10-K 1 v015268_10k.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K |X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For The Fiscal Year Ended December 31, 2004 OR |_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Number: 0-14659 SIMCLAR, INC. (Exact name of Registrant as specified in its charter) Florida 59-1709103 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 2230 W. 77th Street Hialeah, Florida 33016 (Address of principal executive offices, including zip code) (305) 556-9210 (Registrant's telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.01 par value Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to the filing requirements for at least the past 90 days. Yes |X| No |_| Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. |_| Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes |_| No |X| The aggregate market value of the Registrant's common stock held by non-affiliates of the Registrant was approximately $6,383,435 on June 30, 2004. As of March 15, 2005, the Company had issued and outstanding 6,465,345 shares of its common stock. DOCUMENTS INCORPORATED BY REFERENCE Portions of our Information Statement for the 2005 Annual Meeting of Shareholders are incorporated by reference in Part III. Table of Contents
Page Part I Item 1. Business............................................................... 1 Item 2. Properties............................................................. 17 Item 3. Legal Proceedings...................................................... 18 Item 4. Submission of Matters to a Vote of Security Holders.................... 18 Part II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.................................................... 19 Item 6. Selected Financial Data................................................ 19 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.................................................. 20 Item 7A. Quantitative and Qualitative Disclosure About Market Risk.............. 30 Item 8. Financial Statements and Supplementary Data............................ 30 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure................................................... 30 Item 9A Controls and Procedures................................................ 30 Part III Item 10. Directors and Executive Officers of the Registrant..................... 32 Item 11. Executive Compensation................................................. 32 Item 12. Security Ownership of Certain Beneficial Owners and Management And Related Stockholder Matters ....................................... 32 Item 13. Certain Relationships and Related Transactions......................... 32 Item 14. Fees and Services of Independent Registered Public Accounting Firm..... 32 Part IV Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K........ 34 Signatures ....................................................................... 37 Independent Registered Public Accounting Firm's Report on Supplemental Schedule... S-1 Schedule II - Valuation and Qualifying Accounts................................... S-2
Part I Forward-Looking Statements This document contains certain forward-looking statements that are based upon current expectations and involve certain risks and uncertainties within the meaning of the U.S. Private Securities Litigation Reform Act of 1995. Words or expressions such as "anticipate," "believe," "plan," "expect," "future," "intend," "estimate," "project," or variations of these words as well as similar words or expressions are intended to identify forward-looking statements. Readers should not place undue reliance on the forward-looking statements contained in this document, which apply only as of the date of this report. We undertake no obligation to update the information contained herein. Our actual performance and results could differ materially from those anticipated in these forward-looking statements for many reasons, including, but not limited to economic changes and changes in the electronics manufacturing services industry generally. Key Risk Factors that might cause or contribute to such differences include, but are not limited to, those discussed under the section entitled "Risk Factors" included herein at Page 10. Item 1. Business Introduction Simclar, Inc. ("we," "our," "us," "Simclar" or "the company") is a contract manufacturer of electronic and electro-mechanical products, providing advanced electronics manufacturing services (EMS) to original equipment manufacturers (OEMs). Our products are manufactured to customer specifications and designed for OEMs in the data processing, telecommunications, instrumentation and food preparation equipment industries. Our principal custom-designed products include complex printed circuit boards (PCBs), conventional and molded cables, wire harnesses and electro-mechanical assemblies. In addition, we provide OEMs with value-added, turnkey contract manufacturing services and total systems assembly and integration. We also deliver manufacturing and test engineering services and materials management, with flexible and service-oriented manufacturing and assembly services for our customers' high-tech and rapidly changing products. We were incorporated in Florida in 1976, acquired by Medicore, Inc., our former parent, in 1982, and became a public company in 1985. Effective June 27, 2001, control of our company was acquired by Simclar International Limited, which then transferred its 71.3% ownership of our company to its parent, Simclar Group Limited ("Simclar Group") both of which are private United Kingdom companies. Other companies of the Simclar Group are engaged in the same electronic and electro-mechanical subcontract manufacturing industry as is our company. Effective September 2, 2003, we changed our name from Techdyne, Inc. to Simclar, Inc. Our executive offices are located at 2230 West 77th Street, Hialeah, Florida 33016. Our telephone number is (305) 556-9210. Our common stock is traded on the Nasdaq SmallCap Market (Ticker: SIMC). We maintain an Internet website at http://www.simclar.com, along with other members of the Simclar Group. We make available free of charge on our website links to our annual reports on Form 10-K, our quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to Section 13(a) of the Securities Exchange Act of 1934 (http://www.simclar.com/investor.htm). Information on our website is not incorporated by reference into this report. Additionally, individuals can access our electronically filed reports, proxy statements and other information through the Internet site maintained by the Securities and Exchange Commission at http://www.sec.gov. The public may also read and copy any materials we file with the Securities and Exchange Commission at the SEC's Public Reference Room at 450 Fifth Street, NW, Washington, DC 20549 2 Electronics Manufacturing Services Industry Until 2001, our industry exhibited significant year to year growth, due both to the growth in the overall electronics industry, and the steadily increasing number of OEMs deciding to outsource all or a significant portion of the production of their products. As a result of the general global recession beginning in 2001, and its magnified effect in the computer and telecommunications equipment segments, this recent pattern of growth in our industry was interrupted, and both our company and the industry as a whole experienced a decline in sales starting in 2001 and continuing through the third quarter of 2003. Beginning in the fourth quarter of 2003, our company and the industry began to experience a recovery in sales, which continued through 2004. We are aggressively seeking new business opportunities with existing and new customers, but there is no assurance we will be successful in generating additional sales, particularly in this recessionary segment of the economy. We believe that the fundamental factors contributing to the growth of our industry in past years contributed to the resumption of the pattern of growth in 2004. These factors include increased capital requirements for OEMs to acquire modern, highly automated manufacturing equipment, and their continuing effort to reduce inventory costs and the relative cost advantages of contract manufacturers. Using outsourcing for their production of electronic assemblies also enables OEMs to focus on product development, reduce working capital requirements, and improve inventory management and marketability. We believe OEMs will continue to rely on contract manufacturers, not only for partial component assemblies, but complete turnkey manufacturing of entire finished products. We also believe that OEMs will look more to contract manufacturers to provide a broader scope of value-added services, including manufacturing, engineering and test services. We assist our customers from initial design and engineering through materials procurement, to manufacturing of the complete product and testing. Involving contract manufacturers earlier in the manufacturing process through "concurrent engineering" allows OEMs to realize greater efficiencies and gives contract manufacturers greater impact in product design, component selection, production methods and the preparation of assembly drawings and test schematics. This process also gives the customer the ability to draw upon our manufacturing expertise at the outset and minimize manufacturing bottlenecks. Another factor which will continue to lead OEMs to utilize contract manufacturers is reduced time-to-market. Due to the intense competition in the electronics industry, OEMs are faced with increasingly shorter product life-cycles which pressure them to reduce time constraints in bringing a product to market. This reduction can be accomplished by using a contract manufacturer's established manufacturing expertise with its sophisticated, technically advanced and automated manufacturing processes. We believe that this, coupled with the elements discussed above, such as reduced production costs through economies of scale in materials procurement, improved inventory management, access to our manufacturing technology, engineering, testing and related expertise, will motivate OEMs to work with electronic contract manufacturers such as us. Business Strategy We believe that the cost reductions and restructuring of our operations that we made in 2001 and 2002 in response to the continued economic downturn put us in a better position to compete when the economy and our industry recovered. We also believe that our alliance with Simclar Group will allow us to expand our customer base, broaden our product lines and provide greater efficiencies in equipment, supplies, labor and manufacturing processes, both domestically and internationally. In response to industry trends, particularly in view of constantly changing and improving technology and, therefore, shorter product life cycles, we focus on product development and marketing in order to become a competitive provider of electronic contract manufacturing services for OEM customers. We continue to seek to develop strong, long-term alliances with major-growth OEMs 3 of complex, market leading products. We believe that creating and maintaining long-term relationships with customers requires providing high quality, cost-effective manufacturing services marked by a high degree of customer responsiveness and flexibility. Therefore, our strategy is to focus on leading manufacturers of advanced electronic products that generally require custom-designed, more complex interconnect products and short lead-time manufacturing services. In 2005, we will also continue to target large contract manufacturers as potential customers. We strive to build on our integrated manufacturing capabilities, final system assemblies and testing. In addition to PCBs, our custom cable assembly capabilities provide us with further opportunities to leverage our vertical integration and to provide greater value added services and be more competitive. In addition, vertical integration provides us with greater control over quality, delivery and cost. To further satisfy customer needs, we develop long-term customer relationships by using our state-of-the-art technology to provide timely and quick-turnaround manufacturing and comprehensive support for materials purchases and inventory control. Through our use of electronic data interchange technology (EDI), the customer is able to convey its inventory and product needs on a weekly basis based on a rolling quantity forecast. More emphasis is placed on value-added turnkey business for the manufacture of complete finished assemblies. This is accomplished with extended technology, continuous improvement of our processes, and our early involvement in the design process using our computer-aided design system. We believe that we can develop closer and more economically beneficial relationships with our customers through our geographically diverse manufacturing and assembly operations, presently located in Florida, Texas, Massachusetts, Ohio and Mexico. Our diverse locations have multiple advantages by helping satisfy costs, timely deliveries and local market requirements of our customers. We will continue to pursue expansion in different markets to better serve existing customers and to obtain additional new customers. In alliance with Simclar Group, we anticipate experiencing growth and the ability to increase our global presence and competitive position. Products and Services We manufacture approximately 850 products, including complete turnkey finished products, sub-assemblies, molded and non-molded cable assemblies, wire harnesses, PCBs, injection molded and electronic assembly products, for over 100 OEM customers. Printed Circuit Boards PCB assemblies are electronic assemblies consisting of a basic printed circuit laminate with electronic components including diodes, resistors, capacitors and transistors, inserted and wave soldered. PCBs may be used either internally within the customer's products or in peripheral devices. The PCBs produced by the company include pin-through-hole assemblies, low and medium volume surface mount technology assemblies, and mixed technology PCBs, which include multilayer PCBs. In pin-through-hole assembly production, electronic components with pins or leads are inserted through pre-drilled holes in a PCB and the pins are soldered to the electrical surface of a PCB. In surface mount technology production, electronic components are attached and soldered directly onto the surface of a circuit board, rather than inserted through holes. Surface mount technology components are smaller so they can be spaced more closely together and, unlike pin-through-hole components, surface mount technology components can be placed on both sides of a PCB. This allows for product miniaturization, while enhancing the electronic properties of the circuit. Surface mount technology manufacturing requires substantial capital investment in expensive, automated production equipment, which requires high usage. We are utilizing computerized testing systems in order to verify that all components have been installed properly and meet certain functional standards, that the electrical circuits have been properly completed, and that the PCB assembly will perform its intended functions. 4 In 1997, we acquired Lytton Incorporated ("Lytton"), whose Ohio operations, with six automated lines, are more focused on PCB manufacturing, primarily for the food preparation equipment industry. This expansion resulted in PCB manufacturing yielding approximately 52% and 68% of our sales revenues in 2004 and 2003, respectively. Lytton was merged into Simclar effective August 13, 2003. In July, 2003, we acquired all of the outstanding stock of AG Technologies, Inc. (now Simclar (Mexico), Inc.) which operates a manufacturing facility in Matamoros, Mexico, and which we currently operate through an indirect, wholly-owned subsidiary, Simclar de Mexico, S.A. de C.V. This Matamoros facility provides PCB manufacturing capacity similar to our Ohio facility, but enables us to compete more effectively on medium and higher volume PCB orders. Additional contract manufacturing capabilities were added with the opening of a second Matamoros facility in January 2005. Simclar (Mexico) is an international value added provider of comprehensive electronic manufacturing services to OEM's serving the automotive, industrial controls, medical and power equipment industries. Simclar (Mexico)'s Mexican facilities enable us to be competitive in the higher volume arena for assembly in North America. Cable and Harness Assemblies A cable is an assembly of electrical conductors insulated from each other, twisted around a central core and jacketed. Cables may be molded or non-molded. Simclar offers a wide range of custom manufactured cable and harness assemblies for molded and mechanical applications. These assemblies include multiconductor, ribbon, co-axial cable, and discrete wire harness assemblies. We use advanced manufacturing processes, in-line inspection and computerized automated test equipment. We maintain a large assortment of standard tooling for D-Subminiature, DIN connectors and phono connectors. D-Subminiatures are connectors which are over-molded with the imprint of the customer's name and part number. DIN connectors are circular connectors consisting of two to four pairs of wires used for computer keyboards. Flat ribbon cable or ribbon cable assemblies are cables with wires (conductors) on the same plane with connectors at each end. Flat ribbon cables are used in computer assemblies and instrumentation. Discrete cable assemblies are wires with contacts and connectors. Harnesses are prefabricated wiring with insulation and terminals ready to be attached to connectors. Our cable sales comprised approximately 30% and 27% of total sales revenue for 2004 and 2003, respectively. Contract Manufacturing Contract manufacturing involves the manufacture of complete finished assemblies with all sheet metal, power supplies, fans, PCBs as well as complete sub-assemblies for integration into an OEM's finished products, such as speaker and lock-key assemblies and diode assemblies that consist of wire, connectors and diodes that are over-molded, packaged and bar coded for distribution. These products can be totally designed and manufactured by the company through our computer-aided design system, engineering and supply procurement. We develop manufacturing processes and tooling, and test sequences for new products of our customers. We provide design and engineering services in the early stages of product development, thereby assuring mechanical and electrical considerations are integrated with a total system. Alternatively, the customer may provide specifications and we will assist in the design and engineering or manufacture to the customer's specifications. In January, 2005, we opened a second manufacturing facility in Matamoros, Mexico, providing additional capability to process soft-tooled sheet metal fabrication and finishing. Further expansion phases will include hard-tooled sheet metal fabrication, along with plastic injection molding, and overmolding for more complex cable and harness manufacturing. 5 Reworking and Refurbishing Customers provide us with materials and sub-assemblies acquired from other sources, which the customer has determined require modified design or engineering changes. We redesign, rework, refurbish and repair these materials and sub-assemblies. Contract manufacturing, reworking and refurbishing together amounted to approximately 19% and 5% of sales for 2004 and 2003 respectively. We believe that contract manufacturing could provide us with substantial increases in revenues over the next few years. Our affiliation with Simclar Group gives us access to a larger customer base and the ability to handle large customers both in the USA and Europe. Manufacturing We manufacture components and products that are custom designed and developed to fit specific customer requirements and specifications. Such service includes computer integrated manufacturing and engineering services, quick-turnaround manufacturing and prototype development, materials procurement, inventory management, developing customer oriented manufacturing processes, tooling and test sequences for new products from product designs received from our customers or developed by Simclar from customer requirements. Our industrial, electrical and mechanical engineers work closely with our customers' engineering departments from inception through design, prototypes, production and packaging. We evaluate customer designs and, if appropriate, recommend design changes to improve the quality of the finished product, reduce manufacturing costs or other necessary design modifications. Upon completion of engineering, we produce prototype or preproduction samples. Materials procurement includes planning, purchasing and warehousing electronic components and materials used in the assemblies and finished products. Our engineering staff reviews and structures the bill of materials for purchase, coordinates manufacturing instructions and operations, and reviews inspection criteria with the quality assurance department. The engineering staff also determines any special capital equipment requirements, tooling and dies, which must be acquired. We attempt to develop a "partnership" relationship with many of our customers by providing a responsive, flexible, total manufacturing service. We have "supplier partnerships" with certain customers pursuant to which we must satisfy in-house manufacturing requirements of the customer that are based on the customer's need on a weekly basis based on a rolling quarterly forecast. Our PCB assembly operations are geared toward advanced surface mount technology. We provide the PCB production through state-of-the-art manufacturing equipment and processes and a highly trained and experienced engineering and manufacturing workforce. We also offer a wide range of custom manufactured cables and harnesses for molded and mechanical applications. We use advanced manufacturing processes, in-line inspection and testing to focus on process efficiencies and quality. The cable and harness assembly process is accomplished with automated and semi-automated preparation and insertion equipment and manual assembly techniques. Finished turnkey assemblies include the entire manufacturing process from design and engineering to purchasing raw materials, manufacturing and assembly of the component parts, testing, packaging and delivery of the finished product to the customer. By contracting assembly production, OEMs are able to keep pace with continuous and complex technological changes and improvements by making rapid modifications to their products without costly retooling and without any extensive capital investments for new or altered equipment. At our Hialeah, Florida, Round Rock, Texas, and Matamoros, Mexico facilities, we maintain modern state-of-the-art equipment for crimping, stripping, terminating, soldering, sonic welding and sonic cleaning which 6 permits us to produce conventional and complex molded cables. We also maintain a large assortment of standard tooling. New manufacturing jobs may require new tooling and dies, but most presses and related equipment are standard. Supplies and Materials Management Materials used in our operations consist of metals, electronic components such as cable, wire, resistors, capacitors, diodes, memory products, PCBs and plastic resins. The company procures components from a select group of vendors which meet our standards for timely delivery, high quality and cost effectiveness. In order to control inventory investment and minimize material obsolescence, components are generally ordered when we have a purchase order or commitment from our customer for the completed assembly. We use Enterprise Resource Planning (ERP) management technologies and manage our material pipelines and vendor base to allow our customers to increase or decrease volume requirements within established frameworks. We have Visual Manufacturing, Symix and Made 2 Manage computerized software systems providing us with material requirements planning, purchasing, and sales and marketing functions. In mid-2004 we initiated a program whereby we will consolidate the majority of our electronics material "spend" with that of the entire Simclar Group, and quote and initiate contracts to the most competitive suppliers, with the result that we will benefit again by our affiliation with the larger Simclar Group. To date this program is ongoing, and the results are not yet quantifiable. See "Business Strategy" above and Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations." We have improved our overall efficiency of manufacturing, particularly in the area of inventory management, including purchasing, which is geared more closely to current needs resulting in reduced obsolescence problems. We have recently experienced minor disruptions from shortages of materials or delivery delays from suppliers, but we believe that our present sources and the availability of our required materials are adequate. See Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations." Quality and Process Control All of our manufacturing locations are certified under the ISO 9001/2000 quality assurance designation. These quality assurance designations are only provided to those manufacturers which exhibit stringent quality and process control assurances after extensive evaluation and auditing by these independent quality assurance organizations. Quality control is essential to the company's operations since customers demand strict compliance with design and product specifications, and high quality production is a primary competitive standard vital to our services. Product components, assemblies and sub-assemblies manufactured by the company are thoroughly inspected visually and electronically to ensure all components are made to strict specifications and are functional and safe. Strict process controls relating to the entire manufacturing process are part of our standard operating procedure. Over the years, our product and manufacturing quality have received excellent ratings. Total quality, timely delivery and customer satisfaction is our philosophy. High levels of quality in every area of our operations are essential. Quality standards are established for each operation, performance tracked against those standards, and identifying workflow and implementing necessary changes to deliver higher quality levels. We maintain regular contact with our customers to ensure adequate information exchange and other activities necessary to ensure customer satisfaction and to support our high level of quality and on-time delivery. Any adverse change in our quality and process controls could adversely affect our relationships with customers and ultimately our revenues and profitability. 7 Customers We serve a wide range of businesses, from emerging growth companies to multinational OEMs, involved in a variety of markets including computer networking systems, computer workstations, telecommunications, mass data storage systems, instrumentation and food preparation equipment industries. A significant portion of our revenues is distributed over the following industry segments: Year Ended December 31, ------------------------------------- 2004 2003 2002 ---------- ---------- ---------- Food preparation equipment 18% 23 % 37 % Data processing 26% 24 % 23 % Telecommunications 12% 14 % 9 % Military and government 5% 9 % 8 % Instrumentation 15% 11 % 4 % Power equipment 15% 13 % --- % We seek to serve a sufficiently large number of customers to avoid dependence on any one customer or industry. Nevertheless, historically a substantial percentage of our net sales have been to multiple locations of a small number of customers. Significant reductions or delays in sales to any of those major customers would have a material adverse effect on our results of operations. In the past, certain of our customers have terminated their manufacturing relationship with us, or significantly reduced their product orders. We cannot assure you that any of our major customers will not terminate or significantly reduce or delay manufacturing orders, any of which such terminations or changes in manufacturing orders could have a material adverse effect on our results of operations. We depend upon the continued growth, viability and financial stability of our customers, who in turn substantially depend on the growth of the personal computer, computer peripherals, communications, instrumentation, data processing and food preparation equipment industries. Most of these industries have been characterized by rapid technological change, short product life cycles, pricing and margin pressures. In addition, many of our customers in these industries are affected by general economic conditions. The factors affecting these industries in general, and/or our customers in particular, could have a material adverse effect on our results of operations. In addition, we generate significant accounts receivable in connection with providing manufacturing services to our customers. If one or more of our customers were to become insolvent or otherwise were unable to pay us for manufacturing services we have provided, our operating results and financial condition would be adversely affected. In 2004, 43% of our sales were made to numerous locations of five major customers. The table below sets forth the respective portion of sales for the applicable period attributable to customers and related suppliers who accounted for more than 10% of our sales in any respective period. Percentage of Sales 2004 2003 2002 -------- -------- -------- ITW Food Equipment Group 17% 22% 36% Marketing and Sales We are continually pursuing expansion and diversification of our customer base. We are seeking to develop long term relationships by working closely with customers, starting with the initial product design and development stage, and continuing throughout the manufacturing and distribution process. Our principal sources of new business are the expansion in the volume and scope of services provided to existing customers, referrals from customers and suppliers, direct sales through our sales managers and executive staff, and through independent sales representatives. Our operations generate sales through five regional sales 8 managers covering the Northeast, Southeast, West and Southwest regions of the United States, as well as parts of Mexico. There are 13 in-house sales/marketing personnel in the United States. In addition to sales through sales representatives and in-house sales personnel, sales are also generated through our website at http://www.simclar.com and through catalogues, brochures and trade shows. The independent manufacturer sales representatives, primarily marketing electronic and similar high-technology products, are retained under exclusive sales representative agreements for specific territories and are paid on a commission basis. Unless otherwise approved by Simclar, the sales representatives cannot represent any other person engaged in the business of manufacturing services similar to those of the company, nor represent any person who may be in competition with us. The agreements further prohibit the sales representative from disclosing trade secrets or calling on our customers for a period of six months to one year from termination of their agreement. Substantially all of our sales and reorders are effected through competitive bidding. Most sales are accomplished through purchase orders with specific quantity, price and delivery terms. Some production, such as for our Kanban and Pull programs, is accomplished under open purchase orders with components released against customer request. Backlog At December 31, 2004 and 2003, our backlog of orders amounted to approximately $13,652,000 and $11,252,000, respectively. Based on past experience and relationships with our customers and knowledge of our manufacturing capabilities, we believe that most of our backlog orders are firm and should be filled within six months. Most of the purchase orders within which the company performs do not provide for cancellation. Over the last several years, cancellations have been minimal and management does not believe that any significant amount of the backlog orders will be cancelled. However, based upon relationships with our customers, we occasionally allow cancellations and frequently the rescheduling of deliveries. The variations in the size and delivery schedules of purchase orders received by the company may result in substantial fluctuations in backlog from period to period. Since orders and commitments may be rescheduled or cancelled, and customers' lead times may vary, backlog does not necessarily reflect the timing or amount of future sales. Patents and Trademarks We do not have nor do we rely on patents or trademarks to establish or protect our market position. Rather, we depend on design, engineering and manufacturing, cost containment, quality, and marketing skills to establish or maintain market position. Seasonality Our business is not seasonal. Competition Simclar is a part of highly competitive electronic manufacturing services industry. We face competition from divisions of large electronics and high-technology firms, as well as numerous smaller specialized companies. Certain competitors may have broader geographic coverage and competitive price advantage based on their less expensive offshore operations, particularly in the Far East. Many of our competitors are larger and more geographically diverse and have greater financial, manufacturing and marketing resources than we have. Our main competitors in the PCB area include Vickers Electronics Systems, Diversified Systems, Inc., Epic Technologies, Inc., and others. We have numerous competitors in the cable and harness assembly market, including Volex Interconnect Systems, Inc., and Foxconn. 9 We believe that we are favorably positioned with regard to primary competitive factors - price, quality of production, manufacturing capability, prompt customer service, timely delivery, engineering expertise, and technical support. We also believe that our affiliation with Simclar Group enhances our competitive position internationally. However, recent consolidation trends in the electronic manufacturing services industry are resulting in changes in the competitive landscape. Increased competition could result in lower priced components and lower profit margins, or loss of customers, which could have a material adverse effect on our business, financial condition and results of operations. Compared to manufacturers who have greater direct buying power with component suppliers or who have lower cost structures, we may be operating at a cost disadvantage. Due to the number and variety of competitors, reliable data reflective to our competitive position in the electronic components and assembly industry is difficult to develop and is not known. Research and Development We spend limited amounts on research and development efforts. Our products are generally manufactured to customer specifications. Governmental Regulation Our operations are subject to certain federal, state and local regulatory requirements relating to environmental waste management and health and safety matters. We believe that we comply with applicable regulations pertaining to health, safety and the use, storage and disposal of materials that are considered hazardous waste under applicable law. To date, our costs for compliance and governmental permits and authorizations have not been material. However, additional or modified requirements that may require substantial additional expenditures may be imposed in the future. Employees We presently have 291 employees located in our U.S. facilities and 258 employees located at our Mexican facilities; 108 of our employees are employed as part time or temporary help. Approximately 457 of our employees are engaged in manufacturing, quality assurance, related operations and support activities, 42 are in material handling and procurement, 17 are in sales and marketing, 16 are in engineering, and 17 are in administrative, accounting and support activities. We have no unions in our U. S. facilities, but have two unions in our Matamoros facilities. We believe that our relationships with our employees, both union and non-union, are good. Risk Factors This Report contains forward-looking statements that involve risks and uncertainties. Our actual results may differ significantly from the prospects discussed in the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those listed below. The loss of a major customer would adversely affect us A substantial percentage, approximately 43% of our sales for the year ended December 31, 2004, has been to five customers, the loss of any of which would adversely affect us. A substantial portion of our sales (17%) is with one major customer, Illinois Tool Works (formerly PMI Foods Equipment Group) ("ITW"). There are no long-term contracts with any customer. Substantially all of our sales and reorders are subject to competitive bids. Sales are dependent on the success of our customers, some of which operate in businesses associated 10 with rapid technological change, vigorous competition, short product life cycles, and pricing and margin pressures. Additionally, certain of the industries served by us are subject to economic cycles and have in the past experienced, and are likely in the future to experience, recessionary periods. Developments adverse to our major customers or their products could have an adverse effect on us. A variety of conditions, both specific to each individual customer and generally affecting each customer's industry, may cause customers to cancel, reduce or delay purchase orders and commitments without penalty, except for payment for services rendered, materials purchased and, in certain circumstances, charges associated with such cancellation, reduction or delay. In addition, we generate large accounts receivable in connection with our providing of electronic contract manufacturing. If one or more of our customers experiences financial difficulty and is unable to pay for the services provided by us, our operating results and financial condition would be adversely affected. We expect to continue to depend on sales to a limited number of major customers. Secured loans - existence of liens on certain assets All of our assets have been pledged as collateral for two bank loans. In October 2004, we entered into two amended credit facilities with Bank of Scotland in Edinburgh, Scotland consisting of a $5,000,000 working capital facility and a term loan facility in the amount of $5,650,000. Interest on the working capital facility accrues at an annual rate equal to LIBOR plus 1.5%, plus an amount, rounded to the nearest eighth of a percent, to cover any increases in certain regulatory costs incurred by the bank. The company may elect to pay interest on advances every one, three or six months, with LIBOR adjusted to correspond to the interest payment period selected by the company. The company elected the three-month interest period at 3.8% until January 24, 2005, and after this date the rate is 4.17% until April 24, 2005. This facility had an outstanding balance of $2,980,000 at December 31, 2004, and expires September 30, 2005. The term loan of $5,650,000 is divided into two tranches. The principal of Tranche A ($4,250,000) is repayable in quarterly installments of $250,000 in October, January, April and July of each year from 2004 through 2008, with the final payment due in October 2008. The principal of Tranche B ($1,400,000) is payable in twenty-eight equal quarterly installments of $50,000, with the first installment payable on January 20, 2005. The term loan bears interest, and interest is payable, on the same terms as under the working capital facility. The term loan had an outstanding balance of $5,400,000 at December 31, 2004. Our credit facilities impose operational and financial restrictions on us Our credit facilities with the Bank of Scotland, which include an Amended Term Loan Facility Letter, an Amended Working Capital Facility Letter, an Amended and Restated General Security Agreement, an Amended and Restated Pledge Agreement, a Mortgage and a Guaranty, in addition to subjecting all our assets as security for the bank financing, include substantial covenants that impose significant restrictions on us, including, among others, requirements that: o the facilities take priority over all our other obligations; o we must maintain sufficient and appropriate insurance for our business and assets; o we must maintain all necessary licenses and authorizations for the conduct of our business; o we indemnify the bank against all costs and expenses incurred by it which arise as a result of any actual or threatened (i) breach of environmental laws; (ii) release or exposure to a dangerous substance at or from our premises; or (iii) claim for an alleged breach of environmental law or remedial action or liability under such environmental law which could have an adverse material effect; o if environmental harm has occurred to our property securing the credit facility, we have to ensure we were not responsible for the harm, and we have to be aware of the person responsible and its financial condition; and o a variety of pension and benefit plans and ERISA issues, including, among others, requiring us to notify the bank of (i) material adverse changes in the financial condition of any such plan; (ii) increase in benefits; (iii) establishment of any new plan; (iv) grounds for termination of any plan; and (v) our affiliation with or 11 acquisition of any new ERISA affiliate that has an obligation to contribute to a plan that has an accumulated funding deficiency. In addition, our credit facilities require us to maintain: o consolidated adjusted net worth greater than $11,000,000; o a ratio of consolidated assets to consolidated net borrowing not less than 1.75 to 1; o a ratio of consolidated trade receivables to consolidated net borrowing of not less than .75 to 1; and o a ratio of consolidated net income before interest, income taxes and extraordinary items to total consolidated interest costs of not less than 2 to 1. Finally, without the prior written consent of the Bank of Scotland, our credit facilities prohibit us from: o granting or permitting a security agreement against our consolidated assets except for permitted security agreements; o declaring or paying any dividends or making any other payments on our capital stock; o consolidating or merging with any other entity or acquiring or purchasing any equity interest in any other entity, or assuming any obligations of any other entity, except for notes and receivables acquired in the ordinary course of business; o incurring, assuming, guaranteeing, or remaining liable with respect to any indebtedness, except for certain existing indebtedness disclosed in our financial statements; o undertaking any capital expenditures in excess of $1,000,000 in any one fiscal year; o effecting any changes in ownership of our company; o making any material change in any of our business objectives, purposes, operation or taxes; and o incurring any material adverse event in business conditions as defined by the Bank. Our ability to comply with these provisions may be affected by changes in our business condition or results of our operations, or other events beyond our control. The breach of any of these covenants would result in a default under our debt. At December 31, 2004, the company was not in compliance with one of these covenants as a result of having capital expenditures for the year 2004 in excess of the $1,000,000 limit specified in the covenant. However, we obtained from the Bank a waiver of the non-compliance, and we believe that we will remain in compliance with our covenants for the remainder of 2005, but there can be no assurance that defaults in this or other covenants will not occur in the future, nor can there be any assurance that our lender will waive future covenant violations. A default in the covenants would permit our lender to accelerate the maturity of our credit facilities and to sell the assets securing them, which could cause us to cease operations or seek bankruptcy protection. Our indebtedness requires us to dedicate a substantial portion of our cash flow from operations to payments on our debt, which could reduce amounts for working capital and other general corporate purposes. The restrictions in our credit facility could also limit our flexibility in reacting to changes in our business and increases our vulnerability to general adverse economic and industry conditions. We operate in a highly competitive industry and our business may be harmed by competitive pressures Manufacturing and assembly of electro-mechanical and electronic components is a highly competitive industry characterized by a diversity and sophistication of products and components. We compete with major electronics firms that have substantially greater financial and technical resources and personnel than we do. We also face competition from many smaller, more specialized companies. We believe the primary competitive factors are pricing, quality of production, prompt customer service, timely delivery, engineering expertise, and technical 12 assistance to customers. Among this mix of competitive standards, we believe we are competitive with respect to delivery time, quality, price and customer service. Price sensitivity becomes a paramount competitive issue in recessionary periods, and we may be at a competitive disadvantage with manufacturers with a lower cost structure, particularly off-shore manufacturers with lower labor and related production costs. To compete effectively, we must also provide technologically advanced manufacturing services, and respond flexibly and rapidly to customers' design and schedule changes. Our inability to do so could have adverse effects on us. Customers in our industry are price-sensitive and, particularly in the recent economic downturn, there is substantial pressure from customers to reduce our prices. Our ability to remain competitive depends on our ability to meet these customer and competitive price pressures while protecting our profit margins. We have been engaged in and will have to continue cost reductions in overhead, manufacturing processes, and equipment retooling, while maintaining product flow, inventory control, and just-in-time shipping to our customers. If we are unable to accomplish these factors, we will not be competitive, and our business and operating results will be adversely impacted. Our revenues are contingent on the health of the industries we serve We rely on the continued growth and financial stability of our customers who operate in the following industry segments: o food preparation equipment; o data processing; o telecommunications; o instrumentation; and o military and government. These industry segments, to a varying extent, are subject to dynamic changes in technology, competition, short product life cycles, and economic recessionary periods. When our customers are adversely affected by these factors, we may be similarly affected. Manufacture of electronic and electro-mechanical products, particularly designed for OEMs and manufactured to custom specifications, is cyclical, and demand for our products may decline Our business depends substantially on both the volume of electronic and electro-mechanical production by OEMs in the data processing, telecommunications, instrumentation and food preparation industries, and new specifications and designs for these OEMs. These industries have been cyclical over the years, and have experienced oversupply as well as significantly reduced demand, as we have experienced in recent years. An economic downturn can result in lower capacity utilization of our manufacturing operations and a shift in product mix toward lower margin assemblies. Changes in economic conditions and demand can result in customer rescheduling of orders and shipments, which affect our results of operations. Moreover, our need to invest in engineering, marketing, and customer services and support capabilities will limit our ability to reduce expenses, as we would attempt to do, in response to such downturns. We do not have long-term contracts with customers, and cancellations, reductions or delays in orders affect our profitability We do not typically obtain firm long-term contracts from our customers. Instead, we work closely with our customers to develop forecasts for upcoming orders, which are not binding, in order to properly schedule inventory and manufacturing. Our customers may alter or cancel their orders or demand delays in production for a number of reasons beyond our control, which may include: o market demand for products; o change in inventory control and procedures; 13 o acquisitions of or consolidations among competing customers; o electronic design and technological advancements; and o recessionary economic environment. Any one of these factors may significantly change the total volume of sales and affect our operating results, in times of a recessionary environment and reduced demand for our customers' products and in turn, our products and services. In addition, since much of our costs and operating expenses are relatively fixed, a reduction in customer demand would adversely affect our gross margins and operating income. Although we are always seeking new business and customers, we cannot be assured that we will be able to replace deferred, reduced or cancelled orders. Shortages of components specified by our customers would delay shipments and adversely affect our profitability Substantially all of our sales are derived from electro-mechanical and subcontract electronic manufacturing in which we purchase components specified by our customers. Industry-wide shortages of electronic components, particularly components for PCB assemblies, have occurred. We did not experience any substantial supply shortages in 2002 or 2003, but experienced some shortages in 2004, which may increase as the world economy continues to recover and demand for electronic products increases. Should our industry experience a rapid recovery, shortages of components mostly likely will occur, and we may be forced to delay shipments, which could have an adverse effect on our profit margins and customer relations. Because of the continued increase in demand for surface mount components, we anticipate component shortages and longer lead times for certain components to occur from time to time. Also, we typically bear the risk of component price increases that occur, which accordingly could adversely affect our gross profit margins. At times, we are forced to purchase components beyond customer demand on items which are in short supply. To the extent there is less customer demand or cancellations, we could have increased obsolescence. Technological developments, satisfying customer designs and production requirements, quality and process controls are factors impacting our operations Our existing and future operations are and will be influenced by several factors, including technological developments, our ability to efficiently meet the design and production requirements of our customers, our ability to control costs, our ability to evaluate new orders to target satisfactory profit margins, and our capacity to develop and manage the introduction of new products. We also may not be able to adequately identify new product trends or opportunities, or respond effectively to new technological changes. Quality control is also essential to our operations, since customers demand strict compliance with design and product specifications. Any deviation from our quality and process controls would adversely affect our relationship with customers, and ultimately our revenues and profitability. Our operating results are subject to annual and quarterly fluctuation which could negatively impact our stock prices There are a number of factors, beyond our control, that may affect our annual and quarterly results. These factors include: o the volume and timing of customer orders; o changes in labor and operating prices; o fluctuations in material cost and availability; o changes in domestic and international economies; o timing of our expenditures in anticipation of future orders; o increase in price competition, and competitive pressures on delivery time and product reliability; 14 o changes in demand for customer products; o the efficiency and effectiveness of our automated manufacturing processes; o market acceptance of new products introduced by our customers; and o uneven seasonal demands by our customers. Any one or combination of these factors can cause an adverse effect on our future annual and quarterly financial results. Fluctuations in our operating results could materially and adversely affect the market price of our common stock. Environmental laws may expose us to financial liability and restrictions on operations We are subject to a variety of federal, state and local laws and regulations relating to environmental, waste management, and health and safety concerns, including the handling, storage, discharge and disposal of hazardous materials used in or derived from our manufacturing processes. Proper waste disposal is a major consideration for printed circuit board manufacturers, which is a substantial part of our business, since metals and chemicals are used in our manufacturing process. Environmental controls are also essential in our other areas of electronic assembly. If we fail to comply with such environmental laws and regulations, then we could incur liabilities and fines and our operations could be suspended. This could also trigger indemnification of our lender under our credit facilities, as well as being deemed a default under such credit facilities. See "Our credit facilities impose operational and financial restrictions on us" above. Such laws and regulations could also restrict our ability to modify or expand our facilities, could require us to acquire costly equipment, or could impose other significant capital expenditures. In addition, our operations may give rise to claims of property contamination or human exposure to hazardous chemicals or conditions. Although we have not incurred any environmental problems in our operations, there can be no assurance that violations of environmental laws will not occur in the future due to failure to obtain permits, human error, equipment failure, or other causes. Furthermore, environmental laws may become more stringent and impose greater compliance costs and increase risks and penalties for violations. Simclar Group controls over 73% of our common stock and the affairs of our company Simclar Group owns 73.4% of our outstanding common stock. Our common stock does not provide for cumulative voting, and therefore, the remaining shareholders, other than Simclar Group, will be unable to elect any directors or have any significant impact in controlling the business or affairs of our company. The concentration of ownership with Simclar Group may also have the effect of delaying, deterring or preventing a change in control of our company, and would make transactions relating to our operations more difficult or impossible without the support of Simclar Group. Also, since we are a "controlled company" for purposes of the Nasdaq Stock Market's corporate governance requirements, we are not required to comply with the provisions requiring that a majority of listed company directors be independent, the compensation of our executives to be determined by independent directors or nominees for election to our board of directors to be selected by independent directors. The price of our shares is volatile The market price of our common stock has substantially fluctuated in the past. The market price of our common stock has been as high as $6.65 in the fourth quarter of 2004 to as low as $.52 in the fourth quarter of 2002. Our common stock has limited trading volume, and it closed at $3.79 on March 15, 2005. There are a variety of factors which contribute to the volatility of our common stock. These factors include domestic and international economic conditions, stock market volatility, our reported financial results, fluctuations in annual and quarterly operating results, and general conditions 15 in the contract manufacturing and technology sectors. Announcements concerning our company and competitors, our operating results, and any significant amount of shares eligible for future sale may also have an impact on the market price of our common stock. As a result of these factors, the volatility of our common stock prices may continue in the future. We have not declared dividends, and our credit facilities prohibit us from paying dividends without written consent from our lender Under Florida corporate law, holders of our common stock are entitled to receive dividends from legally available funds, when and if declared by our board of directors. We have not paid any cash dividends, and our board of directors does not intend to declare dividends in the foreseeable future. Our future earnings, if any, will be used to finance our capital requirements, repay bank borrowings and fund our operations. Our credit facilities prohibit us from paying any dividends without the written consent of the lender or making any other payments on our capital stock without the written consent of the lender. There can be no assurance that the lender will provide such consent. Possible delisting of our stock Our common stock trades on the Nasdaq SmallCap Market. There are certain qualitative and quantitative criteria for continued listing on the Nasdaq SmallCap Market, known as continued listing requirements. Failure to satisfy any one of these continued listing requirements could result in our securities being delisted from the Nasdaq SmallCap Market. These criteria include at least two active market makers, maintenance of $2,500,000 of stockholders' equity (or alternatively, $35,000,000 in market capitalization or $500,000 in net income from operations in the latest fiscal year or 2 of the last 3 fiscal years), a minimum bid price for our common stock of $1.00, and at least 500,000 publicly held shares with a market value of at least $1,000,000, among others. Continued listing also requires compliance with the Nasdaq Stock Market's corporate governance listing criteria. Usually, if a deficiency occurs for a period of 30 consecutive trading days (10 consecutive trading days for failure to satisfy the minimum market capitalization requirement), the particular company is notified by Nasdaq and has a grace period in which to achieve compliance. If the company is unable to demonstrate compliance after the expiration of any applicable grace period, the security is subject to delisting. The security might be able to trade on the Nasdaq OTC Bulletin Board, a less transparent trading market which may not provide the same visibility for the company or liquidity for its securities, as does the Nasdaq SmallCap Market. As a consequence, an investor may find it more difficult to dispose of or obtain prompt quotations as to the price of our securities, and may be exposed to a risk of decline in the market price of our common stock. The Nasdaq SmallCap Market requires that we maintain a minimum market value of public float of $1,000,000 for continued listing. The publicly trading shares, exclusive of any affiliate ownership, which is the float for our common stock, is approximately 1,632,725 shares, and as the closing price of our shares on March 15, 2005 was $3.79, we currently satisfy that maintenance requirement. Our common stock has traded as low as $.52 in the fourth quarter of 2002, and has limited trading volume. There is the risk of being delisted from the Nasdaq SmallCap Market should our common stock fail to maintain a minimum bid price of $1.00 per share for 30 consecutive days, or we fail to meet other continued listing requirements. During 2004 we were notified by Nasdaq of a failure to meet its qualitative listing requirements due to the failure of our audit committee to comply with the independence criteria, although the company was able to correct this deficiency before further action by Nasdaq. Continued satisfaction of certain of the Nasdaq SmallCap continued listing requirements is beyond our control. There is no assurance that we will continue to satisfy the continued listing maintenance criteria, which, without a timely cure, could cause our securities to be delisted from the Nasdaq SmallCap Market. 16 Item 2. Properties The following chart summarizes the principal properties leased by the company:
Space Property Term ----- -------- ---- 16,000 sq. ft. 2230 W 77th St. 10 yrs. to August 31, 2010 (exec. offices, mfg.) Hialeah, FL 12,000 sq. ft. 2230 W 77th St. 10 yrs. to August 31, 2010 (mfg., warehouse) Hialeah, FL 5,500 sq. ft. 171 Commonwealth Ave. 3 yrs. to March 31, 2008 (mfg., offices) Attleboro, MA 18,225 sq. ft. 800 Paloma Dr. 1 yr. to May 31, 2005 (mfg., office, warehouse) Round Rock (Austin), TX(1) 16,000 sq. ft. 2685 N. Coria Month to month (office, warehouse) Brownsville, TX 37,919 sq. ft. Parque Industrial CYLSA 5 yrs. to July 15, 2006 (mfg., office, warehouse) Matamoros, Mexico 55,524 sq. ft. Parque Industrial CYLSA 13 yrs. to October 31, 2017 (mfg., office, warehouse) Matamoros, Mexico
(1) 3,000 square feet of this location is sub-leased to Champion Temporaries, Inc. In October, 2004, we exercised an option to purchase for $1,400,000 a 77,800 square foot manufacturing, office and warehouse facility located at 1784 Stanley Avenue in Dayton, Ohio, which we had previously leased. The facility is encumbered by a mortgage to the Bank of Scotland to secure the acquisition indebtedness of $1,400,000. We maintain state-of-the-art manufacturing, quality control, testing and packaging equipment at all of our facilities. We believe that our equipment and facilities are suitable and adequate for our current operations and provide us with the productive capacity we need for our current business levels. We utilize approximately 50% of the capacity of each of our facilities on a one shift schedule for our business. We are subject to a variety of environmental regulations relating to our manufacturing processes and facilities. See "Government Regulation" and "Risk Factors" under Item 1, "Business." Item 3. Legal Proceedings We are a party in a pending proceeding entitled Lemelson Medical Education & Research Foundation, Limited Partnership v. Esco Electronics Corporation, et al., initiated in April 2000, pending in the United States District Court for the District of Arizona. Lemelson brought a suit against 91 named defendants, including our company, for infringement of a variety of patents owned by Lemelson, primarily relating to Lemelson's machine vision and bar code scanning 17 patents. Each of the defendants is involved, as is our company, in the manufacture of electronic or semiconductor products. Lemelson simultaneously filed similar lawsuits in the same court against approximately another 350 defendants in different categories of electronic manufacturing. This matter has been referred to patent counsel, who filed jointly with the majority of the other named defendants, a motion to stay any further proceedings pending the resolution of a motion for summary judgment addressing the issue of the equitable defense of "prosecution laches" in an unrelated action entitled Lemelson v. Symbol Technologies, Inc. The equitable defense of prosecution laches is based on the assertion that Lemelson filed initial patent applications with USPTO in the 1950s and continued the patent prosecution through the 1990s continually amending his applications to include products and methods that have become prevalent in the market. In February 2002, the Federal Court of Appeals in the Symbol Technologies case found that prosecution laches is a viable defense to patent infringement claims. This determination is favorable and could minimize or totally negate Lemelson's claim. Additionally, on March 29, 2001, the court issued an order to stay this litigation pending the entry of a final non-appealable judgment in earlier-filed actions involving the same patents. In January 2004, the court in these earlier-filed actions ruled that the patents at issue were invalid, unenforceable and not infringed by bar code scanners and machine vision reading systems very similar to the bar code scanners and machine vision reading systems used by us. In September 2004, Lemelson filed an appeal in the Symbol Technologies case. As of March 15, 2005, the appeal is awaiting a hearing date. We assemble custom products to the specifications of our customers, and we rely on our customers' patents, designs, know-how and other intellectual property. At this stage in the litigation, we are evaluating the Lemelson litigation and our potential exposure, but are unable to project the merits of Lemelson's claims, whether the litigation might result in material damages, or whether, if necessary, we could obtain a license from Lemelson. Should we be required to obtain such a license from Lemelson, there can be no assurance that a license could be obtained on acceptable terms. Any litigation of this type may result in substantial costs and diversion of our resources. Item 4. Submission of Matters to a Vote of Security Holders No matter was submitted to a vote of security holders through the solicitation of proxies or otherwise during the fourth quarter of 2004. 18 Part II Item 5. Market for the Registrant's Common Equity, Related Stockholder Matters and Issuer Repurchases of Equity Securities Market for Common Stock The table below reflects the high and low closing sales prices for our common stock, which trades under the symbol "SIMC", formerly under the symbol "TCDN", as reported by the Nasdaq SmallCap Market. The prices shown represent quotations between dealers, without adjustment for retail markups, markdowns or commissions and may not represent actual transactions. 2003 ---- High Low ---- --- 1st Quarter $1.32 $1.05 2nd Quarter $2.35 $1.25 3rd Quarter $3.10 $2.00 4th Quarter $3.14 $2.12 2004 ---- High Low ---- --- 1st Quarter $3.10 $2.20 2nd Quarter $4.79 $2.30 3rd Quarter $6.60 $3.10 4th Quarter $6.65 $3.27 At March 15, 2005, the closing sales price of our common stock was $3.79. At March 15, 2005, we had 57 holders of record of our common stock. Dividends We have not paid, nor do we have any present plans to pay cash dividends on our common stock in the immediate future. In addition, our credit facilities with the Bank of Scotland prohibit us from declaring or paying dividends on our common stock without the Bank of Scotland's written consent. See Item 7, "Management's Discussion and Analysis of Financial Conditions and Results of Operations - Liquidity and Capital Resources." Issuer Repurchases No purchases of any of our outstanding shares were made by or on behalf of the company or any affiliated purchaser during the fourth quarter of 2004. Item 6. Selected Financial Data The following selected financial data should be read in conjunction with the consolidated financial statements, related notes and other financial information included herein: 19 Consolidated Statements of Operations Data (in thousands except per share amounts)
Years Ended December 31, --------------------------------------------------------------- 2004 2003 2002 2001 2000 ---- ---- ---- ---- ---- Revenues $ 53,582 $ 36,187 $ 33,692 $ 37,042 $ 52,767 Net income (loss) 2,342 1,106 1,390 (2,806) 565 Earnings (loss) per share: Basic $ .36 $ .17 $ .21 $ (.43) $ .09 Diluted $ .36 $ .17 $ .21 $ (.43) $ .09
Consolidated Balance Sheet Data (in thousands)
December 31, -------------------------------------------------------------- 2004 2003 2002 2001 2000 ---- ---- ---- ---- ---- Working capital $ 12,137 $ 11,804 $ 10,018 $ 8,859 $ 12,443 Total assets 32,580 25,674 22,168 21,209 27,876 Long-term debt 6,700 6,500 5,315 6,371 8,582 Total liabilities 18,462 13,913 11,797 12,230 16,295 Stockholders' equity 14,119 11,761 10,371 8,979 11,581
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations Introduction and Overview In 2004, we experienced a strong year-on-year sales increase and improved earnings significantly from 2003. During this period, we continued to focus on the following key priorities: (1) expanding our customer base through our alliance with Simclar Group, (2) seeking to develop strong, long-term alliances with major growth OEMs, and (3) developing the opportunities arising from our acquisition of Simclar (Mexico) in July 2003. During 2004, we continued to see new business awards from existing and new customers. As discussed in more detail throughout this Item 7: o our revenues increased by 48.1% during 2004 compared to 2003, following 7.4% sales growth in 2003 compared to 2002; o gross margin in 2004 increased by approximately $2,482,000 compared to 2003, primarily due to sales growth; o we continued to leverage selling, general and administrative expenses and reduced these to 7.0% of sales in 2004 from 8.7% in 2003; o net income of approximately $2,342,000 in 2004 substantially exceeded net income of approximately $1,106,000 in 2003; 20 o cash flows used in investing activities were approximately $3,139,000 in 2004, mainly for earn-out consideration in connection with the acquisition of Simclar (Mexico), the purchase of the land and building occupied by our Dayton, Ohio plant and purchases of machinery and equipment for our new manufacturing facility in Mexico; and o increased bank borrowing facilities of $3,400,000 were negotiated in 2004 with Bank of Scotland to fund our investing activities and the increased working capital requirements resulting from the increase in sales in the year. Our operations have continued to depend upon a relatively small number of customers for a significant percentage of our net revenue. Significant reductions in sales to any of our large customers would have a material adverse effect on our results of operations. The level and timing of orders placed by a customer vary due to the customer's attempts to balance its inventory, design modifications, changes in a customer's manufacturing strategy, acquisitions of or consolidations among customers, and variation in demand for a customer's products due to, among other things, product life cycles, competitive conditions and general economic conditions. Termination of manufacturing relationships or changes, reductions or delays in orders could have an adverse effect on our results of operations and financial condition, as has occurred in the past. Our results also depend to a substantial extent on the success of our OEM customers in marketing their products. We continue to seek to diversify our customer base to reduce our reliance on our few major customers. See "Business Strategy" and "Customers" under Item 1, "Business." The industry segments we serve, and the electronics industry as a whole, are subject to rapid technological change and product obsolescence. Discontinuance or modification of products containing components manufactured by our company could adversely affect our results of operations. The electronics industry is also subject to economic cycles and has in the past experienced, and is likely in the future to experience, recessionary periods. A prolonged worldwide recession in the electronics industry, as we experienced from 2001 through 2003, could have a material adverse effect on our business, financial condition and results of operations. During periods of recession in the electronics industry, our competitive advantages in the areas of quick-turnaround manufacturing and responsive customer service may be of reduced importance to electronic OEMs, who may become more price sensitive. We typically do not obtain long-term volume purchase contracts from our customers, but rather we work with our customers to anticipate future volumes of orders. Based upon such anticipated future orders, we will make commitments regarding the level of business we want and can accomplish given the current timing of production schedules and the levels of and utilization of facilities and personnel. Occasionally, we purchase raw materials without a customer order or commitment. Customers may cancel, delay or reduce orders, usually without penalty, for a variety of reasons, whether relating to the customer or the industry in general, which orders are already made or anticipated. Any significant cancellations, reductions or order delays could adversely affect our results of operations. We use Electronic Data Interchange (EDI) with both our customers and our suppliers in our efforts to continuously develop accurate forecasts of customer volume requirements, as well as sharing our future requirements with our suppliers. We depend on the timely availability of many components. Component shortages could result in manufacturing and shipping delays or increased component prices, which could have a material adverse effect on our results of operations. It is important for us to efficiently manage inventory, proper timing of expenditures and allocations of physical and personnel resources in anticipation of future sales, the evaluation of economic conditions in the electronics industry and the mix of products, whether PCBs, wire harnesses, cables, or turnkey products, for manufacture. See "Electronic Manufacturing Industry" and "Supplies and Materials Management" under Item 1, "Business" and "Results of Operations" below. 21 We must continuously develop improved manufacturing procedures to accommodate our customers' needs for increasingly complex products. To continue to grow and be a successful competitor, we must be able to maintain and enhance our technological capabilities, develop and market manufacturing services which meet changing customer needs and successfully anticipate or respond to technological changes in manufacturing processes on a cost-effective and timely basis. Although we believe that our operations utilize the assembly and testing technologies and equipment currently required by our customers, there can be no assurance that our process development efforts will be successful or that the emergence of new technologies, industry standards or customer requirements will not render our technology, equipment or processes obsolete or noncompetitive. In addition, to the extent that we determine that new assembly and testing technologies and equipment are required to remain competitive, the acquisition and implementation of such technologies and equipment are likely to require significant capital investment. Our results of operations are also affected by other factors, including price competition, the level and timing of customer orders, fluctuations in material costs (due to availability), the overhead efficiencies achieved by management in managing the costs of our operations, our experience in manufacturing a particular product, the timing of expenditures in anticipation of increased orders, selling, and general and administrative expenses. Accordingly, gross margins and operating income margins have generally improved during periods of high volume and high capacity utilization. We generally have idle capacity and reduced operating margins during periods of lower-volume production. Key Financial Performance Measures We manage and assess the performance of our business primarily through the following measures: Orders booked and backlog - the ratio of orders booked to sales is reviewed on a monthly basis for each of the company's five manufacturing plants. Sales - monthly sales for each plant are compared against budget and the same month in the previous year. Gross margin - the gross margin achieved by each plant each month is compared against budget and the same month in the previous year. Selling, general and administrative expenses - the ratio of these expenses as a percentage of sales for each plant each month is compared against budget. Working capital - movements in the balance sheet amounts of inventory, accounts receivable and accounts payable for each plant are reviewed on a monthly basis. Bank borrowings - movements in the company's working capital facility with the bank are reviewed on a weekly basis. In the event that any of the above measures indicate unusual movements or trends, further review is undertaken by management to ensure that satisfactory explanations are obtained, and, where necessary, appropriate corrective action is taken. Results of Operations The following is a discussion of the key factors that have affected our business over the last three years. This discussion should be read in conjunction with our consolidated financial statements and the related footnotes included herein. 22 2004 Compared to 2003 Consolidated revenues increased approximately $17,395,000 (48.1%) for the year ended December 31, 2004, compared to the preceding year. The acquisition of Simclar (Mexico) in July 2003 generated $9,941,000 of the increase in sales in 2004. Continual improvements in our sales to the computer peripherals, instrumentation, power equipment, telecommunications and food preparation equipment industries provided the additional $7,454.000 of increased sales in 2004, compared to the preceding year. Only our sales to the military-government sector declined in 2004, when compared to 2003. Our best sales improvements in 2004 were in our sales to computer peripherals industry of $5,099,000 and to the instrumentation industry of $4,260,000. Interest and other income decreased approximately $68,000 in the year ended December 31, 2004, compared to the preceding year. The decrease was due to gain on the disposition of a building in Scotland in the year ending December 31, 2003. Approximately 43% of our consolidated sales for 2004 were made to five customers. Illinois Tool Works ("ITW") (17%) is the only customer that accounts for more than 10% of our total sales. The loss of or substantial reduction of sales to any major customer would have an adverse effect on our operations if such sales were not replaced. See Item 1, "Business-Customers." Cost of goods sold as a percentage of sales amounted to 86% for the year ended December 31, 2004 and 87% for the preceding year. The company experienced higher material costs as a percentage of sales, at 62% percent of sales for the products manufactured in 2004, compared to 58% in the preceding year. The higher material cost was due to price increases from suppliers of electronic components and higher cost bills of materials for certain products manufactured in the second half of the year. The labor content of our manufactured products remained steady at 8% of sales for 2004 and for 2003. The overhead component of cost of goods sold as a percentage of sales was 17% in 2004, compared to 21% in the preceding year. This was due mainly to the higher volume production in our four U.S. manufacturing locations in 2004. Selling, general and administrative expenses increased by approximately $618,000 (20%) for the year ended December 31, 2004, compared to the preceding year, and amounted to approximately 7% and 9% of sales for 2004 and 2003, respectively. The acquisition of Simclar (Mexico) in July 2003 contributed approximately $409,000 of the increase in 2004 compared to 2003. Increased employee costs were the primary drivers of the remaining expense increase in 2004 compared to 2003. Interest expense decreased approximately $5,000 for the year ended December 31, 2004, compared to the preceding year, reflecting the decreased borrowings until October 2004 when we restructure our credit facilities to acquire the land and building of our Dayton, Ohio facility, which we formerly had leased. The three month LIBOR was 2.30% and 1.13% at December 31, 2004 and 2003, respectively. 2003 Compared to 2002 Consolidated revenues increased approximately $2,496,000 (7.4%) for the year ended December 31, 2003, compared to the preceding year. The acquisition of Simclar (Mexico) in July 2003 generated $5,178,000 of increased sales. Improvements in the computer peripherals and telecommunication industries provided an increase in sales of $1,827,000 in 2003 over 2002. Soft demand in the food preparation industry decreased sales by $3,994,000 for the year ended December 31, 2003 compared to the year ended December 31, 2002. Interest and other income increased approximately $86,000 primarily due to the gain on the disposition of a building in Scotland in the year ended December 31, 2003, compared to the preceding year. 23 Approximately 46% of our consolidated sales for 2003 were made to five customers. Illinois Tool Works ("ITW") (22%) was the only customer that accounted for more than 10% of our total sales in 2003. Cost of goods sold as a percentage of sales amounted to 87% for the year ended December 31, 2003, and 86% for the preceding year. The 1% increase in cost of goods sold as a percentage of sales was attributable to the slightly higher cost structure of our Matamoros, Mexico facility. At the remaining four manufacturing locations, cost of goods sold as a percentage of sales remained the same at 86% for the years ended December 31, 2003 and 2002. Selling, general and administrative expenses increased by approximately $236,000 (9%) for the year ended December 31, 2003, compared to the preceding year, and amounted to approximately 9% of sales for 2003 and 2002, respectively. The increase in 2003 was due primarily to the cost added with the acquisition of Simclar (Mexico) in July 2003. We recorded a one time charge of approximately $171,000 in 2003 related to the write-off of the accumulated foreign currency transaction account due to the substantial liquidation of our wholly-owned subsidiary, Techdyne (Europe) in the fourth quarter of 2003. Interest expense decreased approximately $71,000 for the year ended December 31, 2003, compared to the preceding year, reflecting the decreased borrowings due to our profitable operations, along with declining interest rates during the year. The three month LIBOR was 1.13% and 1.35% at December 31, 2003 and 2002, respectively. Liquidity and Capital Resources Our cash and cash equivalents balances at December 31, 2004 were approximately $280,000, compared to approximately $230,000 at December 31, 2003. Net cash provided by operating activities was approximately $1,543,000 in 2004 compared to approximately $1,010,000 in 2003. The increase in cash provided from operating activities in 2004 as compared to 2003 was due primarily to an increase in net income in 2004 compared to 2003 with a slight offset due to increased working capital to support our 48% increase in sales in 2004 over 2003. At December 31, 2004, our average outstanding sales' days was 54 days as compared to 49 days at December 31, 2003. The increase in our average outstanding sales' days is primarily the result of the nature of the customer base that we are servicing from our Mexican facilities. The overall trend we experienced over the last two years is that the majority of our customers are stretching out payment terms. Average inventory turnover was 4.1 and 3.4 times for the years ended December 31, 2004 and 2003, respectively. The increase in inventory turnover is primarily due to our increased sales in 2004 across all of the industries that we service, with the exception of the military-government sector. Cash flows used in investing activities were approximately $3,139,000 in 2004 as compared to approximately $1,457,000 in 2003. Cash used in investing activities was primarily for additional consideration paid as an earn-out in connection with the acquisition of Simclar (Mexico), the purchase of the land and building occupied by our manufacturing operation in Dayton, Ohio, and purchases of machinery and equipment for our new manufacturing facility in Mexico. We have a capital expenditure budget of $700,000 for 2005. Cash flow provided from financing activities was approximately $1,630,000 in 2004 as compared to cash flow used in 2003 of approximately $1,083,000. The cash flow provided was from the restructuring of our two credit facilities with the Bank of Scotland as discussed below. 24 On October 2, 2001, the company entered into two credit facilities with Bank of Scotland in Edinburgh, Scotland for an aggregate borrowing of $10,000,000. The financing included a $3,000,000 line of credit, with an interest rate at LIBOR plus 1.5% for a one, three or six month period, at the company's election. The financing also included a seven-year term loan of $7,000,000 at the same interest rate as the line of credit. The term loan specified quarterly payments of $250,000 due in January, April, July and October of each year. On October 14, 2004, the company restructured its existing term loan and working capital facilities with the Bank. The term loan was made pursuant to an Amended and Restated Facility Letter providing for a term loan of $5,650,000, of which Tranche A represents outstanding borrowings of $4,250,000, and Tranche B represents the $1,400,000 loan to acquire the property located at 1784 Stanley Avenue, Dayton, Ohio. The principal of Tranche A is repayable in quarterly installments of $250,000 in January, April, July and October of each year from 2004 through 2008, with the final payment due in October 2008. The principal of Tranche B is payable in twenty-eight equal quarterly installments of $50,000, with the first installment payable on January 20, 2005. Interest on each advance accrues at an annual rate equal to LIBOR plus 1.5%, plus an amount, rounded to the nearest eighth of a percent, to cover any increases in certain regulatory costs incurred by the Bank. The company may elect to pay interest on advances every one, three or six months, with LIBOR adjusted to correspond to the interest payment period selected by the company. The company elected the three-month interest period at 3.8% until January 24, 2005. After this date the rate is 4.17% until April 24, 2005. The term loan had an outstanding balance of $5,400,000 at December 31, 2004. The company's existing working capital facility with the Bank was also amended on October 14, 2004 to increase the amount of the facility from $3,000,000 to $5,000,000. Advances bear interest, and interest is payable, on the same terms as under the Amended Term Loan Facility. This line of credit had an outstanding balance of $2,980,000 at December 31, 2004, and expires on September 30, 2005. The Company intends to renew this credit facility prior to its expiration date. All of the assets of the company collateralize the credit facilities. The credit facilities contain affirmative and negative covenants. Certain of the affirmative covenants require maintenance of a consolidated adjusted net worth greater than $11,000,000; a ratio of consolidated current assets to consolidated net borrowing not less than 1.75 to 1; a ratio of consolidated trade receivables to consolidated net borrowings not less than .75 to 1; and a ratio of consolidated net income before interest and income taxes to total consolidated interest costs not less than 2 to 1. Some of the negative covenants, among others, include (1) granting or permitting a security agreement against the consolidated assets of the companies other than permitted security agreements, (2) declaring or paying any dividends or making any other payments on the company's capital stock, (3) consolidating or merging with any other entity or acquiring or purchasing any equity interest in any other entity, or assuming any obligations of any other entity, except for notes and receivables acquired in the ordinary course of business, (4) incurring, assuming, guarantying, or remaining liable with respect to any indebtedness, except for certain existing indebtedness disclosed in these financial statements, or (5) undertaking any capital expenditure in excess of $1,000,000 in any one fiscal year. The agreements also preclude, without the bank's prior written consent, changes in ownership in the companies, any mergers or acquisitions, any material change in any of our business objectives, purposes, operations and tax residence or any other circumstances or events which will have a material adverse effect as defined by the agreements. The bank consented to the Simclar (Mexico) acquisition in 2003. Our ability to comply with these provisions may be affected by changes in our business condition or results of our operations, or other events beyond our control. The breach of any of these covenants would result in a default under our debt agreements. At December 31, 2004, the company was not in compliance with one of these covenants as a result of having capital expenditures for the 25 year 2004 in excess of the $1,000,000 limit specified in the covenant. However, we obtained from the Bank a waiver of the non-compliance, and we believe that we will remain in compliance with our covenants for the remainder of 2005, but there can be no assurance that defaults in any of the covenants will not occur in the future, nor can there be any assurance that our lender will waive future covenant violations. A default of the covenants would permit our lender to accelerate the maturity of our credit facilities and to sell the assets securing them, which would cause us to cease operations and seek bankruptcy protection. On October 11, 2001, Techdyne (Europe) entered into a credit facility with Bank of Scotland for an amount of (pound)275,000 ($399,025). This facility comprised an eight-year term loan repayable in quarterly payments of (pound)8,594 ($13,788) due in January, April, July and October of each year, with an interest rate of Bank of Scotland base rate plus 1.5% (effectively 5.4% at December 31, 2002). This term loan in the amount of (pound)214,844($319,999) was paid off on September 1, 2003. We have no off-balance sheet financing arrangements with related or unrelated parties and no unconsolidated subsidiaries. In the normal course of business, we enter into various contractual and other commercial commitments that impact or can impact the liquidity of our operations. The following table outlines our commitments at December 31, 2004:
Total Less than 1-3 4-5 Over 5 In thousands Amounts 1 Year Years Years Years -------------------------------------------------------------- Long-term debt with interest $ 5,966 $ 1,406 $ 2,663 $ 1,478 $ 419 Operating leases (non-cancelable) 5,493 746 1,147 1,020 2,580 Bank line of credit with interest 3,073 3,073 -- -- -- Vendor open line of credit 2,853 353 2,500 -------------------------------------------------------------- Total commitments $ 17,385 $ 5,578 $ 6,310 $ 2,498 $ 2,999 ==============================================================
Effect of Recently Issued Accounting Pronouncements In December 2004, the Financial Accounting Standards Board (FASB) issued SFAS No. 123(R), Share-Based Payment, which would require all share-based payments to employees, including grants of employee stock options, to be recognized in the consolidated statements of operations based on their fair values, effective for public companies for interim periods beginning after June 15, 2005. SFAS No.123(R) permits public companies to adopt its requirements using either the modified prospective or retrospective method. The company will adopt this statement in the third quarter of fiscal year 2005 and currently does not anticipate that the adoption of this standard will have a material effect on our consolidated results of operations, financial position, and cash flows. In November 2004, the FASB issued SFAS No. 151, "Inventory Costs, an amendment of ARB No. 43, Chapter 4 Inventory Pricing". SFAS No. 151 requires idle facility costs, abnormal freight, handling costs, and amounts of wasted materials (spoilage) be treated as current-period costs. Under this concept, if the costs associated with the actual level of spoilage or production defects are greater than the costs associated with the range of normal spoilage or defects, the difference would be charged to current-period expense, not included in inventory costs. SFAS No. 151 also requires the allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the 26 production facilities. SFAS No. 151 is effective for inventory costs incurred during fiscal years beginning after June 15, 2005. We will adopt this statement for fiscal year 2006 and currently do not anticipate that the adoption of this standard will have a material effect on our consolidated results of operations, financial position, and cash flows. In December 2004, the FASB issued SFAS No. 153, "Exchanges of Nonmonetary Assets, an amendment of APB Opinion No. 29, Accounting for Nonmonetary Transactions." The amendments made by SFAS No. 153 are based on the principle that exchanges of nonmonetary assets should be measured based on the fair value of the assets exchanged. The guidance in APB Opinion No. 29 provided an exception to this basic measurement principle for exchanges of similar productive assets. That exception required that some nonmonetary exchanges be recorded on a carryover basis. SFAS No. 153 eliminates this exception for nonmonetary exchanges of similar productive assets and replaces it with a general exception for exchanges of nonmonetary assets that do not have commercial substance. An exchange would lack commercial substance if our future cash flows are not expected to change significantly as a result of that exchange. SFAS No. 153 is effective for nonmonetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. Earlier application is permitted. We will adopt this new standard for fiscal year 2006 and do not anticipate that the adoption of this standard will have a material effect on our consolidated results of operations, financial position, and cash flows. Critical Accounting Policies We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our consolidated financial statements. Allowance for Doubtful Accounts--We maintain an allowance for doubtful accounts for estimated losses resulting from the inability of customers to make required payments. Based on historical information, we believe that our allowance is adequate. However, changes in general economic, business and market conditions could affect the ability of customers to make their required payments; therefore, the allowance for doubtful accounts is reviewed monthly and changes to the allowance are updated as new information is received. Allowance for Inventory Obsolescence--We maintain an allowance for inventory obsolescence for losses resulting from inventory items becoming unusable in the manufacturing operations due to loss of a specific customer or a customer's product changes or discontinuations. Based on historical and projected sales information and concentration of customers, we believe that the allowance is adequate. However, changes in general economic, business and market conditions could cause customers to cancel, reduce or reschedule orders. These changes could affect the company inventory turnover; therefore, the allowance for inventory obsolescence is reviewed monthly and changes to the allowance are updated as new information is received. Income Taxes--Deferred income taxes at the end of each period are determined by applying enacted tax rates applicable to future periods in which the taxes are expected to be paid or recovered to differences between the financial accounting and tax basis of assets and liabilities. Impairment of Long-Lived Assets--In accordance with Statement of Financial Accounting Standards (SFAS) No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets," long-lived assets to be held and used are reviewed for impairment whenever events or circumstances indicate that the carrying amount may not be recoverable. When required, impairment losses on assets to be held and used are recognized based on the fair value of the asset. The fair value of these assets is determined based upon estimates of future cash flows, market value of similar assets, if available, or independent appraisals, if required. In analyzing the fair value and recoverability using future cash flows, we make projections based on a number of assumptions and estimates of growth rates, future economic conditions, assignment of discount rates and estimates of terminal values. An impairment loss is recognized if the carrying amount of the 27 long-lived asset is not recoverable from its undiscounted cash flows. The measurement of impairment loss is the difference between the carrying amount and fair value of the asset. Long-lived assets to be disposed of and/or held for sale are reported at the lower of carrying amount or fair value less cost to sell. We determine the fair value of these assets in the same manner as described for assets held and used. See "Long-Lived Asset Impairment" in Note 1 to our consolidated financial statements included in this report. Goodwill and indefinite-lived intangibles are required to be evaluated for impairment on an annual basis, or more frequently if impairment indicators arise, using a fair-value-based test that compares the fair value of the asset to its carrying value. Fair values are typically calculated using discounted expected future cash flows, using a risk-adjusted discount rate. The company performed the annual test for goodwill impairment related to the Lytton and Simclar (Mexico) acquisitions. These tests were performed at the reporting unit level. In the test, we determined that the discounted sum of the expected future cash flows from the assets exceeded the carrying value of those assets; therefore, no impairment of goodwill was recognized. In performing the tests for impairment, we made assumptions about future sales and profitability. In estimating expected future cash flows related to the Lytton and Simclar (Mexico) assets, we used internal forecasts that were based upon actual results, assuming an average revenue growth of 5% and 8% per year, respectively, and minimal increases in gross margin. At the time of the impairment test, the carrying value of the net assets acquired in the Lytton and Simclar (Mexico) transactions was $10.4 and $2.9 million, respectively. If our estimate of expected future cash flows had been 10% lower, the expected future cash flows would still have exceeded the carrying value of the assets by $0.7 million for Lytton and by $1.5 million for Simclar (Mexico), including goodwill. The most critical estimates, in order of significance, used in the impairment test include (1) estimated revenue growth, (2) the terminal value assumed, and (3) the discount rate applied. We cannot predict the occurrence of future impairment triggering events nor the impact such events might have on reported asset values. Such events may include strategic decisions made in response to economic conditions relative to operations and the impact of technology, economic conditions, and industry trends on our customer base. Revenue Recognition and Accounts Receivable-- The company's sales are primarily derived from product manufacturing including, but not limited to, finished molded and non-molded cables, wiring harnesses, printed circuit board assemblies, electro-mechanical and electronic assemblies. Revenue is recognized upon shipment of the product to the customer, under contractual terms, which are generally FOB shipping point. Upon shipment, title transfers and the customer assumes the risks and rewards of ownership of the product. The selling price of the product is fixed and the ability to collect for the sale to the customer is reasonably assured when the product is shipped. Revenue from contract manufacturing, rework and refurbishing is recognized upon shipment of the product to the customer, under contractual terms, which are generally FOB shipping point. Business Combinations--We are required to allocate the purchase price of acquired business to the tangible and intangible assets acquired and liabilities assumed, based on their estimated fair values. Such valuations require us to make significant estimates and assumptions, especially related to intangible assets. We used outside sources of information to complete a valuation to assist in determining the fair value of assets acquired and liabilities assumed for the Simclar (Mexico) acquisition completed during 2003. The purchased intangible assets were recorded by us at the fair value assigned. Critical estimates were used in valuing certain intangible assets and plant and equipment include but are not limited to: future expected cash flows 28 from acquired customers' continuing sales; and the expected useful life of plant and equipment. Our estimates are based upon assumptions we believe are reasonable, but which are inherently uncertain and unpredictable; as a result, actual results may differ from estimates. Cautionary Statement Concerning Forward-Looking Statements This Report includes certain forward-looking statements with respect to our company and our business that involve risks and uncertainties. These statements are influenced by our financial position, business strategy, budgets, projected costs and the plans and objectives of management for future operations. They use words such as anticipate, believe, plan, estimate, expect, intend, project and other similar expressions. Although we believe our expectations reflected in these forward-looking statements are based on reasonable assumptions, we cannot assure you that our expectations will prove correct. Actual results and developments may differ materially from those conveyed in the forward-looking statements. For these statements, we claim the protections for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. Important factors include changes in general economic, business and market conditions, as well as changes in such conditions that may affect industries or the markets in which we operate, including, in particular, the impact of our nation's current war on terrorism could cause actual results to differ materially from the expectations reflected in the forward-looking statements made in this Report. Further, information on other factors that could affect the financial results of Simclar, Inc. is included in the company's other filings with the Securities and Exchange Commission. These documents are available free of charge at the Commission's website at http://www.sec.gov and/or from Simclar, Inc. The forward-looking statements speak only as of the date on which they are made, and we undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date of this Report. 29 Item 7A. Quantitative and Qualitative Disclosures About Market Risk We are exposed to market risks from changes in interest rates and foreign currency exchange rates. Sensitivity of results of operations to interest rate risks on our investments is managed by conservatively investing liquid funds in short-term government securities and interest-bearing accounts at financial institutions in which we had approximately $39,000 invested at December 31, 2004. Interest rate risks on debt are managed by negotiation of appropriate rates on new financing obligations based on current market rates. There is an interest rate risk associated with our variable rate debt agreements which totaled approximately $8,380,000 at December 31, 2004. We have exposure to both rising and falling interest rates. A 1/2% decrease in rates on our year-end investments would have an insignificant impact on our results of operations. A 1% increase in rates on our year-end variable rate debt would result in a negative impact of approximately $84,000 on our operations. Our exposure to market risks from foreign currency exchange rates is minimal. Item 8. Financial Statements and Supplementary Data Our financial statements, and the related notes, together with the reports of Battelle & Battelle, LLP dated March 28, 2005, and PricewaterhouseCoopers, LLP dated March 27, 2003, are set forth at pages F-4 through F-8 attached hereto. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure PricewaterhouseCoopers, LLP resigned as our independent accountants effective July 16, 2003. We engaged new independent accountants, Battelle & Battelle LLP, for our annual audit for our 2003 fiscal year. This matter was previously reported by us on the Current Report on Form 8-K dated July 17, 2003, filed with the Securities and Exchange Commission on July 17, 2003. During the two fiscal years ended December 31, 2002 and 2001 and the subsequent interim period to the date of July 17, 2003, we had no disagreements with PricewaterhouseCoopers, LLP on any matter of accounting principles or practices, financial statement disclosure, or auditing scope of procedure, nor any "reportable events" as defined in Item 304(a)(1)(v) of Regulation S-K of the Securities and Exchange Commission. Additionally, the reports of PricewaterhouseCoopers, LLP on our financial statements for those same periods contained no adverse opinion or disclaimers of opinion, nor were they qualified or modified as to uncertainty, audit scope or accounting principles. Item 9A. Controls and Procedures Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the "Exchange Act")). Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of the period covered by this report, our disclosure controls and procedures are adequately designed to ensure that the information required to be disclosed by us in the reports we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the applicable rules and forms. During the period covered by this Annual Report on Form 10-K, there was no change in our internal control over financial reporting 30 (as defined in Rule 13a-15(f) under the Exchange Act) that materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. Subsequent to the date of this evaluation, there have been no significant changes in our internal controls or in other factors that could significantly affect these controls, and no corrective actions taken with regard to significant deficiencies or perceived weaknesses in such controls. Item 9B. Other Information Not applicable. Part III Item 10. Directors and Executive Officers of the Registrant The information required by this item is included under the caption, "Information about Directors and Executive Officers" in our Information Statement relating to our 2005 annual meeting of shareholders to be held on June 10, 2005, and is incorporated herein by reference. We have adopted a code of conduct and ethics that applies to our directors, officers and all employees. The code of business conduct and ethics is posted on our website at www.simclar.com. Item 11. Executive Compensation The information required by this item is included under the caption, "Executive Compensation" in our Information Statement relating to our 2005 annual meeting of shareholders to be held on June 10, 2005, and is incorporated herein by reference. Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters The information required by this item is included under the caption, "Security Ownership of Certain Beneficial Owners and Management" and "Equity Compensation Plan Information" in our Information Statement relating to our 2005 annual meeting of shareholders to be held on June 10, 2005, and is incorporated herein by reference. Item 13. Certain Relationships and Related Transactions The information required by this item is included under the caption, "Certain Relationships and Related Transactions" in our Information Statement relating to our 2005 annual meeting of shareholders to be held on June 10, 2005, and is incorporated herein by reference. Item 14. Principal Accountant Fees and Services Audit Fees. The aggregate fees billed for professional services rendered by Battelle & Battelle LLP, for the audit of our annual consolidated financial statements and the reviews of the financial statements included in our Quarterly Reports on Form 10-Q were $84,025 for 2004 and $83,500 for 2003 (including direct engagement expenses). Audit-Related Fees. The aggregate fees billed by Battelle & Battelle LLP for audit-related services rendered for us were $6,100 for 2004 and $-0- for 2003. The audit-related fees included fees for accounting consultation on the company's internal control system and an audit of the company's employees benefit plan. Tax Fees. The aggregate fees billed by Battelle & Battelle LLP for tax-related services rendered for us were $17,000 for each of 2004 and 2003. The tax-related services were all in the nature of tax compliance and tax planning. 31 All Other Fees. The aggregate fees billed for services rendered to us by Battelle & Battelle LLP, other than the audit services, audit-related services, and tax services, were $-0- for 2004 and $-0- for 20023. Pre-approval Policy. Our Audit Committee is required to pre-approve all auditing services and permitted non-audit services (including the fees and terms thereof) to be performed for us by our independent auditor or other registered public accounting firm, subject to the de minimis exceptions for non-audit services described in Section 10A(i)(1)(B) of the Securities Exchange Act of 1934 that are approved by our Audit Committee prior to completion of the audit. Part IV Item 15. Exhibits and Financial Statement Schedules (a) The following documents are filed as part of this Report. (1) The following financial statements are filed as part of this Annual Report on Form 10-K: Independent Auditors' Report. Consolidated Balance Sheets as of December 31, 2004 and 2003. Consolidated Statements of Operations for the Years Ended December 31, 2004, 2003 and 2002. Consolidated Statements of Stockholders' Equity for the Years Ended December 31, 2004, 2003 and 2002. Consolidated Statements of Cash Flows for the Years Ended December 31, 2004, 2003 and 2002. Notes to the Consolidated Financial Statements. (2) The following financial statement schedule is included in this Annual Report on Form 10-K and should be read in conjunction with the Consolidated Financial Statements contained in this Report: Schedule II - Valuation and Qualifying Accounts Schedules not listed above are omitted because of the absence of conditions under which they are required or because the required information is included in the financial statements or notes thereto. (3) Exhibits: Exhibit Number Exhibit Description ------ ------------------- 3(i) Amended and Restated Articles of Incorporation (incorporated by reference to Exhibit 3.1 to the Company's Quarterly Report on Form 10-Q filed November 14, 2003). 32 3(ii) By-Laws (incorporated by reference to the Company's Form SB-2, Part II, Item 27, 3(b)), as amended June 27, 2001 (incorporated by reference to the Company's Form S-3 Registration dated January 23, 2002, Registration No. 333-81270, Part II, Item 16, 99(i)). 4(i) Form of Common Stock Certificate (incorporated by reference to the Company's Annual Report on Form 10-K filed March 30, 2004( "2003 Form 10-K"), Exhibit 4(i)). 10(i) Lease Agreement between the Company and Medicore, Inc. dated August 29, 2000 (incorporated by reference to Medicore Inc.'s Current Report on Form 8-K dated September 1, 2000). 10(ii) Employment Agreement between the Company and Barry Pardon dated September 27, 2000 (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 2000, Part IV, Item 14(a), 10(iii)). 10(iii) Letter Agreement between Barry Pardon and the Company regarding amendment to Employment Agreement (incorporated by reference to the Company's 2003 Form 10-K, Exhibit 10(iii)). 10(iv) Lease Agreement between the Company and Route 495 Commerce Park Limited Partnership dated March 25, 1997 (incorporated by reference to the Company's Quarterly Report on Form 10-Q for the first quarter of 1997, Item 6(a), Part II(10)). 10(v) Lease Agreement between the Company and PruCrow Industrial Properties, L.P., dated April 30, 1997 (incorporated by reference to the Company's Current Report on Form 8-K dated June 4, 1997 ("June 1997 Form 8-K"), Item 7(c)(10)(i)). 10(vi) Lease between the Company and Stanley Avenue Properties, Ltd., dated July 31, 1997 (incorporated by reference to the Company's 2003 Form 10-K, Exhibit 10(ix)). 10(vii) Lease Agreement between Simclar de Mexico, SA de CV and Consorcio Inmobiliario Del Noreste, S.A. de C.V., dated July 16, 2001 (incorporated by reference to the Company's 2003 Form 10-K, Exhibit 10(x)). 10(viii) Commercial Lease between Simclar (Mexico) and Fleet Management Co., dated October 1, 1999 (incorporated by reference to the Company's 2003 Form 10-K, Exhibit 10(xi)). 10(ix) Sublease between the Company and United Consulting Group dated August 23, 1999 (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1999; Part IV, Item 14(a)(10)(xiv). 10(x) Amended Consent to Sublease between the Company, United Consulting Group, Inc., and United Computing Group, Inc. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 2000, Part IV, Item 14(a), 10(xxv)). 10(xi) Facility Letter, dated October 2, 2001, for the Company's financing with the Bank of Scotland (incorporated by reference to the Company's Quarterly Report on Form 10-Q for the third quarter of 2001, Item 6(a)10(a)). 10(xii) Working Capital Facility Letter, dated October 2, 2001, for the Company's Financing with the Bank of Scotland (incorporated by reference to the Company's Quarterly Report on Form 10-Q for the third quarter of 2001, Item 6(a)10(b)). 10(xiii) Letter Agreement with the Bank of Scotland dated January 17, 2003 (incorporated by reference to the Company's 2003 Form 10-K, Exhibit 10(xvii)) 33 10(xiv) Letter Agreement with the Bank of Scotland dated November 10, 2003 (incorporated by reference to the Company's 2003 Form 10-K, Exhibit 10(xviii)) 10(xv) Amendment Letter to Term Loan Facility Letter between the Company and Bank of Scotland, dated October 14, 2004 (incorporated by reference to incorporated by reference to the Company's Current Report on Form 8-K dated October 20, 2004, Exhibit 99.1). 10(xvi) Amendment Letter to Working Capital Facility Letter between the Company and Bank of Scotland dated October 14, 2004(incorporated by reference to incorporated by reference to the Company's Current Report on Form 8-K dated October 20, 2004, Exhibit 99.2). 10(xvii) Service Agreement between the Company and Simclar Group Limited, effective July 16, 2003 (incorporated by reference to Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q filed November 14, 2003). 10(xviii) * Lease Agreement between Simclar de Mexico, SA de CV and Consorcio Inmobiliario Del Noreste, S.A. de C.V., dated as of November 1, 2004 21 * Subsidiaries of the registrant. 24 * Powers of Attorney. 31.1 * Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 * Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 * Certification of Chief Executive Officer of Periodic Financial Reports pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350. 32.2 * Certification of Chief Financial Officer of Periodic Financial Reports pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350. ----------------- * Filed with this Report. (b) Exhibits. The exhibits to this report follow the Signature Page. (c) Financial Statement Schedules. The financial statement schedule follows the exhibits to this report. 34 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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. SIMCLAR, INC. Date: March 30, 2005 By: /s/ Barry J. Pardon --------------------------------------- Barry J. Pardon, President and Director Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
Name Title Date ---- ----- ---- /s/ Samuel J. Russell* Chairman of the Board of Directors ---------------------------------------- and Chief Executive Officer March 30, 2005 Samuel J. Russell /s/ Barry J. Pardon President and Director March 30, 2005 ---------------------------------------- (principal executive officer) Barry J. Pardon /s/ John Ian Durie* Vice-President (Finance) and March 30, 2005 ---------------------------------------- Director John Ian Durie /s/ David L. Watts* Chief Financial Officer and March 30, 2005 ---------------------------------------- Secretary David L. Watts (principal financial and principal accounting officer) Director ---------------------------------------- A. Graeme Manson Director ---------------------------------------- Douglas Smith Director ---------------------------------------- Kenneth M. MacKay, M. D. /s/ Christina M. J. Russell* Director March 30, 2005 ---------------------------------------- Christina M. J. Russell *By:/s/ Barry J. Pardon ------------------------------------ Barry J. Pardon, Attorney-in-Fact
35 FORM 10-K--ITEM 8 LIST OF FINANCIAL STATEMENTS The following consolidated financial statements of Simclar, Inc. and subsidiaries are included in Item 8: Page Consolidated Balance Sheets - December 31, 2004 and 2003. F-4 Consolidated Statements of Operations - Years ended December 31, 2004, 2003 and 2002. F-6 Consolidated Statements of Stockholders' Equity - Years ended December 31, 2004, 2003 and 2002. F-7 Consolidated Statements of Cash Flows - Years ended December 31, 2004, 2003 and 2002. F-8 Notes to Consolidated Financial Statements F-9 The following financial statement schedule of Simclar, Inc. and subsidiaries is included Schedule II - Valuation and qualifying accounts. S-2 All other schedules for which provision is made in the applicable accounting regulation of the Securities and Exchange Commission are not required under the related instructions or are inapplicable, and therefore have been omitted. 36 SIMCLAR, INC. AND SUBSIDIARIES FORM 10-K--ITEM 8 LIST OF FINANCIAL STATEMENTS The following consolidated financial statements of Simclar, Inc. and subsidiaries are included in Item 8: Page Consolidated Balance Sheets - December 31, 2004 and 2003. F-4 Consolidated Statements of Operations - Years ended December 31, 2004, 2003 and 2002. F-6 Consolidated Statements of Stockholders' Equity - Years ended December 31, 2004, 2003, and 2002. F-7 Consolidated Statements of Cash Flows - Years ended December 31, 2004, 2003, and 2002. F-8 Notes to Consolidated Financial Statements F-9 The following financial statement schedule of Simclar, Inc. and subsidiaries is included Schedule II - Valuation and qualifying accounts. S-2 All other schedules for which provision is made in the applicable accounting regulation of the Securities and Exchange Commission are not required under the related instructions or are inapplicable, and therefore have been omitted. F-1 SIMCLAR, INC. AND SUBSIDIARIES REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM Board of Directors and Shareholders Simclar, Inc. and Subsidiaries Hialeah, FL We have audited the accompanying consolidated balance sheet of Simclar, Inc. and subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of operations, stockholders' equity, and cash flows, for the years then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with the standards of the Public Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. 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 audit provides a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Simclar, Inc. and subsidiaries as of December 31, 2004 and 2003, and the consolidated results of their operations and their cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America. Battelle & Battelle LLP Dayton, Ohio March 28, 2005 F-2 SIMCLAR, INC. AND SUBSIDIARIES REPORT OF INDEPENDENT REGISTERED CERTIFIED PUBLIC ACCOUNTING FIRM To the Board of Directors and Shareholders Simclar, Inc. and Subsidiaries In our opinion, the consolidated financial statements listed in the index appearing under Item 8 on Page F-1 present fairly, in all material respects, the results of operations and cash flows of Simclar, Inc. and its subsidiaries (formerly known as Techdyne, Inc.) for the year ended December 31, 2002, in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule listed in the index appearing under Item 8 on Page F-1 presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements and financial statement schedule are the responsibility of the company's management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits. We conducted our audits of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. As discussed in Note 1, effective January 1, 2002, the company adopted the provisions of Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets." /s/ PRICEWATERHOUSE LLP March 27, 2003 Dayton, Ohio F-3 SIMCLAR, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
December 31, December 31, 2004 2003 --------------------------- ASSETS Current assets: Cash and cash equivalents $ 280,015 $ 230,183 Accounts receivable, less allowances of $182,000 and $279,000 at December 31, 2004 and 2003, respectively 8,066,978 5,726,814 Amounts receivable from major stockholder, net 2,918,037 2,048,921 Inventories, less allowances for obsolescence of $1,481,000 and $1,421,000 at December 31, 2004 and 2003, respectively 11,314,911 9,753,301 Prepaid expenses and other current assets 317,183 309,360 Deferred income taxes 795,400 857,600 --------------------------- Total current assets 23,692,524 18,926,179 --------------------------- Property, plant and equipment: Land and improvements 547,511 -- Buildings and building improvements 1,235,904 -- Machinery, computer and office equipment 8,171,056 7,268,046 Tools and dies 290,873 283,828 Leasehold improvements 377,082 677,113 --------------------------- 10,622,426 8,228,987 Less accumulated depreciation 6,613,775 5,733,519 --------------------------- 4,008,651 2,495,468 Deferred expenses and other assets, net 20,622 -- Goodwill 4,840,545 4,234,113 Intangibles, net 18,000 18,000 --------------------------- $ 32,580,342 $ 25,673,760 ===========================
See notes to consolidated financial statements. F-4 SIMCLAR, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
December 31, December 31, 2004 2003 --------------------------- LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Line of credit $ 2,980,000 $ 1,750,000 Accounts payable 5,414,262 2,960,279 Accrued expenses 1,124,732 914,916 Accrued income taxes 836,709 496,645 Current portion of long-term debt 1,200,000 1,000,000 --------------------------- Total current liabilities 11,555,703 7,121,840 Long-term debt 4,200,000 4,000,000 Deferred trade accounts payable 2,500,000 2,500,000 Deferred income taxes 206,000 290,900 --------------------------- Total liabilities 18,461,703 13,912,740 --------------------------- Commitments and contingencies -- -- Stockholders' equity: Common stock, $.01 par value, authorized 10,000,000 shares; issued and outstanding 6,465,345 shares at December 31, 2004 and 2003 64,653 64,653 Capital in excess of par value 11,446,087 11,446,087 Retained earnings 2,593,238 251,458 Accumulated other comprehensive income (loss) 14,661 (1,178) --------------------------- Total stockholders' equity 14,118,639 11,761,020 --------------------------- $ 32,580,342 $ 25,673,760 ===========================
See notes to consolidated financial statements F-5 SIMCLAR, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS
Year Ended December 31, -------------------------------------------- 2004 2003 2002 ------------ ------------ ------------ Sales $ 53,582,487 $ 36,187,105 $ 33,691,582 Cost of goods sold 46,229,712 31,316,498 29,020,458 -------------------------------------------- Gross Margin 7,352,775 4,870,607 4,671,124 Selling, general and administrative expenses 3,750,984 3,133,170 2,897,101 -------------------------------------------- Income from operations 3,601,791 1,737,437 1,774,023 Interest expense 213,284 217,833 288,869 Interest and other income (47,114) (114,791) (28,342) Foreign currency loss on Scotland shutdown -- 170,867 -- -------------------------------------------- Income before income taxes 3,435,621 1,463,528 1,513,496 Income tax provision 1,093,841 357,207 123,387 -------------------------------------------- Net income $ 2,341,780 $ 1,106,321 $ 1,390,109 ============================================ Earnings per share: Basic & diluted $ 0.36 $ 0.17 $ 0.21 ============================================
See notes to consolidated financial statements. F-6 SIMCLAR, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Capital in Common Excess of Comprehensive Stock Par Value Income ------------------------------------------------- Balance at January 1, 2002 $ 65,570 $ 11,592,995 Comprehensive income: Net income 1,390,109 Other comprehensive income: Foreign currency translation adjustments 2,526 ------------ Comprehensive income $ 1,392,635 ============ ----------------------------- Balance at December 31, 2002 $ 65,570 $ 11,592,995 Comprehensive income: Net income 1,106,321 Other comprehensive income: Foreign currency translation adjustments 223,171 ------------ Comprehensive income $ 1,329,492 ============ Cancellation of held stock option shares due to lack of payment (1,217) (206,608) Exercise of stock options 300 59,700 ----------------------------- Balance at December 31, 2003 $ 64,653 $ 11,446,087 Comprehensive income: Net income 2,341,780 Other comprehensive income: Foreign currency translation adjustments 15,839 ------------ Comprehensive income $ 2,357,619 ============ ----------------------------- Balance at December 31, 2004 $ 64,653 $ 11,446,087 ============================= Retained Accumulated Notes Earnings Other Receivable (Accumulated) Comprehensive Stock (Deficit) Income (Loss) Options Total ------------------------------------------------------------ Balance at January 1, 2002 $ (2,244,972) $ (226,875) $ (207,825) $ 8,978,893 Comprehensive income: Net income 1,390,109 Other comprehensive income: Foreign currency translation adjustments 2,526 Comprehensive income 1,392,635 ------------------------------------------------------------ Balance at December 31, 2002 $ (854,863) $ (224,349) $ (207,825) $ 10,371,528 Comprehensive income: Net income 1,106,321 Other comprehensive income: Foreign currency translation adjustments 223,171 Comprehensive income 1,329,492 Cancellation of held stock option shares due to lack of payment 207,825 Exercise of stock options 60,000 ------------------------------------------------------------ Balance at December 31, 2003 $ 251,458 $ (1,178) $ -- $ 11,761,020 Comprehensive income: Net income 2,341,780 Other comprehensive income: Foreign currency translation adjustments 15,839 Comprehensive income 2,357,619 ------------------------------------------------------------ Balance at December 31, 2004 $ 2,593,238 $ 14,661 $ -- $ 14,118,639 ============================================================
See notes to consolidated financial statements. F-7 SIMCLAR, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended December 31, --------------------------------------------- 2004 2003 2002 --------------------------------------------- Operating activities: Net income $ 2,341,780 $ 1,106,321 $ 1,390,109 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 1,019,609 935,883 941,024 Gain from disposal of property and equipment -- (47,650) -- Deferred expenses and other assets (20,622) 9,435 13,217 Provision for uncollectible accounts 35,000 -- 24,284 Provision for inventory obsolescence 382,391 245,976 340,088 Deferred income taxes (22,700) (10,300) (398,600) Changes relating to operating activities from: Accounts receivable (2,375,164) (460,553) (554,611) Accounts receivable from majority stockholder, net (869,116) (104,252) (225,124) Inventories (1,944,001) (202,241) 470,210 Prepaid expenses and other current assets (7,823) (180,651) 86,494 Accounts payable 2,453,983 (210,661) 108,598 Accrued expenses 209,816 (69,475) 45,324 Accrued income taxes 340,064 (2,182) 519,619 --------------------------------------------- Net cash provided by operating activities 1,543,217 1,009,650 2,760,632 --------------------------------------------- Investing activities: Acquisition of AG Technologies, Inc and subsidiary (606,432) (1,951,547) -- Proceeds from sale of property, plant and equipment -- 704,433 -- Additions to property, plant and equipment, net of minor disposals (2,532,792) (209,807) (303,881) Note receivable from major stockholder -- -- (1,500,000) --------------------------------------------- Net cash used in investing activities (3,139,224) (1,456,921) (1,803,881) --------------------------------------------- Financing activities: Line of credit payments -- -- (881,184) Line of credit borrowings 1,230,000 250,000 1,500,000 Exercise of stock options -- 60,000 -- Proceeds from long-term bank borrowings 1,400,000 -- 21,525 Payments on long-term bank borrowings (1,000,000) (1,392,682) (1,083,765) --------------------------------------------- Net cash provided by (used in) financing activities 1,630,000 (1,082,682) (443,424) Effect of exchange rate fluctuations on cash 15,839 223,171 2,526 --------------------------------------------- Net change in cash and cash equivalents 49,832 (1,306,782) 515,853 Cash and cash equivalents at beginning of period 230,183 1,536,965 1,021,112 --------------------------------------------- Cash and cash equivalents at end of period $ 280,015 $ 230,183 $ 1,536,965 =============================================
See notes to consolidated financial statements. F-8 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Consolidation The consolidated financial statements include the accounts of Simclar, Inc. ("Simclar ") and its subsidiaries, including Simclar (Mexico), Inc. ("Simclar (Mexico)") and Techdyne (Europe) Limited ("Techdyne (Europe)"), collectively referred to as the "company." During September 2003, the company changed its name to Simclar, Inc. from Techdyne, Inc. On August 13, 2003 the company merged its wholly owned subsidiary, Lytton Inc. into Simclar. All material intercompany accounts and transactions have been eliminated in consolidation. The company is a 73.4% owned subsidiary of Simclar Group Limited ("Simclar Group"). Business The company operates in one business segment, the manufacture of electronic and electro-mechanical products primarily manufactured to customer specifications in the data processing, telecommunication, instrumentation and food preparation equipment industries. Cash and Cash Equivalents The company considers all highly liquid investments with an original maturity of three months or less when purchased to be cash equivalents. The carrying amounts reported in the balance sheets for cash and cash equivalents approximate their fair values. The credit risk associated with cash and cash equivalents is considered low due to the high quality of the financial institutions in which the assets are invested. Inventories Inventories, which consist primarily of raw materials used in the production of electronic components, are valued at the lower of cost (first-in, first-out and/or weighted average cost method) or market value. The cost of finished goods and work in process consists of direct materials, direct labor and a portion of fixed and variable-manufacturing overhead. The company reviews its inventories on an annual basis to identity parts that have not been used in the manufacturing process during the previous two year period or are not believed to be required for use in the manufacturing process during the next six months. The carrying value of these identified parts is adjusted to the estimated realizable fair market value with a current period charge to an allowance for obsolescence as reflected in the financial statements. Property, Plant and Equipment Property, plant and equipment is stated on the basis of cost. Depreciation is computed by the straight-line method over the estimated useful lives of the assets, which are generally 25 years for buildings and improvements; 3 to 10 years for machinery, computer and office equipment; 3 to 10 years for tools and dies; and 5 to 15 years for leasehold improvements based on the shorter of the lease term or estimated useful life of the property. Replacements and betterments that extend the lives of assets are capitalized. Maintenance and repairs are expensed as incurred. Upon the sale or retirement of assets, the related cost and accumulated depreciation are removed and any gain or loss is recognized. Depreciation expense was approximately $1,020,000, $936,000, and $941,000 in the years ended December 31, 2004, 2003 and 2002, respectively. Long-Lived Asset Impairment In accordance with Statement of Financial Accounting Standards (SFAS) No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets", long-lived assets to be held and used are reviewed for impairment whenever events or circumstances indicate that the carrying amount may not be recoverable. When required, F-9 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued impairment losses on assets to be held and used are recognized based on the fair value of the asset. The fair value of these assets is determined based upon estimates of future cash flows, market value of similar assets, if available, or independent appraisals, if required. In analyzing the fair value and recoverability using future cash flows, the company makes projections based on a number of assumptions and estimates of growth rates, future economic conditions, assignment of discount rates and estimates of terminal values. An impairment loss is recognized if the carrying amount of the long-lived asset is not recoverable from its undiscounted cash flows. The measurement of impairment loss is the difference between the carrying amount and fair value of the asset. Long-lived assets to be disposed of and/or held for sale are reported at the lower of carrying amount or fair value less cost to sell. The company determines the fair value of these assets in the same manner as described for assets held and used. Deferred Expenses Deferred expenses, except for deferred loan costs, are amortized on the straight-line method, over their estimated benefit period ranging to 60 months. Deferred loan costs are amortized over the lives of the respective loans. The amortization expense for the years ended December 31, 2004, 2003 and 2002 was approximately $10,000, $11,000 and $12,000, respectively. Goodwill The company adopted SFAS No.142, "Goodwill and Other Intangible Assets", effective January 1, 2002. Under SFAS No. 142, goodwill and certain other intangible assets are no longer amortized but are tested annually for impairment. In connection with the adoption of SFAS No. 142, the company completed the transitional goodwill impairment test, which requires the company to compare the fair value of its reporting unit to the carrying value of the net assets of the reporting unit as of December 31, 2004. Based on this analysis, the company has concluded that no impairment existed since the time of adoption, and, accordingly, the company has not recognized any transitional impairment loss.
December 31, ------------------------------------ 2004 2003 2002 ------------------------------------ Goodwill recognized on the acquisition of Lytton Inc. $2,954,995 $2,954,995 $2,954,995 Goodwill recognized on the acquisition of AG Technologies, Inc. 1,885,550 1,279,118 -- ------------------------------------ $4,840,545 $4,234,113 $2,954,995 ====================================
Income Taxes Deferred income taxes at the end of each period are determined by applying enacted tax rates applicable to future periods in which the taxes are expected to be paid or recovered to differences between the financial accounting and tax basis of assets and liabilities. F-10 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued Stock-Based Compensation The company follows Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB 25) and related Interpretations in accounting for its employee stock options. FASB Statement No. 123, "Accounting for Stock-Based Compensation" (SFAS 123), as amended by SFAS No, 148, permits a company to elect to follow the accounting provisions of APB 25 rather than the alternative fair value accounting provided under SFAS 123 but requires pro forma net income and earnings per share disclosures as well as various other disclosures not required under APB 25 for companies following APB 25. Pro forma information regarding net income and earnings per share is required by SFAS 123, and has been determined as if the company had accounted for its employee stock options under the fair value method of that Statement. The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted-average assumptions for the options issued during 2000: risk-free interest rate of 5.88%; no dividend yield; volatility factor of the expected market price of the company's common stock of .85; and an expected life of the options of 3 years. The Black-Scholes options valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective input assumptions including the expected stock price volatility. Because the company's employee stock options have characteristics significantly different than those of traded options and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employees' stock options. For purposes of pro forma disclosures, the estimated fair value of options is amortized to expense over the options' vesting period. Since the company's stock was trading in a range of value below the strike price of the outstanding options until 2003, the amount of expense to amortize was zero. The company's pro forma information for options issued is as follows:
Year Ended December 31, ------------------------------------------------ 2004 2003 2002 ------------------------------------------------ Pro forma and reported net income $ 2,341,780 $ 1,106,321 $ 1,390,109 ================================================ Pro forma and reported earnings per share: Basic $ 0.36 $ 0.17 $ 0.21 ================================================ Diluted $ 0.36 $ 0.17 $ 0.21 ================================================
Earnings per Share Diluted earnings per share gives effect to potential common shares that were dilutive and outstanding during the period, such as stock options and warrants using the treasury stock method and average market price, the company has various stock options; however, only those options which were dilutive during the periods being reported on have been included in the earnings per share computations. F-11 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued Following is a reconciliation of amounts used in the basic and diluted computations:
Year Ended December 31, ------------------------------------------ 2004 2003 2002 ------------------------------------------ Net income - numerator basic computation $ 2,341,780 $ 1,106,321 $ 1,390,109 ========================================== Weighted average shares - denominator basic computation 6,465,345 6,460,086 6,556,990 Effect of dilutive securities: Stock options -- -- 60,000 ------------------------------------------ Weighted average shares, as adjusted - denominator 6,465,345 6,460,086 6,616,990 ========================================== Earnings per share: Basic $ 0.36 $ 0.17 $ 0.21 ========================================== Diluted $ 0.36 $ 0.17 $ 0.21 ==========================================
Estimated Fair Value of Financial Instruments The carrying value of cash, accounts receivable and debt in the accompanying financial statements approximate their fair value because of the short-term maturity of these instruments, or in the case of debt, because such instruments bear variable interest rates which approximate market. Use of Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. The accounting estimates and assumptions that place the most significant demands on management's judgment include, but are not limited to, doubtful accounts receivable, income taxes, impairment of long-lived assets, business combinations, and inventory obsolescence. These estimates and assumptions are based on information presently available and actual results could differ from those estimates. Revenue Recognition and Accounts Receivable The company's sales are primarily derived from product manufacturing including, but not limited to, finished molded and non-molded cables, wiring harnesses, printed circuit board assemblies, electro-mechanical and electronic assemblies. Revenue is recognized upon shipment of the product to the customer, under contractual terms, which are generally FOB shipping point. Upon shipment, title transfers and the customer assumes the risks and rewards of ownership of the product. The selling price of the product is fixed and the ability to collect for the sale to the customer is reasonably assured when the product is shipped. Revenue from contract manufacturing, rework and refurbishing is recognized upon shipment of the product to the customer, under contractual terms, which are generally FOB shipping point. F-12 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued Trade receivables are uncollateralized customer obligations due under normal trade terms requiring payment generally within 30 days from the invoice date. The company's estimate of the allowance for doubtful accounts for trade receivables is primarily determined based upon the length of time that the receivables are past due. In addition, management estimates are used to determine probable losses based upon an analysis of prior collection experience, specific account risks, and economic conditions. The company has a series of actions that occur based upon the aging of past due trade receivables, including letters and direct customer contact. Accounts are deemed uncollectible based on their past payment account experiences and their current financial condition. Shipping Costs Shipping costs related to the transportation of products sold to customers are charged to cost of goods sold. Warranty Costs The company warrants that products used in its manufacturing process are free from defects in material and workmanship for a period of one year from time of shipment to the customer. If the manufactured product fails in this one year period due to a defect, the company will rework the product until it functions per the customer's specifications. The costs associated with the rework of any return of defective products are treated as a period expense when the products are reshipped to the customer. The company estimates the cost or reworking defective products to be less than 1% of its annual sales volume and thus has not recorded any liability for rework costs on its financial statements. Foreign Operations The financial statements of the foreign subsidiaries have been translated into U.S. dollars in accordance with SFAS No. 52. All balance sheet accounts have been translated using the current exchange rates at the balance sheet date. Income statement accounts have been translated using the average exchange rate for the period. The translation adjustments resulting from the change in exchange rates from period to period have been reported separately as a component of accumulated other comprehensive income included in stockholders' equity. Foreign currency transaction gains and losses, which are not material, are included in the results of operations. These gains and losses result from exchange rate changes between the time transactions are recorded and settled, and for unsettled transactions, exchange rate changes between the time the transactions are recorded and the balance sheet date. Comprehensive Income The company follows SFAS No. 130, "Reporting Comprehensive Income" which contains rules for the reporting of comprehensive income and its components. Comprehensive income consists of net income and foreign currency translation adjustments and is presented in the Consolidated Statement of Stockholders' Equity. F-13 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued New Pronouncements In December 2004, the Financial Accounting Standards Board (FASB) issued SFAS No. 123(R), Share-Based Payment, which would require all share-based payments to employees, including grants of employee stock options, to be recognized in the consolidated statements of operations based on their fair values, effective for public companies for interim periods beginning after June 15, 2005. SFAS No.123(R) permits public companies to adopt its requirements using either the modified prospective or retrospective method. The company will adopt this statement in the third quarter of fiscal year 2005 and currently does not anticipate that the adoption of this standard will have a material effect on its consolidated results of operations, financial position, and cash flows. In November 2004, the FASB issued SFAS No. 151, "Inventory Costs, an amendment of ARB No. 43, Chapter 4 Inventory Pricing". SFAS No. 151 requires idle facility costs, abnormal freight, handling costs, and amounts of wasted materials (spoilage) be treated as current-period costs. Under this concept, if the costs associated with the actual level of spoilage or production defects are greater than the costs associated with the range of normal spoilage or defects, the difference would be charged to current-period expense, not included in inventory costs. SFAS No. 151 also requires the allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. SFAS No. 151 is effective for inventory costs incurred during fiscal years beginning after June 15, 2005. The company will adopt this statement for fiscal year 2006 and currently does not anticipate that the adoption of this standard will have a material effect on its consolidated results of operations, financial position, and cash flows. In December 2004, the FASB issued SFAS No. 153, "Exchanges of Nonmonetary Assets, an amendment of APB Opinion No. 29, Accounting for Nonmonetary Transactions." The amendments made by SFAS No. 153 are based on the principle that exchanges of nonmonetary assets should be measured based on the fair value of the assets exchanged. The guidance in APB Opinion No. 29 provided an exception to this basic measurement principle for exchanges of similar productive assets. That exception required that some nonmonetary exchanges be recorded on a carryover basis. SFAS No. 153 eliminates this exception for nonmonetary exchanges of similar productive assets and replaces it with a general exception for exchanges of nonmonetary assets that do not have commercial substance. An exchange would lack commercial substance if the company's future cash flows are not expected to change significantly as a result of that exchange. SFAS No. 153 is effective for nonmonetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. Earlier application is permitted. The company will adopt this new standard for fiscal year 2006 and does not anticipate that the adoption of this standard will have a material effect on its consolidated results of operations, financial position, and cash flows. NOTE 2--INVENTORIES Inventories are comprised of the following: December 31, --------------------------- 2004 2003 --------------------------- Raw materials and supplies $ 8,863,347 $ 7,315,075 Work in process 1,584,258 1,776,538 Finished goods 867,306 661,688 --------------------------- $ 11,314,911 $ 9,753,301 =========================== F-14 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 3--ACCRUED EXPENSES Accrued expenses are comprised of the following: December 31, --------------------------- 2004 2003 --------------------------- Accrued compensation $ 523,430 $ 319,813 Accrued property taxes 223,230 222,319 Accrued commissions 203,895 148,170 Other 174,177 224,614 --------------------------- $ 1,124,732 $ 914,916 =========================== NOTE 4--LONG-TERM DEBT On October 24, 2001, the company entered into two credit facilities with Bank of Scotland in Edinburgh, Scotland for an aggregate borrowing of $10,000,000. The financing included a $3,000,000 line of credit, with an interest rate at LIBOR plus 1.5% for a one, three or six month period, at the company's election, and expires on September 30, 2005. The company intends to renew this credit facility with the Bank prior to its expiration date.. The financing also included a seven-year term loan of $7,000,000 at the same interest rate as the line of credit. The term loan specifies quarterly payments of $250,000 due in January, April, July and October of each year, plus interest. On October 14, 2004, the company restructured its existing term loan and working capital facilities with the Bank. The term loan was made pursuant to an Amended and Restated Facility Letter providing for a term loan of $5,650,000, of which Tranche A represents outstanding borrowings of $4,250,000, and Tranche B represents the $1,400,000 loan to acquire the property located at 1784 Stanley Avenue, Dayton, Ohio. The principal of Tranche A is repayable in quarterly installments of $250,000 in January, April, July and October of each year from 2004 through 2008, with the final payment due in October 2008. The principal of Tranche B is payable in twenty-eight equal quarterly installments of $50,000, with the first installment payable on January 20, 2005. Interest on each advance accrues at an annual rate equal to LIBOR plus 1.5%, plus an amount, rounded to the nearest eighth of a percent, to cover any increases in certain regulatory costs incurred by the Bank. The company may elect to pay interest on advances every one, three or six months, with LIBOR adjusted to correspond to the interest payment period selected by the company. The company elected the three-month interest period at 3.8% until January 24, 2005. After this date the rate is 4.17% until April 24, 2005. The term loan had an outstanding balance of $5,400,000 at December 31, 2004. The company's existing working capital facility with the Bank was also amended on October 14, 2004 to increase the amount of the facility from $3,000,000 to $5,000,000. Advances bear interest, and interest is payable, on the same terms as under the Amended Term Loan Facility. This line of credit had an outstanding balance of $2,980,000 at December 31, 2004. All of the assets of the company collateralize the credit facilities. The credit facilities contain affirmative and negative covenants. Certain of the affirmative covenants require maintenance of a consolidated adjusted net worth greater than $11,000,000; a ratio of consolidated current assets to consolidated net borrowing not less than 1.75 to 1; a ratio of consolidated trade receivables to consolidated net borrowings not less than .75 to 1; and a ratio of consolidated net income before interest and income taxes to total consolidated interest costs not less than 2 to 1. Some of the negative covenants, among others, include (1) granting or permitting a security agreement F-15 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 4--LONG-TERM DEBT--Continued against the consolidated assets of the company other than permitted security agreements, (2) declaring or paying any dividends or making any other payments on the company's capital stock, (3) consolidating or merging with any other entity or acquiring or purchasing any equity interest in any other entity, or assuming any obligations of any other entity, except for notes and receivables acquired in the ordinary course of business, (4) incurring, assuming, guarantying, or remaining liable with respect to any indebtedness, except for certain existing indebtedness disclosed in these financial statements, or (5) undertaking any capital expenditure in excess of $1,000,000 in any one fiscal year. The agreements also preclude, without the Bank's prior written consent, changes in ownership in the company, any mergers or acquisitions, any material change in any of the company's business objectives, purposes, operations and tax residence or any other circumstances or events which will have a material adverse effect as defined by the agreements. The Bank gave its written consent for the company to acquire all the outstanding shares of AG Technologies, Inc. on July 15, 2003. At December 31, 2004, the company was not in compliance with respect to the terms of the credit facilities as a result of having capital expenditures for the year 2004 in excess of the $1,000,000 limit as specified by the covenants. However, the company obtained a waiver from the Bank in respect of the non-compliance. On October 11, 2001, Techdyne (Europe) entered into a credit facility with Bank of Scotland for an amount of (pound)275,000 ($399,025). This facility comprised an eight-year term loan repayable in quarterly payments of (pound)8,594 ($13,788) due in January, April, July and October of each year, with an interest rate of Bank of Scotland base rate plus 1.5% (effectively 5.4% at December 31, 2002). The proceeds from the credit facility were used to repay the 15-year mortgage loan of $371,000 as of September 30, 2001. This term loan in the amount of (pound)214,844 ($319,999) was paid off on September 1, 2003. Long-term debt is as follows: December 31, --------------------------- 2004 2003 --------------------------- Term loan $ 5,400,000 $ 5,000,000 Less current portion 1,200,000 1,000,000 --------------------------- $ 4,200,000 $ 4,000,000 =========================== Scheduled maturities of long-term debt outstanding at December 31, 2004 are approximately: 2005---$1,200,000; 2006---$1,200,000; 2007---$1,200,000; 2008---$1,200,000; 2009---$200,000; thereafter $400,000. Interest payments on all of the above debt amounted to approximately $189,000, $231,000 and $294,000 in 2004, 2003 and 2002, respectively. On July 15, 2003, Simclar (Mexico) and Simclar entered into an agreement with Winsson Enterprises Co., Ltd ("Winsson"). This agreement calls for Winsson to provide to Simclar (Mexico) a 3-year $2,750,000 open line of credit for purchased services and materials. The 3-year open line of credit required a reduction of $250,000 as of July 14, 2004. The 3-year open line of credit may be renewed at the end this agreement, if both parties agree. The total amount due to Winsson is approximately $2,853,000 at December 31, 2004. Included in accounts payable is approximately $353,000 of this amount with the remaining balance shown in deferred trade accounts payable. F-16 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 5--INCOME TAXES Deferred income taxes reflect the net tax effect of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the company's deferred tax assets and liabilities are as follows: December 31, --------------------------- 2004 2003 --------------------------- Deferred tax assets: Inventory obsolescence $ 578,100 $ 554,400 Cost capitalized in ending inventory 84,900 141,400 Accrued expenses 61,300 52,800 Other 71,100 109,000 --------------------------- Total deferred tax assets 795,400 857,600 --------------------------- Deferred tax liabilities: Depreciation and amortization $ 206,000 $ 290,900 --------------------------- Total deferred tax liabilities 206,000 290,900 --------------------------- Net deferred tax asset $ 589,400 $ 566,700 =========================== For financial reporting purposes, income before income taxes includes the following components: Year Ended December 31, ------------------------------------------- 2004 2003 2002 ------------------------------------------- United States income $ 3,269,909 $ 1,603,477 $ 1,538,928 Foreign income (loss) 165,712 (139,949) (25,432) ------------------------------------------- $ 3,435,621 $ 1,463,528 $ 1,513,496 =========================================== Significant components of the provision (benefit) for income taxes are as follows: Year Ended December 31, ------------------------------------------- 2004 2003 2002 ------------------------------------------- Current: Federal $ 1,011,150 $ 332,701 $ 398,600 State 59,991 14,176 123,387 ------------------------------------------- 1,071,141 346,877 521,987 ------------------------------------------- Deferred Federal 19,791 9,006 (347,500) State 2,909 1,324 (51,100) ------------------------------------------- 22,700 10,330 (398,600) ------------------------------------------- $ 1,093,841 $ 357,207 $ 123,387 =========================================== Techdyne (Europe) and Simclar de Mexico, S.A. de C.V. file separate income tax returns in the United Kingdom and Mexico, respectively. F-17 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 5--INCOME TAXES--Continued The reconciliation of income tax attributable to income before income taxes computed at the U.S. federal statutory rates to income tax expense (benefit) is:
Year Ended December 31, -------------------------------------------- 2004 2003 2002 -------------------------------------------- Statutory tax rate (34%) applied to income before income taxes $ 1,168,111 $ 497,600 $ 514,589 Increases (reduction) in taxes resulting from: State income taxes expense net of federal income tax effect 42,870 10,230 81,444 Tax rate differential relating to tax benefit of foreign operating income 2,287 70,290 8,647 Non deductible items 15,343 7,756 7,132 Change in deferred tax valuation allowance -- -- (587,000) Refund of prior U.S. income taxes (38,000) (85,000) -- Settlement of U.S. income taxes (132,000) (200,000) -- Other 35,230 56,331 98,575 -------------------------------------------- $ 1,093,841 $ 357,207 $ 123,387 ============================================
Undistributed earnings of the company's foreign subsidiaries amounted to approximately $287,000 at December 31, 2004 and 2003, respectively. Those earnings are considered to be indefinitely reinvested and, accordingly, no provision for U.S. federal and state income taxes has been provided thereon. Upon distribution of those earnings in the form of dividends or otherwise, the company would be subject to both U.S. income taxes (subject to an adjustment for foreign tax credits) and withholding taxes payable to the various foreign countries. Determination of the amount of unrecognized deferred U.S. income tax liability is not practicable because of the complexities associated with its hypothetical calculation; however, foreign tax credits may be available to reduce some portion of the U.S. liability. Withholding taxes of approximately $14,000 would be payable upon remittance of all previously unremitted earnings at December 31, 2004 and 2003, respectively. Income tax payments were approximately $754,000, $333,000 and $28,000 in 2004, 2003 and 2002, respectively. NOTE 6--TRANSACTIONS WITH SIMCLAR GROUP The company's parent, Simclar Group, provides certain financial and administrative services to the company under a service agreement. The amount of expenses covered under the service agreement totaled $360,000, $347,000 and $336,000 in 2004, 2003 and 2002, respectively. In 2004, the company purchased steel components with a combined value of approximately $431,000 from other members of the Simclar Group. In May 2001, Techdyne (Europe) entered into a management agreement with Simclar Group pursuant to which Simclar Group manufactured products for Techdyne (Europe) and assisted in management coordination. These expenses were approximately $241,000 in 2002. This agreement was terminated on February 28, 2002. The company has a net receivable due from its parent, Simclar Group, of approximately $2,918,000 and $2,049,000 at December 31, 2004 and 2003, respectively. These amounts included a $1,500,000 demand note F-18 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 6--TRANSACTIONS WITH SIMCLAR GROUP--Continued payable by Simclar Group, bearing an annual interest rate of LIBOR plus 2.0% and accumulated interest on this demand note of approximately $123,000 and $71,000 at December 31, 2004 and 2003, respectively. During the year 2004, the company advanced funds to two companies owned by Simclar Group or its sole owners for operating capital. As of December 31, 2004 the company had a net received due from these two companies of approximately $1,295,000. NOTE 7--RELATED PARTY TRANSACTIONS On October 20, 2004, the company purchased for $1,400,000 the 77,800 square foot office, manufacturing and warehouse facility located at 1784 Stanley Avenue, Dayton, Ohio that it had been leasing for a term ending July 31, 2007. The purchase resulted from the company's exercise of an option to purchase contained in the lease. The premises were purchased from the lessor, Stanley Avenue Properties, Ltd., an Ohio limited liability company controlled by Lytton F. Crossley, a former director of the company. The purchase price was determined by negotiation, based upon independent appraisals obtained by the company and the seller. NOTE 8--COMMITMENTS AND CONTINGENCIES Commitments The company leases several facilities which expire at various dates through 2017 with renewal options for a period of five years at the then fair market rental value. The company's aggregate lease commitments at December 31, 2004, are approximately: 2005---$746,000, 2006---$621,000, 2007---$526,000, 2008---$510,000, and 2009---510,000. Total rent expense was approximately $753,000, $635,000 and $556,000 for the years ended December 31, 2004, 2003 and 2002, respectively. Retirement Plan The company sponsors a 401(k) Profit Sharing Plan covering substantially all of its employees, excluding Techdyne (Europe) and Simclar (Mexico). The company contributes a 50% match based on the first 4% of each employee's annual earnings contributed to the plan. The discretionary profit sharing and matching expense amounted to approximately $73,000, $59,000 and $57,000 for the years ended December 31, 2004, 2003 and 2002, respectively. Contingencies The company is involved in various legal actions arising in the ordinary course of business. In the opinion of management, the ultimate liability, if any, resulting from these matters will not have a material effect on the company's financial position. NOTE 9--STOCK OPTIONS On February 27, 1995 the company granted non-qualified stock options, to directors of Simclar and its subsidiary for 142,500 shares exercisable at $1.75 per share for five years. In April 1995, the company granted a non-qualified stock option for 10,000 shares which vested immediately, to its general counsel at the same price and terms as the directors' options. On February 25, 2000, 145,000 of these options were exercised. The company received cash payment of the par value and the balance in three-year promissory notes totaling $207,825 presented in the stockholders' equity section of the balance sheet, with interest at 6.19%. The notes, which were F-19 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 9--STOCK OPTIONS--Continued due in February 2003, were not repaid and, as a result, the related interest receivable was written off in 2002. The related shares were cancelled in 2003. In June 1997, the company adopted a stock option plan for up to 500,000 options, and pursuant to this plan the board granted 375,000 options exercisable for five years through June 22, 2002 at $3.25 per share, with 320,000 of these options outstanding at December 31, 2001. On June 30, 1999, the company granted 52,000 options exercisable for three years through September 29, 2002 at $4.00 per share with 10,000 options outstanding at December 31, 2001. On August 25, 1999, the company granted 16,000 options exercisable for three years through August 24, 2002 at $4.00 per share with 13,000 options outstanding at December 31, 2001. On December 15, 1999, the company granted 19,000 options exercisable for three years through December 14, 2002 at $4.00 per share with 8,000 options outstanding at December 31, 2001. On May 24, 2000, the company granted 3,000 options exercisable for three years through May 23, 2003 at $4.00 per share, the options terminated when the employee terminated his employment with the company. On October 16, 2000, the company granted 90,000 three year stock options exercisable at $2.00 per share through October 15, 2002, with one-third of the options vesting immediately, one-third vesting on October 16, 2001 and one-third vesting on October 16, 2002, but based on the change in control of the company, all options vested on June 27, 2001, and 30,000 options were redeemed for $4,200, 60,000 of these options remained outstanding at December 31, 2002. A summary of the company's stock option activity, for the years ended December 31, follows:
2004 2003 2002 -------------------------------------------------------------------------------------------- Weighted- Weighted- Weighted- Average Average Average Options Exercise Price Options Exercise Price Options Exercise Price -------------------------------------------------------------------------------------------- Outstanding-beginning of year 60,000 $ 2.00 411,000 $ 3.12 Granted 0 0 0 Exercised 30,000 0 Expired 30,000 (351,000) ------------ ------------ ------------ Outstanding-end of year 0 0 60,000 ============ ============ ============ Outstanding and exercisable at end of year October 2000 options 0 $ -- 0 $ -- 60,000 $ 2.00 ------------ ------------ ------------ 0 0 60,000 ============ ============ ============ Weighted-average fair value of options granted during the year $ -- $ -- $ -- ============ ============ ============
In June 2001, in connection with the sale to Simclar Group, the company forgave stock option notes and related accrued interest totaling $207,825 from certain current and former officers and directors of the company. The balances of these notes, which were due in February 2003, were not repaid and, as a result, the related interest receivable was written off as of December 31, 2002. The related shares were cancelled in 2003. F-20 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 10--QUARTERLY FINANCIAL INFORMATION (Unaudited) The following summarizes certain quarterly operating data:
2004 2003 ------------------------------------------------- ------------------------------------------------- March 31 June 30 Sept 30 Dec 31 March 31 June 30 Sept 30 Dec 31 ------------------------------------------------- ------------------------------------------------- (In thousands except per share data) Net Sales $ 11,997 $ 15,002 $ 13,233 $ 13,350 $ 7,376 $ 7,719 $ 9,601 $ 11,491 Gross Profit 1,726 2,450 1,721 1,456 1,059 1,130 1,123 1,559 Net Income 481 879 486 496 196 241 211 458 Earnings per share: Basic & diluted $ 0.07 $ 0.14 $ 0.08 $ 0.07 $ 0.03 $ 0.04 $ 0.03 $ 0.07
Since the computation of earnings per share is made independently for each quarter using the treasury stock method, the total of four quarters' earnings does not necessarily equal earnings per share for the year. NOTE 11--GEOGRAPHIC AREA DATA AND MAJOR CUSTOMER Summarized financial information for the company's one reportable segment is shown in the following table: Year Ended December 31, ------------------------------------------ Geographic Area Sales 2004 2003 2002 ------------ ------------ ------------ United States $ 53,551,613 $ 36,187,105 $ 33,458,570 Mexico 30,874 -- -- Europe(1) -- -- 233,012 ------------ ------------ ------------ $ 53,582,487 $ 36,187,105 $ 33,691,582 ============ ============ ============ (1) Techdyne (Europe) sales were primarily to customers in the United Kingdom. Year Ended December 31, ------------------------------------------- Geographic Area 2004 2003 2002 Operating Income (loss) ------------------------------------------- United States $ 3,436,079 $ 1,738,623 $ 1,781,856 Mexico 165,712 28,658 -- Europe -- (29,844) (7,833) ------------------------------------------- $ 3,601,791 $ 1,737,437 $ 1,774,023 =========================================== F-21 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 11--GEOGRAPHIC AREA DATA AND MAJOR CUSTOMER--Continued Geographic Area Property, December 31, Plant and Equipment (Net) ------------------------------------------ 2004 2003 2002 ------------------------------------------ United States $ 3,992,247 $ 2,479,191 $ 2,361,984 Mexico 16,404 16,277 -- Europe -- -- 653,521 ------------------------------------------ $ 4,008,651 $ 2,495,468 $ 3,015,505 ========================================== Sales to major customer are as follows: Year Ended December 31, ------------------------------------------ 2004 2003 2002 ------------------------------------------ Major Customer ITW $ 9,023,000 $ 8,084,000 $ 12,078,000 ========================================== The loss of or substantially reduced sales to this customer would have an adverse effect on the company's operations if such sales were not replaced. A significant customer would be any customer who annual sales volume from the company is 10% or more. NOTE 12--CESSATION OF SCOTLAND MANUFACTURING OPERATIONS As a result of continuing operating losses, in April 2001 the company decided to discontinue the manufacturing operations of its European subsidiary, Techdyne (Europe). As of February 28, 2002, all remaining net assets and the remaining employee, except the building and land, were transferred to Simclar Group at net book value on that date. These net assets consisted principally of cash, receivables, payables and equipment. The management agreement with Simclar Group was also cancelled. Included in property, plant and equipment at December 31, 2002 were assets held for sale, net of accumulated depreciation, in Scotland totaling approximately $654,000. On April 2, 2003, a fire started by vandals destroyed the Techdyne (Europe) building located in Livingston, Scotland. The claims with the insurance companies were settled during the third quarter in the amount of (pound)364,900 ($588,185), less demolition expenses. The company realized a net gain on this disposition of (pound)34,500 ($55,621). On October 17, 2003, the company received the net proceeds from the sale of land located in Livingston, Scotland in the amount of (pound)114,868 ($192,163). The company realized a net loss on this disposition of (pound)5,132 ($8,585). In 2003, the company recognized approximately $171,000 charge for the write-off of accumulated foreign currency translation loss resulting from the substantial liquidation of Techdyne (Europe). F-22 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 13--ACQUISITION OF AG TECHNOLOGIES, INC. On July 15, 2003, the company acquired for cash, all of the outstanding stock of AG Technologies, Inc., a privately owned company based in Schaumburg, Illinois. The company name was changed to Simclar (Mexico), Inc. on August 29, 2003. Additional consideration of up to $1,300,000 is payable based on Simclar (Mexico)'s net sales in each of the three years ending July 14, 2004, 2005 and 2006. Simclar (Mexico) is an international value added provider of comprehensive electronic manufacturing services to OEM's serving the automotive, industrial controls, medical and power equipment industries. Simclar (Mexico)'s Mexican facility enables the company to be competitive in the higher volume arena for assembly in North America. The acquisition was accounted for by the purchase method of accounting under SFAS No. 141, "Business Combinations". The purchase price for the acquisition, including loan repayment and net of cash received, totaled $1,951,547 and was allocated to assets acquired and liabilities assumed based on estimated fair values at the date of acquisition. The company recorded $1,279,118 of goodwill and $18,000 of intangibles based on the opening balance sheet. Additional consideration payable based on Simclar (Mexico)'s sales through July 14, 2006 could increase the amount of this goodwill to $2,579,118. The additional earn-out for the period July 15, 2003 to July 14, 2004 of $606,432 was paid on September 15, 2004. This additional earn-out payment increased the company's goodwill to $1,885,550. The purchase allocation, as adjusted for the earn-out payment, is as follows: Current assets $3,414,149 Equipment 867,322 Goodwill 1,885,550 Intangibles 18,000 Other assets 743 ---------- Total assets acquired $6,185,764 ---------- Current liabilities $1,556,485 Long-term debt 9,000 Long-term liabilities 2,062,300 ---------- Total liabilities $3,627,785 ---------- Net assets acquired $2,557,979 ========== Results of operations have been included in the company's consolidated financial statements prospectively from the date of acquisition. The following table summarizes selected unaudited pro forma financial information for the years ended December 31, 2003 and 2002, respectively, as if Simclar (Mexico) had been acquired at the beginning of 2003 and 2002. The unaudited pro forma financial information includes adjustments for income taxes, prepaid expenses, accrued expenses, depreciation and amortization. The pro forma financial information does not necessarily reflect the results that would have occurred if the acquisition had been in effect for the periods presented. In addition, it is not intended to be a projection of future results and does not reflect any synergies that might be achieved from combining the operations. F-23 SIMCLAR, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 13--ACQUISITION OF AG TECHNOLOGIES, INC.--Continued December 31, ------------------------------- 2003 2002 ------------------------------- Net Sales $ 41,210,031 $ 44,625,040 Net Income 1,000,302 1,168,813 =============================== Earnings per share: Basic $ 0.15 $ 0.18 =============================== Diluted $ 0.15 $ 0.18 =============================== F-24 SIMCLAR, INC. AND SUBSIDIARIES INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM'S REPORT ON SUPPLEMENTAL SCHEDULE Board of Directors and Shareholders Simclar, Inc. and Subsidiaries Hialeah, FL Our audit was made for the purpose of forming an opinion on the basic consolidated financial statements taken as a whole. The consolidated supplemental schedule II is presented for purposes of complying with the Securities and Exchange Commission's rules and is not a part of the basic consolidated financial statements. This schedule has been subjected to the auditing procedures applied in our audit of the basic consolidated financial statements and, in our opinion, is fairly stated in all material respects in relation to the basic consolidated financial statements taken as a whole. Battelle & Battelle LLP Dayton, Ohio March 28, 2005 S-1 SIMCLAR, INC. AND SUBSIDIARIES A. Schedule II - Valuation and Qualifying Accounts Simclar, Inc. and Subsidiaries December 31, 2004
----------------------------------------------------------------------------------------------------------------------------------- COL. A COL. B COL. C COL. D COL. E COL. F ----------------------------------------------------------------------------------------------------------------------------------- Additions Balance at Accquisition (Deductions) Other Changes Balance Beginning (3) Charged (Credited) to Add (Deduct) at End of Classsification of Period Costs and Expenses Describe Period ----------------------------------------------------------------------------------------------------------------------------------- YEAR ENDED DECEMBER 31, 2004: Reserves and allowances deducted From asset accounts: Allowance for uncollectible accounts $ 279,000 $ 35,000 $ (132,000) (1) $ 182,000 Reserve for inventory obsolescence 1,421,000 382,000 (322,000) (2) 1,481,000 --------------------------------------------------------------------------------------- $ 1,700,000 $ -- $ 417,000 $ (454,000) $ 1,663,000 ======================================================================================= YEAR ENDED DECEMBER 31, 2003: Reserves and allowances deducted From asset accounts: Allowance for uncollectible accounts $ 244,000 $ 35,000 $ -- -- (1) $ 279,000 Reserve for inventory obsolescence 1,115,000 332,000 107,000 (133,000) (2) 1,421,000 --------------------------------------------------------------------------------------- $ 1,359,000 $ 367,000 $ 107,000 $ (133,000) $ 1,700,000 ======================================================================================= YEAR ENDED DECEMBER 31, 2002: Reserves and allowances deducted From asset accounts: Allowance for uncollectible accounts $ 220,000 $ -- $ 24,000 -- (1) $ 244,000 Reserve for inventory obsolescence 959,000 -- 380,000 (224,000) (2) 1,115,000 Valuation allowance for defered tax asset -- -- (587,000) 587,000 0 --------------------------------------------------------------------------------------- $ 1,179,000 $ -- $ (183,000) $ 363,000 $ 1,359,000 =======================================================================================
(1) Uncollectible accounts written off, net of recoveries (2) Net write-offs against inventory reserves (3) Acquisition of AG Technologies, Inc. S-2