10-Q 1 file001.txt QUARTERLY REPORT SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 --------------------------------------- FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES AND EXCHANGE ACT OF 1934 For the Quarter Ended Commission File Number June 30, 2002 0-15045 BHA Group Holdings, Inc. -------------------------------------------------------------- (Exact Name of Registrant as Specified in Its Charter) Delaware 43-1416730 ------------------------------- ------------------------------- (State or Other Jurisdiction of (I.R.S. Employer Identification Incorporation or Organization) Number) 8800 East 63rd Street, Kansas City, Missouri 64133 -------------------------------------------------------------------------------- (Address of Principal Executive Offices) (Zip Code) Registrant's telephone number, including area code (816) 356-8400 -------------- Indicate by checkmark 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 twelve months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] As of July 12, 2002, the number of shares outstanding of the Registrant's Common Stock was 6,119,446. PART I. FINANCIAL INFORMATION BHA GROUP HOLDINGS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(IN THOUSANDS EXCEPT SHARE DATA)) JUNE 30 SEPTEMBER 30, ASSETS 2002 2001 ------ ---------------- ------------------ Current assets: Cash and cash equivalents $12,356 $ 9,471 Accounts receivable, less allowance for doubtful receivables of $1,574 and $1,385, respectively 30,316 29,803 Inventories (note 6) 20,335 22,845 Income taxes receivable 738 379 Prepaid expenses 2,541 2,187 Deferred income taxes 2,655 2,655 ---------------- ------------------- Total current assets 68,941 67,340 ---------------- ------------------- Property, plant and equipment, at cost 65,185 64,322 Less accumulated depreciation and amortization 36,638 36,043 ---------------- ------------------- Net property, plant and equipment 28,547 28,279 ---------------- ------------------- Property held under capital leases 5,582 5,830 Other assets 8,064 9,713 ================ =================== $111,134 $111,162 ================ =================== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Current installments of long-term debt and lease obligations $ 3,069 $ 2,499 Accounts payable 8,524 8,946 Accrued expenses and other current liabilities 11,913 10,659 ---------------- ------------------- Total current liabilities 23,506 22,104 ---------------- ------------------- Long-term deferred income taxes 1,984 1,984 Long-term debt, excluding current installments 13,034 17,769 Long-term lease obligations, excluding current installments 6,200 6,637 Other liabilities 916 1,534 Shareholders' equity: Common stock $0.01 par value. Authorized 20,000,000 shares: Issued 8,877,189 and 8,814,492 shares, respectively 89 88 Additional paid-in capital 62,912 62,536 Retained earnings 39,950 34,916 Accumulated - other comprehensive income (905) (856) Less cost of 2,757,743 and 2,706,417 shares, respectively, of common stock in treasury (36,552) (35,550) ---------------- ------------------- Total shareholders' equity 65,494 61,134 ================ =================== $111,134 $111,162 ================ ===================
See accompanying notes to condensed consolidated financial statements. -2- BHA GROUP HOLDINGS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS FOR THE THREE MONTHS ENDED JUNE 30, 2002 AND 2001 (UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA) 2002 2001 ---- ---- Net sales $41,048 $41,930 Cost of sales 28,132 29,301 ------------------- -------------------- Gross margin 12,916 12,629 ------------------- -------------------- Operating expenses Selling and advertising expense 5,286 5,096 General and administrative expense 4,612 4,684 ------------------- -------------------- Total operating expenses 9,898 9,780 ------------------- -------------------- Operating income 3,018 2,849 ------------------- -------------------- Interest expense, net 117 366 ------------------- -------------------- Earnings before income taxes 2,901 2,483 ------------------- -------------------- Income taxes 834 812 =================== ==================== Net earnings $2,067 $1,671 =================== ==================== Basic earnings per common share $ 0.34 $ 0.27 Diluted earnings per common share $ 0.32 $ 0.26 Basic weighted average number of common shares outstanding 6,117 6,108 Diluted weighted average number of common shares outstanding 6,464 6,433
See accompanying notes to condensed consolidated financial statements. -3- BHA GROUP HOLDINGS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS FOR THE NINE MONTHS ENDED JUNE 30, 2002 AND 2001 (UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA) 2002 2001 ---- ---- Net sales $ 130,521 $ 136,149 Cost of sales 90,282 96,114 ------------------ -------------------- Gross margin 40,239 40,035 ------------------ -------------------- Operating expenses Selling and advertising expense 15,590 15,630 General and administrative expense 14,455 14,371 ------------------ -------------------- Total operating expenses 30,045 30,001 ------------------ -------------------- Operating income 10,194 10,034 ------------------ -------------------- Interest expense, net 519 1,344 ------------------ -------------------- Earnings before income taxes and the cumulative effect of accounting change 9,675 8,690 Income taxes 3,243 2,917 ------------------ -------------------- Income before cumulative effect of an accounting change 6,432 5,773 Cumulative effect of an accounting change, net of income tax benefit of $0 (Note 2) (1,215) -- ------------------ -------------------- Net earnings $ 5,217 $ 5,773 ================== ==================== Earnings per common share Basic Income before cumulative effect of accounting change $ 1.05 $ 0.93 Net income $ 0.85 $ 0.93 Diluted Income before cumulative effect of accounting change $ 1.00 $ 0.88 Net income $ 0.82 $ 0.88 Basic weighted average number of common shares outstanding 6,102 6,230 Diluted weighted average number of common shares outstanding 6,401 6,533
See accompanying notes to condensed consolidated financial statements. -4- BHA GROUP HOLDINGS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME FOR THE THREE AND NINE MONTHS ENDED JUNE 30, 2002 AND 2001 (UNAUDITED)
Three Months Ended (IN THOUSANDS) 2002 2001 ---- ---- Net earnings $ 2,067 $ 1,671 Other comprehensive income: Foreign currency translation adjustments 127 327 Net change in foreign exchange gains (losses) deferred in accordance with SFAS No. 133 (223) (40) ----------------- ----------------- Comprehensive income $ 1,971 $ 1,958 ================= ================= Nine Months Ended 2002 2001 ---- ---- Net earnings $ 5,217 $ 5,773 Other comprehensive income: Foreign currency translation adjustments 35 854 Foreign exchange gains deferred upon implementation of FAS 133 -- 144 Net change in foreign exchange gains (losses) deferred in accordance with SFAS No. 133 (84) (54) ----------------- ----------------- ----------------- ----------------- Comprehensive income $ 5,168 $ 6,717 ================= =================
See accompanying notes to condensed consolidated financial statements. -5- BHA GROUP HOLDINGS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY FOR THE NINE MONTHS ENDED JUNE 30, 2002 AND 2001 (UNAUDITED)
(In thousands, except share and per share data) 2002 2001 ---- ---- Common stock: Balance at beginning of period $ 88 $ 87 Issuance of 62,697 and 15,746 shares of common stock in 2002 and 2001, respectively 1 1 ---------------------- --------------------- Balance at end of period 89 88 ---------------------- --------------------- Additional paid-in capital: Balance at beginning of period 62,536 61,854 Excess over par value of common stock issued 675 185 Stock issued from treasury for stock option exercises (299) (108) ---------------------- --------------------- Balance at end of period 62,912 61,931 ---------------------- --------------------- Retained earnings: Balance at beginning of period 34,916 28,440 Net earnings for the period 5,217 5,773 Cash dividends of $.03 and $.06 per share paid on common stock during 2002 and 2001, respectively (183) (564) ---------------------- --------------------- Balance at end of period 39,950 33,649 ---------------------- --------------------- Accumulated - other comprehensive income: Balance at beginning of period (856) (1,634) Equity adjustment from foreign currency translation and derivative instruments (49) 944 ---------------------- --------------------- Balance at end of period (905) (690) ---------------------- --------------------- Treasury stock: Balance at beginning of period (35,550) (28,940) Acquisition of 68,358 and 437,108 shares of common stock, at cost, during 2002 and 2001, respectively (1,043) (5,909) Issuance of 17,032 and 10,744 treasury shares pursuant to stock option exercises, net, during 2002 and 2001, respectively 41 (49) ---------------------- --------------------- Balance at end of period (36,552) (34,898) ---------------------- --------------------- Total shareholders' equity $ 65,494 $ 60,080 ====================== =====================
See accompanying notes to condensed consolidated financial statements. -6- BHA GROUP HOLDINGS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE NINE MONTHS ENDED JUNE 30, 2002 AND 2001 (UNAUDITED)
(IN THOUSANDS) 2002 2001 ---- ---- Cash flows from operating activities: Net earnings $5,217 $5,773 Adjustment to reconcile net earnings to net cash provided by operating activities: Depreciation and amortization 3,930 4,566 Deferred income taxes -- (399) Cumulative effect of an accounting change 1,215 -- Changes in assets and liabilities: Accounts receivable (513) 284 Inventories 2,812 4,095 Prepaid expenses (354) (414) Accounts payable (422) (3,175) Accrued expenses and other liabilities 1,104 708 Income taxes payable or receivable (359) (830) ------------------ ------------------ Net cash provided by operating activities 12,630 10,608 ------------------ ------------------ Cash flows from investing activities: Acquisition of property, plant and equipment (3,870) (2,990) Net assets of business acquired (Note 3) (622) -- Change in other assets and liabilities 206 (423) ------------------ ------------------ Net cash used in investing activities (4,286) (3,413) ------------------ ------------------ Cash flows from financing activities: Payment of cash dividend on common stock (183) (564) Purchase of treasury stock (1,043) (5,909) Proceeds from issuance of common stock 676 175 Net stock options exercised (258) (146) Net proceeds (repayments) from borrowings under revolving bank lines of credit (2,697) 521 Repayments of long-term debt and other long-term liabilities (1,905) (2,275) ------------------ ------------------ Net cash used in financing activities (5,410) (8,198) ------------------ ------------------ Equity adjustment from foreign currency translation (49) 944 ------------------ ------------------ Net increase (decrease) in cash and cash equivalents 2,885 (59) Cash and cash equivalents at beginning of period 9,471 3,877 ------------------ ------------------ Cash and cash equivalents at end of period $12,356 $3,818 ================== ==================
See accompanying notes to condensed consolidated financial statements. -7- BHA GROUP HOLDINGS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (1) BASIS OF PRESENTATION AND REVENUE RECOGNITION These condensed consolidated financial statements reflect all adjustments (consisting of normal recurring adjustments) which, in the opinion of management, are necessary to present fairly the financial position, results of operations and cash flows for the periods presented in conformity with accounting principles generally accepted in the United States of America applied on a consistent basis. These statements should be read in conjunction with the Notes to Consolidated Financial Statements contained in BHA Group Holdings, Inc.'s (the "Company" or "BHA") Annual Report to Shareholders for the fiscal year ended September 30, 2001, and with Management's Discussion and Analysis of Results of Operations and Financial Condition appearing within this quarterly report. Sales of products are recognized when goods are shipped "free on board" (FOB) from their shipping point and when all obligations of the Company have been met. The Company recognizes sales and gross profits on its services using the percentage of completion method based on total costs incurred as compared to the total estimated cost of the service contract. Substantially, all projects are completed in less than 60 days from the date of commencement and the Company does not engage in any long-term contracts. The Company's service revenues generally result in gross margins as a percentage of sales that are lower than the consolidated gross margins by approximately 5% to 7%. Such revenues often represent the installation of the products that are also sold by the Company. During the quarter and nine months ended June 30, 2002, favorable execution of service contracts resulted in gross margins that were only slightly lower than those recognized from product sales. Revenues generated by products and services were as follows (in thousands): Three Months Ended June 30, 2002 June 30, 2001 ------------- ------------- Products $33,785 $33,451 Services 7,263 8,479 ------------------- --------------------- Total $41,048 $41,930 =================== ===================== Nine Months Ended June 30, 2002 June 30, 2001 ------------- ------------- Products $106,051 $107,025 Services 24,470 29,124 ------------------- --------------------- Total $130,521 $136,149 =================== ===================== (2) ACCOUNTING FOR GOODWILL AND OTHER INTANGIBLE ASSETS Statement of Financial Accounting Standard (SFAS) No. 142. "Accounting for Goodwill and Other Intangible Assets" was issued in July 2001 and has been adopted by the Company effective October 1, 2001. SFAS No. 142 requires that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead, such assets must be tested for impairment at least annually in accordance with the provisions of SFAS No. 142. This statement also requires that intangible assets with estimable useful lives be amortized over their respective estimated useful lives and reviewed for impairment in accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. -8- Prior to the adoption of SFAS 142, the Company evaluated the recoverability of goodwill based upon undiscounted estimated future cash flows. In connection with the SFAS 142 transitional goodwill impairment evaluation, the Statement required that the Company perform an assessment of whether there is an indication that goodwill is impaired as of the date of adoption, using a fair value model. To accomplish this, the Company was required to identify its reporting units and to determine the carrying value of each reporting unit by assigning the assets and liabilities, including the existing goodwill and intangible assets, to those reporting units as of October 1, 2001. Based upon a discounted cash flow analysis, the Company concluded that the carrying value of its Europe APC reporting unit exceeded its fair value and as such the related goodwill was impaired. As a result, the Company recognized a charge of $1,215,000 during the quarter ending December 31, 2001, to write-off the goodwill of its Europe segment in its entirety. This write-off has been recognized as the cumulative effect of a change in accounting principle. The goodwill affected by this write-off related to two transactions, both of which were acquisitions of the common stock of the target companies. As such, there was no adjustment in the tax basis of the assets of such companies at the time of the acquisitions. Accordingly, no tax benefit can be recorded as a result of the write-off of the related goodwill. The remaining acquired intangible assets and goodwill of the Company as of June 30, 2002 were as follows (in thousands): GROSS ACCUMULATED CARRYING AMOUNT AMORTIZATION --------------- ------------ Amortized Intangible Assets: Non-compete agreements $ 786 $ 332 Patent rights 2,026 1,486 Customer lists and other 175 20 ------------------- ------------------ Total $ 2,987 $ 1,838 =================== ================== Unamortized Intangible Assets: Trademark and Product Rights $ 1,282 =================== Goodwill $ 4,004 =================== There were no changes in the carrying value of goodwill during the quarter or nine month period ended June 30, 2002 other than the impairment loss recognized upon implementation of SFAS No. 142. All of the goodwill recorded on the balance sheet of the Company at June 30, 2002 relates to the Domestic APC segment. Amortization expense relative to acquired intangibles was $61,000 for the quarter and $176,000 for the nine months ended June 30, 2002. Amortization of purchased intangibles for each of the next five years is estimated as follows: 2002 - $240,000, 2003 - $229,000, 2004 - $222,000, 2005 - $222,000 and 2006 - $222,000. -9- The following table presents net income for each period exclusive of amortization expense recognized in such periods related to goodwill and other intangible assets which will no longer be amortized. Also excluded is the loss reported as a cumulative effect of an accounting change resulting from the implementation of SFAS No. 142. Amounts are in thousands except per share information:
THREE MONTHS ENDED ------------------ PRO FORMA INFORMATION JUNE 30, 2002 JUNE 30, 2001 ------------- ------------- Net income as reported $2,067 $1,671 Add back: Amortization of goodwill -- 55 Amortization of trademark and product rights -- 92 Less tax effect of proforma adjustments -- (36) ---------------------- --------------------- Adjusted net income $2,067 $1,782 ====================== ===================== Diluted earnings per share: Net income as reported $0.32 $0.26 Amortization of goodwill, trademark and product rights, net of tax -- .02 ---------------------- --------------------- Adjusted net income $0.32 $0.28 ====================== ===================== NINE MONTHS ENDED ----------------- PRO FORMA INFORMATION JUNE 30, 2002 JUNE 30, 2001 ------------- ------------- Net income as reported $5,217 $5,773 Add back: Cumulative effect of accounting change 1,215 -- Amortization of goodwill -- 165 Amortization of trademark and product rights -- 276 Less tax effect of proforma adjustments -- (108) ---------------------- --------------------- Adjusted net income $6,432 $6,106 ====================== ===================== Diluted earnings per share: Net income as reported $0.82 $0.88 Cumulative effect of accounting change .18 -- Amortization of goodwill, trademark and product rights, net of tax -- 0.05 ---------------------- --------------------- Adjusted net income $1.00 $0.93 ====================== =====================
(3) ACQUISITION OF ASSETS In November 2001, the Company acquired certain assets including inventory, equipment, customer lists, and other intangible assets of a fabric filter manufacturer in Mexico. The purchase price consisted of a cash payment in the amount of $622,000 together with the assumption of liabilities of approximately $150,000. The proforma effect of this transaction is not material to the Company. -10- (4) DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES The Company has entered into forward exchange contracts with commercial banks in order to fix the currency exchange rate related to intercompany transactions with its foreign subsidiaries. Changes in the value of these instruments due to currency movements offset the foreign exchange gains and losses of the corresponding intercompany transactions, which primarily relate to the purchases by the Company's European subsidiaries of inventory from their U.S. affiliates. In accordance with SFAS 133, these transactions have been determined to be effective hedges. The fair value of these contracts has been recognized in accrued liabilities in the consolidated balance sheet. The related gains and losses are deferred in shareholders' equity (as a component of comprehensive income). These deferred gains and losses are recognized in income in the period in which the related purchases being hedged are acquired. The notional amount of such contracts at June 30, 2002 was $2,350,000, and the market value of these contracts was $220,000 lower than face value. (5) EARNINGS PER COMMON SHARE Basic earnings per share is computed by dividing net earnings available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share is computed based upon the weighted average number of common shares and dilutive common equivalent shares outstanding. Stock options, which are common stock equivalents, have a dilutive effect on earnings per share in all periods presented and are therefore included in the computation of diluted earnings per share. A reconciliation of the numerators and the denominators of the basic and diluted per-share computations are as follows:
(IN THOUSANDS, EXCEPT PER SHARE DATA) FOR THE THREE MONTHS ENDED June 30, 2002 June 30, 2001 ------------------------------------------ ------------------------------------------ Net Earnings Shares Per-Share Net Earnings Shares Per-Share (Numerator) (Denom.) Amt. (Numerator) (Denom.) Amt. ----------- -------- ---- ----------- -------- ---- Basic earnings per share: Earnings available to common shareholders $ 2,067 6,117 $ 0.34 $ 1,671 6,108 $ 0.27 Effect of dilutive securities--stock options -- 347 -- 325 Diluted earnings per share: Earnings available to common shareholders and assumed conversion $ 2,067 6,464 $ 0.32 $ 1,671 6,433 $ 0.26 ========================================== ========================================== (IN THOUSANDS, EXCEPT PER SHARE DATA) FOR THE NINE MONTHS ENDED June 30, 2002 June 30, 2001 ------------------------------------------ ------------------------------------------ Net Earnings Shares Per-Share Net Earnings Shares Per-Share (Numerator) (Denom.) Amt. (Numerator) (Denom.) Amt. Basic earnings per share: Earnings available to common shareholders $ 5,217 6,102 $ 0.85 $ 5,773 6,230 $ 0.93 Effect of dilutive securities--stock options -- 299 -- 303 Diluted earnings per share: Earnings available to common shareholders and assumed conversion $ 5,217 6,401 $ 0.82 $ 5,773 6,533 $ 0.88 ========================================== ==========================================
-11- (6) INVENTORIES BHA values its inventory at the lower of cost or market. Cost is determined using the first-in, first-out (FIFO) method. Components of inventories at June 30, 2002 and September 30, 2001 were as follows (in thousands): JUNE 30, SEPTEMBER 30, 2002 2001 ----------------------- ----------------------- Raw materials $14,088 $15,593 Work-in-process 558 946 Finished goods 5,689 6,306 ----------------------- ----------------------- Total $20,335 $22,845 ======================= ======================= (7) BUSINESS SEGMENTS BHA reports its operations as three business segments, Domestic Air Pollution Control (Domestic APC), Europe Air Pollution Control (Europe APC), and BHA Technologies. Domestic APC consists of the air pollution control products and services sold or managed from the United States. Such sales include shipments and services throughout North America, Latin America, Asia, and the Pacific Rim, as such revenues are derived from BHA's U.S. based management group. The Europe APC segment represents sales of products and services managed from BHA's European manufacturing, distribution, and sales offices. BHA Europe generally services customers throughout Europe, as well as in the Middle East and Northern Africa. BHA Technologies supplies ePTFE membrane products to BHA's APC business, and is also developing a market for such products outside of air pollution control. BHA manages these segments as strategic business units. Europe APC represents a distinct business unit as it maintains its own manufacturing, sales, marketing, and project management resources. Sales to other international locations are included in the Domestic APC business segment, as most or all of the key manufacturing, engineering, and sales support functions are performed from the United States. BHA Technologies operates as a distinct entity due to its unique technologies, as well as the marketing of products unrelated to air pollution control. Reportable segment data was as follows (in thousands): NET SALES THREE MONTHS ENDED -------------------------------------------------- JUNE 30, JUNE 30, 2002 2001 ----------------------- ---------------------- Domestic APC $32,056 $34,801 Europe APC 5,421 5,187 BHA Technologies 3,571 1,942 ----------------------- ---------------------- Total $41,048 $41,930 ======================= ====================== -12- NET SALES NINE MONTHS ENDED -------------------------------------------------- JUNE 30, JUNE 30, 2002 2001 ----------------------- ---------------------- Domestic APC $104,303 $112,010 Europe APC 16,310 16,700 BHA Technologies 9,908 7,439 ----------------------- ---------------------- Total $130,521 $136,149 ======================= ====================== Net sales represent revenues from sales to unaffiliated customers. EARNINGS (LOSS) BEFORE INCOME TAXES THREE MONTHS ENDED -------------------------------------------------- JUNE 30, JUNE 30, 2002 2001 ----------------------- ---------------------- Domestic APC $2,426 $2,363 Europe APC 190 272 BHA Technologies 285 (152) ----------------------- ---------------------- Total $2,901 $2,483 ======================= ====================== NINE MONTHS ENDED -------------------------------------------------- JUNE 30, JUNE 30, 2002 2001 ----------------------- ---------------------- Domestic APC $8,508 $8,355 Europe APC 426 873 BHA Technologies 741 (538) ----------------------- ---------------------- Total $9,675 $8,690 ======================= ====================== -13- BHA GROUP HOLDINGS, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS RESULTS OF OPERATIONS AND FINANCIAL CONDITION GENERAL For purposes of this "Management's Discussion and Analysis," as well as the segment reporting information included in Note 7 to the Condensed Consolidated Financial Statements, Domestic Air Pollution Control ("Domestic APC") represents all air pollution control business for which the products or services are sold or managed from the United States. Generally, this includes revenues to customers in the U.S. and exports to customers in Canada, Latin America, and Asia. Europe APC represents all air pollution control business for which the products or services are sold or managed primarily from Europe. Such revenues are typically generated in Europe, Northern Africa and the Middle East. BHA Technologies, a subsidiary engaged in the production and sale of ePTFE membrane for both APC and non-APC applications, represents BHA's third business segment. FISCAL 2002 COMPARED TO FISCAL 2001 NET SALES Consolidated net sales for the nine months ended June 30, 2002 ("fiscal 2002") decreased 4% to $130.5 million from $136.1 million for the same period in fiscal 2001. Consolidated net sales for the quarter ended June 30, 2002 ("third quarter") decreased 2% to $41.0 million from $41.9 million in fiscal 2001. The overall decline in sales was attributable to the weakness in the worldwide manufacturing and industrial production and the impact of this weak demand on the Company's APC business. Sales in the Domestic APC segment declined 8% for the most recent quarter and 7% for the first nine months of fiscal 2002 as compared to the prior year. Within this segment, the sales of fabric filter replacement parts and services declined 15% for the most recent quarter and 11% for the nine month period. The sales of electrostatic precipitator ("ESP") parts and services increased 23% for the most recent quarter and 5% for the first nine months of fiscal 2002 as compared to the prior year. The ESP business has continued to benefit from favorable business conditions within the U.S. electric utility market for operators of coal-fired boilers. Export sales decreased 25% for the most recent quarter and 13% for the first nine months of fiscal 2002 as compared to the same periods in the prior year due to decreased sales in Latin America and in the Pacific Rim. Sales in the Company's Europe APC segment increased by 5% for the quarter and declined 2% for the nine-month period as compared to prior year results due to the timing of large projects executed. Shipments of ePTFE membrane from BHA Technologies to third party customers increased by $1.6 million in the third quarter and $2.5 million for the first nine months of fiscal 2002 as compared to the prior year periods. The increase was attributable to incremental business in non-consumer apparel resulting from a customer which supplies ePTFE membrane laminated to base fabric as part of the supply chain in a government contract together with improved sales of HEPA filtration products. -14- GROSS MARGIN Consolidated gross margin was 31.5% of sales in the third quarter compared to 30.1% in the prior year. For the first nine months of fiscal 2002, the consolidated gross margin was 30.8% of sales compared to 29.4% in the prior year. The majority of the improvement in gross margins as a percentage of sales was in the Domestic APC segment. The improvements were attributable, in part, to a more favorable mix of business, lower manufacturing overheads and higher efficiency in plant utilization. The improved margins were also due to several significant service contracts that were completed with favorable cost variances which are not expected to be recurring. OPERATING EXPENSES Operating expenses were $9.9 million (24.1% of sales) for the third quarter of fiscal 2002 compared to $9.8 million (23.3% of sales) for the same quarter in fiscal 2001. For the first nine months of fiscal 2002, operating expenses were $30.0 million (23.0% of sales) compared to $30.0 million (22.0% of sales) for the same period in the prior year. During the first nine months of fiscal 2002, the Company recognized net foreign exchange losses of $0.1 million compared to net foreign exchange gains of $0.2 million for the same period in the prior year. Additionally, bad debt expense was $0.6 million for the first nine months of fiscal 2002 compared to $0.4 million for the prior year period. These increases in operating expenses aggregating $0.5 million, together with incremental spending on the Company's enterprise resource planning system implementation, were offset by a $0.5 million decrease in amortization resulting from the implementation of SFAS 142. INTEREST EXPENSE Interest expense is presented net of interest earned on short-term investments. Interest expense was $0.1 million in the third quarter of fiscal 2002 compared to $0.4 million for the same quarter in fiscal 2001. Interest expense for the first nine months of fiscal 2002 was $0.5 million compared to $1.3 million for the first nine months of the prior year. Average borrowings decreased from $31.0 million in the first nine months of fiscal 2001 to $24.0 million during the most recent nine months. Additionally, the average interest rate on the Company's borrowings decreased from 6.1% in the fiscal 2001 period to 3.5% for the first nine months of 2002. Net interest expense has also been favorably impacted by interest earned on short-term investments. All of the Company's borrowings are at variable interest rates. EARNINGS BEFORE INCOME TAXES Pre-tax earnings for the Domestic APC segment were $2.4 million for both the third quarter of fiscal 2002 and 2001 due to improved gross margins as a percentage of sales and lower interest costs, which offset the decline in revenues. For the nine months ended in June 2002, Domestic APC pre-tax earnings improved from $8.4 million to $8.5 million despite a 7% decrease in sales. The impact of the lower sales volume was offset by an improved gross margin percentage together with a $0.7 million decrease in net interest costs attributable to this segment. The Europe APC segment reported pre-tax earnings of $0.2 million in the fiscal 2002 third quarter compared to $0.3 million for the same quarter in fiscal 2001. For the nine- month periods, pre-tax earnings were $0.4 million in fiscal 2002 compared to $0.9 million in fiscal 2001. The majority of the earnings decline is the result of foreign exchange. During the first nine months of fiscal 2001, this segment reported foreign exchange gains of $0.3 million compared to a small foreign exchange loss in the fiscal 2002 period. -15- BHA Technologies' pre-tax earnings for the most recent quarter were $0.3 million compared to a pre-tax loss of $0.2 million in the prior year. For the first nine months of fiscal 2002, BHA Technologies reported pre-tax earnings of $0.7 million compared to a pre-tax loss of $0.5 million for the same period in the prior year. The turnaround resulted from higher sales volumes and an improved sales mix. Additionally, in the prior year, BHA Technologies incurred costs related to the start-up of their Lee's Summit, Missouri production facility. CUMULATIVE EFFECT OF AN ACCOUNTING CHANGE During the first quarter of fiscal 2002, the Company adopted SFAS No. 142, "Accounting for Goodwill and Other Intangible Assets." In accordance with SFAS No. 142, a loss was recognized relative to the impairment of goodwill of the Company's Europe APC segment. This loss, in the amount of $1.2 million, was accounted for as the cumulative effect of a change in accounting policy. INCOME TAXES The consolidated effective income tax rate for the first nine months of fiscal 2002 was 33.5% compared to 33.6% for the same period in the prior year. The consolidated effective income tax rates for the three months ended June 30, 2002 and 2001 were 28.7% and 32.7%, respectively. The lower income tax rate in the third quarter of the current year is attributable to the utilization of available net operating losses for tax purposes by several of BHA's subsidiaries in Europe. NET EARNINGS Net earnings for the third quarter of fiscal 2002 were $2.1 million ($0.32 per diluted share) compared to net earnings of $1.7 million ($0.26 per diluted share) in the third quarter of fiscal 2001. For the first nine months of fiscal 2002, the Company had net earnings of $5.2 million ($0.82 per diluted share) compared to earnings of $5.8 million ($0.88 per diluted share) for the same period in the prior year. Exclusive of the cumulative effect of the accounting change, net earnings for the first nine months of fiscal 2002 were $6.4 million ($1.00 per diluted share). The average number of common and common equivalent shares declined from 6.5 million shares to 6.4 million shares due to stock repurchased by the Company in the open market in each year. LIQUIDITY AND CAPITAL RESOURCES Net working capital increased from $45.2 million at September 30, 2001 to $45.4 million at June 30, 2002. The current ratio at June 30, 2002 and September 30, 2001 was 2.9 and 3.0, respectively. The Company's cash increased from $9.5 million at September 30, 2001 to $12.4 million at June 30 2002. During the nine months ended June 30, 2002, the Company generated $12.6 million in cash from operating activities compared to $10.6 million in the first nine months of the prior year. The difference is the result of improved working capital management. Investing activities resulted in a net use of cash of $4.3 million and $3.4 million for the nine months ended June 30, 2002 and 2001, respectively. The investment in capital expenditures was $3.9 million for the first nine months of fiscal 2002 and $3.0 million for the first nine months of fiscal 2001. The capital expenditures in fiscal 2002 primarily relate to the Company's enterprise resource planning software project. Current year investing activities also included $0.6 million related to the acquisition of certain assets of a fabric filter manufacturing company in Mexico. -16- During the first nine months of fiscal 2002, the Company used cash generated from operations to repay $4.6 million in bank debt. The Company also used $1.0 million to repurchase common stock. During the first nine months of fiscal 2001, the Company's financing activities consisted primarily of $1.8 million in debt repayments and the repurchase of $5.9 million of the Company's common stock. The Company has financing commitments that include $10.6 million outstanding under a U.S. term note with a final maturity in 2005 that requires quarterly payments of $0.6 million; an $18.0 million U.S. revolving credit facility maturing in 2004; and credit lines in Germany for the U.S. equivalent of $6.0 million maturing in 2004. The Company's unused commitments as of June 30, 2002 were approximately $18.6 million. The Company believes that cash flows from operations and available credit lines will be sufficient to meet its capital needs for the foreseeable future. MANAGEMENT JUDGMENTS AND ESTIMATES In preparing the financial statements, a number of assumptions and estimates are determined, that in the judgment of management, are proper in light of existing general economic and Company-specific circumstances. Examples of areas in which judgments and estimates are required include the collectibility of receivables, the value of certain inventories and the evaluation of certain contingent liabilities, including product warranties and claims arising in the ordinary course of business. While the Company has taken reasonable care in preparing these estimates and making these judgments, actual results could and probably will differ from the estimates. Management believes that any difference in the actual results from the estimates will not have a material effect upon the Company's financial position or results of operations. CRITICAL ACCOUNTING POLICIES The Company's critical accounting policies include inventory valuation, estimates related to collectibility of receivables and estimation of potential warranty claims. The Company values its inventories on the first-in, first-out (FIFO) accounting method using standard costs and provides reserves for estimated losses for slow moving or obsolete items. The reserve requirement is estimated based upon a review of specific inventory items that are identified as slow moving and consideration of potential salvage value and carrying costs. Accounts receivables are reported net of reserves for uncollectible accounts. The Company estimates the amount of the reserve requirement based upon a review of delinquent accounts, the Company's historical loss experience and the current economic factors impacting its customers. The Company provides warranties on the products and services it sells which vary in length and terms based upon the nature of such products and services, as well as the customer's industry. A reserve has been established for potential warranty claims. The Company estimates its reserve requirement based upon specific product failures identified, as well as historical loss experiences. DIVIDEND POLICY On January 22, 2002, the Company announced a change in its approach to the payment of cash dividends. In the future, dividends will be paid annually rather than quarterly. Although no dividend has been declared, the Company anticipates paying an annual dividend for calendar 2002 of approximately $0.12 per share in January 2003. This change is intended to streamline the dividend payment process and lower administrative expenses. -17- OUTLOOK The Company continues to see success in the implementation of its business plan. The financial condition of BHA has been further strengthened during the current fiscal year providing the Company with substantial capital to invest in growth areas and improve its overall position in the key markets it serves. The Company will continue to focus on managing costs while investing in those areas that will provide the greatest advantage in the long term. The Company will maximize opportunities to service the ESP side of the APC business and pursue opportunities to expand its business in the sale of ePTFE membranes to customers for use in applications outside of air pollution control. Although pleased with year-to-date reported earnings and cash flows, the Company continues to remain cautious about near-term results. Of specific concern is continued weakness in the worldwide manufacturing and industrial sector. Based on historical trending, the Company believes that improvement in its market for the sale of fabric filter replacement parts and services could trail an improvement in overall manufacturing conditions by as much as six months. The Company has not seen any improvement in this market and over the last 90 days has seen further deterioration in certain areas. It is the expectation that, in the interim, competition will be intense and pricing will continue to come under pressure. The Company is committed to maintaining and expanding its position as the premier supplier of APC replacement parts and service during this challenging economic period. The Company's results for the past two quarters have surpassed expectation from both an earnings and cash flow standpoint. The Company expects that earnings for the upcoming quarter will not be as strong due to continued weakness in the fabric filter business and the timing of contractual shipment of major ESP mechanical parts orders. The Company also reports that it has gone live with its new Enterprise Resource Planning (ERP) system in July. Although pleased with the early adoption and performance of its new system, the Company is factoring into its estimates some initial inefficiencies expected to occur in the execution of its business during the fourth quarter. The following is specific guidance being provided: o For the fourth quarter of fiscal 2002, the Company anticipates that consolidated net sales will decline less than 5% from the same quarter in the prior year. o Earnings for the fourth quarter of the current fiscal year are expected to be in the range of $0.19 to $0.24 per diluted share as compared to $0.23 per diluted share reported for the same period in the prior year. Although visibility with respect to future results beyond 90 days remains a challenge, the Company expects that results for the first quarter of next fiscal year will be stronger than the upcoming quarter due to the known timing of contractual ship dates of large ESP project orders currently in the backlog. BACKLOG BHA's backlog was $39.9 million at June 30, 2002. This compares with order backlogs of $43.5 million at March 31, 2002 and $45.2 million at June 30, 2001. In conjunction with the implementation of its new ERP system, the Company has made the decision to report its backlog to include only scheduled orders as opposed to the previous practice of reporting all customer commitments in its backlog. Historically, 20% to 25% of the reported consolidated backlog included customer commitments under "blanket agreements" that did not include firm quantities and ship dates. These orders will no longer be reported as backlog as they do not -18- drive production requirements within ERP. The June 30, 2002 backlog reported herein excludes such amounts. OTHER ACTIONS The Company reports that it has accumulated 2.5 million shares of the 3.5 million shares of BHA common stock authorized by its Board of Directors for repurchase. FORWARD-LOOKING INFORMATION This report contains forward-looking statements that reflect the Company's current views with respect to future events and financial performance. The statements are subject to certain risks and uncertainties that could cause actual results to differ materially from historical results or those anticipated. The words "should," "believe," "anticipate," "expect," and other expressions that indicate future events and trends identify forward-looking statements. Actual future results and trends may differ materially from historical results or those anticipated depending on a variety of factors, including, but not limited to, competition, the performance of newly established domestic and international operations, demand and price for the Company's products and services, and other factors. Readers should consult the section entitled "Factors Affecting Earnings and Stock Price" in the Company's annual report of Form 10-K. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK INTEREST RATES All of the Company's indebtedness is at variable rates of interest. The Company has not used derivative financial instruments to hedge its exposure to interest rate changes. Based upon borrowings outstanding at June 30, 2002, a 1% fluctuation in market rates would impact interest expense by approximately $220,000 annually. EXCHANGE RATES The Company views its equity investment in a foreign subsidiary as a long-term commitment and does not hedge the translation exposures relative to such equity investments. In addition to its equity investment, the Company from time-to-time has U.S. dollar denominated trade payables and advances due from its European affiliates. Such amounts are subject to translation exposure. At June 30, 2002, the amount of such unhedged exposures was less than $100,000, primarily related to its affiliates in the European Common Market. FORWARD EXCHANGE CONTRACTS BHA periodically enters into forward exchange contracts with commercial banks in order to fix the currency exchange rate related to intercompany transactions with its foreign subsidiaries. Changes in the value of these instruments due to currency movements offset the foreign exchange gains and losses of the corresponding intercompany transactions. At June 30, 2002, the notional amount of such forward exchange contracts was approximately $2.4 million and the market value of these contracts was $220,000 lower than face value. -19- ACCOUNTS RECEIVABLE The Company's customer base operates in numerous industries in the U.S. and internationally. With the weakness in the global manufacturing economy, the Company is seeing an increasing level of customer bankruptcies and slow payment problems that management believes have been appropriately reserved for. Although there is not significant concentration of sales in any one industry or with any individual customer, certain of the Company's customers operate in industries such as steel, textile, and foundry, which have been severely impacted by the current economic environment. Additionally, the Company executes significant projects and fulfills membrane supply contracts that can result in open receivables from individual customers that at times exceed $1 million. It is considered unlikely that the failure of one or more customers would have a material adverse effect on the Company's financial condition. However, if the current economic environment persists or deteriorates further, near term operating results could be adversely impacted by a further increase in bad debt expense. -20- PART II. OTHER INFORMATION Item 6 - Exhibits and Reports on Form 8-K: (a) Exhibit (11), Computation of earnings per common share. See Note 5 to Unaudited financial statements for the required disclosure. (b) During the quarter ended June 30, 2002, there were no reports on Form 8-K filed by the Company. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. BHA GROUP HOLDINGS, INC. (Registrant) July 23, 2002 By: /s/ James C. Shay ----------------------- ---------------------------------------------- Date (Signature) James C. Shay Senior Vice President, Finance and Administration, Principal Financial and Accounting Officer By: /s/ James E. Lund ---------------------------------------------- (Signature) James E. Lund President and Chief Executive Officer M350-BHAR 07/17/2002 -21-