10-K 1 y25415e10vk.txt FORM 10-K ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ---------- FORM 10-K (MARK ONE) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED JUNE 30, 2006 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM _________ TO _________ COMMISSION FILE NUMBER 333-28157 ---------- TEKNI-PLEX, INC. (Exact name of registrant as specified in its charter) DELAWARE 22-3286312 (State of Incorporation) (I.R.S. Employer Identification No.)
260 NORTH DENTON TAP ROAD 75019 COPPELL, TEXAS (Zip Code) (Address of principal executive offices)
(Registrant's telephone number, including area code) (972) 304-5077 SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes No X --- --- Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes No X --- --- Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --- --- Indicate by check mark 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 a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of "accelerated filer" and "large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check one): Large accelerated filer Accelerated filer Non-accelerated filer X --- --- --- Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes No X --- --- ================================================================================ ITEM 1. BUSINESS INTRODUCTION We were founded as a Delaware corporation in 1967 to acquire the General Felt Products division of Standard Packaging Corporation. At that time, we were located in Brooklyn, NY, where we produced laminated closure (cap) liners primarily for the pharmaceutical and food industries. Over the years, we have built a reputation for solving difficult packaging problems and providing customers with high quality, advanced packaging materials. In 1970, we built an additional manufacturing facility in Somerville, New Jersey, diversifying into the business of producing polystyrene foam trays for the poultry processing industry. In March 1994, Tekni-Plex was acquired by Dr. F. Patrick Smith and other investors. Dr. Smith was elected Chief Executive Officer. At that time, the principal product lines consisted of clear, high-barrier laminations for pharmaceutical blister packaging (which we refer to as clear blister packaging); closure liners, primarily for pharmaceutical end-uses; and foam processor trays primarily for the poultry industry. In December 1995, Tekni-Plex acquired the Flemington, NJ, plant and business of Hargro Flexible Packaging Corporation. The Flemington plant utilized lamination and coating technology to produce packaging materials primarily for pharmaceutical products such as transdermal patches, sutures, iodine and alcohol swabs, aspirin and other physician samples. We relocated the Brooklyn equipment and business into the Flemington facility during 1996. The synergistic result of having complementary technologies in one location created a combined operation with considerably higher efficiencies and lower costs than the sum of the stand-alone operations. In February 1996, we expanded our food packaging business by completing our acquisition of Dolco Packaging Corp., a publicly-traded $81 million foam products company that was nearly twice the size of Tekni-Plex. Dolco had been in the business of producing foam packaging products since the 1960s and had attained the leading share of foam egg carton sales in the United States. The Dolco acquisition also solidified our position as a leading supplier of foam processor trays. In August 1997, Dolco, which had been a wholly owned subsidiary of Tekni-Plex, was merged into Tekni-Plex. In July 1997, we acquired the business and operating facility of PurePlast Inc. of Cambridge, Ontario, Canada. PurePlast produced calendered polyvinyl chloride (vinyl) sheet primarily for food and electronics packaging applications. Following the acquisition, we diversified the end markets served by this location by developing proprietary formulations of vinyl sheet for vertical integration into our clear blister packaging business and for sale directly to our global pharmaceutical customers. In March 1998, Tekni-Plex acquired PureTec Corporation, a publicly-traded company with annual sales of $315 million. PureTec was a leading manufacturer of plastic packaging, products, and materials primarily for the healthcare and consumer markets. PureTec enjoyed leading market positions in its core products, including garden and irrigation hose, precision tubing and gaskets primarily for the aerosol packaging industry, vinyl medical tubing, and vinyl compounds for the production of medical devices. PureTec is a wholly-owned subsidiary of Tekni-Plex. In January 1999, we acquired substantially all the assets of Tri-Seal International, Inc., a leader in sophisticated extruded and co-extruded capliners and seals. The Tri-Seal operations have been integrated with and into our closure liner business. In April 1999, we acquired substantially all the assets of Natvar, a producer of disposable medical tubing and electrical sheathing. As with Tri-Seal, the Natvar acquisition was intended to strengthen our existing core business and expand product offerings. The Natvar operation has been integrated into our medical tubing and industrial extrusions businesses. In June 2000, we completed a recapitalization of Tekni-Plex. As part of the recapitalization, existing investors other than management sold most of their interests, and a group of new investors contributed an aggregate of $167 million in new equity and agreed to contribute up to $103 million in additional equity over the next five years, all of which has been funded. All members of management maintained 100% of their interests in the Company. Also, Tekni-Plex entered into a new credit agreement, issued $275 million in new senior subordinated notes, and repaid the debt that existed prior to the recapitalization. In October 2000, we acquired substantially all the assets of the Super Plastics division of RCR International Inc. Super Plastics is primarily a manufacturer of garden hose and has a manufacturing facility in Mississauga, Ontario, Canada. The Super Plastics operations have been integrated with and into our garden hose business. 2 In October 2001, we acquired substantially all of the assets of the garden hose business of Mark IV Industries, Inc. which operates under the name Swan Hose. Swan, which has one manufacturing facility located in Bucyrus, Ohio, enhanced Tekni-Plex's geographic coverage of the North American garden hose market. The Swan operations have been integrated with and into our garden hose business. In July 2002, we acquired substantially all of the assets of Elm Packaging Company. Elm produces polystyrene foam plates, bowls, and meat and bakery trays. The Elm acquisition significantly increases our capacity to produce foamed polystyrene products primarily for customers in the food packaging and food service markets. In July 2004, we acquired the egg carton business of Genpak and we have integrated this business into our packaging operations. DESCRIPTION OF SEGMENTS See footnote 14 of our June 30, 2006 audited consolidated financial statements. DESCRIPTION OF BUSINESS We are a global, diversified manufacturer of packaging, packaging products and materials as well as tubing products. We primarily serve the food, healthcare and consumer markets. We have built leadership positions in our core markets, and focus on vertically integrated production of highly specialized products. We have operations in the United States, Europe, Argentina and Canada. We believe that our end market and product line diversity has the effect of reducing overall risk related to any single product or customer. Our operations are aligned under two business segments: Packaging and Tubing Products. Products that do not fit in either of these two segments, including recycled PET, vinyl compounds and specialty resins have been reflected in Other. Representative product lines in each of our business segments are listed below: BUSINESS SEGMENT
PACKAGING TUBING PRODUCTS --------- --------------- - Foam egg cartons - Garden and irrigation hose - Pharmaceutical blister films - Medical tubing - Poultry and meat processor trays - Pool and vacuum hose - Closure liners - Aerosol and pump packaging components - Foam plates
COMPETITIVE STRENGTHS We believe that our competitive strengths include: - Strong market positions in core businesses. We have a strong market presence in the United States in our core product lines. The following table shows what we believe to be our market position in the U.S. in our primary product lines: PRODUCT MARKET POSITION Vinyl medical device materials.............................................. 1 Vinyl medical tubing........................................................ 1 Laminated, clear, high barrier pharmaceutical blister packaging............. 1 Multi-layered co-extruded and laminated closure liners...................... 1 Garden and irrigation hose.................................................. 1 Precision tubing and gaskets for aerosol packaging.......................... 1 Egg cartons................................................................. 1 Foam processor trays........................................................ 2
- Significant barriers to entry. We believe there are significant barriers to entry to our packaging and tubing products businesses. In our pharmaceutical packaging business, we believe that pharmaceutical companies are generally reluctant to change or substitute packaging once a new drug offering has gained FDA approval. In our food packaging businesses, we believe that high capital costs and high technical competence required for manufacturing processes create barriers to entry. In 3 our medical tubing and garden hose businesses, we utilize proprietary formulations and are a low cost market leader with technologically advanced processes that cannot be readily replicated. - Non-cyclical end markets. A majority of our packaging products and materials are sold into markets which are traditionally stable through economic cycles, including food and beverages, personal care products, pharmaceuticals, and medical tubing. We also believe that our garden hose business, while highly seasonal, is resistant to economic cyclicality. - Strong customer relationships. We have long-standing relationships with many of our customers. We attribute our long-term customer relationships to our ability to consistently manufacture high quality products and provide a superior level of customer service. We routinely win customer awards for our superior products and customer service. - Cost efficient producer. We continually focus on improving underlying operations and reducing costs. Our acquisitions since 1995 have provided significant opportunities to realize cost savings and synergies in the combined businesses through the sharing of complementary technologies and manufacturing techniques, as well as economies of scale, including the purchase of raw materials. For example, we applied technologies that we utilize in the manufacturing of our aerosol packaging components to our garden hose business which significantly increased manufacturing throughput and product functionality while reducing material cost. - Producer of high quality, technically sophisticated products. We believe, based upon our knowledge and experience in the industry, we have a long-standing reputation as a manufacturer of high quality, high performance products, materials and primary packaging (where the packaging material comes into direct contact with the end product). Our emphasis on quality is evidenced by our product lines which address the more technically sophisticated areas of their respective markets. - Experienced management team. Our Senior management team has an average of 25 years of experience in the industry. Since 1994, management has successfully integrated the acquisition of the operations and assets of 10 businesses. Management has substantially improved the competitive position of each of the acquired businesses by integrating the acquisitions, effecting turnarounds, providing strategic direction and leadership, increasing sales and market share, improving manufacturing efficiencies and productivity, and developing new technologies to enhance their competitive strengths. Current management owns more than 20% of the fully diluted common stock of the Company. EMPLOYEES We have approximately 3,100 employees. Approximately one-third of our employees are represented by labor unions; we believe our labor relations with those unions are satisfactory. BUSINESS STRATEGY We seek to maximize our profitability and growth and take advantage of our competitive strengths by pursuing the following business strategy: - Ongoing cost reduction through technical process improvement. We have an ongoing program to improve manufacturing and other processes in order to drive down costs. Examples of cost improvement programs include: - material and energy conservation through enhanced process controls and advanced product design; - reduction in machine set-up time through the use of proprietary technology; - continual product line rationalization; and - development of backward and forward integration opportunities. - Growth through product line extension and improvement. We continually seek to improve and extend our product lines and leverage our existing technological capabilities in order to increase market share in existing markets, effectively penetrate new markets and improve profitability. Our strategy is to emphasize our expertise in providing packaging, products and materials with specific high performance characteristics through the development of various unique proprietary materials and proprietary manufacturing process techniques. 4 - Growth through international expansion. We believe that there is significant opportunity to expand our international sales, which currently represent approximately 13.6% of our total revenues. At present, we have manufacturing operations with attached sales offices in Europe, China, Canada and Argentina. We have a regional sales office in Asia and sales representatives in the Middle East. We believe that our growing international presence, which is a combination of our own regional manufacturing and sales forces and independent sales representatives, will continue to generate opportunities to increase our sales. PACKAGING SEGMENT The Packaging segment of our business had revenues of $374.1 million (50.4% of total revenues) for the year ended June 30, 2006 and $348.7 million (50.1% of total revenues) for the year ended July 1, 2005. Further details of the major markets served by this segment are given below: FOAM EGG CARTONS We believe that we are the leading manufacturer of egg cartons in the United States. Thermoformed foam polystyrene packaging has been the material of choice for food packaging cartons for many years. In terms of economic and functional characteristics, foamed polystyrene products offer a combination of high strength, minimum material content and superior moisture barrier performance. Foamed polystyrene products also offer greater dimensional consistency that enhances the high speed mechanical feeding of cartons into automated package filling operations. We sell these products through our direct sales force. In the egg packaging market, our primary competitor manufactures pulp-based egg cartons. We believe that we compete effectively based on product quality, performance and prompt delivery. Our customer base includes most of the domestic egg packagers (including those owned by egg retailers). PHARMACEUTICAL BLISTER FILMS We believe that we are a market leader for clear, high-barrier laminations for pharmaceutical blister packaging. These packaging materials are used for fast-acting pharmaceuticals that are generally highly reactive to moisture. Transparent, high-barrier blister packaging is primarily used to protect drugs from moisture vapor infiltration or desiccation. Blister packaging is the preferred packaging form when dispenser handling can affect shelf life or drug efficacy, or when unit dose packaging is needed. Unit dose packaging is being used to improve patient compliance with regard to dosage regimen, and has been identified as the packaging form of choice in addressing child safety aspects of drug packaging. The advantages of transparent blisters, as opposed to opaque foil-based materials manufactured by various competitors, include the ability to visually inspect the contents of the blister and to present the product with maximum confidence. We believe the flexible and semi-rigid packaging segment of the pharmaceutical packaging industry is growing at a faster rate than the non-plastics segments because of the generally lower package cost and broader range of functional characteristics of plastic packaging. As a result, the technologies used to manufacture plastic packaging materials continue to develop at a faster pace than those used in the more mature paper, glass, and metal products. Our high-barrier blister packaging is sold to major pharmaceutical companies (or their designated contract packagers). We market our full pharmaceutical product line directly on a worldwide basis, and have assembled a global network of sales and marketing personnel on six continents. In the clear blister packaging market, we have one principal competitor worldwide with resources equal to or greater than ours. However, we believe that this competitor does not have the breadth of product offering to match ours, and that this differentiation is significant as viewed by the pharmaceutical industry. Also, the high manufacturing and compliance standards imposed by the pharmaceutical companies on their suppliers provide a significant barrier to the entry of new competitors. Entry barriers also arise due to the lengthy and stringent approval process required by pharmaceutical companies. Since approval requires that the drug be tested while packaged in the same packaging materials intended for commercial use, changing materials after approval risks renewed scrutiny by the FDA. The packaging materials for pharmaceutical applications also require special documentation of material sources and uses within the manufacturing process as well as heightened quality assurance measures. POULTRY AND MEAT PROCESSOR TRAYS 5 Our processor tray operations produce thermoformed foam polystyrene poultry and meat processor trays. We are a leading supplier of processor trays to the poultry industry. As with egg cartons, thermoformed foam polystyrene has been the material of choice for processor trays for the same reasons noted above. Within the polystyrene foam processor tray market, we compete principally with one large competitor, who has significantly greater financial resources than ours and who controls the largest share of this market. CLOSURE LINERS Tekni-Plex is also a leading producer of sophisticated extruded, co-extruded and laminated cap-liners and seals, known as closure liners, for glass and plastic bottles. Closure liners perfect the seal between a container and its closure, for example, between a bottle and its cap. The liner material has become an integral part of the container/closure package. Without the gasketing effect of the liner, most container/closure packages would not be secure enough to protect the contents from contamination or loss of product efficacy. We sell these products through our direct sales force primarily to packagers of pharmaceutical, healthcare and food products. We have two principal competitors in North America but also compete with several smaller companies having substantially smaller market shares. However, as a result of the Tri-Seal acquisition, we believe that we offer the widest range of liner materials in the industry. We remain competitive by focusing on product quality, performance and prompt delivery. AEROSOL AND PUMP PACKAGING COMPONENTS Our Aerosol and Pump Packaging Components business produces dip tubes, which transmit the contents of the container to the nozzle, and specialized, molded or punched rubber-based valve gaskets that serve to control the release of the product from the container. The group also produces writing instrument products, including pen barrels and ink tubing as well as ink reservoirs for felt-tip pens. Sales are primarily to manufacturers of aerosol valves, dispenser pumps, and writing instruments. These products are sold throughout the United States and Europe, as well as selected worldwide markets. Sales are made through our direct sales force. We believe that we are the leading supplier of aerosol valve and dispenser pump gaskets and dip tubes in the world. Our dip tubes and pen barrels are manufactured at extremely high speeds while holding to precise tolerances. The process enhancements that allow simultaneous high speed and precision are proprietary to us. The precision rubber gasket products, which we have manufactured for over fifty years, are produced using proprietary formulations. These formulations are designed to provide consistent functional performance throughout the entire shelf life of the product by incorporating chemical resistance characteristics appropriate to the fluid being packaged. For example, we have developed unique formulations that virtually eliminate contamination of the products packaged in spray dispensers. This has greatly expanded the use of these dispensers for personal hygiene products, foods, and fragrances. The Company has also developed proprietary methods for achieving extremely accurate thickness control, superior surface finish, and the elimination of internal imperfections prevalent in other processing methods. We are the single-source supplier to much of the industry. The principal competitive pressure in this product line, particularly the dip tube portion, is the possibility of customers switching to internal production, or vertical integration. To counteract this possibility, the Company focuses on product quality, cost reduction, prompt delivery, technical service and innovation. FOAM PLATES Our foam plate operations produce thermoformed foam polystyrene disposable plates, bowls, and hinged-lid containers as well as agricultural packaging products. Our sales are primarily to the consumer, agricultural and foodservice industries. We compete with numerous participants who use a variety of materials including foam polystyrene, pulp-based products and various plastic materials. TUBING SEGMENT The Tubing Products segment of our business had revenues of $215.8 million (29.1% of total revenues) for the year ended June 30, 2006 and $213.1 million (30.6% of total revenues) for the year ended July 1, 2005. Further details of the major markets served by this segment are given below: 6 GARDEN AND IRRIGATION HOSE PRODUCTS We believe that we are the leading producer of garden hose in North America. We have produced garden hose products for over fifty years, and produce its primary components internally, including proprietary material formulations and brass couplings. Innovations have included the patented Colorite(R) Evenflow(R) design and ultra high quality product lines that utilize medical-grade plastics. We also manufacture specialty hose products such as air hose and irrigator ("soaker") hose. We sell these products primarily through our direct sales force and also through independent representatives. Both private label and brand-name products are sold to the retail market, primarily to home centers, hardware cooperatives, food, automotive, drug and mass merchandising chains and catalog companies throughout the United States and Canada. Our customers include some of the fastest growing and the most widely respected retail chains in North America. Our market strategy is to provide a complete line of innovative, high-quality products along with superior customer service. The garden hose business is highly seasonal with approximately 75% of sales occurring in the spring and early summer months. This seasonality tends to have an impact on the Company's financial results from quarter to quarter. MEDICAL TUBING We believe we are the leading non-captive supplier of vinyl medical tubing in North America and Europe. We manufacture medical tubing using proprietary plastic extrusion processes. The primary raw materials are proprietary compounds, which we produce. We specialize in high-quality; close tolerance tubing for various surgical procedures and related medical applications. These applications include intravenous ("IV") therapy, hemodialysis therapy, cardio-vascular procedures such as coronary bypass surgery, suction and aspiration products, and urinary drainage and catheter products. New medical tubing products we have developed include microbore tubing and silicone substitute formulations. Microbore tubing can be used to regulate the delivery of critical intravenous fluids without the need for more expensive drip control devices. Medical professionals can precisely control the drug delivery speed simply by selecting the proper (color-coded) diameter tube, thereby improving accuracy and reducing cost. More importantly, as home healthcare trends continue, the use of microbore tubing will help eliminate critical dosage errors on the part of the non-professional caregiver or the patient. Medical tubing is sold primarily to manufacturers of medical devices that are packaged specifically for such procedures and applications. These products are sold through our direct sales force. We remain competitive by focusing on product quality, performance and prompt delivery. ITEM 1A. RISK FACTORS OUR PROFITS WILL LIKELY DECLINE AS A RESULT OF PRICE VOLATILITY AND AVAILABILITY OF RAW MATERIALS IF WE ARE UNABLE TO PASS PRICE INCREASES ON TO CUSTOMERS OR TO OBTAIN NECESSARY RAW MATERIALS. Our profitability will likely decline if raw material prices increase and we are unable to pass these price increases on to our customers, employ successful hedging strategies, enter into supply contracts at favorable prices or buy on the spot market at favorable prices. Our products are manufactured from commodity petrochemicals that are readily available in bulk quantities from numerous large, vertically integrated chemical companies. Except for PCTFE film, a raw material used in the manufacturing of our clear, laminated blister packaging materials, we currently purchase each principal raw material from several of the top suppliers. Prices for our raw materials have fluctuated in the past and likely will continue to do so in the future. Historically, we have been able to pass on substantially all of the price increases in raw materials to our customers on a timely basis, although in the case of most of our garden hose products we are usually not able to do so until the following season because prices are typically set annually. While we have not guaranteed prices for our garden hose product, for the 2006 selling season, we cannot assure you that we will be able to pass on price increases in the future. WE OPERATE IN DISCRETE MARKET SEGMENTS OF OUR INDUSTRY, SOME OF WHICH ARE HIGHLY COMPETITIVE AND INCLUDE PARTICIPANTS WITH GREATER RESOURCES THAN OURS. WE MAY NOT BE ABLE TO COMPETE SUCCESSFULLY AGAINST THESE PARTICIPANTS. We compete with a wide variety of manufacturers because we operate in discrete market segments. Some of our competitors are larger, have greater financial resources and are less leveraged than we are. As a result, these competitors may be better able to withstand a change in market conditions within the industry and throughout the economy as a whole. These competitors may also be able to maintain significantly greater operating and financial flexibility than we can. Additionally, a number of our niche product applications are customized or sold for highly specialized uses. Competitors with greater financial, technological, manufacturing and marketing resources than ours and that do not currently market similar applications for these uses could choose to do so in the future. If we are faced with increased competition, our business, financial condition or results of operations could suffer as a result of loss of customers and declining profits. THE GARDEN AND IRRIGATION HOSE PRODUCTS BUSINESS IS HIGHLY SEASONAL AND IS IMPACTED BY WEATHER CONDITIONS, WHICH RESULTS IN SIGNIFICANT FLUCTUATION OF OUR FINANCIAL RESULTS OVER THE COURSE OF THE FISCAL YEAR. The market for our garden and irrigation hose products is highly seasonal, with a majority of our sales occurring in spring and early summer. As a result of the need to build up inventories in anticipation of such sales, our working capital requirements peak in the spring. In addition, this seasonality has a significant impact on our net income from quarter to quarter. To the extent such sales peak later in any fiscal year compared to other fiscal years, as a result of weather or other factors, cash flows may not be comparable on an interim period basis. In addition, the market for our garden and irrigation hose products is impacted by adverse weather conditions. OUR FOREIGN INVESTMENT AND OPERATIONS SUBJECT OUR BUSINESS TO ONGOING FOREIGN REGULATION AND OTHER RISKS ASSOCIATED WITH CONDUCTING BUSINESS IN FOREIGN COUNTRIES. IF WE FAIL TO COMPLY WITH SUCH REGULATION OR ADAPT TO SUCH RISKS, WE MAY BE UNABLE TO SELL OUR PRODUCTS. We have operations and other investments in a number of countries outside of the United States. Our foreign operations and investments are subject to the risks normally associated with conducting business in foreign countries, including: - limitations on ownership and on repatriation of earnings; - import and export restrictions and tariffs; - additional expenses relating to the difficulties and costs of staffing and managing international operations; - labor disputes and uncertain political and economic environments, including risks of war and civil disturbances and the impact of foreign business cycles; - change in laws or policies of a foreign country; - delays in obtaining or the inability to obtain necessary governmental permits; - potentially adverse consequences resulting from the applicability of foreign tax laws; - cultural differences; and - increased expenses due to inflation. Our foreign operations and investments may be limited, and our ability to sell our products may be disrupted by, laws and policies of the United States and the other countries in which we operate affecting foreign trade, investment and taxation. WE ARE DEPENDENT ON CERTAIN KEY PERSONNEL AND THE LOSS OF THEIR SERVICES OR THE FAILURE TO ATTRACT ADDITIONAL QUALIFIED PERSONNEL COULD HARM OUR BUSINESS. We are dependent on the management experience and continued services of our executive officers, including Dr. F. Patrick Smith, who may be difficult to replace if we lose his services. The loss of the services of these officers could have a material adverse effect on our business. In addition, our continued growth depends on our ability to attract and retain experienced key employees. We maintain a key person life insurance policy on Dr. Smith, and we have an employment agreement with Dr. Smith. IF WE WERE REQUIRED TO WRITE DOWN ALL OR PART OF OUR GOODWILL, OUR NET INCOME AND NET WORTH COULD DECREASE. Historically, we have amortized goodwill on a straight-line basis. Effective June 29, 2002, we no longer amortize goodwill. Instead, we are required to periodically determine if our goodwill has become impaired, in which case we would write down the impaired portion of our goodwill. If we were required to write down all or part of our goodwill, our net income and net worth could decrease. In fiscal 2006 we decreased our goodwill by $35.1 million due to impairment at our Swan garden hose operation resulting from lost market share. COMPLIANCE WITH ENVIRONMENTAL AND HEALTH AND SAFETY LAWS AND REGULATIONS COULD IMPOSE SUBSTANTIAL COSTS UPON US. Our facilities, operations, and properties are subject to foreign, federal, provincial, state and local environmental and health and safety laws and regulations. These laws and regulations are complex, change frequently and they and the enforcement of them against our industry have tended to become more stringent over time. We are involved from time to time in administrative or legal proceedings relating to environmental and health and safety matters and have in the past and will continue to incur capital costs and other expenditures relating to these matters. While we have budgeted for future capital and operating expenditures to maintain compliance with environmental and health and safety laws and regulations, these laws and regulations may change or become more stringent in the future. Failures to comply with these laws and regulations or more stringent enforcement of them could result in fines, other sanctions or could require changes in our product formulation or labeling. We could incur significant fines, penalties, capital costs or other liabilities or obligations associated with any noncompliance, contamination or natural resource damage or toxic tort liability at or related to any of our current or former operations, facilities or properties. Changes in laws or the interpretation thereof, the development of new facts or the failure of third parties to address contamination at current or former facilities or properties could also cause us to incur additional costs. Any of these foregoing fines, penalties, capital costs, liabilities or obligations could impose substantial costs on us and could, in turn, harm our businesses, financial condition or results of operations. Current and prior owners and operators of property or businesses may be subject to joint and several liability for investigation and remediation costs at contaminated sites under environmental laws without regard to fault or to knowledge about the condition or action causing the liability and may have liability for related damages to natural resources. We are currently, and may in the future be, required to incur costs relating to the investigation or remediation of property, including property where we dispose of our waste, under the requirements of New Jersey's Industrial Site Recovery Act or other laws, and environmental conditions could lead to other claims for damages to natural resources, personal injury or property damage. Certain properties that we now or previously owned or leased are undergoing investigation or remediation by us or by third parties or may in the future require such action as a result of historical operations. We cannot assure you that any costs ultimately borne by us in connection with any of these remediation projects would not be material. A SIGNIFICANT PORTION OF OUR WORKFORCE IS UNIONIZED AND UNSATISFACTORY RELATIONS WITH OUR WORKFORCE, INCLUDING WORK STOPPAGES, COULD DISRUPT OUR PRODUCTION AND HARM OUR BUSINESS. As of June 30, 2006, we had approximately 3,100 employees, of whom approximately one third were represented by labor unions under various collective bargaining agreements. We have had one labor strike in the United States in our history, which occurred at our Ridgefield, NJ plant in August 2003. Although we consider our current relations with these unions to be generally good, if we do not maintain these good relations, if we cannot negotiate the collective bargaining agreements on favorable terms or if a major work disruption event were to occur, it could harm our business. OUR DISCLOSURE CONTROLS AND PROCEDURES ARE NOT EFFECTIVE. In connection with the completion of its audit of and the issuance of an unqualified report on the Company's consolidated financial statements for the fiscal year ended June 30, 2006, the Company's independent registered public accounting firm, BDO Seidman, LLP ("BDO"), communicated to the Company's Audit Committee that the following matters involving the Company's internal controls and operations were considered to be "significant deficiencies", as defined under standards established by the Public Company Accounting Oversight Board: - Lack of quantity of staff in order to ensure the timeliness and completeness of financial reporting. We agree with this assessment. Significant deficiencies are matters coming to the attention of the independent auditors that in their judgment, relate to material weaknesses in the design or operation of internal controls that could adversely affect the Company's ability to record, process, summarize and report financial data consistent with the assertions of management in the financial statements. In addition, BDO has advised the Company that they consider these matters, which are listed above, to be a "material weakness" that, by itself, may increase the possibility that a material misstatement in our financial statements might not be prevented or detected by our employees in the normal course of performing their assigned functions. ITEM 2. FACILITIES The Company believes that its facilities are suitable for their purposes and have sufficient productive capacity for its current and foreseeable operational and administrative needs. Set forth below is a list and brief description of all of the Company's offices and facilities, all of which are owned unless otherwise indicated.
APPROXIMATE LOCATION PRIMARY FUNCTION SQUARE FEET -------- --------------------------- ----------- Belfast, Northern Ireland........... Manufacturing 47,580 Blauvelt, New York(4)............... Manufacturing 56,400 Burlington, New Jersey.............. Manufacturing 124,000 Bucyrus, Ohio....................... Manufacturing 587,649 Buenos Aires, Argentina(2).......... Manufacturing and warehouse 12,900 Cambridge, Ontario, Canada.......... Manufacturing and warehouse 40,000 City of Industry, California(5)..... Manufacturing 110,000 Clayton, North Carolina............. Manufacturing 99,665 Clinton, Illinois................... Manufacturing 69,000 Coppell, Texas(6)................... Executive Offices 3,125 Dallas, Texas....................... Manufacturing 139,000 Dallas, Texas....................... Warehouse 10,759
7 Decatur, Indiana.................... Manufacturing 187,000 Decatur, Indiana(1)................. Warehouse 3,750 East Farmingdale, New York(5)....... Manufacturing 56,556 East Farmingdale, New York (5)...... Warehouse 11,000 Erembodegem (Aalst), Belgium........ Manufacturing 125,667 Erembodegem (Aalst), Belgium(9)..... Warehouse 64,070 Flemington, New Jersey.............. Manufacturing 145,000 Fullerton, California (8)........... Manufacturing and warehouse 60,250 Harrison, New Jersey(3)............. Warehouse 135,501 Lawrenceville, Georgia.............. Manufacturing 150,000 Lawrenceville, Georgia(5)........... Warehouse 13,000 Livonia, Michigan(1)................ Warehouse 7,240 McKenzie, Tennessee................. Manufacturing and warehouse 60,000 Memphis, Tennessee(4)............... Manufacturing and warehouse 149,800 Memphis, Tennessee(4)............... Warehouse 50,000 Milan (Gaggiano), Italy(7).......... Warehouse 12,920 Milan (Gaggiano), Italy............. Manufacturing 14,900 Milan (Gaggiano), Italy............. Manufacturing 25,800 Milan (Rosate), Italy(5)............ Manufacturing 24,000 Mississauga, Ontario, Canada(10).... Manufacturing 118,196 Mississauga, Ontario, Canada(3)..... Manufacturing 100,000 Piscataway, New Jersey(3)........... Manufacturing 155,000 Ridgefield, New Jersey.............. Manufacturing 330,000 Rockaway, New Jersey................ Manufacturing 90,550 Schaumburg, Illinois(11)............ Manufacturing and warehouse 97,966 Schiller Park, Illinois............. Manufacturing 15,232 Shelby, Ohio(5)..................... Warehouse 350,000 Singapore(1)........................ Sales Office 550 Somerville, New Jersey.............. Manufacturing 172,000 Sparks, Nevada(7)................... Manufacturing 448,000 Suzhou, China (4)................... Manufacturing & warehouse 120,000 Tonawanda, New York(7).............. Manufacturing 32,000 Troy, Ohio(4)....................... Manufacturing and warehouse 220,000 Tustin, California(1)............... Sales Office 414 Waco, Texas......................... Manufacturing 104,600 Wenatchee, Washington............... Manufacturing 97,000 Wenatchee, Washington(4)............ Warehouse 26,200 Wenatchee, Washington(1)............ Warehouse 8,000
(Years relate to calendar years) (1) Leased on a month-to-month basis. (2) Lease expires in 2006. (3) Lease expires in 2007. (4) Lease expires in 2008. (5) Lease expires in 2009. (6) Lease expires in 2011. (7) Lease expires in 2012. (8) Lease expires in 2013. (9) Lease expires in 2014. 8 (10) Lease expires in 2015. (11) Lease expires in 2030. ITEM 3. LEGAL PROCEEDINGS AND ENVIRONMENTAL MATTERS The Company is a party to various legal proceedings arising in the normal conduct of business. Management believes that the final outcome of these proceedings will not have a material adverse effect on the Company's financial position. We previously reported, in January 1993 and 1994, our Belgian subsidiary received income tax assessments aggregating approximately 74.9 million Belgian Francs for the disallowance of certain foreign tax credits and investment losses claimed for the years ended July 31, 1990 and 1991. Additionally, in January 1995, the subsidiary received an income tax assessment of approximately 32.8 million Belgian francs for the year ended July 31, 1992. By Belgium law, these assessments are capped at the values above, increased by late payment interest for a period of 18 months only (approximately 15.5 million Belgian francs) and do not continue to accrue additional penalties or interest as long as the Tax Director has not rendered a decision in connection with the tax complaints that have been filed against these tax assessments. To date, the Tax Director has not rendered a decision. These liabilities, which total approximately EUR 3,054,000 or $3.8 million at current exchange rates, have been fully accrued for in fiscal 2006. We are subject to environmental laws requiring the investigation and cleanup of environmental contamination. In addition to remediation being undertaken by third parties at a limited number of our locations, we are currently remediating contamination resulting from past industrial activity at three of our New Jersey facilities which we acquired from PureTec in 1998. This remediation is being conducted pursuant to the requirements of New Jersey's Industrial Site Recovery Act which were triggered by the 1998 PureTec transaction. If any other events were to occur in the future that would be deemed to have effected a "change of control" of any of our New Jersey facilities as defined under New Jersey's Industrial Site Recovery Act, we would be required to take additional actions to comply with such statute, including possibly additional investigations and remediation. We also are conducting remediation at a formerly-owned New Jersey facility under a voluntary cleanup agreement with the state. We recently voluntarily self-disclosed to regulators certain non-compliances with the air permit for our Troy, OH facility. While discussions with the Ohio Regional Air Pollution Control Agency are ongoing, we expect that we will be required to install additional pollution controls at this facility in 2006; the capital investment of which we estimate should not exceed $1 million, based on current information. We may also be required to pay a fine, but based on the preliminary stage of discussions, we cannot predict whether such a fine will be imposed, or if so, in what amount. In 2004, the National Enforcement Investigation Center (NEIC), on behalf of the United States Environmental Protection Agency (EPA), conducted an environmental review of our Burlington, NJ site concerning federal Clean Air Act requirements. The EPA subsequently issued a request for further information regarding these air issues under Section 114 of the federal Clean Air Act. In February and March, 2006 the New Jersey Department of Environmental Protection (NJDEP) issued administrative orders alleging violations of certain state air regulations at the Burlington facility. In March, 2006, the United States Department of Justice (DOJ) contacted Colorite on behalf of the EPA. The DOJ indicated that certain violations under several federal environmental statutes had been identified as a result of the EPA's inspection. They discussed the alleged violations and attempted to negotiate a settlement. Since that date, representatives of Colorite have met with representatives of EPA, DOJ and NJDEP on several occasions to discuss the alleged federal and state violations. Tekni-Plex continues to evaluate the alleged violations and its defenses to them, and anticipates negotiating with the government agencies to attempt to resolve these matters. In 2004, we also received a similar request for information from the EPA concerning air emissions at our Wenatchee, Washington plant which we do not expect to result in significant costs or fines or penalties. In fiscal 2006 we established an incremental $900,000 reserve in our financial statements to reflect our best estimate of the aggregate expenses associated with these environmental matters. This reserve is in addition to existing environmental reserves which total $522,500 and the reserves described in Note 7 related to our Elm and Swan acquisitions. Although we believe that, based on historical experience, the costs of achieving and maintaining compliance with environmental laws and regulations are unlikely to have a material adverse effect on our business, we could incur significant fines, penalties, capital costs or other liabilities associated with any confirmed noncompliance or remediation of contamination or natural resource damage liability at or related to any of our current or former facilities, the precise nature of which we cannot now predict. Furthermore, we cannot assure you that future environmental laws or regulations will not require substantial expenditures by us or significant modifications of our operations. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED SECURITY HOLDER MATTERS 9 Not Applicable. ITEM 6. SELECTED FINANCIAL DATA The following table sets forth selected historical consolidated financial information of the Company, and has been derived from and should be read in conjunction with the Company's audited consolidated financial statements, including the notes thereto, which appear elsewhere herein and previously filed. Acquisitions the Company made in certain years result in years not being comparable. As previously disclosed on Form 8-K as filed September 21, 2005, Tekni-Plex has identified certain overstated inventory at its American Gasket & Rubber Division which resulted in a $6.8 million overstatement of inventory. This inventory overstatement has required a non-cash charge to results of operations as follows: Fiscal 2005 $(2.8) million Fiscal 2004 $(2.7) million Fiscal 2003 $(0.5) million Fiscal 2002 $(0.5) million
YEAR ENDED -------------------------------------------------------------- JUNE 28, JUNE 27, JULY 2, 2002 2003 2004 JULY 1, 2005 JUNE 30, 2006 -------- -------- --------- ------------ ------------- STATEMENT OF OPERATIONS DATA: Net sales................................................... $577,749 $610,663 $ 635,642 $ 695,524 $ 742,683 Cost of goods sold.......................................... 430,920 459,981 530,372 600,170 621,983 Gross profit................................................ 146,829 150,682 105,270 95,354 120,700 Integration Expense......................................... -- 11,164 7,775 10,478 5,250 Selling, general and administrative expenses(c)............. 69,444 61,600 69,159 60,690 96,490 Income from operations...................................... 77,385 77,918 28,336 24,186 18,960 Interest expense, net(a).................................... 70,934 71,266 84,451 89,899 104,831 Unrealized loss (gain) on derivative contracts.............. 7,830 1,997 (10,654) (8,287) (3,800) Other expense (income)...................................... (6) (531) 605 (2,194) (2,737) Pre-tax income (loss)....................................... (1,373) 5,186 (46,066) (55,232) (79,334) Income tax provision (benefit).............................. 5,677 2,306 11,121 26,247 4,997 Net income (loss)........................................... (7,050) 2,880 (57,187) (81,479) (84,311) BALANCE SHEET DATA (AT YEAR END): Working capital............................................. $218,136 $248,372 $225,857 $200,818 $215,415 Total Assets................................................ 691,180 783,471 743,663 691,695 663,355 Total debt (including current portion and preferred stock).. 692,821 729,484 734,007 800,517 849,621 Stockholders' (deficit)..................................... (91,894) (66,104) (105,054) (213,327) (288,931) OTHER FINANCIAL DATA: Depreciation and amortization............................... $ 39,863 $28,342 $32,304 $32,653 $31,996 Goodwill impairment(c)...................................... -- -- 10,000 -- 35,131 Capital expenditures........................................ 24,653 32,232 30,128 18,246 19,082 Cash flows: From (used in) operations................................... 7,922 15,029 (7,364) (24,461) (11,199) From (used in) investing.................................... (88,446) (49,994) (34,126) (19,000) (18,874) From financing.............................................. 64,092 54,203 23,513 32,272 32,598
---------- (a) Interest expense included a $1,400 reduction in deferred financing costs and a $5,000 reduction in deferred financing costs in fiscal 2005 and fiscal 2004 respectively. (b) Income tax provision contains an increase in the valuation allowance of deferred tax assets of $23.1 million and $7.0 million in 2005 and 2004, respectively. (c) In September 2005, we concluded our annual garden hose contract negotiations. While we were largely successful in securing our target price increases, we lost meaningful market share. With this information in mind, in the second quarter of fiscal 2006 we deemed it appropriate to retest the goodwill in our Tubing segment in greater detail, evaluating each line of business within this segment separately. Accordingly, we recorded a $35.1 million impairment charge against the goodwill associated with our Swan operations as we anticipate reducing the capacity of this operation, eliminating much of its fixed costs, to reflect our reduced market position. As a result of impairment tests being performed at the end of fiscal 2006 and 2005, the Company did not record an impairment charge. In fiscal 2004, an impairment charge of $10.0 million associated with its specialty resins operations was recorded. 10 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS You should read the following discussion and analysis in conjunction with the "Selected Historical Financial Information" and the Financial Statements included elsewhere in this Annual Report. Restated financial statements can be found elsewhere in this filing. The table below sets forth, for the periods indicated, selected operating data as a percentage of net sales. SELECTED FINANCIAL INFORMATION (PERCENTAGE OF NET SALES)
JULY 2, JULY 1, JUNE 30, 2004 2005 2006 ------------ ------- -------- Net sales..................................... 100.0% 100.0% 100.0% Cost of sales................................. 83.4 86.3 83.7 Gross profit.................................. 16.6 13.7 16.3 Integration Expense........................... 1.2 1.5 0.7 Selling, general and administrative expenses.. 10.9 8.7 13.0 Income from operations........................ 4.5 3.5 2.6 Interest expense.............................. 13.3 12.9 14.1 Provision (Benefit) for income taxes.......... 1.7 3.8 0.7 Net income (loss)............................. (9.0) (11.7) (11.4) Depreciation and amortization................. 5.1 4.7 4.3
Net sales increased to $742.7 million in fiscal 2006 from $695.5 million the same period last year, representing a 6.8% increase. Net sales in our Packaging Segment grew 7.3% to $374.1 million in the most recent period from $348.7 million in fiscal 2005 primarily due to higher selling prices. Net sales in our Tubing Products Segment increased 1.3% to $215.8 million in fiscal 2006 from $213.1 million in fiscal 2005 due to significant price increases, in excess of 10% on average, that went into effect midway through our fiscal year for our garden hose products. These price increases were largely offset by lower sales volumes due to lost market share, in excess of 10 percentage points, at our garden hose operations. Other net sales grew 14.2% to $152.8 million in fiscal 2006 compared to $133.8 million in the previous year due to higher selling prices which rose 16.8% on average, offset by lower volumes which declined by approximately 2.4%. Rebates, discounts and sales allowances totaled to $57.3 million or 7.7% of net sales in fiscal 2006 compared to $43.0 million or 6.2% of net sales in fiscal 2005. The increase was due to changes in our sales programs as well as changes in the volumes purchased by each of our customers during the relevant years. Cost of goods sold increased to $622.0 million in fiscal 2006 from $600.2 million in fiscal 2005 due to higher energy, labor and freight costs. Despite generally higher prices for our raw materials, our material cost decreased a modest 0.3% in fiscal 2006 compared to fiscal 2005. Lower material costs resulted from both lower garden hose volumes due to lost market share and improved material utilization rates. Expressed as a percentage of net sales, cost of goods sold decreased to 83.7% in the current period compared to 86.3% in the prior period Tekni-Plex's primary raw materials are Polyvinyl Chloride (PVC), Polystyrene, Vinyl Chloride Monomer (VCM) and various plasticizers, all of which are petrochemical based. Generally higher oil and natural gas prices, coupled with strong global demand for commodity chemicals and tight supplies, have resulted in generally higher costs for all of our key raw materials. We expect this trend to continue for the foreseeable future. In most of our businesses we have been able to pass on higher material costs to our customers in a relatively short time period. However, like most seasonal retail products, we traditionally have sold garden hose under annual agreements, where prices are generally set in the fall and generally remain in effect for the calendar year. In general, the increase in raw material costs at our garden hose operations during a 12-month time period reduces our profitability. In fiscal 2006, the two primary raw materials for our garden hose business, PVC and plasticizers, rose an average of 12.4% and 18.3% respectively. Price increases on our garden hose products that generally went into effect in January 2006 coupled with cost reduction initiatives and product mix improvements more than offset this increase in raw material costs. To further mitigate the potential impact of continued increases in the cost of our raw materials and in contrast to previous years, we did not guarantee garden hose pricing for the 2006 selling season, nor do we anticipate doing so in fiscal 2007. 11 Our cost of goods sold includes a $2.8 million inventory write-down (0.4% of net sales) in fiscal 2005 to reflect inventory restatements at our American Gasket and Rubber Division. Gross profit, as a result of the above, increased to $120.7 million in the current period compared to $95.4 million in the prior period. Expressed as a percentage of net sales, gross profit increased to 16.3% in fiscal 2006 from 13.7% last year. Our Packaging Segment gross profit increased 12.7% to $93.7 million in fiscal 2006 from $83.1 million in fiscal 2005 due to higher selling prices. Expressed as a percentage of net sales, Packaging Segment gross profit increased to 25.1% in the current period from 23.8% in the previous period. Our Tubing Products Segment gross profit increased 136.6% to $16.8 million in fiscal 2006 from $7.1 million in fiscal 2005 as significantly higher selling prices more than offset both higher raw material costs and reduced volumes. Expressed as a percentage of net sales, our Tubing Products Segment gross profit more than doubled to 7.8% in the current period from 3.3% in the previous period. Other gross profit increased to $10.1 million in fiscal 2006 from $5.2 million in fiscal 2005 primarily due to higher pricing. Expressed as a percentage of net sales, other gross profit improved to 6.6% in fiscal 2006 from 3.8% a year earlier. Selling, general and administrative expenses increased to $96.5 million in the most recent fiscal year from $60.7 million last year largely due to the inclusion of a $35.1 million non-cash charge in our second fiscal quarter to write off goodwill associated with our garden hose operations. In recent years our garden hose operations have not been profitable. While the price increases we secured for the 2006 selling season has returned these operations to profitability, we have lost significant market share. In the near term, we expect to reduce our production capacity at our Swan operations to reflect our reduced market share and accordingly we have deemed it appropriate to write-off the goodwill associated with these operations. Measured as a percentage of net sales, selling, general and administrative expenses increased to 13.0% in the current period from 8.7% in the previous period. Integration expenses decreased to $5.3 million or 0.7% of net sales in fiscal 2006 from $10.5 million or 1.5% of net sales in fiscal 2005. The decrease was largely related to the fact that we completed the closing of our Rockaway facility early in fiscal 2006 and we incurred lower costs associated with the integration of our Elm facilities. Our integration expenses are typically cash expenses and relate to reconfiguring and realignment of acquired facilities to conform to the Company's current production and product standards as well as the costs associated with consolidating facilities. These costs are comprised of the following measured in millions:
2006 2005 ---- ----- Elm Packaging Material $2.6 $ 3.8 Labor 0.8 1.5 Overhead 1.6 2.5 Rockaway closing Material 0.0 1.5 Labor 0.0 0.1 Overhead 0.0 0.9 SG&A 0.3 0.2 ---- ----- Total $5.3 $10.5 ==== =====
We expect the closing of our Rockaway facility to result in approximately $1.0 million of annual cost savings. We also expect the reconfiguring and realignment of our Elm facilities to result in significant cost reductions as well as enable us to produce higher value added products; however, we cannot currently quantify these benefits. Operating profit, as a result of the above, decreased to $19.0 million in fiscal 2006 from $24.2 million in fiscal 2005. Expressed as a percentage of net sales, operating profit decreased to 2.6% in the most recent period from 3.5% in the comparable period of last year. Our Packaging Segment operating profit increased 29.9% to $63.6 million (17.0% of net sales) in the current period compared to $49.0 million (14.0% of net sales) in the previous period. Our Tubing Products Segment reported an operating loss of ($30.5) million in fiscal 2006 compared to an operating loss of ($6.5) million in fiscal 2005. Measured as a percent of net sales, our Tubing Segment operating loss decreased to (14.2%) of net sales in the current period compared to (3.0%) of net sales in the previous year. The 2006 period included a $35.1 million non-cash charge to write-off goodwill associated with our garden hose operations. Our Tubing Segment reported $4.6 million of operating profit before goodwill impaiment in fiscal 2006. Our Other segment reported a $3.0 million or 2.0% of net sales operating profit in fiscal 2006 compared to a loss of ($1.2) million or (0.9%) of net sales in the comparable period of 2005. 12 Interest expense increased to $104.8 million (14.1% of net sales) in fiscal 2006 from $89.9 million (12.9% of net sales) in fiscal 2005 due to the inclusion of a $15.2 million, non-cash interest expense associated with our Series A Redeemable preferred stock reflecting its accretion to its mandatory redemption amount. Unrealized gain on derivative transactions was $3.8 million or 0.5% of net sales in fiscal 2006 compared to $8.3 million or 1.2% of net sales in the previous year due to the various movements of the interest rates embedded in our derivative contracts. See the Liquidity and Capital Resources discussion below for a detailed description of our derivative transactions. Loss before income taxes, as a result, was a loss of ($79.3) million or (10.7%) of net sales for fiscal 2006 compared to a loss of ($55.2) million or (7.9%) of net sales for fiscal 2005. Income tax expense was $5.0 million for fiscal 2006 compared to $26.2 million for fiscal 2005 primarily reflecting foreign taxes as we continued to fully reserve against our deferred tax asset. Our fiscal 2005 tax provision include a $23.1 million charge to increase our deferred tax assets' valuation allowance. Net loss, as a result, was a loss of ($84.3) million for fiscal 2006 or (11.4%) of net sales compared with a loss of ($81.5) million for fiscal 2005 or (11.7%) of net sales. YEAR ENDED JULY 1, 2005 COMPARED TO THE YEAR ENDED JULY 2, 2004 Net sales increased to $695.5 million in fiscal 2005 from $635.6 million in fiscal 2004, representing a 9.4% gain. Net sales in our Packaging Segment grew 13.9% to $348.7 million in the most recent period from $306.1 million in the comparable period of 2004 due to both higher selling prices and sales volumes. Net sales in our Tubing Products Segment increased 1.3% to $213.1 million in fiscal 2005 from $210.2 million in fiscal 2004 primarily due to a 3 to 6 percent increase in our garden hose prices that generally went into effect in January 2005. Higher garden hose prices were partially offset by lower, weather-related, garden hose sales volumes during fiscal 2005 compared to the previous year. Other net sales grew 12.2% to $133.8 million in fiscal 2005 compared to $119.3 million in the previous year due to both higher selling prices and higher volumes. Our accruals for rebates, discounts and sales allowances decreased to $43.0 million or 6.2% of net sales in fiscal 2005 compared to $49.1 million or 7.7% of net sales in fiscal 2004. The decrease was due to changes in our sales programs as well as changes in the volumes purchased by each of our customers during the year. Cost of goods sold increased to $600.2 million in fiscal 2005 from $530.4 million in fiscal 2004. Expressed as a percentage of net sales, cost of goods sold increased to 86.3% in the current period compared to 83.4% in the prior period, primarily due to higher raw material costs. Tekni-Plex's primary raw materials are Polyvinyl Chloride (PVC), Polystyrene, Vinyl Chloride Monomer (VCM) and various plasticizers, all of which are petrochemical based. Generally higher oil and natural gas prices, coupled with strong global demand for commodity chemicals and tight supplies, have resulted in generally higher costs for all of our key raw materials. We expect this trend to continue for the foreseeable future. In most of our businesses we have been able to pass on higher material costs to our customers in a relatively short time period. However, like most seasonal retail products, we traditionally have sold garden hose under annual agreements, where prices are generally set in the fall and generally remain in effect for the calendar year. Consequently, in recent fiscal years, the increase in raw material costs at our garden hose operations during a 12-month time period has reduced our profitability. In fiscal 2005, the two primary raw materials for our garden hose business, PVC and plasticizers, rose an average of 12% and 38% respectively. To mitigate the impact of expected increases in the cost of our raw materials and in contrast to previous years, we have not guaranteed garden hose pricing for the 2006 selling season. Our cost of goods sold reflects a $2.8 million inventory write-down (0.5% of net sales) in fiscal 2005 and a $2.7 million inventory write-down (0.4% of net sales) in fiscal 2004 to correct inventory restatements at our American Gasket and Rubber Division. 13 Gross profit, as a result of the above, decreased to $95.4 million in the current period compared to $105.3 million in the prior period. Expressed as a percentage of net sales, gross profit declined to 13.7% in fiscal 2005 from 16.6% in comparable period of last year. Our Packaging Segment gross profit increased to $83.1 million in fiscal 2005 from $80.1 million for fiscal 2004 as we were largely able to pass on higher raw material costs to our Packaging Segment customers during the year. Expressed as a percentage of net sales, Packaging Segment gross profit decreased to 23.8% in the current period from 26.2% in the previous period. Our Tubing Products Segment gross profit decreased to $7.1 million in fiscal 2005 from $20.6 million in fiscal 2004. Expressed as a percentage of net sales, our Tubing Products Segment gross profit decreased to 3.3% in the current period from 9.8% in the previous period as significantly higher raw material cost, particularly for plasticizers, more than offset the 3 to 6 percent price increases that went into effect in January at our garden hose unit. Other gross profit increased to $5.2 million in fiscal 2005 from $4.5 million in fiscal 2004. Expressed as a percentage of net sales, other gross profit remained flat at 3.8%. Selling, general and administrative expenses decreased to $60.7 million in the most recent fiscal year from $69.2 million last year, primarily due to the inclusion of a $10 million reduction in goodwill in fiscal 2004. Measured as a percentage of net sales, selling, general and administrative expenses decreased to 8.7% in the current period from 10.9% in the previous period. Integration expenses increased to $10.5 million or 1.5% of net sales in fiscal 2005 from $7.8 million or 1.2% of net sales in fiscal 2004. The increase was largely related to the closing of our Rockaway, New Jersey facility and consolidating its operations at our Clinton, Illinois and Clayton, North Carolina facilities. Our integration expenses are typically cash expenses and relate to reconfiguring and realignment of acquired facilities to conform to the Company's current production and product standards as well as the costs associated with consolidating facilities. These costs are comprised of the following:
2005 2004 ----- ---- Elm Packaging Material $ 3.8 $2.7 Labor 1.5 1.6 Overhead 2.5 2.6 Rockaway closing Material 1.5 0.1 Labor 0.1 0.1 Overhead 0.9 0.3 SG&A 0.2 0.2 ----- ---- Total $10.5 $7.8 ===== ====
We expect the closing of our Rockaway facility to result in approximately $1 million of annual cost savings. We also expect the reconfiguring and realignment of our Elm facilities to result in significant cost reductions as well as enable us to produce higher value added products; however, we cannot currently quantify these benefits. Operating profit, as a result of the above, decreased to $24.2 million in fiscal 2005 from $28.3 million in fiscal 2004. Expressed as a percentage of net sales, operating profit decreased to 3.5% in the most recent period from 4.5% in the comparable period of last year. Our Packaging Segment operating profit decreased to $49.0 million (14.0% of net sales) in the current period compared to $51.3 million (16.8% of net sales) in the previous period. Our Tubing Products Segment reported an operating loss of ($6.5) million or (3.0%) of net sales in the current period compared to profit of $6.5 million or 3.1% of net sales in the previous year. Other operating profit improved to a ($1.2) million loss or (0.9%) of net sales in the current period compared to a ($11.8) million loss or (9.9%) of net sales in the previous period. Interest expense increased to $89.9 million (12.9% of net sales) in fiscal 2005 from $84.5 million (13.3% of net sales) in fiscal 2004 due to an increase of $11.7 of debt as well as higher average interest rates. Interest expense also included a reduction in deferred financing costs of $1.4 million in fiscal 2005 and $5.0 million in fiscal 2004 resulting from repaying certain outstanding debt obligations through the issuance of new senior secured notes (see Note 7 of the audited consolidated financial statements). Unrealized gain on derivative transactions was $8.3 million or 1.2% of net sales in fiscal 2005 compared to $10.7 million or 1.7% of net sales in the previous year due to the various movements of the interest rates embedded in our derivative contracts. 14 Income (loss) before income taxes, as a result, was a loss of ($55.2) million or (7.9%) of net sales for fiscal 2005 compared to a loss of ($46.1) million or (7.2%) of net sales for fiscal 2004. Income tax expense was $26.2 million for fiscal 2005 compared to $11.1 million for fiscal 2004 as we increased our valuation allowance of our deferred tax asset by $23.1 million in fiscal 2005 and $15.0 million in fiscal 2004. Given our continued pre-tax losses in recent years, we decided to reserve fully against our deferred tax assets at the end of fiscal 2005. Net income (loss), as a result, was a loss of ($81.5) million for fiscal 2005 or (11.7%) of net sales compared with a loss of ($57.2) million for fiscal 2004 or (9.0%) of net sales. LIQUIDITY AND CAPITAL RESOURCES For the year ended July 1, 2006, net cash used in operating activities was $11.2 million compared to $24.5 million of cash used in operating activities in the prior year. The $13.3 million improvement was due primarily to improved earnings before non-cash charges (such as goodwill impairment and interest accretion) as our garden hose operations returned to profitability in the second half of our fiscal year. Beginning with the 2006 selling season, we have discontinued the practice of guaranteeing garden hose prices for the entire season. While we believe raw material costs may continue to rise in fiscal 2007, we also believe the prices we have secured to date for our garden hose products has helped restore our profitability. Furthermore, we believe that, subject to prevailing competitive pressures, we will generally be able to pass on future increases in raw material costs to primarily all of our customers, including our garden hose customers, albeit with a lag of one to three months. However, we can give you no assurance to that effect. Despite improved earnings before non cash charges, increases in our accounts receivable and inventories as well as a reduction in our trade accounts payable contributed to our use of cash from operations in fiscal 2006. Other various year-over-year changes in operating assets, accrued expenses, and liabilities are generally due to offsetting timing differences. As of September 22, 2006, we had an outstanding balance of $15.0 million under our $75.0 million asset backed credit facility. Also as of September 22, 2006 availability under this facility was reduced by $7.0 million of letters of credit related to our workmen's compensation insurance programs. Working capital at June 30, 2006 was $215.4 million compared to $200.8 million at July 1, 2005. The increase was primarily caused by an increase in net borrowings under our asset backed credit facility reduced by operating losses. Our principal uses of cash will be debt service, capital expenditures and working capital requirements. Our capital expenditures for the years ended June 30, 2006, July 1, 2005, and July 2, 2004 were $19.1 million and $18.2 million and $29.5 million, respectively. Management believes that we will be able to pass along expected higher raw material costs to our garden hose customers during fiscal 2007 and consequently, cash generated from operations plus funds available in the Company's asset backed facility will be sufficient to meet its needs and to provide it with the flexibility to make capital expenditures and other investments which management believes are prudent. However, we cannot assure you that sufficient funds will be available from operations or borrowings under our credit facility to meet all of our future cash needs. In June 2000, Tekni-Plex entered into a series of interest rate derivative transactions designed to protect us from rising interest rates on our senior term debt facilities while enabling us to partially benefit from falling interest rates. At that time, Tekni-Plex had $344.0 million of term loans outstanding with variable rates of interest tied to US$ LIBOR. These loans, which originally had maturity dates ranging from June 2006 through June 2008, have been repaid. Concurrent with incurring this debt, Tekni-Plex entered into a series of interest swap contracts to pay variable rates of interest based on a basket of LIBOR benchmarks and receive variable rates of interest based on 3 month dollar LIBOR on an aggregate of $344.0 million amount of indebtedness. The swaps amortized on the same schedule as the original term loans. As of July 1, 2006 the notional amount of the swaps is $230.0 million. Portfolio theory and empirical evidence suggested that the change in value of a basket of LIBOR benchmarks would be less volatile than the change in value of a single benchmark. Since 2000, this has generally been our experience. In conjunction with its swap contracts Tekni-Plex also purchased an interest rate cap. Tekni-Plex believes the reduced volatility created by the interest rate swaps made the interest rate cap less expensive. We recorded an unrealized gain from derivative transactions of $3.8 million and $8.3 million in fiscal years 2006 and 2005, 15 respectively. Our Senior debt and our Senior Subordinated Notes include various covenants, the most restrictive of which limit our incremental debt and capital expenditures. The availability of borrowings under our new asset based facility is subject to a borrowing base limitations equal to the lesser of the borrowing base as defined in the asset backed agreement and the then effective commitments under the new asset based facility minus such availability reserves as the administrative agent, in its sole discretion, deems appropriate. At June 30, 2006, the Company's contractual obligations are as follows:
PENSION AND POST PAYMENTS RETIREMENT INTEREST LONG-TERM PREFERRED (2) PREFERRED STOCK DUE BY PERIOD HEALTHCARE EXPENSE DEBT DIVIDENDS ACCRETION (3) LEASES TOTAL ------------- ---------- -------- --------- ------------- --------------- ------ ----- Less than 1 year... $ 1.6 86.7 1.2 0.5 12.7 8.2 110.9 Year 2............. 1.7 86.6 0.3 6.6 12.7 6.8 114.0 Year 3............. 1.9 84.1 39.3 6.6 12.7 5.1 149.6 Year 4............. 2.0 83.6 318.2 6.6 12.7 3.8 427.0 Year 5............. 2.2 43.5 0.2 6.6 12.7 3.6 68.7 After 5 years...... 11.4 81.6 479.8 24.1 33.7 20.7 651.4
---------- (1) Interest expense includes obligations under our interest rate swap agreement. (2) May be paid in kind (3) Non-cash increase in preferred stock. (4) Includes initial preferred stock value $54.8 million CRITICAL ACCOUNTING POLICIES The Company prepares its financial statements in accordance with accounting principles generally accepted in the United States. Preparing financial statements in accordance with generally accepted accounting principles requires the Company to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The following paragraphs include a discussion of some critical areas where estimates are required. You should also review Note 1 to the financial statements for further discussion of significant accounting policies. The Company records revenue when products are shipped. Legal title and risk of loss with respect to the products pass to customers at the point of shipment. The Company provides an allowance for returned product and volume sales rebates on an estimated basis based on written agreements and past experience. The Company makes estimates of sales rebates and allowances related to current period product revenue. Management analyzes historical trends, current economic conditions, and compliance with written agreements when evaluating the adequacy of the reserve for sales rebates and allowances. Management judgments and estimates must be made and used in connection with establishing the sales rebates and allowances in any accounting period. The Company evaluates its long-lived assets for impairment based on the undiscounted future cash flows of such assets. If a long-lived asset is identified as impaired, the value of the asset will be reduced to its fair value. The Company records inventories at the lower of cost (weighted average) or market. We record inventory reserves to reduce the carrying value of inventory for estimated obsolescence or unmarketable inventory equal to the difference between the cost of inventory and estimated market value based on assumptions about future demand and market conditions. If actual market conditions are less favorable than those projected by management, additional inventory reserves may be required. The Company extends credit based upon evaluations of a customer's financial condition and provide for any anticipated credit losses in our financial statements based upon management's estimates and ongoing reviews of recorded allowances. If the financial conditions of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional reserves may be required. Conversely, reserves are deducted to reflect credit and collection improvements. The Company has intangible assets related to acquired intangibles. The determination of related estimated useful lives and whether or not these assets are impaired involves management judgments. Changes in strategy and/or market conditions could significantly impact these judgments and require adjustments to recorded asset balances. We adopted SFAS 142, which requires us to cease 16 amortization of goodwill, but instead be tested for impairment at least annually or earlier if there are impairment indicators. The Company performs a two-step process for impairment testing of goodwill as required by SFAS No. 142. The first step of this test, used to identify potential impairment, compares the fair value of a reporting unit with its carrying amount. The second step (if necessary) measures the amount of the impairment. We have traditionally conducted these tests at the segment level of our businesses. In September 2005, we concluded our annual garden hose contract negotiations. While we were largely successful in securing our target price increases, we lost meaningful market share. With this information in mind, in the second quarter of fiscal 2006 we deemed it appropriate to retest the goodwill in our Tubing segment. Accordingly, we recorded a $35.1 million impairment charge against the goodwill associated with our Swan operations as we anticipate reducing the capacity of this operation, eliminating much of its fixed costs, to reflect our reduced market position. As a result of impairment tests being performed at the end of fiscal 2006 and 2005, the Company did not record an impairment charge. In fiscal 2004, an impairment charge of $10.0 million associated with its specialty resins operations was recorded. In performing the above noted goodwill impairment testing, the Company uses a measure of fair value based on an evaluation of future discounted cash flows. This evaluation utilized what management believes to be the best information available in the circumstances, including what management believes to be reasonable and supportable assumptions and projections. Such assumptions are consistent with those utilized in the Company's annual planning process and appropriately take into account managements' initiatives to improve operational efficiencies. If these turnaround initiatives do not achieve their earning objectives, the assumptions and estimates underlying this goodwill impairment evaluation could be modified in the future leading to further impairment in the recorded value of goodwill. The Company records a valuation allowance to reduce the amount of our deferred tax assets to the amount that is more likely than not to be realized. While we have considered future taxable income and ongoing tax planning strategies in assessing the need for the valuation allowance, in the event that we determined that we would be able to realize our deferred tax assets in the future in excess of the net recorded amount, an adjustment to the deferred tax asset would increase income in the period such determination was made. Likewise, if it were determined that we would not be able to realize all or part of the net deferred tax asset in the future, an adjustment to the deferred tax asset would be charged to income in the period such determination was made. Based on our recent financial performance, in fiscal 2006 we continued to fully reserve against our deferred tax asset. NEW ACCOUNTING PRONOUNCEMENTS In February 2006, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 155, Accounting for Certain Hybrid Financial Instruments--an amendment of FASB Statements No. 133 and 140 ("SFAS 155"). SFAS 155 amends FASB Statements No. 133, Accounting for Derivative Instruments and Hedging Activities and FASB Statement No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities. SFAS 155 resolves issues addressed in Statement 133 Implementation Issue No. D1, Application of Statement 133 to Beneficial Interests in Securitized Financial Assets. More specifically, SFAS 155: 1. Permits fair value remeasurement for any hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation. 2. Clarifies which interest-only strips and principal-only strips are not subject to the requirements of Statement 133. 3. Establishes a requirement to evaluate interests in securitized financial assets to identify interests that are freestanding derivatives or that are hybrid financial instruments that contain an embedded derivative requiring bifurcation. 4. Clarifies that concentrations of credit risk in the form of subordination are not embedded derivatives. 5. Amends Statement 140 to eliminate the prohibition on a qualifying special-purpose entity from holding a derivative financial instrument that pertains to a beneficial interest other than another derivative financial instrument. SFAS 155 is effective for all financial instruments acquired or issued after the beginning of an entity's first fiscal year that begins after September 15, 2006. The Company has not determined the effect, if any, that the adoption of SFAS 155 will have on the Company's consolidated financial position or results of operations. In July 2006, FASB issued interpretation No. 48, Accounting for Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109 ("FIN 48"). This interpretation clarifies the accounting for uncertainty in income taxes recognized in financial statements in accordance that FASB Statement No. 109, Accounting for Income Taxes. FIN 48 will require companies to determine whether it is more-likely-than-not that a tax position taken or expected to be taken in a tax return will be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position. If a tax position meets the more-likely-than-not recognition threshold, it is measured to determine the amount of benefit to recognize in the financial statements based on guidance in the interpretation. FIN 48 is effective for fiscal years beginning after December 15, 2006. The Company has not determined the effect, if any, that the adoption of FIN 48 will have on the Company's consolidated financial position or results of operations. 17 INFLATION During fiscal 2006 and fiscal 2005, we contended with significant and rapidly rising raw material prices. Over the long term, we believe we have generally been able to offset the effects thereof through continuing improvements in operating efficiencies and by increasing prices to our customers to the extent permitted by competitive factors. However, we cannot assure you that such cost increases can be passed through to our customers in the future or that the effects can be offset by further improvements in operating efficiencies. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The market risk inherent in the Company's financial instruments and positions represents the potential loss arising from adverse changes in interest rates. At June 30, 2006 and July 1, 2005 the principal amount of the Company's aggregate outstanding variable rate indebtedness was $39.0 million and $12.0 million respectively. A hypothetical 1% adverse change in interest rates would have had an annualized unfavorable impact of approximately $0.4 million and $0.1 million respectively, on the Company's earnings and cash flows based upon these year-end debt levels. ITEM 8. FINANCIAL STATEMENTS The financial statements commence on Page F-1. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None ITEM 9a. CONTROLS AND PROCEDURES EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES. The Company maintains disclosure controls and procedures designed to ensure that information required to be disclosed in its Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to the Company's management, including its Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. In connection with the completion of its audit of and the issuance of an unqualified report on the Company's consolidated financial statements for the fiscal year ended June 30, 2006, the Company's independent registered public accounting firm, BDO Seidman, LLP ("BDO"), communicated to the Company's Audit Committee that the following matters involving the Company's internal controls and operations were considered to be "significant deficiencies", as defined under standards established by the Public Company Accounting Oversight Board: - Lack of quantity of staff in order to ensure timeliness and completeness of financial reporting. Management agrees with this assessment. Significant deficiencies are matters coming to the attention of the independent auditors that in their judgment, relate to material weaknesses in the design or operation of internal controls that could adversely affect the Company's ability to record, process, summarize and report financial data consistent with the assertions of management in the financial statements. In addition, BDO has advised the Company that they consider this matter, which is listed above, to be a "material weakness" that, by itself, may increase the possibility that a material misstatement in our financial statements might not be prevented or detected by our employees in the normal course of performing their assigned functions. 18 Over the last 12 months we have made a number of significant changes to our internal controls. They include: (1) creating of an internal audit department; (2) adding additional staff to the accounting and finance functional group (3) centralizing the reporting of financial managers to 4 group controllers who will provide increased oversight and improved training; (4) during annual performance reviews of accounting and bookkeeping personnel; requiring all reviewing personnel to inquire whether the reviewed employee has had or observed any problems in the use of approved accounting systems or in the accounting function generally; (5) improving its internal financial reporting systems and related controls across all of its divisions to, among other things, increase both the frequency by which inventory and rebates discounts and allowances are monitored as well as increasing the number of managers responsible for monitoring these functions; (6) instituting a policy of performing routine credit and background checks on all financial staff and key managers; and (7) beginning the process of centralizing our cash management function and significantly improving our controls over cash disbursements. As required by SEC Rule 13a-15(b), the Company carried out an evaluation under the supervision and with the participation of its management, including its Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operations of the Company's disclosure controls and procedures and internal controls over financial reporting as of September 26, 2006 as well as of June 30, 2006. Given the material weakness noted above, the Company's Chief Executive Officer and Chief Financial Officer determined that its controls are not effective as of those dates. However, the Chief Executive Officer and Chief Financial Officer noted that significant improvement in its controls have been made and they expect its controls can be improved further. Consequently, the Company will continue to improve and refine its internal controls over the next 12 months. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT Our current directors and executive officers are listed below. Each director is elected at the annual meeting of the stockholders of Tekni-Plex to serve a one year term until the next annual meeting or until a successor is elected and qualified, or until his earlier resignation. Each executive officer holds his office until a successor is chosen and qualified or until his earlier resignation or removal. Pursuant to our by-laws, we indemnify our officers and directors to the fullest extent permitted by the General Corporation Law of the State of Delaware and our certificate of incorporation.
NAME AGE POSITION ---- --- -------- Dr. F. Patrick Smith........... 58 Chairman of the Board, Chief Executive Officer and President James E. Condon................ 44 Chief Financial Officer, Vice President, Secretary and Director Edward Goldberg................ 57 Senior Vice President and Director John S. Geer................... 61 Director J. Andrew McWethy.............. 65 Director Michael F. Cronin.............. 52 Director
Dr. F. Patrick Smith has been Chairman of the Board and Chief Executive Officer of Tekni-Plex since March 1994. He received his doctorate degree in chemical engineering from Texas A&M University in 1975. He served as Senior Chemical Engineer to Texas Eastman Company, a wholly owned chemical and plastics subsidiary of Eastman Kodak, where he developed new grades of polyolefin resins and hot melt and pressure sensitive adhesives. In 1979, he became Technical Manager of the Petrochemicals and Plastics Division of Cities Service Company, and a Member of the Business Steering Committee of that division. From 1982 to 1984, Dr. Smith was Vice President of R&D and Marketing for Guardian Packaging Corporation, a diversified flexible packaging company. Thereafter, he joined Lily-Tulip, Inc. and managed their research and marketing functions before becoming Senior Vice President of Manufacturing and Technology. Following the acquisition of Lily-Tulip by Fort Howard Corporation in 1986, he became the Corporate Vice President of Fort Howard, responsible for the manufacturing and technical functions of the combined Sweetheart Products and Lily-Tulip operations. From 1987 to 1990, Dr. Smith was Chairman and Chief Executive Officer of WFP Corporation. Since 1990, Dr. Smith has been a principal of Brazos Financial Group, a business consulting firm. Since 2000, Dr. Smith has been a general partner of Eastport Operating Partners L.P. 19 James E. Condon is a Senior Vice President, Secretary and Chief Financial Officer of Tekni-Plex, Inc. He joined Tekni-Plex in 2001 and became a Director in 2004. Prior to joining Tekni-Plex Mr. Condon was a Vice President at J.P. Morgan Securities Inc. Edward Goldberg is a Senior Vice President of the Company, and manages six of its divisions. He has been with the company since June, 2001, and as of March, 2005 was appointed to serve on the Board of Directors. He received his BS and MS degrees in Chemical Engineering from Rensselaer Polytechnic Institute in 1971. He worked for P&G and The Scott Paper Company for a total of 25 years, in diverse roles including Vice President of: Supply Systems; Business Development; and Strategic Planning. Prior to leaving Scott Paper he was the company's U.S. V.P. - Consumer Supply System. He subsequently worked for the Nice Pak and the Lander corporations in senior management positions. His most specific field of emphasis has been General Management for turn around situations. John S. Geer has served as a director of Tekni-Plex since June 2000. He also serves on the Executive Council of Century Park Capital Partners and on the Board of the Robb Report. He is a former Partner of Mellon Ventures, Inc. and former Senior Vice President of Security Pacific Capital Corp. He has served on 20 boards of directors of emerging growth and middle market companies. J. Andrew McWethy has served as a director of Tekni-Plex since March 1994. He co-founded and managed MST Partners L.P., a private equity investment fund, from 1989 to 2000. In 2000, Mr. McWethy co-founded Eastport Operating Partners, L.P., a private equity investment fund that he continues to manage. Prior to 1989, Mr. McWethy was employed by Irving Trust Company for 12 years. Michael F. Cronin has served as a director of Tekni-Plex since March 1994. He has invested in emerging growth companies and various industrial and service businesses since 1978. Since June 1991, Mr. Cronin has been a general partner of Weston Presidio Capital. COMPENSATION OF DIRECTORS Tekni-Plex reimburses directors for any reasonable out-of-pocket expenses incurred by them in connection with services provided in such capacity. In addition, each outside director is paid an annual fee of $50,000. COMPENSATION OF EXECUTIVE OFFICERS The following table sets forth the remuneration paid by Tekni-Plex to the Chief Executive Officer and other highly compensated executive officers of Tekni-Plex. SUMMARY COMPENSATION TABLE
FISCAL STOCK OTHER ANNUAL NAME & PRINCIPAL POSITION YEAR SALARY BONUS OPTIONS (b) COMPENSATION(a) ------------------------- ------ ---------- ------- ----------- --------------- Dr. F. Patrick Smith................................ 2006 $4,000,000 $ -- -- $48,694 Chairman, Chief Executive Officer and President 2005 7,040,000 -- -- 51,822 2004 6,655,000 -- -- 54,941 Mr. James E. Condon................................. 2006 569,393 -- -- 7,200 Vice President and Chief Financial Officer 2005 558,000 -- -- 7,200 2004 540,000 -- -- 7,200 Mr. Edward Goldberg................................. 2006 260,000 -- -- 6,900 Senior Vice President & Director 2005 260,000 -- -- 6,900 2004 215,000 27,313 -- 6,900
---------- (a) Includes amounts reimbursed during the fiscal year for payment of auto expense, membership fees, etc. (b) In fiscal 2006, Mr. Goldberg and Mr. Condon each received options to purchase 4 shares of Tekni-Plex stock with a strike price of $43,681 per share. These options have nominal, if any, value today. 20 OPTION/SAR GRANTS IN LAST FISCAL YEAR
POTENTIAL REALIZABLE VALUE AT ASSUMED NUMBER OF PERCENT OF ANNUAL RATES OF COMMON TOTAL EXERCISE STOCK PRICE SECURITIES OPTIONS/SARS OR BASE APPRECIATION FOR UNDERLYING GRANTED TO PRICE OPTION TERM OPTIONS/SARS EMPLOYEES IN PER EXPIRATION -------------------- NAME GRANTED FISCAL YEAR SHARE DATE 5% 10% ---- ------------ ------------ -------- ---------- --- --- Dr. F. Patrick Smith... -- --% -- -- -- -- Mr. James E. Condon.... 4 shares 25.0% $43,681 2016 $0 $0 Mr. Edward Goldberg.... 4 shares 25.0% $43,681 2016 $0 $0
AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR AND FY-END OPTION/SAR VALUES
NUMBER OF SECURITIES VALUE ($000) UNDERLYING OF UNEXERCISED UNEXERCISED IN-THE-MONEY OPTIONS/SARS OPTIONS/SARS AT FY-END AT FY-END SHARES ACQUIRED EXERCISABLE/ EXERCISABLE/ NAME ON EXERCISE VALUE REALIZED UNEXERCISABLE UNEXERCISABLE ---- --------------- -------------- ------------- -------------- Dr. F. Patrick Smith... -- -- -- --/-- Mr. James E. Condon.... -- -- 8 --/-- Mr. Edward Goldberg.... -- -- 4 --/--
EMPLOYMENT AGREEMENTS In May 2005, Dr. Smith entered into amended and restated employment agreement. The two year agreement provides for a $4,000,000 annual salary. The employment agreement provides that the executive may be terminated for cause or upon death or disability. Dr. Smith is entitled to severance benefits if he is terminated. The employment agreement also contain certain non-compete provisions. COMPENSATION COMMITTEE The board of directors maintains a two-member compensation committee comprised of Dr. Smith, and Mr. Cronin. The compensation committee's duties include the annual review and approval of the compensation for our Chief Executive Officer, as well as the administration of our stock incentive plan. No member of the compensation committee is allowed to vote on issues pertaining to that member's compensation (including option grants). The board may also delegate additional duties to the compensation committee in the future. Changes in Mr. Condon's compensation are subject to approval by Mr. Cronin. Compensation levels and bonus awards for all other employees are controlled by Dr. Smith. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT Tekni-Plex Partners LLC holds approximately 96.3% and MST/TP Partners LLC holds approximately 3.7% of Tekni-Plex's outstanding common stock. Tekni-Plex Management LLC, controlled by Dr. Smith, is the sole managing member of both Tekni-Plex Partners LLC and MST/TP Partners LLC. 21 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS CONSULTING ARRANGEMENTS Our policy is not to enter into any significant transaction with one of our affiliates unless a majority of the disinterested directors of the board of directors determines that the terms of the transaction are at least as favorable as those we could obtain in a comparable transaction made on an arm's-length basis with unaffiliated parties. This determination is made in the board's sole discretion. ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES In accordance with the requirements of the Sarbanes-Oxley Act of 2002 and the Audit Committee's charter, all audit and audit-related work and all non-audit work performed by our independent accountants, BDO Seidman LLP, is approved in advance by the Audit Committee, including the proposed fees for such work. The Audit Committee is informed of each service actually rendered. Audit and audit-related fees billed or expected to be billed to us by BDO Seidman, LLP for the audit of the financial statements included in our Annual Report on Form 10-K and reviews of the financial statements included in our Quarterly Reports on Form 10-Q, for the fiscal years ended June 30, 2006 and July 1, 2005 totaled approximately $895,000 and $110,000 and $882,000 and $110,000, respectively. Audit related fees include reviews of offerings, SEC comment letters, and employee benefit plan audits. Tax preparation, review, and advisory services billed or expected to be billed to us by BDO for the fiscal years ended June 30, 2006 and July 1, 2005 totaled approximately $336,000 and $477,000, respectively. No other services were provided to us by BDO Seidman, LLP during fiscal 2006 and 2005. PART IV ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES (a) (1) Financial Statements and Schedules The financial statements listed in the Index to Financial Statements under Part II, Item 8 and the financial statement schedules listed under Exhibit 27 are filed as part of this annual report. (a) (2) Financial Statement Schedule--Schedule II--Valuation and Qualifying Accounts (a) (3) Exhibits The exhibits listed on the Index to Exhibits following the Signature Page herein are filed as part of this annual report or by incorporation by reference from the documents there listed. 22 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. TEKNI-PLEX, INC. By: /s/ F. PATRICK SMITH ------------------------------------ F. Patrick Smith Chairman of the Board and Chief Executive Officer Dated: September 28, 2006 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. By: /s/ JAMES E. CONDON ------------------------------------ James E. Condon Chief Financial Officer Dated: September 28, 2006 Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of Registrant and in the capacities indicated, on September 28, 2006.
SIGNATURE TITLE --------- ----- /s/ F. PATRICK SMITH Chairman of the Board and Chief ------------------------------------- Executive Officer F. Patrick Smith /s/ JAMES E. CONDON Vice President and Secretary and ------------------------------------- Director James E. Condon /s/ EDWARD GOLDBERG Director ------------------------------------- Edward Goldberg /s/ JOHN S. GEER Director ------------------------------------- John S. Geer /s/ J. ANDREW MCWETHY Director ------------------------------------- J. Andrew McWethy /s/ MICHAEL F. CRONIN Director ------------------------------------- Michael F. Cronin
23 EXHIBIT INDEX
EXHIBIT NO. DESCRIPTION ------- ----------- 3.1 Amended and Restated Certificate of Incorporation of Tekni-Plex, Inc.****** 3.2 Amended and Restated By-laws of Tekni-Plex, Inc.* 3.3 Certificate of Incorporation of PureTec Corporation.* 3.4 By-laws of PureTec Corporation* 3.5 Certificate of Incorporation of Tri-Seal Holdings, Inc.* 3.6 By-laws of Tri-Seal Holding, Inc.* 3.7 Certificate of Incorporation of Natvar Holdings, Inc.* 3.8 By-laws of Natvar Holdings.* 3.9 Certificate of Incorporation of Plastic Specialties and Technologies, Inc.* 3.10 By-laws of Plastic Specialties and Technologies, Inc.* 3.11 Certificate of Incorporation of Plastic Specialties and Technologies Investments, Inc.* 3.12 By-laws of Plastic Specialties and Technologies Investments, Inc.* 3.13 Certificate of Incorporation of Burlington Resins, Inc.* 3.14 By-laws of Burlington Resins, Inc.* 3.15 Certificate of Incorporation of TPI Acquisition Subsidiary, Inc.** 3.16 By-laws of TPI Acquisition Subsidiary, Inc.** 3.17 Certificate of Incorporation of Distributors Recycling, Inc.* 3.18 By-laws of Distributors Recycling, Inc.* 3.19 Certificate of Incorporation of TP-Elm Acquisition Subsidiary, Inc.** 3.20 By-laws of TP-Elm Acquisition Subsidiary, Inc.** 4.1 Indenture, dated as of June 21, 2000 among Tekni-Plex, Inc., the Guarantors listed therein and HSBC Bank USA, as Trustee.* 4.2 First Supplemental Indenture, dated as of May 6, 2002 among Tekni-Plex, Inc., TPI Acquisition Subsidiary, Inc. and HSBC Bank USA, as Trustee** 4.3 Second Supplemental Indenture, dated as of August 22, 2002 among Tekni-Plex, Inc., TP-Elm Acquisition Subsidiary, Inc. and HSBC Bank USA, as Trustee** 4.4 Third Supplemental Indenture, dated as of April 25, 2005 among Tekni-Plex, Inc., the Guarantors listed therein and HSBC Bank USA, National Association, as Trustee***** 4.5 Purchase Agreement, dated as of November 12, 2003 among Tekni-Plex, Inc., the Guarantors listed therein, and Lehman Brothers Inc. and Citigroup Global Markets Inc.*** 4.6 Registration Right Agreement, dated as of November 21, 2003 among Tekni-Plex, Inc., the
24 Guarantors listed therein, and Lehman Brothers Inc. and Citigroup Global Markets Inc.*** 4.7 Indenture, dated as of November 21, 2003 among Tekni-Plex, Inc., the Guarantors listed therein and HSBC Bank USA, as Trustee.*** 4.8 Purchase Agreement, dated as of June 7, 2005 among Tekni-Plex,Inc., the Guarantors listed therein, and Citigroup Global MarketsInc. and Lehman Brothers Inc.******* 4.9 Registration Right Agreement, dated as of June 10, 2005 among Tekni-Plex, Inc., the Guarantors listed therein, and Citigroup Global Markets Inc. and Lehman Brothers Inc.******* 4.10 Indenture, dated as of June 10, 2005 among Tekni-Plex, Inc., the guarantors party thereto and HSBC Bank USA, National Association, as Trustee***** 10.1 Credit Agreement, dated as of June 21, 2000, among Tekni-Plex, Inc., the Guarantors party thereto, the Lenders party thereto, the LC Issuing Banks referred to therein and Morgan Guaranty Trust Company of New York.* 10.1.1 First Amendment to the Credit Agreement dated September 26, 2001*** 10.1.2 Second Amendment to the Credit Agreement dated November 1, 2001*** 10.1.3 Third Amendment to the Credit Agreement dated September 22, 2003*** 10.2 Second Amended and Restated Employment Agreement dated May 13, 2005**** 10.3 Credit Agreement, dated as of June 10, 2005 among the Company, the lenders and issuers party thereto, Citicorp USA, Inc., as Administrative Agent and General Electric Capital Corporation, as Syndication Agent.***** 31.1 Certification of Chief Executive Officer, as required by Section 302 of the Sarbanes-Oxley Act of 2002******** 31.2 Certification of Chief Financial Officer, as required by Section 302 of the Sarbanes-Oxley Act of 2002******** 32.1 Certification of Chief Executive Officer and Chief Financial Officer, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002********
---------- * Filed previously as an Exhibit to our Registration Statement on Form S-4 (File No. 333-43800) filed on August 15, 2000. ** Filed previously as an Exhibit to our Registration Statement on Form S-4 (File No. 333-98561) filed on August 22, 2002. *** Filed previously as an Exhibit to our Registration Statement on Form S-4 (File No. 333-111778) filed on January 8, 2004. **** Filed previously as an Exhibit to our Form 8-K filed on May 19, 2005. ***** Filed previously as an Exhibit to our Form 8-K filed on June 16, 2005. ****** Filed previously as an Exhibit to our Registration Statement on Form S-4/A (File No. 333-111778) filed on July 13, 2005. ******* Filed previously as an Exhibit to our Registration Statement on Form S-4 (File No. 333-127404) filed on August 10, 2005. ******** Filed herewith. 25 TEKNI-PLEX, INC. CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED JUNE 30, 2006, JULY 1, 2005, JUNE 2, 2004
CONTENTS -------- REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM CONSOLIDATED FINANCIAL STATEMENTS: Balance sheets Statements of operations Statements of stockholders' deficit Statements of cash flows Notes to financial statements REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM ON SUPPLEMENTAL SCHEDULE SUPPLEMENTAL SCHEDULE: Valuation and qualifying accounts and reserves
26 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM The Board of Directors Tekni-Plex, Inc. Somerville, New Jersey We have audited the accompanying consolidated balance sheets of Tekni-Plex, Inc. and its subsidiaries (the "Company") as of June 30, 2006 and July 1, 2005, and the related consolidated statements of operations, stockholders' deficit and cash flows for each of the three years in the period ended June 30, 2006. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with auditing 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 consolidated 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 audits 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 also includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Tekni-Plex, Inc. and its subsidiaries as of June 30, 2006 and July 1, 2005, and the results of their operations and their cash flows for each of the three years in the period ended June 30, 2006, in conformity with accounting principles generally accepted in the United States of America. /s/ BDO Seidman, LLP Woodbridge, New Jersey September 8, 2006 27 TEKNI-PLEX, INC. CONSOLIDATED BALANCE SHEETS (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
JUNE 30, 2006 JULY 1, 2005 ------------- ------------ ASSETS CURRENT: Cash $ 20,689 $ 18,584 Accounts receivable, net of allowances of $7,070 and $9,144 respectively 145,699 138,383 Inventories 135,758 129,617 Prepaid expenses and other current assets 5,363 5,845 --------- --------- Total current assets 307,509 292,429 Property, plant and equipment, net 167,787 176,182 Goodwill 167,284 198,532 Intangible assets, net of accumulated amortization of $6,806 and $4,943 respectively 4,096 6,110 Deferred charges, net of accumulated amortization of $15,229 and $12,817 respectively 14,618 16,677 Other assets 2,061 1,765 --------- --------- $ 663,355 $ 691,695 ========= ========= LIABILITIES AND STOCKHOLDERS' DEFICIT Current liabilities: Current portion of long term debt $ 1,241 $ 1,082 Accounts payable - trade 39,532 48,060 Accrued payroll and benefits 16,057 12,185 Accrued interest 11,427 6,385 Accrued liabilities - other 17,787 17,508 Income taxes payable 6,050 6,391 --------- --------- Total current liabilities 92,094 91,611 Long-term debt 772,907 744,613 Series A redeemable preferred stock 75,473 54,822 Other liabilities 11,812 13,976 --------- --------- Total liabilities 952,286 905,022 --------- --------- Stockholders' deficit: Common stock -- -- Additional paid-in capital 188,018 188,018 Accumulated other comprehensive loss (1,587) (10,294) Accumulated deficit (254,839) (170,528) Less treasury stock (220,523) (220,523) --------- --------- Total stockholders' deficit (288,931) (213,327) --------- --------- $ 663,355 $ 691,695 ========= =========
See accompanying notes to consolidated financial statements. 28 TEKNI-PLEX, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (DOLLARS IN THOUSANDS)
YEARS ENDED JUNE 30, 2006 JULY 1, 2005 JULY 2, 2004 ----------- ------------- ------------ ------------ Net sales $742,683 $695,524 $635,642 Cost of sales 621,983 600,170 530,372 -------- -------- -------- Gross profit 120,700 95,354 105,270 Operating expenses: Selling, general and administrative 96,490 60,690 69,159 Integration expenses 5,250 10,478 7,775 -------- -------- -------- Income from operations 18,960 24,186 28,336 Other (income) expenses: Interest, net 104,831 89,899 84,451 Unrealized (gain) on derivative contracts (3,800) (8,287) (10,654) Other (2,737) (2,194) 605 -------- -------- -------- (Loss) before provision for income taxes (79,334) (55,232) (46,066) Provision for income taxes 4,977 26,247 11,121 -------- -------- -------- Net (loss) $(84,311) $(81,479) $(57,187) ======== ======== ========
See accompanying notes to consolidated financial statements. 29 TEKNI-PLEX, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS' DEFICIT (DOLLARS IN THOUSANDS)
ACCUMULATED ADDITIONAL OTHER PAID-IN COMPREHENSIVE ACCUMULATED TREASURY COMMON STOCK CAPITAL LOSS DEFICIT STOCK TOTAL ------------ ---------- ------------- ----------- --------- --------- BALANCE, JUNE 27, 2003 $ -- $188,018 $ (1,737) $ (31,862) $(220,523) $ (66,104) Net loss, restated -- -- -- (57,187) -- (57,187) Foreign currency translation -- -- (771) -- -- (771) Unrealized loss on pension plan, net of tax -- -- (3,492) -- -- (3,492) --------- Comprehensive (loss) -- -- -- -- -- (61,450) Capital Contributions -- 22,500 -- -- -- 22,500 --- -------- -------- --------- --------- --------- BALANCE, JULY 2, 2004 -- 210,518 (6,000) (89,049) (220,523) (105,054) Net loss -- -- -- (81,479) -- (81,479) Foreign currency translation -- -- (4) -- -- (4) Unrealized loss on pension plan, net of tax -- -- (4,290) -- -- (4,290) --------- Comprehensive loss -- -- -- -- -- (85,773) Exchange of Capital for Series A redeemable preferred stock (see Note 7E) -- (22,500) -- -- -- (22,500) --- -------- -------- --------- --------- --------- BALANCE, JULY 1, 2005 -- 188,018 (10,294) (170,528) (220,523) (213,327) Net loss -- -- -- (84,311) -- (84,311) Foreign currency translation -- -- 3,680 -- -- 3,680 Unrealized gain on pension plan, net of tax -- -- 5,027 -- -- 5,027 --------- Comprehensive loss -- -- -- -- -- (75,604) --- -------- -------- --------- --------- --------- BALANCE, June 30, 2006 $-- $188,018 $ (1,587) $(254,839) $(220,523) $(288,931) ======== ======== ========= ========= =========
See accompanying notes to consolidated financial statements. 30 TEKNI - PLEX, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (DOLLARS IN THOUSANDS)
YEARS ENDED JUNE 30, 2006 JULY 1, 2005 JULY 2, 2004 ----------- ------------- ------------ ------------ CASH FLOWS FROM OPERATING ACTIVITIES: Net (loss) $(84,311) $(81,479) $ (57,187) Adjustments to reconcile net (loss) to net cash (used in) operating activities: Depreciation 26,191 25,857 25,377 Amortization 5,805 6,796 6,927 Goodwill impairment 35,131 -- 10,000 Unrealized (gain) loss on derivative contracts (3,800) (8,287) (10,654) Provision for bad debts 1,044 1,970 2,316 Interest accretion 15,228 Deferred income taxes 30 21,247 7,290 Gain on sale of assets (2,856) -- 177 Changes in assets and liabilities Accounts receivable (7,117) (2,328) (4,806) Inventories (5,606) 20,601 10,031 Prepaid expenses and other current assets 678 960 129 Other assets -- (561) 76 Accounts payable and other current liabilities (8,139) (6,491) 2,600 Income taxes payable (341) 4,538 (2,318) Other liabilities 16,864 (7,284) 2,678 -------- -------- --------- Net cash used in operating activities (11,199) (24,461) (7,364) -------- -------- --------- Cash flows from investing activities: Capital expenditures (19,082) (18,246) (29,472) Additions to intangibles (3,638) (754) (6,000) Proceeds from sale of assets 4,142 -- 1,346 Deposits and other assets (296) -- -------- -------- --------- NET CASH (USED IN) INVESTING ACTIVITIES (18,874) (19,000) (34,126) -------- -------- --------- CASH FLOWS FROM FINANCING ACTIVITIES: Net borrowings (repayments) under line of credit 27,000 (64,000) (15,000) Proceeds from long-term debt -- 146,318 267,438 Proceeds from issue of Series A redeemable preferred stock 5,423 32,322 -- Repayments of long-term debt (17) (71,648) (248,658) Proceeds from capital contributions -- -- 22,500 Debt financing costs 192 (10,720) (2,767) -------- -------- --------- Net cash provided by financing activities 32,598 32,272 23,513 -------- -------- --------- Effect of exchange rate changes on cash (420) 38 (350) -------- -------- --------- Net increase (decrease) in cash and cash equivalents 2,105 (11,151) (18,327) Cash, and cash equivalents beginning of year 18,584 29,735 48,062 -------- -------- --------- Cash, and cash equivalents end of year $ 20,689 $ 18,584 $ 29,735 ======== ======== =========
See accompanying notes to consolidated financial statements. 31 TEKNI-PLEX, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (DOLLARS IN THOUSANDS, EXCEPT PERCENTAGES AND SHARE AMOUNTS) 1. SUMMARY OF ACCOUNTING Nature of Business POLICIES Tekni-Plex, Inc. and its subsidiaries ("Tekni-Plex" or the "Company") is a global, diversified manufacturer of packaging, packaging products, and materials as well as tubing products. The Company primarily serves the food, healthcare and consumer markets. The Company has built a leadership position in its core markets, and focuses on vertically integrated production of highly specialized products. The Company's operations are aligned under three primary business groups: Packaging, Tubing Products, and Other. Consolidation Policy The consolidated financial statements include the financial statements of Tekni-Plex, Inc. and its wholly owned subsidiaries. All intercompany transactions and balances have been eliminated in consolidation. Accounts Receivable and Allowance for Possible Losses Accounts receivable are customer obligations due under normal trade terms. The Company sells its products primarily to large manufacturers, retailers, and pharmaceutical companies. The Company performs continuing credit evaluations of its customers' financial condition and although the Company generally does not require collateral, letters of credit may be required from its customers in certain circumstances.
32 Management reviews accounts receivable on a monthly basis to determine if any receivables will potentially be uncollectible. The Company includes any accounts receivable balances that are determined to be uncollectible, along with a general reserve, in its overall allowance for possible losses. After all attempts to collect a receivable have failed, the receivable is written off against the allowance. Based on the information available, the Company believes its allowance for possible losses as of June 30, 2006 is adequate. However, actual write-offs might exceed the recorded allowance. Inventories Inventories are stated at the lower of cost (weighted average) or market. Property, Plant and Equipment Property, plant and equipment are stated at cost. Depreciation and amortization are computed over the estimated useful lives of the assets primarily on the straight-line method for financial reporting purposes and by accelerated methods for income tax purposes. Repairs and maintenance are charged to expense as incurred. Intangible Assets (other than goodwill) The cost of acquiring certain patents, trademarks, and customer lists is amortized over their estimated useful lives. Deferred Financing Costs The Company amortizes the deferred financing costs incurred in connection with the Company's borrowings over the life of the related indebtedness utilizing the straight-line method. Income Taxes Deferred income tax assets and liabilities are recognized for differences between the financial statement and income tax basis of assets and liabilities based upon statutory rates enacted for future periods. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. Revenue Recognition The Company recognizes revenue when title and risk of loss has transferred to the customer which is when goods are shipped to customers. The Company provides for returned goods and volume rebates on an estimated basis based upon agreements and past experience. Sales Allowances The Company accounts for sales allowances, including volume rebates and advertising programs, on an accrued basis as a reduction in net revenue in the period in which the sales are recognized. Shipping and Handling Costs Shipping and handling costs are included in cost of sales. Research and Development
33 Research and development expenditures for the Company's projects are expensed as incurred. Cash Equivalents The Company considers all highly liquid instruments with an original maturity of three months or less to be cash equivalents. Fiscal Year-End The Company utilizes a 52/53 week fiscal year ending on the Friday closest to June 30. The years ended June 30, 2006 and July 1, 2005 each contained 52 weeks, and July 2, 2004 contained 53 weeks. Reclassifications Certain items in the prior year financial statements have been reclassified to conform to the current year presentation. Foreign Currency Translation Assets and liabilities of international subsidiaries are translated at year-end exchange rates and related translation adjustments are reported as a component of accumulated other comprehensive (loss). The statement of operations accounts are translated at the average rates during the period. Long-Lived Assets Long-lived assets, including goodwill, are evaluated each fiscal year-end for impairment or when events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable through the estimated undiscounted future cash flows from the use of these assets. When such impairments exist, the related assets will be written down to fair value based on the net present value of estimated future cash flows. The related charge is included in selling, general and administrative expenses in the Statement of Operations. Use of estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Stock Based Compensation The Company applies the provisions of SFAS No. 123, "Accounting for Stock-Based Compensation. Had compensation cost been determined based on the fair value at the grant dates for these awards consistent with the method of SFAS No. 123, the Company's net (loss) would have increased to the pro forma amounts indicated below. The calculations were based on a risk free interest rate of 4.0%, expected volatility of zero, a dividend yield of zero, and expected lives of 8 years.
34 YEARS ENDED JUNE 30, 2006 JULY 1, 2005 JULY 2, 2004 ----------- ------------- ------------ ------------ Net (loss): As reported $(84,311) $(81,479) $(57,187) Adjustment for fair value of stock options, -- (12) (88) -------- --------- -------- Pro forma net (loss) $(84,311) $(81,491) $(57,275) ======== ========= ======== Derivative Instruments All derivative instruments, such as interest rate swaps, are recognized in the financial statements and measured at their fair market value. Changes in the fair market value of derivative instruments are recognized each period in current operations or stockholders' equity (as a component of accumulated other comprehensive loss), depending on whether a derivative instrument qualifies as a hedge transaction. In the normal course of business, Tekni-Plex is exposed to changes in interest rates. The objective in managing its exposure to interest rates is to decrease the volatility that changes in interest rates might have on operations and cash flows. To achieve this objective, Tekni-Plex uses interest rate swaps and caps to hedge a portion of total long-term debt that is subject to variable interest rates. These derivative contracts are considered to be a hedge against changes in the amount of future cash flows associated with the interest payments on variable-rate debt obligations, however, they do not qualify for hedge accounting. Accordingly, the interest rate swaps are reflected at fair value in the Consolidated Balance Sheet and the related gains or losses on these contracts are recorded as an unrealized gain or loss from derivative instruments in the Consolidated Statements of Operations. These are the only derivative instruments held by Tekni-Plex as of June 30, 2006. The fair value of derivative contracts are determined based on quoted market values obtained from a third party. In June 2000, Tekni-Plex had $344,000 of term loans outstanding with variable rates of interest tied to US$ LIBOR. These loans, which originally had maturity dates ranging from June 2006 through June 2008, have been repaid. Concurrent with incurring this debt, Tekni-Plex entered into a series of interest swap contracts to pay variable rates of interest based on a basket of LIBOR benchmarks and receive variable rates of interest based on a 3 month dollar LIBOR on an aggregate of $344,000 amount of indebtedness. The amortization schedule on the term loans was the same as the amortization schedule on the swaps. As of June 30, 2006 the notional amount of the swaps is $230,000. Portfolio theory and empirical evidence suggested that the change in value of a basket of LIBOR benchmarks would be less volatile than the change in value of a single benchmark. Since 2000, this has generally been our experience. In conjunction with its swap contracts Tekni-Plex also purchased an interest rate cap. Tekni-Plex believes the reduced volatility created by the interest rate swaps made the interest rate cap less expensive.
35 The aggregate fair market value of these interest rate swaps and cap contracts was $(979), $(4,779) and $(13,065) on June 30, 2006, July 1, 2005 and July 2, 2004, respectively, and is included in other liabilities on the Consolidated Balance Sheet. For the years ended June 30, 2006, July 1, 2005 and July 2, 2004, Tekni-Plex recognized unrealized gains of $3,800, $8,287 and $10,654, respectively. Goodwill and Business Combinations The Company no longer amortizes goodwill, but instead tests goodwill for impairment at least annually. This test is performed every year as of our fiscal year-end. In addition, the Company identified reporting units for the purposes of assessing potential future impairments of goodwill, and when necessary, reassesses the useful lives of other existing recognized intangible assets. The Company completed its year-end analysis of goodwill and has concluded that there is no impairment charge as of June 30, 2006 and July 1, 2005. In September 2005, we concluded our annual garden hose contract negotiations. While we were largely successful in securing our target price increases, we lost meaningful market share. With this information in mind, in the second quarter of fiscal 2006 we deemed it appropriate to retest the goodwill in our Tubing segment. Accordingly, we recorded a $35.1 million impairment charge against the goodwill associated with our Swan operations as we anticipate reducing the capacity of this operation, and eliminating much of its fixed costs to reflect our reduced market position. An impairment charge of $10.0 million was required for the year ended July 2, 2004. This impaired goodwill resulted from the recent losses of our Specialty Resin operations of our Other Segment. New Accounting Pronouncements 4 In February 2006, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 155, Accounting for Certain Hybrid Financial Instruments--an amendment of FASB Statements No. 133 and 140 ("SFAS 155"). SFAS 155 amends FASB Statements No. 133, Accounting for Derivative Instruments and Hedging Activities and FASB Statement No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities. SFAS 155 resolves issues addressed in Statement 133 Implementation Issue No. D1, Application of Statement 133 to Beneficial Interests in Securitized Financial Assets. More specifically, SFAS 155: 1. Permits fair value remeasurement for any hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation. 2. Clarifies which interest-only strips and principal-only strips are not subject to the requirements of Statement 133. 3. Establishes a requirement to evaluate interests in securitized financial assets to identify interests that are freestanding derivatives or that are hybrid financial instruments that contain an embedded derivative requiring bifurcation. 4. Clarifies that concentrations of credit risk in the form of subordination are not embedded derivatives. 5. Amends Statement 140 to eliminate the prohibition on a qualifying special-purpose entity from holding a derivative financial instrument that pertains to a beneficial interest other than another derivative financial instrument. SFAS 155 is effective for all financial instruments acquired or issued after the beginning of an entity's first fiscal year that begins after September 15, 2006. The Company has not determined the effect, if any, that the adoption of SFAS 155 will have on the Company's consolidated financial position or results of operations. In July 2006, FASB issued interpretation No. 48, Accounting for Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109 ("FIN 48"). This interpretation clarifies the accounting for uncertainty in income taxes recognized in financial statements in accordance that FASB Statement No. 109, Accounting for Income Taxes. FIN 48 will require companies to determine whether it is more-likely-than-not that a tax position taken or expected to be taken in a tax return will be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position. If a tax position meets the more-likely-than-not recognition threshold, it is measured to determine the amount of benefit to recognize in the financial statements based on guidance in the interpretation. FIN 48 is effective for fiscal years beginning after December 15, 2006. The Company has not determined the effect, if any, that the adoption of FIN 48 will have on the Company's consolidated financial position or results of operations.
36 2. RECAPITALIZATION In June 2000, the Company entered into a Recapitalization (the "Recapitalization") with certain of its stockholders, whereby the Company purchased approximately 51% of the outstanding stock for approximately $220,500 including related transaction fees. This stock has been reflected as treasury stock in the accompanying balance sheet. As a result of provisions in the Company's Senior Debt and Subordinated Note Agreements, the Company redeemed its $200,000 9 1/4% Senior Subordinated Notes, its $75,000 11 1/4% Senior Subordinated Notes and repaid its Senior Debt in the amount of approximately $153,000 during 2000. These transactions were funded by $43,101 of new equity, $275,000 12 3/4% Senior Subordinated Notes (see Note 7(b)) and initial borrowings of $374,000 on a $444,000 Senior Credit Facility (see Note 7(a)). 3. ACQUISITIONS (a) In July 2004, the Company acquired substantially all the net assets of the egg carton business of Genpak ("Genpak") for $5,780. Genpak produces a variety of foam products, including foam egg cartons. The financial results of the Genpak transaction are included in the Packaging Segment. The acquisition was recorded under the purchase method, whereby the acquired Genpak net assets were recorded at estimated fair value, and its operations have been reflected in the statement of operations since that date.
37 (b) In July 2002, the Company acquired substantially all the net assets of Elm Packaging Company ("ELM") for $16,762. Elm produces polystyrene foam plates, bowls, and meat and bakery trays. The financial results of Elm are included in the Packaging segment. The acquisition was recorded under the purchase method. In connection with the acquisition, the Company incurred an integration reserve of $4.5 million. The components of the Integration reserve and activity through June 30, 2006 was as follows:
COSTS COSTS BALANCE COSTS BALANCE BALANCE CHARGED TO BALANCE CHARGED TO JULY 1, CHARGED TO JUNE 30, JULY 2003 RESERVE JULY 2, 2004 RESERVE 2005 RESERVE 2006 --------- ---------- ------------ ---------- ------- ---------- -------- Legal and environmental liability $2,500 $1,337 $1,163 $19 $1,144 $26 $1,118 ------ ------ ------ --- ------ --- ------ $2,500 $1,337 $1,163 $19 $1,144 $26 $1,118 ====== ====== ====== === ====== === ======
The remaining legal and environmental costs are expected to extend over the next four years. TEKNI-PLEX, INC. (c) In October 2001, the Company purchased certain assets and assumed certain liabilities of Swan for approximately $63,600. Swan is a manufacturer of garden hose. The financial results of Swan are included in the tubing segment. The acquisition was recorded under the purchase method, whereby Swan's net assets were recorded at estimated fair value and its operations have been reflected in the statement of operations since that date. In connection with the acquisition, the Company incurred an integration reserve of $10 million. The components of the Integration reserve and activity through June 30, 2006 was as follows:
COSTS COSTS COSTS BALANCE CHARGED BALANCE CHARGED BALANCE CHARGED BALANCE JUNE 27, TO JULY 2, TO JULY 1, TO JUNE 30, 2003 RESERVE 2004 RESERVE 2005 RESERVE 2006 -------- ------- ------- ------- ------- ------- ------- Legal and environmental $2,500 $1,219 $1,281 $316 $965 $216 $749 ------ ------ ------ ---- ---- ---- ---- $2,500 $1,219 $1,281 $316 $965 $216 $749 ====== ====== ====== ==== ==== ==== ====
38 Company. 4. INVENTORIES Inventories are summarized as follows: JUNE 30, 2006 JULY 1, 2005 ------------- ------------ Raw materials $ 60,715 $ 53,450 Work-in-process 12,834 12,466 Finished goods 62,209 63,701 -------- -------- $135,758 $129,617 ======== ======== 5. PROPERTY, PLANT AND Property, plant and equipment consists of the EQUIPMENT following: ESTIMATED JUNE 30, 2006 JULY 1, 2005 USEFUL LIVES ------------- ------------ ------------- Land $ 15,832 $ 15,870 Building and improvements 61,299 59,258 25 - 40 years Machinery and equipment 263,088 238,929 5 - 10 years Furniture and fixtures 10,937 9,482 5 - 10 years Construction in progress 8,666 18,048 -------- -------- 359,822 341,587 Less accumulated depreciation 192,035 165,405 -------- -------- $167,787 $176,182 ======== ======== 6. INTANGIBLE ASSETS Intangible assets consist of the following: JUNE 30, 2006 JULY 1, 2005 ------------- ------------ Goodwill $167,284 $198,532 Customer list and non-compete agreement 8,541 8,756 Patents 2,361 2,297 -------- -------- 178,186 209,585 Less accumulated amortization 6,806 4,943 -------- -------- $171,380 $204,642 ======== ======== Amortization of customer list and non-compete agreement will be $1,685 annually through the first quarter of 2007. Patents will be amortized $220 annually. Amortization is expected to continue at this amount until 2010 when it will begin to decline. Accumulated amortization for customer list and patents at June 30, 2006 and July 1, 2005 were $5,472, $3,829, and 1,334, and $2,144, respectively. A $35,131 impairment charge was recorded related to our Swan garden hose operations in the second quarter of fiscal 2006. Goodwill was also increased by $3,883 to reflect the recognition of a tax liability at our Belgian subsidiary that existed prior to our acquisition of this subsidiary. 7. LONG-TERM DEBT Long-term debt consists of the following: JUNE 30, 2006 JULY 1, 2005 ------------- ------------ Senior Debt (A): Revolving line of credit $ 39,000 $ 12,000 Term notes -- Senior Subordinated Notes issued June 21, 2000 at 12-3/4%, due June 15, 2010 (less unamortized discount of $1,506 and $1,883) (B). 273,494 273,117 Senior Subordinated Notes issued May 2002 at 12-3/4%, due June 15, 2010 (less unamortized premium of $287 and $362) (B). 40,287 40,362 Senior Secured Notes issued November 21, 2003 at 8-3/4 %, due November 15, 2013
39 (less unamortized discount of $5,609 and $6,365) (C). 269,391 268,635 Senior Secured Notes issued June 10, 2005 at 10.875% due August 15, 2012 (less unamortized discount of $2,904 and $3,375) (D). 147,096 146,625 Series A Redeemable Preferred Stock (E). 75,473 54,822 Other, primarily foreign term loans, with interest rates ranging from 4.44% to 5.44% and maturities from 2006 to 2010. 4,880 4,956 -------- -------- 849,621 800,517 Less: Current maturities 1,241 1,082 -------- -------- $848,380 $799,435 ======== ========
(A) SENIOR DEBT In June 2005, we entered into a new asset based facility with Citicorp USA, Inc., as administrative agent, and the other agents and lenders named therein. Our asset based facility consists of a four-year, asset-based revolving credit facility in the maximum amount of $75,000. Availability under the asset based facility equals (i) the lesser of (A) the borrowing base (as defined in the new asset based facility) and (B) the then effective commitments under the new asset based facility minus (ii) such availability reserves as the administrative agent, in its sole discretion, deems appropriate. The asset based facility includes a $25,000 letter of credit sub facility. We currently have $6,990 of letters of credit outstanding related to workmen's compensation insurance. Amounts borrowed under our new asset based facility will be used for general corporate and working capital purposes. The commitments under our asset based facility will terminate on the fourth anniversary of the closing date, at which time all loans outstanding under the new asset based facility will become due and payable. Loans under the asset based facility are guaranteed by each of our domestic subsidiaries. Loans under the asset based facility are secured on a first priority basis by all of our domestic subsidiaries' assets. Loans under our asset based facility bear interest by reference to a base rate or a reserve adjusted Eurodollar rate, at our option, in each case, plus an applicable margin, as each such term is defined in the asset based facility. In addition, the asset based facility includes a provision permitting, at our option, an increase in the aggregate amount of the asset based facility by up to an additional $60,000, subject to certain conditions. In fiscal 2006 we used $10,000 of this capacity to upsize our asset backed revolver from $65,000 to $75,000. The asset based facility imposes certain restrictions on us and our subsidiaries. As part of these covenants, we are restricted or limited in our ability to, among other things: - incur and voluntarily prepay certain of our and our subsidiaries' debt; - grant liens on our and our subsidiaries' assets; - undertake certain mergers, consolidations and sales / purchases of assets; - pay certain dividends or distributions and redeem, purchase, retire or make other acquisitions of our equity interests; - make certain investments and acquisitions; - transact with our affiliates; and - make capital expenditures. The asset based facility provides that certain events will constitute events of default under the new asset based facility. These events include, among other things; 40 - our failure to pay when due amounts owed under the asset based facility; - our or our subsidiaries' failure to observe or perform the covenants set forth in the asset based facility; - the inaccuracy of the representations and warranties set forth in the asset based facility; - the imposition of certain judgments against us or our subsidiaries; - our or our subsidiaries' failure to pay certain other of our or our subsidiaries' debt; - the acceleration of the maturity of material debt; - the occurrence of certain bankruptcy or insolvency proceedings or events; - the invalidity or unenforceability of any lien or guarantee securing our obligations under the asset based facility; and - the occurrence of a change of control. (B) SENIOR SUBORDINATED NOTES In June 2000 and May 2002, we respectively issued $275.0 million and $40.0 million aggregate principal amount of the 12 3/4 % senior subordinated notes due June 15, 2010. These notes are our senior subordinated unsecured obligations and are guaranteed by each of our existing and future domestic restricted subsidiaries with assets or stockholders' equity in excess $25,000. The senior subordinated notes bear interest at an annual rate of 12 3/4 %, payable semiannually on each June 15 and December 15. The senior subordinated notes are subject to redemption, in whole or in part, at our option, at any time on or after June 15, 2005 at the redemption prices described below if redeemed during the twelve month period commencing June 15 in the years set forth below:
PERIOD REDEMPTION PRICE ------ ---------------- 2006 ................. 104.250% 2007 ................. 102.125% 2008 and thereafter .. 100.000%
Holders of the senior subordinated notes have the option of requiring us to repurchase their notes in cash upon a change of control at a repurchase price equal to 101% of the principal amount of the notes plus accrued interest, if any, to the date of the repurchase. The indenture governing the senior subordinated notes restricts our ability and the ability of our restricted subsidiaries to: - incur additional indebtedness and issue preferred stock; - pay dividends or make other distributions; - create liens; - incur restrictions on the ability of our restricted subsidiaries to pay dividends or other payments to us; - sell assets; - merge or consolidate with other entities; - enter into transactions with affiliates; - issue capital stock of restricted subsidiaries; and 41 - effect acquisitions. However, these limitations are subject to a variety of exceptions and qualifications. The senior subordinated notes include customary events of default, including failure to pay principal and interest on the notes, a failure to comply with covenants, a failure by us or our subsidiaries to pay material judgments or indebtedness and bankruptcy and insolvency events with respect to us and our material subsidiaries. In April, 2005, we received the consents required to amend certain covenants in the indenture governing our senior subordinated notes including our debt incurrence covenant. The amendments allow us, among other things, to incur incremental debt, not to exceed $90.0 million at any one time outstanding, in ratio of 1.5:1.0 for every dollar of equity received after April 1, 2005. Since that date, we have raised $37.2 million of additional equity through the issuance of our Series A redeemable preferred stock. (C) SENIOR SECURED NOTES DUE 2013 We issued $275,000 senior secured notes on November 21, 2003. Interest on those senior secured notes accrues at the rate of 8 3/4 % per annum and are payable semi-annually in arrears on May 15 and November 15 of each year, beginning May 15, 2004. The 2013 Notes will mature on November 15, 2013. We may redeem all or part of those senior secured notes on or after November 15, 2008. Prior to November 15, 2006, we may redeem up to 35% of the aggregate principal amount of the senior secured notes at a premium of 8.75% with the proceeds of certain equity offerings. The senior secured notes are secured by second priority liens on the collateral securing our existing credit facility. The collateral includes, but is not limited to, the following property of us and the guarantors party to the indenture: - all of the stock and equity interests of certain of our domestic subsidiaries and 65% of the capital stock and equity interests of certain of the our foreign subsidiaries; - all accounts, inventory, general intangibles, equipment and insurance policies; - all documents of title covering, evidencing or representing goods; - all instruments and chattel paper; - commercial tort claims; - certain Company-owned real property; - rights under certain railcar leases; - patents, trademarks, copyrights and other intellectual property; - all letter of credit rights; - all supporting obligations; - certain deposit accounts; and - all proceeds of, and all other profits, products, rents or receipts, arising from the collection, sale, lease, exchange, assignment, licensing or other disposition or realization upon the collateral described in (1) through (11) above. Pursuant to a registration rights agreement that we and our subsidiary guarantors entered into in connection with our existing senior secured notes, we and our subsidiary guarantors agreed to file a registration agreement with the SEC relating to an offer to exchange or register the senior secured notes and guarantees for publicly tradable notes and guarantees having substantially identical terms. We and the guarantors also agreed to use all commercially reasonable efforts to cause the registration statement to 42 be declared effective by the SEC on or prior to the date specified in the registration rights agreement. We have not been able to cause the registration statement to be declared effective by the SEC on or prior to the date specified in the registration rights agreement, as a result, we have been paying liquidated damages in an amount equal to 1.0% of the principal amount of the senior secured notes per annum to holders of the existing senior secured notes as required by the registration rights agreement. (D) SENIOR SECURED NOTES DUE 2012 We issued $150,000 senior secured notes on June 7, 2005. Interest on those senior secured notes accrues at the rate of 10 7/8% per annum and is payable semi-annually in arrears on August 15 and February 15 of each year, beginning February 15, 2006. The 2013 Notes will mature on August 15, 2012. The proceeds were used primarily to refinance existing bank debt. We may redeem all or part of those senior secured notes on or after August 15, 2009. Prior to August 15, 2008, we may redeem up to 35% of the aggregate principal amount of the senior secured notes with the proceeds of certain equity offerings. The senior secured notes are secured by second priority liens on the collateral securing our existing credit facility. The collateral includes, but is not limited to, the following property of us and the guarantors party to the indenture: - all of the stock and equity interests of certain of our domestic subsidiaries and 65% of the capital stock and equity interests of certain of the our foreign subsidiaries; - all accounts, inventory, general intangibles, equipment and insurance policies; - all documents of title covering, evidencing or representing goods; - all instruments and chattel paper; - commercial tort claims; - certain Company-owned real property; - rights under certain railcar leases; - patents, trademarks, copyrights and other intellectual property; - all letter of credit rights; - all supporting obligations; - certain deposit accounts; and - all proceeds of, and all other profits, products, rents or receipts, arising from the collection, sale, lease, exchange, assignment, licensing or other disposition or realization upon the collateral described in (1) through (11) above. (E) SERIES A REDEEMABLE PREFERRED STOCK On May 13, 2005 we issued 31,800 shares of Series A redeemable Preferred Stock for $1,000 per share. In July 2005 we issued an additional 5,423 shares at $1,000 per share. In addition, we issued 22,500 shares to certain investors in consideration for capital contributions made in 2004. In accordance with SFAS 150, the Series A redeemable preferred stock is being characterized as a liability. Dividends and accretion to maturity are classified as interest expense. The following summary of certain provisions of our Series A Redeemable Preferred Stock does not purport to be complete and is subject to, and qualified in its entirety by, our Amended and Restated Certificate of Incorporation. Liquidation Event. Upon the occurrence of a sale of the Company or its subsidiaries, whether by merger, asset sale or change in equity control, or a liquidation of the Company, the Series A Preferred Stock shall be redeemed at an amount per share equal to (i) 115% of the purchase price of the Series A Preferred Stock prior to October 31, 2005, and (ii) three times the purchase price thereafter (such amount determined in (i) or (ii) hereinafter referred to as the "Liquidation Value"). 43 Mandatory Redemption. Upon the earlier of (i) February 15, 2014 or (ii) to the extent such redemption is permitted under the Company's new asset based facility, the payment in full of the Company's senior subordinated notes and existing senior secured notes, the Series A Redeemable Preferred Stock shall be redeemed in full in cash at the price equal to 115% of the purchase price of the Series A Preferred Stock prior to October 31, 2005 and three times the purchase price thereafter. Dividends. From and after Trigger Event, the Series A Preferred Stock shall be entitled to receive out of any assets legally available cumulative dividends at a rate of 12% per annum, compounded quarterly, on the original purchase price. The dividends shall begin to accrue on the Trigger Event and shall be paid quarterly in arrears. However, if the Company is prevented from paying such dividends in cash for certain reasons, the dividend will accumulate at the rate of 12% per annum, compounded quarterly. Trigger Event. A Trigger Event shall mean: (i) the failure of the Company to redeem any shares of the Series A Preferred Stock in cash when required to do so; (ii) the failure by the Company or Dr. Smith, the Company's CEO, to perform or observe any other covenant in the Series A Preferred Stock Purchase Agreement or any ancillary documents that is continued for more than sixty (60) days and that reasonably expected to have a material adverse effect on the Company or the holders of the Series A Preferred Stock; (iii) any false or misleading representations or warranty by the Company in the Series A Preferred Stock Purchase Agreement that is reasonably expected to have a material adverse effect on the Company or the holders of the Series A Preferred Stock; (iv) the failure by the Company or any Significant Subsidiary (as defined in Rule 1-02(w) of Regulation S-X) to make payments when due (which failure is continued beyond the cure period contained in the documents governing such payments or which has not been waived by the Lender): (A) of the principal amount of any indebtedness or other security (whether at maturity, upon a scheduled amortization date or any other mandatory prepayment date) having an aggregate principal amount in Excess of $10 million; or (B) which failure results in the acceleration of indebtedness which aggregates in excess of $10 million; (v) the Company or any Significant Subsidiary pursuant to or within the meaning of Title 11 of the United States Code or any other Federal, state or foreign bankruptcy, insolvency or similar law ("Bankruptcy Law") (A) commences a voluntary case or proceeding, (B) consents to the entry of an order for relief against it in an involuntary case or proceeding, (C) consents to the appointment of a custodian of it or for all or substantially all of its property, (D) makes a general assignment for the benefit of its creditors, or (E) generally is not paying its debts as they become due; (v) a court of competent jurisdiction enters an order or decree under any Bankruptcy Law that (A) is for relief against the Company or any of its Significant Subsidiaries in an involuntary case, appoints a custodian of the Company or any of its Significant Subsidiaries or for all or substantially all of the property of the Company or any of its Significant Subsidiaries, or (C) orders the liquidation of the Company or any of its Significant Subsidiaries, and in each case, the order or decree remains unstayed and in effect for sixty (60) consecutive days; (vii) an unsatisfied judgment against the Company or any of its Significant Subsidiaries in excess of $10,000 which remains undischarged or unstayed (including stays pending appeal) for a period of 60 days; (viii) the failure of Dr. Smith to serve as Chief Executive Officer as a result of his death or disability or for any other reason except voluntary resignation if a replacement, acceptable to the holders of a majority of the Series A Preferred Stock in their sole and absolute discretion, is not found within six months after such death or disability; (ix) the failure of Dr. Smith to serve as Chief Executive Officer as a result of a voluntary resignation of employment; (x) April 30, 2007; or (xi) closing of an underwritten registered initial offering of the Company's equity any Liquidation Event or any repayment in full of the Notes, in each case upon which the Company does not redeem the Series A Preferred Stock in full in cash in an amount equal to the Liquidation Value. 44 Voting Rights. Holders of shares of Series A Preferred Stock will have no voting rights except as described below. In such case, each such holder shall be entitled to one vote for each share held. The board of directors of the Company consists of six directors, one of whom shall be elected by the holders of the Series A Preferred Stock. After the occurrence of certain Trigger Events (as defined in the Company's Amended and Restated Certificate of Incorporation) the Series A Preferred Stockholders shall have the right to increase the vote of the director elected by Series A Preferred Stockholders from one vote to six votes for all matters considered by the Company's board of directors. Protective Provisions. As long as shares of Series A Preferred Stock are issued and outstanding, without first obtaining the approval of the Series A Preferred Stockholders, the Company Shall not, and shall not permit its subsidiaries to, either directly or indirectly, through a merger, consolidation or otherwise: - Create, authorize or issue any securities of the Company or any significant subsidiary other than common stock or options to purchase common stock not to exceed 45.75206 shares of common stock and (ii) certain refinancing securities as defined in the Amended and Restated Certificate of Incorporation; - Amend the Amended and Restated Certificate of Incorporation or the by-laws of the Company; - Except where the proceeds are used to redeem the Series A Preferred Stock, consummate any sale of the Company or any significant subsidiary or sale of substantially all of the assets of the Company or any significant subsidiary; - Liquidate or dissolve the Company or any significant subsidiary; - Declare or pay any dividend or other distribution of the Company or its significant subsidiaries' securities or redeem or repurchase any securities of the Company or any significant subsidiaries other than Series A Preferred Stock; - Increase or decrease the authorized number of directors of the Company; - Enter into any related party transactions in excess of $1,000 in the aggregate; - Incur any indebtedness other than indebtedness the terms of which do not prohibit the Redemption of the Series A Preferred Stock in full in cash on February 15, 2014; - Amend the Company's agreements relating to indebtedness that would prohibit the redemption of the Series A Preferred Stock in full in cash on February 15, 2014; - Hire or terminate the Chief Executive Officer, the Chief Financial Officer or the Chief Operating Officer or making any modifications to their compensation arrangements; or - Report a distribution on the Series A Preferred Stock for tax purposes except to the extent such Distribution is paid in cash or to the extent that the Company has received consent from the Representative chosen by a majority of the Series A Preferred Stockholder, which consent shall not be unreasonably withheld. Scheduled principal payments on debt over the next five years and thereafter are as follows: 2007 $ 1,241 2008 257 2009 39,264 2010 313,951 2011 159 Thereafter 494,749 The Company believes the recorded value of long-term debt approximates fair value
45 based on current rates available to the Company for similar debt. 8. INCOME TAXES The provision for income taxes is summarized as follows: JUNE 30, JULY 1, JULY 2, YEARS ENDED 2006 2005 2004 ----------- -------- -------- -------- Current: Federal $ (102) $ -- $ -- Foreign 4,408 4,652 3,781 State and local 106 348 50 -------- ------- ------- $ 4,412 5,000 3,831 -------- ------- ------- Deferred: Federal -- 21,530 7,000 Foreign 565 (283) 290 State and local -- -- -- -------- ------- ------- .565 21,247 7,290 -------- ------- ------- Provision (benefit) for income taxes 4,977 $26,247 $11,121 ======== ======= ======= The components of income (loss) before income taxes are as follows: JUNE 30, JULY 1, JULY 2, YEARS ENDED 2006 2005 2004 ----------- -------- -------- -------- Domestic $(91,860) $(66,900) $(51,586) Foreign 12,526 11,668 8,246 -------- -------- -------- $(79,334) $(55,232) $(43,340) ======== ======== ======== The provision (benefit) for income taxes differs from the amounts computed by applying the applicable Federal rates due to the following: JUNE 30, JULY 1, JULY 2, YEARS ENDED 2006 2005 2004 ----------- -------- -------- -------- Provision (benefit) for Federal income taxes at statutory rate $(26,974) $(18,779) $(14,736) State and local income taxes, (3,142) net of Federal benefit -- (2,187) (1,655) Non-deductible goodwill 11,945 impairment -- 3,400 Non-deductible preferred stock interest accretion 4,845 -- -- Foreign tax rates in excess of Federal tax rate 714 402 1,262 Increase in Valuation Allowance 15,373 47,459 23,319 Other, net 2,216 (648) (469) -------- -------- -------- Provision (benefit) for income taxes $ 4,977 $ 26,247 $ 11,121 ======== ======== ========
46 Significant components of the Company's deferred tax assets and liabilities are as follows: JUNE 30, JULY 1, 2006 2005 -------- -------- Current deferred taxes: Allowance for doubtful accounts 1,416 $ 2,820 Inventory 855 764 Net operating loss carryforwards 3,171 2,216 Accrued expenses 3,251 3,264 ----------------- Total current deferred tax assets 8,693 $ 9,064 ----------------- Long-term deferred taxes: Net operating loss carryforwards 104,647 $ 86,415 Accrued pension and post-retirement 2,822 1,904 Unrealized loss on derivative contracts 372 1,816 Unrealized loss of pension plan 3,001 4,896 Difference in book and tax basis of assets (609) (609) Difference in depreciation (15,633) (17,499) Goodwill - deductible for tax purposes (9,740) (7,427) Other expenses 570 190 Other foreign (3,019) (2,454) ----------------- Total long-term net deferred tax assets 82,411 67,232 ----------------- Total current and long term deferred tax assets 91,104 76,296 Valuation allowance (94,123) (78,750) ----------------- Total long-term net deferred tax assets/(liabilities) (3,019) $ (2,454) ================= Net Operating Losses The Company and its U.S. subsidiaries file a consolidated tax return. The Company and its U.S. subsidiaries have net operating loss ("NOL") carryforwards of approximately $290,000. These NOL's expire at various dates from 2009 through 2026. Approximately $82,000 of the NOL's are as a result of the acquisition of PureTec in 1997 (the "PureTec NOL's"). The PureTec NOL's are subject to the change of ownership annual limitation of approximately $5,600. As a result of this limitation the Company can utilize a maximum of $79,600 of PureTec NOL's. In addition to the domestic NOL balances, the Company has incurred losses relating to a subsidiary, taxable in Northern Ireland. Through fiscal 2006 losses aggregated $597 which have no expiration date. The Company believes that it is more likely than not that this deferred tax asset will not be realized currenty and has recorded a full valuation allowance on these amounts. No provision was made for U.S. or additional foreign taxes on undistributed earnings of foreign subsidiaries. Such earnings will continue to be reinvested but could become subject to additional tax if they were remitted as dividends, or were loaned to the Company or a U.S. affiliate, or if the Company should sell its stock in the foreign subsidiaries. It is not practicable to determine the amount of additional tax, if any, that might be payable on the undistributed foreign earnings.
47 9. EMPLOYEE BENEFIT PLANS (a) Savings Plans i. The Company maintains a discretionary 401(k) plan covering all eligible employees (excluding Elm employees from July, 2004 to mid-December, 2004) with at least one year of service. As of mid-December, 2004 the plan included all eligible ELM employees. Contributions to the plan are determined annually by the Board of Directors. The Company will determine matching contributions to the plan each year not to exceed 2% of the employee's eligible compensation. Contributions for the fiscal years ended June 30, 2006, July 1, 2005 and July 2, 2004, amounted to $1,105, $1,081 and $1,043, respectively. ii. The plan which was discontinued as of mid-December, 2004 covered all eligible Elm employees with at least sixty days of service and who have attained the age of twenty-one. The Company matched 50% of employee contributions up to 6% of the employee's eligible compensation. Contributions for the fiscal year ended June 30, 2006 and July 1, 2005 amounted to $0 and $46. (b) Pension Plans i. The Company's Burlington subsidiary has a non-contributory defined benefit pension plan that covers substantially all hourly compensated employees covered by a collective bargaining agreement, who have completed one year of service. The funding policy of the Company is to make contributions to this plan based on actuarial computations of the minimum required contribution for the plan year. The components of net periodic pension costs are as follows: YEAR ENDED YEAR ENDED YEAR ENDED JUNE 30, JULY 1, JULY 2, 2006 2005 2004 ---------- ---------- ---------- Service cost $ 161 $ 125 $ 127 Interest cost on projected benefit obligation 407 434 421 Expected actual return on plan assets (452) (469) (443) Amortization of unrecognized: Prior service cost 12 12 12 Net loss 273 187 182 ----- ----- ----- Net pension cost $ 401 $ 289 $ 299 ----- ===== ===== YEAR ENDED YEAR ENDED JUNE 30, JULY 1, 2006 2005 ---------- ---------- CHANGE IN PROJECTED BENEFIT OBLIGATION Projected benefit obligation, beginning of period $8,287 $7,114 Service cost 161 126 Interest cost 407 434 Actuarial loss (918) 988 Benefits paid (383) (375) ------ ------ Projected benefit obligation, end of period $7,554 $8,287 ====== ====== CHANGE IN PLAN ASSETS Plan assets at fair value, beginning of period $5,345 $5,138 Actual return on plan assets 348 184 Company contributions 237 398 Benefits paid (383) (375) ------ ------ Plan assets at fair value, end of period $5,547 $5,345 ====== ======
48 The funded status of the Plan and amounts recorded in the Company's balance sheets are as follows: JUNE 30, 2006 JULY 1, 2005 ------------- ------------ Funded status of the plan $(2,008) $(2,942) Unrecognized prior service cost 64 76 Unrecognized net loss 2,315 3,402 ------- ------- Prepaid pension cost $ 371 $ 536 ======= ======= The expected long-term rate of return on plan assets was 8.5% for the periods presented and the discount rates were 6.25% and 5.00% at June 30, 2006 and July 1, 2005. The Company recorded an unrecognized pension liability of $2,315 and $3,402 at June 30, 2006 and July 1, 2005, respectively, as an accumulated other comprehensive loss adjustment to stockholders' equity. These amounts represent a portion of the unrecognized net actuarial loss for the years ending June 30, 2006 and July 1, 2005 as a result of an investment return less than the actuarial assumption. The Company maintains a non-contributory defined benefit pension plan that covers substantially all non-collective bargaining unit employees of Plastics, Specialties and Technology ("PS&T") and Burlington, who have completed one year of service and are not participants in any other pension plan required by applicable regulations. The funding policy of the Company is to make contributions to the plan based on actuarial computations of the minimum required contribution for the plan year. On September 8, 1998, the Company approved a plan to freeze this defined benefit pension plan effective September 30, 1998. The components of net periodic pension cost are as follows: YEAR ENDED YEAR ENDED YEAR ENDED JUNE 30, JULY 1, JULY 2, 2006 2005 2004 ---------- ---------- ---------- Service cost $ -- $ -- $ -- Interest cost on projected benefit obligation 730 800 792 Expected actual return on plan assets (781) (848) (816) Amortization of unrecognized Net loss 388 249 280 ----- ----- ----- Net pension cost $ 337 $ 201 $ 256 ----- ===== ===== YEAR ENDED YEAR ENDED JUNE 30, JULY 1, 2006 2005 ---------- ---------- CHANGE IN PROJECTED BENEFIT OBLIGATION Projected benefit obligation, beginning of period $15,562 $13,210 Interest cost 730 800 Actuarial loss (gain) (2,751) 2,070 Benefits paid (574) (518) ------- ------- Projected benefit obligation, end of period $12,967 $15,562 ======= ======= CHANGE IN PLAN ASSETS Plan assets at fair value, beginning of period $ 9,456 $ 9,660 Actual return on plan assets 645 314 Company Contributions 147 0 Benefits paid (574) (518) ------- ------- Plan assets at fair value, end of period $ 9,674 $ 9,456 ======= =======
49 The funded status of the Plan and amounts recorded in the Company's balance sheets are as follows: JUNE 30, 2006 JULY 1, 2005 ------------- ------------ Funded status of the plan $(3,294) $(6,107) Unrecognized net loss 4,264 7,267 ------- ------- Prepaid pension cost $ 970 $ 1,160 ======= ======= The expected long-term rate of return on plan assets was 8.5% for the periods presented and the discount rate used to determine the benefit obligation was 6.25% and 5.00% at June 30, 2006 and July 1, 2005. The Company recorded an unrecognized pension liability of $4,264 and $7,267 as of June 30, 2006 and July 1, 2005, respectively, as an accumulated other comprehensive loss adjustment to stockholders' equity. These amounts represent a portion of the unrecognized net actuarial loss for the years ending June 30, 2006 and July 1, 2005 as a result of an investment return less than the actuarial assumption. ii. The Company also has a defined benefit pension plan for the benefit of all employees having completed one year of service with Dolco. The funding policy of the Company is to make the minimum required contribution for the plan year required by applicable regulations. Dolco's Board of Directors approved a plan to freeze this defined benefit pension plan on June 30, 1987, at which time benefits ceased to accrue. The Company has not been required to contribute to the plan since 1990. The components of net periodic pension costs are as follows: YEAR ENDED YEAR ENDED YEAR ENDED JUNE 30, JULY 1, JULY 2, 2006 2005 2004 ---------- ---------- ---------- Service cost $ -- $ -- $ -- Interest cost on projected benefit obligation 242 245 251 Expected actual return on plan assets (272) (264) (234) Amortization of unrecognized net loss 162 91 111 ----- ----- ----- Net pension cost $ 132 $ 72 $ 128 ===== ===== ===== YEAR ENDED YEAR ENDED JUNE 30, JULY 1, 2006 2005 ---------- ---------- CHANGE IN PROJECTED BENEFIT OBLIGATION Projected benefit obligation, beginning of period $4,949 $3,952 Interest cost 243 245 Actuarial loss (gain) (783) 990 Benefits paid (199) (238) ------ ------ Projected Benefit Obligation, end of period $4,210 $4,949 ====== ====== CHANGE IN PLAN ASSETS Plan assets at Fair Value, beginning of period $3,677 $3,380 Actual return on plan assets 224 314 Company contributions 116 220 Benefits paid (199) (237) ------ ------ Plan assets at Fair Value, end of period $3,818 $3,677 ====== ======
50 The funded status of the Plan and amounts reconciled in the Company's balance sheets are as follows: JUNE 30, 2006 JULY 1, 2005 ------------- ------------ Funded status of the Plan $ (392) $(1,272) Unrecognized net loss 1,319 2,216 ------ ------- Prepaid pension cost $ 927 $ 944 ====== ======= The expected long term rate of return on plan assets was 7.5% for the periods presented. The discount rate used to determine the benefit obligation was 6.25% for the fiscal year ended June 30, 2006 and 5.00% for the fiscal year ended July 1, 2005. The Company recorded an unrecognized pension liability of $1,319 and $2,216 as of June 30, 2006 and July 1, 2005, respectively, an accumulated other comprehensive loss and adjustment to stockholders equity. These amounts represent a portion of the unrecognized net loss for the years ending June 30, 2006 and July 1, 2005. (c) Post-retirement Benefits In addition to providing pension benefits, the Company also sponsors the Burlington Retiree Welfare Plan, which provides certain healthcare benefits for retired employees of the Burlington division who were employed on an hourly basis, covered under a collective bargaining agreement and retired prior to July 31, 1997. Those employees and their families became eligible for these benefits after the employee completed five years of service, if retiring at age fifty-five, or at age sixty-five, the normal retirement age. Post retirement healthcare benefits paid for the years ended June 30, 2006, July 1, 2005 and July 2, 2004 amounted to $211, $369 and $407 respectively, net of retiree contributions. Net periodic post-retirement benefit costs are as follows: YEAR ENDED YEAR ENDED YEAR ENDED JUNE 30, 2006 JULY 1, 2005 JULY 2, 2004 ------------- ------------ ------------ Service cost $221 $139 $154 Interest cost 273 338 409 Prior service cost 20 141 141 Net loss 153 103 246 ---- ---- ---- Net post-retirement benefit cost $667 $721 $950 ==== ==== ==== CHANGE IN YEAR ENDED YEAR ENDED PROJECTED BENEFIT OBLIGATION JUNE 30, 2006 JULY 1, 2005 ---------------------------- ------------- ------------ Projected benefit obligation, beginning of period $5,584 $5,588 Service cost 221 139 Interest cost 273 339 Retiree Contributions 15 0 Plan amendments 0 (787) Actuarial loss (gain) (726) 674 Benefits paid (211) (369) ------ ------ Projected benefit obligation, end of period $5,156 $5,584 ====== ====== CHANGE IN PLAN ASSETS Plan assets at fair value, beginning of period $ -- $ -- Retiree contributions 15 0 Company contributions 196 369 Benefits paid (211) (369) ------ ------ Plan assets at fair value, end of period $ -- $ -- ====== ======
51 The funded status of the Plan and amounts recorded in the Company's balance sheets are as follows: YEAR ENDED YEAR ENDED JUNE 30, 2006 JULY 1, 2005 ------------- ------------ Funded status of the plan $(5,156) $(5,584) Unrecognized loss 1,260 2,140 Unrecognized service cost 109 129 ------- ------- Accrued post retirement cost $(3,786) $(3,315) ======= ======= The accumulated post-retirement benefit obligation was determined using a 5.00% and 6.25% discount rate for the periods presented. The healthcare cost trend rate for medical benefits was changed from a flat 6.00% as of June 28, 2002 to a graded trend started at 12% for 2003 and decreasing 1% each year to 6.00% in 2009 and then to an ultimate rate of 5.00% for 2012 and beyond. The healthcare cost trend rate assumption has a significant effect on the amounts reported. A 1% increase in healthcare trend rate would increase the accumulated post-retirement benefit obligation by $596 and $600 and increase the service and interest components by $66 and $37 at June 30, 2006 and July 1, 2005, respectively. The Company's plan asset allocation at 2006 and 2005 and target allocations for 2007 are as follows: PERCENTAGE OF TARGET PLAN ASSETS ALLOCATION ----------- SECURITY TYPE 2007 2006 2005 ------------- --------- ----- ---- Guaranteed Investment Contract -- 6% 6% Equity Securities 55% 51% 58% Debt Securities 45% 43% 36% --- --- --- Total Plan Assets 100% 100% 100% === === === The Company's investment policy is to invest in stock and balanced funds of mutual fund and insurance companies to preserve principal while at the same time establish a minimum rate of return of approximately 5%. No more than one-third of the total plan assets are placed in any one fund. The expected long-term rate-of-return-on-assets is 8.25%. This return is based upon the historical performance of the currently invested funds. The benefits expected to be paid for each of the next five years and in the aggregate for each of the plans over the following five years are: 2007 $ 1,550 2008 1,728 2009 1,925 2010 2,045 2011 2,151 2012-2016 11,425
52 10. STOCK OPTIONS In January 1998, the Company adopted an incentive stock plan (the "Stock Incentive Plan"). Under the Stock Incentive Plan, 45.8 shares are available for awards to employees of the Company. Options are granted at fair market value on the date of grant. As of July 2, 1999 options to purchase 38.2 shares of common stock were outstanding at weighted-average exercise price of $177 thousand. During 2001 options were granted to purchase 4.0 shares of common stock at weighted average exercise prices of $559 thousand per share. During 2003 options to purchase 2.0 shares of common stock at a weighted average exercise price of $177 thousand were forfeited and options to purchase 2.0 shares of common stock at a weighted average exercise price of $680 thousand were issued. In fiscal 2006, options to purchase up to 16.0 shares of common stock with a strike price of $43 thousand per share were issued and options to purchase 2.0 share with a strike price of $680 thousand were forfeited. The Company determined that the fair value of these options was nominal. The options are subject to vesting provisions, as determined by the Board of Directors, and generally vest 100% five years from grant date and expire 10 years from date of grant. At June 30, 2006, 32.1 options were outstanding, 12.1 options were exercisable and no options have been exercised. 11. COMMITMENTS AND Commitments CONTINGENCIES (a) The Company leases building space and certain equipment in approximately 20 locations throughout the United States, Canada and Europe. At June 30, 2006, the Company's future minimum lease payments are as follows: 2007 $ 8,228 2008 6,821 2009 5,071 2010 3,828 2011 3,646 Thereafter 20,707 ------- $48,301 Rent expense, including escalation charges, amounted to approximately $8,447, $9,798, and $9,830 and for the years ended June 30, 2006, July 1, 2005, and July 2, 2004, respectively. (b) The Company has an employment contract with one officer, providing a minimum annual salary of $4,000 with no mandatory bonuses. The two year agreement expires in 2007. Contingencies (a) The Company is a party to various legal proceedings arising in the normal conduct of business, including compliance with environmental regulations and foreign tax matters. Management believes that the final outcome of these proceedings will not have a material adverse effect on the Company's financial position, results of operations or cash flows. (b) In January 1993 and 1994, our Belgian subsidiary received income tax assessments aggregating approximately 74.9 million Belgian Francs for the disallowance of certain foreign tax credits and investment losses claimed for the years ended July 31, 1990 and 1991. Additionally, in January 1995, the subsidiary received an income tax assessment of approximately 32.8 million Belgian francs for the year ended July 31, 1992. By Belgium law, these assessments are capped at the values above, increased by late payment interest for a period of 18 months only (approximately 15.5 million Belgian francs) and do not continue to accrue additional penalties or interest as long as the Tax Director has not rendered a decision in connection with the tax complaints that have been filed against these tax assessments. To date, the Tax Director has not rendered a decision. These liabilities, which total approximately EUR 3,054,000 or $3.8 million at current exchange rates, have been fully accrued for in fiscal 2006. (c) We are subject to environmental laws requiring the investigation and cleanup of environmental contamination. In addition to remediation being undertaken by third parties at a limited number of our locations, we are currently remediating contamination resulting from past industrial activity at three of our New Jersey facilities which we acquired from PureTec in 1998. This remediation is being conducted pursuant to the requirements of New Jersey's Industrial Site Recovery Act which were triggered by the 1998 PureTec transaction. If any other events were to occur in the future that would be deemed to have effected a "change of control" of any of our New Jersey facilities as defined under New Jersey's Industrial Site Recovery Act, we would be required to take additional actions to comply with such statute, including possibly additional investigations and remediation. We also are conducting remediation at a formerly-owned New Jersey facility under a voluntary cleanup agreement with the state. We recently voluntarily self-disclosed to regulators certain non-compliances with the air permit for our Troy, OH facility. While discussions with the Ohio Regional Air Pollution Control Agency are ongoing, we expect that we will be required to install additional pollution controls at this facility in 2006; the capital investment of which we estimate should not exceed $1 million, based on current information. We may also be required to pay a fine, but based on the preliminary stage of discussions, we cannot predict whether such a fine will be imposed, or if so, in what amount. In 2004, the National Enforcement Investigation Center (NEIC), on behalf of the United States Environmental Protection Agency (EPA), conducted an environmental review of our Burlington, NJ site concerning federal Clean Air Act requirements. The EPA subsequently issued a request for further information regarding these air issues under Section 114 of the federal Clean Air Act. In February and March, 2006 the New Jersey Department of Environmental Protection (NJDEP) issued administrative orders alleging violations of certain state air regulations at the Burlington facility. In March, 2006, the United States Department of Justice (DOJ) contacted Colorite on behalf of the EPA. The DOJ indicated that certain violations under several federal environmental statutes had been identified as a result of the EPA's inspection. They discussed the alleged violations and attempted to negotiate a settlement. Since that date, representatives of Colorite have met with representatives of EPA, DOJ and NJDEP on several occasions to discuss the alleged federal and state violations. Tekni-Plex continues to evaluate the alleged violations and its defenses to them, and anticipates negotiating with the government agencies to attempt to resolve these matters. In 2004, we also received a similar request for information from the EPA concerning air emissions at our Wenatchee, Washington plant which we do not expect to result in significant costs or fines or penalties. In fiscal 2006 we established an incremental $900,000 reserve in our financial statements to reflect our best estimate of the aggregate expenses associated with these environmental matters. This reserve is in addition to existing environmental reserves which total $522,500 and the reserves described in Note 7 related to our Elm and Swan acquisitions. Although we believe that, based on historical experience, the costs of achieving and maintaining compliance with environmental laws and regulations are unlikely to have a material adverse effect on our business, we could incur significant fines, penalties, capital costs or other liabilities associated with any confirmed noncompliance or remediation of contamination or natural resource damage liability at or related to any of our current or former facilities, the precise nature of which we cannot now predict. Furthermore, we cannot assure you that future environmental laws or regulations will not require substantial expenditures by us or significant modifications of our operations. 12. CONCENTRATIONS OF CREDIT Financial instruments that potentially RISKS subject the of Company to significant concentrations of credit risk consist principally cash deposits and trade accounts receivable. The Company provides credit to customers on an unsecured basis after evaluating customer credit worthiness. Since the Company sells to a broad range of customers, concentrations of credit risk are limited. The Company provides an allowance for bad debts where there is a possibility for loss.
53 The Company maintains demand deposits at several major banks throughout the United States, Canada and Europe. As part of its cash management process, the Company periodically reviews the credit standing of these banks. 13. SUPPLEMENTAL CASH FLOW (a) Cash Paid INFORMATION YEARS ENDED JUNE 30, 2006 JULY 1, 2005 JULY 2, 2004 ----------- ------------- ------------ ------------ Interest $82,054 $86,406 $78,547 ------- ------- ------- Income taxes 3,129 $ 4,546 $ 3,880 ======= ======= ======= Non-Cash Financing Activities: Exchange of Capital for Series A Redeemable Preferred Stock -- $22,500 -- 14. SEGMENT INFORMATION Tekni-Plex management reviews its operating plants to evaluate performance and allocate resources. Tekni-Plex has aggregated its operating plants into three primary industry segments: Tubing Products, Packaging and Other. The Tubing Products segment principally produces garden and irrigation hose, medical tubing and pool hose. The Packaging segment principally produces foam egg cartons, pharmaceutical blister films, poultry and meat processor trays, closure liners, aerosol and pump packaging components and foam plates. Products that do not fit in either of these segments, including recycled PET, vinyl compounds and specialty resins, have been reflected in Other. The Tubing Products and Packaging segments have operations in the United States, Europe and Canada. The Other segment has operations only in the United States.
54 Financial information concerning the Company's business segments and the geographic areas in which it operates are as follows: TUBING YEAR END JUNE 30, 2006 PRODUCTS PACKAGING OTHER TOTALS ---------------------- -------- --------- -------- -------- Revenues from external customers $215,801 $374,063 $152,819 $742,683 Interest expense 49,139 33,524 22,168 104,831 Depreciation and amortization 9,039 14,344 7,590 30,973 Segment income (loss) from operations (30,538) 63,569 3,015 36,046 Goodwill 54,490 94,250 18,544 167,284 Segment assets 248,532 263,843 142,606 654,981 Expenditures for segment fixed assets 3,959 10,247 4,275 18,481 TUBING YEAR END JULY 1, 2005 PRODUCTS PACKAGING OTHER TOTALS --------------------- -------- --------- -------- -------- Revenues from external customers $213,052 $348,675 $133,797 $695,524 Interest expense 42,188 28,662 19,049 89,899 Depreciation and amortization 9,311 15,255 7,063 31,629 Segment income(loss) from operations (6,473) 48,967 (1,239) 41,255 Goodwill 108,593 63,943 25,996 198,532 Segment assets 295,176 255,827 132,166 683,169 Expenditures for segment fixed assets 2,481 10,886 4,219 17,586 TUBING YEAR END JULY 2, 2004 PRODUCTS PACKAGING OTHER TOTALS --------------------- -------- --------- -------- -------- Revenues from external customers $210,239 $306,131 $119,272 $635,642 Interest expense 39,633 26,889 17,929 84,451 Depreciation and amortization 9,426 15,021 6,833 31,280 Segment income from operations 6,489 51,318 (11,798) 46,009 Goodwill 108,593 63,943 25,996 198,532 Segment assets 326,882 267,413 138,705 733,000 Expenditures for segment fixed assets 4,878 16,570 7,323 28,771 JUNE 30, JULY 1, JULY 2, YEARS ENDED 2006 2005 2004 ----------- -------- -------- -------- OPERATING PROFIT Total operating profit for reportable segments before income taxes $ 36,046 $ 41,255 $ 46,009 Corporate and eliminations (17,086) (17,069) (17,673) -------- -------- -------- Consolidated total $ 18,960 $ 24,186 $ 28,336 ======== ======== ======== ASSETS Total assets from reportable segments $654,981 $683,169 $733,000 Other unallocated amounts 8,374 8,526 10,663 -------- -------- -------- Consolidated total $663,355 $691,695 $743,663 ======== ======== ======== DEPRECIATION AND AMORTIZATION Segment totals $ 30,973 $ 31,629 $ 31,280 Corporate 1,024 1,024 1,024 -------- -------- -------- Consolidated total $ 31,997 $ 32,653 $ 32,304 ======== ======== ======== EXPENDITURES FOR SEGMENT FIXED ASSETS Segment totals $ 18,481 $ 17,586 $ 28,711 Other unallocated expenditures 601 660 701 -------- -------- -------- Consolidated total $ 19,082 $ 18,246 $ 29,472 ======== ======== ======== REVENUES GEOGRAPHIC INFORMATION United States $641,661 $594,089 $545,597 Canada 13,603 18,888 17,991 Europe, primarily Belgium 87,419 82,547 72,054 -------- -------- -------- Total $742,683 $695,524 $635,642 ======== ======== ======== LONG-LIVED ASSETS GEOGRAPHIC INFORMATION United States $320,630 $364,864 $385,120 Canada 9,582 9,552 10,469 Europe 25,634 24,850 24,087 -------- -------- -------- Total $355,846 $399,266 $419,676 ======== ======== ========
55 Income from operations is total net sales less cost of goods sold and operating expenses of each segment before deductions for general corporate expenses not directly related to an individual segment and interest. Identifiable assets by industry are those assets that are used in the Company's operation in each industry segment, including assigned value of goodwill. Corporate identifiable assets consist primarily of cash, prepaid expenses, deferred income taxes and fixed assets. For each of the three years in the period ended June 30, 2006 no single customer represented at least 10% of sales. Garden hose products represented 24%, 25% and 30% of sales in fiscal years 2006, 2005 and 2004, respectively. Foam egg cartons represented 15%, 15% and 12% of sales in fiscal year 2006, 2005 and 2004, respectively. It is impractical for the Company to provide further product line information. However, no other product lines represented 10% or more of revenues in any years presented. 15. SUPPLEMENTAL CONDENSED Tekni-Plex, Inc. issued 12 3/4% Senior CONSOLIDATING FINANCIAL Subordinated Notes in June 2000 and May 2002 STATEMENTS and 8 3/4% Senior Secured Notes in November 2003. These notes are guaranteed by all domestic subsidiaries of Tekni-Plex. The guarantor subsidiaries are 100% owned by the issuer. The guaranties are full and unconditional and joint and several. There are no restrictions on the transfer of funds from guarantor subsidiaries to the issuer. The following condensed consolidating financial statements present separate information for Tekni-Plex (the "Issuer") and its domestic subsidiaries (the "Guarantors") and the foreign subsidiaries (the "Non-Guarantors").
Condensed Consolidating Statement of Operations - For the year ended June 30, 2006
NON- ISSUER GUARANTORS GUARANTORS TOTAL -------- ---------- ---------- ------- Sales, net $196,727 $444,934 $101,022 $742,683 Cost of sales 143,386 403,692 74,905 621,983 -------- ------- ------- -------- Gross profit 53,341 41,242 26,117 120,700 Selling, general and administrative 25,798 60,444 10,248 96,490 Integration expense 1,494 3,756 -- 5,250 -------- ------- ------- -------- Income (loss) from operations 26,049 (22,958) 15,869 18,960 Interest expense, net 104,552 144 135 104,831 Unrealized loss (gain) on derivative contract (3,800) -- -- (3,800) Other expense (income) (4,921) (1,024) 3,208 (2,737) -------- ------- ------- -------- Income (loss) before provision for income taxes (69,782) (22,078) 12,526 (79,334) Provision for income taxes (67) 71 4,973 4,977 -------- ------- ------- -------- Net income (loss) $(69,715) $(22,149) $7,553 $(84,311) ======== ======= ======= ========
Condensed Consolidating Balance Sheet - at June 30, 2006
NON- ISSUER GUARANTORS GUARANTORS ELIMINATIONS TOTAL ---------- ---------- ---------- ------------ --------- CURRENT ASSETS $ 36,233 $203,580 $ 67,696 $ -- $ 307,509 Property, plant and equipment, net 40,641 101,724 25,422 -- 167,787 Intangible assets 14,929 147,109 9,342 -- 171,380 Investment in subsidiaries 547,778 -- -- (547,778) -- Deferred taxes 8,502 (8,502) -- -- Deferred financing costs, net 14,502 116 -- -- 14,618 Other long-term assets 418,403 283,922 452 (700,716) 2,061 ---------- -------- -------- ----------- --------- TOTAL ASSETS $1,080,988 $727,949 $102,912 $(1,248,494) $ 663,355 ========== ======== ======== =========== ========= CURRENT LIABILITIES 33,085 28,800 30,209 92,094
56 Long-term debt 769,268 -- 3,639 -- 772,907 Preferred stock 75,473 -- -- 75,473 Other long-term liabilities 491,833 205,765 14,930 (700,716) 11,812 ---------- -------- -------- ----------- --------- Total Liabilities 1,369,659 234,565 48,778 (700,716) 952,286 ---------- -------- -------- ----------- --------- Additional paid-in capital 188,011 294,585 18,951 (313,529) 188,018 Retained earnings (accumulated deficit) (254,840) 205,381 28,869 (234,249) (254,839) Accumulated other comprehensive (income) loss (1,319) (6,582) 6,314 -- (1,587) Treasury stock (220,523) -- -- -- (220,523) ---------- -------- -------- ----------- --------- Total stockholders' deficit (288,671) 493,384 54,134 (547,778) (288,931) ---------- -------- -------- ----------- --------- Total liabilities and stockholders' deficit $1,080,988 $727,949 $102,912 $(1,248,494) $ 663,355 ========== ======== ======== =========== =========
Condensed Consolidating Cash Flows - For the year ended June 30, 2006
NON- ISSUER GUARANTORS GUARANTORS TOTAL -------- ---------- ---------- -------- Net cash provided by (used in) operating activities: $(49,790) $ 27,864 $10,727 $(11,199) -------- -------- ------- -------- Cash flows from investing activities: Capital expenditures (3,406) (10,835) (4,841) (19,082) Cash proceeds from sale of assets -- 4,142 -- 4,142 Additions to intangibles 263 (3,898) (3) (3,638) Deposits and other assets (3) (260) (33) (296) -------- -------- ------- -------- Net cash used in investing activities (3,146) (10,851) (4,877) (18,874) -------- -------- ------- -------- Cash flows from financing activities: Net borrowings (repayment) under line of credit 27,000 -- -- 27,000 Proceeds from long-term debt -- -- (17) (17) Repayment of long-term debt -- -- -- -- Debt financing (237) -- 429 192 Change in intercompany accounts 18,029 (19,850) 1,821 -- Proceeds from issuance of Series A redeemable preferred stock 5,423 -- -- 5,423 -------- -------- ------- -------- Net cash flows provided by (used in) financing activities 50,215 (19,850) 2,233 32,598 -------- -------- ------- -------- Effect of exchange rate changes on cash -- -- (420) (420) -------- -------- ------- -------- Net increase (decrease) in cash (2,721) (2,837) 7,663 2,105 Cash, beginning of year 7,150 7,732 3,702 18,584 -------- -------- ------- -------- Cash, end of year $ 4,429 $ 4,895 $ 11,365 $ 20,689 ======== ======== ======= ========
Condensed Consolidating Statement of Operations - For the year ended July 1, 2005
NON- ISSUER GUARANTORS GUARANTORS TOTAL -------- ---------- ---------- -------- Sales, net $180,687 $413,458 $101,379 $695,524 Cost of sales 136,358 387,452 76,360 600,170 -------- -------- -------- -------- Gross profit 44,329 26,006 25,019 95,354 Selling, general and administrative 25,872 25,289 9,529 60,690 Integration expense 2,399 8,079 -- 10,478 -------- -------- -------- -------- Income (loss) from operations 16,058 (7,362) 15,490 24,186 Interest expense, net 89,762 -- 137 89,899 Unrealized loss (gain) on derivative contract (8,287) -- -- (8,287) Other expense (income) (4,021) (1,858) 3,685 (2,194) -------- -------- -------- -------- Income (loss) before provision for income taxes (61,396) (5,504) 11,668 (55,232) Provision for income taxes 21,820 58 4,369 26,247 -------- -------- -------- -------- Net income (loss) $(83,216) $ (5,562) $ 7,299 $(81,479) ======== ======== ======== ========
Condensed Consolidating Balance Sheet - at July 1, 2005
NON- ISSUER GUARANTORS GUARANTORS ELIMINATIONS TOTAL ---------- ---------- ---------- ------------ --------- CURRENT ASSETS $ 38,998 $192,614 $60,817 $ -- $ 292,429 Property, plant and equipment, net 42,397 109,750 24,035 -- 176,182 Intangible assets 15,268 179,210 10,164 -- 204,642
57 Investment in subsidiaries 562,374 -- -- (562,374) -- Deferred financing costs, net 16,561 116 -- -- 16,677 Other long-term assets 379,589 214,261 203 (592,288) 1,765 ---------- -------- ------- ----------- --------- TOTAL ASSETS $1,055,187 $695,951 $95,219 $(1,154,662) $ 691,695 ========== ======== ======= =========== ========= CURRENT LIABILITIES 27,709 39,040 24,862 -- 91,611 Long-term debt 740,739 -- 3,874 -- 744,613 Preferred stock 54,822 -- -- 54,822 Other long-term liabilities 437,185 148,101 20,978 (592,288) 13,976 ---------- -------- ------- ----------- --------- TOTAL LIABILITIES 1,260,455 187,141 49,714 (592,288) 905,022 ---------- -------- ------- ----------- --------- Additional paid-in capital 187,999 296,783 16,765 (313,529) 188,018 Retained earnings (accumulated deficit) (170,528) 222,736 26,109 (248,845) (170,528) Accumulated other comprehensive (income) loss (2,216) (11,005) 2,927 -- (10,294) Treasury stock (220,523) -- -- -- (220,523) ---------- -------- ------- ----------- --------- TOTAL STOCKHOLDERS' DEFICIT (205,268) 508,810 45,505 (562,374) (213,327) ---------- -------- ------- ----------- --------- TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT $1,055,187 $695,951 $95,219 $(1,154,662) $ 691,695 ========== ======== ======= =========== =========
Condensed Consolidating Cash Flows - For the year ended July 1, 2005
NON- ISSUER GUARANTORS GUARANTORS TOTAL -------- ---------- ---------- -------- Net cash provided by (used in) operating activities: $(74,070) $ 42,357 $ 7,252 $(24,461) -------- -------- -------- -------- Cash flows from investing activities: Acquisitions (93) -- -- (93) Capital expenditures (3,826) (13,027) (1,393) (18,246) Additions to intangibles (331) (241) (89) (661) -------- -------- -------- -------- Net cash used in investing activities (4,250) (13,268) (1,482) (19,000) -------- -------- -------- -------- Cash flows from financing activities: Net borrowings (repayment) under line of credit (64,000) -- -- (64,000) Proceeds from long-term debt 178,640 -- -- 178,640 Repayment of long-term debt (70,943) -- (705) (71,648) Debt financing (10,720) -- -- (10,720) Change in intercompany accounts 40,424 (30,280) (10,144) -- -------- -------- -------- -------- Net cash flows provided by (used in) financing activities 73,401 (30,280) (10,849) 32,272 -------- -------- -------- -------- Effect of exchange rate changes on cash -- -- 38 38 -------- -------- -------- -------- Net increase (decrease) in cash (4,919) (1,191) (5,041) (11,151) Cash, beginning of year 11,890 8,923 8,922 29,735 -------- -------- -------- -------- Cash, end of year $ 6,971 $ 7,732 $ 3,881 $ 18,584 ======== ======== ======== ========
Condensed Consolidating Statement of Operations - For the year ended July 2, 2004
NON- ISSUER GUARANTORS GUARANTORS TOTAL -------- ---------- ---------- -------- Sales, net $147,923 $397,674 $90,045 $635,642 Cost of sales 109,294 353,557 67,521 530,372 -------- -------- ------- -------- Gross profit 38,629 44,117 22,524 105,270 Selling, general and administrative 36,056 24,552 8,551 69,159 Integration expense 1,717 6,058 -- 7,775 -------- -------- ------- -------- Income from operations 856 13,507 13,973 28,336 Interest expense, net 84,363 (36) 124 84,451 Unrealized loss on derivative contract (10,654) -- -- (10,654) Other expense (income) (847) (1,734) 3,186 605 -------- -------- ------- -------- Income (loss) before provision for income taxes (72,006) 15,277 10,663 (46,066) Provision (benefit) for income taxes 6,417 1,605 3,099 11,121 -------- -------- ------- -------- Net income (loss) $(78,423) $ 13,672 $ 7,564 $(57,187) ======== ======== ======= ========
Condensed Consolidating Balance Sheet - at July 2, 2004 58
NON- ISSUER GUARANTORS GUARANTOR ELIMINATIONS TOTAL ---------- ---------- --------- ------------ --------- CURRENT ASSETS $ 38,357 $214,523 $ 71,107 $ -- $ 323,987 Property, plant and equipment, net 43,178 113,335 26,236 -- 182,749 Intangible assets (19,936) 216,404 10,810 -- 207,278 Investment in subsidiaries 560,638 -- -- (560,638) -- Deferred financing costs, net 9,536 116 -- -- 9,652 Deferred taxes 30,032 (9,205) (2,034) -- 18,793 Other long-term assets 339,165 257,456 (456) (594,961) 1,204 ---------- -------- -------- ----------- --------- TOTAL ASSETS $1,000,970 $792,629 $105,663 $(1,155,599) $ 743,663 ========== ======== ======== =========== ========= CURRENT LIABILITIES 26,277 47,577 24,276 -- 98,130 Long-term debt 727,577 -- 4,309 -- 731,886 Other long-term liabilities 343,537 247,947 22,178 (594,961) 18,701 ---------- -------- -------- ----------- --------- TOTAL LIABILITIES 1,097,391 295,524 50,763 (594,961) 848,717 ---------- -------- -------- ----------- --------- Additional paid-in capital 210,499 296,783 16,765 (313,529) 210,518 Retained earnings (accumulated deficit) (85,030) 207,550 35,540 (247,109) (89,049) Accumulated other comprehensive loss (1,367) (7,228) 2,595 -- (6,000) Treasury stock (220,523) -- -- -- (220,523) ---------- -------- -------- ----------- --------- TOTAL STOCKHOLDERS' DEFICIT (96,421) 497,105 54,900 (560,638) (105,054) ---------- -------- -------- ----------- --------- TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT $1,000,970 $792,629 $105,663 $(1,155,599) $ 743,663 ========== ======== ======== =========== =========
Condensed Consolidating Cash Flows - For the year ended July 2, 2004
NON- ISSUER GUARANTORS GUARANTORS TOTAL --------- ---------- ---------- --------- Net cash provided by (used in) operating activities: $ (13,327) $ (942) $ 6,905 $ (7,364) --------- -------- ------- --------- Cash flows from investing activities: Acquisitions -- (5,780) -- (5,780) Capital expenditures (7,459) (16,851) (5,162) (29,472) Additions to intangibles -- 1,222 124 1,346 Cash proceeds on sale of assets (220) -- -- (220) --------- -------- ------- --------- Net cash used in investing activities (7,679) (21,409) (5,038) (34,126) --------- -------- ------- --------- Cash flows from financing activities: Net borrowings (repayment) under line of credit (15,000) -- -- (15,000) Proceeds from long-term debt 267,438 -- -- 267,438 Repayment of long-term debt (248,511) -- (147) (248,658) Proceeds from capital contribution 22,500 -- -- 22,500 Debt financing (2,767) -- -- (2,767) Change in intercompany accounts (11,664) 11,624 40 -- --------- -------- ------- --------- Net cash provided (used in) by financing activities 11,996 11,624 (107) 23,513 --------- -------- ------- --------- Effect of exchange rate changes on cash -- -- (350) (350) --------- -------- ------- --------- Net increase (decrease) in cash (9,010) (10,727) 1,410 (18,327) Cash, beginning of period 20,900 19,650 7,512 48,062 --------- -------- ------- --------- Cash, end of period $ 11,890 $ 8,923 $ 8,922 $ 29,735 ========= ======== ======= =========
59 16. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
FIRST SECOND THIRD FOURTH QUARTER QUARTER QUARTER QUARTER -------- -------- -------- --------- 2006 Net sales $162,751 $152,396 $194,568 $232,968 Gross profit 18,508 22,474 36,914 42,804 Income (loss) from operations 1,437 (27,987)(2) 19,830 25,680 Net (loss) $(24,299) $(54,528)(2) $(4,564) $ (920) ======== ======== ======== ======== 2005(1) (Restated) Net sales $143,461 $138,247 $194,215 $219,601 Gross profit 28,415 25,123 27,257 14,559 Income (loss) from operations 9,969 8,704 9,750 (4,237) Net (loss) $ (9,884) $(11,722) $(10,223) $(49,650) ======== ======== ======== ========
1. In the fourth quarter of fiscal 2005, the Company identified certain overstated inventory at its American Gasket and Rubber Division which resulted in a non-cash charge to operations of $2.8 million in fiscal 2005. The first three quarters of fiscal 2005 were restated to reflect this charge. 2. In September 2005, we concluded our annual garden hose contract negotiations. While we were largely successful in securing our target price increases, we lost meaningful market share. With this information in mind, in the second quarter of fiscal 2006 we deemed it appropriate to retest the goodwill in our Tubing segment. Accordingly, we recorded a $35.1 million impairment charge against the goodwill associated with our Swan operations as we anticipate reducing the capacity of this operation, eliminating much of its fixed costs, to reflect our reduced market position. 60 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM ON SUPPLEMENTAL SCHEDULE Board of Directors Tekni-Plex, Inc. Somerville, New Jersey The audits referred to in our report dated September 8, 2006 relating to the consolidated financial statements of Tekni-Plex, Inc. and its subsidiaries (the "Company"), included the audits of the financial statement schedule for the years ended June 30, 2006, July 1, 2005 and July 2, 2004 listed in the accompanying index. This financial statement schedule is the responsibility of the Company's management. Our responsibility is to express an opinion on the financial statement schedule based upon our audits. In our opinion, such financial statement schedule presents fairly, in all material respects, the information set forth therein. /s/ BDO Seidman, LLP Woodbridge, New Jersey September 8, 2006 62 TEKNI-PLEX, INC. VALUATION AND QUALIFYING ACCOUNTS AND RESERVES (DOLLARS IN THOUSANDS)
BALANCE AT CHARGED TO BEGINNING OF COSTS AND BALANCE AT END PERIOD EXPENSES (1) DEDUCTIONS (2) OF PERIOD(3) ------------ ------------ -------------- -------------- YEAR ENDED JULY 2, 2004 Accounts receivable allowance for possible losses $3,798 $2,316 $ 786 $5,328 ====== ====== ====== ====== YEAR ENDED JULY 1, 2005 Accounts receivable allowance for possible losses $5,328 $1,970 $1,234 $6,064 ====== ====== ====== ====== YEAR ENDED JUNE 30, 2006 Accounts receivable allowance for possible losses $6,064 $1,044 $4,156 $2,952 ====== ====== ====== ======
---------- (1) To increase accounts receivable allowance. (2) Uncollectible accounts written off, net of recoveries. (3) Amounts do not include certain accounts receivable reserves that are disclosed as "allowances" on the Consolidated Balance Sheets since they are not valuation reserves. 63