-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, WKBItXRvcZJDh+LPAW6LpW5G0tV+Kfh28pKPRmjcZyPEnNV0Ch1BLsMpuqEqiM3J lCJYPixvJSsAr7Hkd1FlCw== 0000914122-02-000004.txt : 20020502 0000914122-02-000004.hdr.sgml : 20020501 ACCESSION NUMBER: 0000914122-02-000004 CONFORMED SUBMISSION TYPE: 10-K/A PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 20020131 FILED AS OF DATE: 20020502 FILER: COMPANY DATA: COMPANY CONFORMED NAME: MFRI INC CENTRAL INDEX KEY: 0000914122 STANDARD INDUSTRIAL CLASSIFICATION: INDUSTRIAL & COMMERCIAL FANS & BLOWERS & AIR PURIFYING EQUIP [3564] IRS NUMBER: 363922969 STATE OF INCORPORATION: DE FISCAL YEAR END: 0131 FILING VALUES: FORM TYPE: 10-K/A SEC ACT: 1934 Act SEC FILE NUMBER: 000-18370 FILM NUMBER: 02631142 BUSINESS ADDRESS: STREET 1: 7720 LEHIGH AVE CITY: NILES STATE: IL ZIP: 60714 BUSINESS PHONE: 8479661000 MAIL ADDRESS: STREET 1: 7720 LEHIGH AVE CITY: NILES STATE: IL ZIP: 60714 FORMER COMPANY: FORMER CONFORMED NAME: MIDWESCO FILTER RESOURCES INC DATE OF NAME CHANGE: 19970402 10-K/A 1 l01310210ka.txt MFRI 10-K/A SECURITIES AND EXCHANGE COMMISSION Washington, DC 20549 __________ FORM 10-K/A X ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended January 31, 2002 OR ___ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _____ to ______ Commission File No. 0-18370 MFRI, INC. (Exact name of registrant as specified in its charter) Delaware 36-3922969 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 7720 Lehigh Avenue Niles, Illinois 60714 (Address of principal executive offices) (Zip Code) (847) 966-1000 (Registrant's telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, par value $.01 per share Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes /x/ No / / Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. / / The aggregate market value of the voting securities of the registrant beneficially owned by non-affiliates of the registrant (the exclusion of the market value of the shares owned by any person shall not be deemed an admission by the registrant that such person is an affiliate of the registrant) was approximately $11,161,000 based on the closing sale price of $3.051 per share as reported on the NASDAQ National Market on March 31, 2002. The number of shares of the registrant's common stock outstanding at March 31, 2002 was 4,922,364. DOCUMENTS INCORPORATED BY REFERENCE Portions of the following document of the registrant are incorporated herein by reference: Document Part of Form 10-K Proxy Statement for the 2002 annual meeting of III stockholders FORM 10-K CONTENTS JANUARY 31, 2002 Item Page - -------------------------------------------------------------------------------- Part I: 1. Business 1 Company Profile 1 Filtration Products 2 Piping Systems 5 Industrial Process Cooling Equipment 7 Employees 10 Executive Officers of the Registrant 11 2. Properties 12 3. Legal Proceedings 12 4. Submission of Matters to a Vote of Security Holders 13 Part II: 5. Market for Registrant's Common Equity and Related Stockholder Matters 13 6. Selected Financial Data 14 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 14 7A. Quantitative and Qualitative Disclosures About Market Risk 23 8. Financial Statements and Supplementary Data 23 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 23 Part III: 10. Directors and Executive Officers of the Registrant 23 11. Executive Compensation 24 12. Security Ownership of Certain Beneficial Owners and Management 24 13. Certain Relationships and Related Transactions 24 Part IV: 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K 24 Signatures 48 - -------------------------------------------------------------------------------- PART I Item 1. BUSINESS Company Profile MFRI, Inc. ("MFRI" or the "Company") has three business segments: Filtration Products, Piping Systems and Industrial Process Cooling Equipment. The Company's Filtration Products Business is conducted by Midwesco Filter Resources, Inc. ("Midwesco Filter"). Perma-Pipe, Inc. ("Perma-Pipe") conducts the Piping Systems Business. The Industrial Process Cooling Equipment Business is conducted by Thermal Care, Inc. ("Thermal Care"). Midwesco Filter, Perma-Pipe and Thermal Care are wholly owned subsidiaries of MFRI. As used herein, unless the context otherwise requires, the term "Company" includes MFRI and its subsidiaries, Midwesco Filter, Perma-Pipe, Thermal Care, and their respective predecessors. Midwesco Filter manufactures and sells a wide variety of filter elements for air filtration and particulate collection systems. Air filtration systems are used in many industries in the United States and abroad to limit particulate emissions, primarily to comply with environmental regulations. Midwesco Filter markets air filtration-related products and accessories, and provides maintenance services, consisting primarily of dust collector inspection and filter replacement. Perma-Pipe engineers, designs and manufactures specialty piping systems and leak detection and location systems. Perma-Pipe's piping systems include (i) industrial and secondary containment piping systems for transporting chemicals, waste streams and petroleum liquids, (ii) insulated and jacketed district heating and cooling piping systems for efficient energy distribution to multiple locations from central energy plants, and (iii) oil and gas gathering flowlines and long lines for oil and mineral transportation. Perma-Pipe's leak detection and location systems are sold as part of many of its piping system products, and, on a stand-alone basis, to monitor areas where fluid intrusion may contaminate the environment, endanger personal safety, cause a fire hazard or damage equipment or property. On December 31, 2000, the Company sold its 81 percent interest in SZE Hagenuk GmbH ("SZE Hagenuk") to the former minority shareholder. SZE Hagenuk manufactures, markets and installs leak detection and location systems in Germany. The Company had entered into an exclusive distribution agreement with SZE Hagenuk to market its leak detection products in Germany. SZE Hagenuk had sales of $1,063,000 for the eleven months ended December 2000. The Company has signed a contract to sell Perma-Pipe Services Limited subsidiary ("PPSL") to a third party purchaser, effective as of December 1, 2001. PPSL sales were $1,766,000 for the ten months ended November 30, 2001. Thermal Care engineers, designs and manufactures liquid chillers, mold temperature controllers, cooling towers, plant circulating systems, and related accessories for industrial process applications. Additional information with respect to the Company's lines of business is included in the financial statements and related notes thereto. 1 Filtration Products Air Filtration and Particulate Collection Systems. Air filtration and particulate collection systems have been used for over 50 years in many industrial applications. However, the enactment of federal and state legislation and related regulations and enforcement have increased the demand for air filtration and particulate collection systems by requiring industry to meet primary and secondary ambient air quality standards for specific pollutants, including particulate. In certain manufacturing applications, particulate collection systems are an integral part of the production process. Examples of such applications include the production of cement, carbon black and industrial absorbents. The principal types of industrial air filtration and particulate collection systems in use today are baghouses, cartridge collectors, electrostatic precipitators, scrubbers and mechanical collectors. The type of technology most suitable for a particular application is a function of such factors as the ability of the system to meet applicable regulations, initial investment, operating costs and the parameters of the process, including operating temperatures, chemical constituents present, size of particulate and pressure differential. Cartridge collectors and baghouses are typically box-like structures, which operate in a manner similar to a vacuum cleaner. They can contain a single filter element or an array of several thousand cylindrical or envelope filter elements (as short as two feet or as long as 30 feet) within a housing, which is sealed to prevent the particulate from escaping. Exhaust gases are passed through the filtration elements, and the particulate is captured on the media of the filter element. The particulate is removed from the filter element by such methods as mechanical shaking, reverse air flow or compressed air pulse. Cartridge collectors and baghouses are generally used with utility and industrial boilers, cogeneration plants and incinerators and in the chemicals, cement, asphalt, metals, grain and foundry industries, as well as air intake filters for gas turbines. In an electrostatic precipitator, the particulate in the gases is charged as it passes electrodes and is then attracted to oppositely charged collection plates. The collected material is periodically removed from the plates by rapping or vibration. Electrostatic precipitators are used in such industries as electric power generation, chemicals, and pulp and paper, as well as in incinerators. Scrubbers are used for flue gas desulfurization, odor control, acid gas neutralization and particulate collection. They operate by bringing gases into contact with water or chemicals and are sometimes used in combination with baghouses or electrostatic precipitators. Mechanical collectors are used to remove relatively large particles from air streams. They are frequently used in association with other systems as a pre-screening device. Because air pollution control equipment represents a substantial capital investment, such systems usually remain in service for the entire life of the plant in which they are installed. A baghouse can last up to 30 years and is typically rebagged six to eight times during its useful life. The useful life of a cartridge collector is 10 to 20 years, with five to ten cartridge changes during its useful life. Although reliable industry statistics do not exist, the Company believes there are more than 18,000 locations in the United States presently using baghouses and/or cartridge collectors, many of which have multiple pieces of such equipment. Products and Services. The Company manufactures and sells a wide variety of filter elements for cartridge collectors and baghouse air filtration and particulate collection systems. Cartridge collectors and baghouses are used in many industries in the United States and abroad to limit particulate emissions, primarily to comply with environmental regulations. The Company manufactures filter elements in standard industry sizes, shapes and filtration media and to custom specifications, maintaining manufacturing standards for more than 10,000 styles of filter elements to suit substantially all industrial applications. Filter elements are manufactured from industrial yarn, fabric and papers purchased in bulk. Most filter elements are produced from cellulose, acrylic, fiberglass, polyester, aramid or polypropylene fibers. The Company also manufactures filter elements from more specialized materials, sometimes using special finishes. 2 The Company manufactures virtually all of the seamless tube filter bags sold in the United States. Seamless Tube(R) filter bag fabric is knitted by the Company on custom knitting equipment and finished using proprietary fabric stabilization technology. The Company believes this vertically integrated process provides certain advantages over purchased fabric, including lower costs and reduced inventory requirements. In addition, the Company believes the Seamless Tube(R) product furnishes certain users with a filtration medium of superior performance due to its fabric structure, weight and lack of a vertical seam. In certain applications, the structure of the knitted fabric allows equal airflow with a lower pressure differential than conventionally woven fabrics, thereby reducing power costs. In other circumstances, the fabric structure and absence of a vertical seam allow greater airflow at the same pressure differential as conventionally woven fabrics, thereby permitting the filtration of a greater volume of ss Tube(R) product often improves filter bag durability, resulting in longer life.particulate laden gas at no additional cost. The Seamless Tube(R product often improves filter bag durability, resulting in longer life. The Company markets numerous filter-related products and accessories used during the installation, operation and maintenance of cartridge collectors and baghouses, including wire cages used to support filter bags, spring assemblies for proper tensioning of filter bags and clamps and hanger assemblies for attaching filter elements. In addition, the Company markets other hardware items used in the operation and maintenance of cartridge collectors and baghouses. These include sonic horns to supplement the removal of particulate from filter bags and cartridge collectors and baghouse parts such as door gaskets, shaker bars, tube sheets, dampers, solenoid valves, timer boards, conveyors and airlocks. The Company currently manufactures wire cages and purchases all other filter-related products and accessories for resale, including the exclusive North American marketing rights to a Korean-manufactured line of solenoids, valves and timers used in conjunction with pulsejet collectors. The Company also provides maintenance services, consisting primarily of air filtration system inspection and filter element replacement, using a network of independent contractors. The sale of filter-related products and accessories, collector inspection, leak detection and maintenance services accounts for approximately 17 percent of the net sales of the Company's filtration products and services. Over the past three years, the Company's Filtration Products Business has served more than 4,000 user locations. The Company has particular expertise in supplying filter bags for use with electric arc furnaces in the steel industry. The Company believes its production capacity and quality control procedures make it a leading supplier of filter bags to large users in the electric power industry. Orders from that industry tend to be substantial in size, but are usually at reduced margins. In the fiscal year ended January 31, 2002, no customer accounted for 10 percent or more of net sales of the Company's filtration products and services. Marketing. The customer base for the Company's filtration products and services is industrially and geographically diverse. These products and services are used primarily by operators of utility and industrial coal-fired boilers, incinerators and cogeneration plants and by producers of metals, cement, chemicals and other industrial products. The Company has an integrated sales program for its Filtration Products Business, which consists of field-based sales personnel, manufacturers' representatives, a telemarketing operation and computer-based customer information systems containing data on nearly 18,000 user locations. These systems enable the Company's sales force to access customer information classified by industry, equipment type, operational data and the Company's quotation and sales history. The systems also provide reminders to telemarketing personnel of the next scheduled customer contact date, as well as the name and position title of the customer contact. The Company believes the computer-based information systems are instrumental in increasing sales of filter-related products and accessories and maintenance services, as well as sales of filter elements. The Company markets its U.S. manufactured filtration products internationally using domestically based sales resources to target major users in foreign countries. Export sales, which were 6 percent of the domestic filtration company's product sales during the year ended January 31, 2002, have decreased as the U.S. dollar has strengthened against certain foreign currencies and export sales have been de-emphasized. Nordic Air Filtration A/S, a wholly owned subsidiary of the Company located in Nakskov, Denmark, manufactures and markets pleated filter elements throughout Europe and Asia, primarily to original equipment manufacturers. Trademarks. The Company owns the following trademarks covering its filtration products: Seamless Tube(R), Leak Seeker(R), Prekote(R), We Take the Dust Out of Industry(R), Pleatkeeper(R), Pleat Plus(R) and EFC(R). 3 Backlog. As of January 31, 2002, the dollar amount of backlog (uncompleted firm orders) for filtration products was $10,518,000. As of January 31, 2001, the amount of backlog was $12,217,000. Approximately $1,000,000 of the backlog as of January 31, 2002 is not expected to be completed in 2002. Raw Materials and Manufacturing. The basic raw materials used in the manufacture of the Company's filtration products are industrial fibers and media supplied by leading producers of such materials. The majority of raw materials purchased are woven fiberglass fabric, yarns for manufacturing Seamless Tube(R) products and other woven, felted, spun bond and cellulose media. Only a limited number of suppliers are available for some of these materials. From time to time, any of these materials could be in short supply, adversely affecting the Company's business. The Company believes that supplies of all materials are adequate to meet current demand. The Company's inventory includes substantial quantities of various types of media because lead times from suppliers are frequently longer than the delivery times required by customers. The manufacturing processes for filtration products include proprietary computer-controlled systems for measuring, cutting, pleating, tubing and marking media. The Company also operates specialized knitting machines and proprietary fabric stabilization equipment to produce the Seamless Tube(R) product. Skilled sewing machine operators perform the finish assembly work on each filter bag using both standard sewing equipment and specialized machines developed by or for the Company. The manufacturing process for pleated filter elements involves the assembly of metal and sometimes plastic end components, filtration media and support hardware. The Company maintains a quality assurance program involving statistical process control techniques for examination of raw materials, work in progress and finished goods. Certain orders for particularly critical applications receive 100 percent quality inspection. Competition. The Filtration Products Business is highly competitive. In addition, new installations of cartridge collectors and baghouses are subject to competition from alternative technologies. The Company believes that, based on domestic sales, BHA Group, Inc.; the Menardi division of Beacon Industrial Group; W.L. Gore & Associates, Inc. and the Company are the leading suppliers of filter elements, parts and accessories for baghouses. The Company believes that Donaldson Company, Inc.; Farr Company; Clarcor, Inc. and the Company are the leading suppliers of filter elements for cartridge collectors. There are at least 50 smaller competitors, most of which are doing business on a regional or local basis. In Europe, several companies supply filtration products and Nordic Air is a relatively small participant in that market. Some of the Company's competitors have greater financial resources than the Company. The Company believes price, service and quality are the most important competitive factors in its Filtration Products Business. Often, a manufacturer has a competitive advantage when its products have performed successfully for a particular customer in the past. Additional efforts are required by a competitor to market products to such a customer. In certain applications, the Company's proprietary Seamless Tube(R) product and customer support provide the Company with a competitive advantage. Certain competitors of the Company may have a competitive advantage because of proprietary products and processes, such as specialized fabrics and fabric finishes. In addition, some competitors may have cost advantages with respect to certain products as a result of lower wage rates and/or greater vertical integration. Government Regulation. The Company's Filtration Products Business is substantially dependent upon governmental regulation of air pollution at the federal and state levels. Federal clean air legislation requires compliance with national primary and secondary ambient air quality standards for specific pollutants, including particulate. The states are primarily responsible for implementing these standards and, in some cases, have adopted more stringent standards than those adopted by the U.S. Environmental Protection Agency ("U.S. EPA") under the Clean Air Act Amendments of 1990 ("Clean Air Act Amendments"). Although the Company can provide no assurances about what ultimate effect, if any, the Clean Air Act Amendments will have on the Filtration Products Business, the Company believes the Clean Air Act Amendments are likely to have a positive long-term effect on demand for its filtration products and services. The recent U.S. Supreme Court decision upholding the right of the U.S. EPA to reduce the size of particulate regulated by the National Air Quality Standard from 10 microns to 2.5 microns could have a significant positive effect on demand for the Company's filtration products in future years. 4 Piping Systems Products and Services. The Company engineers, designs and manufactures specialty piping systems and leak detection and location systems. The Company's piping systems include (i) industrial and secondary containment piping systems for transporting chemicals, hazardous fluids and petroleum products, (ii) insulated and jacketed district heating and cooling piping systems for efficient energy distribution to multiple locations from central energy plants, and (iii) oil and gas gathering flowlines and long lines for oil and mineral transportation. The Company's leak detection and location systems are sold as part of many of its piping systems, and, on a stand-alone basis, to monitor areas where fluid intrusion may contaminate the environment, endanger personal safety, cause a fire hazard, impair essential services or damage equipment or property. The Company's industrial and secondary containment piping systems, manufactured in a wide variety of piping materials, are generally used for the handling of chemicals, hazardous liquids and petroleum products. Industrial piping systems often feature special materials, heat tracing, leak detection and special fabrication. Secondary containment piping systems consist of service pipes housed within outer containment pipes, which are designed to contain any leaks from the service pipes. Each system is designed to provide economical and efficient secondary containment protection that will meet all governmental environmental regulations. The Company's district heating and cooling piping systems are designed to transport steam, hot water and chilled water to provide efficient energy distribution to multiple locations from a central energy plant. These piping systems consist of a carrier pipe made of steel, ductile iron, copper or fiberglass; insulation made of mineral wool, calcium silicate or polyurethane foam; and an outer conduit or jacket of steel, fiberglass reinforced polyester resin, polyethylene or PVC. The Company manufactures several types of piping systems using different materials, each designed to withstand certain levels of temperature and pressure. The Company's oil and gas flowlines are designed to transport crude oil or natural gas from the well head, either on land or on the ocean floor, to the gathering point. Long lines for oil and mineral transportation are used for solution mining and long line transportation of heated hydrocarbons. These piping systems consist of a carrier pipe made of steel, usually supplied by the customer; insulation made of polyurethane; jackets made of high density polyurethane or polyethylene and sometimes a steel outer pipe, also usually supplied by the customer. The Company's leak detection and location systems consist of a sensor cable attached to a microprocessor, which utilizes proprietary software. The system sends pulse signals through the sensor cable, which is positioned in the area to be monitored (e.g., along a pipeline in the ground or in a subfloor), and employs a patented digital mapping technique to plot pulse reflections to continuously monitor the sensor cable for anomalies. The system is able to detect one to three feet of wetted cable in a monitored cable string of up to fifteen miles in length and is able to determine the location of the wetted cable within five feet. Once wetted cable is detected, the microprocessor utilizes the software to indicate the location of the leak. The Company offers a variety of cables specific to different environments. The Company's leak detection and location systems can sense the difference between water and petroleum products and can detect and locate multiple leaks. With respect to these capabilities, the Company believes that its systems are superior to systems manufactured by other companies. Once in place, the Company's leak detection and location system can be monitored off-site because the system can communicate with computers through telephone or internet connections. The Company's leak detection and location systems are being used to monitor fueling systems at airports, including those located in Denver, Colorado; Atlanta, Georgia; Frankfurt, Germany and Hamburg, Germany. They are also used in mission-critical facilities such as those operated by web hosts, application service providers and internet service providers, and in many clean rooms, including such facilities operated by IBM, Intel and Motorola. The Company believes that, in the United States, it is the only major supplier of the type of piping systems it sells that manufactures its own leak detection and location systems. The Company's piping systems are frequently custom fabricated to job site dimensions and/or incorporate provisions for thermal expansion due to varying temperatures. This custom fabrication helps to minimize the amount of field labor required by the installation contractor. Most of the Company's piping systems are produced for underground installations and, therefore, require trenching, which is done by unaffiliated installation contractors. Generally, sales of the Company's piping systems tend to be lower during the winter months, 5 due to weather constraints over much of the country. On the fiscal year ended January 31, 2002, no single customer accounted for more than 10 percent of the net sales of the Company's piping systems. The Company's leak detection and location systems and its secondary containment piping systems are used primarily by operators of military and commercial airport fueling systems, oil refineries, pharmaceutical companies, chemical companies, and in museums, dry storage areas, and tunnels. They are also utilized for water detection by internet service providers, application service providers, web hosts, as well as financial, telecommunication and other electronic service companies. The Company's district heating and cooling systems are used primarily at prisons, housing developments, military bases, cogeneration plants, hospitals, industrial locations and college campuses. The Company believes many district heating and cooling systems in place are 30 to 50 years old and ready for replacement. Replacement of district heating and cooling systems is often motivated by the increased cost of operating older systems due to leakage and/or heat loss. The primary users of the Company's insulated flowlines are major oil companies, gas companies and other providers of mineral resources. Marketing. The customer base for the Company's piping system products is industrially and geographically diverse. The Company employs one national sales manager and six regional sales managers who utilize and assist a network of approximately 85 independent manufacturers' representatives, none of whom sells products that are competitive with the Company's piping systems. Patents, Trademarks and Approvals. The Company owns several patents covering the features of its piping and electronic leak detection systems, which expire commencing in 2006. In addition, the Company's leak detection system is listed by Underwriters Laboratories and the U.S. EPA and is approved by Factory Mutual and the Federal Communication Commission. The Company is also approved as a supplier of underground district heating systems under the federal government guide specifications for such systems. The Company owns numerous trademarks connected with its piping systems business. In addition to Perma-Pipe(R), the Company owns other trademarks for its piping and leak detection systems including the following: Chil-Gard(R), Double-Pipe(R), Double-Quik(R), Escon-A(R), Ferro-Shield(R), FluidWatch(R), Galva-Gard(R), Hi Gard(R), Poly-Therm(R), Pal-AT(R), Ric-Wil(R), Ric-Wil Dual Gard(R), Stereo-Heat(R), Safe-T-Gard(R), Therm-O-Seal(R), Uniline(R), LiquidWatch(R), TankWatch(R), PalCom(R), Xtru-therm(R), Ultra-Pipe(R) and PEX-GARD(R). The Company also owns United Kingdom trademarks for Poly-Therm(R), Perma-Pipe(R) and Ric-Wil(R), and a Canadian trademark for Ric-Wil(R). Backlog. As of January 31, 2002, the dollar amount of backlog (uncompleted firm orders) for piping and leak detection systems was $14,393,000, substantially all of which is expected to be completed in 2002. As of January 31, 2001, the amount of backlog was $18,009,000. Raw Materials and Manufacturing. The basic raw materials used in the production of the Company's piping system products are pipes and tubes made of carbon steel, alloy and plastics and various chemicals such as polyals, isocyanate ("MDI"), polyester resin and fiberglass, mostly purchased in bulk quantities. Although such materials are generally readily available, there may be instances when any of these materials could be in short supply. The Company believes supplies of such materials are adequate to meet current demand. The sensor cables used in the Company's leak detection and location systems are manufactured to the Company's specifications by companies regularly engaged in the business of manufacturing such cables. The Company owns patents for some of the features of its sensor cables. The Company assembles the monitoring component of the leak detection and location system from standard components purchased from many sources. The Company's proprietary software is installed in the system on a read-only memory chip. The Company's manufacturing processes for its piping systems include equipment and techniques to fabricate piping systems from a wide variety of materials, including carbon steel, alloy and copper piping, and engineered thermoplastics and fiberglass reinforced polyesters and epoxies. The Company uses computer-controlled machinery for electric plasma metal cutting, filament winding, pipe coating, insulation foam and protective jacket application, pipe cutting and pipe welding. The Company employs skilled workers for carbon steel and alloy welding to various code requirements. The Company is authorized to apply the American Society of Mechanical Engineers code symbol stamps for unfired pressure vessels and pressure piping. The Company's inventory includes 6 bulk resins, chemicals and various types of pipe, tube, insulation, pipe fittings and other components used in its products. The Company maintains a quality assurance program involving lead worker sign-off of each piece at each workstation, statistical process control, and nondestructive testing protocols. Competition. The piping system products business is highly competitive. The Company believes its competition in the district heating and cooling market consists of two other national companies, Rovanco Piping Systems, Inc. and Thermacor Process, Inc., as well as numerous regional competitors. The Company's secondary containment piping systems have a wider range of competitors than those in the district heating and cooling market and include Asahi/America and GF Plastics Systems. The Company's oil and gas gathering flowlines face worldwide competition, including Bredero-Price, a subsidiary of Haliburton Corp.; Shaw Industries, Inc.; the Bredero-Shaw joint venture of Bredero-Price and Shaw Industries, Inc.; and Logstor Rohr of Denmark. Products competitive with the Company's leak detection and location systems include: (1) cable-based systems manufactured by the TraceTek Division of Raychem, a subsidiary of Tyco Industries; (2) linear gaseous detector systems manufactured by Tracer Technologies and Arizona Instrument Corp.; and (3) probe systems manufactured by Redjacket, as well as several other competitors that provide probe systems for the service station and hydrocarbon leak detection industries. The Company believes that price, quality, service and a comprehensive product line are the key competitive factors in the Company's Piping Systems Business. The Company believes it has a more comprehensive line of piping system products than any of its competitors. Certain competitors of the Company have cost advantages as a result of manufacturing a limited range of products. Some of the Company's competitors have greater financial resources than the Company. Government Regulation. The demand for the Company's leak detection and location systems and secondary containment piping systems is driven primarily by federal and state environmental regulation with respect to hazardous waste. The Federal Resource Conservation and Recovery Act requires, in some cases, that the storage, handling and transportation of certain fluids through underground pipelines feature secondary containment and leak detection. The National Emission Standard for Hydrocarbon Airborne Particulates requires reduction of airborne volatile organic compounds and fugitive emissions. Under this regulation, many major refineries are required to recover fugitive vapors and dispose of the recovered material in a process sewer system, which then becomes a hazardous waste system that must be secondarily contained. Although there can be no assurances as to the ultimate effect of these governmental regulations, the Company believes they may increase the demand for its piping system products. Industrial Process Cooling Equipment Products and Services. The Company engineers, designs and manufactures coolers for industrial purposes. The Company's cooling products include: (i) chillers (portable and central); (ii) cooling towers; (iii) plant circulating assemblies; (iv) water, hot oil, and negative pressure temperature controllers; (v) water treatment equipment and various other accessories; and (vi) replacement parts and accessories relating to the foregoing products. The Company's cooling products are used to optimize manufacturing productivity by quickly removing heat from manufacturing processes. The principal market for the Company's cooling products is the thermoplastics processing industry. The Company also sells its products to original equipment manufacturers, to other cooling manufacturers on a private branded basis and to manufacturers in the laser, metallizing, and machine tool industries. The Company combines chillers and/or cooling towers with plant circulating systems to create plant-wide systems that account for a large portion of its business. The Company specializes in customizing cooling systems according to customer specifications. Chillers. Chillers are refrigeration units designed to provide cool water to a process for the purpose of removing heat from the process and transferring that heat to an area where it can be dissipated. This heat is either dissipated using air (air-cooled chillers) or water (water-cooled chillers). Water-cooled chillers use a cooling tower to transfer the heat from the chiller using water and then releasing the heat to the atmosphere with the cooling tower. The Company believes that it manufactures the most complete line of chillers available in its primary market (thermoplastics processing). The Company's line of portable chillers is available from 1/2 horsepower to 40 horsepower. It incorporates a microprocessor capable of computer communications to standard industry protocols. While portable chillers are considered to be a commodity product by many customers, the Company believes that its units enable it to 7 provide the customer with quality, features, customization and other benefits at a competitive price. Central chillers are used for plant-wide cooling and, while some models incorporate their own pump and tank, most are sold with a separate pumping system that are usually attached to reservoirs. The Company is currently the only manufacturer that offers several types of central water-cooled chillers. These chillers are distinguished by the manner in which the compressor (refrigerant pump) and the evaporator (heat exchanger water to refrigerant) are utilized in the chiller. These chillers also utilize uniquely programmed PLC controls capable of handling either the chillers only or they can be programmed to handle the entire plant cooling system based on customer plant demand. The Company believes that the ability to offer these chiller systems provides it with a unique, total cooling approach concept sales advantage. The Company's central chillers are available from 10 horsepower to 200 horsepower per module. Cooling Towers. A cooling tower is essentially a cabinet with heat transfer fill media in which water flows down across the fill while air is pulled up through the fill. Cooling takes place by evaporation. Cooling towers are located outdoors and are designed to provide water at a temperature of approximately 85(Degree)F to remove heat from water-cooled chillers, air compressors, hydraulic oil heat exchangers and other processes that can effectively be cooled in this manner. The Company markets two lines of cooling towers. The FT series towers were introduced in 1984 and at the time were the first fiberglass cooling towers to be sold in the United States. The cabinets for these towers are imported from Taiwan and are available in sizes ranging from 15 to 120 tons. (One tower ton equals 15,000 BTU's/hour of heat removal.) The FC fiberglass tower line, which is designed and engineered by the Company, is available from 100 to 240 tons. Plant Circulating Systems. The Company manufactures and markets a variety of tanks in various sizes with pumps and piping arrangements that utilize alarms and other electrical options. Thus, each system is unique and customized to meet the individual customer's needs. These plant circulating systems are used as an integral part of central tower and chiller systems. This product line was expanded in 1996 with the introduction of stainless steel and/or fiberglass reinforced polyester tanks. Temperature Control Units. Most temperature control units are used by injection molders of plastic parts. They are designed to remove heat from the molds for the purpose of improving part quality. More than 90 percent of the temperature control units sold in the industry are water units, while the remaining units use oil as the heat transfer medium. Boe-Therm A/S ("Boe-Therm"), a wholly owned subsidiary of the Company, manufactures a complete line of temperature control units, including oil units and negative pressure units. The Company markets Boe-Therm's oil and negative pressure units in the United States under it's own name. Water Treatment Equipment and Accessories. Sold as an accessory to cooling tower systems, water treatment equipment must be used to protect the equipment that is being cooled. The Company sells units manufactured to its specifications by a supplier that provides all the equipment and chemicals needed to properly treat the water. While a relatively small part of the Company's business, this arrangement allows the Company to offer a complete system to its cooling products customers. In addition, the Company provides other items to complement a system, principally heat exchangers, special valves, and "radiator type" coolers. These items are purchased from suppliers and usually drop-shipped directly to customers. Parts. The Company strives to fill parts orders within 24 hours and sells parts at competitive margins in order to serve existing customers and to enhance new equipment sales. Marketing. In general, the Company sells its cooling products in three different markets: domestic thermoplastics processors, the international market, and non-plastics industries that require specialized heat transfer equipment. Domestic thermoplastics processors are the largest market served by the Company, representing the core of its business. There are approximately 8,000 companies processing plastic products in the United States, primarily using injection molding, extrusion, and blow molding 8 machinery. The Company believes the total U.S. market for water cooling equipment in the plastics industry is over $100 million annually, and that the Company is one of the three largest suppliers of such equipment to the plastics industry. The Company believes that the plastics industry is a mature industry with growth generally consistent with that of the national economy. Due to the high plastics content in many major consumer items, such as cars and appliances, this industry experiences economic cyclical activity. The Company believes that it is recognized in the domestic plastics market as a quality equipment manufacturer and that it will be able to maintain current market share, with potential to increase its market share through product development. The Company's cooling products are sold through independent manufacturers' representatives on an exclusive territory basis. Seventeen agencies are responsible for covering the United States and are supported by four regional managers employed by the Company. Sales of the Company's cooling products outside the United States have mainly been in Latin America. Some international sales have been obtained elsewhere as a result of the assembly of complete worldwide PET (plastic bottle) plants by multinational companies. The Company believes that it has a significant opportunity for growth due to the high quality of its equipment and the fact that it offers complete system design. Many United States competitors do not provide equipment outside the U.S. and, while European competitors sell equipment in Latin America, the Company believes that they lack system design capabilities and have a significant freight disadvantage. The Company markets its cooling products through a combination of manufacturers' representatives, distributors and consultants. The acquisition of Boe-Therm in 1998 has resulted in increased sales in Europe and the Far East. The Company has increased sales to non-plastics industries that require specialized heat transfer equipment, usually sold to end users as a package by the supplier of the primary equipment, particularly the laser industry, metallizing industry, and machine tool industry. The Company believes that the size of this market is more than $200 million annually. The original equipment manufacturer generally distributes products to the end user in these markets. Trademarks. The Company registered the trademark "Thermal Care" with the U.S. Patent and Trademark Office in August 1986. Backlog. As of January 31, 2002, the dollar amount of backlog (uncompleted firm orders) for industrial process cooling equipment was $3,548,000, substantially all of which is expected to be completed in 2002. As of January 31, 2001, the amount of backlog was $3,343,000. Raw Materials and Manufacturing. The Company's domestic production and inventory storage facility utilizes approximately 88,000 square feet. The plant layout is designed to facilitate movement through multiple work centers. The Company uses the "Made to Manage" (M2M) MRP System installed in 2001 to support its sales, manufacturing production, inventory, customer relations and accounting operations. The status of the customer order at any given moment can be determined through the M2M system. The Company utilizes prefabricated sheet metal and subassemblies manufactured by both Thermal Care and outside vendors for temperature controller fabrication. The production line is self-contained to reduce handling required to assemble, wire, test, and crate the units for shipment. FT towers up to 120 tons in capacity are assembled to finished goods inventory, which allows the Company to meet quick delivery requirements. FT cooling towers are manufactured using fiberglass and hardware components purchased from a Taiwanese manufacturer, which is the Company's sole source for such products. The wet deck is cut from bulk fill material and installed inside the tower. Customer-specified options can be added at any time. The FC towers are rectangular in design and are engineered by the Company. Two different cabinet sizes of the FC tower account for eight different model variations. All FC cooling towers are assembled at the Company's Niles facility. The Company assembles all plant circulating systems by fabricating the steel to meet the size requirements and adding purchased components to meet customers' specifications. Electrical control boxes assembled in the electrical panel shop are then added to the tank and hardwired to all electrical components. The interior of the steel tanks are coated with an immersion service epoxy and the exterior is painted in a spray booth. In 1996, the Company developed a fiberglass tank for nonferrous applications. 9 Portable chillers are assembled utilizing components both manufactured by the Company and supplied by outside vendors. Portable chillers are assembled using refrigeration components, a non-corrosive tank, hose, and pre-painted sheet metal. Many of the components used in these chillers are fabricated as subassemblies and held in inventory. Once the water and refrigeration components have been assembled, the unit is moved to the electrical department for the addition of control subassemblies and wiring. The chillers are then evacuated, charged with refrigerant and tested under fully loaded conditions. The final production step is to clean, insulate, label, and crate the chiller for shipment. Central chillers are manufactured to customer specifications. Many of the components are purchased to the job requirements and production is planned so that subassemblies are completed to coincide with the work center movements. After mechanical and electrical assembly, the chiller is evacuated, charged with refrigerant and tested at full and partial load conditions. The equipment is then insulated and prepared for painting. The final production step is to complete the quality control inspection and prepare the unit for shipment. Competition. The Company believes that there are at about 15 competitors selling cooling equipment in the domestic plastics market. The Company further believes that three manufacturers, including the Company, collectively share approximately 75 percent of the plastics market. Many international customers, with relatively small cooling needs, are able to purchase small refrigeration units (portable chillers) that are manufactured in their respective local markets at prices below that which the Company can offer due to issues such as freight cost and duty. However, such local manufacturers often lack the technology and products needed for plant-wide cooling systems. The Company believes that its reputation for producing quality plant-wide cooling products results in a significant portion of the Company's business in this area. The Company believes that price, quality, service and a comprehensive product line are the key competitive factors in its Industrial Process Cooling Equipment Business. The Company believes that it has a more comprehensive line of cooling products than any of its competitors. Certain competitors of the Company have cost advantages as a result of manufacturing in non-union shops and offering a limited range of products. Some of the Company's competitors have greater financial resources than the Company. Government Regulation. The Company does not expect compliance with federal, state and local provisions regulating the discharge of materials into the environment or otherwise relating to the protection of the environment to have a material effect on capital expenditures, earnings or the Company's competitive position. Management is not aware of the need for any material capital expenditures for environmental control facilities during the remainder of the current fiscal year or for the foreseeable future. Regulations, promulgated under the Federal Clean Air Act, prohibit the manufacture and sale of certain refrigerants. The Company does not use these refrigerants in its products. The Company expects that suitable refrigerants conforming to federal, state and local laws and regulations will continue to be available to the Company, although no assurances can be given as to the ultimate effect of the Clean Air Act and related laws on the Company. Employees As of March 31, 2002, the Company had 739 full-time employees, 75 of whom were engaged in sales and marketing, 181 of whom were engaged in management, engineering and administration, and the remainder were engaged in production. Hourly production employees of the Company's Filtration Products Business in Winchester, Virginia are covered by a collective bargaining agreement with the International United Automobile, Aerospace & Agricultural Implement Workers of America, which expires in October 2003. Most of the production employees of the Company's Industrial Process Cooling Equipment Business are represented by two unions, the United Association of Journeymen and Apprentices of the Plumbing and Pipefitting Industry of the United States and the International Brotherhood of Electrical Workers Union, pursuant to collective bargaining agreements, both of which expire on June 1, 2002. The collective bargaining agreement of the Piping Systems Business in Lebanon, Tennessee with the United Association of Journeymen and Apprentices of the Plumbing and Pipefitting Industry of the United States - Metal Trades Division expires in March 2004. 10 Executive Officers of the Registrant The following table sets forth information regarding the executive officers of the Company as of March 31, 2002:
Executive Officer of the Company or its Age Position Predecessors Since - ------------------- --- --------------------------------------- ------------------ David Unger 67 Chairman of the Board of Directors, 1972 President and Chief Executive Officer Henry M. Mautner 75 Vice Chairman of the Board of Directors 1972 Gene K. Ogilvie 62 Vice President and Director 1969 Fati A. Elgendy 53 Vice President and Director 1990 Bradley E. Mautner 46 Vice President and Director 1994 Don Gruenberg 59 Vice President and Director 1980 Michael D. Bennett 57 Vice President, Chief Financial Officer, 1989 Secretary and Treasurer Thomas A. Benson 48 Vice President 1988 Billy E. Ervin 56 Vice President 1986 Robert A. Maffei 53 Vice President 1987 Herbert J. Sturm 51 Vice President 1977
All of the officers serve at the discretion of the Board of Directors. David Unger has been employed by the Company and its predecessors in various executive and administrative capacities since 1958, served as President of Midwesco, Inc. from 1972 through January 1994 and was Vice President from February 1994 through December 1996. He was a director of Midwesco, Inc. from 1972 through December 1996, and served that company in various executive and administrative capacities from 1958 until the consummation of the merger of Midwesco, Inc. into MFRI, Inc. (the "Midwesco Merger"). He is a director of the company formed to succeed to the non-Thermal Care business of Midwesco, Inc. Henry M. Mautner has been employed by the Company and its predecessors in various executive capacities since 1972, served as chairman of Midwesco, Inc., from 1972 through December 1996, and served that company in various executive and administrative capacities from 1949 until the consummation of the Midwesco Merger. Since the consummation of the Midwesco Merger, he has served as the chairman of the company formed to succeed to the non-Thermal Care businesses of Midwesco, Inc. Mr. Mautner is the father of Bradley E. Mautner. Gene K. Ogilvie has been employed by the Company and its predecessors in various executive capacities since 1969. He has been general manager of Midwesco Filter or its predecessor since 1980 and President and Chief Operating Officer of Midwesco Filter since 1989. From 1982 until the consummation of the Midwesco Merger, he served as Vice President of Midwesco, Inc. Fati A. Elgendy, who has been associated with the Company and its predecessors since 1978, was Vice President, Director of Sales of the Perma-Pipe Division of Midwesco, Inc. from 1990 to 1991. In 1991, he became Executive Vice President of the Perma-Pipe Division, a position he continued to hold after the acquisition by the Company to form Perma-Pipe. In March 1995, Mr. Elgendy became President and Chief Operating Officer of Perma-Pipe. Bradley E. Mautner has served as Vice President of the Company since December 1996 and has been a director of the Company since 1995. From 1994 to the consummation of the Midwesco Merger, he served as President of Midwesco, Inc. 11 and since December 30, 1996 he has served as President of the company formed to succeed to the non-Thermal Care businesses of Midwesco, Inc. Bradley E. Mautner is the son of Henry M. Mautner. Don Gruenberg has been employed by the Company and its predecessors in various executive capacities since 1974, with the exception of a period in 1979-1980. He has been general manager of Thermal Care or its predecessor since 1980, and was named President and Chief Operating Officer of Thermal Care in 1988. He has been a Vice President and director of the Company since December 1996. Michael D. Bennett has served as the Chief Financial Officer and Vice President of the Company and its predecessors since August 1989. Thomas A. Benson has served as Vice President Sales and Marketing of Thermal Care since May 1988. Billy E. Ervin has been Vice President, Director of Production of Perma-Pipe since 1986. Robert A. Maffei has been Vice President, Director of Sales and Marketing of Perma-Pipe since August 1996. He had served as Vice President, Director of Engineering of Perma-Pipe since 1987 and was an employee of Midwesco, Inc. from 1986 until the acquisition of Perma-Pipe by the Company in 1994. Herbert J. Sturm has served the Company since 1975 in various executive capacities including Vice President, Materials and Marketing Services of Midwesco Filter. Item 2. PROPERTIES The Company's Filtration Products Business has three production facilities. The Winchester, Virginia facility has a total area of 164,500 square feet and is located on 15 acres in Winchester, Virginia. The building occupied by TDC Filter Manufacturing has a total area of 130,700 square feet and is located in Cicero, Illinois. The Company leases a 22,800 square foot facility in Nakskov, Denmark. The Company owns the land and buildings in Winchester, Virginia and Cicero, Illinois. The production facilities for the Company's piping system products are located in Lebanon, Tennessee and New Iberia, Louisiana. The Lebanon facility is located on approximately 24 acres and is housed in five buildings totalling 152,000 square feet, which contain manufacturing, warehouse and office facilities, as well as a quality assurance laboratory. The Company owns the buildings and the land for the Tennessee facility. The New Iberia production facility is comprised of two buildings with a total area of 12,000 square feet, which contain automated manufacturing and warehouse facilities. In September 2000, the Company purchased the buildings, and signed a long-term lease for the land, which expires in 2017. The Company's principal executive offices and the production facilities for the Company's Industrial Process Cooling Equipment Business are located in a 131,000 square foot building on 8.1 acres in Niles, Illinois. The Industrial Process Cooling Equipment Business uses approximately 88,000 square feet of this facility for production and offices. The Industrial Process Cooling Equipment Business also has a 20,000 square foot manufacturing and office facility in Assens, Denmark, which was purchased as part of the Boe-Therm acquisition in June 1998. The Company believes its properties and equipment are well maintained, in good operating condition and that productive capacities will generally be adequate for present and currently anticipated needs. Compliance with environmental regulations by the Company in its manufacturing operations has not had, and is not anticipated to have, a material effect on the capital expenditures, earnings or competitive position of the Company. Item 3. LEGAL PROCEEDINGS None 12 Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS At the annual meeting of the stockholders of the Company on June 26, 2001, the stockholders considered and voted on two proposals. The first proposal was whether to adopt the 2001 Independent Directors Stock Option Plan (the "2001 Directors Plan"), which would replace the 1990 Independent Directors Stock Option Plan, under which authority to grant options had expired in September 1999. The maximum number of shares that may be sold pursuant to the 2001 Directors Plan is 100,000 shares. Stockholders approved the first proposal; the result of the vote was as follows: 3,182,851 shares of Common Stock were voted to approve the plan, 506,402 voted against, and 13,691 shares abstained. There were no broker non-votes with respect to the proposal. The second proposal was whether to adopt the 2001 Stock Option Exchange Plan (the "2001 Exchange Plan"), which would allow employees, including officers, to exchange options from prior plans for options to be granted in December 2001. The exercise price of the new options was to be the market price at the date of grant, and the options were to vest in four equal annual installments. The new options were to have a maximum term of ten years from the date of grant. Stockholders approved the second proposal; the result of the vote was as follows: 2,224,601 shares of Common Stock were voted to approve the plan, 1,463,752 shares voted against, and 14,591 shares abstained. There were no broker non-votes with respect to the proposal. PART II Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The Company's Common Stock is traded on The Nasdaq National Stock Market under the symbol "MFRI." The following table sets forth, for the periods indicated, the high and low sales prices as reported by the Nasdaq National Market for 2000 and for 2001. 2000 High Low First Quarter....................................... $4.94 $3.63 Second Quarter..... ................................ 4.38 3.50 Third Quarter....................................... 3.94 3.25 Fourth Quarter...................................... 3.50 2.25 2001 High Low First Quarter....................................... $2.94 $2.28 Second Quarter................................. .... 3.60 2.40 Third Quarter................................... ... 3.35 2.60 Fourth Quarter...................................... 3.42 2.88 As of January 31, 2002, there were approximately 110 stockholders of record, and approximately 1,350 beneficial stockholders, of the Company's Common Stock. The Company has never declared or paid a cash dividend and does not anticipate paying cash dividends on its Common Stock in the foreseeable future. Management presently intends to retain all available funds for the development of the business and for use as working capital. Future dividend policy will depend upon the Company's earnings, capital requirements, financial condition and other relevant factors. The Company's line of credit agreement and note agreements contain certain restrictions on the payment of dividends. 13 Item 6. SELECTED FINANCIAL DATA The following selected financial data for the Company for the years 2001, 2000, 1999, 1998 and 1997 are derived from the financial statements of the Company. The information set forth below should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" included herein in response to Item 7 and the consolidated financial statements and related notes included herein in response to Item 8.
2001 2000 1999 1998 1997 (In thousands, except per share information) Fiscal Year ended January 31, ----------------------------------------------------------------- 2002 2001 2000 1999 1998 ----------- ----------- ----------- ------------ ----------- Statements of Operations Data: Net sales $125,534 $149,533 $137,170 $121,960 $111,240 Income from operations 2,172 4,920 6,980 3,831 6,224 Net income (loss) (374) 1,126 2,401 336 2,758 Net income (loss) per share - basic (0.08) 0.23 0.49 0.07 0.55 Net income (loss) per share - diluted (0.08) 0.23 0.49 0.07 0.54
(In thousands) As of January 31, ----------------------------------------------------------------- 2002 2001 2000 1999 1998 ----------- ----------- ----------- ------------ ----------- Balance Sheet Data: Total assets $92,529 $104,785 $ 97,776 $97,619 $ 93,395 Long-term debt (excluding capital leases), less current portion 20,883 36,073 31,357 33,924 33,073 Capitalized leases, less current portion 217 348 2,398 2,368 2,202
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The statements contained under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations" and certain other information contained elsewhere in this annual report, which can be identified by the use of forward-looking terminology such as "may", "will", "expect", "continue", "remains", "intend", "aim", "should", "prospects", "could", "future", "potential", "believes", "plans" and "likely" or the negative thereof or other variations thereon or comparable terminology, constitute "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and are subject to the safe harbors created thereby. These statements should be considered as subject to the many risks and uncertainties that exist in the Company's operations and business environment. Such risks and uncertainties could cause actual results to differ materially from those projected. These uncertainties include, but are not limited to, economic conditions, market demand and pricing, competitive and cost factors, raw material availability and prices, global interest rates, currency exchange rates, labor relations and other risk factors. The Company's fiscal year ends on January 31. Years described as 2001, 2000 and 1999 are the fiscal years ended January 31, 2002, 2001 and 2000, respectively. Balances described as balances as of 2001 and 2000 are balances as of January 31, 2002 and 2001, respectively. 14 RESULTS OF OPERATIONS MFRI, Inc. 2001 Compared to 2000 Net sales of $125,534,000 in 2001 decreased 16.0% from $149,533,000 in 2000. Sales declined in all businesses due to the economic recession. Gross profit of $26,332,000 in 2001 decreased 18.0% from $32,121,000 in 2000. Gross margin decreased slightly to 21.0 percent of net sales in 2001 from 21.5 percent in 2000. Overall gross profit in all businesses was adversely impacted by lower sales, partially offset by gross margin increase in the piping systems business due to improved plant efficiency and favorable product mix. Selling, general and administrative expenses decreased 11.2% to $24,160,000 in 2001 from $27,201,000 in 2000 primarily due to lower sales commissions and cost reduction measures that were implemented during the year. 2001 resulted in a net loss of $374,000 or $(0.08) per common share, a decrease of 133% from a net income of $1,126,000 or $0.23 per common share in 2000 mainly due to decreased gross profit as discussed above and due to loss on the divestiture of Perma-Pipe Services, Ltd. ($204,000). The Company's operating results are discussed in more detail below. 2000 Compared to 1999 Net sales increased 9.0% in 2000 to $149,533,000 from $137,170,000 in 1999. Gross profit of $32,121,000 in 2000 decreased 3.2 percent from $33,186,000 in 1999, while the gross margin decreased from 24.2 percent of net sales in the 1999 to 21.5 percent of net sales in 2000. Net sales increased in all business segments compared with the prior year, while gross profit decreased in the filtration products business and the piping system business. Overall gross margins were adversely impacted by low margins on a large utility contract and high warranty expenses in the filtration products business and higher than expected costs on two large contracts in the piping systems business. Net income decreased 53.1% to $1,126,000 or $0.23 per common share (diluted) in 2000 from $2,401,000 or $0.49 per common share (diluted) in the prior year mainly due to the reduction in gross profit discussed above and increased selling, general and administrative expenses. The Company's operating results are discussed in more detail below. Filtration Products Business The Company's Filtration Products Business is characterized by a large number of relatively small orders and a limited number of large orders, typically from electric utilities and original equipment manufacturers. In 2001, the average order amount was approximately $3,616. The timing % Increase of large orders can have a material effect on the (Decrease) comparison of net sales and gross profit from period to period. Large orders generally are highly competitive and result in a lower gross margin. In 2001 and 2000 no customer accounted for 10 percent or more of the net sales of the Company's filtration products and services. 15 The Company's Filtration Products Business, to a large extent, is dependent on governmental regulation of air pollution at the federal and state levels. The Company believes that continuing growth in the sale of its filtration products and services will be materially dependent on continuing enforcement of environmental laws such as the Clean Air Act Amendments. Although there can be no assurances as to what ultimate effect, if any, the Clean Air Act Amendments will have on the Company's Filtration Products Business, the Company believes that the Clean Air Act Amendments are likely to have a long-term positive effect on demand for the Company's filtration products and services. - -------------------------------------------------------------------------------- Filtration Products Business - ---------------------------- (In thousands) %Increase (Decrease) --------------- 2001 2000 1999 2001 2000 ------- ------- ------- ------- ------- Net sales $54,434 $64,950 $56,165 (16.2%) 15.6% Gross profit 10,063 11,844 12,730 (15.0%) (7.0%) As a percentage of net sales 18.5% 18.2% 22.7% Income from operations 2,168 3,026 3,883 (28.4%) 22.1%) As a percentage of net sales 4.0% 4.7% 6.9% - -------------------------------------------------------------------------------- 2001 Compared to 2000 Net sales decreased 16.2% to $54,434,000 in 2001 from $64,950,000 in 2000. This decrease is the result of lower sales in all product categories, particularly in fabric filter elements in the domestic market, where we believe the market declined by 20 to 30%. Gross profit as a percent of net sales increased to 18.5% in 2001 from 18.2% in 2000, but remains historically depressed due to continuing competitive pricing pressure and manufacturing inefficiencies caused by the volume decline. Selling expense in 2001 decreased to $4,865,000 from $5,396,000 in 2000, but increased from 8.3 percent of net sales in 2000 to 8.9 percent of net sales in 2001. The dollar decrease is primarily due to lower sales volume related selling expenses. General and administrative expense decreased from $3,422,000 or 5.3 percent of net sales in 2000 to $3,030,000 or 5.6 percent of net sales in 2001, primarily due to cost reduction measures. 2000 Compared to 1999 Net sales increased 15.6% to $64,950,000 in 2000 from $56,165,000 in 1999. This increase is the result of higher sales in all product categories, particularly in pleated filter elements and non-filtration products and services. Gross profit as a percent of net sales decreased from 22.7% in 1999 to 18.2% in 2000, primarily as a result of manufacturing inefficiencies, high product warranty expenses, low margins on a large utility contract in 2000 and continuing competitive pricing pressures. Selling expense in 2000 increased to $5,396,000 from $5,334,000 in 1999, but decreased from 9.5 percent of net sales in 1999 to 8.3 percent of net sales in 2000. The dollar increase is attributable to higher expenses to support pleated product sales, partially offset by reduced selling expense in the international marketing effort. 16 General and administrative expense decreased to $3,422,000 or 5.3 percent of net sales in 2000 from $3,513,000 or 6.3 percent of net sales in 1999, primarily due to reduced profit-based incentive compensation. Piping Systems Business Generally, the Company's leak detection and location systems have higher profit margins than its district heating and cooling piping systems and secondary containment piping systems. The Company has benefited from continuing efforts to have its leak detection and location systems included as part of the customers' original specifications for construction projects. Although demand for the Company's secondary containment piping systems is generally affected by the customer's need to comply with governmental regulations, purchases of such products at times may be delayed by customers due to adverse economic factors. In 2001, 2000 and 1999, no customer accounted for 10 percent or more of net sales of the Company's piping systems. The Company's Piping Systems Business is characterized by a large number of small and medium orders and a small number of large orders. The average order amount for 2001 was approximately $22,000. The timing of such orders can have a material effect on the comparison of net sales and gross profit from period to period. Most of the Company's piping systems are produced for underground installations and, therefore, require trenching, which is performed directly for the customer by installation contractors unaffiliated with the Company. Generally, sales of the Company's piping systems tend to be lower during the winter months, due to weather constraints over much of the country. - -------------------------------------------------------------------------------- Piping Systems Business - ---------------------- (In thousands) % Increase (Decrease) ----------------- 2001 2000 1999 2001 2000 ------- ------- ------- ------- ------- Net sales $49,417 $54,809 $51,710 (9.8%) 6.0% Gross profit 10,208 10,784 11,278 (5.3%) (4.4%) As a percentage of net sales 20.7% 19.7% 21.8% Income from operations 3,347 3,085 4,030 8.5% (23.4%) As a percentage of net sales 6.8% 5.6% 7.8% - -------------------------------------------------------------------------------- 2001 Compared to 2000 Net sales decreased 9.8% to $49,417,000 in 2001 from $54,809,000 in 2000, mainly due to decreased sales of leak detection systems, a slight decrease in DHC business, and loss of sales of $1,063,000 from SZE Hagenuk GmbH, a subsidiary that was sold in 2000. Gross profit as a percent of net sales increased from 19.7% in 2000 to 20.7% in 2001, mainly as a result of improved manufacturing efficiencies. Selling expense decreased from $2,858,000 in 2000 to $1,849,000 in 2001, primarily due to the decrease in net sales and decrease in selling expense by $716,000 for SZE Hagenuk GmbH. Selling expense as a percent of net sales decreased from 5.2% in 2000 to 3.7% in 2001. General and administrative expense increased from $4,841,000 or 8.8 percent of net sales in 2000 to $5,012,000 or 10.1 percent of net sales in 2001. The increase is mainly due to increases in executive incentives and legal expense, partially offset by eliminated expenses in 2001 due to the sale of SZE Hagenuk GmbH in 2000. 17 2000 Compared to 1999 Net sales increased 6.0% to $54,809,000 in 2000 from $51,710,000 in 1999, mainly due to increased sales of long lines for mineral transportation and sales of leak detection systems. Gross profit as a percent of net sales decreased from 21.8% in 1999 to 19.7% in 2000, mainly as a result of a higher than expected costs on two large contracts. Selling expense increased from $2,780,000 in 1999 to $2,858,000 in 2000, primarily due to an increase in commission and salary expense for inside sales personnel. Selling expense as a percent of net sales decreased from 5.4% in 1999 to 5.2% in 2000. General and administrative expense increased from $4,468,000 or 8.6 percent of net sales in 1999 to $4,841,000 or 8.8 percent of net sales in 2000. The increase is mainly due to a pretax loss from the sale of the Company's foreign subsidiary SZE Hagenuk GmbH ("SZE Hagenuk") of $241,000, which was included in general and administrative expense in 2000. Industrial Process Cooling Equipment Business The Company's Industrial Process Cooling Equipment Business is characterized by a large number of relatively small orders and a limited number of large orders. In 2001, the average order amount was approximately $3,616. Large orders are generally highly competitive and result in lower profit margins. In 2001, no customer accounted for 10 percent or more of net sales of the Cooling Equipment Business. In 2000, sales to Teradyne Inc. were $3,386,000, or 11.4 percent of net sales of the Cooling Equipment Business. However, this customer accounted for less than 10 percent of the Company's total consolidated net sales. - -------------------------------------------------------------------------------- Industrial Process Cooling Equipment Business - --------------------------------------------- (In thousands) %Increase (Decrease) ----------------- 2001 2000 1999 2001 2000 ------- ------- ------- ------- ------- Net sales $21,683 $29,774 $29,295 (27.2%) 1.6% Gross profit 6,061 9,493 9,178 (36.1%) 3.4% As a percentage of net sales 28.0% 31.9% 31.3% Income from operations 627 2,995 2,867 (79.1%) 4.5% As a percentage of net sales 2.9% 10.1% 9.8% - -------------------------------------------------------------------------------- 2001 Compared to 2000 Net sales decreased 27.2% from $29,774,000 in 2000 to $21,683,000 in 2001. The decrease resulted from the economic recession in 2001. Gross margins as a percentage of net sales decreased to 28.0% in 2001 from 31.9% in 2000, primarily due to product mix. Selling expenses decreased from $3,821,000 or 12.8 percent of net sales in 2000 to $3,061,000 or 14.1 percent of net sales in 2001. The decrease is due to a decline in commission expense based on lower sales volume and decrease in advertising. General and administrative expenses decreased from $2,677,000 in 2000 to $2,372,000 in 2001. The decrease is due to staff reduction and related costs as well as a one time settlement charge recorded in 2000. General and administrative expense as a percent of net sales increased to 10.9% in 2001 from 9.0% in 2000, mainly due to lower sales. 18 2000 Compared to 1999 Net sales increased 1.6% to $29,774,000 in 2000 from $29,295,000 in 1999. The increase resulted from growth in sales to original equipment manufacturers. Gross margins as a percentage of net sales increased to 31.9% in 2000 from 31.3% in 1999, primarily due to product mix. Selling expenses increased from $3,646,000 or 12.4 percent of net sales in 1999 to $3,821,000 or 12.8 percent of net sales in 2000. The increase is due to higher commissions in the first quarter of 2000. General and administrative expenses increased slightly from $2,665,000 in 1999 to $2,677,000 in 2000. General and administrative expense as a percentage of net sales decreased from 9.1% in 1999 to 9.0% in 2000. General Corporate Expenses General corporate expenses include general and administrative expense not allocated to business segments and interest expense. 2001 Compared to 2000 General corporate expenses not allocated to business segments decreased 5.2% from $4,186,000 in 2000 to $3,970,000 in 2001, primarily due to decrease in professional services and lower expenses for corporate information services projects, as more resources were devoted to information services projects in the company's business segments. Interest expense decreased 11.5% from $2,938,000 in 2000 to $2,600,000 in 2001 due to reduction of net borrowings by $6,804,000 or 17.4% in 2001, partially offset by increased interest expense from renegotiated rates on refinancing of remaining borrowings. 2000 Compared to 1999 General and administrative expenses not allocated to business segments increased 10.2% from $3,800,000 in 1999 to $4,186,000 in 2000, primarily due to increases in employee-related expenses and franchise taxes. The percentage of non-allocated general and administrative expenses to net sales remained flat at 2.8%. Interest expense increased 5.3% to $2,938,000 in 2000 from $2,790,000 in 1999, due to increased borrowings for working capital requirements in 2000. Income Taxes The effective income tax (benefit) rates were (12.5%), 43.2% and 42.7% in 2001, 2000 and 1999, respectively. LIQUIDITY AND CAPITAL RESOURCES Cash and cash equivalents as of January 31, 2002 were $119,000 as compared to $290,000 at January 31, 2001. Net cash inflows of $8,562,000 generated from operating activities and $1,380,000 proceeds from sale of property, plant and equipment were used to fund purchases of property, plant and equipment of $3,455,000 and net reduction of long-term debt of $6,647,000 and capitalized lease obligations of $157,000. 19 Net cash provided by operating activities was $8,562,000, mainly due to earnings before depreciation and amortization and a decrease in accounts receivable and inventories, and offset by a decrease in accounts payable. Net cash provided by operating activities was $3,105,000 in 2000, mainly due to earnings before depreciation and amortization and increase in accounts receivable, offset by an increase in accounts payable. Net cash used in investing activities in 2001 was $1,894,000 versus $5,860,000 in 2000. Capital expenditures decreased from $5,534,000 in 2000 to $3,455,000 in 2001. In 2001, proceeds from the sale of property and equipment were $1,380,000, mainly resulting from the sale of certain equipment in Lebanon, Tennessee to a third party in June 2001. The Company leased back the equipment from the third party purchaser. In 2000, the Company purchased an 8.1 acre parcel of land with a 131,000-square foot building in Niles, Illinois, from two significant management stockholders for approximately $4,438,000. Prior to the purchase, the land and building had been leased from the two significant stockholders. The purchase price included cash paid of $1,767,000 and the assumption of a $2,405,000 mortgage note. The Company also purchased two buildings with a total area of 12,000 square feet, in New Iberia, Louisiana, for $380,000 in 2000. Net cash used in financing activities in 2001 was $6,804,000 compared to net cash obtained from financing activities of $2,247,000 in 2000. In 2001, net cash obtained from borrowings under revolving, term and mortgage loans was $1,224,921,000, net repayment of capitalized lease obligations was $157,000 and repayment of debt was $1,231,568,000. In 2000, net cash obtained from borrowings under revolving, term and mortgage loans was $246,466,000, net repayment of capitalized lease obligations was $196,000 and repayment of debt was $244,023,000. The Company's current ratio was 1.5 to 1 at January 31, 2002 and 2.1 to 1 at January 31, 2001. Debt to total capitalization decreased to 45.9% at January 31, 2002 from 50.2% at January 31, 2001. Financing On December 15, 1996, the Company entered into a private placement with institutional investors of $15,000,000 of 7.21 percent unsecured senior notes due January 31, 2007 (the "Notes due 2007"). The Notes due 2007 were amended on April 30, 2001, modifying certain covenants, increasing the interest rate to 8.46 percent, and changing the schedule of principal payments and were again amended on December 18, 2001, to require previously unscheduled principal payments of $1,000,000 no later than March 31, 2002 and $2,143,000 on June 30, 2002, in addition to the previously scheduled level monthly principal payments of $179,000 beginning May 31, 2001 and continuing monthly thereafter as required by the April 30, 2001 amendment. Based on the amended schedule of principal repayments, the Notes due 2007 are payable in full in September 2004. The note purchase agreement contains certain financial covenants. At January 31, 2002, the Company was not in compliance with one of these covenants. The Company has obtained a waiver for such non-compliance, and the note purchase agreement was amended on April 26, 2002, modifying certain covenants and deferring the required March 31, 2002 principal payment to April 30, 2002. On September 17, 1998, the Company entered into a private placement with institutional investors of $10,000,000 of 6.97 percent unsecured senior notes due September 17, 2008 (the "Notes due 2008"). The Notes due 2008 were amended on April 30, 2001, modifying certain covenants, increasing the interest rate to 7.97 percent, and changing the schedule of principal payments, and were again amended on December 18, 2001, to require previously unscheduled principal payments of $1,000,000 no later than March 31, 2002 and $2,143,000 on June 30, 2002, in addition to the previously scheduled level monthly principal payments of $119,000 beginning October 17, 2002 and continuing monthly thereafter as required by the April 30, 2001 amendment. Based on the amended schedule of principal repayments, the Notes due 2008 will be paid in full by July 2006. The note purchase agreement contains certain financial covenants. At January 31, 2002, the Company was not in compliance with one of these covenants. The Company has obtained a waiver for such non-compliance, and the note purchase agreement was amended on April 26, 2002, modifying certain covenants and deferring the required March 31, 2002 principal payment to April 30, 2002. 20 On August 8, 2000, the Company entered into an unsecured credit agreement with a bank (the "Bank"). Under the terms of this agreement, as amended, the Company can borrow up to $8,000,000, subject to borrowing base and other requirements, under a revolving line of credit, which matures on July 31, 2003. On April 30, 2001 and September 14, 2001, the agreement was amended, modifying certain covenants and increasing the interest rate. Interest rates are based on one of three options selected by the Company at the time of each borrowing, as follows: (1) the higher of the prime rate or the federal funds rate plus 0.50 percent, (2) the LIBOR rate plus a margin for the term of the loan, or (3) a rate quoted by the Bank for the term of the loan. At January 31, 2002, the prime rate was 4.75 percent and the margin added to the LIBOR rate, which is determined each quarter based on a financial statement ratio, was 2.25 percent. The Company had borrowed $2,300,000 under the revolving line of credit at January 31, 2002. The Company's policy is to classify borrowings under the revolving line of credit as long-term debt since the Company has the ability and the intent to maintain this obligation for longer than one year. In addition, $793,000 was drawn under the agreement as letters of credit. These letters of credit principally guarantee performance to third parties as a result of various insurance and trade activities; guarantee performance under the mortgage note secured by the manufacturing facility located in Cicero, Illinois with respect to the making of certain repairs and the payment of property taxes and insurance premiums; and guarantee repayment of a foreign subsidiary's borrowings under an overdraft facility. At January 31, 2002, the Company was not in compliance with two covenants under the line of credit. The Company has obtained a waiver for such non-compliance. On October 10, 2001, the Company pledged substantially all of its assets that were not previously pledged as security for the Notes due 2007, the Notes due 2008 and the Bank credit agreement, as required by those agreements. The Company has determined that it will need to renegotiate or refinance the note purchase agreements for the Notes due 2007 and the Notes due 2008, which currently require principal payments aggregating $4,286,000 to be made by the Company on June 30, 2002. The Company is currently engaged in a review of the options available to address its long-term capital needs and is negotiating amendments to or replacements of the note purchase agreements and credit agreement. While the Company believes it will have adequate financing available to meet its needs in the future, there is no assurance any such financing will be available or that the terms of any financing will be more favorable than the Company's existing financing. On September 14, 1995, the Filtration Products Business in Winchester, Virginia received $3,150,000 of proceeds of Industrial Revenue Bonds, which mature on August 1, 2007, and on October 18, 1995, the Piping Systems Business in Lebanon, Tennessee received $3,150,000 of proceeds of Industrial Revenue Bonds, which mature on September 1, 2007. These bonds are fully secured by bank letters of credit, which the Company expects to renew, reissue or extend prior to each expiration date during the term of the bonds. The bonds bear interest at a variable rate, which approximates five percent per annum, including letter of credit and re-marketing fees. The bond proceeds were available for capital expenditures related to manufacturing capacity expansions and efficiency improvements during a three-year period which commenced in the fourth quarter of 1995 and ended during the Company's fiscal quarter ended October 31, 1998. On November 1, 1999, the Company utilized $1,100,000 of unspent bond proceeds to redeem bonds outstanding as provided in the indenture. On May 8, 1996, the Company purchased a 10.3-acre parcel of land with a 67,000-square foot building adjacent to its Midwesco Filter property in Winchester, Virginia for approximately $1.1 million. The purchase was financed 80 percent by a seven-year mortgage note bearing interest at 8.38 percent (the "Old Winchester Mortgage") and 20 percent by the Industrial Revenue Bonds described above. On April 26, 2002 the Company borrowed $3,450,000 under a new mortgage note secured by all its property in Winchester, Virginia (the "New Winchester Mortgage"). Proceeds from the New Winchester Mortgage, net of repayment of the Existing Winchester Mortgage, were approximately $2,700,000. The New Winchester Mortgage bears interest at 7.10 percent, and the loan's amortization schedule and term are ten years. On June 30, 1998, the Company borrowed $1,400,000 under a mortgage note secured by the manufacturing facility in Cicero, Illinois. The loan bears interest at 6.76 percent and the term of the loan is ten years with an amortization schedule of 25 years. On June 1, 1998, the Company obtained two loans from a Danish bank to partially finance the acquisition of Boe-Therm A/S ("Boe-Therm"). The first loan in the amount of 4,500,000 Danish krone ("DKK") (approximately $650,000) is secured by the land and building of Boe-Therm, bears interest at 6.48 percent and has a term of twenty years. The second loan in the amount of 2,750,000 DKK (approximately $400,000) is secured by the machinery and equipment of Boe-Therm, bears interest at 5.80 percent and has a term of five years. 21 On August 10, 1999, the Company obtained a loan from a Danish bank in the amount of 3,000,000 DKK (approximately $425,000) to complete the permanent financing of the acquisition of Nordic Air A/S. The loan bears interest at 6.22 percent and has a term of five years. On September 20, 2000, the Company purchased an 8.1-acre parcel of land with a 131,000-square foot building in Niles, Illinois, from two principal stockholders who are also members of management for approximately $4,438,000. This amount includes the assumption of a $2,500,000 mortgage note with a remaining balance of $2,405,000. The loan bears interest at 7.52 percent and the term of the loan is ten years with an amortization schedule of 25 years. At the date of purchase, the remaining term of the loan was 7.25 years. The Company also has short-term credit arrangements utilized by its European subsidiaries. These credit arrangements are generally in the form of overdraft facilities at rates competitive in the countries in which the Company operates. At January 31, 2002, borrowings under these credit arrangements totaled $180,000; an additional $790,000 remained unused. The Company also had outstanding letters of credit in the amount of $78,000 to guarantee performance to third parties of various European trade activities and contracts. ACCOUNTING PRONOUNCEMENTS On February 1, 2001, the Company adopted Statement of Financial Accounting Standard (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging Activities," as amended. This statement standardizes the accounting for derivative instruments by requiring that an entity recognize all derivatives as assets and liabilities in the statement of financial position and measure them at fair value. When certain criteria are met, it also provides for matching of gain or loss recognition on the derivative hedging instrument with the recognition of (a) the changes in the fair value or cash flows of the hedged asset or liability attributable to the hedged risk or (b) the earnings effect of the hedged forecasted transaction. The Company has a small number of derivative instruments. Application of SFAS 133 is not material to results of operations, financial condition or cash flows. In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition in Financial Statements." This SAB provides guidance on the recognition, presentation and disclosure of revenue in the financial statements of public companies. The adoption of SAB No. 101 has not had a material effect on our reported results of operations, financial condition or cash flows. In September 2000, the Financial Accounting Standards Board (FASB) issued SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities" which the Company adopted for all applicable transactions occurring after March 31, 2001. The adoption of SFAS No. 140 has not had a material effect on the reported results of operations, financial condition or cash flows of the Company. In June 2001, the FASB issued SFAS No. 141, "Business Combinations". The statement requires all business combinations initiated after June 30, 2001 to be accounted for by the purchase method. The Company anticipates that adopting SFAS No. 141 will not have a material effect on reported results of operations, financial condition or cash flows of the Company. The Company is currently evaluating the impact of adopting SFAS No. 142, "Goodwill and Other Intangible Assets." The Company plans to adopt SFAS No. 142 for the Company's fiscal year beginning February 1, 2002. The Company anticipates that adopting SFAS No. 142 will require it to report a material adverse change in its financial position and results of operations due to writing down between 70% and 100% of the Company's approximately $14,000,000 of goodwill and related intangible assets, but will have no effect at all on cash flow, when such statement is adopted. In June 2001, the FASB issued SFAS No. 143 "Accounting for Retirement Obligations," which is effective February 1, 2003. It requires that the fair value of a liability for an asset retirement obligation be recognized in the period in which it is incurred if a reasonable estimate of fair value can be made, and that the associated asset retirement costs be capitalized as part of the carrying amount of the long-lived asset. The Company does not expect adoption of SFAS No. 143 to have a material effect on the results of operations, financial condition or cash flows. 22 In August 2001, the FASB issued SFAS No. 144 "Accounting for the Impairment or Disposal of Long-Lived Assets," which is effective for the Company starting February 1, 2002. SFAS No. 144 addresses accounting and reporting of the impairment or disposal of long-lived assets, including discontinued operations, and establishes a single accounting method for the sale of long-lived assets. The Company does not expect adoption of SFAS No. 144 to have a material effect on the results of operations, financial condition or cash flows. Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company is subject to market risk associated with changes in foreign currency exchange rates and interest rates. Foreign currency exchange rate risk is mitigated through maintenance of local production facilities in the markets served, invoicing of customers in the same currency as the source of the products and use of foreign currency denominated debt, in Denmark and in the United Kingdom. The Company also utilizes foreign currency forward contracts to reduce exposure to exchange rate risks. The forward contracts are short-term in duration, generally one year or less. The major currency exposure hedged by the Company is the Canadian dollar. The contract amounts, carrying amounts and fair values of these contracts were not significant at January 31, 2002, 2001 and 2000. The changeover from national currencies to the Euro began on January 1, 2002, and is not expected to materially affect the Company's foreign currency exchange risk profile, although some customers may require the Company to invoice or pay in Euros rather than the functional currency of the manufacturing entity. The Company has attempted to mitigate its interest rate risk through the maximum possible use of fixed-rate long-term debt. Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The consolidated financial statements of the Company as of January 31, 2002 and January 31, 2001 and for each of the three years in the period ended January 31, 2002 and the notes thereto are set forth elsewhere herein. Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE Not applicable. PART III Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT Information with respect to directors of the Company is incorporated herein by reference to the table under the caption "Nominees for Election as Directors" and the textual paragraphs following the aforesaid table in the Company's proxy statement for the 2002 annual meeting of stockholders. Information with respect to executive officers of the Company is included in Item 1, Part I hereof under the caption "Executive Officers of the Registrant." Item 11. EXECUTIVE COMPENSATION Information with respect to executive compensation is incorporated herein by reference to the information under the caption "Executive Compensation" in the Company's proxy statement for the 2002 annual meeting of stockholders. 23 Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT Information with respect to security ownership of certain beneficial owners and management of the Company is incorporated herein by reference to the information under the caption "Beneficial Ownership of Common Stock" in the Company's proxy statement for the 2002 annual meeting of stockholders. Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information with respect to certain relationships and transactions is incorporated herein by reference to the information under the caption "Certain Transactions" in the Company's proxy statement for the 2002 annual meeting of stockholders. PART IV Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K a. (1) Consolidated Financial Statements Refer to Part II, Item 8 of this report. (2) Financial Statement Schedule a. Schedule II - Valuation and Qualifying Accounts (3) The exhibits, as listed in the Exhibit Index set forth on page 50, are submitted as a separate section of this report. b. MFRI filed no reports on Form 8-K with the Securities and Exchange Commission during the last quarter of the fiscal year ended January 31, 2002. c. See Item 14(a)(3) above. d. The response to this portion of Item 14 is submitted as a separate section of this report. 24 INDEPENDENT AUDITORS' REPORT To the Board of Directors and Stockholders of MFRI, Inc. and subsidiaries Chicago, Illinois We have audited the accompanying consolidated balance sheets of MFRI, Inc. and subsidiaries as of January 31, 2002 and 2001, and the related consolidated statements of operations, shareholders' equity, and cash flows for each of the three years in the period ended January 31, 2002. Our audits also included the financial statement schedule listed in the Index at Item 14a(2). These financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on the financial statements and financial statement schedule based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. 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, such consolidated financial statements present fairly, in all material respects, the financial position of MFRI, Inc. and subsidiaries at January 31, 2002 and 2001, and the results of their operations and their cash flows for each of the three years in the period ended January 31, 2002 in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly in all material respects the information set forth therein. DELOITTE & TOUCHE LLP Chicago, Illinois April 30, 2002 25 MFRI, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (In thousands except per share information)
2001 2000 1999 Fiscal Year Ended January 31, 2002 2001 2000 - -------------------------------------------------------------------------------- Net sales $125,534 $149,533 $137,170 Cost of sales 99,202 117,412 103,984 -------- -------- -------- Gross profit 26,332 32,121 33,186 Operating expenses: Selling expense 9,775 12,075 11,760 General and administrative expense 14,459 15,045 14,572 Management services agreement - net (74) 81 (126) -------- -------- -------- Total operating expenses 24,160 27,201 26,206 -------- -------- -------- Income from operations 2,172 4,920 6,980 Interest expense - net 2,600 2,938 2,790 -------- -------- -------- Income (loss) before income taxes (428) 1,982 4,190 Income taxes (benefit) (54) 856 1,789 -------- -------- ------- Net income (loss) $ (374) $ 1,126 $ 2,401 ======== ======== ======= Net income(loss)per common share - basic $(0.08) $0.23 $0.49 Net income (loss) per common share - diluted $(0.08) $0.23 $0.49 Weighted average common shares outstanding 4,922 4,922 4,922 Weighted average common shares outstanding assuming full dilution 4,922 4,923 4,928
See notes to consolidated financial statements. 26
MFRI, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (In thousands except per share information) As of January 31, ASSETS 2002 2001 - ----------------------------------------------------------------------------------------- Current Assets: Cash and cash equivalents $ 119 $ 290 Trade accounts receivable, less allowance for doubtful accounts of $343 in 2001 and $410 in 2000 18,845 26,944 Accounts receivable - related companies 2 262 Costs and estimated earnings in excess of billings on uncompleted contracts 3,324 3,208 Income taxes receivable 1,000 - Inventories 18,682 21,220 Deferred income taxes 2,179 2,905 Prepaid expenses and other current assets 1,461 1,142 -------- -------- Total current assets 45,612 55,971 -------- -------- Property, Plant and Equipment, Net 30,065 31,351 Other Assets: Patents, net of accumulated amortization 962 1,091 Goodwill, net of accumulated amortization 12,445 12,989 Other assets 3,445 3,383 -------- -------- Total other assets 16,852 17,463 -------- -------- Total Assets $ 92,529 $104,785 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY - ----------------------------------------------------------------------------------------- Current Liabilities: Trade accounts payable $ 9,643 $ 12,469 Accounts payable - related companies 188 48 Accrued compensation and payroll taxes 2,009 2,491 Other accrued liabilities 2,459 2,656 Commissions payable 4,821 5,492 Income taxes payable 27 13 Current maturities of long-term debt 11,100 2,745 Billings in excess of costs and estimated earnings on uncompleted contracts 525 578 -------- -------- Total current liabilities 30,772 26,492 -------- -------- Long-Term Liabilities: Long-term debt, less current maturities 21,100 36,421 Deferred income taxes 1,143 2,090 Other 1,527 983 -------- -------- Total long-term liabilities 23,770 39,494 -------- -------- Stockholders' Equity: Common stock, $0.01 par value, authorized- 50,000 and 50,000 shares in 2001 and 2000, respectively; 4,922 issued and outstanding in 2001 and 2000, respectively 49 49 Additional paid-in capital 21,397 21,397 Retained earnings 17,725 18,099 Accumulated other comprehensive loss (1,184) (746) -------- -------- Total stockholders' equity 37,987 38,799 -------- -------- Total Liabilities and Stockholders' Equity $ 92,529 $104,785 ======== ========
See notes to consolidated financial statements. 27
MFRI INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (In thousands) Accumulated Common Stock Additional Other ------------------ Paid-in Retained Comprehensive Comprehensive Shares Amount Capital Earnings Loss Income (Loss) -------------------------------------------------------------------------------------- Balance February 1, 1999 4,922 $ 49 $ 21,397 $ 14,572 $ (250) Net income 2,401 $2,401 Minimum pension liability adjustment (net of tax expense of $36) 59 59 Unrealized translation adjustment (400) (400) -------- -------- -------- -------- -------- -------- Balance January 31, 2000 4,922 49 21,397 16,973 (591) $2,060 ======== Net income (loss) 1,126 $1,126 Minimum pension liability adjustment (net of tax benefit of $121) (197) (197) Unrealized translation adjustment 42 42 -------- -------- -------- -------- -------- -------- Balance January 31, 2001 4,922 49 21,397 18,099 (746) 971 ======== Net income (loss) (374) $(374) Minimum pension liability adjustment (net of tax benefit of $138) (227) (227) Unrealized translation adjustment (211) (211) -------- -------- -------- -------- -------- -------- Balance January 31, 2002 4,922 $ 49 $21,397 $ 17,725 $(1,184) $(812) ======== ======== ======== ======== ======== ========
See notes to consolidated financial statements. 28
MFRI, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) 2001 2000 1999 Fiscal Year Ended January 31, 2002 2001 2000 - -------------------------------------------------------------------------------------------------------- Cash Flows from Operating Activities: Net income (loss) $ (374) $ 1,126 $ 2,401 Adjustments to reconcile net income to net cash flows from operating activities: Provision for depreciation and amortization 4,110 4,124 3,893 Deferred income taxes (89) (293) 454 (Gain) loss on sale of asset (8) 241 - Loss on sale of business 204 - - Change in operating assets and liabilities, net of effects of divestitures: Accounts receivable 7,308 (4,338) (1,323) Income taxes receivable (975) 710 114 Inventories 2,378 (718) 1,240 Prepaid expenses and other assets (835) (1,331) (482) Accounts payable (2,050) 2,838 300 Compensation and payroll taxes (391) (322) 677 Other accrued liabilities (716) 1,068 (1,178) -------- -------- ------- Net Cash Flows from Operating Activities 8,562 3,105 6,096 -------- -------- ------- Cash Flows from Investing Activities: Change in restricted cash from Industrial Revenue Bonds - - 1,042 Proceeds on sale of business 184 - - Reduction in cash balance due to sale of business (3) (356) - Proceeds from sale of property and equipment 1,380 30 398 Purchases of property and equipment (3,455) (5,534) (5,032) -------- -------- ------- Net Cash Flows from Investing Activities (1,894) (5,860) (3,592) -------- -------- ------- Cash Flows from Financing Activities: Net payments on capitalized lease obligations (157) (196) (218) Borrowings under revolving, term and mortgage loans 1,224,921 246,466 52,032 Repayment of debt (1,231,568) (244,023) (54,172) -------- -------- ------- Net Cash Flows from Financing Activities (6,804) 2,247 (2,358) -------- -------- ------- Effect of Exchange Rate Changes on Cash and Cash Equivalents (35) 132 (60) -------- -------- ------- Net Increase (Decrease) in Cash and Cash Equivalents (171) (375) 86 Cash and Cash Equivalents - Beginning of Year 290 665 579 -------- -------- ------- Cash and Cash Equivalents - End of Year $ 119 $ 290 $ 665 ======== ======== =======
See notes to consolidated financial statements. 29 MFRI, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED JANUARY 31, 2002, 2001 AND 2000 Note 1 - Basis of Presentation MFRI, Inc. ("MFRI") was incorporated on October 12, 1993. MFRI became successor by merger to Midwesco Filter Resources, Inc. ("Midwesco Filter") on January 28, 1994, when all the assets of the Perma-Pipe division of Midwesco, Inc. ("Perma-Pipe") were acquired, subject to specified liabilities, in exchange for cash and common stock of MFRI. Through the merger of Midwesco, Inc. ("Midwesco") into MFRI on December 30, 1996 (the "Midwesco Merger"), MFRI acquired all the assets of Midwesco's Thermal Care business, subject to specified liabilities, which included the following: all liabilities associated with three lawsuits arising from warranty obligations of Perma-Pipe; Midwesco's rights under leases, primarily its lease of the building in Niles, Illinois that serves as the principal offices of both MFRI and Midwesco and as the manufacturing facility of the Thermal Care business; the deferred tax assets of Midwesco and 1,718,000 shares of the common stock of MFRI owned by Midwesco. Prior to the Midwesco Merger, Midwesco was primarily owned by certain management stockholders of MFRI and their families. Fiscal Year: The Company's fiscal year ends on January 31. Years described as 2001, 2000 and 1999 are the fiscal years ended January 31, 2002, 2001 and 2000, respectively. Balances described as balances as of 2001, 2000 and 1999 are balances as of January 31, 2002, 2001 and 2000, respectively. Principles of Consolidation: The consolidated financial statements include the accounts of MFRI; its principal wholly owned subsidiaries, Midwesco Filter, Perma-Pipe and Thermal Care, Inc. ("Thermal Care"); and the majority-owned and controlled domestic and foreign subsidiaries of MFRI, Midwesco Filter, Perma-Pipe and Thermal Care (collectively referred to as the "Company"). All significant intercompany balances and transactions have been eliminated. Acquired businesses are included in the results of operations since their acquisition dates. Nature of Business: Midwesco Filter is engaged principally in the manufacture and sale of filter elements for use in industrial air filtration systems. Air filtration systems are used in a wide variety of industries to limit particulate emissions, primarily to comply with environmental regulations. Perma-Pipe is engaged in engineering, designing and manufacturing specialty piping systems and leak detection and location systems. Thermal Care is engaged in engineering, designing and manufacturing industrial process cooling equipment, including chillers, cooling towers, plant circulating systems, temperature controllers, and water treatment equipment. The Company's products are sold both within the United States and internationally. Note 2 - Significant Accounting Policies Revenue Recognition: Perma-Pipe recognizes revenues on contracts under the "percentage of completion" method. The percentage of completion is determined by the relationship of costs incurred to the total estimated costs of the contract. Provisions are made for estimated losses on uncompleted contracts in the period in which such losses are determined. Changes in job performance, job conditions, and estimated profitability, including those arising from contract penalty provisions and final contract settlements may result in revisions to costs and income. Such revisions are recognized in the period in which they are determined. Claims for additional compensation due the Company are recognized in contract revenues when realization is probable and the amount can be reliably estimated. All other subsidiaries of the Company recognize revenues at the date of shipment. Use of Estimates: The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures 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. 30 Operating Cycle: The length of Perma-Pipe contracts vary, but are typically less than one year. The Company includes in current assets and liabilities amounts realizable and payable in the normal course of contract completion unless completion of such contracts extends significantly beyond one year. Cash Equivalents: All highly liquid investments with a maturity of three months or less when purchased are considered to be cash equivalents. Inventories: Inventories are stated at the lower of cost or market. Cost is determined using the first-in, first-out method for substantially all inventories. Inventories consist of the following:
(In thousands) 2001 2000 --------- -------- Raw materials $14,720 $15,926 Work in process 1,551 1,971 Finished goods 2,411 3,323 --------- -------- Total $18,682 $21,220 ========= ========
Long-Lived Assets: Property, plant and equipment are stated at cost. Interest is capitalized in connection with the construction of major facilities and amortized over the asset's estimated useful life. The Company did not incur any cost to be capitalized during 2001 and 2000. Depreciation is computed using the straight-line method over the estimated useful lives of the assets, which range from three to 30 years. Amortization of assets under capital leases is included in depreciation and amortization. The Company's investment in property, plant and equipment as of January 31 is summarized below: (In thousands) 2001 2000 --------- -------- Land, buildings and improvements $18,901 $18,392 Machinery and equipment 20,229 19,526 Furniture and office equipment 7,038 6,992 Transportation equipment 520 794 --------- -------- 46,688 45,704 Less accumulated depreciation and amortization (16,623) (14,353) --------- -------- Property, plant and equipment, net $30,065 $31,351 ========= ======== Goodwill, which represents the excess of acquisition cost over the net assets acquired in business combinations, is amortized on the straight-line basis over periods ranging from 25 to 40 years. Accumulated amortization was $2,438,594 and $1,895,000 at January 31, 2002 and 2001, respectively. Patents are capitalized and amortized on the straight-line basis over a period not to exceed the legal lives of the patents. Accumulated amortization was $1,099,479 and $929,000 at January 31, 2002 and 2001, respectively. The carrying amount of all long-lived assets is evaluated periodically to determine if adjustment to the depreciation or amortization period or to the unamortized balance is warranted. Such evaluation is based on the expected utilization of the long-lived assets and the projected, undiscounted cash flows of the operations in which the long-lived assets are deployed. Financial Instruments: The Company utilizes foreign currency forward contracts to reduce exposure to exchange rate risks primarily associated with transactions in the regular course of the Company's export and international operations. The Company utilizes forward contracts which are short-term in duration, generally one year or less. The major currency exposure hedged by the Company is the Canadian dollar. The contract amount, carrying amount and fair value of these contracts were not significant at January 31, 2002, 2001 and 2000. 31 Net Income (Loss) Per Common Share: Earnings (loss) per share are computed by dividing net income by the weighted average number of common shares outstanding (basic) plus all potentially dilutive common shares outstanding during the year (diluted). The basic weighted average shares reconcile to diluted weighted average shares as follows:
(In thousands except per share information) 2001 2000 1999 -------- -------- -------- Net Income (loss) $(374) $1,126 $2,401 ======== ======== ======== Basic weighted average common shares outstanding 4,922 4,922 4,922 Dilutive effect of stock options - 1 6 -------- -------- -------- Weighted average common shares Outstanding assuming full dilution 4,922 4,923 4,928 ======== ======== ======== Net income (loss) per common share - basic $(0.08) $0.23 $0.49 Net income (loss) per common share - diluted $(0.08) $0.23 $0.49
In 2001, 2000 and 1999, the weighted average number of stock options not included in the computation of diluted earnings (loss) per share of common stock because the options exercise price exceeded the average market price of the common shares were 846,000, 876,000 and 828,000, respectively. These options were outstanding at the end of each of the respective years, except for options for 4,000, 13,000 and 96,000 shares, which expired in 2001, 2000 and 1999, respectively. Fair value of Financial Instruments: The carrying values of cash and cash equivalents, accounts receivable and accounts payable are reasonable estimates of their fair value due to their short-term nature. The carrying values of the Company's unsecured senior notes at January 31, 2002 and 2001 are also reasonable estimates of their fair value, as evidenced by the renegotiation of interest rates and terms that occurred recently as described in Note 7. Accumulated Other Comprehensive Loss: Accumulated other comprehensive loss consists of the following:
Minimum Accumulated Pension (In thousands) Translation Liability Adjustment Adjustment Total ------------- -------------- -------- Balance - February 1, 1999 $(122) $(128) $(250) Unrealized translation adjustment (400) - (400) Minimum pension liability adjustment (net of tax expense of $36) - 59 59 -------- -------- -------- Balance - January 31, 2000 (522) (69) (591) Unrealized translation adjustment 42 - 42 Minimum pension liability adjustment (net of tax benefit of $121) - (197) (197) -------- -------- -------- Balance - January 31, 2001 (480) (266) (746) Unrealized translation adjustment (211) - (211) Minimum pension liability adjustment (net of tax benefit of $138) - (227) (227) -------- -------- -------- Balance - January 31, 2002 $(691) $(493) $(1,184) ======== ======== ========
32 Accounting Pronouncements: On February 1, 2001, the Company adopted Statement of Financial Accounting Standard (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging Activities," as amended. This statement standardizes the accounting for derivative instruments by requiring that an entity recognize all derivatives as assets and liabilities in the statement of financial position and measure them at fair value. When certain criteria are met, it also provides for matching of gain or loss recognition on the derivative hedging instrument with the recognition of (a) the changes in the fair value or cash flows of the hedged asset or liability attributable to the hedged risk or (b) the earnings effect of the hedged forecasted transaction. The Company has a small number of derivative instruments. Application of SFAS 133 is not material to results of operations, financial condition or cash flows. In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition in Financial Statements." This SAB provides guidance on the recognition, presentation and disclosure of revenue in the financial statements of public companies. The adoption of SAB No. 101 has not had a material effect on our reported results of operations, financial condition or cash flows. In September 2000, the Financial Accounting Standards Board (FASB) issued SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities" which the Company adopted for all applicable transactions occurring after March 31, 2001. The adoption of SFAS No. 140 has not had a material effect on the reported results of operations, financial condition or cash flows of the Company. In June 2001, the FASB issued SFAS No. 141, "Business Combinations". The statement requires all business combinations initiated after June 30, 2001 to be accounted for by the purchase method. The Company anticipates that adopting SFAS No. 141 will not have a material effect on reported results of operations, financial condition or cash flows of the Company. The Company is currently evaluating the impact of adopting SFAS No. 142, "Goodwill and Other Intangible Assets." The Company plans to adopt SFAS No. 142 for the Company's fiscal year beginning February 1, 2002. The Company anticipates that adopting SFAS No. 142 will require it to report a material adverse change in its financial position and results of operations due to writing down between 70% and 100% of the Company's approximately $14,000,000 of goodwill and related intangible assets, but will have no effect at all on cash flow, when such statement is adopted. In August 2001, the FASB issued SFAS No. 143 "Accounting for Retirement Obligations," which is effective January 1, 2003. It requires that the fair value of a liability for an asset retirement obligation be recognized in the period in which it is incurred if a reasonable estimate of fair value can be made, and that the associated asset retirement costs be capitalized as part of the carrying amount of the long-lived asset. The Company does not expect adoption of SFAS No. 143 to have a material effect on the results of operations, financial condition or cash flows. In October 2001, the FASB issued SFAS No. 144 "Accounting for the Impairment or Disposal of Long-Lived Assets," which is effective for the Company starting in February 1, 2002. SFAS No. 144 addresses accounting and reporting of the impairment or disposal of long-lived assets, including discontinued operations, and establishes a single accounting method for the sale of long-lived assets. The Company does not expect adoption of SFAS No. 144 to have a material effect on the results of operations, financial condition or cash flows. Reclassifications: Certain previously reported amounts have been reclassified to conform to the current period presentation. Note 3 - Related Party Transactions On September 20, 2000, the Company purchased an 8.1-acre parcel of land with a 131,000-square foot building in Niles, Illinois from two principal stockholders who are also members of management. Prior to the purchase, the land and building had been leased from the two principal stockholders. The aggregate purchase price was $4,438,000, which includes the assumption of a mortgage note with a remaining balance of $2,405,000. During 2000 and 1999, the Company paid $359,000 and $610,000, respectively, under the lease agreement in effect prior to the 33 property purchase. The Company also provides certain services and facilities to a company primarily owned by those management stockholders and purchases certain services from those companies under a management services agreement. The Company received $244,000 and paid $170,000 under such agreements in 2001. The Company received $269,000 and paid $350,000 under such agreements in 2000. During 1999, the Company received $365,000 and paid $239,000 under such agreements. Until February 28, 2001, the Company leased certain office and warehouse facilities substantially all of which are occupied by a company primarily owned by the two management stockholders. The Company paid $54,000 in 2001 to the related company for space occupied. The Company made rental payments of $236,000 directly to the lessor in 2000, and allocated the expense to users based on space occupied. On February 28, 2001, the related company began leasing the facilities directly from the lessor. The purchase agreement, lease agreement and the management services agreements have been approved by the Company's Independent Directors. Management of the Company believes the amounts paid and received under these agreements were comparable to those which would have been paid and received in arm's-length transactions. Note 4 - Acquisitions and Divestitures Perma-Pipe Services Limited The Company has signed a contract to sell its subsidiary Perma-Pipe Services Ltd. Cash proceeds of $358,000 are to be received in May 2002. The book basis of the investment and intercompany receivable were $562,000 resulting in a loss of $204,000. SZE Hagenuk GmbH On December 31, 2000, the Company sold its 81 percent interest in SZE Hagenuk GmbH ("SZE Hagenuk") to the former minority shareholder. The Company received a note receivable of 500,000 Deutsche Marks ("DM") (approximately $240,000) from the former minority shareholder. The Company received 400,000 DM in the first quarter of 2001, with the balance due in January 2003. The book basis of the investment and intercompany receivable was $482,000, resulting in a loss of $241,000. Note 5 - Retention Receivable Retention is the amount withheld by a customer until a long-term contract is completed. Retention of $505,611 and $395,000 is included in the balance of trade accounts receivable at January 31, 2002 and 2001, respectively. Note 6 - Costs and Estimated Earnings on Uncompleted Contracts Costs and estimated earnings on uncompleted contracts are as follows:
(In thousands) 2001 2000 -------- -------- Costs incurred on uncompleted contracts $13,926 $21,882 Estimated earnings 1,834 5,299 -------- -------- Earned revenue 15,760 27,181 Less billings to date 12,961 24,551 -------- -------- Total $ 2,799 $ 2,630 ======== ======== Classified as follows: Costs and estimated earnings in excess of billings on uncompleted contracts $ 3,324 $ 3,208 Billings in excess of costs and estimated earnings on uncompleted contracts (525) (578) -------- -------- Total $ 2,799 $ 2,630 ======== ========
34 Note 7 - Debt Long-term debt consists of the following:
(In thousands) 2001 2000 --------- -------- Unsecured senior notes due 2007 $ 8,714 $12,857 Unsecured senior notes due 2008 10,000 10,000 Revolving bank loan 2,300 4,800 Industrial Revenue Bonds 5,200 5,200 Mortgage notes 4,416 5,002 Capitalized lease obligations (Note 8) 358 515 Term loans 871 562 Short-term credit arrangements 339 180 Other 2 50 --------- -------- 32,200 39,166 Less current maturities 11,100 2,745 --------- -------- Total $21,100 $36,421 ========= ========
Financing On December 15, 1996, the Company entered into a private placement with institutional investors of $15,000,000 of 7.21 percent unsecured senior notes due January 31, 2007 (the "Notes due 2007"). The Notes due 2007 were amended on April 30, 2001, modifying certain covenants, increasing the interest rate to 8.46 percent, and changing the schedule of principal payments and were again amended on December 18, 2001, to require previously unscheduled principal payments of $1,000,000 no later than March 31, 2002 and $2,143,000 on June 30, 2002, in addition to the previously scheduled level monthly principal payments of $179,000 beginning May 31, 2001 and continuing monthly thereafter as required by the April 30, 2001 amendment. Based on the amended schedule of principal repayments, the Notes due 2007 are payable in full in September 2004. The note purchase agreement contains certain financial covenants. At January 31, 2002, the Company was not in compliance with one of these covenants. The Company has obtained a waiver for such non-compliance, and the note purchase agreement was amended on April 26, 2002, modifying certain covenants and deferring the required March 31, 2002 principal payment to April 30, 2002. On September 17, 1998, the Company entered into a private placement with institutional investors of $10,000,000 of 6.97 percent unsecured senior notes due September 17, 2008 (the "Notes due 2008"). The Notes due 2008 were amended on April 30, 2001, modifying certain covenants, increasing the interest rate to 7.97 percent, and changing the schedule of principal payments, and were again amended on December 18, 2001, to require previously unscheduled principal payments of $1,000,000 no later than March 31, 2002 and $2,143,000 on June 30, 2002, in addition to the previously scheduled level monthly principal payments of $119,000 beginning October 17, 2002 and continuing monthly thereafter as required by the April 30, 2001 amendment. Based on the amended schedule of principal repayments, the Notes due 2008 will be paid in full by July 2006. The note purchase agreement contains certain financial covenants. At January 31, 2002, the Company was not in compliance with one of these covenants. The Company has obtained a waiver for such non-compliance, and the note purchase agreement was amended on April 26, 2002, modifying certain covenants and deferring the required March 31, 2002 principal payment to April 30, 2002. On August 8, 2000, the Company entered into an unsecured credit agreement with a bank (the "Bank"). Under the terms of this agreement, as amended, the Company can borrow up to $8,000,000, subject to borrowing base and other requirements, under a revolving line of credit, which matures on July 31, 2003. On April 30, 2001 and September 14, 2001, the agreement was amended, modifying certain covenants and increasing the interest rate. Interest rates are based on one of three options selected by the Company at the time of each borrowing, as follows: (1) the higher of the prime rate or the federal funds rate plus 0.50 percent, (2) the LIBOR rate plus a margin for the term of the loan, or (3) a rate quoted 35 by the Bank for the term of the loan. At January 31, 2002, the prime rate was 4.75 percent and the margin added to the LIBOR rate, which is determined each quarter based on a financial statement ratio, was 2.25 percent. The Company had borrowed $2,300,000 under the revolving line of credit at January 31, 2002. The Company's policy is to classify borrowings under the revolving line of credit as long-term debt since the Company has the ability and the intent to maintain this obligation for longer than one year. In addition, $793,000 was drawn under the agreement as letters of credit. These letters of credit principally guarantee performance to third parties as a result of various insurance and trade activities; guarantee performance under the mortgage note secured by the manufacturing facility located in Cicero, Illinois with respect to the making of certain repairs and the payment of property taxes and insurance premiums; and guarantee repayment of a foreign subsidiary's borrowings under an overdraft facility. At January 31, 2002, the Company was not in compliance with two covenants under the line of credit. The Company has obtained a waiver for such non-compliance. On October 10, 2001, the Company pledged substantially all of its assets that were not previously pledged as security for the Notes due 2007, the Notes due 2008 and the Bank credit agreement, as required by those agreements. The Company has determined that it will need to renegotiate or refinance the note purchase agreements for the Notes due 2007 and the Notes due 2008, which currently require principal payments aggregating $4,286,000 to be made by the Company on June 30, 2002. The Company is currently engaged in a review of the options available to address its long-term capital needs and is negotiating amendments to or replacements of the note purchase agreements and credit agreement. While the Company believes it will have adequate financing available to meet its needs in the future, there is no assurance any such financing will be available or that the terms of any financing will be more favorable than the Company's existing financing. On September 14, 1995, the Filtration Products Business in Winchester, Virginia received $3,150,000 of proceeds of Industrial Revenue Bonds, which mature on August 1, 2007, and on October 18, 1995, the Piping Systems Business in Lebanon, Tennessee received $3,150,000 of proceeds of Industrial Revenue Bonds, which mature on September 1, 2007. These bonds are fully secured by bank letters of credit, which the Company expects to renew, reissue or extend prior to each expiration date during the term of the bonds. The bonds bear interest at a variable rate, which approximates five percent per annum, including letter of credit and re-marketing fees. The bond proceeds were available for capital expenditures related to manufacturing capacity expansions and efficiency improvements during a three-year period which commenced in the fourth quarter of 1995 and ended during the Company's fiscal quarter ended October 31, 1998. On November 1, 1999, the Company utilized $1,100,000 of unspent bond proceeds to redeem bonds outstanding as provided in the indenture. On May 8, 1996, the Company purchased a 10.3-acre parcel of land with a 67,000-square foot building adjacent to its Midwesco Filter property in Winchester, Virginia for approximately $1.1 million. The purchase was financed 80 percent by a seven-year mortgage note bearing interest at 8.38 percent (the "Old Winchester Mortgage") and 20 percent by the Industrial Revenue Bonds described above. On April 26, 2002 the Company borrowed $3,450,000 under a new mortgage note secured by all its property in Winchester, Virginia (the "New Winchester Mortgage"). Proceeds from the New Winchester Mortgage, net of repayment of the Existing Winchester Mortgage, were approximately $2,700,000. The New Winchester Mortgage bears interest at 7.10 percent, and the loan's amortization schedule and term are ten years. On June 30, 1998, the Company borrowed $1,400,000 under a mortgage note secured by the manufacturing facility in Cicero, Illinois. The loan bears interest at 6.76 percent and the term of the loan is ten years with an amortization schedule of 25 years. On June 1, 1998, the Company obtained two loans from a Danish bank to partially finance the acquisition of Boe-Therm A/S ("Boe-Therm"). The first loan in the amount of 4,500,000 Danish krone ("DKK") (approximately $650,000) is secured by the land and building of Boe-Therm, bears interest at 6.48 percent and has a term of twenty years. The second loan in the amount of 2,750,000 DKK (approximately $400,000) is secured by the machinery and equipment of Boe-Therm, bears interest at 5.80 percent and has a term of five years. 36 On August 10, 1999, the Company obtained a loan from a Danish bank in the amount of 3,000,000 DKK (approximately $425,000) to complete the permanent financing of the acquisition of Nordic Air A/S. The loan bears interest at 6.22 percent and has a term of five years. On September 20, 2000, the Company purchased an 8.1-acre parcel of land with a 131,000-square foot building in Niles, Illinois, from two principal stockholders who are also members of management for approximately $4,438,000. This amount includes the assumption of a $2,500,000 mortgage note with a remaining balance of $2,405,000. The loan bears interest at 7.52 percent and the term of the loan is ten years with an amortization schedule of 25 years. At the date of purchase, the remaining term of the loan was 7.25 years. The Company also has short-term credit arrangements utilized by its European subsidiaries. These credit arrangements are generally in the form of overdraft facilities at rates competitive in the countries in which the Company operates. At January 31, 2002, borrowings under these credit arrangements totaled $180,000; an additional $790,000 remained unused. The Company also had outstanding letters of credit in the amount of $78,000 to guarantee performance to third parties of various European trade activities and contracts. Scheduled maturities, excluding the revolving line of credit, for each of the next five years are as follows: 2002 - $11,100,000; 2003 - $4,706,000; 2004 - $2,950,000; 2005 - $1,553,000; 2006 - $798,000; thereafter - $8,792,000. Note 8 - Lease Information The following is an analysis of property under capitalized leases:
(In thousands) 2001 2000 -------- -------- Machinery and equipment $ 66 $ 66 Furniture and office equipment 698 698 Transportation equipment 438 652 -------- -------- 1,202 1,417 Less accumulated amortization 853 916 -------- -------- $ 349 $ 501 ======== ========
Until February 28, 2001, the Company leased certain office and warehouse facilities substantially all of which are occupied by a related company primarily owned by the two management stockholders. The Company made the rental payments directly to the lessor in 2000, and allocated the expense to users based on space occupied. On February 28, 2001, the related company began leasing the facilities directly from the lessor. The Company sold equipment for $1,345,000 in November 1998 and $295,000 in July 1999. The equipment was leased back from the purchaser under a master lease agreement for a period of five years. No gain or loss was recognized on these transactions and the lease is being accounted for as an operating lease. The lease requires the Company to pay customary operating and repair expenses. The lease also contains a renewal option at lease termination and purchase options at amounts that approximate fair market value at the end of 54 months and at lease termination. The Company sold equipment for $1,359,000 in June 2001. The equipment was leased back from the purchaser under a master lease agreement for a period of seven years. No gain or loss was recognized on this transaction and the lease is being accounted for as an operating lease. The lease requires the Company to pay customary operating and repair expenses. The lease also contains a renewal option at lease termination and a purchase option at the higher of fair market value or 20% of cost. The Company leases manufacturing and warehouse facilities, land, transportation equipment and office space under non-cancelable operating leases, which expire through 2017. Management expects that these leases will be renewed or replaced by other leases in the normal course of business. 37 At January 31, 2002, future minimum annual rental commitments under non-cancelable lease obligations were as follows:
Capital Operating Leases Leases (In thousands) -------- --------- 2002 $158 $ 702 2003 162 540 2004 62 234 2005 - 234 2006 - 234 Thereafter - 637 -------- --------- 382 2,581 Less amount representing interest 24 - -------- --------- Present value of future minimum lease payments (Note 7) $358 $2,581 ======== =========
Rental expense for operating leases was $834,000, $1,082,000 and $944,000 in 2001, 2000 and 1999, respectively. Note 9 - Income Taxes The following is a summary of domestic and foreign income (loss) before income taxes:
(In thousands) 2001 2000 1999 -------- -------- -------- Domestic ($417) $1,702 $3,509 Foreign (11) 280 681 -------- -------- -------- Total ($428) $1,982 $4,190 ======== ======== ========
Components of income tax expense (benefit) are as follows:
(In thousands) 2001 2000 1999 -------- -------- -------- Current: Federal $ 60 $ 928 $ 881 Foreign (43) 151 275 State and other 18 70 179 -------- -------- -------- 35 1,149 1,335 Deferred (89) (293) 454 -------- -------- -------- Total $ (54) $ 856 $1,789 ======== ======== ========
38 The difference between the provision (benefit) for income taxes and the amount computed by applying the federal statutory rate is as follows:
(In thousands) 2001 2000 1999 -------- -------- -------- Tax (benefit) at federal statutory rate $ (146) $ 674 $1,425 Foreign rate tax differential (150) 13 84 State (benefit) taxes, net of federal benefit (11) 82 163 Amortization of cost in excess of assets acquired 108 108 108 Officer's life insurance 60 - - Adjustment to estimated income tax accruals 39 - - Other - net 46 (21) 9 -------- -------- -------- Total $ (54) $ 856 $1,789 ======== ======== ========
Components of the deferred income tax asset and liability balances are as follows:
(In thousands) 2001 2000 1999 -------- -------- -------- Current: Accrued commissions $1,055 $1,179 $1,124 Other accruals not yet deducted 842 706 669 Non-qualified deferred compensation 23 272 217 Inventory valuation allowance 182 214 151 Allowance for doubtful accounts 113 78 68 Inventory uniform capitalization 12 32 50 Foreign acquisition adjustments - - 38 NOL carryforward - 83 91 Other (48) (54) 24 -------- -------- -------- Total $2,179 $2,905 $2,432 ======== ======== ========
(In thousands) 2001 2000 1999 -------- -------- -------- Long-term: Capital loss carryforward from sale of foreign subsidiary $ (466) $ - $ - Depreciation 1,590 1,801 1,841 Goodwill 429 398 344 Foreign acquisition adjustments - - 104 Non-qualified deferred compensation (220) - - Other (190) (109) (315) -------- -------- -------- Total $1,143 $2,090 $1,974 ======== ======== ========
Note 10 - Employee Retirement Plans Pension Plan Midwesco Filter has a defined benefit plan covering its hourly rated employees. The benefits are based on fixed amounts multiplied by years of service of retired participants. The funding policy is to contribute such amounts as are necessary to provide for benefits attributed to service to date and those expected to be earned in the future. The amounts contributed to the plan are sufficient to meet the minimum funding requirements set forth in the Employee Retirement Income Security Act of 1974. Midwesco Filter may contribute additional amounts at its discretion. 39 The following provides a reconciliation of benefit obligations, plan assets and funded status of the plan:
(In thousands) 2001 2000 -------- -------- Accumulated benefit obligations: Vested benefits $1,957 $1,745 ======== ======== Accumulated benefits $1,983 $1,786 ======== ======== Change in benefit obligation: Benefit obligation - beginning of year $1,874 $1,159 Service cost 90 53 Interest cost 129 82 Amendments - 550 Actuarial loss 215 82 Benefits paid (97) (52) -------- -------- Benefit obligation - end of year 2,211 1,874 -------- -------- Change in plan assets: Fair value of plan assets - beginning of year 1,313 923 Actual return on plan assets (17) 46 Company contributions 377 396 Benefits paid (97) (52) -------- -------- Fair value of plan assets - end of year 1,576 1,313 -------- -------- Funded status (635) (562) Unrecognized prior service cost 566 628 Unrecognized actuarial loss 546 226 -------- -------- Prepaid benefit cost recognized in the consolidated balance sheet $ 477 $ 292 ======== ========= Amounts recognized in the consolidated balance sheet: Accrued benefit liability $ (884) $ (766) Intangible asset 566 628 Accumulated other comprehensive income 794 430 -------- -------- Net amount recognized $ 477 $ 292 ======== ======== 2001 2000 -------- -------- Weighted-average assumptions at end of year: Discount rate 6.89% 7.00% Expected return on plan assets 8.00% 8.00% Rate of compensation increase N/A N/A Components of net periodic benefit cost: Service cost $ 90 $ 53 Interest cost 129 82 Expected return on plan assets (110) (78) Amortization of prior service cost 62 12 Recognized actuarial loss 22 - --------- -------- Net periodic benefit cost $ 193 $ 69 ========= ========
40 401(k) Plan The domestic employees of the Company participate in the MFRI, Inc. Employee Savings and Protection Plan, which is applicable to all employees except certain employees covered by collective bargaining agreement benefits. The plan allows employee pretax payroll contributions of up to 16 percent of total compensation. The Company matches 50 percent of each participant's contribution, up to a maximum of 2 percent of each participant's salary. Contributions to the 401(k) Plan and its predecessors were $319,000, $348,000, and $321,000 for the years ended January 31, 2002, 2001 and 2000, respectively. Deferred Compensation Plans The Company also has deferred compensation agreements with key employees. Vesting is based on years of service. Life insurance contracts have been purchased which may be used to fund the Company's obligation under these agreements. The cash surrender value of the life insurance contracts is included in other assets and the deferred compensation liability is included in other long term liabilities in the consolidated balance sheet. The charges to expense were $150,000, $226,000, and $175,000 in 2001, 2000 and 1999, respectively. Note 11 - Business Segment and Geographic Information Business Segment Information The Company has three reportable segments: the Filtration Products Business, the Piping Systems Business and the Industrial Process Cooling Equipment Business. The Filtration Products Business manufactures and sells a wide variety of filter elements for air filtration and particulate collection systems. The Piping Systems Business engineers, designs and manufactures specialty piping systems and leak detection and location systems. The Industrial Process Cooling Equipment Business engineers, designs and manufactures chillers, mold temperature controllers, cooling towers, plant circulating systems and coolers for industrial process applications. The accounting policies of the segments are the same as those described in the summary of significant accounting policies. (See Note 2.) The Company evaluates performance based on gross profit and income or loss from operations. Intersegment sales and transfers are accounted for as if sales or transfers were to third parties (i.e., at current market prices) and were not material for 2001, 2000 and 1999. MFRI's reportable segments are strategic businesses that offer different products and services. Each is managed separately based on fundamental differences in their operations. Each strategic business was acquired as a unit and management at the time of acquisition was retained. 41 The following is information relevant to the Company's business segments:
(In thousands) 2001 2000 1999 -------- -------- -------- Net Sales: Filtration Products $ 54,434 $ 64,950 $ 56,165 Piping Systems 49,417 54,809 51,710 Industrial Process Cooling Equipment 21,683 29,774 29,295 -------- -------- -------- Total Net Sales $125,534 $149,533 $137,170 ======== ======== ======== Gross Profit: Filtration Products $ 10,063 $ 11,844 $ 12,730 Piping Systems 10,208 10,784 11,278 Industrial Process Cooling Equipment 6,061 9,493 9,178 -------- -------- -------- Total Gross Profit $ 26,332 $ 32,121 $ 33,186 ======== ======== ======== Income from Operations: Filtration Products $ 2,168 $ 3,026 $ 3,883 Piping Systems 3,347 3,085 4,030 Industrial Process Cooling Equipment 627 2,995 2,867 Corporate (3,970) (4,186) (3,800) -------- -------- -------- Total Income from Operations $ 2,172 $ 4,920 $ 6,980 ======== ======== ======== Segment Assets: Filtration Products $ 40,848 $ 43,591 $ 39,868 Piping Systems 33,934 38,605 35,828 Industrial Process Cooling Equipment 10,932 17,223 14,885 Corporate 6,815 5,366 7,195 -------- -------- -------- Total Segment Assets $ 92,529 $104,785 $ 97,776 ======== ======== ======== Capital Expenditures: Filtration Products $ 866 $ 1,066 $ 1,317 Piping Systems 1,687 1,878 2,725 Industrial Process Cooling Equipment 740 93 171 Corporate 162 2,497 819 -------- -------- -------- Total Capital Expenditures $ 3,455 $ 5,534 $ 5,032 ======== ======== ========= Depreciation and Amortization: Filtration Products $ 1,396 $ 1,359 $ 1,359 Piping Systems 1,500 1,628 1,489 Industrial Process Cooling Equipment 334 327 332 Corporate 880 810 713 -------- -------- -------- Total Depreciation and Amortization $ 4,110 $ 4,124 $ 3,893 ======== ======== ========
42 Geographic Information Net sales are attributed to a geographic area based on the destination of the product shipment. Long-lived assets are based on the physical location of the assets and consist of property, plant and equipment used in the generation of revenues in the geographic area.
(In thousands) 2001 2000 1999 -------- -------- -------- Net Sales: United States $104,155 $128,379 $114,726 Canada 7,055 7,241 5,166 Europe 10,400 10,624 10,593 Mexico, South America, Central America and the Caribbean 1,689 969 2,432 Asia 1,600 1,889 3,513 Other 635 431 740 -------- -------- -------- Total Net Sales $125,534 $149,533 $137,170 ======== ======== ======== Long-Lived Assets: United States $ 28,859 $ 29,958 $ 26,874 Europe 1,206 1,393 1,599 -------- -------- -------- Total Long-Lived Assets $ 30,065 $ 31,351 $ 28,473 ======== ======== ========
Note 12 - Supplemental Cash Flow Information A summary of annual supplemental cash flow information follows:
(In thousands) 2001 2000 1999 -------- -------- -------- Cash paid for: Income taxes, net of refunds received $ 1,096 $ 396 $ 1,306 ======== ======== ======== Interest, net of amounts capitalized $ 2,837 $ 2,980 $ 2,813 ======== ======== ======== Noncash Financing and Investing Activities: Fixed assets acquired under capital leases $ - $ 46 $ 210 ======== ======== ======== Sale of business: Note receivable from buyer $ 358 $ 241 $ - ======== ======== ======== Purchase of building: Purchase price $ - $ 4,438 $ - Cash paid - 1,767 - -------- -------- -------- Net liabilities assumed $ - $ 2,671 $ - ======== ======== ========
Note 13 - Stock Options Under the 1993 and 1994 Stock Option Plans ("Option Plans"), 100,000 and 250,000 shares of common stock, respectively, are reserved for issuance to key employees of the Company and its affiliates as well as certain advisors and consultants to the Company. In addition, under the 1994 Option Plan, an additional one percent of shares of the Company's common stock outstanding have been added to the shares reserved for issuance each February 1, beginning February 1, 1995 and ending February 1, 1997, and an additional two percent of shares of the Company's common stock outstanding are added to the shares reserved for issuance each February 1, beginning February 1, 1998. Option exercise prices will be no less than fair market value for the common stock on the date of grant. The options granted under the Option Plans may be either non-qualified options or incentive options. Such options vest ratably over four years and are exercisable for up to ten years from the date of grant. 43 Pursuant to the 2001 Independent Directors' Stock Option Plan (the "Directors' Plan"), an option to purchase 10,000 shares of common stock is granted automatically to each director who is not an employee of the Company (an "Independent Director") on the date the individual is first elected as an Independent Director, an option to purchase 1,000 shares was granted to each Independent Director on December 31, 2001, and options to purchase 1,000 shares are to be granted to each Independent Director upon each date such Independent Director is re-elected as an Independent Director, commencing with the Company's annual meeting for the year 2002. Provisions of a predecessor plan, the 1990 Independent Directors' Stock Option Plan, were the same as those of the Directors' Plan in every significant respect. The MFRI 2001 Stock Option Exchange Plan ("Exchange Plan"), offered eligible optionees an opportunity to replace their stock options with new options. On the Exchange Plan offer's expiration date of June 26, 2001, the Company accepted and canceled 728,800 options. Pursuant to the terms of the Exchange Plan, the Company granted 674,600 new options to those tendering optionees who were active employees at December 31, 2001. 54,200 options were tendered by individuals no longer employed by the Company at December 31, 2001. In connection with the purchase agreement relating to the acquisition of TDC Filter Manufacturing, Inc., (acquired in December 1997 as part of the Filtration business), the Company issued stock options to purchase 75,000 shares of common stock at $9.60. These options may be exercised through November 2008. The following summarizes the changes in options under the plans:
2001 2000 1999 --------------------------- -------------------------- ---------- --------------- Weighted Weighted Weighted Average Average Average Shares Exercise Price Shares Exercise Price Shares Exercise Price ----------- --------------- ---------- --------------- ---------- --------------- Outstanding at beginning of year 875,550 $6.40 821,650 $6.68 834,000 $7.16 Granted 731,800 3.12 114,700 4.09 113,600 4.25 Exercised - - - - - - Cancelled (761,750) 6.13 (60,800) 5.79 (125,950) 7.68 ----------- ------- ---------- ------- ---------- ------- Outstanding at end of year 845,600 $3.80 875,550 $6.40 821,650 $6.68 =========== ======= ========== ======= ========== ======= Options exercisable at year-end 109,425 600,800 511,075 =========== ========== ==========
The following table summarizes information concerning outstanding and exercisable options at January 31, 2002:
Options Outstanding Options Exercisable ---------------------------------------------------------- ------------------------------------ Range of Number Weighted Average Weighted Average Number Weighted Exercise Outstanding at Remaining Exercise Price Exercisable at Average Prices Jan. 31, 2002 Contractual Life Jan. 31, 2002 Exercise Price - ---------------- ----------------- -------------------- ----------------- ---------------- ------------------ $3.00-$3.99 729,800 9.9 years $3.12 8,700 $3.12 $4.00-$4.99 23,700 7.6 years 4.16 9,375 4.21 $6.00-$6.99 14,100 3.9 years 6.86 14,100 6.86 $8.00-$8.99 3,000 6.2 years 8.10 2,250 8.10 $9.00-$9.99 75,000 5.8 years 9.60 75,000 9.60 ----------- ------------- --------- ---------- -------- 845,600 9.4 years $3.80 109,425 $8.24 =========== ============= ========= ========== ========
44 The Company's stock option plans are accounted for using the intrinsic value method and, accordingly, no compensation cost has been recognized. Had compensation cost been determined using the fair value method in 2001, 2000 and 1999, the Company's pro forma net income (loss) and earnings (loss) per share would have been as follows:
2001 2000 1999 -------- -------- -------- Net income (loss) - as reported (in thousands) $ (374) $ 1,126 $ 2,401 Net income (loss) - pro forma (in thousands) $ (405) $ 847 $ 2,115 Net income (loss) per common share - basic, as reported $ (0.08) $ 0.23 $ 0.49 Net income (loss) per common share - basic, pro forma $ (0.08) $ 0.17 $ 0.43
The weighted average fair value of options granted during 2001 (net of options surrendered), 2000 and 1999 are estimated at $1.14, $2.36 and $2.37, per share, respectively, on the date of grant using the Black-Scholes option-pricing model with the following weighted average assumptions:
2001 2000 1999 -------- -------- ---------- Expected volatility 44.85% 46.33% 46.02% Risk-free interest rate 4.95% 6.49% 5.42% Divided yield 0.0% 0.0% 0.0% Expected life in years 7.0 7.0 7.0
Note 14 - Stock Rights On September 15, 1999, the Company's Board of Directors declared a dividend of one common stock purchase right (a "Right") for each share of MFRI's common stock outstanding at the close of business on September 22, 1999. The stock issued after September 22, 1999 and before the redemption or expiration of the Rights are also entitled to one Right for each such additional share. Each Right entitles the registered holders, under certain circumstances, to purchase from the Company one share of MFRI's common stock at $25.00, subject to adjustment. At no time will the Rights have any voting power. The Rights may not be exercised until 10 days after a person or group acquires 15 percent or more of the Company's common stock, or announces a tender offer that, if consummated, would result in 15 percent or more ownership of the Company's common stock. Separate Rights certificates will not be issued and the Rights will not be traded separately from the stock until then. Should an acquirer become the beneficial owner of 15 percent or more of the Company's common stock, Rights holders other than the acquirer would have the right to buy common stock in MFRI, or in the surviving enterprise if MFRI is acquired, having a value of two times the exercise price then in effect. Also, MFRI's Board of Directors may exchange the Rights (other than those of the acquirer which will have become void), in whole or in part, at an exchange ratio of one share of MFRI common stock (and/or other securities, cash or other assets having equal value) per Right subject to adjustment. The Rights described in this paragraph and the preceding paragraph shall not apply to an acquisition, merger or consolidation approved by the Company's Board of Directors. The Rights will expire on September 15, 2009, unless exchanged or redeemed prior to that date. The redemption price is $0.01 per Right. MFRI's Board of Directors may redeem the Rights by a majority vote at any time prior to the 20th day following public announcement that a person or group has acquired 15 percent of MFRI's common stock. Under certain circumstances, the decision to redeem requires the concurrence of a majority of the independent directors. 45 Note 15 - Quarterly Financial Data (Unaudited) The following is a summary of the unaudited quarterly results of operations for the years 2001 and 2000:
(In thousands except per share information) 2001 ----------------------------------------------------------------- First Second Third Fourth Quarter Quarter Quarter Quarter --------- ---------- --------- --------- Net Sales $30,692 $34,190 $32,393 $28,259 Gross Profit 7,011 8,179 6,929 4,213 Net Income (loss) 140 796 161 (1,471) Per Share Data: Net income (loss) - basic $0.03 $0.16 $0.03 $(0.30) Net income (loss) - diluted $0.03 $0.16 $0.03 $(0.30) 2000 ----------------------------------------------------------------- First Second Third Fourth Quarter Quarter Quarter Quarter --------- --------- --------- --------- Net Sales $34,155 $41,579 $36,943 $36,856 Gross Profit 7,758 9,150 7,525 7,688 Net Income (loss) 276 808 157 (115) Per Share Data: Net income (loss) - basic $0.06 $0.16 $0.03 $(0.02) Net income (loss) - diluted $0.06 $0.16 $0.03 $(0.02)
46 Schedule II
MFRI, INC. AND SUBSIDIARIES VALUATION AND QUALIFYING ACCOUNTS For the Years Ended January 31, 2002, 2001 AND 2000 - ------------------------------------------------------------------------------------------------------------------------------- Column A Column B Column C Column D Column E - ------------------------------------------------------------------------------------------------------------------------------- (1) Balance at Charged to (2) Beginning of Costs and Charged to Other Deductions from Balance at Description Period Expenses Accounts *1 Reserves *2 End of Period - ------------------------------------------------------------------------------------------------------------------------------- Year Ended January 31, 2002: Allowance for possible losses in collection of trade receivables $410,000 $335,000 $139,000 $263,000 $343,000 ======== ======== ======== ======== ======== Year Ended January 31, 2001: Allowance for possible losses in collection of trade receivables $250,000 $333,000 - $173,000 $410,000 ======== ======== ======== ======== ======== Year Ended January 31, 2000: Allowance for possible losses in collection of trade receivables $229,000 $156,000 - $135,000 $250,000 ======== ======== ======== ======== ========
*1 Disposed with sale of business. *2 Uncollectible accounts charged off. 47 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. MFRI, INC. Date: April 30, 2002 By: /s/ David Unger David Unger, Chairman of the Board of Directors (Principal Executive Officer) Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following person on behalf of the registrant and in the capacities and on the date indicated. DAVID UNGER* Director and Chairman of the ) Board of Directors (Principal ) Executive Officer) ) ) HENRY M. MAUTNER* Director ) April 30, 2002 ) GENE K. OGILVIE* Director ) ) FATI A. ELGENDY* Director ) ) BRADLEY E. MAUTNER* Director ) ) DON GRUENBERG* Director ) ) MICHAEL D. BENNETT* Vice President, Secretary and ) Treasurer (Principal Financial ) and Accounting Officer) ) ) ARNOLD F. BROOKSTONE* Director ) ) EUGENE MILLER* Director ) ) STEPHEN B. SCHWARTZ* Director ) ) DENNIS KESSLER* Director ) ) *By:/s/ David Unger Individually and as Attorney-in-Fact ) --------------- ) David Unger ) 48 EXHIBIT INDEX Exhibit No. Description 3(i) Certificate of Incorporation of MFRI, Inc. [Incorporated by reference to Exhibit 3.3 to Registration Statement No. 33-70298] 3(ii) By-Laws of MFRI, Inc. [Incorporated by reference to Exhibit 3.4 to Registration Statement No. 33-70298] 4 Specimen Common Stock Certificate [Incorporated by reference to Exhibit 4 to Registration Statement No. 33-70794] 10(a) 1993 Stock Option Plan [Incorporated by reference to Exhibit 10.4 of Registration Statement No. 33-70794] 10(b) 1994 Stock Option Plan [Incorporated by reference to Exhibit 10(c) to the Company's Annual Report on Form 10-K for the fiscal year ended January 31, 1994 (SEC File No. 0-18370)] 10(c) 2001 Independent Directors Stock Option Plan, as amended [Incorporated by reference to Exhibit 10(d)(5) to the Company's Schedule TO filed on May 25, 2001 (SEC File No. 0-18370)] 10(d) Form of Directors Indemnification Agreement [Incorporated by reference to Exhibit 10.7 to Registration Statement No. 33-70298] 10(e) Offer to Exchange dated May 25, 2001 [Incorporated by reference to Exhibit (a)(1)(A) to the Company's Schedule TO filed on May 25, 2001 (SEC File No. 0-18370)] 10(f) Form of Supplemental Letter to Eligible Optionholders [Incorporated by reference to Exhibit (a)(1)(C) to Amendment No. 3 to the Company's Scheudle TO filed on June 19, 2001 (SEC File No. 0-18370)] 12* Statement of Computation of Ratios 21* Subsidiaries of MFRI, Inc. 23* Consent of Deloitte & Touche LLP 24* Power of Attorney executed by directors and officers of the Company - -------------------- * Filed herewith 49 Exhibit 21 MFRI, Inc. has the following wholly owned subsidiaries: 1. Midwesco Filter Resources, Inc. (Delaware corporation) 2. Perma-Pipe, Inc. (Delaware corporation) 3. TDC Filter Manufacturing, Inc. (Delaware corporation) 4. Thermal Care, Inc. (Delaware corporation) 50 Exhibit 23 INDEPENDENT AUDITORS' CONSENT We consent to the incorporation by reference in Registration Statement No. 333-21951 on Form S-3, Registration Statement No. 333-44787 on Form S-3 and Registration Statement No. 333-08767 on Form S-8, of MFRI, Inc. of our report dated April 30, 2002 appearing in the Annual Report on Form 10-K/A of MFRI, Inc. for the year ended January 31, 2002 and to the reference to us under the heading of "Experts" in the Prospectuses, which are a part of Registration Statements No. 333-21951 and No. 333-44787. DELOITTE & TOUCHE LLP Chicago, Illinois May 1, 2002 51 Exhibit 24 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that each of the undersigned, being a director or officer, or both, of MFRI, INC., a Delaware corporation (the "Company"), does hereby constitute and appoint DAVID UNGER, HENRY M. MAUTNER and MICHAEL D. BENNETT, with full power to each of them to act alone, as the true and lawful attorneys and agents of the undersigned, with full power of substitution and resubstitution to each of said attorneys to execute, file or deliver any and all instruments and to do all acts and things which said attorneys and agents, or any of them, deem advisable to enable the Company to comply with the Securities Exchange Act of 1934, as amended, and any requirements or regulations of the Securities and Exchange Commission in respect thereof, in connection with the Company's filing of an annual report on Form 10-K for the Company's fiscal year 2001, including specifically, but without limitation of the general authority hereby granted, the power and authority to sign his name as a director or officer, or both, of the Bank, as indicated below opposite his signature, to the Form 10-K, and any amendment thereto; and each of the undersigned does hereby fully ratify and confirm all that said attorneys and agents, or any of them, or the substitute of any of them, shall do or cause to be done by virtue hereof. IN WITNESS WHEREOF, each of the undersigned has executed this Power of Attorney as of this 25th day of April, 2002. /s/ David Unger /s/ Arnold F. Brookstone David Unger, Chairman of the Board of Arnold F. Brookstone, Director Directors and President /s/ Henry M. Mautner /s/ Don Gruenberg Henry M. Mautner, Vice Chairman of Don Gruenberg, Director and the Board of Directors Vice President /s/ Gene K. Ogilvie /s/ Bradley E. Mautner Gene K. Ogilvie, Director and Bradley E. Mautner, Director Vice President and Vice President /s/ Michael D. Bennett /s/ Eugene Miller Michael D. Bennett, Vice President, Eugene Miller, Director Chief Financial Officer, Secretary and Treasurer /s/ Fati A. Elgendy /s/ Stephen B. Schwartz Fati A. Elgendy, Director and Stephen B. Schwartz, Director Vice President /s/ Dennis Kessler Dennis Kessler, Director 52 -----END PRIVACY-ENHANCED MESSAGE-----