aluminum extrusions is aluminum billet, the majority of which the Company produces at its own casting facility. The main materials used in the production of billet are primary aluminum ingot and aluminum scrap. In 1998, the Company purchased its primary aluminum requirements pursuant to supply agreements with five North American suppliers at current market prices at the delivery dates. Over 60% of the aluminum scrap required in 1998 was sourced from the Company's own manufacturing processes. The remaining requirements for primary ingot and scrap were purchased from a variety of metal and scrap brokers and dealers.
For 1999, the Company has secured commitments with six North American suppliers to purchase primary aluminum for its casting requirements at current market prices at the delivery dates. Over 60% of the aluminum scrap required for 1999 is expected to be sourced from the Company's own manufacturing processes. The Company believes that its remaining requirements for primary ingot and scrap are readily available in the open market from metal and scrap brokers and dealers.
Aluminum Cost Recovery
Aluminum is subject to extensive price volatility in the world market, reflecting both domestic and international economic demand as well as activities by financial hedge investment funds. The Company seeks to reduce its exposure to the volatility in aluminum prices by fixing the cost of metal by hedging against committed fixed price sales or by passing cost increases through to customers by systematic market indexed sales pricing. The Company limits its hedging activities to committed sales and does not engage in speculative hedging. As a further control technique, the Company maintains its inventory at levels consistent with operating needs (35 days on hand) through centralized purchasing and logistics, and sells any excess primary aluminum in the open market, closely matching the cost of metal purchased to the price of such metal sold. Notwithstanding the Company's efforts, any increase in the cost of aluminum purchases could have an adverse effect on the Company's financial condition and operations if the Company is unable to pass such increases to its customers or it does not effectively hedge against such aluminum price changes.
CAPITAL IMPROVEMENTS - --------------------
Capital expenditures for 1998 totaled $3.3 million, with expenditures of $1.6 million on extrusion press upgrades, $0.3 million on finishing capabilities, $0.5 million on cast house improvements, $0.6 million on additional fabrication capabilities, and $0.3 million on other capital items. Since the middle of 1995, the Company has focused its capital investment on technology and productivity improvements in extrusion and casting that support the Company's marketing initiatives. These investments generally have expected paybacks of less than 18 months and have increased capacity without requiring the acquisition of major new equipment. In 1998, the Company upgraded its 10" extrusion press and ancillary equipment, including the installation of an isothermal control system, at its North Liberty, Indiana facility, improving productivity by 15%. The Company also installed an isothermal
control system on the 8" extrusion press at its Kalamazoo, Michigan facility, increasing productivity in excess of 15%. In 1998, the Company replaced a small homogenization oven with a new high capacity unit and modernized an existing homogenization oven at its casting facility. A billet cooling system was also replaced to support this new capacity and to improve the metallurgical properties of the aluminum billet cast. In 1998, the Company improved its fabrication capabilities through investments in additional CNC bending and machining equipment, two new precision saws, a robotic welding system and two new CNC routers capable of machining large subassemblies.
The Company plans to make capital expenditures of approximately $4.0 million in 1999 and $3.5 million annually from 2000 through 2003. The Company intends to continue to expand capacity by upgrading its equipment rather than purchasing expensive new equipment. Over the next five years, the Company plans to update and modernize two extrusion presses per year, increasing extrusion capacity by at least 10% per press and reducing scrap generated in the process by 1.5%. The Company believes that by upgrading its extrusion presses, the Company will receive 90% of the productivity benefits realized by replacing equipment but at 50% of the capital investment required. The Company will continue to invest selectively in advanced computer isothermal control equipment, which the Company believes can increase extrusion press capacity by at least 11%.
SALES AND MARKETING - -------------------
Wells' sales and marketing activities and its field sales force are directed by its Senior Vice President, Sales and Marketing, from the corporate headquarters. The centralized sales and marketing organization is accountable for market research and all product and market development activities, including promotional materials and activities. These activities include the development and implementation of customer strategies and the strict maintenance of pricing discipline throughout the Company. All extrusion pricing is centrally managed and administered by the Vice President, Business Selection and Capacity Management, who reports to the Senior Vice President, Sales and Marketing.
Two regional sales managers, located in the Southeast and Midwest, have day-to-day responsibility for directing the sales force and implementing agreed-to market and customer strategies. The regional sales managers work hand-in-hand with the operations managers at each plant location to coordinate customer service and tailor their sales activities to meet the business needs of the plants. This arrangement allows field sales and operations personnel to react to changing market conditions, while facilitating a uniform approach to the market and the reassignment of production requirements among plants when warranted to maintain customer service or plant utilization. In addition to the regional sales managers, the Company employs nine direct sales persons and utilizes six independent manufacturers' representatives for its extrusion and fabrication businesses. The Company also utilizes a number of specialty representatives for its patio door and commercial doors businesses. Compensation for the direct sales force is comprised of salary plus performance-based bonuses.
The Company has implemented a program to upgrade its field sales organization, which is expected to continue in 1999. Key elements include increasing the responsibility of sales managers and representatives for account strategy development and forecasting, providing easy access to the Company's central data bases via portable laptop computers, adding additional employed sales personnel, and tying sales manager compensation to account profitability.
Customer Service
Wells seeks to provide high quality customer service for the markets it serves by capitalizing on its marketing experience, manufacturing flexibility and technical expertise. The Company believes that its strategic network of facilities and the integration among marketing, sales and manufacturing provide it with a competitive advantage by
allowing it to respond quickly to customer demands. Customer service organizations are located at each of the Company's plants, reporting to the operations manager, in order to ensure sensitivity and facilitate quick response to customer needs and inquiries. Customer service representatives are responsible for order entry, and in coordination with the field sales force, routinely initiate day-to-day contact with long-standing customers. The Company believes that this close, local contact between experienced customer service personnel and its established customers is a critical factor in maintaining strong customer relationships.
Pricing and Hedging Programs
The Company offers its customers three basic pricing alternatives: forward sales contracts, formula pricing, and market pricing. These alternatives can be tailored to meet a customer's specific market and risk management requirements.
Forward sales contracts, which accounted for approximately 43% of total pounds sold by the Company in 1998, are "take or pay" agreements negotiated with long-standing customers. These contracts fix the sales price at which the Company agrees to sell and the customer agrees to purchase a specified quantity of aluminum extrusions in the future. These contracts typically cover a substantial portion of the customer's requirements for a three to six month period. The fixed sales price is based on the price at which aluminum can be hedged for future delivery plus a conversion spread to cover operating costs and provide a profit margin.
The Company also offers to long-standing customers a formula pricing mechanism which adjusts pricing monthly based on aluminum price movements. Monthly price changes are based on the Midwest Transaction Price Average (the "MWTP"), plus a negotiated spread covering conversion costs and profit margin. Formula pricing allows the Company to stay current with the aluminum market, balancing upward and downward movements on a monthly basis. In 1998, approximately 37% of total pounds sold were sold by the Company using the formula pricing mechanism.
The Company also quotes individual orders, based on the MWTP in the previous month, for its remaining open market accounts. Profit margins on such market accounts are often higher than on forward sales contracts or formula priced accounts. In addition, the Company's exposure to aluminum price movements is nominal since such orders are based on 30 day delivery, enabling the Company to manage its metal cost.
Fabricated components and assemblies, including the Company's patio door and commercial door product lines, are typically priced quarterly utilizing a formula mechanism based on the previous quarter's average metal cost. Aluminum costs are generally a less significant element of such product costs, which typically include purchased parts and substantial fabrication and assembly labor. Pricing, however, is tightly controlled via a quote process during which purchased parts are quoted and internal costs are established and then appropriate burden rates and target profit margins are added. The quarterly metal price adjustments allow for a "natural" hedge in the first month, which minimizes the risk of changes in metal prices. In certain cases, the Company will enter into aluminum futures contracts to hedge against price volatility in the second and third months based on expected purchases, although such hedges have certain risks because customers are not bound to purchase fixed volumes.
The Company takes forward positions in the aluminum market, but only when supported by forward sales contracts or by firm orders for fabricated products. As a matter of corporate policy, the Company does not engage in speculative hedging activities regarding future aluminum price movements.
Product Delivery
In 1998, Wells distributed approximately 75% of its products through its own fleet of 32 tractors and 140 trailers. All of the Company's tractors are leased whereas all of its trailers are owned. The Company believes that its selected use of its tractor-trailer fleet enhances the level of service to its long-standing customers by
enabling more timely delivery with less damage. The Company also uses motor common carriers for certain hauls, such as partial truck loads and situations where no back haul of aluminum scrap is available, when cost effective.
COMPETITION - -----------
The North American aluminum extrusion market is fragmented and highly competitive in that there are over 100 extruders who operate more than 170 extrusion plants with more than 450 extrusion presses. Recently, however, competitors in the market have begun consolidating as evidenced by William L. Bonnell, Inc.'s acquisition of three extrusion facilities from Reynolds Metals Company and its acquisition of Exal Aluminum Inc. adding another two extrusion facilities. In addition, ALCOA Inc. acquired Alumax, Inc., including its thirteen extrusion facilities.
In the U.S. aluminum extrusion market, the Company believes that competition is regionally oriented and that aluminum extrusion end users are typically looking for "local" plants with a strong focus on customer service, quality and a reputation for fair market pricing. In addition, competition is based on delivery time and specialty engineering/design/production capabilities. The Company also believes that a regional network of plants is important to large end users in order to meet the needs of their multi-plant locations and to ensure continuity of sourcing.
Competitors in the U.S. aluminum extrusion market include the extrusion businesses of primary aluminum producers, such as ALCOA Inc. and Kaiser Aluminum Corporation, and sizeable multi-plant independent extruders, such as Aluminum Shapes, Inc., Easco, Inc., William L Bonnell Company, Inc., and V.A.W. of America, Inc. Competitors also include small local operators, such as Elixir Industries, Western Extrusions Corp., Jordan Company, and Astro Shapes, Inc., and Canadian and Mexican exporters, such as Caradon Indalex and Cuprum S.A. de C.V.
Material Substitution
A factor potentially affecting the Company's future operating performance is material substitution. Other materials, such as vinyl and rolled steel, may be used as substitutes for aluminum extrusions in certain markets and under certain circumstances. In recent years, vinyl, with its penetration of the residential window and door market, has been the most commonly used substitute for aluminum extrusions. Industry forecasts indicate that the movement away from aluminum in this market has slowed and that aluminum should essentially maintain its unit volume (though not its market share in the window and door market) through the end of the 1990's. In areas where the Company does significant business, such as window components for the modular and mobile home segments, which represented approximately 12% of pounds sold by the Company in 1998, vinyl is not a good substitute due to cost and strength limitations. Rolled steel may be another substitute for aluminum when aluminum costs rise to such an extent that rolled steel becomes a viable economic alternative for certain manufacturing needs. However, the Company estimates its participation in markets which may utilize rolled steel to be approximately 2% of the pounds sold by the Company in 1998. An increase in the use of substitutes for aluminum extrusions could have a material adverse effect on the financial condition and operations of the Company.
EMPLOYEES
As of December 31, 1998, Wells employed 1,483 full time employees, 830 of whom are covered by collective bargaining agreements at five plant locations. These collective bargaining agreements are with local unions of the United Steel Workers of America, representing workers at two plant locations, the International
Brotherhood of Teamsters, representing workers at two plant locations, and the International Union of United Automobile, Aerospace and Agricultural Implement Workers (the "UAW"), representing workers at one plant location. The Company's collective bargaining agreements are independently negotiated at each plant location and expire on a staggered basis.
The Company believes that its labor relationships with employees, union and non-union, are generally satisfactory. In 1998, the Company experienced a work stoppage at its North Liberty, Indiana facility, the only work stoppage in the last five years. In late February 1998, the Company's collective bargaining agreement with the local union of the UAW expired, and shortly thereafter, the local union initiated a work stoppage. In late March 1998, the Company and the local union of the UAW reached agreement on a new collective bargaining agreement. During the work stoppage, the Company operated the affected plant using salaried personnel from within the Company and temporary employees. The work stoppage did not have a material adverse effect on the financial performance of the Company. However, there can be no assurance that there will be no further work stoppages in the future. A future work stoppage could have a material adverse effect on the financial performance of the Company.
ENVIRONMENTAL MATTERS - ---------------------
Wells is subject to extensive and evolving environmental laws, regulations and rules that have been enacted in response to technological advances and increased concern over environmental issues. These regulations are administered by the U.S. Environmental Protection Agency and other federal, state and local environmental, transportation, and health and safety agencies. The Company believes that over time there will continue to be increased legislation, regulation and regulatory enforcement actions.
In order to operate its business, the Company must obtain and maintain in effect one or more permits for each of its facilities and comply with complex regulations and rules governing air emissions, waste water discharges, the use, storage, treatment and disposal of solid and hazardous wastes and other items which might affect environmental quality. As a result, the Company from time to time is required to make expenditures for pollution control equipment and for other purposes related to its permits and compliance.
Among the laws that may affect the Company are the Comprehensive Environmental Response, Compensation, and Liability Act of 1980 ("CERCLA") and analogous state laws that impose joint and several liability, without regard to fault, on persons that own or operate locations where there has been, or is threatened to be, a release of any hazardous substances into the environment, as well as persons who arranged for the disposal of such substances at such locations. Such persons may become liable for the costs of investigating and remediating such substances. There are often also substantial legal and administrative expenses incurred in dealing with remediation claims and activities.
The Company has been notified by either the U.S. Environmental Protection Agency or other persons that it is considered to be a "potentially responsible party" for the costs of investigating and remediating hazardous substances at several locations owned and operated by third persons. At each such location, the Company understands that it is one of many "potentially responsible parties." The Company believes that the volume of hazardous substances, if any, for which it may be held responsible at each such location is not significant. While the Company believes that it may have valid defenses to liability claims at these locations, it has been settling such claims where an opportunity to do so is presented at a cost which probably would not exceed the expenses of asserting such defenses through available administrative and judicial processes. The Company believes that none of these contingencies, individually or in the aggregate, could have a material adverse impact on the Company's operations or financial condition.
Environmental Issues
Certain of the Company's manufacturing facilities have been in operation for several decades and, over such time, these facilities have used substances and generated and disposed of wastes which are or may be considered hazardous. For example, certain of these facilities have in the past stored or disposed of wastewater treatment sludge in on-site catch ponds, lagoons or other surface impoundments. Although the Company believes that these facilities are in substantial compliance with current environmental laws and regulations applicable to such storage and disposal activities, it is possible that additional environmental issues and related matters may arise relating to such past activities which could require additional expenditures by the Company.
In 1998, the Environmental Protection Division of the Georgia Department of Natural Resources approved the Company's work plan for the modification of its waste water treatment facilities at its Moultrie, Georgia facility. Under the work plan, which calls for the end of direct discharge of treated waste water and connection to the City of Moultrie sewer system, three settling ponds on the Company's property would be removed from services and their remaining structural components stabilized and capped in place. Phase 1 of the work plan, the reinforcement of pond berms, is scheduled to be completed in April 1999. Phase 2 of the work plan, the stabilizing and capping of the ponds, is scheduled to be completed in 2000. The total cost of the work plan will be approximately $2.1 million.
The Company cannot predict what environmental legislation or regulations will be enacted in the future, how existing or future laws or regulations will be administered or interpreted, or what environmental conditions may be found to exist. Enactment or more stringent laws or regulations or more strict interpretation of existing laws and regulations could require additional expenditures by the Company, some of which could be material.
PATENTS AND TRADEMARKS - ----------------------
Wells owns certain patents and trademarks but does not believe that its business is dependent on its intellectual property rights.
ITEM 2.
ITEM 2. PROPERTIES
Wells has seven production facilities, which enable the Company to serve customers effectively in markets in the East, Midwest and Southeast, as follows. None of the owned properties is subject to an encumbrance that is material to the Company's operations.
The Company considers the condition of its properties to be good and the capacity of its facilities to be adequate for the immediate needs of its business. The principal executive office of the Company is located at 809 Gleneagles Court, Suite 300, Baltimore, Maryland 21286.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
From time to time, Wells is a party to legal actions in the normal course of its business. The Company is not currently involved in any legal proceedings that it believes would have a material adverse effect upon its financial condition or results of operations.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS
Wells held its annual meeting of stockholders on December 9, 1998 during which the stockholders voted on: (1) the election of eight directors of the Company to serve until the 1999 annual meeting of stockholders and until their respective successors are duly elected and qualified, (2) the ratification of an amendment to the Company's 1997 Stock Incentive Plan (the "Plan"), whereby the total number of options available under the Plan was increased from 65,000 to 75,650, and (3) the appointment of Ernst & Young LLP as the Company's auditors to serve at the discretion of the Board of Directors. The directors nominated and duly elected are Russell W. Kupiec, W. Russell Asher, Lynn F. Brown, Elizabeth Varley Camp, Todd Goodwin, Edward R. Heiser, Leo A. McCafferty, Jr. and Lewis W. van Amerongen. The stockholders approved all actions presented to them at the annual meeting.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS
Wells' common stock is not registered under the Securities Act of 1933, as amended, and is not traded on any organized securities market. In December 1998, the Board of Directors of the Company declared a cash dividend of $2.64 per share, or $1.9 million, to the holders of its common stock, which was paid in January 1999.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth summary financial data with respect to Wells for the periods ended and as of the dates indicated. The summary historical financial data for the five years ended December 31, 1998 are derived from the audited financial statements of the Company. The following table should be read in conjunction with the Company's financial statements and related notes, "Management's Discussion and Analysis of Financial Condition and Results of Operations," and the other financial information included elsewhere herein. All amounts are in thousands.
Notes to Selected Financial Data:
(a) Interest expense includes amortization of debt issuance costs of $622, $593, $495, $570 and $474 for the years ended December 31, 1998, 1997, 1996, 1995 and 1994, respectively, and is net of interest income of $504 and $452 for the years ended December 31, 1998 and 1997.
(b) Earnings before extraordinary loss excludes an extraordinary loss of $1,292 (net of applicable income taxes of $826) on the refinancing of debt in 1997 and an extraordinary loss of $1,092 (net of applicable income taxes of $698) on the refinancing of debt in 1994.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Wells Aluminum Corporation is a custom extruder, finisher and fabricator of soft alloy aluminum products, serving principally the building/construction, transportation, consumer durable and equipment/electrical markets. The Company operates a network of seven facilities with 12 extrusion presses, located in six states in midwestern and southeastern United States, and also has its own casting facility for aluminum billet.
The following discussion contains forward-looking statements which involve risks and uncertainties. The Company's actual results or future events could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including, but not limited to, raw material costs and availability (primarily aluminum), labor market conditions, the Company's level of utilization of its extrusion, finishing and fabrication capacities, and the impact of capacity utilization on costs, whether and to what extent the Company's capital expenditures can facilitate reductions in variable costs, the highly competitive nature of the extrusion industry, and developments with respect to contingencies such as environmental matters and litigation.
Basis of Presentation
The following discussion of financial condition and the results of operations for the years ended 1998, 1997 and 1996 is based on the historical, audited results achieved by the Company. The following tables set forth for the periods indicated, net sales, gross profit, operating profit and net earnings, and for performance and other measurements, pounds of product shipped, gross sales price per pound, Adjusted EBITDA (as defined below) and Adjusted EBITDA per pound. The table also includes average market prices of aluminum per pound and market price of aluminum per pound at period-end. All amounts are in thousands except for per pound data.
Adjusted EBITDA is defined as earnings before interest expense, income taxes, depreciation and amortization of goodwill, and excludes LIFO charges or income, extraordinary items, charges for the capping of settling ponds, gain from the curtailment of a pension plan and compensation from settlement of employee stock options. Adjusted EBITDA should not be considered in isolation of, nor in substitute for, net income, cash flows from operations, or other income or cash flow data prepared in accordance with generally accepted accounting principles.
Aluminum Prices. For the periods indicated, approximately 60% of the Company's cost of sales - products reflect the cost of aluminum, its principal raw material. The Company seeks to manage aluminum price fluctuations, which can be volatile, principally either by passing aluminum prices through to customers by systematic market indexed pricing or by fixing the cost of aluminum by hedging against committed fixed price sales to customers. As a result, increases and decreases in aluminum prices have generally caused similar increases and decreases in selling prices, sales and costs of sales, and generally have had little impact on the Company's level of profitability for the periods described herein.
Business Activity. The Company's experience indicates that pounds of product shipped has a direct impact on profitability, since a significant portion of the Company's operating costs are fixed. The Company defines pounds of product shipped as the weight of all extrusions shipped, including those pounds transferred within the Company from which it manufactures fabricated parts, components and assemblies, but excluding the pounds of aluminum related to excess metal sales as described herein.
Financial and Other Measures. The Company believes that its ability to manage its sales spread (gross sales minus aluminum costs), control variable spending and minimize its fixed cost structure are significant determinants of profitability and resultant cash flow. The Company, therefore, monitors its sales spread per pound, variable costs per pound and fixed costs per pound, focusing on operating profit as a key performance measure. In addition, the Company monitors Adjusted EBITDA, as it is relevant for debt covenant analysis under the New Credit Agreement (as defined herein) and it can also be used as a measure of the Company's ability to service its debt.
LIFO Inventory. The Company values its aluminum inventory under the last-in, first-out (LIFO) method. During periods of rising aluminum prices, compared to historical LIFO inventory values, the Company may incur LIFO charges, which will reduce taxable income, and when aluminum prices subsequently decline, the Company may recognize LIFO income, which will increase taxable income. As a result of fluctuations in earnings levels resulting from the application of LIFO, the Company excludes LIFO charges and LIFO income from certain measures, such as Adjusted EBITDA.
Excess Metal Sales. The Company's policy is to sell excess metal (primary aluminum ingot and billet) on the open market when necessary to maintain aluminum inventory levels consistent with near-term business needs. Imbalances in inventory can arise from the ongoing and efficient operation of the Company's casting facility and from the Company's obligations to purchase fixed amounts of primary aluminum ingot and billet under long-term supply agreements. The sale of excess metal, which also reflects aluminum price fluctuations, has minimal effect on profit performance since the prices of metal bought and metal sold are closely matched. Pounds of excess metal sold are not included in the calculation of pounds of product shipped, the Company's primary indicator of business activity. In the normal course of business, the Company also sells secondary aluminum billet and aluminum scrap, which are not accounted for as excess metals sales.
Year Ended December 31, 1998 Compared to Year Ended December 31, 1997
The Company's net sales decreased to $251.2 million in 1998 from $ 267.3 million in 1997, a decrease of $16.1 million or 6.0%. Net sales - products increased to $247.7 million in 1998 from $235.5 million in 1997,
an increase of $12.2 million or 5.2%. Gross sales of value added products increased $7.4 million, or 5.5%, to $142.2 in 1998 from $134.8 million in 1997. Gross sales of mill finished extrusions increased $7.0 million, or 6.4%, to $117.0 million in 1998 from $110.0 million in 1997. The gross sales price per pound declined by 1.3%, reflecting a higher percentage of mill finished sales as compared to value added sales, the effect of a decrease of $0.103 in the average market price per pound of aluminum, and a changing customer and product mix in value added sales, offset by an improved customer and product mix in mill finished sales.
Pounds of product shipped increased 11.4 million pounds, or 7.4%, to 166.3 million in 1998 from 154.9 million pounds of product shipped in 1997. Shipments to commercial construction increased 2.2 million pounds, with increased shipments for several large architectural projects offsetting decreased shipments to the commercial door and window market. In residential construction, shipments increased 1.2 million pounds, reflecting increased shipments to suppliers to the mobile and manufactured home market counteracting decreased shipments to suppliers to the residential door and window market. Shipments to transportation increased 4.0 million pounds, with increased shipments to manufacturers of truck trailers, golf carts and utility vehicles and manufacturers of specialty automobile and truck accessories, offsetting declines in delivery van accounts. In consumer durables, shipments increased 2.1 million pounds, reflecting increased shipments to manufacturers of pleasure boats and office furniture. Shipments to equipment/electrical decreased 1.0 million pounds, primarily due to decreased shipments to one specialty industrial account that was adversely impacted by a General Motors strike in 1998. The increase of 2.9 million pounds of shipments to distributors/other resulted mainly from increased shipments to distributors of specialty products serving the southeastern and midwestern markets and increased shipments to distributors in Puerto Rico serving the Caribbean basin.
Cost of sales decreased to $209.4 million in 1998 from $225.7 million in 1997, a decrease of $16.3 million or 7.2%. Cost of sales - products increased to $208.6 million in 1998 from $192.2 million in 1997, an increase of $16.4 million or 8.5%. This increase resulted from a $8.8 million increase in operating costs and a $7.6 million increase in aluminum costs. Variable costs per pound increased to $0.442 in 1998 from $0.423 in 1997, a change of $0.019 per pound. This increase was primarily due to additional costs associated with a major upgrade of an extrusion press, the effect of a 4 1/2 week work stoppage at one plant location, additional overtime costs incurred in response to the increase in sales volume and the effect of initial lower productivity related to the use of temporary help and the hiring of new personnel.
Gross profit increased to $41.8 million in 1998 from $41.7 million in 1997, an increase of $0.1 million or 0.2%.
Selling, general and administrative expenses decreased to $16.1 million in 1998 from $21.5 million in 1997, a decrease of $5.4 million or 25.1%. This decrease is primarily attributable to a decrease in compensation expense of $5.4 million, of which $4.1 million related to the settlement of employee stock options as part of the Recapitalization (as defined herein) and $1.3 million related to reduced incentive compensation. A gain of $1.6 million from the curtailment of the Retirement Plan for Salaried Employees offsets an increase in costs of $1.6 million for environmental remediation.
Operating profit increased to $25.7 million in 1998 from $20.2 million in 1997, an increase of $5.5 million or 27.2%.
Interest expense, net of interest income, increased to $10.8 million in 1998 from $8.4 million in 1997, an increase of $2.4 million or 28.6%. This increase was mainly attributable to the increase in debt outstanding and higher effective interest rates as a result of the Recapitalization, offset in part by an increase in interest income. Income tax expense increased to $6.2 million in 1998 from $5.1 million in 1997, an increase of $1.1 million, or 21.6%. The effective tax rates for the years ended December 31, 1998 and 1997 were 41.3% and 43.1%, respectively, which differed from the federal statutory rate of 35% due to the goodwill amortization and state income taxes.
In 1997, the Company incurred an extraordinary loss of $1.3 million (net of applicable income taxes of $0.8 million) on the refinancing of debt related to the Recapitalization.
As a result of the above factors, net earnings increased to $8.8 million in 1998 from $5.4 million in 1997, an increase of $3.4 million or 63.0%.
Adjusted EBITDA, as previously defined herein, decreased to $26.8 million in 1998 from $30.0 million in 1997, a decrease of $3.2 million or 10.7%. The decline in Adjusted EBITDA consisted of a decrease in sales spread of $2.4 million and an increase in operating costs of $4.5 million, offset by $3.7 million from increased sales volume. The decrease in sales spread was affected by a continuing decrease in aluminum prices in 1998 since market indexed prices charged to customers declined more rapidly than the costs charged from aluminum inventory. Adjusted EBITDA per pound decreased $0.032 to $0.161 in 1998, reflecting both lower Adjusted EBITDA and increased pounds of product shipped.
Year Ended December 31, 1997 Compared to Year Ended December 31, 1996
The Company's net sales increased to $267.3 million in 1997 from $ 228.2 million in 1996, an increase of $39.1 million or 17.1%. Net sales - products increased to $235.5 million in 1997 from $208.6 million in 1996, an increase of $26.9 million or 12.9%. Gross sales of value added products increased $8.1 million, or 6.4%, to $134.8 in 1997 from $126.7 million in 1996. Gross sales of mill finished extrusions increased $18.9 million, or 20.7%, to $110.0 million in 1997 from $91.1 million in 1996. The gross sales price per pound increased by 0.4%, reflecting an increase of $0.051 in the average market price per pound of aluminum and an improved customer and product mix in value added sales, offset by the effect of a higher sales mix of mill finished extrusions.
Pounds of product shipped increased 16.5 million pounds, or 11.9%, to 154.9 million in 1997 from 138.4 million pounds of product shipped in 1996. Shipments to commercial construction decreased 1.3 million pounds, resulting mainly from the loss of a curtain wall/store front account, the completion of a contract involving a bridge renovation project, and the loss of a commercial door account. In residential construction, shipments increased 2.3 million pounds as a result of increased shipments to door and window manufacturers and to suppliers to the mobile and manufactured home market despite a decision to shift capacity to the more profitable distributor market. Shipments to transportation increased 7.8 million pounds, due to increased shipments to major truck, utility vehicle and trailer manufacturers. In consumer durables, shipments decreased 1.0 million pounds, resulting mainly from decreased shipments to manufacturers of pleasure boats and other consumer durable products, offset in part by increased shipments to office furniture manufacturers. Shipments to equipment/electrical increased 2.0 million pounds due to the continuing strong performance of several niche accounts, particularly manufacturers of electrical products. The increase of 6.7 million pounds of shipments to distributors/other resulted mainly from continuing sales efforts to increase custom extrusion business with select distributors, including a Puerto Rico based distributor who is expanding throughout the Caribbean basin.
Cost of sales increased to $225.7 million in 1997 from $191.2 million in 1996, an increase of $34.5 million or 18.0%. Cost of sales - products increased to $192.2 million in 1997 from $174.0 million in 1996, an increase of $18.2 million or 10.5%. This increase resulted from a $4.5 million increase in operating costs and a $13.7 million increase in aluminum costs. Variable costs per pound, however, decreased to $0.423 in 1997 from $0.444 in 1996, an improvement of $0.021 per pound. This improved performance was due to effective utilization of capacity, continuing extrusion press and casting efficiencies, and effective control of variable spending.
Gross profit increased to $41.7 million in 1997 from $37.0 million in 1996, an increase of $4.7 million or 12.7%.
Selling, general and administrative expenses increased to $21.5 million in 1997 from $15.9 million in 1996, an increase of $5.6 million or 35.2%. This increase is primarily attributable to an increase of $4.1 million in compensation related to the settlement of employee stock options as part of the Recapitalization (as defined herein)
and an increase of $0.8 million in incentive compensation. Other selling, marketing, general and administrative costs increased $0.7 million, reflecting the increased level of business activity and the development of sales and marketing programs.
Operating profit decreased to $20.2 million in 1997 from $21.1 million in 1996, a decrease of $0.9 million or 4.3%.
Interest expense, net of interest income, increased to $8.4 million in 1997 from $5.2 million in 1996, an increase of $3.2 million or 61.5%. This increase was mainly attributable to the increase in debt outstanding and higher effective interest rates as a result of the Recapitalization, offset in part by an increase in interest income. Income tax expense decreased to $5.1 million in 1997 from $7.1 million in 1996, a decrease of $2.0 million or 28.2%. The effective tax rates for the years ended December 31, 1997 and 1996 were 43% and 44%, respectively, which differed from the federal statutory rate of 35% due to the goodwill amortization and state income taxes.
In 1997, the Company incurred an extraordinary loss of $1.3 million (net of applicable income taxes of $0.8 million) on the refinancing of debt related to the Recapitalization.
As a result of the above factors, net earnings decreased to $5.4 million in 1997 from $8.8 million in 1996, a decrease of $3.4 million or 38.6%.
Adjusted EBITDA, as previously defined herein, increased to $30.0 million in 1997 from $22.3 million in 1996, an increase of $7.7 million or 34.5%. The improvement in Adjusted EBITDA consisted of $7.0 million from increased sales volume, $0.5 million from a net reduction in operating costs (as previously discussed) and $0.5 million of income from excess metal sales, offset by a decrease in sales spread of $0.3 million. Adjusted EBITDA per pound, in turn, increased $0.032 to $0.193 in 1997 since the increase in Adjusted EBITDA was substantially greater than the increase in pounds shipped.
Liquidity and Capital Resources
The Company has historically obtained funds from its operations, augmented by borrowings under various credit agreements. Aluminum price changes increase or decrease working capital requirements since the dollar value of accounts receivable, inventories and accounts payable reflect these changes. Working capital requirements are generally higher during periods of higher aluminum prices.
As of December 31, 1998, the Company had $105 million of New Notes (as defined herein) outstanding and no borrowings under the New Credit Facility (as defined herein). The significant indebtedness incurred by the Company as a result of the Recapitalization has several important consequences, the foremost being that interest expense is substantially higher than prior to the Recapitalization. The ability of the Company to satisfy its obligations pursuant to such indebtedness, including pursuant to the New Notes and the Indenture (under which the New Notes were issued), will be dependent upon the Company's future performance, which, in turn, will be subject to management, financial and other business factors affecting the business and operations of the Company, some of which are not in the Company's control. The Company's liquidity may also be impacted by environmental and other regulatory matters.
The Company currently believes that cash flow from operating activities, together with borrowings available under the New Credit Facility, will be sufficient to fund currently anticipated working capital needs and capital expenditure requirements for at least several years. However, there can be no assurance that this will be the case.
Cash Flows from Operating Activities
Cash provided by operations in 1998, 1997 and 1996 was $8.7 million, $5.3 million and $14.1 million, respectively. In 1998, cash flow increased primarily because of improved net earnings and continued emphasis on
working capital management, particularly accounts receivable and inventories. In addition, cash flow increased as a result of decreases in accounts receivable and inventories from decreased aluminum prices despite the increased level of business activity. In 1997, cash flow decreased primarily as a result of reduced net earnings, reflecting the non-recurring compensation charge and increased interest costs. In addition, cash flow decreased as a result of increases in accounts receivable and inventories resulting from increased levels of business activity and increased aluminum prices. In 1996, cash flow increased reflecting a modest improvement in profit performance and continued emphasis on working capital management.
Total working capital (excluding current portion of long-term debt) at December 31, 1998, 1997 and 1996 was $32.3 million, $30.0 million and $18.2 million, respectively. In 1998, cash and cash equivalents increased $2.3 million to $7.6 million. Decreases in current assets of $1.1 million were offset by larger decreases in current liabilities, particularly accounts payable relating to metal purchases. In 1997, cash and cash equivalents increased $5.1 million to $5.4 million due in part to the terms and conditions of the Notes (as defined herein) outstanding (see Cash Flows from Financing Activities). Increases in other working capital accounts reflected the impact of increased business activity, the effect of rising aluminum prices, and the change in timing of interest payments. In 1996, lower aluminum prices and inventory levels resulted in slightly lower working capital requirement than 1995.
Cash Flows from Investing Activities
Expenditures for property, plant and equipment in 1998, 1997 and 1996 were $3.3 million, $3.0 million and $2.6 million, respectively. During the last three years, the Company has successfully increased its casting capacity by 15% and capacities on two extrusion presses by an average of 11% without the acquisition of expensive new equipment. The Company also made investments in CNC mills, benders, saws and presses to increase its fabrication capabilities. The Company anticipates that expenditures for property, plant and equipment will approach $4.0 million in 1999 and will average $3.5 million per annum for the years 2000 through 2003. The Company plans to update and modernize two extrusion presses per year, including the installation of advanced isothermal extrusion control equipment, where cost justified. The Company expects to increase extrusion capacity by 10% per press and reduce scrap generated in the process by 1.5%. Approximately $1.0 million of the annual expenditure for the years 1999-2003 is expected to be used for maintenance capital with the remainder invested in productivity improvements and capacity enhancements.
Cash Flows from Financing Activities
Cash used in financing activities was $3.1 million in 1998 as compared to cash provided by financing activities of $2.8 million in 1997 and cash used in financing activities of $11.6 million in 1996. Cash used in financing activities in 1998 included the repurchase of common stock (as described herein). Cash used in financing activities in 1996 reduced borrowings under the Old Credit Facility (as defined herein).
On May 28, 1997, the Company issued and sold $105.0 million principal amount of 10.125% Series A Senior Notes (the "Notes") due 2005. The Company is required to make semi-annual payments of interest on the Notes on June 1 and December 1 of each year. As of May 28, 1997, the Company used a portion of the proceeds from the issuance of the Notes to repay an existing credit facility (the "Old Credit Facility") of $21.2 million outstanding (including accrued interest and agency fees) and to retire its $16.3 million (including accrued interest and a prepayment penalty for the early retirement of debt) of 14.125% Senior Subordinated Notes due 2001 (the "Subordinated Notes"). Upon the issuance of the Notes, the Company entered into a new credit facility (the "New Credit Facility"), which provides a $15.0 million secured line of revolving credit maturing on the last business day of June 2002. Under the New Credit Facility, the Company is required to make payments of interest on a monthly or quarterly basis. As of December 31, 1998 and 1997, there were no loans outstanding under the New Credit Facility.
The offering of the Notes, the repayment of the Old Credit Facility, the retirement of the Subordinated Notes, and the entering into of a New Credit Facility were part of an overall recapitalization of the Company (the
"Recapitalization"). As part of the Recapitalization, the Company used a substantial portion of the proceeds received from the issuance and sale of the Notes to pay a special cash dividend to holders of its common stock, settle existing employee stock options, and repurchase, or offer to repurchase, shares of common stock held by certain stockholders.
In 1997, the Company paid a special cash dividend of $62.00 per share, or $56.0 million, to holders of common stock, paid an aggregate of $37.5 million for the repayment and retirement of debt, and paid $1.2 million for the repurchase and retirement of 152,100 shares of Class A Common Stock from certain shareholders. The Company also incurred $4.1 million of compensation expense and issued 158,042.5 shares of Class A Common Stock related to the settlement of employee stock options. The compensation expense represents the difference between fair market value and the exercise price on the settlement of 57,000 employee stock options and $0.9 million of bonuses paid to satisfy a portion of income taxes incurred by option holders as a result of receiving shares of common stock.
On November 7, 1997, the Company consummated an exchange of 100% of the Notes for $105.0 aggregate principal amount of 10.125% Series B Senior Notes (the "New Notes") due 2005, which are registered under the Securities Act of 1933, as amended.
In October 1998, the Company entered into a Stock Purchase Agreement to repurchase all of the shares of Class A common stock of the Company owned by CVG Industria Venezolana de Aluminio, C.A. ("Venalum") for an aggregate purchase price of $3.1 million. On November 13, 1998, the repurchase was completed, and as of that date, Venalum no longer owned any shares of common stock of the Company.
Declaration of Cash Dividend
On December 9, 1998, the Board of Directors of the Company declared a cash dividend of $2.64 per share of Class A common stock, or $1.9 million, to the holders of its Class A common stock, which was paid on January 12, 1999.
Futures Contracts and Forward Sales Contracts
In the normal course of business, the Company enters into forward sales contracts with certain customers for the sale of fixed quantities of finished products at scheduled intervals. The aluminum cost component of the forward sales contract is fixed for the duration of the contract, based on forward market prices at the inception of the contract. In order to hedge its exposure to aluminum price volatility under these forward sales contracts, the Company enters into aluminum futures contracts (a financial hedge) based on scheduled deliveries.
At December 31, 1998, the Company was party to $18.8 million of aluminum futures contracts through nationally recognized brokerage firms and major metal brokers. These aluminum futures contracts are for periods between January 1999 and December 1999, covering 30.9 million pounds of aluminum at prices expected to be settled financially in cash as they reach their respective settlement dates. The market value of these aluminum futures contracts at December 31, 1998 was $17.5 million. The Company does not engage in any speculative trading of aluminum futures contracts.
LIFO Adjustment and Inflation
The largest component of the Company's cost of sales is aluminum, its principal raw material. Aluminum costs can be volatile, and reported results may vary due to LIFO adjustments, as previously discussed. With the exception of LIFO adjustments, the Company does not believe that inflation has had a significant impact on its results of operations for the years ended December 31, 1998, 1997 and 1996.
Seasonality
The Company generally does not experience significant seasonality in its business. However, working capital requirements are often higher and operating results are often lower during the fourth quarter principally due to reduced shipments of product and increased inventory due to the decrease in sales during the holiday season and increased accounts receivable due to customers delaying payment until after the year-end.
Year 2000 Systems Compliance
The Company has undertaken a number of initiatives to ensure that its computer systems, microprocessors, electronic data interchange ("EDI") systems, and other computer based applications are compliant with the Year 2000 requirements. The Year 2000 issue stems from the fact that many computer programs were written with two, rather than four, digits to identify the applicable year. As a result, computer programs with time-sensitive software may recognize a two-digit code for any year in the next century as related to this century. For example, "00" entered into a date-field for the year 2000 may be interpreted as the year 1900, resulting in system failures or miscalculations and disruptions of operations, including, among other things, a temporary inability to process transactions or engage in other normal business activities.
The Company has completed an evaluation of its centralized main computer system and related software and manufacturing equipment and facilities and has determined that this system and the software and the manufacturing equipment and facilities are compliant with the Year 2000 requirements. The Company is in the process of evaluating its other computer systems, microprocessors, EDI systems and other computer based applications for Year 2000 compliance. The Company expects to complete any required Year 2000 remediation prior to any anticipated impact on its operations. The Company believes that with modifications to existing software and conversions to new systems, where required, the Year 2000 issue will not pose significant operational problems for its computer systems, manufacturing equipment or facilities. However, if such modifications or conversions are not made, or are not completed timely, the Year 2000 issue could have a material impact on the operations of the Company.
The Company is contacting vendors and customers to determine the extent to which the Company's interface systems are vulnerable to the failure of such companies to remediate their own Year 2000 issues. There is no guarantee that the systems of the Company's vendors and customers on which the Company's systems rely will be modified or converted on a timely basis by such companies and that such Year 2000 issues would not have an adverse effect on the Company's systems.
The Company is currently inquiring of its significant suppliers and subcontractors that do not share information systems with the Company ("external agents"). To date, the Company is not aware of any external agent with a Year 2000 issue that would materially impact the Company's results of operations, liquidity, or capital resources. However, the Company has no means of ensuring that external agents will be Year 2000 compliant. The inability of external agents to complete their Year 2000 resolution process in a timely fashion could materially impact the Company. The effect of non-compliance by external agents is not determinable.
Management of the Company believes that it has an effective program in place to resolve the Year 2000 issue in a timely manner. As noted above, the Company has not yet completed all necessary phases of the Year 2000 program. The Company does not believe the remaining phases would significantly impact the Company's ability to take customer orders, manufacture and ship products, invoice customers or collect payments. However, disruptions in the economy generally resulting from Year 2000 issues could materially adversely affect the Company. The Company could be subject to litigation for computer systems product failure, for example, equipment shutdown or failure to properly date business records. The amount of potential liability and lost revenue cannot be reasonably estimated at this time.
Except as described above, the Company has not developed a contingency plan for the reasonably likely worst case scenario concerning the Year 2000 issue. If a Year 2000 problem were to occur that the Company could not
successfully resolve, it could have a material adverse effect on the results of operations and financial condition of the Company.
Termination of Retirement Plan for Salaried Employees
In 1998, as disclosed herein, the Company recorded a gain of $1.6 million related to the curtailment of the Retirement Plan for Salaried Employees. In 1999, the Company expects to record expense of approximately $1.1 million associated with settling the Retirement Plan for Salaried Employees.
Commitments and Contingencies
At December 31, 1998, the Company has commitments with eleven North American suppliers to purchase 101.4 million pounds of primary aluminum and aluminum billet from January 1999 through December 1999 at current market prices at the specified delivery dates. Management expects that such quantities of aluminum will be utilized in the normal course of operations during the terms of these agreements.
In the normal course of business, the Company has received notice of claims asserting potential liability under various federal and state environmental laws. The Company accrues for losses associated with environmental remediation obligations when such losses are probable and reasonably estimable. Based upon information that is currently available, management does not expect that the resolution of environmental claims will have a material adverse effect on the Company. However, given the inherent uncertainties in evaluating environmental exposure, it is not possible to predict the amount of future costs of environmental claims which may be subsequently determined. The Company has not anticipated any insurance proceeds or third-party payments in determining its estimated liability for environmental remediation.
The Company is also a party to a number of other lawsuits and claims arising out of the conduct of its business. Although the ultimate results of lawsuits and other proceedings against the Company cannot be predicted with certainty, management does not expect that these matters will have a material adverse effect on the Company and its operations.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
See "Item 1. Business - Pricing and Hedging Programs" and "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations - Future Contracts and Forward Sales Contracts."
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Report of Independent Auditors
The Board of Directors Wells Aluminum Corporation
We have audited the balance sheets of Wells Aluminum Corporation (the "Company") as of December 31, 1998 and 1997, and the related statements of operations, stockholders' equity and cash flows for each of the three years in the period ended December 31, 1998. Our audits also included the financial statement schedule in the Index at Item 14(a). These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Wells Aluminum Corporation as of December 31, 1998 and 1997, and the results of operations and its cash flows for each of the three years ended December 31, 1998, in conformity with generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein.
/s/ Ernst & Young LLP
March 19, 1999 Baltimore, Maryland
WELLS ALUMINUM CORPORATION
BALANCE SHEETS
(Dollars in Thousands)
See accompanying notes.
WELLS ALUMINUM CORPORATION
STATEMENTS OF OPERATIONS
(Dollars in Thousands)
See accompanying notes.
WELLS ALUMINUM CORPORATION
STATEMENTS OF STOCKHOLDERS' EQUITY
(Dollars in Thousands)
See accompanying notes.
WELLS ALUMINUM CORPORATION
STATEMENTS OF CASH FLOWS
(Dollars in Thousands)
See accompanying notes.
WELLS ALUMINUM CORPORATION
NOTES TO FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies
Wells Aluminum Corporation (the "Company") is a domestic manufacturer of aluminum extruded and fabricated products for several diverse industries including building/construction, transportation, durable goods and equipment/electrical. Gibbons, Goodwin, van Amerongen ("GGvA") is the sole general partner of Wells Holdings Limited Partnership, which currently owns 76.7% of the outstanding shares of the Company's common stock.
Reclassification
Certain amounts previously reported have been reclassified to conform with the 1998 presentation.
Use of Estimates
The preparation of financial statements in conformity with generally accepted accounting principles requires that management make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results inevitably will differ from those estimates, and such differences may be material to the financial statements.
Cash and Cash Equivalents
Cash and cash equivalents include cash on hand and short-term investments with original maturities of three months or less.
Inventories
The aluminum component of inventories, representing 67% and 68% of total inventories at December 31, 1998 and 1997, respectively, is stated at the lower of cost or market, using the last-in, first-out method (LIFO). The labor, overhead and supplies components of inventories are carried at the lower of cost or market using the first-in, first-out method (FIFO). The outside purchased parts component of inventories are carried at the lower of cost or market using the weighted average cost method.
Property, Plant and Equipment
Property, plant and equipment is stated at cost. Maintenance and repairs are charged to operations when incurred, while expenditures having the effect of extending the useful life of an asset are capitalized. Depreciation is computed using the straight-line method over the estimated useful lives of the assets. Depreciation expense for the years ended December 31, 1998, 1997 and 1996 was $2,321,000, $2,489,000 and $2,351,000, respectively.
Debt Issuance Costs
Costs incurred to obtain financing are capitalized and amortized using the straight-line method over the term of the related financing. Amortization of debt issuance costs is included in the Statements of Operations as an item of interest expense, net of interest income.
WELLS ALUMINUM CORPORATION
NOTES TO FINANCIAL STATEMENTS (Continued)
1. Summary of Significant Accounting Policies (Continued)
Goodwill
The excess of the purchase price of the Company over the fair value of the net assets acquired was recorded as goodwill. Amortization is recorded on the straight-line method over forty years. On a periodic basis, the Company estimates its future undiscounted cash flows of the business to which goodwill relates in order to ensure that the carrying value of such goodwill has not been impaired.
Credit Risk
The Company is potentially subject to concentrations of credit risk with accounts receivable and futures contracts. Although the Company has a diverse customer base, 31% and 34% of the accounts receivable balance was due in aggregate from five customers as of December 31, 1998 and 1997, respectively. The Company performs ongoing credit evaluations of customers and does not require collateral for accounts receivable. The Company evaluates the creditworthiness of the counterparties to the futures contracts and considers nonperformance risk to be remote.
Pension Plans and Other Postretirement Benefits
The Company is in the process of terminating its defined benefit pension plan for salaried employees, with benefits under the plan curtailed effective September 30, 1998. The Company plans to implement a defined contribution plan for salaried employees, with benefits retroactive to January 1, 1999.
The Company sponsors several defined benefit pension plans covering substantially all employees. The Company uses the "projected unit credit" actuarial method for financial reporting purposes and the "entry age normal" actuarial method for funding purposes.
The Company has historically provided postretirement medical insurance and life insurance benefits (primarily for salaried employees). The Company accounts for postretirement benefits by accruing such benefits during the employees' years of service.
Forward Sales Contracts and Futures Contracts
In the normal course of business, the Company enters into forward sales contracts with certain customers for the sale of fixed quantities of extruded aluminum at scheduled intervals whereby the cost of the aluminum component of the contract is fixed for the duration of the contract, based on market price at the inception of the contract. In order to hedge its exposure to aluminum price volatility under these forward sales contracts, the Company enters into aluminum futures contracts to purchase aluminum, based on scheduled deliveries under the forward sales contracts. Gains and losses on futures contracts designated and effective as hedges of aluminum price exposure are recorded as adjustments to the cost of inventory. If it becomes probable that the anticipated transaction will not occur as expected, the deferred gain or loss on the hedging transaction applicable to the portion of the transaction that will not occur will be recognized in income currently.
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, which is required to be adopted for years beginning after June 15, 1999. Early
NOTES TO FINANCIAL STATEMENTS (Continued)
1. Summary of Significant Accounting Policies (Continued)
Forward Sales Contracts and Futures Contracts (Continued)
adoption of SFAS No. 133 is permitted as of the beginning of any fiscal quarter after its issuance. SFAS No. 133 will require the Company to recognize all derivatives on the balance sheet at fair value. Derivatives that do not qualify as hedges under the new standard must be adjusted to fair value through income. If a derivative qualifies as a hedge, depending on the nature of the hedge, changes in fair value of derivatives will either be offset against the change in fair value of the hedged assets, liabilities, or firm commitments through earnings or recognized in other comprehensive income until the hedged item is recognized in earnings. The ineffective portion of a derivative's change in value will be immediately recognized in earnings.
The Company has not yet determined when it will adopt SFAS No. 133, although early adoption is considered possible. The Company has not yet determined what effect SFAS No. 133 will have on its earnings and financial position.
Related Party Transactions
During the years ended December 31, 1998, 1997 and 1996, the Company purchased aluminum from CVG Industria Venezolana de Aluminio C.A. ("Venalum"), previously an owner of 180,362.5 shares of Class A common stock, with total amounts purchased of $5,371,000, $69,606,000 and $69,288,000, respectively. Amounts payable to Venalum at December 31, 1997 were $6,344,000.
In 1987, the Company entered into an agreement with GGvA, pursuant to which GGvA provides financial advisory and other services to the Company. For such services, GGvA was paid an annual retainer of $250,000 in 1996 and 1997, and $350,000 in 1998, plus reimbursement for its out-of-pocket expenses. In addition, GGvA received a fee of $500,000 for financial advisory and other services in connection with the Recapitalization (as herein defined) in 1997.
Stock-Based Compensation
As described in Note 12, the Company has elected to follow the provisions of Accounting Principles Board Opinion ("APB") No. 25, Accounting for Stock Issued to Employees, for stock based compensation. Pro forma disclosures required under Statement of Financial Accounting Standards ("SFAS") No. 123, Accounting for Stock-Based Compensation, are not included herein since the information is not materially different from the amounts reported.
Business Segments
In 1997, the Financial Accounting Standards Board issued SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information, which is required to be adopted effective December 31, 1998, and requires, among other things, that the Company provide financial and descriptive information about its operating segments. Under SFAS No. 131, operating segments are components of an enterprise about which separate financial information is available that is regularly evaluated by the enterprise's chief operating decision maker deciding how to allocate resources and in assessing performance. The Company has evaluated the adoption of the new standard and has concluded that it has only one reportable operating segment.
WELLS ALUMINUM CORPORATION
NOTES TO FINANCIAL STATEMENTS (Continued)
Business Segments (Continued)
In 1998 and 1997, one customer, Navistar International Corporation, accounted for 10.4% and 9.6%, respectively, of the Company's gross sales measured in dollars.
2. Inventories
A summary of inventories at December 31 follows (dollars in thousands):
3. Property, Plant and Equipment
A summary of property, plant and equipment at December 31 follows (dollars in thousands):
4. Recapitalization
On May 5, 1997, 125,000 shares of Class B common stock were converted to 125,000 shares of Class A common stock, increasing the total shares of Class A common stock outstanding to 903,062.5.
In May 1997, the Company issued and sold $105,000,000 principal amount of 10.125% Series A Senior Notes ("Series A Notes") due 2005. In connection with the consummation of the issuance and sale of the Notes, the Company repaid existing indebtedness and entered into a new bank credit facility (see Note 8 herein) providing a secured working capital line of $15,000,000, which matures in 2002.
The offering of the Series A Notes, the repayment of $20,992,000 of indebtedness under an old bank credit facility, the retirement of $15,000,000 of 14.125% Senior Subordinated Notes ("Subordinated Notes") due 2001, and the entering into of a new bank credit facility were part of an overall recapitalization of the Company ("Recapitalization"). As part of the Recapitalization, the Company used a substantial portion of the proceeds received from the issuance and sale of the Series A Notes to pay a special cash dividend to holders of its common
WELLS ALUMINUM CORPORATION
NOTES TO FINANCIAL STATEMENTS (Continued)
4. Recapitalization (Continued)
stock, settle existing employee stock options, and repurchase, or offer to repurchase, shares of common stock held by certain stockholders.
In 1997, the Company paid a special cash dividend of $62.00 per share, or $55,990,000, to the holders of common stock, paid an aggregate of $37,467,000 related to the repayment or retirement of debt, and paid $1,217,000 for the repurchase and retirement of 152,100 shares of Class A common stock from certain shareholders. The Company also incurred $4,070,000 of compensation expense and issued 158,042.5 shares of Class A common stock related to the settlement of employee stock options. The compensation expense represents the difference between fair market value and the exercise price on the settlement of 57,000 employee stock options and $900,000 of bonuses paid to satisfy a portion of income taxes incurred by option holders as a result of receiving shares of common stock.
In November 1997, the Company consummated an exchange of 100% of the Series A Notes for $105,000,000 aggregate principal amount of 10.125% Series B Senior Notes due 2005, which are registered under the Securities Act of 1993, as amended.
At December 31, 1997, there were 909,005.0 shares of Class A common stock outstanding.
5. Repurchase of Common Stock
In October 1998, the Company entered into a Stock Purchase Agreement to repurchase all of the shares of Class A common stock of the Company owned by Venalum for an aggregate purchase price of $3.1 million. On November 13, 1998, the repurchase was completed, and as of that date, Venalum no longer owned any shares of common stock of the Company.
At December 31, 1998, there were 728,642.5 shares of Class A common stock outstanding.
6. Declaration of Cash Dividend
On December 9, 1998, the Board of Directors of the Company declared a cash dividend of $2.64 per share of Class A common stock, or $1.9 million, to the holders of its common stock, which was paid on January 12, 1999.
7. Accrued Expenses
A summary of accrued expenses at December 31 follows (dollars in thousands):
WELLS ALUMINUM CORPORATION
NOTES TO FINANCIAL STATEMENTS (Continued)
8. Long-Term Debt
A summary of long-term debt at December 31 follows (dollars in thousands):
Aggregate maturities of long-term debt for each of the five years succeeding December 31, 1998 are $0.
Credit Agreement
In December 1994, the Company entered into a $62,000,000 credit agreement ("1994 Credit Agreement") with Banque Indosuez (now known as Credit Agricole Indosuez), New York Branch ("Agent"). In May 1997, the Company entered into a $15,000,000 credit agreement ("1997 Credit Agreement") with Credit Agricole Indosuez by amending and restating the 1994 Credit Agreement.
The 1994 Credit Agreement with the Agent consisted of 1) a $22,000,000 working capital line of credit ("1994 Revolving Loan Facility"), which would mature on December 31, 2000, 2) a $33,000,000 term loan ("Term A Loan"), which would mature on December 31, 2000, and 3) a $7,000,000 term loan ("Term B Loan"), which would mature on March 31, 2001. The proceeds under the 1994 Credit Agreement were used to refinance existing debt.
Outstanding balances of the 1994 Revolving Loan Facility were subject to interest, at the Company's option , at either 1.5% over the Agent's prime lending rate or 2.75% over LIBOR. On or after January 1, 1996, either rate was subject to a reduction of 0.25% or 0.50% if the Company met certain financial criteria stated in the 1994 Credit Agreement. The Company met these financial criteria and as such the interest rates were reduced by 0.25%. In addition, the Company paid a commitment fee of 0.50% per annum on the average daily unused amounts. The 1994 Revolving Loan Facility included available letters of credit of $5,000,000 which were not used by the Company. In May 1997, outstanding balances of the 1994 Revolving Loan Facility were paid in full as part of the Recapitalization. As a consequence of paying off the 1994 Revolving Loan Facility, the Company recorded an extraordinary loss of $370,000, consisting of $606,000 of unamortized costs, net of an income tax benefit of $236,000.
The Term A Loan required quarterly principal payments of $1,375,000, through December 31, 2000 and was subject to interest, at the Company's option, at either 1.5% over the Agent's prime lending rate or 2.75% over LIBOR. On or after January 1, 1996, either rate was subject to a reduction of 0.25% or 0.50% if the Company met certain financial criteria stated in the 1994 Credit Agreement. The Company met these financial criteria and as such the interest rates were reduced by 0.25%. In May 1997, the remaining balance due under the Term A Loan was paid in full as part of the Recapitalization. As a consequence of retiring the Term A Loan, the Company recorded an extraordinary loss of $555,000, consisting of $910,000 of unamortized costs, net of an income tax benefit of $355,000.
WELLS ALUMINUM CORPORATION
NOTES TO FINANCIAL STATEMENTS (Continued)
8. Long-Term Debt (Continued)
The Term B Loan, payable in full on March 31, 2001, was subject to interest, at the Company's option, at either 2.0% over the Agent's prime lending rate or 3.25% over LIBOR. On or after January 1, 1996, either rate was subject to a reduction of 0.25% or 0.50% if the Company met certain financial criteria stated in the 1994 Credit Agreement. The Company met these financial criteria and as such the interest rates were reduced by 0.25%. In May 1997, the remaining balance due under the Term B Loan was paid in full as part of the Recapitalization. As a consequence of retiring the Term B Loan, the Company recorded an extraordinary loss of $118,000, consisting of $193,000 of unamortized costs, net of an income tax benefit of $75,000.
The 1997 Credit Agreement with the Agent is comprised of a $15,000,000 secured line of revolving credit maturing on the last business day of June 2002. Outstanding balances under this agreement are subject to interest, at the Company's option, at either 1.0% over the Agent's prime lending rate or 2.25% over LIBOR. In addition, the Company pays a commitment fee of 0.35% per annum on the average daily unused amounts. The 1997 Credit Agreement includes available letters of credit of $5,000,000, which have not been used by the Company. There are no additional fees with respect to unused letters of credit.
The 1997 Credit Agreement contains numerous covenants, including: (a) a limitation on the payment of dividends or the repurchase of common stock; (b) a restriction on redemption or purchase of any indebtedness or the alteration of terms of any indebtedness; (c) a restriction on the incurrence of future indebtedness, capital expenditures, investments, liens, transactions with affiliates and disposition of assets; and (d) the maintenance of specified financial rations and minimum net worth. The Company was in compliance with these covenants at December 31, 1998.
The Company's obligations under the 1997 Credit Agreement are secured by substantially all of the Company's inventories and accounts receivable. No borrowings were outstanding under the 1997 Credit Agreement as of December 31, 1998.
Subordinated Notes
In 1987, the Company issued $15,000,000 of 14.125% Junior Subordinated Notes with a required mandatory redemption of $7,500,000 on June 15, 1998 and final maturity on July 15, 1999. In December 1994, the Company entered into an Exchange and Amendment Agreement whereby the original notes were exchanged for the Subordinated Notes. The Subordinated Notes were redeemable at the option of the Company, assuming no notes were held by original note holders, at a price of 105.375% of the principal amount redeemed, with the prepayment penalty reducing annually thereafter to 100.0%. In connection with the Recapitalization, the Company placed funds in escrow in May 1997 to be used to redeem the Subordinated Notes at 101.625% on July 15, 1997. As a consequence of retiring the Subordinated Notes, the Company recorded an extraordinary loss of $249,000, comprised of $244,000 of prepayment penalty and $165,000 of unamortized costs, net of an income tax benefit of $160,000.
During 1995, the Company entered into a 7.50% interest cap agreement which had the effect of limiting exposure to fluctuating interest rates on its variable rate debt under the 1994 Credit Agreement. The interest rate cap agreement was terminated in June 1997 in connection with the Recapitalization.
WELLS ALUMINUM CORPORATION
NOTES TO FINANCIAL STATEMENTS (Continued)
9. Interest Expense, Net of Interest Income
A summary of interest expense, net of interest income, for the years ended December 31 follows (dollars in thousands):
Cash paid for interest amounted to $10,674,000, $8,375,000 and $5,015,000 for the years ended December 31, 1998, 1997 and 1996, respectively.
10. Financial Instruments
Statement of Financial Accounting Standard No. 107, Disclosures about Fair Values of Financial Instruments, defines the fair value of a financial instrument as the amount at which the instrument could be exchanged in a current transaction between willing parties. The carrying value reported in the balance sheets for cash, accounts receivable and accounts payable approximate their fair values. The carrying value for long-term debt as of December 31, 1998 was $98,175,000 whereas the carrying value of long-term debt as of December 31, 1997 approximated its fair value.
11. Income Taxes
Significant components of deferred tax liabilities and assets at December 31 follow (dollars in thousands):
Deferred income taxes are included in the Balance Sheets in other current assets and deferred income taxes. For the years ended December 31, 1998 and 1997, there was no valuation allowance for any deferred tax assets.
WELLS ALUMINUM CORPORATION
NOTES TO FINANCIAL STATEMENTS (Continued)
11. Income Taxes (Continued)
A reconciliation of the statutory income tax to the income tax expense included in the Statements of Operations for the years ended December 31 follows (dollars in thousands):
Cash paid for federal and state income taxes amounted to $4,575,000, $4,490,000 and $6,883,000 for the years ended December 31, 1998, 1997 and 1996, respectively.
12. Leases
The Company leases various facilities and equipment under short-term rental and operating lease agreements. Rent expense under these agreements amounted to $1,760,000, $1,752,000 and $1,496,000 for the years ended December 31, 1998, 1997 and 1996, respectively. Future minimum payments under noncancellable operating leases as of December 31, 1998 are: $1,176,000 in 1999, $866,000 in 2000, $580,000 in 2001, $319,000 in 2002, $254,000 in 2003 and $573,000 thereafter.
13. Pension Plans and Other Postretirement Benefits
The Company is in the process of terminating its defined benefit pension plan for salaried employees, with the curtailment of benefits effective September 30, 1998. The Company plans to implement a defined contribution retirement plan for salaried employees, with benefits retroactive to January 1, 1999.
The following table sets forth the funded status of the defined benefit and postretirement plans, and amounts recognized in the Balance Sheet (thousands of dollars). Assets of the defined benefit pension plans consist principally of equity securities, debt securities, mutual funds and cash equivalents. Defined postretirement benefits consist of unfunded health care plans that provide certain postretirement medical and life insurance benefits for employees (primarily salaried employees) who retire under certain eligibility requirements. The postretirement benefits are contributory and include certain cost-sharing features, such as deductibles and co-payments.
WELLS ALUMINUM CORPORATION
NOTES TO FINANCIAL STATEMENTS (Continued)
13. Pension Plans and Other Postretirement Benefits (Continued)
WELLS ALUMINUM CORPORATION
NOTES TO FINANCIAL STATEMENTS (Continued)
13. Pension Plans and Other Postretirement Benefits (Continued)
The net periodic benefit cost related to the defined benefit pension plans included the following components (dollars in thousands):
The net periodic benefit cost related to the defined benefit postretirement plans included the following components (dollars in thousands):
The health care cost trend rate used to determine the postretirement benefit obligation was 7.0% for 1998, decreasing gradually to an ultimate rate of 5.0% in 2001 and remains at that level thereafter. The trend rate is a significant factor in determining the amounts reported. The effect of a one-percentage-point change in these assumed health care cost trend rates would have the following effects (dollars in thousands):
WELLS ALUMINUM CORPORATION
NOTES TO FINANCIAL STATEMENTS (Continued)
14. Stock Option Plans
In November 1993, the Board of Directors of the Company approved a stock option plan which authorized up to 60,000 shares of Class A common stock for the plan. The plan provided for the granting of options to officers, other key employees and directors at an exercise price not to exceed the fair market value on the date of the grant as determined by the Board of Directors. Under the terms of the plan, the maximum term for the options granted was ten years with the options vesting ratably over a period of four years. The options granted were exercisable at a price of $10.00 per share. All options granted under the plan were settled on May 28, 1997 as part of the Recapitalization of the Company.
The Company recognized $4,070,000 in compensation expense relating to the 57,000 options settled in 1997 and $250,000 in compensation expense relating to the 7,000 options granted in 1996.
In June 1997, the Board of Directors of the Company approved a stock option plan which authorized up to 65,000 shares of Class A common stock for the plan. The plan provides for the granting of options to officers, other key employees and directors at an exercise price not to exceed the fair market value on the date of the grant as determined by the Board of Directors. Under terms of the plan, the maximum term for the options granted is ten years with the options vesting ratably over a period of four years. In November 1998, the Stock Option Committee of the Company approved and amended the number of shares authorized from 65,000 to 75,650. The options granted have exercise prices ranging from $8.00 to $17.00 a share. All of the options granted and canceled in 1997 were at an exercise price of $8.00. In 1998, the Company granted 13,000 options to various Company employees at a weighted average exercise price of $12.29. The weighted average exercise price of options canceled in 1998 was $8.00. As of December 31, 1998, the Company had 60,450 options outstanding at a weighted average price of $8.92 with 12,425 options exercisable at a weighted average exercise price of $8.00. The weighted-average remaining contractual life of the options outstanding as of December 31, 1998 approximates 8.7 years.
WELLS ALUMINUM CORPORATION
NOTES TO FINANCIAL STATEMENTS (Continued)
15. Futures Contracts
The Company, in the normal course of business, enters into futures contracts to manage the risk of fluctuations in the price of aluminum. Fluctuations in the price of aluminum can have a significant impact upon the operations of the Company. These instruments involve elements of credit and market risk that are not reflected on the Company's balance sheet. Entering into these contracts involves not only the risk of dealing with counterparties and their ability to meet the terms of the contracts, but also of movements in market value of the futures contracts. The Company is required to place amounts on deposit with brokers based on the market value of certain contracts. These margin deposits bear interest based on the rate of certain U.S. Treasury instruments and are to be refunded as the market value changes or contracts are closed.
As of December 31, 1998 and 1997, the Company has contracts outstanding with a notional principal amount of $18,842,000 and $19,469,000, respectively, all of which the Company has used to hedge forward sales contracts. The unrealized loss related to these contracts approximates $1,280,000 at December 31, 1998.
16. Environmental Remediation
In 1998, the Environmental Protection Division of the Georgia Department of Natural Resources approved the Company's work plan for the modification of its waste water treatment facilities at its Moultrie, Georgia facility. Under the work plan, which calls for the end of direct discharge of treated waste water and connection to the City of Moultrie sewer system, three settling ponds on the Company's property would be removed from services and their remaining structural components stabilized and capped in place. In the fourth quarter of 1998, the Company recorded $1.85 million of selling, general and administrative expense related to the stabilizing and capping of the settling ponds at its Moultrie facility, which is scheduled to be completed in 2000.
17. Commitments
At December 31, 1998, the Company has commitments with eleven North American suppliers to purchase 101.4 million pounds of primary aluminum and aluminum billet from January 1999 through December 1999 at current market prices at the delivery dates. Management expects that such quantities of aluminum will be utilized in the normal course of operations during the terms of these agreements.
18. Contingencies
The Company has received notice of claims asserting potential liability under various federal and state environmental laws. The Company accrues for losses associated with environmental remediation obligations when such losses are probable and reasonably estimable. Based upon information that is currently available, management does not expect that the resolution of environmental claims will have a material adverse effect on the Company. However, given the inherent uncertainties in evaluating environmental exposure, it is not possible to predict the amount of future costs of environmental claims which may be subsequently determined. The Company has not anticipated any insurance proceeds or third-party payments in determining its estimated liability for environmental remediation.
The Company is also a party to a number of other lawsuits and claims arising out of the conduct of its business. Although the ultimate results of lawsuits or other proceedings against the Company cannot be predicted with certainty, management does not expect that these matters will have a material adverse effect on the Company or its operations.
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
WELLS ALUMINUM CORPORATION
December 31, 1998
(Dollars in Thousands)
(1) Uncollectible accounts written off, net of recoveries and adjustments.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The following table set forth certain information with respect to the individuals who are the directors and executive officers of Wells.
Each director of the Company holds office until the next annual meeting of the stockholders of the Company or until his or her successor has been elected and qualified. Officers of the Company are elected by and serve at the discretion of the Board of Directors. See "Certain Relationships and Other Transactions."
Russell W. Kupiec joined the Company in April 1991. Mr. Kupiec has been President and Chief Executive Officer since April 1996. From March 1995 to April 1996, he served as Chief Operating Officer. From November 1991 to March 1995, Mr. Kupiec served as Vice President, Manufacturing. From April 1991 to November 1991, he served as Vice President, Administration. Mr. Kupiec has been a director of the Company since 1991.
W. Russell Asher, a certified public accountant, joined the Company in January 1994 and has been Chief Financial Officer since that time. From December 1991 to January 1994, he served as Chief Financial Officer of the Federal Emergency Management Agency. Prior thereto, Mr. Asher was Vice President, Finance of MB America Inc., a packaging and printing business, and President and General Manager of AmeriForms Inc., a printing company which was a subsidiary of MB America Inc. Mr. Asher has been a director of the Company since 1994.
Lynn F. Brown joined the Company in January 1996 and has been Senior Vice President, Sales and Marketing since that time. From December 1994 to January 1996, he served as Executive Vice President, Sales and Marketing of Terra Green Technologies, a start-up business in the ceramics industry. From July 1986 to December 1994, Mr. Brown was Business Manager of International Paper's Fountainhead Products Group. Mr. Brown has been a director of the Company since June 1997.
Leo A. McCafferty joined the Company in October 1995 and has been Vice President, Operations since July 1996. From October 1995 to July 1996, he served as Vice President, Manufacturing. From May 1993 to October 1995, Mr. McCafferty was President of Solutions Et Al, a consulting company engaged in strategic planning and operations control. From 1986 to May 1993, he was President of PEMS Service and Repair, a company engaged in ground water treatment and control. Mr. McCafferty has also held vice president and
general manager positions at Black & Decker Corporation, where he was employed for twenty years. Mr. McCafferty has been a director of the Company since December 1997.
William J. Milam joined the Company in 1971. Mr. Milam has been Vice President, Sales and Product Management since 1991, and prior thereto, held various regional sales management positions.
Geoffrey A. Nelson joined the Company in October 1998 as Vice President, Human Resources. From March 1997 to October 1998, he served as Head of Labor Relations for AMP Incorporated, a producer of electrical devices and connections, and from September 1993 to March 1997, he was Vice President, Human Resources for Joyce International, an office products business. Mr. Nelson has 27 years of human resource and labor relations experience.
David J. Raymonda joined the Company in 1982. Mr. Raymonda has been Controller and Secretary of the Company since February 1989 and Treasurer since September 1993.
Elizabeth Varley Camp has been a Vice President at Goldman, Sachs & Co. since August 1997 and has served a director of the Company since July 1987. Ms. Varley Camp joined GGvA in 1986 and was a Partner of GGvA from 1992 until July 1997.
Todd Goodwin has been a Partner of GGvA since 1984 and has served as a director of the Company since July 1987. Mr. Goodwin is a director of Schult Homes Corporation, The Rival Company, Inc., Johns Manville Corporation and U. S. Energy Systems, Inc.
Edward R. Heiser retired as President and Chief Executive Officer of the Company in April 1996, a position which he had held since 1991. Mr. Heiser has been a director of the Company since 1991.
Lewis A. van Amerongen has been a Partner of GGvA since 1970 and has served as a director of the Company since July 1987. Mr. van Amerongen is also a director of Agrifos LLC and Erickson Air-Cranes Co., LLC, two privately held companies.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The following table sets forth the compensation earned, whether paid or deferred, to Wells's Chief Executive Officer and its other four most highly compensated executive officers (collectively, the "Named Officers") for services rendered in all capacities to the Company during the years ended December 31, 1998, 1997 and 1996.
OPTION GRANTS IN LAST FISCAL YEAR
There were no grants of options made to the Named Officers during fiscal year 1998.
The following table provides information on the valuation of options held by the Named Officers. Twenty-five percent of the options granted to the Named Officers in 1997 will vest and become exercisable on each of the first through the fourth anniversaries of the date of grant. Twenty five percent of the options held by the Named Officers were eligible for exercise during fiscal 1998.
(1) The value of the in-the-money options is based upon a market value of $17.00 per share at December 31, 1998. In November 1998, 180,362.5 shares of Class A common stock were repurchased at $17.00 per share.
PENSION BENEFITS - ----------------
The following table provides the estimated annual retirement benefits payable under the Company's pension plan to participating employees, including the Named Officers, in the remuneration and years of service classifications indicated. The Company is in the process of terminating its tax-qualified benefit pension plan, which covered most officers and salaried employees on a non-contributory basis. Benefits under the plan were curtailed
effective September 30, 1998. The Company plans to implement a defined contribution plan for salaried employees with benefits retroactive to January 1, 1999.
Compensation used in calculating the annual normal retirement benefit amounts reflected in the Pension Plan Table is the current annual base salary. The normal retirement age for pension plan purposes is age 65.
The respective years of service credited for pension purposes as of December 31, 1997, and the estimated years of service at age 65 for each of the Named Officers are as follows, assuming the Company was not in the process of terminating the tax-qualified defined benefit pension plan for salaried employees:
The Pension Plan Table reflects the annual benefit payable commencing on the participant's 65th birthday in the form of an annuity for the participant's life. The benefits reflected in the Pension Plan Table will be offset by 0.486% of the participant's Covered Compensation, as defined by the Internal Revenue Service, and any prior plan benefits.
EMPLOYMENT AGREEMENTS - ---------------------
Two of the Named Officers, Messrs. Russell W. Kupiec and W. Russell Asher have employment agreements with the Company. Among other things, each arrangement provides for a term of employment in a specific executive position, a specified annual base salary and participation in any additional incentive compensation or bonus programs of the Company. The employment agreements with Messrs. Kupiec and Asher continue until December 31, 1999 and annually thereafter unless otherwise terminated. If either Mr. Kupiec or Mr. Asher is terminated other than for cause or disability, the Company is obligated to continue paying the base salary amount through the end of the contract term, subject to an offset for earnings from other full-time employment, and to maintain benefits for such executive through the end of the contract term. If certain Change in Ownership (as defined in such agreements) events occur during the term of these agreements, the term of employment is automatically extended for three years from the date the executive is notified of the Change in Ownership. In the event of a Change in Ownership, the executive is given the right to terminate his agreement if he is dissatisfied with his salary or performance review to be given approximately 18 months after the Change in Ownership. If, after a Change in Ownership, the executive terminates his employment due to such dissatisfaction or is discharged
other than for cause or disability, the Company's obligation to continue paying his base salary through the end of the contract term is not subject to any offset and the Company is obligated to maintain benefits for such executive through the end of the contract term.
STOCK OPTION PLAN - -----------------
In June 1997, the Company adopted and the stockholders of the Company subsequently approved the 1997 Stock Incentive Plan (the "Plan") pursuant to which officers, directors and other key employees of the Company will be granted stock options to purchase shares of Class A common stock. The Plan is administered by either the Stock Option Committee (the "Committee") of the Board of Directors or the Board of Directors (the "Board"). The Committee or the Board will have the discretion to determine the exercise price, the duration and other terms and conditions of such options. The Committee or the Board will have the authority to interpret and construe the Plan, and any interpretation or construction of the Plan by the Committee or the Board will be final and conclusive. Twenty five percent of such outstanding options will vest and become exercisable on each of the first through fourth anniversaries of the date of the grant. In November 1998, the Company adopted and the stockholders of the Company subsequently approved an amendment to the Plan, whereby the number of options available for grant was increased from 65,000 options to 75,650 options. During the year ended December 31, 1998, 13,000 stock options were granted and 4,250 stock options were canceled, both pursuant to the Plan. As of December 31, 1998, there were 60,450 options outstanding, none of which had been exercised.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Wells is authorized to issue 1,100,000.0 shares of Class A common stock, par value $0.01 per share (the "Common Stock"). As of December 31, 1998, 728,642.5 shares of common stock were issued and outstanding.
The following table sets forth certain information as of December 31, 1998, with respect to the shares of the Common Stock of the Company beneficially owned by each person or group that is known by the Company to be a beneficial owner of more than 5% of the outstanding Common Stock and by all directors and executive officers of the Company.
* Denotes less than 1%. (a) Wells Holdings Limited Partnership ("Wells Holdings") is a limited partnership of which GGvA is the general partner. As such, GGvA exercises sole voting and investment power with respect to the shares owned by Wells Holdings. Messrs. Goodwin and van Amerongen, directors of the Company, are partners in GGvA, with the shared power to direct the actions of GGvA, and may be deemed to beneficially own the shares owned by Wells Holdings by virtue of their status and rights as such partners. The address for Messrs. Goodwin and van Amerongen is c/o Wells Holdings. Wells Holdings is the successor limited partnership to The Fulcrum III Limited Partnership and The Second Fulcrum III Limited Partnership (collectively, "Fulcrum III"). Fulcrum III was a limited partnership of which GGvA was the sole general partner. GGvA has informed the Company that all of the shares owned by Fulcrum III have been transferred to Wells Holdings. (b) The address for Mr. Kupiec is c/o the Company. The number of shares held by Mr. Kupiec includes 3,750 shares issuable upon exercise of outstanding options. (c) The address for Mr. Asher is c/o the Company. The number of shares held by Mr. Asher includes 2,500 shares issuable upon exercise of outstanding options. (d) The address for Mr. Brown is c/o the Company. The number of shares held by Mr. Brown includes 1,250 shares issuable upon exercise of outstanding options. (e) The address for Mr. McCafferty is c/o the Company. The number of shares held by Mr. McCafferty includes 1,250 shares issuable upon exercise of outstanding options. In March 1999, Mr. McCafferty exercised these options. (f) The address for Mr. Milam is c/o the Company. The number of shares held by Mr. Milan includes 375 shares issuable upon exercise of outstanding options. (g) The address for Mr. Raymonda is c/o the Company. The number of shares held by Mr. Raymonda includes 375 shares issuable upon exercise of outstanding options. (h) The address for Mr. Heiser is 33 Gray Heron Retreat, Savannah, Georgia 31411.
AGREEMENTS WITH STOCKHOLDERS - ----------------------------
In connection with the acquisition of the Company in 1987, the Company entered into a Stock Purchase Agreement with Fulcrum III. Subject to certain restrictions, Fulcrum III had certain demand and "piggyback" rights to have its shares of Class A common stock registered under the Securities Act. The Company had agreed to pay the costs and expenses associated with two such registrations, except for discounts and commissions. As successor to Fulcrum III, Wells Holdings has succeeded to these rights.
In 1988, the Company entered into a Stock Purchase Agreement (the "Stock Purchase Agreement") with CVG Industria Venezolana de Aluminio, C.A. ("Venalum"), whereby Venalum purchased 180,362.5 shares of Class A common stock of the Company. The Stock Purchase Agreement provided that, upon certain issuances of equity securities, Venalum would have rights to maintain its percentage of equity interest in the Company's capital stock by purchasing a portion of such equity securities. Subject to certain conditions, Venalum had certain "piggyback" rights to have its shares of Class A common stock registered under the Securities Act. The Company agreed to pay the costs and expenses associated with two such registrations, except for any discounts and commissions.
In connection with Venalum's acquisition of Class A Common Stock, the Company entered into a Shareholders' Agreement (the "Shareholders Agreement") with Fulcrum III and Venalum. The Shareholders Agreement provides that if Fulcrum III transfers its shares of Class A Common Stock under certain circumstances, Venalum may participate in such transfer. The transfer of shares from Fulcrum III to Wells Holdings did not trigger Venalum's right to participate in such transaction. Pursuant to the Shareholders Agreement, the Company agreed to nominate for election to the Board of Directors two persons designated by Venalum. Fulcrum III agreed to vote its shares of Class A Common Stock so that the two persons designated by Venalum shall be elected to the Board of Directors, and Venalum agreed to vote its shares of Class A Common Stock in favor of the Company's slate of nominees for election to the Board of Directors.
In October 1998, the Company entered into a Stock Repurchase Agreement to repurchase all of the shares of Class A common stock owned by Venalum for an aggregate purchase price of $3.1 million. On November 13, 1998, the repurchase was completed, and as of that date, Venalum no longer owned any shares of the common stock of the Company. Accordingly, Venalum no longer has rights under the Stock Purchase Agreement and the Shareholders Agreement.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND CERTAIN TRANSACTIONS
Prior to 1998, the Company was party to an agreement (the "Supply Agreement") with Venalum pursuant to which Venalum supplied primary aluminum and aluminum billet to the Company. This contract accounted for approximately 60-65% of the aluminum purchased by the Company from outside suppliers. Prices were based on the MWTP from the prior month. The Company believed that the terms of the Venalum Agreement were no less favorable to the Company than would have been obtained in an arms' length transaction.
The Supply Agreement commenced in 1988 and was renewed on numerous occasions. During 1997, negotiations to extend the Venalum Agreement or enter into a new supply agreement were not successful. The Supply Agreement expired on December 31, 1997, although the last scheduled delivery of primary aluminum and aluminum billet under the Supply Agreement was received in January 1998. Pursuant to the Venalum Agreement, the Company purchased $5.4 million, $69.6 million and $69.3 million of primary aluminum and aluminum billet from Venalum in 1998, 1997 and 1996, respectively.
In 1987, the Company entered into an agreement with GGvA, pursuant to which GGvA provides financial advisory and other services to the Company. For such services, GGvA was paid an annual retainer of $250,000 in 1996 and 1997, and $350,000 in 1998, plus reimbursement for its out-of-pocket expenses. In addition, GGvA received a fee of $500,000 for financial advisory and other services in connection with the Recapitalization in 1997.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Financial Statements
1. Financial Statements
The following financial statements of the Company are included in Item 8 of this report:
- Report of Independent Auditors - Balance Sheets as of December 31, 1998 and 1997 - Statements of Operations for the years ended December 31, 1998, 1997 and 1996 - Statements of Stockholders' Equity for the years ended December 31, 1998, 1997 and 1996 - Statements of Cash Flows for the years ended December 31, 1998, 1997 and 1996 - Notes to the Financial Statements
2. Financial Statement Schedules
The following financial statement schedule of the Company is included in Item 8 of this report:
- Valuation and Qualifying Accounts and Reserves
Other schedules for which provision is made in the applicable accounting regulations of the SEC are not required under the related instruction or are not applicable and, therefore, have been omitted.
(b) Exhibits
27.1 Financial Data Schedule.
(c) Reports on 8-K
The Company did not file any reports on Form 8-K during the year ended December 31, 1998.
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, in the City of Baltimore, State of Maryland, on March 30, 1999.
Wells Aluminum Corporation
By: /s/ Russell W. Kupiec --------------------- Russell W. Kupiec President and Chief Executive Officer
Pursuant to the requirements of the Securities Act of 1993, this registration statement has been signed by the following persons in the capacities and on the dates indicated.