10-K 1 y32598e10vk.txt FORM 10-K -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2006 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 1-8831 FEDDERS CORPORATION (Exact name of Registrant as specified in its charter) DELAWARE 22-2572390 (State of Incorporation) (I.R.S. Employer Identification No.) 505 MARTINSVILLE ROAD, 07938-0813 LIBERTY CORNER, NJ (Zip Code) (Address of Principal Executive Offices)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (908) 604-8686 SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED ------------------- ----------------------------------------- Common Stock, $.01 par value Over The Counter Series A Cumulative Preferred Stock, Over The Counter $0.01 par value
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 Role 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 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 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. [X] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes [X] No [ ] Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X] The approximate aggregate market value (based upon the $2.42 closing price on the New York Stock Exchange) of common equity held by non-affiliates of the Registrant as of June 30, 2006 was $51,048,325. (The value of a share of Common Stock is used as the value for a share of Class B Stock as there is no established market for Class B Stock and it is convertible into Common Stock on a share-for-share basis.) As of the close of business on March 1, 2007, there were outstanding 29,528,199 shares of the Registrant's Common Stock and 2,492,181 shares of its Class B Stock. DOCUMENTS INCORPORATED BY REFERENCE None. -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- FEDDERS CORPORATION FORM 10-K ANNUAL REPORT JANUARY 1, 2006 TO DECEMBER 31, 2006 TABLE OF CONTENTS
PAGE ---- PART I Item 1. Business........................................................................ 3 Item 1A. Risk Factors.................................................................... 7 Item 1B. Unresolved Staff Comments....................................................... 10 Item 2. Properties...................................................................... 10 Item 3. Legal Proceedings............................................................... 10 Item 4. Submission of Matters to a Vote of Security Holders............................. 10 PART II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters........... 12 Item 6. Selected Financial Data......................................................... 13 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations...................................................................... 16 Item 7A. Quantitative and Qualitative Disclosures about Market Risk...................... 27 Item 8. Financial Statements and Supplementary Data..................................... 28 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure...................................................................... 28 Item 9A. Controls and Procedures......................................................... 28 Item 9B. Other Information............................................................... 33 PART III Item 10. Directors and Executive Officers of the Registrant.............................. 34 Item 11. Executive Compensation.......................................................... 34 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters............................................................. 34 Item 13. Certain Relationships and Related Transactions.................................. 34 Item 14. Principal Accountant Fees and Services.......................................... 34 PART IV Item 15. Exhibits and Financial Statement Schedules...................................... 35
2 PART I ITEM 1. BUSINESS (a) GENERAL DEVELOPMENT OF BUSINESS Fedders Corporation is a global producer and marketer of air treatment products for the residential, commercial, and industrial markets. The Company's products include a wide range of residential and commercial heating and cooling equipment, air cleaners, and humidifiers. The Company was established more than 100 years ago and has been in the air treatment business for more than 50 years. The Company continues its efforts to improve profitability by focusing on those products and customers that generate sales at higher margins. At the same time, the Company is implementing a number of programs to improve manufacturing efficiency and productivity and to reduce costs. Activities in 2005 and 2006 included: - On December 30, 2006, the Company sold Polenz GmbH, its distributor in Germany. - On March 7, 2005, the Company completed the acquisition of eighty percent of the stock of Islandaire, Inc., now known as Fedders Islandaire, Inc. Fedders Islandaire manufactures and markets specialized through-the-wall packaged terminal air conditioners and heat pumps. The Company is obligated to purchase the remaining twenty percent of Islandaire stock within three years. - Over the last two years, the Company implemented restructuring programs to improve manufacturing efficiency and productivity as well as to significantly reduce costs which, among other actions, included: - Consolidated air conditioner manufacturing operations from three facilities in China into an existing Company facility in Ningbo, China. - Consolidated Longview, Texas commercial air conditioner manufacturing into the Fedders Addison facility in Orlando, Florida. - Closed the Albuquerque, New Mexico facility and consolidated that operation into existing Company facilities in Sanford, North Carolina and Suzhou, China. - Ceased manufacturing and refurbishing of room air conditioners in Effingham, Illinois, and consolidated eight warehouses in North America into the Effingham facility. - Changed the Company focus in China to expanding high-end residential and commercial/industrial markets and discontinued sales of low-end room air conditioners. - Discontinued selling room air conditioners to two "big-box" retailers due to low profitability. - Discontinued production and sales of dehumidifiers. Unless otherwise indicated, all references herein to "we", "our", "Fedders", the "Company", or the "Registrant" include Fedders Corporation and its principal operating subsidiaries. The discussion included herein reflects the Company's operations during 2006. (b) FINANCIAL INFORMATION ABOUT INDUSTRY SEGMENTS The Company has two reportable industry segments: Heating, Ventilation, and Air Conditioning ("HVAC") and Engineered Products. See Note 8 of the Notes to Consolidated Financial Statements. (c) NARRATIVE DESCRIPTION OF BUSINESS The Company is a global producer and marketer of air treatment products for the residential, commercial, and industrial markets. Our products include air conditioners, furnaces, air cleaners, and humidifiers. We are a low-cost producer of high quality products due, in part, to our Asian manufacturing base and our continuous cost-reduction programs through engineering, product design, and manufacturing processes. 3 HVAC PRODUCTS The HVAC segment designs, manufactures and markets air conditioners, including ducted central air conditioners, heat pumps, gas furnaces, ductless split systems, through-the-wall, portable window, and packaged unit room air conditioners, residential humidifiers, and air cleaners. MARKETS The Company's consumer products are sold principally in North America, and to a lesser extent in China, India, and the Philippines. The Company sold Polenz GmbH, its German distributor of HVAC products, on December 30, 2006. Sales are made primarily by the Company's salaried sales force and independent manufacturers' representatives directly to retailers, wholesale distributors, contractors, and original equipment manufacturers. Residential and commercial products are primarily sold to original equipment manufacturers by the Company's salaried sales force and through a network of manufacturers' representatives. PRODUCTION The Company currently manufactures HVAC products in Orlando, Florida; Longview, Texas; East Setauket, New York; Ningbo and Shanghai, China; Dadra, India; and Manila, Philippines. SOURCES AND AVAILABILITY OF RAW MATERIALS The principal raw materials used for production are copper, aluminum, steel, and plastic. The Company also purchases certain components used in its products, including compressors, motors, thermostats, and electrical controls, from other manufacturers. The Company is not dependent on any single supplier for its raw materials and components as inputs are readily available from several suppliers. The Company endeavors to obtain the lowest possible cost in its purchases of raw materials and components, which must meet specified quality standards, through an active global sourcing program. ENGINEERED PRODUCTS PRODUCTS The Engineered Products segment designs, manufactures, and markets products for commercial and industrial indoor air quality around the world. These products include electronic air cleaners, fan filters, media filters and humidification systems. MARKETS Engineered Products are primarily sold through manufacturers' representatives, distributors, and directly to contractors and end-users. PRODUCTION The Company produces air cleaning products and humidifiers in Sanford, North Carolina and Suzhou, China. SOURCES AND AVAILABILITY OF RAW MATERIALS The principal raw materials used for production are steel, aluminum, and filter paper. The Company also purchases certain components used in its products, such as motors and electrical controls, from other manufacturers. The Company is not dependent on any single supplier for its raw materials and components as inputs are readily available from several suppliers. The Company endeavors to obtain the lowest possible cost in its purchases of raw materials and components, which must meet specified quality standards, through an active global sourcing program. 4 SEASONALITY OF BUSINESS The Company is continuing with its strategy to diversify sales and earnings. As a result, the Company's results of operations and financial condition are now less dependent on the manufacture and sale of room air conditioners, the demand for which is highly seasonal in North American markets. Currently, seasonally low-volume sales are not sufficient to offset fixed costs, resulting in operating losses at certain times of the year. In addition, the Company's working capital needs are seasonal, with the greatest utilization of lines of credit occurring early in the calendar year. See also "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the discussion under "Working Capital Practices". WORKING CAPITAL PRACTICES The Company regularly reviews working capital needs with a view to maintaining the lowest level consistent with requirements of anticipated levels of operation. Sales currently peak in the period from March through June and production is weighted towards the selling season. Accordingly, the greatest use of credit lines occurs early in the calendar year. Cash balances peak in the third quarter. See also "Management's Discussion and Analysis of Financial Condition and Results of Operations". BACKLOG The backlog for the Company's products as of December 31, 2006 was $36.8 million, a decrease of 62.9% over the backlog of $99.3 million at December 31, 2005 which included $71.3 million for The Home Depot, Wal-Mart, and dehumidifiers. Excluding these businesses the company is exiting, the 2006 backlog would have grown by 31.4%. The backlog at December 31, 2004 was $75.2 million which included $24.9 million for The Home Depot, Wal-Mart, and dehumidifiers. The 2006 backlog is expected to be fulfilled within one year. The backlog decrease in 2006 reflects the Company no longer selling to The Home Depot and Wal-Mart as well as discontinuing the manufacture and sales of dehumidifiers. The backlog for the Company's products as of December 31, 2005 increased by 32.1% from December 31, 2004. The increase reflects the clearing of distribution channels of product following the warmer summer in 2005, and increased orders related to the Islandaire business. QUALITY ASSURANCE One of the key elements of the Company's strategy is a commitment to a single, worldwide standard of quality. All of the Company's principal manufacturing facilities have received the highest level of quality certification (ISO 9000 series) from the International Standards Organization for their quality management systems. The ISO 9000 program is an internationally recognized benchmark of quality management systems within a production facility. The same level of quality is required at all of the Company's manufacturing facilities. PATENTS, TRADEMARKS, LICENSES, AND CONCESSIONS HELD The Company owns a number of trademarks, and licenses the name MAYTAG from Maytag Corporation for use on air conditioners. While the Company believes that its trademarks, such as FEDDERS, ADDISON, AIRTEMP, TRION, SUN, KOPPEL, EUBANK, and MAC-10, as well as the trademark MAYTAG, are well known and enhance the marketing of its products, the Company does not consider the successful conduct of its business to be dependent upon such trademarks. The Company aggressively protects its trademark and intellectual property rights worldwide. COMPETITION Domestically, the Company's competitors include a number of foreign and domestic manufacturers of room air conditioners and appliances, including Whirlpool Corporation, Frigidaire Company, Matsushita Electric Industrial Co., Ltd., LG Corporation, and Haier. In the central air conditioner market, competitors include Carrier 5 Corporation, Trane, York International Corporation, Lennox Industries Inc., Goodman Manufacturing Company, Rheem and Nordyne, Inc. All of the markets in which the Company does business are very competitive. Many of these competitors are larger and have greater resources than the Company. The Company competes principally on the basis of quality, price, and its ability to deliver products and services to its customers on an accurate-response basis. The Company believes that it competes effectively by providing competitively-priced, high- quality products. Internationally, competitors vary depending on the market. Some markets, such as China, are served by many local manufacturers. Other markets are dominated by foreign manufacturers of air conditioners and electronics products, including Matsushita Electric Industrial Co., Ltd., Carrier-Toshiba Corporation, Hitachi, Ltd., Mitsubishi Electric Corporation, and Sanyo Electric Trading Co., Ltd. The Company believes that it can compete effectively by using a strategy of manufacturing high quality, low-cost air treatment products utilizing the Company's global sourcing network. RESEARCH AND DEVELOPMENT The Company's product development activities include ongoing research and development programs to redesign existing products, reduce manufacturing costs, increase product efficiencies and create new products. In the years ended December 31, 2006, 2005, and 2004, the Company spent approximately $6.5 million, $8.7 million, and $9.6 million, respectively, on research and development. Research and development expenditures are included within selling, general, and administrative expense. During 2005, the Company's primary capital expenditures related to opening a new 92,000 square foot research & development center in Qingpu, China which will increase development output. ENVIRONMENTAL PROTECTION The Company's operations are subject to various United States (federal and state) and foreign environmental statutes and regulations, including laws and regulations dealing with storage, treatment, discharge, and disposal of hazardous materials, substances, and wastes, and that affect the production of chemical refrigerants used in the operation of some of the Company's products. The refrigerant used in air conditioners is a hydrochloroflurocarbon (HCFC) that is to be phased out of use in new products on January 1, 2010 in the United States. Chemical producers have developed environmentally acceptable alternative refrigerants for use in air conditioners. The Company is currently supplying products using alternative refrigerants in certain products and markets where they are required. The Company has the capability to produce product using three different refrigerants and anticipates no significant capital expenditures to meet the 2010 timetable in the United States. The Company believes it is currently in material compliance with applicable environmental laws and regulations. The Company did not make capital expenditures on environmental matters during the fiscal year ended December 31, 2006 that are material to its total capital expenditures, earnings, and competitive position and does not anticipate making material capital expenditures on environmental items in the fiscal year ending December 31, 2007. EMPLOYEES The Company has approximately 1,664 employees worldwide, with approximately 73 covered by collective bargaining agreements. During the peak manufacturing period, the Company employs an additional 297 seasonal, temporary workers. The Company considers its relations with its employees to be generally satisfactory. FOREIGN OPERATIONS Foreign operations are subject to the risks inherent in such activities, such as foreign regulations, unsettled political conditions, and exchange rate fluctuations. Through certain subsidiary companies and joint venture agreements, the Company has operations in a number of countries, including China, India, the United Kingdom, and the Philippines. The Company sold Polenz GmbH, its German distributor of HVAC products, on December 30, 2006. Approximately 64% of the Company's sales are of products produced in the Company's China factories. 6 The Company's foreign operations, at times, may be adversely affected by changes in government policies such as changes in laws and regulations (or the interpretation thereof), restrictions on imports, and exports and sources of supply, duties or tariffs, the introduction of additional measures to control inflation, changes in the rate or method of taxation, the imposition of additional restrictions on currency conversion, remittances abroad, and the expropriation of private enterprise. In addition, policy concerns particular to the United States, with respect to a country in which the Company has operations, could adversely affect the Company's operations in that country. During the year ended December 31, 2006, none of these conditions materially affected the Company's business or operations. The Company monitors its operations with a view to minimizing the impact on its foreign investments and overall business that could arise as a result of the risks inherent in maintaining operations in foreign countries as described above. WEBSITE ACCESS TO REPORTS Fedders makes available on its website the charters of its Board Committees, its Corporate Governance Guidelines, and its Code of Business Conduct and Ethics. Copies of SEC reports and other documents are also available, without charge, from Investor Relations, Fedders Corporation, 505 Martinsville Road, Liberty Corner, New Jersey 07938; by sending an email to InvestorRelations@Fedders.com; or by calling (908) 604-8686. The Company does not post its Forms 10-K, 10-Q, or 8-K on its website, as these reports are available upon request and are also publicly available on the SEC's website, as indicated below. Information on the Company's website does not constitute part of this report. Additionally, the Company's filings with the SEC may be read and copied at the SEC Public Reference Room at 450 Fifth Street, N.W., Washington, D.C. 20549. Information on the operation of the Public Reference Room may be obtained by calling 1-800-SEC-0330. These filings are also available on the SEC's website at www.sec.gov free of charge as soon as reasonably practicable after the Company has filed the above referenced reports. ITEM 1A. RISK FACTORS THE COMPANY'S BUSINESS CAN BE ADVERSELY AFFECTED BY AN ECONOMIC DOWNTURN. The Company's business is affected by a number of economic factors, including the level of economic activity in the markets in which the Company operates and the level of interest rates. A decline in economic activity or an increase in interest rates in the United States could materially affect the Company's financial condition and results of operations. In the Company's business, a decline in economic activity, as a result of cyclical or other factors, typically results in a decline in purchases of the Company's products, which would result in a decrease in the Company's sales volume and profitability. COOLER THAN NORMAL SUMMERS MAY DEPRESS THE COMPANY'S SALES. Demand for the Company's products is affected by the weather as hotter- than-normal summers generate strong demand for air conditioning products, and cooler-than-normal summers depress the Company's sales. Because a high percentage of the Company's overhead and operating expenses is relatively fixed throughout the year, operating earnings and net earnings tend to be lower in quarters with lower sales. Variations in demand could have a material adverse effect on the timing of the Company's cash flows and, therefore, the Company's ability to service its obligations with respect to the Company's indebtedness, including the notes. THE COMPANY MAY INCUR MATERIAL COSTS AS A RESULT OF WARRANTY AND PRODUCT LIABILITY CLAIMS, WHICH WOULD NEGATIVELY AFFECT THE COMPANY'S PROFITABILITY. The development, manufacture, sale and use of the Company's products involve a risk of warranty and product liability claims. The Company's product liability insurance policies have limits that, if exceeded, may result in material costs that would have an adverse effect on the Company's future profitability. In addition, warranty claims are not covered by the Company's product liability insurance, and there may be types of product liability claims that are also not covered by the Company's product liability insurance. 7 THE COMPANY MAY NOT BE ABLE TO SUCCESSFULLY COMPETE IN THE HIGHLY- COMPETITIVE HVAC BUSINESS. Competition in the Company's various markets could cause price reductions or market share losses, or could negatively affect the Company's cash flow, which could have an adverse effect on the Company's future financial results. Substantially all of the markets in which the Company participates are highly competitive. The most significant competitive factors faced are product reliability, product performance, service, and price, with the relative importance of these factors varying among the Company's product lines. Other factors that affect competition in the HVAC market include the development and application of new technologies and an increasing emphasis on the development of more energy efficient HVAC products. Moreover, new product introductions are an important factor in the market categories in which the Company's products compete. Several of the Company's competitors have greater financial and other resources than the Company, allowing competitors to invest in more extensive research and development. The Company may not be able to compete successfully against current and future competition and cannot be assured that the current and future competitive pressures faced by the Company will not materially adversely affect its business and results of operations. THE COMPANY'S BUSINESS HAS DEPENDED ON ITS RELATIONSHIPS WITH A LIMITED NUMBER OF LARGE CUSTOMERS. In fiscal 2006, 2005, and 2004 The Home Depot and Wal-Mart accounted for 28%, 35%, and 50% respectively, of net sales. The Company discontinued selling to The Home Depot and Wal-Mart in 2006 due to low margins and high working capital requirements. Sales to Menards for the year ended December 31, 2006 accounted for 11% of net sales. While the Company has done business with most of its principal customers for a number of years, agreements with principal customers are reached annually and are based on purchase orders. The Company cannot assure that sales to principal customers will continue at current levels. Further, continuation of the relationships depends on the customers' satisfaction with the price, quality, and delivery of the Company's products. The loss of, or a reduction in purchase levels by, a significant customer could have a material adverse effect on the Company's business. THE COMPANY'S WORKING CAPITAL REQUIREMENTS FLUCTUATE BECAUSE OF THE SEASONAL NATURE OF ITS BUSINESS. UNAVAILABILITY OF REQUIRED WORKING CAPITAL COULD ADVERSELY AFFECT THE COMPANY. Because of the seasonal nature of the Company's business, the Company's working capital requirements are significantly higher at certain times of the year. Additional working capital may not be available on satisfactory terms. Unavailability of required working capital could have a material adverse effect on the Company's business and operating results. THE COMPANY'S LOSS OF CERTAIN KEY MEMBERS OF MANAGEMENT OR INABILITY TO ATTRACT OTHER QUALIFIED PERSONNEL COULD NEGATIVELY AFFECT ITS BUSINESS PROSPECTS. The Company believes that its performance has been and will continue to be dependent upon the efforts of its principal executive officers. Although the Company has designed incentive and compensation programs to retain key employees, including options to purchase Company stock, the Company cannot assure that its principal executive officers will continue to be available. Mr. Sal Giordano, Jr., Chairman of Fedders Corporation is the only principal executive officer with an employment agreement. The loss of some or all of the Company's principal executive officers could have a material adverse effect on the Company. The Company believes that its future success will depend in large part on its continued ability to attract and retain highly skilled and qualified personnel. THE UNAVAILABILITY OF AND FLUCTUATION IN THE COST OF RAW MATERIALS COULD ADVERSELY AFFECT THE COMPANY'S FUTURE RESULTS. The Company's operations are dependent on the supply of various raw materials, including copper, aluminum, and steel, from domestic and foreign suppliers. The Company obtains substantially all its supply of copper, aluminum, and steel under purchase orders rather than long-term supply contracts. Supply interruptions or cost increases which the Company is unable to pass on to its customers could adversely affect the Company's future operating results. 8 THE COMPANY IS SUBJECT TO VARIOUS REGULATORY LAWS THAT AFFECTS ITS BUSINESS AND PRODUCTS. The Company is subject to various federal, state, and local laws affecting its business. Air conditioners are subject to regulations providing for minimum energy efficiency rating requirements. A combination of an efficient compressor and the design of the air conditioning system using the compressor is needed to achieve the required ratings. The required efficiency levels may be changed by the relevant regulatory authority. Any future changes in required efficiency levels or other government regulations could adversely affect the Company's industry and its business. EXPOSURE TO ENVIRONMENTAL LIABILITIES COULD ADVERSELY AFFECT THE COMPANY'S RESULTS OF OPERATIONS. Current or future environmental laws could adversely affect the Company's future profitability. The Company is subject to extensive and changing federal, state, local, and foreign laws and regulations designed to protect the environment, including those governing the discharge of pollutants into the air and water, the management and disposal of hazardous materials, and the cleanup of contaminated sites. These laws and regulations could impose liability for remediation costs and often result in civil or criminal penalties in cases of non-compliance. In addition, liability for cleanup costs under certain environmental laws, such as the Comprehensive Environmental Response, Compensation and Liability Act (CERCLA, or the federal Superfund law), can be imposed retroactively and without regard to the lawfulness of our conduct. Compliance with environmental laws increases our costs of doing business. Because these laws are subject to frequent change, the Company is unable to predict the future costs resulting from environmental compliance. THE COMPANY'S INTERNATIONAL OPERATIONS ARE SUBJECT TO RISKS INHERENT IN SUCH ACTIVITIES. The Company has dedicated resources to participate in the international market by establishing operations in a number of countries. Through Fedders International, Inc., the Company has operations in a number of countries, including China, India, the United Kingdom, and the Philippines. Foreign operations are subject to the risks inherent in such activities, such as foreign regulations, unsettled political conditions, exchange rate fluctuations, logistical and communication challenges, burdensome costs of complying with a variety of foreign laws, greater difficulties in protecting intellectual property, and general economic conditions in these foreign markets. The Company's international operations may be adversely affected by changes in government policies, such as changes in laws and regulations (or the interpretation thereof), restrictions on imports and exports and sources of supply, duties or tariffs, the introduction of measures to control inflation, changes in the rate or method of taxation, the imposition of restrictions on currency conversion, and remittances abroad and the expropriation of private enterprise. In addition, policy concerns particular to the United States with respect to a country in which the Company has operations could adversely affect the Company's operations in that country. A significant portion of the Company's net sales and costs are denominated in foreign currencies, including the Chinese yuan, and, to a lesser extent, the Canadian dollar, the euro, the Philippine peso, and the Indian rupee. As a result, changes in exchange rates of these foreign currencies to the U.S. dollar will affect the Company's sales, cost of sales, and operating margins and could result in exchange losses. The impact of future exchange rate fluctuations on the Company's results of operations cannot be accurately predicted. In the future, the Company may engage in exchange rate-hedging activities in an effort to mitigate the impact of exchange rate fluctuations. However, the Company cannot be assured that any hedging transactions it may enter into will be effective or will not result in foreign exchange hedging loss. THE COMPANY MAY BE UNABLE TO REALIZE THE EXPECTED COST SAVINGS FROM ITS RESTRUCTURING INITIATIVES. The Company's ability to compete effectively depends in part on its ability to control or reduce its cost structure and increase the efficiency of its manufacturing processes. Although the Company has implemented several restructuring initiatives, including the relocation of manufacturing facilities, and have other restructuring initiatives that the Company may implement in the future, there is inherent risk related to relocation of manufacturing facilities, including disruption of business operations, inability to meet customer demand, higher costs than anticipated, environmental issues associated with closed facilities, and a failure to complete these initiatives in the time frames contemplated. 9 The Company cannot be assured that its past or future restructuring initiatives will achieve the full expected benefits of the cost savings or revenue enhancements within the expected time frame or at all. The cost savings may be offset by costs incurred in restructuring the Company's operations, as well as by increases in other expenses unrelated to the restructuring. ITEM 1B. UNRESOLVED STAFF COMMENTS None. ITEM 2. PROPERTIES The Company owns or leases the following primary facilities:
APPROXIMATE SQUARE FEET LOCATION PRINCIPAL FUNCTIONS OF FLOOR AREA -------- ------------------------------------- ------------- Liberty Corner, New Jersey (Leased).. Corporate Headquarters 25,000 HVAC: Effingham, Illinois (Owned).......... Warehouse 650,000 Orlando, Florida (Owned)............. Manufacture of air conditioners 160,000 East Setauket, New York (Leased)..... Manufacture of air conditioners 72,000 Longview, Texas (Owned).............. Manufacture of coils and heat exchangers 100,000 Manila, Philippines (Leased)......... Manufacture of air conditioners 41,000 Ningbo, China (Both Leased and Owned)............................. Manufacture of air conditioners 323,000 Shanghai, China (Leased)............. Manufacture of coils and heat exchangers 175,000 Dadra, India (50% Owned)............. Manufacture of air conditioners 207,000 Qingpu, China (Leased)............... Research and development 92,000 Engineered Products: Sanford, North Carolina (Owned)...... Manufacture of air cleaning products and humidifiers 263,000 Suzhou, China (Two plants) (Leased).. Manufacture of air cleaning products and humidifiers 95,000
The Effingham, Illinois facility is subject to a mortgage securing a $0.6 million, 1% promissory note payable over the next two years to the State of Illinois. The Sanford, North Carolina facility is subject to a $3.2 million mortgage securing repayment of economic development bonds due November 2011, and the Longview, Texas and Orlando, Florida facilities are each subject to mortgages of $0.3 million and $1.9 million, respectively. The Company believes that productive capacity at its major manufacturing facilities is adequate to meet production needs in the foreseeable future. ITEM 3. LEGAL PROCEEDINGS Not applicable. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 10 EXECUTIVE OFFICERS OF THE REGISTRANT
NAME AND AGE POSITION HELD EXECUTIVE OFFICER ------------ ------------- ----------------- Sal Giordano, Jr., 68............ Executive Chairman 1965 Michael Giordano, 43(1).......... President and Chief Executive Officer 1999 Jordan Bruno, 56................. Vice President, Taxes 2000 Nancy DiGiovanni, 56............. Vice President and Treasurer 1998 Warren Emley, 52................. Vice President and President, Fedders Asia Pacific 2005 Peter Gasiewicz, 52.............. Senior Vice President and President, Fedders North America 2005 Kent E. Hansen, 59............... Executive Vice President, Administration and Secretary, and General Counsel 1996 Judy A. Katz, 55................. Vice President, Strategic Planning and Corporate Marketing 2000 Robert L. Laurent, Jr., 51....... Executive Vice President, Finance and Acquisitions and Chief Financial 1989 Officer Mark Mishler, 48................. Corporate Controller 2005 Michael D. Webb, 57.............. Vice President, Financial Analysis 2004
-------- (1) Son of Sal Giordano, Jr. BUSINESS EXPERIENCE DURING THE LAST FIVE YEARS Mr. Sal Giordano, Jr. has held his present position for more than five years. Mr. Michael Giordano was elected Chief Executive Officer in October 2006, and has been President since November 2004. Previously, he was Executive Vice President, Finance, and Administration and Chief Financial Officer from June 2000. Mr. Bruno has held his present position for more than five years. Ms. DiGiovanni was elected Vice President in November 2004. Previously, she served as Treasurer from October 1998. Mr. Emley was elected Vice President and President, Fedders Asia Pacific in December 2006 and Vice President and President, Fedders China in June 2005. Previously, he was Senior Vice President, Operations-Fedders International from November 2004; Vice President, Manufacturing-HVAC China from April 2003 to November 2004; President, Fedders Xinle from March 2002 to April 2003 and Vice President and General Manager-Fedders International from December 2000 to March 2002. Mr. Gasiewicz was elected Senior Vice President and President, Fedders North America in April 2005. Previously, he was with the International Comfort Products unit of Carrier Corporation for more than five years, most recently in the position of Vice President and General Manager from 2003 and prior thereto, Vice President, Worldwide Sales and Marketing from 2000. Mr. Hansen has held his present position for more than five years. Ms. Katz was elected to her present position in April 2004. Previously, she was Vice President, Strategic Planning from June 2000. Mr. Laurent was elected to his present position in November 2004. Previously, he was Executive Vice President, Acquisitions and Alliances from January 1999. Prior thereto, he was Chief Financial Officer of Fedders for ten years. 11 Mr. Mishler was elected Corporate Controller in November 2005. Previously, he was Corporate Controller of Amcast Industrial Corporation, a publicly traded metal casting manufacturer, since 1998. Mr. Mishler is a Certified Public Accountant and a Certified Management Accountant. Mr. Webb was elected Vice President, Financial Analysis in November 2005. Previously, he was Corporate Controller from April 2004. Prior thereto, he was Controller, HVAC-Americas from March 2003; Controller, Fedders Appliances from January 2002 and Group Controller, Fedders Air Conditioning from March 2000. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES The Company's Common Stock is traded Over The Counter. There is no established public trading market for the Company's Class B Stock, as there are restrictions on its transfer. As of March 1, 2007, there were 1,386 holders of Common Stock and 7 holders of Class B Stock. For information with respect to the Company's Common Stock and Class B Stock, see Notes 9 and 10 of the Notes to Consolidated Financial Statements. DIVIDENDS PAID ON COMMON, CLASS B, AND PREFERRED STOCK For information regarding the dividends paid by the Company on its Common and Class B stock in the past five fiscal years (see Item 6). The Company suspended declaring dividends after the second quarter of 2005. The amount of unpaid dividends on the Series A Cumulative Preferred Stock amounted to $6,861 thousand at December 31, 2006. As a result of Fedders Corporation being included in the covenants of Fedders North America, Inc.'s 9 7/8% Senior Notes due 2014, payment of dividends by Fedders Corporation to its stockholders was limited by the terms of those covenants. The Company's First Supplemental Indenture with respect to the 9 7/8% Senior Subordinated Notes due 2014 ("Senior Notes") that was executed in September 2005, limits dividend payments without sufficient consolidated net income beginning January 1, 2006. See the discussion under "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Note 5. PRICE RANGE OF COMMON STOCK For information regarding the high and low sale prices of the Company's Common Stock for each of the quarters in the past two fiscal years, see Fedders Corporation Quarterly Financial Data (unaudited). 12 ITEM 6. SELECTED FINANCIAL DATA (1) Historical selected financial data in 2004 and prior years were revised to reflect Melcor Corporation as a discontinued operation, with the exception of depreciation and amortization, capital expenditures, and cash flow. Melcor was sold on October 25, 2005.
FOUR MONTHS FISCAL YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED ENDED AUGUST 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, ------------------- STATEMENT OF OPERATIONS 2006 2005 2004 2003(12) 2003 2003 2002 ----------------------- ------------ ------------ ------------ ------------ ------------ -------- -------- (UNAUDITED) (AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) Net sales................. $ 279,255 $297,716 $399,485 $416,201 $ 51,571 $409,911 $362,235 Gross profit (2).......... 36,881 39,676 55,450 86,696 5,798 88,364 79,497 Percent of net sales...... 13.2% 13.3% 13.9% 20.8% 11.2% 21.6% 21.9% Operating income/(loss) (3)..................... (79,972) (52,769) (15,523) 23,946 (16,022) 29,983 19,735 Percent of net sales...... (28.6)% (17.7)% (3.9)% 5.8% (31.1)% 7.3% 5.4% Income/(loss) from continuing operations before income taxes and cumulative effect of a change in accounting principle (4)........... (103,515) (75,443) (41,895) 5,378 (23,040) 12,090 2,564 Net income/(loss) from continuing operations before cumulative effect of a change in accounting principle (5)..................... (124,624) (75,557) (27,201) 3,661 (15,547) 8,191 7,741 Income/(loss) from discontinued operations (6)..................... -- 13,476 1,094 684 246 605 268 Cumulative effect of a change in accounting principle (7)........... -- -- -- -- -- (11,906) -- Net income/(loss)......... $(124,624) $(62,081) $(26,107) $ 4,345 $(15,301) $ (3,110) $ 8,009 Preferred Stock dividends............... 4,574 4,436 4,020 1,102 484 618 -- Net income/(loss) applicable to common stockholders............ $(129,198) $(66,517) $(30,127) $ 3,243 $ 15,785) $ (3,728) $ 8,009 Earnings/(loss) per common share (6): Basic................... $ (4.12) $ (2.17) $ (0.99) $ 0.11 $ (0.52) $ (0.12) $ 0.25 Diluted................. (4.12) (2.17) (0.99) 0.11 (0.52) (0.12) 0.25 Dividends per share (8): Preferred Stock......... $ -- $ 1.075 $ 2.15 $ 2.15 $ 0.5375 $ 1.6125 -- New Common Stock........ -- 0.06 0.12 0.12 0.03 0.12 $ 0.06 Old Common/Class A Stock................ -- -- -- -- -- -- 0.06 New Class B Stock....... -- 0.06 0.12 0.12 0.03 0.12 0.06 Old Class B Stock....... -- -- -- -- -- -- 0.054 BALANCE SHEET DATA: Cash and cash equivalents............. $ 4,789 $ 14,417 $ 22,783 $ 22,043 $ 22,043 $ 60,902 $ 67,379 Total assets (9).......... 181,360 331,054 402,197 416,248 416,248 408,929 366,128 Long-term debt (including current portion) (10)... 179,966 160,583 161,808 160,881 160,881 163,138 166,094 Stockholders' equity/(deficit) (8).... (121,366) (62) 58,206 62,950 62,950 74,928 77,818 Capital expenditures...... 2,919 7,982 6,831 6,440 2,116 7,271 7,846 Depreciation and amortization (11)....... 7,948 11,443 11,029 9,885 3,413 9,543 14,830 CASH FLOW PROVIDED/(USED): Operating activities.... $ 5,304 $ (493) $(22,917) $ 369 $(58,725) $ 6,550 $ 34,134 Investing activities.... 2,132 (176) (14,054) (4,991) (555) (7,368) (14,564) Financing activities.... (18,428) (8,281) 36,635 3,846 19,928 (4,726) (3,383)
-------- (1) The selected financial data should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations", the consolidated financial statements, and the notes to the consolidated financial statements. 13 (2) Cost of goods sold for 2006 includes $10.5 million in increased costs of copper, aluminum, and plastic, as well as components that use these materials that could not be passed along to fixed-price-contract room air conditioner and dehumidifier customers in the form of price increases. Cost of goods sold for 2005 includes a $1.3 million inventory write-down impacted by restructuring. (3) Operating expenses for 2006 include restructuring charges of $3.7 million for non-cash asset impairment, facility closing, and lease costs of $1.6 million as well as $2.1 million cash charges for employee severance, facility closing, and closed-facility lease costs as a result of the Company's implementation of restructuring actions resulting from de-emphasizing room air conditioner and dehumidifier sales through discontinuing sales to two large retail customers. Operating expenses for 2006, include goodwill impairment in the HVAC segment of $54.0 million. Operating expenses for 2005 include $19.3 million of non-cash asset impairment charges and $2.1 million of employee severance costs as a result of the Company's implementation of restructuring actions to significantly reduce costs and improve efficiency throughout the Company. This includes, among other things, consolidating: commercial air conditioner manufacturing from Longview, Texas into Orlando, Florida; filtration manufacturing from Albuquerque, New Mexico into Sanford, North Carolina and Suzhou, China; room air conditioner manufacturing in China from three factories into two; and consolidation of North American warehousing into Effingham, Illinois. (4) In 2006, the Company recognized a loss of $3.1 million on the sale of the capital stock of Polenz GmbH for $7.5 million (including $3.3 million in escrow and a $0.3 million working capital adjustment) and a gain of $2.6 million on the $4.1 million sale of non-productive land adjacent to its Walkersville, Maryland facility. (5) In 2006, the Company took a full allowance against all of its deferred tax assets of $20.6 million. The Company has $136 million of net operating loss carry forwards as of December 31, 2006. (6) In October 2005, the Company recognized a gain of $11.4 million on the sale of the capital stock of Melcor for $17.3 million (before a $0.2 million holdback). (7) In 2003, the Company recorded a transitional goodwill impairment charge of $11.9 million as a cumulative effect of a change in accounting principle. See Note 1 to the Notes to Consolidated Financial Statements. (8) The Company suspended declaring dividends after the second quarter of 2005. (See Item 5) In conjunction with the Company receiving a $10 million supplemental term loan in September 2006, the Company's Chairman purchased treasury stock in his supplemental retirement plan. See the discussion under "Management's Discussion and Analysis of Financial Condition and Results of Operations". On February 22, 2006; June 20, 2006; November 8, 2005; and October 1, 2003; the Company granted certain officers 100,000; 300,000; 100,000; and 150,000 shares, respectively, of restricted Common Stock of the Company. The officers are not permitted to sell, assign, transfer, pledge or otherwise encumber these shares for three to five years in each case. On December 5, 2003, the Company's Board of Directors authorized the distribution of transferable rights to the holders of the Company's Common and Class B stock. In the rights offering, holders of Common Stock and Class B Stock as of December 22, 2003 received subscription rights to purchase shares of Series A Cumulative Preferred Stock. Every 20 rights entitled the holder to purchase one share of Cumulative Preferred Stock at the subscription price of $23.70 per share, and carried with it a basic subscription right and an over-subscription right. As of January 16, 2004, 1,195,092 shares of Cumulative Preferred Stock were issued as a result of the offering for gross proceeds of $28.3 million. On May 16, 2003, the Company's Board of Directors authorized the distribution of transferable rights to the Company's Common and Class B stockholders. Stockholders received one right for every ten shares of Common Stock and Class B Stock they held as of July 1, 2003. Each transferable right represented the right to purchase one share of the Company's Series A Cumulative Preferred Stock at the subscription price of $23.70, until the expiration date of August 12, 2003. At the expiration of the offering on August 12, 2003, 262,316 rights had been subscribed. On February 14, 2003, the Company announced an offer to exchange shares of Series A Cumulative Preferred Stock for up to 12,500,000 shares of the Company's Common Stock, with 0.14 shares of Preferred Stock being 14 offered in exchange for every share of Common Stock. The exchange of 633,082 shares of Common Stock for 88,276 shares of Series A Cumulative Preferred Stock was completed on March 18, 2003. In October 2002, the Company's Board of Directors approved a plan pursuant to which a new class of cumulative preferred stock would be offered to stockholders in exchange for up to 15,000,000 shares of the Company's Common Stock, with 0.14 shares of Series A Cumulative Preferred Stock being offered in exchange for every share of Common Stock. The Series A Cumulative Preferred Stock receives a cumulative annual dividend of $2.15 and has a liquidation preference of $25.00 plus the amount of any unpaid dividends. The holders of the Series A Cumulative Preferred Stock have no right to vote, except in limited circumstances. The exchange of 2,315,750 shares of Common Stock for 323,947 shares of Series A Cumulative Preferred Stock was completed on December 27, 2002. On March 26, 2002, the Company's stockholders approved a recapitalization plan (the "Plan") which became effective the same day. Under the Plan the holder of each share of Common Stock received 1.1 shares of new Common Stock, the holder of each share of Class A Stock received 1.0 share of new Common Stock and the holder of each share of Class B Stock received 1.1 shares of new Class B Stock. (9) Total assets decreased from the goodwill impairment, deferred tax asset write-off, and the sale of Polenz GmbH. (10) On March 20, 2007, the Company obtained new financing (see Note 4). As a result of the waivers granted in 2005, the Company pledged its shares in Fedders International as additional security for the Notes. In March 2004, Fedders North America, Inc. ("FNA"), a wholly owned subsidiary of the Company, issued $155.0 million principal amount of 9 7/8% Senior Notes due 2014. The Company and all of the continuing subsidiaries of FNA are guarantors, on a senior basis, of the notes. FNA may redeem the notes on and after March 1, 2009 for a defined redemption price. The provisions of the notes limit, among other things, the payment of dividends by the subsidiary. On February 6, 2004, FNA commenced a cash tender offer for any and all of FNA's then outstanding 9 3/8% Senior Subordinated Notes due 2007, issued August 24, 1999, and any and all of FNA's outstanding 9 3/8% Senior Subordinated Notes due 2007, issued August 18, 1997. In connection with this transaction, the Company recorded a loss on debt extinguishment of $8.1 million for the year ended December 31, 2004. (11) Beginning September 1, 2002, the Company no longer amortizes goodwill in accordance with SFAS No. 142. Goodwill amortization expense was $3.0 million in fiscal year 2002. See Note 1 to the Notes to Consolidated Financial Statements. (12) In 2003, the Company changed to a fiscal year ending December 31. The results of operations for the twelve months ended December 31, 2003 are unaudited, presented for comparative purposes only, and were not previously reported. 15 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following is management's discussion and analysis of certain significant factors, which affected the Company's financial position and operating results during the periods included in the accompanying consolidated financial statements. This discussion contains forward-looking statements that involve risks and uncertainties. The Company's actual results could differ from those anticipated in forward-looking statements for many reasons. The reader should read the following discussion along with "Selected Financial Data" and the Company's historical consolidated financial statements included herein. OVERVIEW Fedders is a global producer and marketer of air treatment products for the residential, commercial, and industrial markets. The Company's products include a wide range of residential and commercial heating and cooling products, air cleaners, and humidifiers. The Company has two reportable industry segments: Heating, Ventilation, and Air Conditioning ("HVAC") and Engineered Products. Both segments operate and sell products in the global air treatment market. Over the past six years, the Company has re-positioned itself through globalization and expansion of its product offerings from serving primarily the $1.3 billion North American market for room air conditioners to serving the $37 billion global air treatment market. Major markets the Company has entered include residential central and commercial air conditioning and high growth markets in Asia. Due to the current seasonality of the Company's business, the Company normally reports a loss during the second half of the calendar year, with a majority of shipments and revenue being derived during the first six months of the calendar year. The Company's results were affected in both 2005 and 2004 by unfavorable weather during the summer of 2004 that reduced sales and left excess inventory in the distribution system. That inventory sharply reduced customer orders for 2005. During 2005, hot weather depleted most inventories at retail distribution, creating demand for room air conditioners entering 2006. In November 2005, the Company disclosed it would discontinue selling room air conditioners and dehumidifiers through The Home Depot retail stores in the United States in 2006 due to low profit margins and higher working capital requirements of this business. In November 2006, the Company disclosed it would discontinue selling room air conditioners and dehumidifiers to Wal-Mart as well as to Home Depot Supply, Home Depot.com, and Home Depot Canada in 2007 due to low profit margins. At the same time, the Company disclosed that it will discontinue producing and selling dehumidifiers due to low profit margins. The Company recognized restructuring costs and goodwill impairment in its HVAC segment in 2006 primarily due to this voluntary volume reduction. The Company implemented a restructuring plan during 2005 to significantly reduce costs throughout the Company, to enhance its competitive position in the markets in which it participates, and to return the Company to profitability. The restructuring involved ceasing manufacturing and refurbishing of room air conditioners in Effingham, Illinois; consolidating commercial air conditioner manufacturing from our Longview, Texas factory into our Orlando, Florida factory; consolidating air filtration manufacturing from our Albuquerque, New Mexico factory into our Sanford, North Carolina factory; consolidating air conditioner manufacturing in China from three factories to two factories; and consolidating all domestic warehousing from Company owned and third party warehouses into the Company's Effingham, Illinois facility. In 2006, the benefits of this restructuring included lower SG&A expenses, in absolute terms and as a percentage of sales, compared with the prior year as shipping and warehousing costs decreased by 42% from consolidating warehouses in the U.S. and research & development costs declined by 25% from consolidating this function into a new R&D facility in China. There were fewer management layers and more efficient manufacturing and distribution. DEVELOPMENT OF THE BUSINESS Over the last several years, the Company lessened its dependence on sales of room air conditioners through acquisitions, strategic alliances, and joint ventures that complement or enhance our core air treatment business and generate overall corporate value. In the last two years, the Company withdrew from selling room air conditioners and dehumidifiers to The Home Depot and Wal-Mart. These activities have (i) been a critical factor in driving down costs by establishing a low-cost manufacturing base in Asia; (ii) provided access to new geographic markets through well-known local brand names, existing sales and distribution networks, and experienced employees who 16 are familiar with the local markets; and (iii) expanded its air treatment business through broadening product lines and extending distribution into commercial and industrial markets. Lower industry selling prices, an unfavorable mix of room air conditioners combined with product sold to large "big-box" retailers, and higher raw materials costs that could not be passed along to "big-box" retailers with fixed-price contracts affected the Company's ability to return to profitability. In 2006, the Company successfully developed new product lines including 13 SEER residential central air conditioners and gas furnaces and roof-top commercial packaged systems to position the Company well in the $10 billion North American HVAC market. In 1999, the Company acquired Trion, Inc., a leading manufacturer of equipment to improve indoor air quality in cleanroom, residential, commercial, and industrial environments. In 2000, the Company acquired (i) Sun Manufacturing, Inc. (which was merged into Eubank Manufacturing Enterprises, Inc.), a manufacturer of specialized air conditioning equipment used in schools and wireless communications enclosures; (ii) Eubank Manufacturing Enterprises, Inc., a manufacturer of residential and commercial heating and air conditioning products; and (iii) ABB Koppel, Inc. (now Fedders Koppel, Inc.) a leading manufacturer of commercial air conditioners in the Philippines. In 2001, the Company established a joint venture with Voltas, Ltd. to produce air conditioners in India, giving the Company access to this growing market in Asia. In 2002, the Company established a residential, commercial, and industrial air cleaning and humidification factory in Suzhou, China, which was expanded to include another factory in 2003. Also in 2003, the Company licensed technology to manufacture and market residential warm-air gas furnaces which are now produced in the Company's Ningbo, China factory. In 2004, the Company acquired the Addison Products Division of Heat Controller, Inc., which manufactures and markets a broad line of air conditioning and heating products, primarily serving commercial and institutional markets, which now operates as Fedders Addison Company, Inc. In 2005, the Company acquired eighty percent of the stock of Islandaire, Inc. ("Islandaire"), which is now known as Fedders Islandaire, Inc. Islandaire manufactures and markets specialized commercial heating and cooling products. The Company is obligated to purchase the remaining twenty percent of Islandaire stock within three years at a price based on a multiple of trailing EBITDA (earnings before interest, taxes, depreciation, and amortization). Also in 2005, the Company sold Melcor, the Company's thermal management subsidiary. In 2006, the Company sold Polenz GmbH, its German distributor of HVAC products. The Company has no current plans for additional acquisitions (see Note 4). DISCONTINUED OPERATIONS On January 25, 2005, the Company's Board of Directors approved the sale of all the capital stock of Melcor Corporation, the Company's thermal management subsidiary, which was not considered a core business unit. On October 25, 2005, the Company sold Melcor to Laird Technologies, Inc. for $17.3 million in cash (before a $0.2 million temporary holdback), which resulted in a pre-tax and after-tax gain of $11.4 million. Melcor's results of operations, assets and liabilities are reported as discontinued operations. Melcor's revenues were $13.5 million in 2004 which were reported in the Engineered Products segment and were $10.5 million for the first ten months of 2005. The consolidated statements of operations, consolidated balance sheets, and notes to the financial statements for 2005 and prior years have been adjusted to reflect the accounts of Melcor as discontinued operations. Discontinued operations do not include an allocation of interest expense. 17 RESULTS OF OPERATIONS The following table presents the Company's results of operations. OPERATING RESULTS AS A PERCENT OF NET SALES
YEAR ENDED YEAR ENDED YEAR ENDED DECEMBER 31, DECEMBER 31, DECEMBER 31, 2006 2005 2004 ------------ ------------ ------------ Net sales.................................. $279,255 $297,716 $399,485 Gross profit............................... 13.2% 13.3% 13.9% Selling, general, and administrative expense.................................. (21.2) (23.9) (18.0) Restructuring expense...................... (1.3) (7.2) -- Goodwill Impairment........................ (19.3) -- -- Operating income/(loss).................... (28.6) (17.7) (3.9) Interest expense........................... (7.8) (7.5) (5.0) Income/(loss) before income taxes and discontinued operations.................. (37.1) (25.3) (10.5)
YEAR ENDED DECEMBER 31, 2006 VERSUS YEAR ENDED DECEMBER 31, 2005 Net sales for the year ended December 31, 2006 of $279.3 million, decreased by 6.2% from sales of $297.7 million for the year ended December 31, 2005. Net sales in the HVAC reporting segment of $250.7 million in 2006 decreased by 6.3% from $267.5 million in 2005 primarily related to lower sales of room air conditioners due to planned reductions in sales volume to The Home Depot, the government-mandated HVAC market transition from 10 SEER to 13 SEER residential central air conditioner products which caused distributors to purchase larger quantities of 10 SEER product in 2005 and depressed shipments throughout the residential HVAC market in 2006. This was partly offset by increased sales to new customers and growth in commercial HVAC sales. Sales in the Engineered Products reporting segment of $28.6 million decreased by 5.4% versus $30.2 million in 2005 due primarily to lower sales of industrial air cleaning products in Asia. Gross profit in the period declined to $36.9 million, or 13.2% of net sales, compared with $39.7 million, or 13.3% of net sales, in the prior year period. Gross profit in the HVAC segment of $30.1 million, or 12.0% of net sales in 2006, decreased from $32.0 million, or 12.0% of net sales, in 2005. The decrease in gross profit resulted primarily from $10.5 million in increased costs of copper, aluminum, and plastic, as well as components that use these materials that could not be passed along to fixed-price-contract room air conditioner and dehumidifier customers in the form of price increases. Partly offsetting these costs were higher margins for air conditioner sales to new customers due to an improved product mix and increased profitability in commercial HVAC products. Gross profit in the Engineered Products segment of $6.8 million, or 23.7% of net sales in 2006, decreased versus $7.7 million, or 25.4% of net sales, in 2005. Selling, general and administrative expenses ("SG&A") for the year ended December 31, 2006 were $59.2 million, or 21.2% of net sales, compared with $71.0 million, or 23.9% of net sales in 2005. SG&A expenses were lower in absolute terms and as a percentage of sales compared with the prior year as a result of a 42% reduction in shipping and warehousing costs resulting from consolidating warehouses in the U.S., a 25% reduction in research & development costs resulting from consolidating this function in the new facility in China, a $1.8 million reduction in post-retirement obligations due to an adjustment to an actuarial computation of an obligation to be paid out over the next five years, and other cost reductions identified in restructuring plans, including the reduction of management layers and consolidation of manufacturing and distribution. Restructuring actions in 2006 were primarily related to the Company discontinuing room air conditioner and dehumidifier sales to The Home Depot and Wal-Mart due to low profitability. The Company recognized $3.7 million ($0.8 million non-cash) restructuring charges in operating expenses. Non-cash impairment charges relate to writing down room air conditioner and dehumidifier assets that will no longer be utilized. Restructuring charges related to 18 cash were severance costs of $0.7 million, facility closing costs of $0.4 million, and closed-facility lease costs of $0.7 million. During the fourth quarter of 2006, the Company recorded a goodwill impairment charge of $54.0 million, primarily resulting from the Company's decision to no longer focus on the high-volume "big box" room air conditioner channel and dehumidifier portions of the HVAC market which was reflected as decreased sales volume from discontinuing sales to The Home Depot and Wal-Mart. See "Goodwill and Other Intangible Assets". Operating loss from continuing operations for the year ended December 31, 2006 was $80.0 million, or 28.6% of net sales, compared with a loss of $52.8 million, or 17.7% of net sales, in 2005. The increased loss is primarily due to the goodwill impairment charge in the HVAC reporting segment, partly offset by lower restructuring costs compared with the prior year. Excluding restructuring costs in both years and the goodwill impairment charge in 2006, operating income improved by 25.8% in 2006 compared with the prior year. The Company recognized a loss of $3.1 million on the sale of the capital stock of Polenz GmbH for $7.5 million and a gain of $2.6 million on the $4.1 million sale of non-productive land adjacent to its Walkersville, Maryland facility. Net interest expense decreased in 2006 to $21.7 million, or 7.8% of net sales, compared with $22.3 million, or 7.5% of net sales, in 2005. Interest expense consisted of interest on the Company's long-term debt, short-term working capital loans in Asia, and on the Company's revolving credit facility in the U.S. Net interest expense was lower than prior year due to lower short-term borrowings, and was higher as a percent of sales due to lower sales. Based on Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes", the Company recorded a full valuation allowance against deferred tax assets in 2006 which resulted in a $20.6 million charge to income tax expense. With its net operating loss carry forwards, which do not qualify as deferred tax assets according to SFAS No. 109, future effective tax rates will reflect only provisions for foreign and state income taxes. See "Income Taxes". Net loss applicable to common stockholders in 2006 was $129.2 million, or a $4.12 loss per diluted common share. Net loss applicable to common stockholders in the year ended December 31, 2005 was $66.5 million, or a $2.17 loss per diluted common share. YEAR ENDED DECEMBER 31, 2005 VERSUS YEAR ENDED DECEMBER 31, 2004 Net sales for the year ended December 31, 2005 of $297.7 million, decreased 25.5% from sales of $399.5 million for the year ended December 31, 2004. Net sales in the HVAC segment of $267.5 million in 2005 decreased 28.1% from $372.0 million in 2004 due primarily to lower sales of room air conditioners which were a result of high inventory levels at room air conditioner customers in key North American markets, caused by cooler than normal summer weather in 2004. Warm summer weather during 2005 significantly reduced inventory levels at the Company and in distribution channels but did not result in additional production or higher sales to retailers during 2005. Sales in Germany decreased in 2005 as a result of economic conditions during the year. These decreases were partly offset by $40.3 million in sales of commercial air conditioners resulting from the Addison and Islandaire acquisitions. Sales in the Engineered Products reporting segment increased by 10.0% due primarily to industrial air cleaning projects in Asia. Gross profit in the period declined to $39.7 million, or 13.3% of net sales, compared with $55.5 million, or 13.9% of net sales, in the prior year period. Gross profit in the HVAC segment of $32.0 million, or 12.0% of net sales in 2005, decreased from $46.4 million, or 12.5% of net sales, in 2004. The decline in gross profit resulted primarily from lower sales volume associated with North American room air conditioner inventory in distribution channels following cool summer weather in 2004. This lower sales volume and the Company's decision to discontinue sales of room air conditioners in China, resulted in lower production levels and therefore lower factory absorption in our China air conditioner factories. As discussed, as part of the restructuring plan, the Company consolidated its Nanjing factory into the Ningbo and Shanghai factories in China, to more efficiently utilize capacity and absorb costs. In addition, unabsorbed factory overhead at the Company's Longview, Texas factory affected gross profit and gross margin as a percentage of sales. Longview air conditioner manufacturing is now consolidated into our Orlando, Florida facility. Also affecting HVAC gross margins in 2005 were increased raw material costs of 19 $3.2 million that were not passed along as price increases, costs of $2.1 million related to ceasing refurbishment of air conditioners in Effingham, Illinois, such as writing down excess and obsolete inventory, and costs associated with selling room air conditioners to The Home Depot U.S. retail stores. Restructuring charges on inventory were $1.3 million in cost of goods sold. Gross profit in the Engineered Products segment of $7.7 million, or 25.4% of net sales in 2005, decreased $1.4 million from 2004. The decrease is a result of unabsorbed overhead at the Company's Albuquerque, New Mexico factory, as production was transferred to Sanford, North Carolina and Suzhou, China. Throughout the Company, unabsorbed overhead at operations that have consolidated into other Company facilities amounted to $3.8 million. Unabsorbed overhead of $2.2 million at the factories into which manufacturing was transferred is expected to significantly improve. Selling, general and administrative expenses ("SG&A") for the year ended December 31, 2005 were $71.0 million, or 23.9% of net sales, compared with $71.8 million, or 18.0% of net sales in 2004. SG&A expenses were higher, as a percentage of sales, than the prior year as a result of $8.9 million in expenses of the acquired operations, $3.1 million in increased professional fees related to audit, SOX 404 consulting, and obtaining debt waivers. The amount of these increases was more than offset by reduced selling, warehousing, and research and development expenses. Cost reductions identified in the restructuring plan should significantly reduce SG&A expenses in the future. During 2005, in connection with the implementation of a restructuring plan to significantly reduce costs in the HVAC and Engineered Products segments, enhance our competitive position and return the Company to profitability, the Company recognized $22.7 million ($20.6 million non-cash) impairment and restructuring charges, with $21.4 million recorded in operating expenses. Non- cash impairment charges of $19.2 million relate to writing down property, plant and equipment, and other assets that will no longer be utilized to generate revenues, to estimated fair market value. These assets became impaired through the consolidation of Longview, Albuquerque, Nanjing and warehouses into other Company facilities, in addition to discontinuing the refurbishment of room air conditioners in Effingham. Restructuring related inventory write-downs were $1.3 million (non-cash) in cost of goods sold. Restructuring charges related to cash severance costs were $1.6 million and $0.5 million in lease costs. As a result of the fixed asset impairment, annual depreciation expense will decrease by $2.4 million. The Company also reclassified its Columbia, Tennessee facility to assets held for sale. The facility was sold in February of 2006 at its carrying value. The impairment and restructuring charges did not result in a debt covenant violation. Operating loss from continuing operations for the year ended December 31, 2005 was $52.8 million, or 17.7% of net sales, compared with a loss of $15.5 million, or 3.9% of net sales, in 2004. The increased loss reflects lower sales and production of room air conditioners, which impacted gross profit, the restructuring charges, and $5.7 million in excessive costs associated with selling room air conditioners to The Home Depot U.S. retail stores. Net interest expense decreased in 2005 to $22.3 million, or 7.5% of net sales, compared with $20.1 million, or 5.0% of net sales, in 2004. Interest expense consisted of interest on the Company's long-term debt and interest on short-term working capital loans in Asia and on the Company's revolving credit facility in the U.S. Net interest expense was lower than prior year primarily due to lower short-term borrowings, partly offset by higher interest rates during the period. Based on Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes", the Company recorded a valuation allowance against deferred tax assets in 2005. Accordingly, the reported effective tax rate reflects only provisions for foreign and state income taxes. The Company recorded a loss on debt extinguishment of $8.1 million during the year ended December 31, 2004, in connection with retiring the Company's ten- year notes and the issuance of new ten-year notes due March 2014. The charge consisted of $4.9 million of call premiums required to be paid to note holders and $3.2 million for the write-off of the unamortized debt discount and deferred financing costs. A $0.8 million credit due to a revision in management's estimates of required restructuring reserves for ongoing projects associated with a 2001 restructuring was recorded in 2004. Income from discontinued operations for the year ended December 31, 2005 includes a gain on the sale of Melcor of $11.4 million and income related to the operations of Melcor of $2.1 million, compared with income from discontinued operations in 2004 of $1.1 million. 20 Net loss applicable to common stockholders in 2005 was $66.5 million, or $2.17 loss per diluted common share. Net loss applicable to common stockholders in the year ended December 31, 2004 was $30.1 million, or $0.99 loss per diluted common share. LIQUIDITY AND CAPITAL RESOURCES The Company's working capital requirements are seasonal, though becoming less so with the growth in non-room-air-conditioner businesses, with cash balances peaking in the third quarter of each calendar year and the greatest utilization of our lines of credit occurring early in the calendar year. Cash on hand amounted to $4.8 million at December 31, 2006 compared with $14.4 million a year earlier. Net cash provided by operations in 2006 amounted to $5.3 million, compared with net cash used in operations in 2005 of $0.5 million. In 2006, the Company recognized a net loss of $124.6 million that included a non-cash goodwill impairment of $54.0 million, a write-off of deferred taxes of $20.6 million, and depreciation and amortization of $7.9 million. Cash flow increased from a reduction in net inventories of $30.1 million as the Company reduced production of room air conditioners to align inventory levels to expected sales levels. Net accounts receivable decreased by $12.5 million over prior year to $27.5 million at December 31, 2006, as a result of lower total sales and to an improvement in days sales outstanding. Cash was utilized to reduce accounts payable by $1.9 million during the year. In 2005, the Company recognized a net loss of $62.1 million that included a non-cash impairment of $20.6 million and a gain on the sale of Melcor of $11.4 million. This was offset by a reduction in net inventories of $58.6 million as the Company reduced production of room air conditioners to align inventory levels to lower expected sales of room air conditioners in 2005. Net accounts receivable increased by $12.8 million over prior year to $42.2 million at December 31, 2005. The increase in accounts receivable primarily reflects fewer end-of-season returns in 2005, which had resulted in credits in 2004, and higher sales of commercial and industrial products in 2005. Cash was utilized to reduce accounts payable by $7.0 million during 2005. Net cash provided by investing activities in the year ended December 31, 2006 was $2.1 million. The sale of Polenz for $7.5 million generated proceeds of $3.9 million (including $3.3 million in escrow and a $0.3 million working capital adjustment). The sale of non-productive land adjacent to the Company's Walkersville, Maryland facility generated a receivable of $4.1 million that was collected in January, 2007. These asset sales were offset in part by $2.9 million for capital expenditures. Net cash used by investing activities in 2005 was $0.2 million. The sale of Melcor generated proceeds of $17.3 million (before a temporary $0.2 million holdback), which was offset in part by $9.4 million of cash used for the acquisition of Islandaire and $8.0 million for capital expenditures, primarily for a research and development center in Qingpu, China. Net cash of $18.4 million was used in financing activities during the year ended December 31, 2006, primarily in the repayment of short-term debt of $18.7 million and repayment of long-term debt of $1.2 million, partly offset by the sale of treasury stock of $1.5 million. Net cash of $8.3 million was used in financing activities during 2005, primarily in the repayment of short-term debt of $2.6 million, and the payment of dividends of $4.0 million in the first half of the year. The Company suspended declaring dividends after the second quarter of 2005. (See Item 5) On March 20, 2007, the Company obtained a new $50 million, 30-month senior secured term loan and a $40 million, 30-month secured revolving credit facility arranged through Goldman Sachs Credit Partners L.P. and repaid the balance outstanding on its existing secured revolving facility and supplemental term loan with Wachovia. The new senior secured term loan has an interest rate of Prime plus 11% or LIBOR plus 12%, and the new revolving credit facility has an interest rate of Prime plus 1% or LIBOR plus 2%. The Company was required to draw the total balance of the senior secured term loan immediately. In addition to repayment of the Wachovia obligations, the loan proceeds will be used to fund working capital requirements. Availability under the new revolving line of credit is based primarily on advance rates on accounts receivable and inventory in the U.S. and Canada. Financial covenants under the term loan and revolving credit facility will include EBITDA, interest coverage, and secured leverage tests. 21 In addition, the Company is prohibited from paying dividends and making acquisitions as well as the lender must approve asset sales. Following SFAS No. 6, "Classification of Short-Term Obligations Expected to Be Refinanced", the Company reclassified the $20,277 balance of short-term borrowings with Wachovia at December 31, 2006 from short-term notes in current liabilities to current and non-current long-term debt. On January 31, 2006, the Company replaced its expiring $100 million secured revolving credit facility with a five-year $75 million secured revolving credit facility with Wachovia Bank. At December 31, 2006 and 2005, the Company had $20,277 (before being reclassified to long-term debt) and $34,599 of short-term borrowing outstanding under this revolving credit facility. The maximum outstanding balance during 2006 was $49.1 million. Availability under the facility was based primarily on advance rates on accounts receivable and inventory in the U.S. and Canada and required maintenance of certain financial covenants. The maximum amount outstanding under the credit facility was $49,093 during 2006 and $73,139 during fiscal 2005 when the credit line was $100 million. The average amount outstanding and average rate of interest charged on outstanding borrowings under the credit facility were $29,627 and 7.9% in the year ended December 31, 2006 and $48,557 and 5.6% in the year ended December 31, 2005. The rate of interest on the facility was prime rate or LIBOR plus 2%. The Company was required to pay a fee each month equal to one half of one percent (1/2 of 1%) per annum of the unused revolver amount based upon the average daily loan balance. At December 31, 2006, the weighted average interest rate on short- term domestic borrowings was 8.75%. The Company also utilized short-term borrowing facilities to support production in its China operations. There was a maximum outstanding balance of $21.9 million in China during 2006. At December 31, 2006 and 2005, certain foreign subsidiaries had short-term notes of $17,777 and $22,141, respectively, outstanding under loan agreements with various banks. The current notes bear interest ranging from 5.31% to 6.47% and expire no later than December 2007. At December 31, 2006 and 2005, the outstanding balance under these borrowing facilities was $15,384 and $18,185, and the maximum amount outstanding was $21,872 and $23,128, respectively. The average amount outstanding and average rate of interest charged on outstanding borrowings under these credit facilities were $16,967 and 5.65% in 2006. The average amount outstanding and average rate of interest charged on outstanding borrowings under these credit facilities were $26,518 and 4.90% during 2005. At December 31, 2006, the weighted average interest rate on short-term foreign borrowings was 7.15%. In September 2006, the Company received a $10 million supplemental term loan that was to expire on January 26, 2007 and was subsequently extended to March 20, 2007. This loan was repaid with proceeds from the new $50 million senior secured term loan. In conjunction with the Company receiving a $10 million supplemental term loan in September 2006, the Company's Chairman agreed to use a portion of his supplemental retirement plan assets to purchase $3.5 million of treasury stock at the market price. In October 2006, the Company's Chairman purchased 1,351,352 shares, or $1.5 million at the market price (which was valued at $1.3 million at December 31, 2006), of the Company's treasury stock with funds from his supplemental retirement plan. In January 2007, the Company's Chairman purchased 1,890,937 shares, or $2.0 million at the market price, of the Company's treasury stock with funds from his supplemental retirement plan. The supplemental retirement plan assets and obligations are recorded as a non-current asset and a non-current liability, respectively. During 2004, Fedders North America, Inc. ("FNA") issued Senior Notes bearing interest at 9 7/8% with an aggregate $155.0 million principal amount maturing in 2014 to refinance $150.0 million outstanding of 9 3/8% Senior Subordinated Notes that were due in 2007. On June 24, 2005, FNA defaulted on the covenant in the indenture pursuant to which the Senior Notes were issued (the "Indenture") requiring us to file a Form 10-K for the year ended December 31, 2004 in a timely manner. This delay in filing the Form 10-K also resulted in a default under our agreement with Wachovia Bank, NA (the "Senior Lender"). On September 13, 2005, FNA received the written consent from holders of a majority in aggregate principal amount of the outstanding Senior Notes under the Indenture waiving the default in performance of this covenant and consenting to the adoption of the First Supplemental Indenture and Waiver, dated September 13, 2005 (the "First Supplemental Indenture") among Fedders Corporation, Fedders North America, Inc. the Guarantors named in the Indenture (the "Guarantors") and U.S. Bank National Association, as Trustee (the "Trustee"). 22 The First Supplemental Indenture established a waiver period (the "Waiver Period"), which ended on December 31, 2005, during which the Company must complete the filing of the Form 10-K for the year ended December 31, 2004, and of the Forms 10-Q for the first, second, and third quarters of 2005. The Company filed all such reports during the Waiver Period. In order to obtain the consent of the holders of the Senior Notes, pursuant to the First Supplemental Indenture, the Company and FNA agreed that during the Waiver Period an additional 100 basis points of interest would accrue on the principal amount of the Senior Notes. At December 31, 2005, $463 thousand was accrued, and it was paid on March 1, 2006. In connection with the waiver of the default, the Indenture was amended by the First Supplemental Indenture as follows: - To include the Company under certain covenants of the Indenture; - To limit the Company, FNA and the Restricted Subsidiaries, as defined in the First Supplemental Indenture (the "Restricted Subsidiaries"), from making restricted payments, including dividends, incurring debt obligations or making acquisitions during the Waiver Period; - To require the Company to enter into a pledge agreement pursuant to which it granted a second lien on the stock of Fedders International, Inc. to secure its obligations under its guarantee in the Indenture. In the last three years, the Company incurred operating losses and used cash for operations as well as for investments that required greater short-term borrowing. To reduce costs and enhance liquidity in 2005 and beyond, management identified in excess of $24.0 million in annual cash savings from, among other things, ceasing manufacturing and refurbishing of room air conditioners in Effingham, Illinois; consolidating operations from Longview, Texas into its Orlando, Florida operation; consolidating operations from Albuquerque, New Mexico into its Sanford, North Carolina operation; and consolidating operations from three plants in China into an existing Company facility in Ningbo, China. These restructuring actions are now complete. In October 2005, the Company sold Melcor Corporation, its thermal management subsidiary, for $17.3 million. In February 2006, the Company sold its Columbia, Tennessee facility, which is no longer needed for warehousing, for $0.8 million. In December 2006, the Company sold non-productive land adjacent to its Walkersville, Maryland building for $4.1 million, and sold Polenz GmbH, its German HVACR distributor, for $7.5 million (including $3.3 million in escrow and a $0.3 million working capital adjustment) Management believes that through existing operations, as well as the steps outlined above, the Company's existing and future sources of cash, anticipated future earnings, and short-term borrowing capacity are adequate to meet the demands of its operations and its short and long-term credit requirements, which are now less seasonal and less working capital intensive. 23 The following pro-forma tables summarize Fedders' long-term contractual cash obligations and commercial commitments at December 31, 2006 and the effect such obligations are expected to have on liquidity and cash flow in future periods. Interest is included in the amounts, so the amounts shown are greater than that shown on the balance sheet.
PAYMENTS DUE BY PERIOD ----------------------------------------------------- CONTRACTUAL OBLIGATIONS INCLUDING AFTER 5 INTEREST TOTAL 1 YEAR 2-3 YEARS 4-5 YEARS YEARS --------------------------------- -------- ------- --------- --------- -------- (AMOUNTS IN THOUSANDS) Long-term debt, including current maturities(a)................... $177,407 $ 1,273 $20,824 $ 3,827 $151,483 Capital lease obligations......... 2,559 1,213 284 259 803 Interest on long-term debt and capital leases.................. 124,624 16,635 33,229 33,209 41,551 Unamortized original issue discount........................ 3,854 -- -- -- 3,854 Operating leases and contractual minimum payments................ 28,770 4,963 9,096 7,071 7,640 Employee retirement obligations... 8,766 1,661 3,222 2,341 1,542 -------- ------- ------- ------- -------- Total contractual cash obligations..................... $345,980 $25,745 $66,655 $46,707 $206,873 ======== ======= ======= ======= ========
-------- (a) Includes a $20.3 million reclassification from short-term to long-term debt pursuant to new long-term financing in 2007. (see Note 4) From time to time, our subsidiaries may guarantee the debt of certain unconsolidated joint ventures, up to a maximum of the Company's ownership percentage in the unconsolidated joint venture. The Company currently holds no collateral for such guarantees. The Company's subsidiaries would be obligated to perform in the event the unconsolidated joint ventures fail to pay the principal and interest on the loans or fail to comply with the terms of the loan agreement.
COMMITMENTS BY PERIOD ------------------------------------------------- AFTER 5 OTHER COMMERCIAL COMMITMENTS TOTAL 1 YEAR 2-3 YEARS 4-5 YEARS YEARS ---------------------------- ------ ------ --------- --------- ------- (AMOUNTS IN THOUSANDS) Letters of credit..................... $5,303 $5,303 $ -- $-- $-- Guarantee of debt..................... 567 284 283 -- -- ------ ------ ---- --- --- Total commercial commitments.......... $5,870 $5,587 $283 $-- $-- ====== ====== ==== === ===
EFFECT OF NEW ACCOUNTING PRONOUNCEMENTS In November 2006, the Emerging Issues Task Force ("EITF") reached consensus on EITF Issue No. 06-10, "Accounting for Deferred Compensation and Postretirement Benefit Aspects of Collateral Assignment Split-Dollar Life Insurance Arrangements." This Issue is effective for fiscal years beginning after December 15, 2007. This Issue requires that an employer recognize a liability for future benefits based on the substantive agreement with the employee. The Company will adopt this Issue in 2008 and will evaluate, in 2007, the Issue's provisions to determine the potential impact, if any, the adoption will have on the Company's financial statements. In September 2006, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standard ("SFAS") No. 157, "Fair Value Measurements". SFAS No. 157 defines fair value, provides a framework for measuring fair value under current standards in GAAP, and requires additional disclosure about fair value measurements. In accordance with the Statement, the definition of fair value retains the exchange price notion, and exchange price is defined as the price in an orderly transaction between market participants to sell an asset or transfer a liability. If there is a principal market for the asset or liability, the fair value measurement should reflect that price, whether that price is directly observable or otherwise used in a valuation technique. Depending on the asset or liability being valued, the inputs used to determine fair value can range from observable inputs (i.e., 24 prices based on market data independent from the entity) and unobservable inputs (i.e., the entity's own assumptions about the assumptions that market participants would use). The Statement applies to other accounting pronouncements that require or permit fair value measurements and will be effective for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. The Company will adopt this Statement in 2008 and is currently evaluating the provisions of SFAS No. 157 to determine the potential impact, if any, the adoption will have on the Company's financial statements. In September 2006, the FASB issued SFAS No. 158, "Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans". SFAS No. 158 requires companies to recognize the over-funded or under-funded status of a defined benefit postretirement plan as an asset or liability in the statement of financial position. The funded status of a plan represents the difference between the fair value of plan assets and the related plan projected benefit obligation. Changes in the funded status should be recognized through comprehensive income in the year in which the changes occur. Additionally, disclosure of additional information about certain effects on net periodic benefit cost for the next fiscal year that arise from delayed recognition of gains or losses, prior service costs or credits, and transition assets or obligations will be required. SFAS No. 158 also requires the funded status of a plan to be measured as of the date of the year-end statement of financial position. SFAS No. 158 was effective for the Company for the year ending December 31, 2006, and the impact of adopting SFAS No. 158 did not have a material impact on the Company's financial statements as is discussed in "Deferred Retiree Obligations and Other Compensation Arrangements". In September 2006, the SEC issued Staff Accounting Bulletin ("SAB) No. 108, which expresses the views of the SEC staff regarding the process of quantifying financial statement misstatements. SAB No. 108 provides guidance on the consideration of the effects of prior year misstatements in quantifying current year misstatements for the purpose of a materiality assessment. The guidance of this SAB was effective for annual financial statements covering the first fiscal year ending after November 15, 2006, which was December 31, 2006 for the Company. The impact of adopting SAB No. 108 did not have a material impact on the Company's financial position and results of operations. In July 2006, the FASB issued FASB Interpretation No. 48, "Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109" ("FIN 48"). FIN 48 provides recognition criteria and a related measurement model for tax positions taken by companies. In accordance with FIN 48, a tax position is a position in a previously filed tax return or a position expected to be taken in a future tax filing that is reflected in measuring current or deferred income tax assets and liabilities. Tax positions shall be recognized only when it is more likely than not (likelihood of greater than 50%), based on technical merits, that the position would be sustained upon examination. Tax positions that meet the more likely than not threshold should be measured using a probability-weighted approach as the largest amount of tax benefit that is greater than 50% likely of being realized upon settlement. FIN 48 is effective for fiscal years beginning after December 15, 2006 and the Company will adopt FIN 48 as of January 1, 2007. The Company does not expect that adopting FIN 48 will have a material impact on the Company's financial position and results of operations. In May 2005, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 154, "Accounting Changes and Error Corrections -- a replacement of APB Opinion No. 20 and SFAS No. 3". This Statement changes the requirements for accounting and reporting of a voluntary change in accounting principle and changes required by an accounting pronouncement when the specific transition provisions are absent. This statement requires retrospective application to prior periods' financial statements of changes in accounting principle. If it is impracticable to determine either the period-specific effects or the cumulative effect of the change, this Statement requires that the new accounting principle be adopted prospectively from the earliest practicable date. SFAS No. 154 was effective for the Company as of January 1, 2006 and did not have a material impact on the Company's financial position and results of operations. In December 2004, the FASB issued SFAS No. 151, "Inventory Costs, an amendment of ARB No. 43, Chapter 4" to improve the comparability of cross-border financial reporting. This statement amends and clarifies the accounting for abnormal amounts of idle facility expenses, freight, handling costs, and wasted material (spoilage). This Statement requires that those items be recognized as current-period charges regardless of whether they meet the criterion of "so abnormal" as stated in ARB No. 43, Chapter 4. In addition, this Statement requires that 25 allocation of fixed production overhead costs to conversion costs be based on the normal capacity of the production facilities. The provisions of this Statement were effective for the Company as of January 1, 2006, and did not have a material impact on the Company's financial position and results of operations. CRITICAL ACCOUNTING ESTIMATES AND JUDGMENTS ESTIMATES In preparing financial statements in accordance with accounting principles generally accepted in the United States, management makes estimates and assumptions that affect the reported amounts and disclosures of assets and liabilities at the date of the financial statements, as well as the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The Company has discussed the development and selection of the following critical accounting estimates with the Audit Committee of our Board of Directors, and the Audit Committee has reviewed the disclosure in this "Management's Discussion and Analysis of Financial Condition and Results of Operations". DEFERRED TAX ASSETS At December 31, 2006, the Company had US and foreign net operating loss carry-forwards of approximately $136 million and $14 million, respectively. In 2006, the Company recorded an additional valuation allowance of $20.6 million that eliminated the net deferred tax asset. IMPAIRMENT OF LONG-LIVED ASSETS AND GOODWILL The Company reviews long-lived assets and certain identifiable intangibles for impairment whenever events or changes in circumstances indicate that the recoverability of the carrying amount of an asset or asset group should be assessed. The Company assesses the carrying amount of the asset or asset group by comparing the carrying amount to the estimate of cash inflows, net of outflows. If the estimated net cash inflows are less than the asset carrying amount, the asset is written down to fair value. Fair value is based upon quoted market prices, if available. When quoted market prices are not available, the Company estimates fair value based upon the estimated selling prices of similar assets or valuation techniques. The Company must estimate the net cash inflows to assess an asset or asset group carrying amount and fair value. Estimates are based upon internal budgets and forecasts. A change in the utilization of the assets or a decision to exit certain product lines or manufacturing locations could impact our estimate of future cash flows. A decrease in estimated future cash flows could reduce the fair values of long- lived assets, increasing the likelihood of impairment, which could have a significant impact on our consolidated results of operations and financial position. The Company is required to test goodwill for impairment at least annually or between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. The Company elected to perform the annual tests for indications of goodwill impairment as of October 1 of each year. In 2005, and to better coordinate with a prior change in fiscal year end, the Company elected to change its annual date of impairment testing from September 1 to October 1. This change enables the Company to use the budget for the next year which is a critical component of the testing process. Furthermore, the Company would now have adequate time to complete the testing before the next reporting period and would have quarterly data available which would facilitate testing. The Company identifies potential goodwill impairment by comparing the fair value of a reporting segment with its carrying amount, including goodwill. The Company determines fair value using a discounted cash flow and market-multiple approach. If the fair value of a reporting segment exceeds its carrying amount, goodwill of the reporting segment is not considered impaired. If the carrying amount of a segment exceeds its fair value, the amount of goodwill impairment loss, if any, must be measured. The Company measures the amount of goodwill impairment by comparing the implied fair value of reporting segment goodwill with the carrying amount of that goodwill. If the carrying amount of the reporting segment goodwill exceeds the implied fair value of goodwill, an impairment loss is recognized as an operating expense. 26 WARRANTY AND DEFECTIVE RETURNS The Company's air conditioner products are covered by standard product warranty plans that extend from one to five years. In addition, major retailers have consumer return policies that allow consumers the ability to return product that may be defective in lieu of field service. At the time revenue is recognized, upon shipment, measurements of those sales are reduced by estimates of the future costs associated with fulfilling warranty obligations and for the expense associated with selling defective product to third parties. The Company entered into an agreement in 2005 with third parties that purchase defective product, take the defective product from certain retail customers, inspect and repair as required, re-box and sell as reconditioned products. Previously, the Company refurbished returned product. The Company estimates warranty costs and defective returns utilizing historical failure and defective return rates, which may or may not be indicative of future rates, as the starting point in the calculation before making adjustments based on new information. The estimate for warranty obligations and defective returns is a critical accounting estimate for the HVAC segment. Over the past three years, warranty and defective return costs represented approximately 5.3% of sales for the HVAC segment. Each quarter, the Company reevaluates its estimate of warranty and defective return obligations, including the assumptions about estimated failure and return rates. END OF SEASON RETURNS Sales are recorded consistent with their related shipping terms upon the passing of title and the risks and rewards of ownership to the customer. For a majority of the Company's customers, title and the risks and rewards of ownership pass at the time of shipment. However, certain of the Company's sales are recorded at the time the products are delivered to the customers. Sales are recorded net of a provision for sales allowances and returns. (See "Warranty and Defective Returns" above). The Company estimates a provision for sales allowances and for returns at the time of sale based on consideration of a number of factors including historical experience, customer buying patterns and programs, and information with respect to customer inventory levels. The Company's sales of room air conditioners are seasonal and, the Company generally does not allow its customers the right of return of unsold product at the end of the selling season. ALLOWANCE FOR DOUBTFUL ACCOUNTS The Company evaluates periodically its accounts receivable and establishes an allowance for doubtful accounts based on a combination of specific customer circumstances, credit conditions, and a history of write-offs and collections. Where the Company is aware of a customer's inability to meet its financial obligations, the Company specifically provides for the potential bad debt to reduce the net recognized receivable to the amount it reasonably believes will be collected. For all other customers, the Company establishes allowances for bad debts based on an aging of accounts receivable and applying percentages based on historical experience related to aging categories (see Note 1). EXCESS AND OBSOLETE INVENTORY The Company reviews inventory periodically for slow-moving and obsolete items. Write-downs are recorded in the period in which they are identified (see Note 1). ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK From time to time, the Company engages in hedging currency exchange rates. The impact of exchange rate fluctuations on our results of operations cannot be accurately predicted. From time to time we engage in hedging activities in an effort to mitigate the impact of certain exchange rate fluctuations, excluding China. Currently, it is prohibitive to hedge against the Chinese currency. However, we cannot assure that any hedging transactions we enter into will be effective or will not result in foreign exchange hedging loss. The Company also has variable-interest rate loans. A 100 basis point increase in interest rates would have increased annual interest expense by $0.5 million in 2006 on variable debt at the Company. 27 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The Consolidated Financial Statements of the Company at December 31, 2006, 2005, and 2004, the notes to the financial statements, and the reports of the Company's independent registered public accounting firms are included herein. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE In the fourth quarter of 2005, the Company engaged UHY LLP ("UHY") as its independent registered public accounting firm for the year ending December 31, 2005 and for the quarterly periods in 2005. During 2005 and 2006, there were no disagreements between the Company and UHY on any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedure, which disagreements, if not resolved to the satisfaction of UHY, would have caused UHY to make reference to the subject matter of the disagreement(s) in connection with its report on the consolidated financial statements for such periods. During 2005 and 2006, there were no "reportable events" as that term is defined in Item 304(a)(1)(v) of Regulation S-K. On April 14, 2005, Deloitte & Touche LLP ("Deloitte") informed the Company that it would not stand for reappointment as the Company's independent registered public accounting firm for the year ending December 31, 2005 or for any of the quarterly reporting periods in 2005. Deloitte was engaged to audit the Company's financial statements for the year ended December 31, 2004, including reporting on management's assessment of the effectiveness of the Company's internal control over financial reporting and the effectiveness of the Company's internal control over financial reporting as of December 31, 2004. During the fiscal year ended December 31, 2004 and the subsequent period from January 1, 2005 through September 30, 2005, there were no disagreements between the Company and Deloitte on any matter of accounting principles or practices, financial statement disclosure or auditing scope or procedure, which disagreements, if not resolved to the satisfaction of Deloitte, would have caused Deloitte to make reference to the subject matter of the disagreement(s) in connection with its report on the consolidated financial statements for such periods. During the fiscal year ended December 31, 2004 and the subsequent period from January 1, 2005 through September 30, 2005, there were no "reportable events" as that term is defined in Item 304(a)(1)(v) of Regulation S-K except that Deloitte disclaimed an opinion on management's process of evaluating the effectiveness of the Company's internal control over financial reporting as of December 31, 2004, and issued an adverse opinion with respect to the operating effectiveness of internal control over financial reporting as of December 31, 2004. ITEM 9A. CONTROLS AND PROCEDURES Evaluation of Disclosure Controls and Procedures. The Company's management, under the supervision of and with the participation of the Company's Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company's disclosure controls and procedures, as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), as of the end of the period covered by this report (December 31, 2006). Based on such evaluation, the Company's Chief Executive Officer and Chief Financial Officer have concluded that because of the material weaknesses described below, the Company's disclosure controls and procedures were not effective as of December 31, 2006. Management's Actions Regarding Deficiencies. To address the deficiencies described below, the Company performed additional analyses and other post- closing procedures to ensure that the Company's consolidated financial statements were prepared in accordance with accounting principles generally accepted in the United States. Accordingly, management believes that the financial statements filed fairly present in all material respects the Company's financial position, results of operations, and cash flows for the periods presented. Management's Report on Internal Control Over Financial Reporting in 2006. The Company's management is responsible for establishing and maintaining adequate internal control over financial reporting, as that term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). The Company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. 28 Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. The Company's management, including the principal executive officer and principal financial officer, has conducted an assessment of the effectiveness of its internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control -- Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission ("COSO"). An internal control material weakness is a significant deficiency, or combination of them, that results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected. In connection with the assessment described above, Fedders' management identified control deficiencies in the following areas: - The Company's control environment did not sufficiently promote effective internal control over financial reporting throughout the organization. This material weakness developed from aggregating several deficiencies and resulted primarily from high turnover of employees in key financial reporting positions; inconsistent adherence to accounting policies and procedures at operating units; inadequate accounting and internal audit resources; manual accounting processes; incomplete account reconciliations; and an untimely accounting closing process. There were a number of material adjustments to the financial statements that were recorded as a result of these deficiencies. Taking all items together, the Company believes the control environment constitutes a control deficiency that could result in a material misstatement in the Company's interim or annual financial statements that would not be prevented or detected. Accordingly, management has determined that this control deficiency constitutes a material weakness. - Fedders' controls over selection and application of certain accounting principles were ineffective. Specifically, the Company did not maintain effective controls over the application of purchase accounting; an operating lease; joint venture accounting; restructuring costs; and evaluation of litigation reserves. As a result of each of the items indicated above, material and immaterial adjustments were recorded in the year end financial statements affecting goodwill and reserves for allowance for doubtful accounts at the Company's Islandaire subsidiary; operating lease expense; investments in joint ventures; restructuring costs; and litigation accruals. These constitute control deficiencies that could result in a material misstatement in the Company's interim or annual financial statements that would not be prevented or detected. Accordingly, management has determined that these control deficiencies constitute a material weakness. - The Company's controls over the segregation of duties were ineffective due to turnover of employees in key financial reporting positions and a minimal level of accounting and finance resources. Some of the adjustments to the financial statements were caused by this issue. The Company believes the lack of sufficient separation of duties constitutes a control deficiency that could result in a material misstatement in the Company's interim or annual financial statements that would not be prevented or detected. Accordingly, management has determined that this control deficiency constitutes a material weakness. - Fedders' information technology general controls were ineffective as to access controls, change management, computer operations, and disparate systems. No adjustments to the financial statements were identified to have been caused by this issue. However, the Company believes the lack of information technology general controls constitutes a control deficiency that could result in a material misstatement in the Company's interim or annual financial statements that would not be prevented or detected. Accordingly, management has determined that this control deficiency constitutes a material weakness. As a result of the aforementioned material weaknesses the Company has concluded that it did not maintain effective internal controls over financial reporting as of December 31, 2006 based on the criteria in the Internal Control- Integrated Framework. Management's assessment of the effectiveness of internal control over financial reporting as of December 31, 2006 has been audited by UHY LLP, an independent registered public accounting firm, as stated in their report which appears herein. 29 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Stockholders and Board of Directors of Fedders Corporation We have audited management's assessment, included in the accompanying Management's Report on Internal Control Over Financial Reporting in 2006, that Fedders Corporation (the Company) did not maintain effective internal control over financial reporting as of December 31, 2006, because of the effect of the material weaknesses identified in Management's Assessment, based on criteria established in Internal Control -- Integrated Framework issued by the Committee of Sponsoring Organization of the Treadway Commission (COSO). The Company's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management's assessment and an opinion on the effectiveness of the Company's internal control over financial reporting based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management's assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. A material weakness is a control deficiency, or combination of control deficiencies, that results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected. The following material weaknesses have been identified and included in management's assessment: CONTROL ENVIRONMENT The Company's control environment did not sufficiently promote effective internal control over financial reporting throughout the organization. This material weakness was developed from aggregating several deficiencies and resulted primarily from high turnover of employees in key financial reporting positions; inconsistent adherence to accounting policies and procedures at operating units; inadequate accounting and internal audit resources; manual accounting processes; incomplete account reconciliations and an untimely accounting closing process. There were a number of material adjustments to the financial statements that were recorded as a result of these deficiencies. Taking all items together, the Company believes the control environment constitutes a control deficiency that could result in a material misstatement in the Company's interim or annual financial statements that would not be prevented or detected. Accordingly, management has determined that this control deficiency constitutes a material weakness. 30 SELECTION AND APPLICATION OF ACCOUNTING PRINCIPLES GENERALLY ACCEPTED IN THE UNITED STATES OF AMERICA Fedders' controls over selection and application of certain accounting principles were ineffective. Specifically, the Company did not maintain effective controls over the application of purchase accounting; an operating lease; joint venture accounting; restructuring costs; and evaluation of litigation reserves. As a result of each of the items indicated above, material and immaterial adjustments were recorded in the year end financial statements affecting goodwill and reserves for allowance for doubtful accounts at the Company's Islandaire subsidiary; operating lease expense; investments in joint ventures; restructuring costs; and litigation accruals. These constitute control deficiencies that could result in a material misstatement in the Company's interim or annual financial statements that would not be prevented or detected. Accordingly, management has determined that these control deficiencies constitute a material weakness. SEGREGATION OF DUTIES The Company's controls over the segregation of duties were ineffective due to turnover of employees in key financial reporting positions and a minimal level of accounting and finance resources. Some of the adjustments to the financial statements were caused by this issue. The Company believes the lack of sufficient separation of duties constitutes a control deficiency that could result in a material misstatement in the Company's interim or annual financial statements that would not be prevented or detected. Accordingly, management has determined that this control deficiency constitutes a material weakness. CONTROLS OVER INFORMATION TECHNOLOGY Fedders' information technology general controls were ineffective as to access controls, change management, computer operations, and disparate systems. No adjustments to the financial statements were identified to have been caused by this issue. However, the Company believes the lack of information technology general controls constitutes a control deficiency that could result in a material misstatement in the Company's interim or annual financial statements that would not be prevented or detected. Accordingly, management has determined that this control deficiency constitutes a material weakness. These material weaknesses were considered in determining the nature, timing, and extent of audit tests applied in our audit of the 2006 financial statements, and this report does not affect our report dated March 28, 2007 on those financial statements. In our opinion, management's assessment that Fedders Corporation did not maintain effective internal control over financial reporting as of December 31, 2006, is fairly stated, in all material respects, based on criteria established in Internal Control -- Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Also, in our opinion, because of the effect of the material weaknesses described above on the achievement of the objectives of the control criteria, Fedders Corporation has not maintained effective internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control -- Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). /S/ UHY LLP New York, New York March 28, 2007 31 Changes In Internal Control Over Financial Reporting. Management completed its assessment of internal controls for the year ended December 31, 2006. Management, with oversight from the Audit Committee, has been addressing each of the internal control weaknesses identified in the December 31, 2005 Form 10-K, and is committed to effectively remediating known weaknesses as expeditiously as possible. The Company's remediation efforts during the year ended December 31, 2006 have made progress in changing internal controls over financial reporting, as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act, in areas identified as having a material weakness in management's 2005 assessment. As of the date of this filing, the Company's remediation includes the following: The conclusion of management's assessment of internal controls as of and for the year ended December 31, 2005 was that the Company's control environment did not sufficiently promote effective internal control over financial reporting throughout its management structure. STEPS TAKEN AS OF THE DATE OF THIS FILING: a.) The Corporate Controller initiated regular corporate-wide meetings of divisional controllers and other financial managers to effectively communicate accounting policies and procedures, process improvements, and change management. b.) The Company began establishing new, more efficient accounting processes and simplifying its complex accounting entity structure, which should free up resources to accelerate the closing process and reconcile accounts. c.) The Company engaged a new third-party consulting firm with expertise in risk assessment, internal controls, and Sarbanes-Oxley compliance, to work with management in implementing the necessary internal controls and test the effectiveness of these controls. d.) The Company, in association with a third-party consulting firm, identified key controls over accounting and reporting using a risk- based approach and substantially reviewed and revised its narratives over internal control. The Company's approach identified risks over the accounting closing and reporting process and matched these risks with key controls. The Company tested these controls and revised processes as well as implemented additional controls where testing showed this was necessary. e.) During the second half of 2006, the Corporate Controller held regular weekly status meetings on progress toward control identification, narrative documentation, and control testing. f.) The Company developed an internal audit work plan to include operational and financial audits. The internal audit department performed operational and financial audits in Asia. The following section lists specific control issues and corrective steps taken as of the date of this filing. The Company's design and operation of controls over the accounting closing and reporting process are not effective due to lack of timely and complete preparation of account analyses and reconciliations, a lack of appropriate review of account reconciliations and supporting analyses and errors in account balance classifications. STEPS TAKEN AS OF THE DATE OF THIS FILING: a.) The Company established a detailed schedule of due dates for key account analyses and reconciliation for which evidence of review and approval is required. The schedule takes into consideration financial statement filing requirements, and requires that key analyses be completed in a timely manner, while best utilizing accounting resources available. b.) The Company re-aligned one of its operating unit accounting departments to improve the timing of the monthly accounting and reporting. Fedders' controls over the process for recording and approving journal entries were ineffective as a result of a lack of appropriate evidence of journal entry review and approval. In addition, numerous instances occurred in which journal entries were not adequately documented and supported. There were also instances that identified adjusting entries were not made or were recorded incorrectly. 32 STEPS TAKEN AS OF THE DATE OF THIS FILING: a.) The Company instituted a policy requiring the appropriate evidence of review and approval on manual journal entries prior to being recorded as well as the quarterly testing of manual entries. Fedders' controls over the tax function were ineffective as a result of a lack of resources necessary to assure the accuracy and completeness of the preparation and approval of the Company's income tax provision and related tax balances. STEPS TAKEN AS OF THE DATE OF THIS FILING: a.) The Company engaged a third-party CPA firm with technical expertise in the tax function to provide an independent review of tax accounts, including deferred income taxes and deferred income tax valuation accounts. Fedders' information technology general controls were ineffective as to access controls, change management, and computer operations. STEPS TAKEN AS OF THE DATE OF THIS FILING: a.) The Company developed an improved standard set of information technology policies and procedures over these areas. The Company's controls over the segregation of duties were ineffective due to turnover of employees in key financial reporting positions and a minimal level of accounting and finance resources. STEPS TAKEN AS OF THE DATE OF THIS FILING: a.) The Company identified segregation of duties deficiencies. Where an effective compensating control does not exist, the deficiency was assigned for corrective action and management oversight. Limitations on the Effectiveness of Controls. A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Further, the design of disclosure controls and procedures and internal control over financial reporting must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. ITEM 9B. OTHER INFORMATION None 33 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT Information with respect to the Company's directors and executive officers is to be filed in the Company's Proxy Statement required to be filed pursuant to Regulation 14A. ITEM 11. EXECUTIVE COMPENSATION Information with respect to the Company's executive compensation is to be filed in the Company's Proxy Statement required to be filed pursuant to Regulation 14A. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS Information with respect to the Company's security ownership is to be filed in the Company's Proxy Statement required to be filed pursuant to Regulation 14A. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information with respect to the Company's relationships and related transactions is to be filed in the Company's Proxy Statement required to be filed pursuant to Regulation 14A. ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES Information with respect to the Company's principal accountant fees and services is to be filed in the Company's Proxy Statement required to be filed pursuant to Regulation 14A. 34 PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES INDEX TO FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES (a) 1. Financial Statements The following Consolidated Financial Statements of the Company and its subsidiaries are included:
PAGE # ------ Consolidated Statements of Operations for the years ended December 31, 2006, 2005 and 2004.................................................. 37 Consolidated Balance Sheets at December 31, 2006 and 2005.............. 38 Consolidated Statements of Cash Flows for the years ended December 31, 2006, 2005 and 2004.................................................. 39 Consolidated Statements of Stockholders' Equity/(Deficit) for the years ended December 31, 2006, 2005 and 2004............................... 40 Notes to Consolidated Financial Statements............................. 41-75 Reports of Independent Registered Public Accounting Firms UHY LLP.............................................................. 76 Deloitte & Touche LLP................................................ 77
(a) 2. Financial Statement Schedule All schedules have been omitted because of the absence of the conditions under which they are required or because the required information is included in the Consolidated Financial Statements or the Notes thereto. (a) 3. Exhibits (3) (i) Restated Certificate of Incorporation of the Company filed as Exhibit(A) to Annex(A) of the Company's Proxy Statement/Prospectus dated January 9, 2002 and incorporated herein by reference. (ii) By-Laws of the Company, filed as Exhibit 3 (ii) to the Company's Annual Report on Form 10-K for fiscal year ended August 31, 2002, and incorporated herein by reference. (4) (i) Registration statement on Form S-4 filed with the Securities and Exchange Commission on May 28, 2004 and incorporated herein by reference. (ii) First Supplemental Indenture and Waiver dated September 13, 2005, filed as Exhibit 4.1 to the Company's Current Report on Form 8-K dated September 14, 2005 and incorporated herein by reference. (10) (i) Stock Option Plan VIII, filed as Annex F to the Company's Proxy Statement -- Prospectus dated May 10, 1996 and incorporated herein by reference. (ii) Revolving Loan and Guaranty Agreement dated as of March 20, 2007 among Fedders North America, Inc., Emerson Quiet Kool Corporation, Columbia Specialties, Inc., Trion, Inc., Envirco Corporation, Eubank Coil Company, Fedders Addison Company, Inc., Fedders Islandaire, Inc. and Island Metal Fabricating, Inc., (each individually a "Borrower" and collectively, "Borrowers"), Fedders Corporation, as Holdings and a Guarantor, certain subsidiaries of Fedders Corporation, as Guarantors, Lenders party hereto from time to time, Bank of America, N.A. as Administrative Agent and as Collateral Agent and General Electric Capital Corporation as Documentation Agent, and Goldman Sachs Credit Partners L.P., as Sole Lead Arranger, Sole Bookrunner and Sole Syndication Agent, filed as Exhibit 10.1 to the Company's Current Report on Form 8-K dated March 26, 2007 and incorporated herein by reference. (iii) Term Loan and Guaranty Agreement dated as of March 20, 2007 among Fedders North America, Inc., Fedders Corporation as Holdings and a Guarantor, Certain Subsidiaries of Fedders Corporation, as Guarantors, Lenders party hereto from time to time, and Goldman Sachs Credit Partners L.P. as Sole Lead Arranger, Sole Bookrunner and Sole Syndication Agent, as Administrative Agent and as Collateral Agent, filed as Exhibit 10.2 to the Company's Current Report on Form 8-K dated March 26, 2007 and incorporated herein by reference.
35 (iv) Pledge and Security Agreement dated as of March 20, 2007 among Fedders Corporation, as Grantor, Fedders North America, Inc., as Grantor, each of the other Grantors from time to time party hereto and Bank of America, N.A., as Collateral Agent and Administrative Agent, filed as Exhibit 10.3 to the Company's Current Report on Form 8-K dated March 26, 2007 and incorporated herein by reference. (v) Pledge and Security Agreement dated as of March 20, 2007 among Fedders Corporation, as Grantor, Fedders North America, Inc., as Grantor, each of the other Grantors from time to time party hereto and Goldman Sachs Credit Partners L.P., as Collateral Agent, filed as Exhibit 10.4 to the Company's Current Report on Form 8-K dated March 26, 2007 and incorporated herein by reference. (vi) Employment Agreement between Fedders Corporation and Sal Giordano, Jr., dated July 28, 2006, filed as Exhibit 10.2 to the Company's Current Report on Form 8-K dated August 2, 2006 and incorporated herein by reference. (21) Subsidiaries. (23) (i) Consent of UHY LLP. (23) (ii) Consent of Deloitte & Touche LLP. (31.1) Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. (31.2) Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. (32.1) Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (32.2) Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
36 FEDDERS CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED YEAR ENDED YEAR ENDED DECEMBER 31, DECEMBER 31, DECEMBER 31, 2006 2005 2004 ------------ ------------ ------------ (AMOUNTS IN THOUSANDS EXCEPT FOR PER SHARE DATA) Net sales........................................ $ 279,255 $297,716 $399,485 Cost of sales.................................... 242,374 258,040 344,035 --------- -------- -------- Gross profit..................................... 36,881 39,676 55,450 Selling, general, and administrative expense..... 59,176 71,049 71,815 Asset impairment, employee severance and other restructuring charges/(credits)................ 3,666 21,396 (842) Goodwill impairment.............................. 54,011 -- -- --------- -------- -------- Operating income/(loss).......................... (79,972) (52,769) (15,523) Income/(loss) from minority interest and net interest in unconsolidated subsidiaries........ 468 637 (141) Interest expense (net of interest income of $1,025, $576, and $196)........................ 21,743 22,298 20,066 Loss on debt extinguishment...................... -- 8,075 Other (income)/expense........................... 2,268 1,013 (1,910) --------- -------- -------- Income/(loss) from continuing operations before taxes.......................................... (103,515) (75,443) (41,895) Income tax expense/(benefit)..................... 21,109 114 (14,694) --------- -------- -------- Net income/(loss) from continuing operations..... (124,624) (75,557) (27,201) Discontinued operations: Income/(loss) net of taxes of $0, $53, and $589........................................ -- 2,100 1,094 Gain/(loss) on sale of Melcor net of taxes of zero........................................ -- 11,376 -- --------- -------- -------- Income/(loss) from discontinued operations..... -- 13,476 1,094 --------- -------- -------- Net income/(loss)................................ (124,624) (62,081) (26,107) Preferred stock dividends (Note 9)............... 4,574 4,436 4,020 --------- -------- -------- Net income/(loss) applicable to common stockholders................................... $(129,198) $(66,517) $(30,127) ========= ======== ======== Basic and diluted earnings/(loss) per common share: Continuing operations, less preferred stock dividends................................... $ (4.12) $ (2.61) $ (1.02) Discontinued operations........................ -- 0.44 0.03 --------- -------- -------- Basic/diluted earnings/(loss) per common share....................................... $ (4.12) $ (2.17) $ (0.99) ========= ======== ======== Weighted average shares: Basic.......................................... 31,328 30,629 30,466 Diluted........................................ 31,328 30,629 30,466 Dividends per share declared: Common Stock................................... $ -- $ 0.06 $ 0.12 Class B Stock.................................. -- 0.06 0.12 Preferred Stock................................ -- 1.075 2.15
See accompanying notes to the consolidated financial statements. 37 FEDDERS CORPORATION CONSOLIDATED BALANCE SHEETS
DECEMBER 31, -------------------- 2006 2005 --------- -------- (AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) ASSETS Current assets: Cash and cash equivalents................................. $ 4,789 $ 14,417 Accounts receivable (less allowances of $3,761 and $3,928 at December 31, 2006 and 2005, respectively)........... 27,525 42,157 Inventories............................................... 41,473 74,313 Deferred income taxes..................................... -- 3,882 Assets held for sale...................................... -- 843 Other current assets...................................... 12,429 6,333 --------- -------- Total current assets........................................ 86,216 141,945 Net property, plant and equipment........................... 39,342 44,543 Deferred income taxes....................................... -- 21,629 Goodwill.................................................... 27,493 87,725 Other intangible assets..................................... 3,727 4,726 Other assets................................................ 24,582 30,486 --------- -------- TOTAL ASSETS................................................ $ 181,360 $331,054 ========= ======== LIABILITIES AND STOCKHOLDERS' EQUITY/(DEFICIT) Current liabilities: Short-term notes.......................................... $ 17,777 $ 56,740 Current portion of long-term debt......................... 2,487 2,470 Accounts payable.......................................... 40,795 43,961 Accrued expenses.......................................... 41,086 40,519 --------- -------- Total current liabilities................................... 102,145 143,690 Long-term debt.............................................. 177,479 158,113 Other long-term liabilities................................. 18,251 24,952 Minority interest in consolidated subsidiaries.............. 4,851 4,361 --------- -------- Total liabilities........................................... 302,726 331,116 --------- -------- Stockholders' equity/(deficit): Preferred Stock, $0.01 par value, 15,000 shares authorized, 2,127 shares issued at December 31, 2006 and 2005......... 21 21 Common Stock, $0.01 par value, 70,000 shares authorized, 37,299 and 36,816 issued at December 31, 2006 and 2005, respectively.............................................. 373 367 Class B Stock, $0.01 par value, 5,000 shares authorized, 2,492 issued at December 31, 2006 and 2005................ 25 25 Additional paid-in capital.................................. 115,487 115,523 Retained earnings/(deficit)................................. (205,571) (76,235) Accumulated other comprehensive income/(loss)............... 1,272 (92) Deferred compensation....................................... -- (483) Treasury stock, at cost, 7,169 and 8,521 shares of Common Stock at December 31, 2006 and 2005, respectively......... (32,973) (39,188) --------- -------- Total stockholders' equity/(deficit)........................ (121,366) (62) --------- -------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY/(DEFICIT)........ $ 181,360 $331,054 ========= ========
See accompanying notes to the consolidated financial statements. 38 FEDDERS CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED YEAR ENDED YEAR ENDED DECEMBER 31, DECEMBER 31, DECEMBER 31, 2006 2005 2004 ------------ ------------ ------------ (AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) CASH FLOWS FROM OPERATING ACTIVITIES: Net income/(loss).................................... $(124,624) $(62,081) $ (26,107) Adjustments to reconcile net income/(loss) to net cash provided by operating activities: Depreciation and amortization...................... 7,948 11,443 11,029 Amortization of deferred financing costs........... 899 847 436 (Gain)/loss on sale of Melcor...................... -- (11,376) -- (Gain)/loss on sale of Polenz...................... 3,088 -- -- (Gain)/loss on disposal of land and other assets... (2,579) -- -- Asset impairment charge............................ 54,011 -- -- Restructuring non-cash charge...................... 784 19,331 -- Deferred income taxes.............................. 20,567 (119) (16,301) Stock compensation (income)/expense................ 635 270 (714) Loss on debt extinguishments....................... -- -- 8,075 Partners' net interest in joint venture results(a)...................................... 648 (637) 220 CHANGES IN OPERATING ASSETS AND LIABILITIES: Accounts receivable................................ 12,459 (12,754) 4,176 Inventories........................................ 30,077 58,568 15,925 Other current assets............................... (7,338) 4,452 17,799 Advance on life insurance investment............... 7,291 -- -- Other assets....................................... 2,579 (2,036) 1,220 Income taxes payable............................... 608 (111) 586 Accounts payable................................... (1,903) (7,026) (39,034) Accrued expenses................................... (1,652) (1,497) (832) Other long-term liabilities........................ 2,461 1,195 (775) Other.............................................. (655) 1,038 1,380 --------- -------- --------- Net cash provided by/(used in) operating activities.. 5,304 (493) (22,917) --------- -------- --------- CASH FLOWS FROM INVESTING ACTIVITIES: Additions to property, plant and equipment........... (2,919) (7,982) (6,831) Disposal of property, plant and equipment............ 1,107 108 1,620 Proceeds from the sale of Melcor..................... -- 17,124 -- Sale of Polenz....................................... 7,544 -- -- Less: escrow and working capital adjustment for Polenz sale........................................ (3,600) -- -- (Investment in)/sale of joint venture................ -- -- (1,029) Acquisition of businesses, net of cash acquired...... -- (9,426) (7,814) --------- -------- --------- Net cash provided by/( used in) investing activities......................................... 2,132 (176) (14,054) --------- -------- --------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from (repayments of) short-term notes(b).... (18,686) (2,596) 27,125 Repayments of long-term debt(b)...................... (1,242) (1,707) (3,426) Proceeds from long-term borrowing(b)................. -- -- 2,500 Proceeds from stock options exercised................ -- -- 117 Cash dividends....................................... -- (3,978) (7,672) Net proceeds from issuance of 9 7/8% Senior Notes.... -- -- 150,245 Repayment of 9 3/8% Senior Subordinated Notes........ -- -- (150,000) Call premium and deferred financing charges.......... -- -- (10,356) Proceeds from stock rights offering.................. -- -- 28,323 Proceeds from the sale of treasury stock............. 1,500 -- -- Cost of offerings and recapitalization............... -- -- (221) --------- -------- --------- Net cash provided by/(used in) financing activities.. (18,428) (8,281) 36,635 --------- -------- --------- Effect of exchange rate changes on cash.............. 1,364 584 1,076 --------- -------- --------- Net increase/(decrease) in cash and cash equivalents........................................ (9,628) (8,366) 740 Cash and cash equivalents at beginning of year....... 14,417 $ 22,783 $ 22,043 --------- -------- --------- Cash and cash equivalents at end of year............. $ 4,789 $ 14,417 $ 22,783 ========= ======== ========= SUPPLEMENTAL DISCLOSURE: Net interest paid.................................. $ 20,397 $ 20,949 $ 18,332 Income taxes paid.................................. 338 460 1,240 Property, plant and equipment contributed to joint ventures........................................ -- -- 658 Preferred and common stock issued for the Islandaire acquisition.......................... -- 6,747 -- Restricted common stock issued to officers......... 922 227 -- (a) Melcor joint venture income/(loss) to reconcile between income statement and cash provided by/(used in) operating activities.............. -- -- (79) (b) In addition to the figures shown, $20,277 was reclassified from short-term to current and non-current long-term debt pursuant to new long-term financing in 2007 (see Note 4),
See accompanying notes to the consolidated financial statements. 39 FEDDERS CORPORATION CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY/(DEFICIT)
YEAR ENDED YEAR ENDED YEAR ENDED DECEMBER 31, DECEMBER 31, DECEMBER 31, 2006 2005 2004 ------------ ------------ ------------ (AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA) PREFERRED STOCK Balance at beginning of period................. $ 21 $ 19 $ 7 Issuance of shares upon exchange offer......... -- -- -- Stock rights subscribed........................ -- -- 12 Issuance of shares in Islandaire acquisition... -- 2 -- --------- -------- -------- Balance at end of period....................... $ 21 $ 21 $ 19 ========= ======== ======== COMMON STOCK Balance at beginning of period................. $ 367 $ 365 $ 364 Stock options exercised........................ -- -- 1 Restricted stock granted....................... 6 1 -- Issuance of shares in Islandaire acquisition... -- 1 -- Exchange of shares upon Preferred Stock exchange offer.............................. -- -- -- -- -- -- --------- -------- -------- Balance at end of period....................... $ 373 $ 367 $ 365 ========= ======== ======== CLASS B STOCK Balance at beginning and end of period......... $ 25 $ 25 $ 25 ========= ======== ======== ADDITIONAL PAID-IN CAPITAL Balance at beginning of period................. $ 115,523 $108,363 $ 80,680 Stock options exercised........................ -- -- 117 Restricted stock granted....................... -- 226 -- Cost of offerings.............................. -- -- (221) Stock option re-pricing and valuation.......... -- -- (714) Amortization of restricted stock grants... .... 415 -- -- Proceeds from rights offering.................. -- -- 28,312 Issuance of shares in Islandaire acquisition... -- 6,743 -- Transfer from deferred compensation............ (483) -- -- Other.......................................... 32 191 189 --------- -------- -------- Balance at end of period....................... $ 115,487 $115,523 $108,363 ========= ======== ======== RETAINED EARNINGS (DEFICIT) Balance at beginning of period................. $ (76,232) $(10,176) $ 23,603 Net (loss) income.............................. (124,624) (62,081) (26,107) Treasury stock sold for less than carrying value....................................... (4,715) Dividends...................................... -- (3,978) (7,672) --------- -------- -------- Balance at end of period....................... $(205,571) $(76,235) $(10,176) ========= ======== ======== ACCUMULATED OTHER COMPREHENSIVE LOSS Balance at beginning of period................. $ (92) $ (676) $ (1,752) Foreign currency translation adjustment, net of tax......................................... 1,364 584 1,076 --------- -------- -------- Balance at end of period....................... $ 1,272 $ (92) $ (676) ========= ======== ======== DEFERRED COMPENSATION Balance at beginning of period................. $ (483) $ (526) $ (789) Restricted stock granted....................... -- (227) -- Amortization of deferred compensation.......... -- 270 263 Re-classed to additional paid in capital....... 483 -- -- --------- -------- -------- Balance at end of period....................... $ -- $ (483) $ (526) ========= ======== ======== TREASURY STOCK Balance at beginning of period................. $ (39,188) $(39,188) $(39,188) Shares sold/(purchased)........................ 6,215 -- -- --------- -------- -------- Balance at end of period....................... $ (32,973) $(39,188) $(39,188) ========= ======== ========
See accompanying notes to the consolidated financial statements. 40 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AND MARKET DATA) 1. DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Fedders Corporation (the "Company") is a global manufacturer and marketer of heating and cooling products, air cleaners, and humidifiers. OPERATIONS AND FINANCING During the last three years, the Company incurred operating losses and in 2004 and 2005 used cash in operations as well as for strategic investments that required greater short-term borrowing. Management has taken numerous steps to; reduce its risk profile, by reducing its customer concentration, its dependence on the sale of room air conditioners in North America, and the significant working capital demands related thereto, and; to return the Company to profitability by focusing the business on products and customers in what it considers core markets that generate more stable sales and higher margins. These activities include the following: - In 2006 and 2005, respectively, the Company disposed of Polenz GmbH, its non-core German distributor of HVAC products for $7,544, and Melcor, its non-core thermal management subsidiary for $17,124. - In 2005 and 2004, respectively, the Company acquired 80% of Islandaire, a profitable and growing manufacturer of through-the-wall packaged terminal air conditioners, and Addison, a manufacturer and marketer of a broad line of commercial air conditioning and heating products. - The Company discontinued selling room air conditioners to The Home Depot and Wal-Mart, due to low profit margins as well as high working capital and infrastructure expenses to support these customers. The Company also discontinued production and sales of dehumidifiers, due to the commodity nature of this product which resulted in low profit margins. - The Company changed the focus of its Asian operations to expanding high- end residential and commercial/industrial markets and away from the sale of low-end room air conditioners. Management has also completed the implementation of programs to return to profitability through improvements in manufacturing efficiency and productivity. These programs have significantly reduced manufacturing costs and brought SG&A from a level $71,815 in 2004, to $59,176 in 2006, with a lower run rate entering 2007, and include: - Consolidated air conditioner manufacturing operations from three facilities in China into an existing facility in Ningbo, China. - Consolidated Longview, Texas commercial air conditioner manufacturing into the Fedders Addison facility in Orlando, Florida. - Closed the Albuquerque, New Mexico facility and consolidated that operation into existing Company facilities in Sanford, North Carolina, and Suzhou, China. - Ceased manufacturing and refurbishing of room air conditioners in Effingham, Illinois and consolidated eight warehouses in North America into the Effingham facility. Management also completed steps to improve its liquidity during this period, including: - On March 20, 2007, the Company obtained a new $50,000 senior secured term loan and a $40,000 secured revolving credit facility arranged through Goldman Sachs Credit Partners L.P. and repaid the balance outstanding on its existing secured revolving facility and supplemental term loan with Wachovia. As a result, $20,277 of debt was reclassified from short-term to long-term in the Company's December 31, 2006 balance sheet (see Note 4). 41 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) - Sold raw land in Walkersville, Maryland for $4,098, and an idle facility in Columbia, Tennessee for $843. - Sold its non-core, Polenz and Melcor operations as discussed above. - Reduced its inventory from $130,577 at December 31, 2004 to $41,473 at December 31, 2006. Management believes that as a result of the above strategic steps it has taken to reposition the Company, reduce its cost structure, and improve its liquidity, that the Company's existing and future sources of cash, anticipated future earnings, and short-term borrowing capacity are adequate to meet the demands of its operations. PRINCIPLES OF CONSOLIDATION The accompanying consolidated financial statements include the accounts of the Company and all of its wholly-owned and majority-owned subsidiaries. Investments in 50%-owned joint ventures are accounted for by the equity method. All significant intercompany accounts and transactions are eliminated in consolidation. RECLASSIFICATIONS Certain previously reported amounts may have been reclassified to conform with the current period presentation. DISCONTINUED OPERATIONS The consolidated statements of operations and notes to the financial statements for the year ended December 31, 2004 have been adjusted to reflect the accounts of Melcor Corporation, a subsidiary sold in October 2005, as discontinued operations. Discontinued operations do not include an allocation of interest expense. REVENUE RECOGNITION Sales are recorded consistent with their related shipping terms upon the passing of title and the risks and rewards of ownership to the customer provided that the amount is fixed and determinable and collection of the related receivable is probable. For a majority of the Company's customers, title and the risks and rewards of ownership pass at the time of shipment. However, certain sales are recorded at the time the products are delivered to the customers. Sales are recorded net of a provision for sales allowances, warranties, and returns. Certain sales of Fedders Islandaire are accounted for using the percentage-of-completion calculated on a cost-to-cost method. The Company estimates a provision for sales allowances and for returns at the time of sale considering a number of factors including historical experience, customer buying patterns and programs, and information with respect to customer inventory levels. The Company's sales of room air conditioners are seasonal, and with the exception of certain significant customers with which the Company no longer does business, the Company generally does not allow its customers the right of return of unsold product at the end of the selling season. WARRANTY AND DEFECTIVE RETURN POLICY The Company's policy is to accrue the estimated cost of warranty coverage and defective returns at the time the sale is recorded. Each quarter, the Company reevaluates its estimate of warranty and defective return obligations including the assumptions about estimated failure and return rates. The Company uses historical failure and defective return rates, which may or may not be indicative of future rates, as the starting point in the calculation before making adjustments based on new information. Certain of the Company's products are covered by standard product warranty plans that extend from 1 to 5 years. In addition, major retailers have consumer return policies which allow consumers to return product that may be defective in lieu of field service. At the time revenue is recognized, upon shipment, measurements of sales are 42 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) reduced by estimates of the future costs associated with fulfilling warranty obligations and for the expense associated with repairing or scrapping defective returns. The Company uses historical failure and defective return rates, which may or may not be indicative of future rates. The estimate of warranty and defective return obligations, including the assumptions about estimated failure and return rates, is reevaluated quarterly. The following table displays the activity and balances of the product warranty liability:
DECEMBER 31, DECEMBER 31, DECEMBER 31, 2006 2005 2004 ------------ ------------ ------------ Warranty beginning balance................. $ 7,552 $ 7,333 $ 5,641 Accruals for warranties issued during the period................................... 9,396 16,676 16,981 Settlements made during the period......... (9,970) (16,457) (15,289) ------- -------- -------- Warranty ending balance.................... $ 6,978 $ 7,552 $ 7,333 ======= ======== ========
FOREIGN CURRENCY TRANSLATION Assets and liabilities of the Company's foreign subsidiaries are translated at the rate of exchange in effect at the end of the period. Net sales and expenses are translated at the average rate of exchange for the period. Translation adjustments are reflected in other comprehensive loss as a separate component of stockholders' equity/(deficit). COMPREHENSIVE INCOME/(LOSS)
YEAR ENDED YEAR ENDED YEAR ENDED DECEMBER 31, DECEMBER 31, DECEMBER 31, 2006 2005 2004 ------------ ------------ ------------ Net income/(loss).......................... $(124,624) $(62,081) $(26,107) Other comprehensive income/(loss): Foreign currency translation, net of tax... 1,364 584 1,076 --------- -------- -------- Comprehensive income/(loss)................ $(123,260) $(61,497) $(25,031) ========= ======== ========
CASH AND CASH EQUIVALENTS The Company considers all highly liquid investments purchased with an initial maturity of three months or less to be cash equivalents. ACCOUNTS RECEIVABLE The Company carries its accounts receivable at the estimated net realizable value. On a periodic basis, the Company evaluates its accounts receivable and establishes the allowance for doubtful accounts based on a combination of specific customer circumstances, credit conditions, and a history of write-offs and collections. Where the Company is aware of a customer's inability to meet its financial obligations, the Company specifically provides for the potential bad debt to reduce the net recognized receivable to the amount it reasonably believes will be collected. For all other customers, the Company establishes allowances for bad debts based on an aging of accounts receivable and applying percentages based on historical experience related to aging categories. The Company generally does not charge interest on trade receivables after the invoice becomes past due. A receivable is considered past due if payments have not been received within agreed upon invoice terms. Accounts receivable are reviewed regularly for collectability, and those deemed uncollectable are written off. Accounts receivable are expected to be collected within one business cycle. 43 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The following table shows changes in the allowance for doubtful accounts.
BALANCE AT ADDITIONS BALANCE AT BEGINNING CHARGED TO END OF ALLOWANCE FOR DOUBTFUL ACCOUNTS OF YEAR EXPENSE DEDUCTIONS OTHER YEAR ------------------------------- ---------- ---------- ---------- ----- ---------- For the year ended December 31, 2006.... $3,928 $1,626 $(1,121) $(672) $3,761 For the year ended December 31, 2005.... 3,278 3,391 (3,294) 553 3,928 For the year ended December 31, 2004.... 1,795 1,745 (238) (24) 3,278
INVENTORIES Inventories are stated at the lower of the first-in, first-out (FIFO) cost or market. The Company reviews inventory periodically for slow-moving and obsolete items. Write-downs are recorded in the period in which they are identified. Inventories consist of the following:
DECEMBER 31, DECEMBER 31, 2006 2005 ------------ ------------ Finished goods...................................... $23,633 $52,395 Work-in-process..................................... 1,316 2,694 Raw materials and supplies.......................... 16,524 19,224 ------- ------- Total inventories................................... $41,473 $74,313 ======= =======
OTHER CURRENT ASSETS Other current assets consist of the following:
DECEMBER 31, DECEMBER 31, 2006 2005 ------------ ------------ VAT and other receivables........................... $10,842 $4,446 Prepaid expenses.................................... 1,587 1,887 ------- ------ Total other current assets.......................... $12,429 $6,333 ======= ======
VAT and other receivables include a $3,287 escrow from the Polenz sale and a $4,100 receivable from the sale of non-productive land adjacent to the Company's Walkersville, Maryland facility. The Company collected the proceeds from the Walkersville sale in January, 2007, and expects to collect the escrow from the Polenz sale in the second quarter. PROPERTY, PLANT AND EQUIPMENT Replacements, betterments and additions to property, plant and equipment are capitalized at cost. Expenditures for maintenance and repairs are charged to expense as incurred. Upon sale or retirement of property, plant and equipment, the cost and related accumulated depreciation are removed from the respective accounts and any gain or 44 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) loss is reflected in cost of sales or selling, general and administrative expense, as appropriate. Net property, plant and equipment consist of the following:
ESTIMATED DECEMBER 31, DECEMBER 31, USEFUL LIFE 2006 2005 -------------- ------------ ------------ Land and improvements.................... $ 3,636 $ 4,900 Buildings and leasehold improvements..... 10 to 30 years 35,670 35,952 Machinery and equipment.................. 3 to 12 years 73,630 71,083 -------- -------- Property, plant and equipment -- gross... 112,936 111,935 Accumulated depreciation................. (73,594) (67,392) -------- -------- Net property, plant and equipment........ $ 39,342 $ 44,543 ======== ========
In 2006, the Company sold Polenz GmbH and non-productive land adjacent to its Walkersville, Maryland facility. At December 31, 2005, assets at the Company's Columbia, Tennessee facility totaling $843 were classified as "Assets Held for Sale". These assets were sold at their carrying value on February 3, 2006. Depreciation is provided on the straight-line basis over the estimated useful life of each asset as noted above. Depreciation expense for the years ended December 31, 2006, 2005, and 2004, was $7,031, $10,645, and $10,706, respectively. The Company reviews for impairment of long-lived assets and certain identifiable intangibles whenever events or changes in circumstances indicate that the carrying amount of its assets might not be recoverable. Thereafter, based on reasonable assumptions and projections, the Company appropriately records any necessary adjustments. The Company recorded asset impairment charges in the years ended December 31, 2005 and 2006. (see Note 2) GOODWILL AND OTHER INTANGIBLE ASSETS The Company records as goodwill the excess of the purchase price of net tangible and intangible assets acquired over their estimated fair value. Goodwill is not amortized. The Company tests goodwill for impairment at least annually. In 2005, and to better coordinate with a prior change in fiscal year end, the Company elected to change its annual date of goodwill impairment testing from September 1 to October 1. This change enabled the Company to use the budget for the next year which is a critical component of the testing process. Furthermore, the Company would now have adequate time to complete the testing before the next reporting period and would have quarterly data available, which would facilitate testing. The Company identifies potential goodwill impairment by comparing the fair value of a reporting segment with its carrying amount, including goodwill. The Company determines fair value using a discounted cash flow and market-multiple approach. If the fair value of a reporting segment exceeds its carrying amount, goodwill of the reporting segment is not considered impaired. If the carrying amount of a segment exceeds its fair value, the amount of goodwill impairment loss, if any, must be measured. The Company measures the amount of goodwill impairment loss by comparing the implied fair value of reporting segment goodwill with the carrying amount of that goodwill. If the carrying amount of the segment goodwill exceeds the implied fair value of goodwill, an impairment loss is recognized as an operating expense. For 2006, the Company recorded a non-cash goodwill impairment charge of $54,011 because the carrying value of goodwill in the HVAC reporting segment exceeded its implied fair value. The Company previously 45 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) completed its goodwill impairment tests for 2005 and 2004, and no impairment was recognized. Goodwill and other intangible assets consist of the following:
ENGINEERED HVAC PRODUCTS TOTAL -------- ---------- -------- Goodwill balance as of December 31, 2004....... $ 69,469 $8,468 $ 77,937 Acquisition of Islandaire...................... 9,582 -- 9,582 Effect of foreign currency change.............. 460 -- 460 Disposal and other............................. (175) (79) (254) -------- ------ -------- Goodwill balance as of December 31, 2005....... 79,336 8,389 87,725 Goodwill impairment............................ (54,011) -- (54,011) Disposal of Polenz and other................... (6,217) -- (6,217) Effect of foreign currency change.............. (4) -- (4) -------- ------ -------- Goodwill balance as of December 31, 2006....... $ 19,104 $8,389 $ 27,493 ======== ====== ========
DECEMBER 31, DECEMBER 31, 2006 2005 ------------ ------------ Other intangible assets............................. $ 6,854 $ 7,911 Accumulated amortization............................ (3,127) (3,185) ------- ------- Other intangible assets -- net...................... $ 3,727 $ 4,726 ======= =======
Other intangible assets primarily relate to Fedders Islandaire and are being amortized over 2 to 10 years. Amortization expense for the years ended December 31, 2006, 2005, and 2004 was $917, $798, and $204, respectively. Estimated amortization expense for other intangibles will be approximately $651, $616, $599, $474, $332 for future years one through five, respectively, and $1,055 thereafter. OTHER ASSETS Other assets consist of the following:
DECEMBER 31, DECEMBER 31, 2006 2005 ------------ ------------ Note due from an executive officer (see Note 11).... $ 6,000 $ 6,000 Unamortized deferred finance costs, to be amortized over the life of the debt......................... 4,000 4,557 Investment in life insurance........................ 89 7,399 Supplemental retirement plan assets................. 8,062 8,622 Investment in unconsolidated joint ventures......... 4,867 3,454 Other............................................... 1,564 454 ------- ------- Other assets........................................ $24,582 $30,486 ======= =======
The Company received an advance of $7,291 on its investment in life insurance in 2006. Also in 2006, the Company's investment in unconsolidated joint ventures increased primarily to build a factory in India and from joint venture income. In conjunction with the Company receiving a $10 million supplemental term loan in September 2006, the Company's Chairman agreed to use a portion of his supplemental retirement plan assets to purchase $3,500 of treasury stock at the market price. In October 2006, the Company's Chairman purchased 1,351,352 shares, or $1,500 at the market price (which was valued at $1,300 at December 31, 2006), of the Company's treasury stock with funds from his supplemental retirement plan. In January 2007, the Company's 46 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Chairman purchased 1,890,937 shares, or $2,000 at the market price, of the Company's treasury stock with funds from his supplemental retirement plan. The supplemental retirement plan assets and obligations are recorded as a non- current asset and a non-current liability, respectively. ACCRUED EXPENSES Accrued expenses consist of the following:
DECEMBER 31, DECEMBER 31, 2006 2005 ------------ ------------ Warranty............................................ $ 4,368 $ 4,855 Marketing programs.................................. 8,222 8,564 Salaries and benefits............................... 8,573 9,554 Interest............................................ 5,849 5,617 Professional fees................................... 2,170 3,319 Tax accrual......................................... 3,305 1,644 Other............................................... 8,599 6,966 ------- ------- Accrued expenses.................................... $41,086 $40,519 ======= =======
Marketing programs include expenses associated with product returns, customer discounts, financing support, sales incentives, and freight costs for product shipments. The costs associated with these accruals are recognized in the period the revenues are reported. Advertising expenses are recognized in the period incurred and currently do not include any direct-response advertising or cooperative advertising. Advertising expense for the years ended December 31, 2006, 2005 and 2004 were $1,364, $1,511, and $2,849, respectively. OTHER LONG-TERM LIABILITIES Other long-term liabilities consist of the following:
DECEMBER 31, DECEMBER 31, 2006 2005 ------------ ------------ Deferred income tax (see Note 7).................... $ -- $ 4,944 Warranty............................................ 2,609 2,639 Deferred retiree obligation (see Note 11)........... 6,089 8,384 Supplemental retirement plan obligations............ 8,062 8,622 Other............................................... 1,491 363 ------- ------- Other liabilities................................... $18,251 $24,952 ======= =======
INCOME TAXES Deferred income taxes are provided to reflect the tax effects of temporary differences between assets and liabilities for financial reporting purposes and income tax purposes. Provisions are also made for U.S. income taxes on undistributed earnings of foreign subsidiaries not considered to be indefinitely reinvested (see Note 7). SHIPPING AND HANDLING FEES AND COSTS Costs associated with the handling and warehousing of finished goods are charged to selling, general and administrative expense. Shipping and handling costs for the years ended December 31, 2006, 2005 and 2004 were $4,694, $8,051, and $8,717, respectively. 47 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) RESEARCH AND DEVELOPMENT COSTS All research and development costs are charged to selling, general and administrative expense as incurred. Research and development costs for the years ended December 31, 2006, 2005, and 2004 were $6,502, $8,652, and $9,569, respectively. STOCK COMPENSATION The Company implemented SFAS No. 123(R) effective January 1, 2006 using the modified prospective method and, accordingly, financial statement amounts for prior periods have not been restated to reflect the fair value method of recognizing compensation cost relating to stock options. No pro forma is provided since the Company did not grant stock options in 2004, 2005, or 2006. The Company does not believe that any of the alternative phase-in methods would have a materially different effect on the Company's financial position and results of operations. The Company previously recognized compensation expense over the vesting period of all stock-based compensation awards issued subsequent to January 1, 2002 based upon the fair value of the award as of the date of issuance. The provisions of this Statement did not have a material impact on the Company's financial position and results of operations. The Company has granted restricted stock to certain key employees. The restricted stock requires no payment from the recipient and compensation cost is measured based on the market price of the underlying common stock on the grant date and is recorded over the vesting period, normally three to five years. Restricted stock does not have an option for cash payment. The following table summarizes restricted stock activity:
DECEMBER 31, 2006 DECEMBER 31, 2005 DECEMBER 31, 2004 ---------------------- ---------------------- ---------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE NUMBER OF GRANT-DATE NUMBER OF GRANT-DATE NUMBER OF GRANT-DATE GRANTS FAIR VALUE GRANTS FAIR VALUE GRANTS FAIR VALUE --------- ---------- --------- ---------- --------- ---------- Balance at January 1......... 250,000 $4.33 150,000 $5.70 150,000 $5.70 Granted...................... 400,000 2.31 100,000 2.27 -- -- Cancelled or expired......... -- -- -- -- -- -- Fully vested................. (150,000) 5.70 -- -- -- -- -------- ----- ------- ----- ------- ----- Balance at December 31....... 500,000 $2.30 250,000 $4.33 150,000 $5.70 ======== ===== ======= ===== ======= =====
As of December 31, 2006, the 500,000 outstanding restricted common stock grants had an average remaining contractual term of 51 months, and $1,003 of unrecognized compensation costs were outstanding. For the years ended 2006, 2005 and 2004, the company recognized compensation expense (income), related to the amortization of stock based compensation of $415, $270, and $(464) due to eliminating a stock option restriction, respectively. Additionally, the company recognized $215, $191, and $191 in expense for stock grants to non-employee directors in 2006, 2005, and 2004, respectively. USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles in the United States of America 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. 48 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) RISKS AND UNCERTAINTIES Through certain subsidiary companies and joint venture agreements, the Company has operations in a number of countries, including China, India, the United Kingdom, and the Philippines. The Company sold Polenz GmbH, its German distributor of HVAC products, on December 30, 2006. Approximately 64% of the Company's sales are of products produced in the Company's China factories. The Company's foreign operations, at times, may be adversely affected by changes in government policies such as changes in laws and regulations (or the interpretation thereof), restrictions on imports and exports and sources of supply, duties or tariffs, the introduction of measures to control inflation, changes in the rate or method of taxation, the imposition of restrictions on currency conversion and remittances abroad, and the expropriation of private enterprise. In addition, policy concerns particular to the United States with respect to a country in which the Company has operations could adversely affect the Company's operations in that country. The Company monitors its operations with a view to minimize the impact on its foreign investments and overall business that could arise as a result of the risks inherent in maintaining operations in foreign countries. During the three years ended December 31, 2006, none of these conditions materially affected the Company's business or operations. EARNINGS PER SHARE Basic earnings/(loss) per common share are computed by dividing net income/(loss) applicable to common stockholders by the weighted average number of shares outstanding for the period. Diluted earnings/(loss) per common share are computed by adjusting outstanding shares assuming conversion of all potentially dilutive stock options. Due to their anti-dilutive effect, 1,028,750, 1,128,750 and 349,107 options were excluded from the computation of diluted loss per share for the years ended December 31, 2006, 2005, and 2004, respectively. The computation of basic and diluted earnings/(loss) per common share are as follows:
YEAR ENDED YEAR ENDED YEAR ENDED DECEMBER 31 DECEMBER 31 DECEMBER 31, 2006 2005 2004 ----------- ----------- ------------ Net income/(loss) applicable to common stockholders............................. $(129,198) $(66,517) $(30,127) ========= ======== ======== Weighted average shares outstanding........ 31,328 30,629 30,466 Assumed conversion of stock options........ -- -- -- --------- -------- -------- Dilutive average shares outstanding........ 31,328 30,629 30,466 ========= ======== ======== Earnings/(loss) per common share: Basic and diluted........................ $ (4.12) $ (2.17) $ (0.99) ========= ======== ========
FAIR VALUE OF FINANCIAL INSTRUMENTS The carrying amount for cash and cash equivalents, accounts receivable, accounts payable, short term notes and accrued expenses approximates fair value due to the short maturity of these instruments. At December 31, 2006 and 2005, the fair value of long-term debt (including current portion) is estimated to be $98,700 and $115,278, respectively, based on current market rates that could be obtained by the Company for similar debt. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES The nature of the Company's business involves managing various financial and market risks, including those related to changes in foreign currency exchange rates. The Company's use of derivative financial instruments is limited primarily to the use of forward foreign currency exchange contracts to mitigate certain foreign currency exchange rate risks relative to Canadian dollar receivables, Euro dollar payables, and Philippine peso payables. Such contracts are considered derivatives but are not designated as hedges. Any changes in fair value are recognized in other income/(expense). The Company did not have any such contracts outstanding as of December 31, 2006 and 2005. 49 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) During the second and third quarters of 2006, the Company entered into foreign currency derivative contracts to hedge against fluctuations in the Canadian dollar. These derivative contracts expired in the second and third quarters of 2006. As a cash flow hedge, changes in the fair value of the derivative contracts were recorded in accumulated other comprehensive income/(loss) in shareholders' equity/(deficit). Amounts in accumulated other comprehensive income/(loss) were reclassified into earnings in the same period or periods during which the hedged transaction affected earnings. The hedges were deemed to be one hundred percent effective because less than the full value of the Canadian dollar receivables were hedged. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS In November 2006, the Emerging Issues Task Force ("EITF") reached consensus on EITF Issue No. 06-10, "Accounting for Deferred Compensation and Postretirement Benefit Aspects of Collateral Assignment Split-Dollar Life Insurance Arrangements." This Issue is effective for fiscal years beginning after December 15, 2007. This Issue requires that an employer recognize a liability for future benefits based on the substantive agreement with the employee. The Company will adopt this Issue in 2008 and will evaluate, in 2007, the Issue's provisions to determine the potential impact, if any, the adoption will have on the Company's financial statements. In September 2006, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standard ("SFAS") No. 157, "Fair Value Measurements". SFAS No. 157 defines fair value, provides a framework for measuring fair value under current standards in GAAP, and requires additional disclosure about fair value measurements. In accordance with the Statement, the definition of fair value retains the exchange price notion, and exchange price is defined as the price in an orderly transaction between market participants to sell an asset or transfer a liability. If there is a principal market for the asset or liability, the fair value measurement should reflect that price, whether that price is directly observable or otherwise used in a valuation technique. Depending on the asset or liability being valued, the inputs used to determine fair value can range from observable inputs (i.e., prices based on market data independent from the entity) and unobservable inputs (i.e., the entity's own assumptions about the assumptions that market participants would use). The Statement applies to other accounting pronouncements that require or permit fair value measurements and will be effective for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. The Company will adopt this Statement in 2008 and is currently evaluating the provisions of SFAS No. 157 to determine the potential impact, if any, the adoption will have on the Company's financial statements. In September 2006, the FASB issued SFAS No. 158, "Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans". SFAS No. 158 requires companies to recognize the over-funded or under-funded status of a defined benefit postretirement plan as an asset or liability in the statement of financial position. The funded status of a plan represents the difference between the fair value of plan assets and the related plan projected benefit obligation. Changes in the funded status should be recognized through comprehensive income in the year in which the changes occur. Additionally, disclosure of additional information about certain effects on net periodic benefit cost for the next fiscal year that arise from delayed recognition of gains or losses, prior service costs or credits, and transition assets or obligations will be required. SFAS No. 158 also requires the funded status of a plan to be measured as of the date of the year-end statement of financial position. SFAS No. 158 was effective for the Company for the year ending December 31, 2006, and the impact of adopting SFAS No. 158 did not have a material impact on the Company's financial statements as is discussed in "Deferred Retiree Obligations and Other Compensation Arrangements". In September 2006, the SEC issued Staff Accounting Bulletin ("SAB) No. 108, which expresses the views of the SEC staff regarding the process of quantifying financial statement misstatements. SAB No. 108 provides guidance on the consideration of the effects of prior year misstatements in quantifying current year misstatements for the purpose of a materiality assessment. The guidance of this SAB was effective for annual financial statements covering the first fiscal year ending after November 15, 2006, which was December 31, 2006 for the Company. The 50 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) impact of adopting SAB No. 108 did not have a material impact on the Company's financial position and results of operations. In July 2006, the FASB issued FASB Interpretation No. 48, "Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109" ("FIN 48"). FIN 48 provides recognition criteria and a related measurement model for tax positions taken by companies. In accordance with FIN 48, a tax position is a position in a previously filed tax return or a position expected to be taken in a future tax filing that is reflected in measuring current or deferred income tax assets and liabilities. Tax positions shall be recognized only when it is more likely than not (likelihood of greater than 50%), based on technical merits, that the position would be sustained upon examination. Tax positions that meet the more likely than not threshold should be measured using a probability-weighted approach as the largest amount of tax benefit that is greater than 50% likely of being realized upon settlement. FIN 48 is effective for fiscal years beginning after December 15, 2006 and the Company will adopt FIN 48 as of January 1, 2007. The Company does not expect that adopting FIN 48 will have a material impact on the Company's financial position and results of operations. In May 2005, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 154, "Accounting Changes and Error Corrections -- a replacement of APB Opinion No. 20 and SFAS No. 3". This Statement changes the requirements for accounting and reporting of a voluntary change in accounting principle and changes required by an accounting pronouncement when the specific transition provisions are absent. This statement requires retrospective application to prior periods' financial statements of changes in accounting principle. If it is impracticable to determine either the period-specific effects or the cumulative effect of the change, this Statement requires that the new accounting principle be adopted prospectively from the earliest practicable date. SFAS No. 154 was effective for the Company as of January 1, 2006 and did not have a material impact on the Company's financial position and results of operations. In December 2004, the FASB issued SFAS No. 151, "Inventory Costs, an amendment of ARB No. 43, Chapter 4" to improve the comparability of cross-border financial reporting. This statement amends and clarifies the accounting for abnormal amounts of idle facility expenses, freight, handling costs, and wasted material (spoilage). This Statement requires that those items be recognized as current-period charges regardless of whether they meet the criterion of "so abnormal" as stated in ARB No. 43, Chapter 4. In addition, this Statement requires that allocation of fixed production overhead costs to conversion costs be based on the normal capacity of the production facilities. The provisions of this Statement were effective for the Company as of January 1, 2006, and did not have a material impact on the Company's financial position and results of operations. 2. ASSET IMPAIRMENT, EMPLOYEE SEVERANCE, AND OTHER RESTRUCTURING AND RELATED CHARGES In 2006, the Company discontinued selling room air conditioners to The Home Depot and Wal-Mart and discontinued dehumidifier sales due to low profitability. The Company recognized $3,666 ($784 non-cash) of restructuring charges in operating expenses. Non-cash impairment charges relate primarily to writing down assets that will no longer be used. Cash restructuring charges were severance costs of $688, facility closing costs of $391, and closed-facility lease costs of $695. In the fourth quarter of 2005, the Company completed its review of operational performance and expense structure, with the objective of aggressively identifying and implementing cost savings strategies. This process identified significant annual savings from closing and consolidating factories, offices, and warehouses to eliminate costs associated with underutilized facilities and to obtain better overhead absorption at other facilities. Several facility consolidations resulted in headcount reductions and impaired assets. Implementing the 2005 cost savings strategies resulted in charges for impaired property, plant, and equipment, joint venture investments, and other assets, severance costs, inventory write-downs, facility closing costs, net lease costs, and other restructuring charges directly related to the cost savings strategy. The total amount of the restructuring charges in 2005 was $22,706, with $1,310 included in cost of goods sold and $21,396 shown as 51 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) restructuring expenses as a part of operating expenses. Of the total, $2,065 was a cash cost, primarily for severance, and $20,621 was a non-cash charge for asset impairment. As a result of the asset impairment, annual depreciation expense will be reduced by $2,386. The following table displays the restructuring reserve account activity from December 31, 2004 to December 31, 2006.
DECEMBER 31, DECEMBER 31, 2004 ADDITIONS REVERSAL CASH UTILIZATION NON-CASH UTILIZATION 2005 ------------ --------- -------- ---------------- -------------------- ------------ Workforce reductions..... $132 $ 1,548 $(132) $(1,548) $ -- $ -- Facility closing costs... 48 -- (48) -- -- -- Asset impairments........ -- 19,311 -- -- (19,311) -- Excess inventory......... -- 1,310 -- -- (1,310) -- PV of future sublet revenue................ -- (1,569) -- -- -- (1,569) Lease costs.............. -- 2,106 -- (517) -- 1,589 Other costs.............. 199 -- (199) -- -- -- ---- ------- ----- ------- -------- ------- Total.................... $379 $22,706 $(379) $(2,065) $(20,621) $ 20 ==== ======= ===== ======= ======== =======
DECEMBER 31, DECEMBER 31, 2005 ADDITIONS REVERSAL CASH UTILIZATION NON-CASH UTILIZATION 2006 ------------ --------- -------- ---------------- -------------------- ------------ Workforce reductions..... $ -- $1,338 -- $ (688) $ -- $ 650 Facility closing costs... -- 744 -- (391) (353) -- Asset impairments........ -- 343 -- -- (343) -- Excess inventory......... -- -- -- -- -- -- PV of future sublet revenue................ (1,569) 933 -- -- -- (636) Lease costs.............. 1,589 296 -- (695) (88) 1,102 Other costs.............. -- 12 -- -- -- 12 ------- ------ --- ------- ----- ------ Total.................... $ 20 $3,666 $-- $(1,774) $(784) $1,128 ======= ====== === ======= ===== ======
3. CONTINGENCIES The Company is involved in litigation, both as plaintiff and defendant, incidental to the conduct of its business. It is the opinion of management, after consultation with counsel, that the outcome of such litigation will not have a material adverse effect on its financial position, results of operations and cash flows. 4. SHORT-TERM BORROWING On March 20, 2007, the Company obtained a new $50 million, 30-month senior secured term loan and a $40 million, 30-month secured revolving credit facility arranged through Goldman Sachs Credit Partners L.P. and repaid the balance outstanding on its existing secured revolving facility and supplemental term loan with Wachovia. The new senior secured term loan has an interest rate of Prime plus 11% or LIBOR plus 12%, and the new revolving credit facility has an interest rate of Prime plus 1% or LIBOR plus 2%. The Company was required to draw the total balance of the senior secured term loan immediately. In addition to repayment of the Wachovia obligations, the loan proceeds will be used to fund working capital requirements. Availability under the new revolving line of credit is based primarily on advance rates on accounts receivable and inventory in the U.S. and Canada. Financial covenants 52 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) under the term loan and revolving credit facility will include EBITDA, interest coverage, and secured leverage tests. In addition, the agreement includes restrictions on paying dividends, making acquisitions, and selling assets. Following SFAS No. 6, "Classification of Short-Term Obligations Expected to Be Refinanced", the Company reclassified the $20,277 balance of short-term borrowings with Wachovia at December 31, 2006 from short-term notes in current liabilities to current and non-current long-term debt. On January 31, 2006, the Company replaced its expiring $100 million secured revolving credit facility with a five-year $75 million secured revolving credit facility with Wachovia Bank. At December 31, 2006 and 2005, the Company had $20,277 (before being reclassified to long-term debt) and $34,599 of short-term borrowing outstanding under this revolving credit facility. Availability under the facility was based primarily on advance rates on accounts receivable and inventory in the U.S. and Canada and required maintenance of certain financial covenants. The maximum amount outstanding under the credit facility was $49,093 during 2006 and $73,139 during fiscal 2005 when the credit line was $100 million. The average amount outstanding and average rate of interest charged on outstanding borrowings under the credit facility were $29,627 and 7.9% in the year ended December 31, 2006 and $48,557 and 5.6% in the year ended December 31, 2005. The rate of interest on the facility was prime rate or LIBOR plus 2%. The Company was required to pay a fee each month equal to one half of one percent (1/2 of 1%) per annum of the unused revolver amount based upon the average daily loan balance. At December 31, 2006, the weighted average interest rate on short- term domestic borrowings was 8.75%. The Company also utilized short-term borrowing facilities to support production in its China operations. There was a maximum outstanding balance of $21,900 in China during 2006. At December 31, 2006 and 2005, certain foreign subsidiaries had short-term notes of $17,777 and $22,141, respectively, outstanding under loan agreements with various banks. The current notes bear interest ranging from 5.31% to 6.47% and expire no later than December 2007. At December 31, 2006 and 2005, the outstanding balance under these borrowing facilities was $15,384 and $18,185, and the maximum amount outstanding was $21,872 and $23,128, respectively. The average amount outstanding and average rate of interest charged on outstanding borrowings under these credit facilities were $16,967 and 5.65% in 2006. The average amount outstanding and average rate of interest charged on outstanding borrowings under these credit facilities were $26,518 and 4.90% during 2005. At December 31, 2006, the weighted average interest rate on short-term foreign borrowings was 7.15%. In September 2006, the Company received a $10 million supplemental term loan that was to expire on January 26, 2007 and was subsequently extended to March 20, 2007. This loan was repaid with proceeds from the new $50 million senior secured term loan. 53 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 5. LONG-TERM DEBT Long-term debt consists of the following:
DECEMBER 31 DECEMBER 31, 2006 2005 ----------- ------------ 9 7/8% Senior Subordinated Notes due in 2014 ($155,000 principal amount less unamortized discount of $3,854 and $4,201 as of December 31, 2006 and 2005, respectively)...................... $151,146 $150,799 Promissory note payable to the State of Illinois.... 561 929 Trion Industrial Revenue Bond....................... 3,200 3,200 Eubank Manufacturing Enterprises, Inc. mortgage..... 321 525 Fedders Addison Company mortgage.................... 1,902 2,214 Wachovia debt reclassified to long-term (see Note 4)................................................ 20,277 -- Capital lease obligations........................... 2,559 2,916 -------- -------- Total debt.......................................... 179,966 160,583 Less current maturities............................. 2,487 2,470 -------- -------- Total long-term debt................................ $177,479 $158,113 ======== ========
Aggregate amounts of long-term debt, excluding capital leases of $2,559, maturing in each of the years after December 31, 2006 are as follows:
YEAR 2007 2008 2009 2010 2011 THEREAFTER TOTAL ---- ------ ------ ------- ---- ------ ---------- -------- Amount.................. $1,273 $1,109 $19,715 $313 $3,514 $151,483 $177,407
Aggregate future minimum rental payments under capital leases are as follows:
YEAR AMOUNT ---- ------ 2007............................................................ $1,213 2008............................................................ 141 2009............................................................ 143 2010............................................................ 147 2011............................................................ 112 Thereafter...................................................... 803 ------ Total minimum lease payments.................................... 2,559 Less amount representing interest............................... 649 ------ Total obligation under capital leases........................... $1,910 ======
In March 2004, Fedders North America, Inc., a wholly-owned subsidiary of the Company, issued $155,000 in principal amount of 9 7/8% Senior Notes due 2014 ("Senior Notes"). The Company and all of the continuing subsidiaries of FNA are guarantors, on a senior basis, of the notes. FNA may redeem the notes on or after March 1, 2009 for a defined redemption price. The provisions of the notes limit, among other things, the payment of dividends by the subsidiary (see Note 4). On June 24, 2005, Fedders North America, Inc. ("FNA"), a wholly-owned subsidiary of the Company, received notice that FNA defaulted on the covenant in the Senior Notes requiring the Company to file a timely Form 10-K for the year ended December 31, 2004. This delay in filing the Form 10-K also resulted in a default under FNA's agreement with Wachovia Bank. On September 13, 2005, FNA received the written consent from holders of the outstanding Senior Notes waiving the default in performance of this covenant and consenting to the adoption of the 54 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) First Supplemental Indenture and Waiver (the "First Supplemental Indenture") among Fedders Corporation, FNA, the Guarantors named in the Indenture (the "Guarantors"), and U.S. Bank National Association, as Trustee (the "Trustee"). In connection with the waiver of the default, the First Supplemental Indenture amended the Indenture as follows: - To include the Company under certain covenants of the Indenture; - To limit the Company, FNA and the Restricted Subsidiaries, as defined in the First Supplemental Indenture (the "Restricted Subsidiaries"), from making restricted payments during the Waiver Period, including incurring debt obligations, making acquisitions, or paying dividends without sufficient consolidated net income beginning January 1, 2006. The Company suspended declaring dividends after the second quarter of 2005. The amount of unpaid dividends on the Company's Series A Cumulative Preferred Stock was $6,861, or $3.225 per preferred share, at December 31, 2006 and $2,287, or $1.075 per preferred share, at December 31, 2005. - To require the Company to enter into a pledge agreement pursuant to which it granted a second lien on the stock of Fedders International, Inc. to secure its obligations under its guarantee in the Indenture. The loan from the State of Illinois has an interest rate of 1%, is to be paid over the next three years, and is collateralized by a mortgage on the Company's Illinois facility. The Trion Industrial Revenue Bond is due in November 2011, bears interest at a variable rate which fluctuates in accordance with the Bond Market Association Index, and requires no principal payments until maturity. This bond is collateralized by Trion's Sanford, North Carolina facility, including real property and equipment. The Eubank Manufacturing Enterprises, Inc. promissory note due to Flag Bank was paid in August, 2005 and had a variable rate of interest, payable at the prime rate. The promissory note was collateralized by certain real property and equipment. The Eubank Manufacturing Enterprises Inc. mortgage with JP Morgan Chase has an interest rate of 4.25%, is to be paid over the next three years and is collateralized by a mortgage on Eubank's facility. In December 2004, Fedders Addison Company obtained a $2,500 term loan with Wachovia Bank, NA. The loan is collateralized by a mortgage on real estate in Orlando, Florida and is to be paid over the next seven years. The rate of interest on the loan is the prime rate. 6. COMMITMENTS The Company leases certain property and equipment under operating leases. Most of these operating leases contain one of the following options: (a) the Company may, at the end of the initial lease term, purchase the property at the then fair market value or (b) the Company may renew its lease at the then fair rental value for a period of one month to five years. The Company also has contractual minimum payments under license agreements. Minimum payments for operating leases having non-cancelable terms and contractual minimum payments under the license agreements are as follows:
YEAR 2007 2008 2009 2010 2011 THEREAFTER TOTAL ---- ------ ------ ------ ------ ------ ---------- ------- Amount................... $4,963 $4,888 $4,208 $3,692 $3,379 $7,640 $28,770
Total rent and licensing expense amounted to $4,667, $7,097, and, $10,811, for the years ended December 31, 2006, 2005, and 2004, respectively. 55 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 7. INCOME TAXES The provision (benefit) for income taxes consists of the following:
YEAR ENDED YEAR ENDED YEAR ENDED DECEMBER 31, DECEMBER 31, DECEMBER 31, 2006 2005 2004 ------------ ------------ ------------ Current: Federal........................... $ -- $ -- $ 756 State............................. 167 180 34 Foreign........................... 375 53 817 ------- ----- -------- Total current.............................. 542 233 1,607 ------- ----- -------- Deferred: Federal.......................... 15,524 -- (15,500) State........................... 3,716 (70) (617) Foreign......................... 1,327 (49) (184) ------- ----- -------- Total deferred............................. 20,567 (119) (16,301) ------- ----- -------- Total...................................... $21,109 $ 114 $(14,694) ======= ===== ========
Deferred income tax assets and liabilities result from temporary differences between assets and liabilities for financial reporting and income tax purposes. The components follow:
DECEMBER 31, DECEMBER 31, 2006 2005 ------------ ------------ Warranty............................................ $ 2,466 $ 2,560 Plant and equipment and depreciation................ 4,986 (3,408) Employee benefit programs........................... 8,255 6,675 Inventory........................................... 2,691 3,455 Net operating loss and tax credit carry-forwards.... 55,554 34,920 Restructuring....................................... 30 76 Other............................................... (321) (233) -------- -------- Total gross value................................... 73,661 44,045 Valuation allowance................................. (73,661) (23,478) -------- -------- Total............................................... $ -- $ 20,567 ======== ========
At December 31, 2006 and 2005, $0 and $3,882 of current deferred tax assets were included in current assets, $0 and $21,629 of long-term deferred tax assets were included in non-current assets, and $0 and $4,944 of deferred income tax liabilities were included in other long-term liabilities. Based on Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes", the Company recorded a valuation allowance against all deferred tax assets in 2006. Accordingly, the reported effective tax rate reflects only provisions for foreign and state income taxes. 56 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The difference between the United States statutory income tax rate and the consolidated effective income tax rate is due to the following:
DECEMBER 31, DECEMBER 31, DECEMBER 31, 2006 2005 2004 ------------ ------------ ------------ Expected tax at statutory rate............. $(36,230) $(26,405) $(14,663) Tax difference on foreign earnings......... (2) 2,466 410 Valuation allowance reflected in current income................................... 50,183 22,497 205 Goodwill impairment........................ 8,743 -- -- State taxes, less federal income tax benefit.................................. (1,814) (444) (371) Tax benefit of foreign earnings repatriation............................. -- -- (1,110) Tax on foreign dividends-net............... (90) 703 204 Other...................................... 319 1,297 631 -------- -------- -------- Total...................................... $ 21,109 $ 114 $(14,694) ======== ======== ========
At December 31, 2006, the Company had U.S. federal and foreign net operating loss carry-forwards of approximately $136,000 and $14,000, respectively. Nearly all of the U.S. federal net operating loss carry-forward is available for utilization over an 18-20 year period, and the foreign net operating loss carry-forwards have various lives. In 2006, the Company established a full valuation allowance against its U.S. and foreign net deferred tax assets. The Company will continue to reflect a full valuation allowance against its future tax benefits until an appropriate level of profitability is sustained. The American Jobs Creation Act of 2004 was enacted on October 22, 2004 and provides for a limited time an 85% dividend received deduction on the repatriation of specified foreign earnings, effectively taxing those dividends at 5.25%. The Company made its evaluation of this tax benefit and intends to repatriate foreign earnings under this provision, including amounts that the Company reflected in its U.S. tax provision in prior years. Accordingly, the Company reduced its U.S. tax provision at December 31, 2004 by $1,110 for the U.S. tax differential. 8. REPORTABLE SEGMENTS The Company has two reportable segments: Heating, Ventilation, and Air Conditioning ("HVAC") and Engineered Products. The Company's reportable segments were determined based upon several factors, including the nature of the products sold and markets served. Each reportable segment is managed separately and includes various operating units which have been aggregated due to similar economic characteristics. The HVAC segment designs, manufactures and distributes window, residential split system condensing units and air handlers, gas furnaces, multi-split systems, through-the-wall, commercial and residential packaged unit air conditioners, residential humidifiers, dehumidifiers and air cleaners. HVAC products are distributed through a variety of sales channels including national retailers, regional retailers, wholesale distributors, catalog supply houses, private label/OEM, government direct and the Internet. The Engineered Products segment designs, manufactures and distributes commercial and industrial media filters, electronic filters, humidifiers, dust collectors, and fan filter units. These products are sold through manufacturers' representatives, distributors and direct sales to end-users. 57 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Summary of Business by Segment:
YEAR ENDED YEAR ENDED YEAR ENDED DECEMBER 31, DECEMBER 31, DECEMBER 31, 2006 2005 2004 ------------ ------------ ------------ Net sales: HVAC........................................... $ 250,682 $267,504 $372,010 Engineered Products............................ 28,573 30,212 27,475 --------- -------- -------- Total net sales.................................. $ 279,255 $297,716 $399,485 ========= ======== ======== Earnings/(loss) by segment before items below: HVAC........................................... $ (21,769) $(19,844) $(12,199) Engineered Products............................ 465 2,079 1,277 --------- -------- -------- Total segment earnings/(loss) before items below.......................................... (21,304) (17,765) (10,922) --------- -------- -------- Goodwill impairment.............................. 54,011 -- -- Other asset impairment and restructuring charges (credits)...................................... 3,666 21,396 (842) Corporate expenses............................... 2,791 13,984 3,674 (Income)/loss from discontinued operations....... -- (13,476) (1,094) (Income)/loss on debt extinguishments............ -- -- 8,075 Interest expense, net............................ 21,743 22,298 20,066 Provision/(benefit) for income taxes............. 21,109 114 (14,694) --------- -------- -------- Net income/(loss)................................ $(124,624) $(62,081) $(26,107) ========= ======== ========
YEAR ENDED YEAR ENDED YEAR ENDED DECEMBER 31, DECEMBER 31, DECEMBER 31, DEPRECIATION AND AMORTIZATION 2006 2005 2004 ----------------------------- ------------ ------------ ------------ HVAC............................................. $6,877 $ 9,198 $ 8,861 Engineered Products.............................. 1,021 2,043 1,845(a) Corporate........................................ 50 202 323 ------ ------- ------- Consolidated depreciation and amortization....... $7,948 $11,443 $11,029 ====== ======= =======
-------- (a) Depreciation and amortization include $357 for Melcor that was sold in 2005.
YEAR ENDED YEAR ENDED YEAR ENDED DECEMBER 31, DECEMBER 31, DECEMBER 31, PROPERTY, PLANT AND EQUIPMENT ADDITIONS 2006 2005 2004 --------------------------------------- ------------ ------------ ------------ HVAC............................................. $2,727 $7,025 $5,490 Engineered Products.............................. 174 938 899(a) Corporate........................................ 18 19 442 ------ ------ ------ Consolidated property, plant and equipment additions...................................... $2,919 $7,982 $6,831 ====== ====== ======
-------- (a) Additions include $112 for Melcor that was sold in 2005. 58 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
DECEMBER 31, DECEMBER 31, TOTAL ASSETS 2006 2005 ------------ ------------ ------------ HVAC................................................ $113,269 $240,281 Engineered Products................................. 27,666 40,287 Corporate........................................... 40,425 50,486 -------- -------- Consolidated assets................................. $181,360 $331,054 ======== ========
At December 31, 2006 and 2005, $4,867 and $3,454 of investment in equity method investees were included in total assets of the HVAC segment. SUMMARY OF NET SALES BY GEOGRAPHIC AREA
U.S. GERMANY PHILIPPINES CANADA OTHER(1) CONSOLIDATED -------- ------- ----------- ------- -------- ------------ Year ended December 31, 2006... $214,159 $21,930 $10,489 $23,830 $ 8,847 $279,255 Year ended December 31, 2005... 213,705 19,666 12,777 23,704 27,864 297,716 Year ended December 31, 2004... 302,891 30,275 12,654 16,452 37,213 399,485
-------- (1) "Other" includes the Company's net sales principally to Asia and Europe (excluding countries identified separately) and Mexico. SUMMARY OF LONG-LIVED ASSETS BY GEOGRAPHIC AREA
U.S. OTHER(2) CONSOLIDATED -------- -------- ------------ December 31, 2006 ............................. $ 60,969 $19,681 $ 80,650 December 31, 2005.............................. 110,786 34,514 145,300
-------- (2) "Other" includes long-lived assets located principally in Asia. For the years ended December 31, 2006, 2005 and 2004, two HVAC customers, Wal-Mart and The Home Depot, accounted for net sales of 28%, 35%, and 50%, respectively. Sales to Menards for the year ended December 31, 2006 accounted for 11% of net sales. In November, 2005, the Company disclosed it would discontinue selling room air conditioners through The Home Depot retail stores in the United States for 2006 (but would continue to sell to The Home Depot in Canada and Home Depot Supply) due to low profit margins and high working capital requirements. In the fourth quarter of 2006, the Company determined it will no longer sell room air conditioners through Wal-Mart and the remaining The Home Depot business. Consequently, these two customers will no longer be significant revenue sources. It is not practical for the Company to report revenues for each product or group of similar products as there is not a uniform product information management system. 9. CAPITAL STOCK On November 8, 2006, the Company's common stock began trading Over The Counter after the New York Stock Exchange ("NYSE") de-listed the Company's common stock because the Company was not in compliance with the NYSE's continuing listing standards. The Company's average market capitalization and stockholders' equity were both less than the required $75 million. Only one of these criteria had to be satisfied. On February 22, 2006; June 20, 2006;November 8, 2005;and October 1, 2003, the Company granted certain officers 100,000; 300,000; 100,000; and 150,000 shares, respectively, of restricted Common Stock of the Company. In each case, the officers are not permitted to sell, assign, transfer, pledge or otherwise encumber these shares for three to five years. 59 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) On March 7, 2005, the Company acquired eighty percent of the stock of Islandaire, Inc. for a combination cash and stock. (See Note 12) On December 5, 2003, the Company's Board of Directors authorized the distribution of transferable rights to the holders of the Company's Common and Class B stock. In the rights offering, holders of Common Stock and Class B Stock as of December 22, 2003 received subscription rights to purchase shares of Series A Cumulative Preferred Stock. Every 20 rights entitled the holder to purchase one share of Cumulative Preferred Stock at the subscription price of $23.70 per share, and carried with it a basic subscription right and an over- subscription right. As of January 16, 2004, 1,195,092 shares of Cumulative Preferred Stock were issued as result of the offering for gross proceeds of $28.3 million. Series A Cumulative Preferred Stock: The Series A Cumulative Preferred Stock receives a cumulative annual dividend of $2.15, if and when declared by the Board of Directors, and has a liquidation preference of $25.00 plus the amount of any unpaid dividends. As of December 31, 2006, cumulative unpaid preferred dividends amounted to $6,861, or $3.225 per preferred share.. The holders of the Series A Cumulative Preferred Stock have no right to vote, except in limited circumstances. Common Stock: As of December 31, 2006, 2,682,488 shares of Common Stock were reserved for the exercise of stock options and 2,492,401 shares of Common Stock were reserved for the conversion of shares of Class B Stock. Class B Stock: Class B Stock is immediately convertible into Common Stock on a share-for-share basis if the number of outstanding shares of Class B Stock falls below 2.5% of the aggregate number of issued and outstanding shares of Common Stock and Class B Stock. Class B Stock has greater voting power, in certain circumstances (ten-to-one in the election of directors), and has limited transferability. Class B Stock also votes separately, as a class, on certain significant issues. Based upon the number of shares of Common Stock and Class B Stock currently outstanding, in the event that the Class B Stock became entitled to 10 votes per share in the election of directors, the holders of the Class B Stock when combined with their common shares, would have the power to elect all of the directors. The following table summarizes the number of shares outstanding by class of stock:
COMMON CLASS B PREFERRED STOCK STOCK STOCK ---------- --------- --------- Balance at December 31, 2003................. 27,923,129 2,493,046 674,837 Stock options exercised...................... 38,750 -- -- Stock rights offering........................ -- -- 1,195,092 Other........................................ 45,838 (535) -- ---------- --------- --------- Balance at December 31, 2004................. 28,007,717 2,492,511 1,869,929 Restricted stock granted..................... 100,000 -- -- Islandaire acquisition....................... 100,000 -- 257,484 Other........................................ 87,390 (110) -- ---------- --------- --------- Balance at December 31, 2005................. 28,295,107 2,492,401 2,127,413 Restricted stock granted..................... 400,000 -- -- Treasury stock sold to officer............... 1,351,352 -- -- Other........................................ 82,984 (220) -- ---------- --------- --------- Balance at December 31, 2006................. 30,129,443 2,492,181 2,127,413
60 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 10. STOCK OPTION PLANS The stock option plan, as approved by the stockholders, provides for granting incentive stock options (as defined under current tax laws) and non- qualified stock options to employees and officers. The plan provides for the granting of non-qualified stock options to directors who are not employees. On December 29, 2004, the Company's Board of Directors approved the elimination of vesting restrictions on all outstanding stock options. Effective January 1, 2006, the Company adopted FAS 123(R) "Share-Based Payment". The Company intends to measure the fair value of each stock option grant at the date of grant using a Binomial option-pricing model. There were no options granted during 2006, 2005, and 2004. The following assumptions were used in arriving at the fair value of options granted in 2003: risk-free interest rate of 3.0%; and dividend yields of 2.1%; expected volatility of 39%; and expected lives of 5 years. Risk free interest rate reflects the yield on zero- coupon U.S. Treasury securities. Expected dividend yields presume a set dividend rate. Expected volatilities are based on implied volatilities from traded options and historical volatility of our stock. The expected option lives are based on our historical experience of employee exercise behavior. There were no options exercised during 2006 and 2005. Cash receipt from option exercises during 2004 was $118. As of December 31, 2006, there was no unrecognized compensation cost related to nonvested options. The stock option plan summary and changes during each period are presented below:
YEAR ENDED YEAR ENDED YEAR ENDED DECEMBER 31, EXERCISE DECEMBER 31, EXERCISE DECEMBER 31, EXERCISE 2006 PRICE(1) 2005 PRICE(1) 2004 PRICE(1) ------------- -------- ------------- -------- ------------- -------- Options outstanding at beginning of period....... 1,128,750 $4.25 1,474,000 $4.30 1,981,000 $4.10 Granted..................... -- -- -- -- -- Canceled/Expired............ (100,000) $4.92 (345,250) $3.36 (468,000) $3.56 Exercised................... -- -- -- -- (39,000) $3.02 ------------- ----- ------------- ----- ------------- ----- Options outstanding at end of period................. 1,028,750 $4.18 1,128,750 $4.25 1,474,000 $4.30 ============= ===== ============= ===== ============= ===== Options exercisable at end of period................. 1,028,750 $4.18 1,128,750 $4.25 1,474,000 $4.30 ============= ===== ============= ===== ============= ===== Exercise price per share.... $3.02 - $5.65 $3.02 - $5.65 $3.02 - $5.65 ============= ============= =============
-------- (1) weighted average 11. DEFERRED RETIREE OBLIGATION AND OTHER COMPENSATION ARRANGEMENTS The Company maintains a qualified 401(k) defined contribution plan covering all U.S. employees and non-qualified plan covering certain U.S. employees. Company matching contributions, which were suspended during 2005 except for Islandaire, under the plan were based on the level of individual participant contributions and amounted to $58, $343, and $606 in 2006, 2005, and 2004, respectively. The Company does not have a pension plan, but has retiree agreements with certain retired employees. In fiscal 2002, the Company entered into an employment agreement with an officer. The agreement provided for annual base and incentive compensation, a non-interest bearing, uncollateralized loan, which the Company expects to collect over the six-year period following the officer's retirement or termination (see Note 1), a retirement contribution that vests over the life of the agreement and restricted stock, of which a portion vested in January 2004 and a portion vested in January 2007. The Company is amortizing the retirement contribution over the vesting 61 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) period and the value of the restricted stock, commencing on the date of grant, over the remaining life of the agreement. The Company provides a portion of health care and life insurance benefits for certain retired employees who elect to participate in the Company's plan. SFAS 106 requires accrual accounting for all post-retirement benefits other than pensions. At December 31, 2006 and 2005, post-retirement benefits, although immaterial, were fully accrued with no significant change between these dates. The Company has an unfunded deferred retiree obligation for certain retirees. This expense was $620 and $597 for the years ended December 31, 2006 and 2005, respectively. The following tables summarize certain information with respect to this obligation. DEFERRED RETIREE OBLIGATION
YEAR ENDED YEAR ENDED DECEMBER 31, DECEMBER 31, 2006 2005 ------------ ------------ CHANGE IN BENEFIT OBLIGATION Benefit obligation at beginning of year............. $10,280 $11,228 Actuarial change.................................... (1,837) -- Interest cost....................................... 620 597 Actuarial loss...................................... 194 132 Benefits paid....................................... (1,660) (1,677) ------- ------- Benefit obligation at end of year................... $ 7,597 $10,280 ======= ======= Weighted-average assumptions as of December 31: Discount rate....................................... 8.03% 5.75%
Estimated future payments:
YEAR 2007 2008 2009 2010 2011 THEREAFTER ---- ------ ------ ------ ------ ---- ---------- Amount................................ $1,661 $1,628 $1,594 $1,561 $772 $1,542
12. ACQUISITIONS On March 7, 2005, the Company completed the acquisition of eighty percent of the stock of Islandaire, Inc. ("Islandaire") for a combination of $9,550 in cash, 257,484 shares of Preferred Stock valued at $6,437, 100,000 shares of Common Stock valued at $310, and $32 of transaction costs, which primarily consisted of fees paid for appraisals, legal and accounting services. The Company is obligated to purchase the remaining twenty percent of Islandaire stock within three years at a price based on a multiple of trailing EBITDA (earnings before interest, taxes, depreciation, and amortization). The results of operations of Islandaire have been included in the Company's consolidated financial statements since the acquisition date. The acquisition was not material to the Company's operations, financial position, or cash flows, and thus pro-forma information has not been presented. Islandaire is located in East Setauket, New York and now operates as Fedders Islandaire, Inc. It manufactures and markets specialized through-the- wall packaged terminal air conditioners (PTACs) and heat pumps, primarily for replacement applications in apartment buildings, hotels and motels, and institutional buildings such as schools, offices, hospitals, and nursing homes. Islandaire's replacement PTAC units fit into existing wall openings without alteration to the structure of the building. The addition of Islandaire's products extends the Company's existing commercial HVAC product line. This subsidiary has been included within the HVAC reportable segment. 62 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The Company has accounted for the acquisition under the purchase method of accounting according to SFAS No. 141, "Business Combinations". The purchase price has been allocated based on estimated fair values as of the acquisition date. The following table represents the purchase price allocation.
AT MARCH 7, 2005 ---------------- Cash....................................................... $ 158 Accounts receivable........................................ 3,412 Inventory.................................................. 3,862 Other current assets....................................... 226 Property, plant and equipment.............................. 880 Goodwill................................................... 9,582 Intangible assets: Customer relationships (estimated useful life of 10 years)................................................ 3,300 Engineering drawings (estimated useful life of 2 years).. 300 Non-competition agreement (estimated useful life of 5.5 years)................................................ 1,100 Other intangible assets.................................. 42 Current liabilities........................................ (5,930) Long-term debt............................................. (168) Minority interest.......................................... (435) ------- Net assets acquired........................................ $16,329 =======
The amount assigned to intangible assets primarily represents customer relationships, a non-competition agreement, and engineering drawings and was based on a third-party appraisal. The intangible assets will be amortized over periods ranging from two to ten years using the straight-line method. None of the goodwill is tax deductible because stock was acquired. The Islandaire facility continues to be leased from an officer of the subsidiary at a market rate. On November 1, 2004, the Company completed the acquisition of a wholly owned air conditioning manufacturing operation in Orlando, Florida, Fedders Addison Company, Inc.("Addison"). The Company accounted for the acquisition under the purchase method of accounting according to SFAS No. 141, and the results of Addison's operations have been included in the consolidated financial statements since that date. Addison manufactures and markets a broad line of air conditioning products primarily serving commercial and institutional markets. The addition of Addison's products extends the Company's existing commercial line from its Fedders Eubank division. This subsidiary is included within the HVAC reportable segment. The acquisition was not material to the Company's operations, financial position, or cash flows, and thus pro-forma information has not been presented. The cash purchase price was $7,814, and no goodwill resulted from the transaction. The following table summarizes the estimated fair values of the assets acquired and liabilities assumed at the date of acquisition.
AT NOVEMBER 1, 2004 ------------------- Accounts receivable...................................... $ 3,130 Inventory................................................ 3,359 Other current assets..................................... 27 Property, plant, and equipment........................... 4,554 Goodwill................................................. -- Current liabilities...................................... (3,256) ------- Net assets acquired...................................... $ 7,814 =======
63 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The Company's consolidated financial statements include the operating results of the acquired businesses from the date of acquisition. On a pro forma basis, as if the businesses had been acquired at the beginning of the year, revenue, net income, and earnings per share would not have differed materially from the amounts reported in the consolidated financial statements for the year. 13. LOAN GUARANTEES FASB Interpretation ("FIN") 45, "Guarantor's Accounting And Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others", clarifies that a guarantor is required to recognize, at the inception of a guarantee, a liability for the fair value of the obligation undertaken in issuing the guarantee. Guarantees of subsidiary debt by (the "Parent") and subsidiaries consist of the following at December 31, 2006: (i) The Parent guarantees the obligations of FNA under its 9 7/8% Senior Notes due 2014. This is a guarantee of payment of principal and interest on the Senior Notes that arose in connection with the issuance and sale of $155 million in principal amount of the Notes. The Parent would be required to perform under the guarantee in the event FNA failed to pay principal and interest when due or to perform its obligations under the Indenture, including the First Supplemental Indenture, pursuant to which the Notes were issued. (ii) Prior to March 20, 2007, the Parent and various subsidiaries guaranteed the obligations of certain subsidiaries under a $75 million working capital line of credit. The line of credit bore interest at Libor +2.5% or the prime rate of Wachovia Bank and was to expire in January 2011. The Parent and guarantor subsidiaries would be required to perform under the guarantees in the event that the borrowing subsidiaries failed to repay amounts borrowed under the line of credit and interest and other charges associated therewith, or failed to comply with the provisions of the credit agreement. The outstanding loan balance at December 31, 2006 was $20.3 million which was paid in full on March 20, 2007. (iii) The Parent guarantees the obligations of a subsidiary, Fedders Eubank Company, Inc., under an equipment financing lease in the amount of $3.1 million. The lease bears interest at the rate of 7.16% per annum and expires in December 2007. The Parent would be required to perform under the guarantee in the event Fedders Eubank fails to pay rent when due or fails to comply with the provisions of the lease agreement. The outstanding loan balance at December 31, 2006 was $1.1 million. (iv) The Parent guarantees the obligations of a subsidiary, Fedders Eubank Company, Inc., under a mortgage agreement providing for a loan of $1.0 million. The loan has an interest rate of 4.25% and matures in June 2008. The Parent would be required to perform under the guarantee in the event Fedders Eubank fails to pay the principal of and interest on the loan or fails to comply with the provisions of the loan agreement. The outstanding loan balance at December 31, 2006 was $0.3 million. (v) The Parent guarantees the obligations of a subsidiary, Fedders Koppel, Inc. ("FK"), under a Philippines peso 75 million term loan. The loan bears interest at the rate set by China Bank and matures September 2006. The Parent would be obligated to perform under the guarantee in the event that FK fails to pay the principal of and interest on the loan or fails to comply with the provisions of the loan agreement. The outstanding loan balance at December 31, 2006 was $0.3 million. (vi) The Parent guarantees the obligations of a subsidiary, Fedders Koppel, Inc. ("FK"), under a Philippines peso 50 million working capital line of credit. The line of credit bears interest at 11.5% per annum and matures September, 2007. The Parent would be required to perform under the guarantee in the event that FK fails to repay amounts borrowed under the line of credit and interest and other charges associated therewith, or fails to comply with the provisions of the credit agreement. The outstanding loan balance at December 31, 2006 was zero. (vii) The Parent guarantees the obligations of a subsidiary, Fedders Koppel, Inc. ("FK"), under a Philippines peso 45 million working capital line of credit. The line of credit bears interest at 10.0% per annum 64 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) and matures September, 2006. The Parent would be required to perform under the guarantee in the event that FK fails to repay amounts borrowed under the line of credit and interest and other charges associated therewith, or fails to comply with the provisions of the credit agreement. The outstanding loan balance at December 31, 2006 is $0.4 million. The Company also provides loan guarantees to a joint venture which is not consolidated in the Company's financial statements. (i) On November 30, 2004, Fedders International, Inc., ("FI") a subsidiary of the Company, guaranteed up to 50% of the obligations of a 50%-owned joint venture, Universal Comfort Products Pvt., Ltd., ("UCPL"), under a Rupees 37.5 million term loan. The loan bears interest at the rate of State Bank Mid Term Loan Rate and matures November 2008. FI would be obligated to perform under the guaranty in the event UCPL fails to pay the principal of and interest on the loan or fails to comply with the terms of the loan agreement. FI has accounted for this guarantee under FIN 45 and recorded less than $0.6 million as a liability associated with this guarantee. 14. ASSETS HELD FOR SALE There were no assets held for sale at December 31, 2006. At December 31, 2005, assets at the Company's Columbia, Tennessee facility totaling $843 are classified as "Assets Held for Sale". These assets were sold at their carrying value on February 3, 2006. The following table presents the carrying amount, by asset class, of the "Assets Held for Sale":
DECEMBER 31, DECEMBER 31, 2006 2005 ------------ ------------ Land and land improvements.......................... $-- $184 Building, net....................................... -- 659 Machinery and equipment, net........................ -- -- --- ---- $-- $843 === ====
65 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 15. SUBSEQUENT EVENTS On March 20, 2007, the Company obtained a new $50,000 senior secured term loan and a $40,000 secured revolving credit facility arranged through Goldman Sachs Credit Partners L.P. and repaid the balance outstanding on its existing secured revolving facility and supplemental term loan with Wachovia. As a result, $20,277 of debt was reclassified from short-term to long-term in the Company's December 31, 2006 balance sheet (see Note 4). The pro forma impact as if the financing agreement were completed at December 31, 2006 is shown below.
AT DECEMBER 31, 2006 ------------------------- AS REPORTED PRO FORMA ----------- ----------- (UNAUDITED) ASSETS Cash and cash equivalents.................................. $ 4,789 $ 17,611 All other current assets................................... 81,427 81,427 --------- --------- Current assets................................... 86,216 99,038 Non-current assets......................................... 95,144 98,714 --------- --------- Total assets............................................... $ 181,360 $ 197,752 LIABILITIES AND STOCKHOLDERS' EQUITY/(DEFICIT) Current liabilities: Short-term notes......................................... $ 17,777 $ 17,777 Current portion of long-term debt........................ 2,487 2,487 Accounts payable......................................... 40,795 30,795 All other current liabilities............................ 41,086 41,086 --------- --------- Current liabilities.............................. 102,145 92,145 Long-term debt............................................. 177,479 204,301 All other liabilities...................................... 23,102 23,102 --------- --------- Total liabilities................................... 302,726 319,548 Stockholders' equity/(deficit): All other stockholders' equity/(deficit)................... (121,366) (122,796) Warrants................................................... -- 1,000 --------- --------- Total stockholders' equity/(deficit).................. (121,366) (121,796) Total liabilities and stockholders' equity/(deficit)....... $ 181,360 $ 197,752 ========= =========
66 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 16. SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL STATEMENTS FNA and the Company are the issuer and the guarantor, respectively, of the $155 million 9 7/8% Senior Notes due 2014. In addition, the subsidiaries of FNA are also guarantors of the notes. The Company's and the subsidiaries' guarantees are full and unconditional. The following condensed consolidating financial statements present separate information for FNA and its guarantor subsidiaries, the Parent, and the other non-guarantor subsidiaries and should be read in conjunction with the consolidated financial statements of the Company. The following presentation has been prepared on a historical basis taking into account the guarantor/non- guarantor structure that resulted from the issuance of the Senior Notes due 2014 in March 2004 (see Note 5). CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 2006 ----------------------------------------------------------- FEDDERS NORTH OTHER ELIMINATING FEDDERS AMERICA FEDDERS CORPORATE ENTRIES CORPORATION -------- -------- --------- ----------- ----------- Net sales........................... $233,830 $ 45,425 $ -- $ -- $ 279,255 Cost of sales....................... 214,176 27,914 284 -- 242,374 Selling, general and administrative expense(a)........................ 39,995 13,031 6,150 -- 59,176 Asset impairment, employee severance and other restructuring credits... 2,643 660 363 -- 3,666 Goodwill impairment................. 44,979 9,032 -- -- 54,011 -------- -------- --------- ------- --------- Operating income/(loss)............. (67,963) (5,212) (6,797) (79,972) Income/(loss) from minority interest and net interest in unconsolidated subsidiaries...................... (472) 940 -- -- 468 Equity income (loss) in investment.. -- -- (89,348) 89,348 -- Interest expense, net(b)............ 18,936 2,807 -- -- 21,743 Other (income)/expense.............. (2,224) 4,721 (229) -- 2,268 -------- -------- --------- ------- --------- Income/(loss) before income taxes... (85,147) (11,800) (95,916) 89,348 (103,515) Provision for income taxes.......... 459 974 19,676 -- 21,109 -------- -------- --------- ------- --------- Net income/(loss) from continuing operations........................ (85,606) (12,774) (115,592) 89,348 (124,624) Income/(loss) from discontinued operations........................ -- -- -- -- -- -------- -------- --------- ------- --------- Net income/(loss)................... (85,606) (12,774) (115,592) 89,348 (124,624) Preferred stock dividends........... -- -- 4,574 -- 4,574 -------- -------- --------- ------- --------- Net income/(loss) applicable to common stockholders............... $(85,606) $(12,774) $(120,166) $89,348 $(129,198) ======== ======== ========= ======= =========
67 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 2005 ----------------------------------------------------------- FEDDERS NORTH OTHER ELIMINATING FEDDERS AMERICA FEDDERS CORPORATE ENTRIES CORPORATION -------- -------- --------- ----------- ----------- Net sales............................ $248,749 $146,715 $ -- $(97,748) $297,716 Cost of sales........................ 222,682 133,106 -- (97,748) 258,040 Selling, general and administrative expense(a)......................... 45,191 16,375 9,483 -- 71,049 Asset impairment, employee severance and other restructuring credits.... 11,019 10,377 -- -- 21,396 -------- -------- -------- -------- -------- Operating income/(loss).............. (30,143) (13,143) (9,483) -- (52,769) Income/(loss) from minority interest and net interest in unconsolidated subsidiaries....................... (352) 989 -- -- 637 Equity income in investment.......... -- -- (62,933) 62,933 -- Interest expense, net(b)............. 18,999 2,188 1,111 -- 22,298 Other (income)/expense............... (701) 1,639 75 -- 1,013 -------- -------- -------- -------- -------- Income/(loss) before income taxes.... (48,793) (15,981) (73,602) 62,933 (75,443) (Benefit) provision for income taxes.............................. 127 132 (145) -- 114 -------- -------- -------- -------- -------- Net income/(loss) from continuing operations......................... (48,920) (16,113) (73,457) 62,933 (75,557) Income/(loss) from discontinued operations......................... 1,990 110 11,376 -- 13,476 -------- -------- -------- -------- -------- Net income/(loss).................... (46,930) (16,003) (62,081) 62,933 (62,081) Preferred stock dividends............ -- -- 4,436 -- 4,436 -------- -------- -------- -------- -------- Net income/(loss) applicable to common stockholders................ $(46,930) $(16,003) $(66,517) $ 62,933 $(66,517) ======== ======== ======== ======== ========
68 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) CONDENSED CONSOLIDATING STATEMENT OF OPERATION
YEAR ENDED DECEMBER 31, 2004 ----------------------------------------------------------- FEDDERS NORTH OTHER ELIMINATING FEDDERS AMERICA FEDDERS CORPORATE ENTRIES CORPORATION -------- -------- --------- ----------- ----------- Net sales............................ $333,700 $217,754 $ -- $(151,969) $399,485 Cost of sales........................ 295,109 200,895 -- (151,969) 344,035 Selling, general and administrative expense(a)......................... 48,314 21,373 2,128 -- 71,815 Asset impairment, employee severance and other restructuring credits.... (842) -- -- -- (842) -------- -------- -------- --------- -------- Operating income/(loss).............. (8,881) (4,514) (2,128) -- (15,523) Income/(loss) from minority interest and net interest in unconsolidated subsidiaries....................... -- (141) -- -- (141) Equity income in investment.......... -- -- (24,853) 24,853 -- Interest expense, net(b)............. 17,531 2,296 239 -- 20,066 Loss on debt extinguishment.......... 8,075 -- -- -- 8,075 Other (income)/expense............... (742) (781) (387) -- (1,910) -------- -------- -------- --------- -------- Income/(loss) before income taxes.... (33,745) (6,170) (26,833) 24,853 (41,895) (Benefit) provision for income taxes.............................. (11,810) (2,158) (726) -- (14,694) -------- -------- -------- --------- -------- Net income/(loss) from continuing operations......................... (21,935) (4,012) (26,107) 24,853 (27,201) Income/(loss) from discontinued operations......................... 1,094 -- -- -- 1,094 -------- -------- -------- --------- -------- Net income/(loss).................... (20,841) (4,012) (26,107) 24,853 (26,107) Preferred stock dividends............ -- -- 4,020 -- 4,020 -------- -------- -------- --------- -------- Net income/(loss) applicable to common stockholders................ $(20,841) $ (4,012) $(30,127) $ 24,853 $(30,127) ======== ======== ======== ========= ========
69 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) CONDENSED CONSOLIDATING BALANCE SHEETS
AS OF DECEMBER 31, 2006 ------------------------------------------------------------ FEDDERS NORTH OTHER ELIMINATING FEDDERS AMERICA FEDDERS CORPORATE ENTRIES CORPORATION --------- -------- --------- ----------- ----------- ASSETS Current assets: Cash and cash equivalents........... $ 1,490 $ 2,597 $ 702 $ -- $ 4,789 Net accounts receivable............. 20,982 6,543 -- -- 27,525 Inventories......................... 30,604 10,869 -- -- 41,473 Other current assets................ 5,356 6,356 717 -- 12,429 --------- -------- --------- -------- --------- Total current assets................ 58,432 26,365 1,419 -- 86,216 Investments in subsidiaries......... -- -- (185,804) 185,804 -- Net property, plant and equipment... 24,544 14,733 65 -- 39,342 Goodwill............................ 27,493 -- -- -- 27,493 Other intangible assets............. 3,727 -- -- -- 3,727 Other assets........................ 3,821 5,373 15,388 -- 24,582 --------- -------- --------- -------- --------- Total assets........................ $ 118,017 $ 46,471 $(168,932) $185,804 $ 181,360 ========= ======== ========= ======== ========= LIABILITIES AND STOCKHOLDERS' EQUITY/(DEFICIT) Current liabilities: Short-term notes.................... $ -- $ 17,777 $ -- $ -- $ 17,777 Current portion of long-term debt... 2,487 -- -- -- 2,487 Accounts payable.................... 13,124 23,218 4,453 -- 40,795 Accrued expenses.................... 24,545 7,322 9,219 -- 41,086 --------- -------- --------- -------- --------- Total current liabilities........... 40,156 48,317 13,672 -- 102,145 Long-term debt...................... 177,479 -- -- -- 177,479 Other long-term liabilities......... 5,171 3,829 14,102 -- 23,102 Net due to (from) affiliates........ 44,450 30,887 (75,337) -- -- --------- -------- --------- -------- --------- Total liabilities................... 267,256 83,033 (47,563) -- 302,726 --------- -------- --------- -------- --------- Stockholders' equity/(deficit): Preferred Stock..................... 5 -- 21 (5) 21 Common and Class B Stock............ -- -- 398 -- 398 Additional paid-in capital.......... 26,938 27,403 115,487 (54,341) 115,487 Retained earnings/(deficit)(f)...... (176,364) (64,935) (205,574) 241,302 (205,571) Deferred compensation and treasury stock............................. -- -- (32,973) -- (32,973) Accumulated other comprehensive loss.............................. 182 970 1,272 (1,152) 1,272 --------- -------- --------- -------- --------- Total stockholders' equity/(deficit).................. (149,239) (36,562) (121,369) 185,804 (121,366) --------- -------- --------- -------- --------- Total liabilities and stockholders' equity/(deficit).................. $ 118,017 $ 46,471 $(168,932) $185,804 $ 181,360 ========= ======== ========= ======== =========
70 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) CONDENSED CONSOLIDATING BALANCE SHEETS
AS OF DECEMBER 31, 2005 ----------------------------------------------------------- FEDDERS NORTH OTHER ELIMINATING FEDDERS AMERICA FEDDERS CORPORATE ENTRIES CORPORATION -------- -------- --------- ----------- ----------- ASSETS Current assets: Cash and cash equivalents........... $ 6,455 $ 6,300 $ 1,662 $ -- $ 14,417 Net accounts receivable............. 32,275 9,882 -- -- 42,157 Inventories......................... 55,704 18,609 -- -- 74,313 Other current assets................ 3,764 3,762 8,872 (5,340) 11,058 -------- -------- -------- -------- -------- Total current assets................ 98,198 38,553 10,534 (5,340) 141,945 Investments in subsidiaries......... -- -- (89,539) 89,539 -- Net property, plant and equipment... 27,356 17,092 95 -- 44,543 Goodwill............................ 72,980 14,745 -- -- 87,725 Other intangible assets............. 4,726 -- -- -- 4,726 Other assets........................ 4,594 5,198 42,323 -- 52,115 -------- -------- -------- -------- -------- Total assets........................ $207,854 $ 75,588 $(36,587) $ 84,199 $331,054 ======== ======== ======== ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY/(DEFICIT) Current liabilities: Short-term notes.................... $ 34,599 $ 22,141 $ -- $ -- $ 56,740 Current portion of long-term debt... 2,351 119 -- -- 2,470 Accounts payable.................... 14,773 29,154 34 -- 43,961 Accrued expenses.................... 22,835 6,047 11,637 -- 40,519 -------- -------- -------- -------- -------- Total current liabilities........... 74,558 57,461 11,671 -- 143,690 Long-term debt...................... 156,764 1,349 -- -- 158,113 Other long-term liabilities......... 2,817 9,735 22,101 (5,340) 29,313 Net due to (from) affiliates........ 37,539 32,758 (70,297) -- -- -------- -------- -------- -------- -------- Total liabilities................... 271,678 101,303 (36,525) (5,340) 331,116 -------- -------- -------- -------- -------- Stockholders' equity/(deficit): Preferred Stock..................... 5 -- 21 (5) 21 Common and Class B Stock............ -- -- 392 -- 392 Additional paid-in capital.......... 26,927 26,542 115,523 (53,469) 115,523 Retained earnings/(deficit)(f)...... (90,757) (52,164) (76,235) 142,921 (76,235) Deferred compensation and treasury stock............................. -- -- (39,671) -- (39,671) Accumulated other comprehensive loss.............................. 1 (93) (92) 92 (92) -------- -------- -------- -------- -------- Total stockholders' equity/(deficit).................. (63,824) (25,715) (62) 89,539 (62) -------- -------- -------- -------- -------- Total liabilities and stockholders' equity/(deficit).................. $207,854 $ 75,588 $(36,587) $ 84,199 $331,054 ======== ======== ======== ======== ========
71 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31, 2006 ---------------------------------------------------------- FEDDERS NORTH OTHER ELIMINATING FEDDERS AMERICA FEDDERS CORPORATE ENTRIES CORPORATION -------- ------- --------- ----------- ----------- Net cash provided by/(used in) operating activities................ $ 5,259 $(6,948) $ 6,993 $-- $ 5,304 -------- ------- ------- --- -------- Net additions to property, plant and equipment........................... (1,216) (1,685) (18) -- (2,919) Sale of Polenz........................ -- 7,544 -- -- 7,544 Less: escrow associated with Polenz... -- (3,600) -- -- (3,600) Disposal of property, plant and equipment........................... (536) 818 825 -- 1,107 -------- ------- ------- --- -------- Net cash provided by/(used in) investing activities................ (1,752) 3,077 807 -- 2,132 -------- ------- ------- --- -------- Net proceeds from/(repayments of) short-term notes.................... (14,322) (4,364) -- -- (18,686) Net proceeds from/(repayments of) long-term debt...................... (1,242) 5,340 (5,340) -- (1,242) Proceeds from the sale of treasury stock............................... -- -- 1,500 -- 1,500 Change in net due to/(from) affiliate........................... 6,911 (1,871) (5,040) -- -- -------- ------- ------- --- -------- Net cash provided by/(used in) financing activities................ (8,653) (895) (8,880) -- (18,428) -------- ------- ------- --- -------- Other................................. 181 1,063 120 -- 1,364 Net increase/(decrease) in cash and cash equivalents.................... (4,965) (3,703) (960) -- (9,628) Cash and cash equivalents at beginning of year............................. 6,455 6,300 1,662 -- 14,417 -------- ------- ------- --- -------- Cash and cash equivalents at end of year................................ $ 1,490 $ 2,597 $ 702 $-- $ 4,789 ======== ======= ======= === ========
72 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31, 2005 ---------------------------------------------------------- FEDDERS NORTH OTHER ELIMINATING FEDDERS AMERICA FEDDERS CORPORATE ENTRIES CORPORATION -------- ------- --------- ----------- ----------- Net cash provided by/(used in) operating activities................ $ 16,195 $(4,844) $(11,844) $-- $ (493) -------- ------- -------- --- ------- Net additions to property, plant and equipment........................... (1,827) (6,047) -- -- (7,874) Sale of Melcor........................ -- -- 17,124 -- 17,124 Acquisition of Islandaire Inc. ....... (9,426) -- -- -- (9,426) -------- ------- -------- --- ------- Net cash provided by/(used in) investing activities................ (11,253) (6,047) 17,124 -- (176) -------- ------- -------- --- ------- Net proceeds from/(repayments of) short-term notes.................... 4,504 (7,100) -- -- (2,596) Net proceeds from/(repayments of) long-term debt...................... (1,623) (84) -- -- (1,707) Cash dividends........................ -- -- (3,978) -- (3,978) Change in net due to/(from) affiliate........................... (4,146) 9,262 (5,116) -- -- -------- ------- -------- --- ------- Net cash provided by/(used in) financing activities................ (1,265) 2,078 (9,094) -- (8,281) -------- ------- -------- --- ------- Other................................. -- 584 -- -- 584 Net increase/(decrease) in cash and cash equivalents.................... 3,677 (8,229) (3,814) -- (8,366) Cash and cash equivalents at beginning of year............................. 2,778 14,529 5,476 -- 22,783 -------- ------- -------- --- ------- Cash and cash equivalents at end of year................................ $ 6,455 $ 6,300 $ 1,662 $-- $14,417 ======== ======= ======== === =======
73 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31, 2004 ----------------------------------------------------------- FEDDERS NORTH OTHER ELIMINATING FEDDERS AMERICA FEDDERS CORPORATE ENTRIES CORPORATION --------- ------- --------- ----------- ----------- Net cash provided by/(used in) operating activities............... $ 633 $(8,518) $(15,032) $-- $ (22,917) --------- ------- -------- --- --------- Net additions to property, plant and equipment.......................... (1,365) (3,744) (102) -- (5,211) Investment in joint venture.......... -- (1,029) -- -- (1,029) Acquisition of businesses............ (7,814) -- -- -- (7,814) --------- ------- -------- --- --------- Net cash provided by/(used in) investing activities............... (9,179) (4,773) (102) -- (14,054) --------- ------- -------- --- --------- Net proceeds from/(repayments of) short-term notes................... 28,330 (1,205) -- -- 27,125 Net proceeds from/(repayments of) long-term debt..................... 791 (1,717) -- -- (926) Proceeds from stock options exercised.......................... -- -- 117 -- 117 Cash dividends....................... -- -- (7,672) -- (7,672) Proceeds from stock rights offering.. -- -- 28,323 -- 28,323 Net proceeds from issuance of 9 7/8% Senior Note........................ 150,245 -- -- -- 150,245 Repayments of 9 3/8% Senior Subordinated Notes................. (150,000) -- -- -- (150,000) Call premium and deferred financing charges............................ (10,356) -- -- -- (10,356) Other................................ -- -- (221) -- (221) Change in net due to/(from) affiliate.......................... (21,343) 21,280 63 -- -- --------- ------- -------- --- --------- Net cash provided by/(used in) financing activities............... (2,333) 18,358 20,610 -- 36,635 --------- ------- -------- --- --------- Other................................ -- 1,076 -- -- 1,076 Net increase/(decrease) in cash and cash equivalents................... (10,879) 6,143 5,476 -- 740 Cash and cash equivalents at beginning of year.................. 13,657 8,386 -- -- 22,043 --------- ------- -------- --- --------- Cash and cash equivalents at end of year............................... $ 2,778 $14,529 $ 5,476 $-- $ 22,783 ========= ======= ======== === =========
74 FEDDERS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) INTERCOMPANY TRANSACTIONS The historical condensed consolidating financial statements presented above include the following transactions between FNA and the Company: a) The Company charges corporate overhead to FNA essentially on a cost basis allocated in proportion to sales. Such charges to FNA amounted to $9,353 $9,950, and $13,348 for the years ended December 31, 2006, 2005 and 2004, respectively. b) FNA's interest expense reflects actual interest charges on the Senior Subordinated Notes, State of Illinois Promissory Note, capital lease obligations, and a revolving line of credit. c) FNA's depreciation and amortization for the years ended December 31, 2006, 2005 and 2004, amounted to $4,291, $7,192 and $7,855, respectively. Capital expenditures for the years ended December 31, 2006, 2005 and 2004, amounted to 1,216, $1,176, and $2,677, respectively. d) The Company guarantees FNA's obligations under FNA's revolving credit facility. e) The Company's stock option plan includes FNA's employees. f) In the year ended December 31, 2006, 2005 and 2004, FNA did not declare a dividend. g) On March 7, 2005, FNA completed the acquisition of eighty percent of the stock of Islandaire, Inc. (Islandaire) for a combination of $9,550 in cash, 257,484 shares of the Company's Preferred Stock valued at $6,437, and 100,000 shares of the Company's Common Stock valued at $310. Islandaire manufactures and markets specialized through-the-wall packaged terminal air conditioners. On November 1, 2004, FNA completed the acquisition of a wholly owned air conditioning manufacturing operation in Orlando, Florida, Fedders Addison Company, Inc. for $7,814 in cash. This company manufactures and markets a broad line of air conditioning products primarily serving commercial and institutional markets. 75 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors and Stockholders of Fedders Corporation We have audited the accompanying consolidated balance sheets of Fedders Corporation and subsidiaries (the "Company") as of December 31, 2006 and 2005, and the related consolidated statements of operations, stockholders' equity/(deficit), and cash flows for years ended December 31, 2006 and 2005. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Fedders Corporation and subsidiaries as of December 31, 2006 and 2005, and the results of its operations and its cash flows for the years ended December 31, 2006 and 2005, in conformity with accounting principles generally accepted in the United States of America. We also audited the adjustments for discontinued operations described in Note 1 to the consolidated financial statements that were applied to restate the 2004 financial statements. In our opinion, such adjustments are appropriate and have been properly applied. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of the Company's internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control -- Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated March 28, 2007 expressed an unqualified opinion on management's assessment of internal control over financial reporting and an adverse opinion on the effectiveness of internal control over financial reporting because of material weaknesses. The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the consolidated financial statements, the Company has suffered recurring operating losses, significant negative working capital, and decreases in cash and cash equivalents for the last two years and has a substantial stockholders' deficit. These factors raise substantial doubt about its ability to continue as a going concern. Management's plans regarding those matters are also described in Note 1 on page 41 of this Form 10-K. The financial statements do not include any adjustments that might result from the outcome of this uncertainty. As discussed in Note 1 to the consolidated financial statements, in 2005 the Company changed its annual date for testing goodwill impairment from September 1 to October 1. /s/ UHY LLP New York, New York March 28, 2007 76 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Shareholders and Board of Directors of Fedders Corporation: We have audited the accompanying consolidated statements of operations, stockholders' equity, and cash flows of Fedders Corporation and subsidiaries (the "Company") for the year ended December 31, 2004 (prior to the effects of the discontinued operation discussed in Note 1 to the consolidated financial statements), none of which are presented herein. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the results of operations and cash flows of Fedders Corporation and subsidiaries for the year ended December 31, 2004, in conformity with accounting principles generally accepted in the United States of America. /s/ DELOITTE & TOUCHE LLP Parsippany, New Jersey September 30, 2005 77 FEDDERS CORPORATION QUARTERLY FINANCIAL DATA (TABLE AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AND MARKET PRICE DATA)
QUARTER ENDED 2006 --------------------------------------------------- YEAR ENDED MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31, DECEMBER 31, 2006 2006 2006 2006 2006 --------- -------- ------------- ------------ ------------ (UNAUDITED) Net sales............................... $99,701 $ 95,567 $ 51,178 $ 32,809 $ 279,255 Gross profit............................ 12,695 13,689 8,731 1,766 36,881 Income/(loss) from continuing operations before taxes(a)....................... (8,524) (8,586) (11,528) (74,877) (103,515) Income/(loss) from continuing operations(b)......................... (8,801) (8,901) (11,643) (95,279) (124,624) Income/(loss) from discontinued operations............................ -- -- -- -- -- Net income/(loss)....................... (8,801) (8,901) (11,643) (95,279) (124,624) Net income/(loss) applicable to common stockholders.......................... (9,944) (10,045) (12,786) (96,423) (129,198) Comprehensive income/(loss)............. (8,023) (9,344) (10,470) (95,423) (123,260) Basic and diluted earnings/(loss) per common share(c) Continuing operations.............. (0.32) (0.32) (0.41) (3.07) (4.12) Discontinued operations............ -- -- -- -- -- Basic and diluted earnings/(loss) per common share.......................... (0.32) (0.32) (0.41) (3.07) (4.12) Market price per share of common stock High.................................. 1.73 3.04 2.45 1.38 3.04 Low................................... 0.87 1.57 1.18 0.77 0.77
QUARTER ENDED 2005 --------------------------------------------------- YEAR ENDED MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31, DECEMBER 31, 2005 2005 2005 2005 2005 --------- -------- ------------- ------------ ------------ (UNAUDITED) Net sales........................... $72,898 $122,732 $ 63,110 $ 38,976 $297,716 Gross profit........................ 13,612 23,100 7,913 (4,949)(e) 39,676 Income/(loss) from continuing operations before taxes(a)........ (8,504) (1,966) (19,002) (45,971) (75,443) Income/(loss) from continuing operations........................ (8,732) (2,085) (18,918) (45,822) (75,557) Income/(loss) from discontinued operations(d)..................... 635 698 561 11,582 13,476 Net income/(loss)................... (8,097) (1,387) (18,357) (34,240) (62,081) Net income/(loss) applicable to common stockholders............... (9,102) (2,531) (19,502) (35,382) (66,517) Comprehensive income/(loss)......... (8,383) (2,074) (17,888) (33,152) (61,497) Basic and diluted earnings/(loss) per common share(c) Continuing operations.......... (0.32) (0.11) (0.65) (1.53) (2.61) Discontinued operations........ 0.02 0.03 0.02 0.37 0.44 Basic and diluted earnings/(loss) per common share.................. (0.30) (0.08) (0.63) (1.16) (2.17) Market price per share of common stock High.............................. 3.66 2.95 2.84 2.43 3.66 Low............................... 2.83 1.91 1.76 1.65 1.65
-------- (a) In 2006, the Company recorded restructuring charges of $0.6 million during the second quarter, $1.6 million during the third quarter, and $1.5 million during the fourth quarter related to discontinuing to sell room air conditioners and dehumidifiers to The Home Depot and Wal-Mart. 78 In 2005, the Company recorded restructuring charges of $2.7 million during the third quarter and $20.0 million during the fourth quarter to close and consolidate several manufacturing and warehousing facilities. (b) Operating expenses for 2006, include goodwill impairment in the HVAC segment of $54.0 million, and tax expense includes full allowance against all of its deferred tax assets of $20.6 million. Also in 2006, the Company recognized a loss of $3.1 million on the sale of the capital stock of Polenz GmbH for $7.5 million and a gain of $2.6 million on the $4.1 million sale of non-productive land adjacent to its Walkersville, Maryland facility. (c) Quarterly earnings per share may not add to earnings per share for the year due to rounding and changes in the number of weighted average shares outstanding. (d) The Company sold its Melcor Corporation subsidiary in the fourth quarter of 2005 recognizing a gain of $11.4 million. (e) Gross margin was negative for the fourth quarter of 2005 as it was affected by lower sales volume, $7.0 million of additional warranty costs and sales accruals for chargebacks related to the decision not to continue selling products to one large customer, and $1.3 million in costs associated with the implementation of the restructuring plan. 79 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, hereunto duly authorized. FEDDERS CORPORATION By: /s/ ROBERT L. LAURENT, JR. ------------------------------------ Robert L. Laurent, Jr. Executive Vice President, Finance and Acquisitions and Chief Financial Officer March 30, 2007 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.
SIGNATURE TITLE DATE --------- ----- ---- /s/ Salvatore Giordano, Jr. Executive Chairman and a Director March 30, 2007 ------------------------------- Salvatore Giordano, Jr. /s/ Michael Giordano Chief Executive Officer, President, March 30, 2007 ------------------------------- and Michael Giordano a Director (Principal Executive Officer) /s/ William J. Brennan Director March 30, 2007 ------------------------------- William J. Brennan /s/ David C. Chang Director March 30, 2007 ------------------------------- David C. Chang /s/ Michael L. Ducker Director March 30, 2007 ------------------------------- Michael L. Ducker /s/ Joseph Giordano Director March 30, 2007 ------------------------------- Joseph Giordano /s/ Howard S. Modlin Director March 30, 2007 ------------------------------- Howard S. Modlin /s/ Herbert A. Morey Director March 30, 2007 ------------------------------- Herbert A. Morey /s/ S. A. Muscarnera Director March 30, 2007 ------------------------------- S. A. Muscarnera /s/ Anthony E. Puleo Director March 30, 2007 ------------------------------- Anthony E. Puleo /s/ Jitendra V. Singh Director March 30, 2007 ------------------------------- Jitendra V. Singh /s/ Robert L. Laurent, Jr. Executive Vice President, Finance March 30, 2007 ------------------------------- and Acquisitions (Principal Robert L. Laurent, Jr. Financial Officer) /s/ Mark D. Mishler Corporate Controller (Principal March 30, 2007 ------------------------------- Accounting Officer) Mark D. Mishler