ITEM 2.
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MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
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This Quarterly Report on Form 10-Q contains certain statements that are forward-looking statements as that term is defined under the
Private Securities Litigation Reform Act of 1995 (the Act) and releases issued by the Securities and Exchange Commission. The words may, hope, should, expect, plan,
anticipate, intend, believe, estimate, predict, potential, continue, and other expressions which are predictions of or indicate future events and trends and which do
not relate to historical matters, identify forward-looking statements. We believe that it is important to communicate our future expectations to our stockholders, and we, therefore, make forward-looking statements in reliance upon the safe harbor
provisions of the Act. However, there may be events in the future that we are not able to accurately predict or control, and our actual results may differ materially from the expectations we describe in our forward-looking statements.
Forward-looking statements involve known and unknown risks, uncertainties and other factors, which may cause our actual results, performance or achievements to differ materially from anticipated future results, performance or achievements expressed
or implied by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, the cyclicality and highly competitive nature of some of our end markets which can affect the overall demand
for and pricing of our products, changes in the price of and demand for oil and gas in both domestic and international markets, variability of raw material and component pricing, changes in our suppliers performance, fluctuations in foreign
currency exchange rates, our ability to continue operating our manufacturing facilities at efficient levels including our ability to continue to reduce costs, our ability to generate increased cash by reducing our inventories, our prevention of the
accumulation of excess inventory, our ability to successfully implement our acquisition strategy, increasing interest rates, our ability to continue to successfully defend product liability actions, as well as the uncertain continuing impact on
economic and financial conditions in the United States and around the world as a result of terrorist attacks, current Middle Eastern conflicts and related matters.
We advise you to read further about certain of these and other risk factors
set forth in Part 1, Item 1A, Risk Factors of our Annual Report filed on Form 10-K for the year ended December 31, 2006, together with subsequent reports we have filed with the Securities and Exchange Commission on Forms 10-Q
and 8-K, which may supplement, modify, supersede or update those risk factor.
We undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise.
Overview
CIRCOR International, Inc.
is a leading provider of valves and fluid control products for the industrial, aerospace, petrochemical, and energy markets. We offer one of the industrys broadest and most diverse range of products a range that allows us to supply
end-users with a wide array of valves and component products for fluid systems.
We have organized the Company into two segments:
Instrumentation and Thermal Fluid Controls Products and Energy Products. The Instrumentation and Thermal Fluid Controls Products segment serves our broadest variety of end-markets, including military and commercial aerospace, chemical
processing, marine, power generation, commercial HVAC systems, food and beverage processing, and other general industrial markets. The Energy Products segment primarily serves the oil and gas exploration, production and distribution markets.
Our growth strategy includes organic profitable growth as well as strategic acquisitions that extend our current offering of engineered
flow control products. For organic growth, our businesses focus on developing new products and reacting quickly to changes in market conditions in order to help grow our revenues. Regarding acquisitions, we have made twelve acquisitions in the last
six years that extended our product offerings. Our acquisitions of Loud Engineering in January 2005 and Industria S.A in October 2005 provided us with complementary aerospace component and subassembly manufacturing capabilities. In February 2006, we
acquired two businesses: Hale Hamilton Valves Limited and its subsidiary Cambridge Fluid Systems (Hale Hamilton), a leading provider of high pressure valves and flow control equipment, and Sagebrush Pipeline Equipment Company
(Sagebrush) which provides pipeline flow control and measurement equipment to oil and gas markets. In July 2007, we purchased the assets of SEI, a leader in the design of pneumatic controls and inflation systems for the aerospace,
marine, defense, and industrial markets.
Regarding our third quarter and year to date 2007 financial results, we continue to enjoy healthy
end market conditions that raised incoming order rates, with particular order strength from the oil and gas markets. For the three months ended September 30, 2007, revenues increased 9% to $164.0 million, compared to the third quarter of 2006.
Net income rose 42% to $10.4 million and diluted earnings per share increased 38% to $0.62 per share, compared to the third quarter of 2006.
For the nine months ended September 30, 2007, revenue increased 16% to $491.2 million; net income rose 47% to $27.8 million and diluted earnings per share increased 44% to $1.67 per share, compared to the same period of 2006. We enter
the fourth quarter of 2007 with our highest ever customer order backlog, at $395.7 million.
18
Many of these positive achievements resulted from responding to the robust worldwide spending in the oil
and gas markets. While our Energy Products segment has achieved revenue and operating margins at near record levels, the profitability of our Instrumentation and Thermal Fluid Controls Products segment continues to be under pressure. Production
difficulties within this segment continued as operational changes, higher raw material stainless steel and brass costs and constraints on the supply of certain raw materials have added costs. These combined operational factors plus increased
litigation costs for asbestos-related claims have negatively affected this segments profitability, compared to the first three quarters of 2006. In response to these issues, we continue to strengthen our supplier management processes and
expand our international sourcing programs. We also are continuing our Lean manufacturing improvement initiatives with a focus on manufacturing constraints, as well as initiating further facility consolidations. We expect these steps to result in
improvements in the fourth quarter of 2007 within the Instrumentation and Thermal Fluid Control Products segment.
Regarding cash flow and
liquidity, we generated $20.2 million in cash flow from operating activities in the first three quarters of 2007, $7.2 million more than the amount in the same period of 2006. The higher cash generated from operating activities was primarily due to
the increase in net income. As of September 30, 2007, we believe we remain a well-capitalized company with total debt-to-total capitalization of 9%.
Basis of Presentation
All significant intercompany balances and transactions have been eliminated in consolidation. Certain
prior period financial statement amounts have been reclassified to conform to currently reported presentations. We monitor our business in two segments: Instrumentation and Thermal Fluid Controls Products and Energy Products.
We operate and report financial information using a 52-week fiscal year ending December 31. The data periods contained within our Quarterly Reports
on Form 10-Q reflect the results of operations for the 13-week, 26-week and 39-week periods which generally end on the Sunday nearest the calendar quarter-end date.
Critical Accounting Policies
The following discussion of accounting policies is intended to
supplement the section Summary of Significant Accounting Policies presented in Note 2 to our consolidated financial statements included in our Annual Report on Form 10-K for the year ending December 31, 2006. These policies were
selected because they are broadly applicable within our operating units. The expenses and accrued liabilities or allowances related to certain of these policies are initially based on our best estimates at the time of original entry in our
accounting records. Adjustments are recorded when our actual experience, or new information concerning our expected experience, differs from underlying initial estimates. These adjustments could be material if our actual or expected experience were
to change significantly in a short period of time. We make frequent comparisons of actual experience and expected experience in order to mitigate the likelihood of material adjustments.
Except for income taxes, there have been no significant changes from the methodology applied by management for critical accounting estimates previously
disclosed in our most recent Annual Report on Form 10-K. The methodology applied to managements estimate for income taxes has changed due to the implementation of a new accounting pronouncement as described below and in Note 13 of the
accompanying consolidated financial statements.
Revenue Recognition
Revenue is recognized when products are delivered, title and risk of loss have passed to the customer, no significant post-delivery obligations remain and
collection of the resulting receivable is reasonably assured. Shipping and handling costs invoiced to customers are recorded as components of revenues and the associated costs are recorded as cost of revenues.
Allowance for Inventory
We typically
analyze our inventory aging and projected future usage on a quarterly basis to assess the adequacy of our inventory allowances. We provide inventory allowances for excess, slow-moving, and obsolete inventories determined primarily by estimates of
future demand. The allowance is measured as the difference between the cost of the inventory and estimated market value and charged to the provision for inventory, which is a component of our cost of revenues. Assumptions about future demand are
among the primary factors utilized to estimate market value. At the point of the loss recognition, a new, lower carrying basis for that inventory is established, and subsequent changes in facts and circumstances do not result in the restoration or
increase in that newly established basis.
19
Our net inventory balance was $169.6 million as of September 30, 2007, compared to $150.2 million as
of December 31, 2006. Our inventory allowance as of September 30, 2007 was $12.3 million, compared with $11.1 million as of December 31, 2006. Our provision for inventory obsolescence was $2.8 million for the first nine months of 2007
compared to $3.8 million for the same period in 2006.
If there were to be a sudden and significant decrease in demand for our products, or
if there were a higher incidence of inventory obsolescence because of changing technology and customer requirements, we could be required to increase our inventory allowances and our gross profit could be adversely affected.
Inventory management remains an area of focus, as we balance the need to maintain adequate inventory levels to ensure competitive lead times against the
risk of inventory obsolescence because of changing technology and customer requirements.
Purchase Accounting
In connection with our acquisitions, we assess and formulate a plan related to the future integration of the acquired entity. This process begins during
the due diligence process and is concluded within twelve months of the acquisition. Our methodology for allocating the purchase price relating to purchase acquisitions is determined through established valuation techniques for industrial
manufacturing companies and we typically utilize third party valuation firms to assist in the valuation of certain tangible and intangible assets. We accrue estimates for certain costs, related primarily to personnel reductions and facility closures
or restructurings, anticipated at the date of acquisition, in accordance with SFAS No. 141, Business Combinations and Emerging Issues Task Force Issue No. 95-3, Recognition of Liabilities in Connection with a Purchase
Business Combination. Adjustments to these estimates are made during the acquisition allocation period, which is generally up to twelve months from the acquisition date as plans are finalized. Subsequent to the allocation period, costs
incurred in excess of the recorded acquisition accruals are generally expensed as incurred and if accruals are not utilized for the intended purpose the excess is recorded as an adjustment to the cost of the acquired entity, usually decreasing
goodwill.
Impairment Analysis
As required by SFAS No.142, Goodwill and Intangible Assets, we perform an annual assessment as to whether there was an indication that goodwill or certain intangible assets are impaired. We also perform impairment analyses
whenever events and circumstances indicate that goodwill or certain intangibles may be impaired.
Goodwill is measured as the excess of the
cost of an acquisition over the sum of the amounts assigned to identifiable tangible and intangible assets acquired less liabilities assumed. Our policy is to perform impairment tests for each reporting unit on goodwill and certain intangible assets
on an annual basis and between annual tests in certain circumstances, if triggering events indicate impairment may have occurred. In assessing the fair value of goodwill, we use our best estimates of future cash flows of operating activities and
capital expenditures of the reporting unit, the estimated terminal value for each reporting unit, and a discount rate based on our weighted average cost of capital. If these estimates or related projections change in the future due to changes in
industry and market conditions, we may be required to record impairment charges. When the undiscounted estimated future cash flows are expected to be less than the carrying value of the assets being reviewed for impairment, the assets are written
down to fair value. The goodwill recorded on the consolidated balance sheet as of September 30, 2007 was $168.9 million compared with $163.7 million as of December 31, 2006. Based on impairment tests performed, there was no impairment of
our goodwill as of December 31, 2006 and there were no indications of impairment as of September 30, 2007.
Income Taxes
Significant management judgment is required in determining our provision for income taxes, deferred tax assets and liabilities and any
valuation allowance. Our effective tax rates differ from the statutory rate due to the impact of research and product development tax credits, domestic manufacturing deduction, state taxes, and the tax impact of non-U.S. operations. Our effective
tax rate was 30.6% and 32.2% for 2006 and 2005, respectively. For 2007, we expect an effective income tax rate of 30.3%, a decline from the 32% previously expected as of July 1, 2007. The decrease is a result of a third quarter adjustment
relating to an enacted change in foreign tax law and lower statutory rates in Germany and the United Kingdom. Our future effective tax rates could be adversely affected by earnings being higher than anticipated in countries where we have higher
statutory rates and vice versa. Changes in the valuation of our deferred tax assets or liabilities, or changes in tax laws or interpretations thereof may also adversely affect our future effective tax rate. In addition, we are subject to the
continuous examination of our income tax returns by the Internal Revenue Service and other tax authorities. We regularly assess the likelihood of adverse outcomes resulting from these examinations to determine the adequacy of our provision for
income taxes.
20
As of both September 30, 2007 and December 31, 2006, we had a total valuation allowance for
deferred income tax assets of $9.5 million due to uncertainties related to our ability to utilize these assets, primarily consisting of certain foreign tax credits, state net operating losses and state tax credits carried forward. The valuation
allowance is based on estimates of taxable income in each of the jurisdictions in which we operate and the period over which our deferred tax assets will be recoverable. If market conditions improve and future results of operations exceed our
current expectations, our existing tax valuation allowances may be adjusted, resulting in future tax benefits. Alternatively, if market conditions deteriorate further or future results of operations is less than expected, future assessments may
result in a determination that some or all of the deferred tax assets are not realizable. As a result, we may need to establish additional tax valuation allowances for all or a portion of the gross deferred tax assets, which may have a material
adverse effect on our business, results of operations and financial condition.
In July 2006, the FASB issued Interpretation 48, Accounting
for Uncertainty in Income Taxes (FIN 48), which became effective for us beginning in 2007. FIN 48 addresses the determination of how tax benefits claimed or expected to be claimed on a tax return should be recorded in the financial
statements. Under FIN 48, the Company must recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of
the position. The tax benefits recognized in the financial statements from such a position are measured based on the largest benefit that has a greater than fifty percent likelihood of being realized upon ultimate resolution. The result of the
Companys reassessment of its tax positions in accordance with FIN 48 did not have a material impact on the results of operations, financial condition or liquidity.
For additional information regarding the adoption of FIN 48, see Note 13, Income Taxes of the accompanying consolidated financial statements.
Legal Contingencies
We are currently
involved in various legal claims and legal proceedings, some of which may involve substantial dollar amounts. Periodically, we review the status of each significant matter and assess our potential financial exposure. If the potential loss from any
claim or legal proceeding is considered probable and the amount can be estimated, we accrue a liability for the estimated loss. Significant judgment is required in both the determination of probability and the determination as to whether an exposure
can be reasonably estimated. Because of uncertainties related to these matters, accruals are based on the best information available at the time. As additional information becomes available, we reassess the potential liability related to our pending
claims and litigation and may revise our estimates. Such revisions in the estimates of the potential liabilities could have a material adverse effect on our business, results of operations and financial position. For more information related to our
outstanding legal proceedings, see Commitments and Contingencies in Note 11 of the accompanying consolidated financial statements as well as Legal Proceedings in Part II Item 1.
Pension Benefits
We maintain two
pension benefit plans, a qualified noncontributory defined benefit plan that covers substantially all of our salaried and hourly non-union employees in the United States, and a nonqualified, noncontributory defined benefit supplemental plan that
provides benefits to certain highly compensated officers and employees. To date, the supplemental plan remains an unfunded plan. These plans include significant pension benefit obligations which are calculated based on actuarial valuations. Key
assumptions are made in determining these obligations and related expenses, including expected rates of return on plan assets and discount rates. Benefits are based primarily on years of service and employees compensation. As of July 1,
2006, in connection with a revision to our retirement plan, we froze the pension benefits of our qualified noncontributory plan participants. Under the revised plan, such participants generally do not accrue any additional benefits under the defined
benefit plan after July 1, 2006 and instead receive enhanced benefits associated with our defined contribution 401(k) plan in which substantially all of our U.S. employees are eligible to participate.
21
Effective December 2006, we adopted the recognition and disclosure provisions of SFAS No.158
Employers Accounting for Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106, and 132(R). This Statement requires employers to recognize in their balance sheets the
over-funded or under-funded status of defined benefit post-retirement plans, measured as the difference between the fair value of plan assets and the benefit obligation (the projected benefit obligation for pension plans and the accumulated
postretirement benefit obligation for other post-retirement plans). Employers must recognize the change in the funded status of the plan in the year in which the change occurs through other comprehensive income. This Statement also requires plan
assets and obligations to be measured as of the employers balance sheet date. We adopted the measurement provisions of SFAS 158 beginning January 1, 2007. See Note 12 of the accompanying consolidated financial statements for further
information on our benefit plans.
In 2007, we do not expect to make voluntary cash contributions to our defined benefit pension plans,
although global capital market and interest rate fluctuations will impact future funding requirements.
Results of Operations for the Three Months Ended
September 30, 2007 Compared to the Three Months Ended October 1, 2006.
The following tables set forth the results of
operations, percentage of net revenue and the period-to-period percentage change in certain financial data for the three months ended September 30, 2007 and October 1, 2006:
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Three Months Ended
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September 30, 2007
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October 1, 2006
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% Change
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(Dollars in thousands)
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Net revenues
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$
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164,017
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100.0
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%
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$
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150,412
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100.0
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%
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9.0
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%
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Cost of revenues
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116,465
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71.0
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%
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106,934
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71.1
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%
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8.9
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%
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Gross profit
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47,552
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29.0
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%
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43,478
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28.9
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%
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9.4
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%
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Selling, general and administrative expenses
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32,672
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19.9
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%
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30,820
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20.5
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%
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6.0
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%
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Special charges
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2,131
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1.3
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%
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479
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0.3
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%
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344.9
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%
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Operating income
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12,749
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7.8
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%
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12,179
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8.1
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%
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4.7
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%
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Other (income) expense:
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Interest expense, net
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744
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0.5
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%
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1,383
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0.9
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%
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(46.2
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)%
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Other (income) expense, net
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(1,508
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)
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(0.9
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)%
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27
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0.0
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%
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Nmf
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Total other (income) expense, net
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(764
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)
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(0.5
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)%
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1,410
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0.9
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%
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(154.2
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)%
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Income before income taxes
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13,513
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8.2
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%
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10,769
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7.2
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%
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25.5
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%
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Provision for income taxes
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3,148
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1.9
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%
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3,446
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2.3
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%
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(8.6
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)%
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Net income
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$
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10,365
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6.3
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%
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$
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7,323
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4.9
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%
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41.5
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%
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Net Revenue
Net revenues for the three months ended September 30, 2007 increased by $13.6 million, or 9%, to $164.0 million from $150.4 million for the three months ended October 1, 2006. The increase in net revenues
for the three months ended September 30, 2007 was attributable to the following:
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Three Months Ended
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Segment
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September 30,
2007
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October 1,
2006
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Total
Change
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Divestiture
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Operations
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Foreign
Exchange
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(Dollars In thousands)
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Instrumentation & Thermal Fluid Controls
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$
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85,094
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$
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79,205
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$
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5,889
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$
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(2,226
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)
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$
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5,527
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$
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2,588
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Energy
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78,923
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71,207
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7,716
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4,743
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2,973
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Total
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$
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164,017
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$
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150,412
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$
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13,605
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$
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(2,226
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)
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$
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10,270
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$
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5,561
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22
The Instrumentation and Thermal Fluid Controls Products segment accounted for 52% of net revenues for the
three months ended September 30, 2007 compared to 53% for the three months ended October 1, 2006. The Energy Products segment accounted for 48% of net revenues for the three months ended September 30, 2007 compared to 47% for the
three months ended October 1, 2006.
Instrumentation and Thermal Fluid Controls Products revenues increased $5.9 million, or 7%, for
the quarter ended September 30, 2007 compared to the quarter ended October 1, 2006. The increase in revenues was the net result of several factors. This segments customer orders increased 5% in the third quarter of 2007 compared to
the same period last year. Revenues increased an incremental $5.5 million, led by our Aerospace product groups, from higher volumes and selling prices, compared to the third quarter of 2006. This quarters increase in net revenues is net of a
decrease of revenues from our December 2006 sale of the small, break-even French business, Societe Alsacienne Regulaves Thermiques von Rohr (Sart), which had $2.2 million of revenue in the third quarter 2006. This segments
quarterly revenues also included a $2.6 million increase due to higher Euro exchange rates compared to the US dollar. In 2007, we expect market conditions to remain steady for most of the general industrial, commercial HVAC, power generation, and
aerospace end markets served by this segment.
Energy Products revenues increased by $7.7 million, or 11%, for the quarter ended
September 30, 2007 compared to the quarter ended October 1, 2006. The increase in revenues was primarily the net result of an incremental $4.7 million from organic increases in revenues which included $6.1 million for large international
projects and fabricated systems in North America and a $1.4 million decrease for standard products sold through distribution. These organic revenue increases result from a continued escalation in worldwide demand for oil and natural gas that has
motivated producers to increase their drilling, production, and distribution facilities. This quarters decrease in revenues for standard products sold through distribution is attributable to lower orders due to wet weather conditions in the
Midwest in June and July and from distributors as they normalized their stocking levels, after over-buying from manufacturers during 2006 and early 2007 due to tight supply of products. We expect our order rates to be adversely affected by
distributors adjustments of their inventory levels through the end of 2007. This segments quarterly revenues also included a $3.0 million increase due to higher foreign exchange rates compared to the US dollar. The overall increase in
end market demand caused this segments customer backlog to be 58% higher at the end of the third quarter of 2007 compared to the same period last year and 7% higher compared to the end of the second quarter of 2007. Looking forward, we expect
end market conditions to remain solid in the fourth quarter of 2007 but at a lower rate of growth.
Gross Profit
Consolidated gross profit increased $4.1 million, or 9%, to $47.6 million for the quarter ended September 30, 2007 compared to $43.5 million for the
quarter ended October 1, 2006. Consolidated gross margin was up slightly at 29.0% for the quarter ended September 30, 2007 compared to 28.9% for the quarter ended October 1, 2006.
Gross profit for the Instrumentation and Thermal Fluid Controls Products segment increased $0.1 million for the quarter ended September 30, 2007
compared to the quarter ended October 1, 2006. Gross profit increased on higher unit volume increases related to market growth and selective customer price increases; however, these increases were largely offset by higher costs. The higher
costs included continuing higher raw material costs, especially stainless steel, brass, and other nickel-based alloys, and we were not able to fully offset these additional costs by increasing our prices to customers. Also, with higher capacity
utilization at critical vendors, we spent additional amounts to counteract decreased vendor responsiveness and lengthened lead times to receive certain critical parts. Measures enacted to counter these factors include outsourcing and
foreign-sourcing to lower the cost of goods sold, focusing lean manufacturing priorities to achieve more linear and efficient production levels, and ensuring predictable flow of inventory from global suppliers.
Gross profit for the Energy Products segment increased $4.0 million for the quarter ended September 30, 2007 compared to the quarter ended
October 1, 2006. This segments quarterly gross profit included a $0.8 million increase due to higher foreign exchange rates compared to the US dollar. The operational improvements that led to the increase in gross profit from our
businesses included: higher unit shipments to meet the strong global demand, customer price increases, further increases in foreign-sourcing which helped to reduce cost of goods sold, and improved linearity in production activities.
Selling, General and Administration
Selling, general and administrative expenses increased $1.9 million, or 6%, to $32.7 million for the three months ended September 30, 2007 compared to $30.8 million for the three months ended October 1, 2006.
23
Selling, general and administrative expenses for the Instrumentation and Thermal Fluid Controls Products
segment increased by 9% or $1.5 million compared to the third quarter of 2006. Most of the increase was from higher litigation costs associated with asbestos-related claims. For more information related to these claims, see Legal
Proceedings in Part II, Item I.
Selling, general and administrative expenses for the Energy Products segment decreased 4% or $0.3
million. This decrease was due largely to lower commissions partially offset by foreign exchange rate fluctuations and higher selling expense related to its 11% revenue growth and this segments record backlog of $260.6 million as of
September 30, 2007.
Corporate, general and administrative expenses increased 15% or $0.7 million in the third quarter of 2007 from
the same period in 2006. The increase was primarily from higher legal costs and variable compensation.
Special Charges
There were $2.1 million in special charges recognized for the three months ended September 30, 2007 compared to $0.5 million during the three
months ended October 1, 2006. The special charges recognized this quarter relate primarily to the cost of the Companys CEO and CFO retirement agreements, specifically the accelerated vesting of certain equity awards.
Operating Income
The change in
operating income for the three months ended September 30, 2007 compared to the three months ended October 1, 2006 was as follows:
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
|
Segment
|
|
September 30,
2007
|
|
|
October 1,
2006
|
|
|
Total
Change
|
|
|
Divestiture
|
|
|
Operations
|
|
|
Foreign
Exchange
|
|
|
(Dollars In thousands)
|
Instrumentation & Thermal Fluid Controls
|
|
$
|
6,016
|
|
|
$
|
7,522
|
|
|
$
|
(1,506
|
)
|
|
$
|
(180
|
)
|
|
$
|
(1,749
|
)
|
|
$
|
423
|
Energy
|
|
|
13,745
|
|
|
|
9,384
|
|
|
|
4,361
|
|
|
|
|
|
|
|
3,877
|
|
|
|
484
|
Corporate
|
|
|
(7,012
|
)
|
|
|
(4,727
|
)
|
|
|
(2,285
|
)
|
|
|
|
|
|
|
(2,285
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
12,749
|
|
|
$
|
12,179
|
|
|
$
|
570
|
|
|
$
|
(180
|
)
|
|
$
|
(157
|
)
|
|
$
|
907
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income increased $0.6 million, or 5%, to $12.7 million for the three months ended
September 30, 2007 from $12.2 million for the three months ended October 1, 2006.
Operating income for the Instrumentation and
Thermal Fluid Controls Products segment for the third quarter of 2007 decreased 20% to $6.0 million, compared to the same period last year, as its operating margin declined 240 basis points to 7% on a revenue increase of 7%. Our ongoing businesses
in this segment have been hampered by higher raw material costs, especially stainless steel, brass, inventory provision requirements, costs to counteract decreased vendor responsiveness, and increased litigation costs associated with
asbestos-related claims.
Operating income for the Energy Products segment increased $4.4 million, or 46% for the three months ended
September 30, 2007, as its operating margin increased 420 basis points to 17.4% on a revenue increase of 11%, compared to the third quarter of 2006. This segments increased operating income benefited from a higher volume of shipments;
price increases to customers; and further foreign sourcing that reduced cost of goods sold.
The change in operating loss for Corporate
resulted primarily from the accelerated vesting of certain equity awards pursuant to retirement agreements entered into with our CEO and CFO.
Interest Expense, Net
Interest expense, net, decreased $0.7 million to $0.7 million for the three months ended
September 30, 2007 compared to approximately $1.4 million for the three months ended October 1, 2006. The decrease in interest expense, net was primarily due lower debt balances during the three months ended September 30, 2007,
specifically $15.0 million lower outstanding balance of our senior unsecured notes that were paid off in October 2006, and repayments against our revolving credit facility.
24
Other Income, Net
Other income, net was $1.5 million for the three months ended September 30, 2007 compared to a de minimus expense for the same period in 2006. This income was largely the result of a $1.6 million gain on sale of
an investment in a small European business within our Instrumentation and Thermal Fluid Control Products segment.
Provision for Income
Taxes
The effective tax rate was 23.3%% for the third quarter of 2007 compared to 32.0% for the third quarter 2006. The rate reduction
this quarter was the result of a change in foreign tax law and lower statutory tax rates in Germany and the United Kingdom, thereby reducing our net deferred income tax liabilities at the new rates and increasing tax receivables. The combined impact
of those countries tax law and rate changes on our net current and deferred tax income liabilities was a $1.0 million reduction to the third quarter income tax provision.
We recorded an additional benefit this quarter of $250,000 after finalizing our 2006 US federal income tax return, primarily due to additional research and experimentation credit.
Net Income
Net income increased $3.0
million to $10.4 million for the three months ended September 30, 2007 compared to $7.3 million for the three months ended October 1, 2006. This net increase is attributable to: incremental profit from our Energy Products segment, lower
interest expense, a gain from the sale of a small European business, and a lower income tax rate, all of which was partially offset by higher corporate expense.
Results of Operations for the Nine Months Ended September 30, 2007 Compared to the Nine Months Ended October 1, 2006.
The following tables set forth the results of operations, percentage of net revenue and the period-to-period percentage change in certain financial data for the nine months ended September 30, 2007 and
October 1, 2006:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
|
|
|
|
September 30, 2007
|
|
|
October 1, 2006
|
|
|
% Change
|
|
|
|
(Dollars in thousands)
|
|
|
|
|
Net revenues
|
|
$
|
491,217
|
|
|
100.0
|
%
|
|
$
|
422,096
|
|
|
100.0
|
%
|
|
16.4
|
%
|
Cost of revenues
|
|
|
349,052
|
|
|
71.1
|
%
|
|
|
298,159
|
|
|
70.6
|
%
|
|
17.1
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
142,165
|
|
|
28.9
|
%
|
|
|
123,937
|
|
|
29.4
|
%
|
|
14.7
|
%
|
Selling, general and administrative expenses
|
|
|
98,136
|
|
|
20.0
|
%
|
|
|
92,079
|
|
|
21.8
|
%
|
|
6.6
|
%
|
Special charges
|
|
|
3,436
|
|
|
0.7
|
%
|
|
|
479
|
|
|
0.1
|
%
|
|
617.3
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income
|
|
|
40,593
|
|
|
8.3
|
%
|
|
|
31,379
|
|
|
7.4
|
%
|
|
29.4
|
%
|
Other (income) expense:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense, net
|
|
|
2,846
|
|
|
0.6
|
%
|
|
|
3,871
|
|
|
0.9
|
%
|
|
(26.5
|
)%
|
Other (income) expense, net
|
|
|
(1,390
|
)
|
|
(0.3
|
)%
|
|
|
(352
|
)
|
|
(0.1
|
)%
|
|
294.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other expense
|
|
|
1,456
|
|
|
0.3
|
%
|
|
|
3,519
|
|
|
0.8
|
%
|
|
(58.6
|
)%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income taxes
|
|
|
39,137
|
|
|
8.0
|
%
|
|
|
27,860
|
|
|
6.6
|
%
|
|
40.5
|
%
|
Provision for income taxes
|
|
|
11,347
|
|
|
2.3
|
%
|
|
|
8,915
|
|
|
2.1
|
%
|
|
27.3
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
27,790
|
|
|
5.7
|
%
|
|
$
|
18,945
|
|
|
4.5
|
%
|
|
46.7
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Revenues
Net revenues for the nine months ended September 30, 2007 increased by $69.1 million, or 16%, to $491.2 million from $422.1 million for the nine months ended October 1, 2006. The increase in net revenues for
the nine months ended September 30, 2007 was attributable to the following:
25
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
|
|
|
|
|
|
|
|
|
|
|
|
Segment
|
|
September 30,
2007
|
|
October 1,
2006
|
|
Total
Change
|
|
Acquisitions
|
|
Divestiture
|
|
|
Operations
|
|
Foreign
Exchange
|
|
|
(In thousands)
|
Instrumentation & Thermal Fluid Controls
|
|
$
|
252,130
|
|
$
|
231,109
|
|
$
|
21,021
|
|
$
|
2,434
|
|
$
|
(6,681
|
)
|
|
$
|
17,706
|
|
$
|
7,562
|
Energy
|
|
|
239,087
|
|
|
190,987
|
|
|
48,100
|
|
|
4,716
|
|
|
|
|
|
|
35,348
|
|
|
8,036
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
491,217
|
|
$
|
422,096
|
|
$
|
69,121
|
|
$
|
7,150
|
|
$
|
(6,681
|
)
|
|
$
|
53,054
|
|
$
|
15,598
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The Instrumentation and Thermal Fluid Controls Products segment accounted for 51% of net revenues
for the nine months ended September 30, 2007 compared to 55% for the nine months ended October 1, 2006. The Energy Products segment accounted for 49% of net revenues for the nine months ended September 30, 2007 compared to 45% for the
nine months ended October 1, 2006.
Instrumentation and Thermal Fluid Controls Products revenues increased $21.0 million, or 9%, for
the nine months ended September 30, 2007 compared to the nine months ended October 1, 2006. The increase in revenues was the net result of several factors. This segments customer orders increased 7% in the first nine months of 2007
compared to the same period last year Revenue increased an incremental $2.4 million from the February 2006 acquisition of Hale Hamilton which complemented this segments sales to general industrial, power generation, aerospace, and chemical
processing end markets. Our other business units in this segment benefited from higher volumes and selling prices, compared to the first three quarters of 2006. The first three quarters increase in net revenues is net of a decrease of revenues
from our December 2006 sale of the small, break-even French business, Sart, which had $6.7 million of revenue in the first three quarters of 2006. This segments year to date revenues also included a $7.6 million increase due to higher foreign
exchange rates compared to the US dollar. In the fourth quarter of 2007, we expect market conditions to remain steady for most of the general industrial, commercial HVAC, power generation, and aerospace end markets served by this segment. Excluding
any 2007 acquisitions in this segment we expect a revenue increase in this segment approximating 8.5% to 9.0% for the full year 2007 compared to the full year 2006.
Energy Products revenues increased by $48.1 million, or 25%, for the nine months ended September 30, 2007 compared to the nine months ended October 1, 2006. The increase in revenues was the net result of an
incremental $35.3 million from organic increases in revenues which included $30.0 million for large international projects and fabricated systems in North America and an incremental $5.3 million from standard products sold through distribution.
These organic revenue increases result from an escalation in worldwide demand for oil and natural gas that has motivated producers to increase their drilling, production, and distribution facilities. Revenues also increased an incremental $4.7
million from the February 2006 acquisition of Sagebrush which produces fabricated measuring, metering, and control sub-systems for pipeline applications in the North America oil and gas markets. This segments year to date revenues also
included a $8.0 million increase due to higher foreign exchange rates compared to the US dollar. The increase in end market demand resulted in this segments customer backlog being 58% higher as of September 30, 2007, compared to the same
period last year and 7% higher compared to the end of the second quarter of 2007. Looking forward, we expect end market conditions to remain strong in the fourth quarter of 2007. After two successive years in which this segments organic sales
growth was nearly 20% per year, we expect the Energy Products segment to have 2007 full year sales growth of 14.0% to 14.5% compared to the full year 2006.
Gross Profit
Consolidated gross profit increased $18.2 million, or 15%, to $142.2 million for the
nine months ended September 30, 2007 compared to $123.9 million for the nine months ended October 1, 2006. Consolidated gross margin decreased 50 basis points to 28.9% for the nine months ended September 30, 2007 from 29.4% for the
nine months ended October 1, 2006.
Gross profit for the Instrumentation and Thermal Fluid Controls Products segment increased $1.4
million for the nine months ended September 30, 2007 compared to the nine months ended October 1, 2006. Gross profit increased on higher unit volume increases related to market growth and selective customer price increases; however, these
increases were offset by higher costs. The higher costs included continuing higher raw material costs, especially brass, stainless steel and other nickel-based alloys, and we were not able to fully offset these additional costs via higher prices to
customers. Also, with higher capacity utilization at critical vendors, we spent additional amounts to counteract decreased vendor responsiveness and lengthened lead times to receive certain critical parts. Further, we experienced lower factory
productivity from re-organizing production flow in three of this segments U.S. plants. Measures enacted to counter these factors include outsourcing and foreign-sourcing to lower the cost of goods sold, focusing lean manufacturing priorities
to achieve more linear and efficient production levels, and ensuring predictable flow of inventory from global suppliers. One counter-measure taken in the first quarter of 2007 was the closing of a U.S. plant with its production now being sourced
from Asian suppliers. This plant closing resulted in a special charge cost in 2007 of $1.2 million, of which $0.6 million was recorded in each of the first two quarters of 2007. The annual savings of this closure and foreign-sourcing counter-measure
is expected to be $1.7 million.
26
Gross profit for the Energy Products segment increased $16.9 million or 34% for the nine months ended
September 30, 2007 compared to the nine months ended October 1, 2006. This increase included an incremental $0.9 million from the February 2006 acquisition of Sagebrush and $1.7 million increase in gross profit due to higher foreign
exchange rates compared to the US dollar. The operational improvements that led to the increase in gross profit from our businesses included: higher unit shipments to meet the strong global demand, customer price increases, further increases in
foreign-sourcing which helped to lower cost of goods sold and improved linearity in production activities.
Selling, General and
Administrative Expenses
Selling, general and administrative expenses increased $6.1 million, or 7%, to $98.1 million for the nine
months ended September 30, 2007 compared to $92.1 million for the nine months ended October 1, 2006.
Selling, general and
administrative expenses for the Instrumentation and Thermal Fluid Controls Products segment increased by $2.4 million which was due to increased litigation costs associated with asbestos-related claims, higher foreign exchange rates for the Euro and
Pound Sterling, higher personnel-related costs at certain locations, and the incremental impact from our 2006 acquisition of Hale Hamilton, offset by $2.5 million of costs for our Sart business divested in December 2006.
Selling, general and administrative expenses for the Energy Products segment increased by $2.5 million or 9%. This increase was due to higher foreign
exchange rates for the Euro and Pound Sterling as well as incremental expense from our February 2006 acquisition of Sagebrush. This segment also incurred higher commissions and selling expense related to its 25% revenue growth and its record
backlog of $260.6 million as of September 30, 2007.
Corporate, general and administrative expenses increased $1.2 million in the
first three quarters of 2007 from the same period in 2006. The increase was primarily from higher legal costs, corporate development costs, and higher variable compensation.
Special Charges
For the nine months
ended September 30, 2007, we recorded net special charges of approximately $3.4 million. These charges include $2.1 million related to cost associated with the Companys CEO and CFO retirement agreements, specifically the accelerated
vesting of certain equity awards; $1.2 million pertains to severance and facility costs primarily from closing a facility located in Connecticut within the Instrumentation and Thermal Fluid Controls segment. In addition, there were $0.1 million of
asset write-downs associated with the Energy Products Segment.
For the nine months ended October 1, 2006, special charges of $0.5
million related to a pension curtailment charge of $0.4 million incurred in connection with the freeze of our qualified noncontributory defined benefit plan and less than $0.1 million related to a write-down of an asset classified as held for sale.
Operating Income
The
change in operating income for the nine months ended September 30, 2007 compared to the nine months ended October 1, 2006 was as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment
|
|
September 30,
2007
|
|
|
October 1,
2006
|
|
|
Total
Change
|
|
|
Acquisitions
|
|
Divestiture
|
|
|
Operations
|
|
|
Foreign
Exchange
|
|
|
(In thousands)
|
Instrumentation & Thermal Fluid Controls
|
|
$
|
18,697
|
|
|
$
|
20,978
|
|
|
$
|
(2,281
|
)
|
|
$
|
90
|
|
$
|
(63
|
)
|
|
$
|
(3,192
|
)
|
|
$
|
884
|
Energy
|
|
|
36,817
|
|
|
|
22,516
|
|
|
|
14,301
|
|
|
|
458
|
|
|
|
|
|
|
12,894
|
|
|
|
949
|
Corporate
|
|
|
(14,921
|
)
|
|
|
(12,115
|
)
|
|
|
(2,806
|
)
|
|
|
|
|
|
|
|
|
|
(2,806
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
40,593
|
|
|
$
|
31,379
|
|
|
$
|
9,214
|
|
|
$
|
548
|
|
$
|
(63
|
)
|
|
$
|
6,896
|
|
|
$
|
1,833
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income increased $9.2 million, or 29%, to $40.6 million for the nine months ended
September 30, 2007 from $31.4 million for the nine months ended October 1, 2006.
Operating income for the Instrumentation and
Thermal Fluid Controls Products segment decreased $2.3 million to $18.7 million compared to the nine months ended October 1, 2006. While revenues increased 9%, operating income declined
27
as our businesses in this segment were hampered by higher raw material costs, especially stainless steel and brass, manufacturing inefficiencies, and costs
to counteract decreased vendor responsiveness and increased litigation costs associated with asbestos-related claims. The French business, Sart, which was sold in December 2006, had recorded a $0.1 million profit for the nine months ended
October 1, 2006.
Operating income for the Energy Products segment increased $14.3 million, or 64% for the nine months ended
September 30, 2007 compared to the nine months ended October 1, 2006. Operating margins increased 360 basis points to 15.4% on a revenue increase of 25%, compared to the nine months of 2006. Its increased operating income benefited from a
higher volume of shipments; price increases to customers; further foreign sourcing that reduced cost of goods sold; as well as the incremental contribution from our 2006 acquisition of Sagebrush.
Interest Expense, Net
Interest
expense, net, decreased $1.1 million to $2.8 million for the nine months ended September 30, 2007 compared to approximately $3.9 million for the nine months ended October 1, 2006. The decrease in interest expense, net was primarily due to
$15.0 million lower outstanding balance of our 8.23% senior unsecured notes that were fully paid in October 2006.
Other Income, Net
Other income, net was $1.4 million for the nine months ended September 30, 2007 compared to $0.4 million for the nine months ended
October 1, 2006. The difference in the amounts of other income for the nine months ended September 30, 2007 was largely the result a $1.6 million gain on sale of an investment in a small European business within our Instrumentation and
Thermal Fluid Control Products segment; in addition, foreign currency fluctuations in the Euro, Canadian dollar and Chinese RMB positively impacted other income.
Provision for Income Taxes
The effective tax rate was 29.0% for the nine months ended
September 30, 2007 compared to 32.0% for the same period of 2006. The rate reduction in 2007 was a result of a third quarter 2007 adjustment related to an enacted change in foreign tax law and lower statutory rates in Germany and the United
Kingdom. The combined impact of those countries tax law and rate changes for the nine months ended September 30, 2007, was a $1.0 million reduction to the income tax provision and a corresponding adjustment to net deferred tax liabilities
and income tax receivables.
Net Income
Net income increased $8.8 million to $27.8 million for the nine months ended September 30, 2007 compared to $18.9 million for the nine months ended October 1, 2006. This increase is primarily attributable
to: increased profitability of our Energy Products segment, incremental contributions from two acquisitions in February 2006, a gain from the sale of a small European business, and lower interest expense partially offset by higher production and
selling costs in our Instrumentation and Thermal Fluid Products segment and higher corporate expenses.
Liquidity and Capital Resources
Our liquidity needs arise primarily from capital investment in machinery, equipment and the improvement of facilities, funding working capital
requirements to support business growth initiatives, acquisitions, dividend payments, and debt service costs. We have historically generated cash from operations. We believe we remain in a strong financial position, with resources available for
reinvestment in existing businesses, strategic acquisitions and managing our capital structure on a short and long-term basis.
The
following table summarizes our cash flow activities for the nine months ended September 30, 2007 (In thousands):