SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
|ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934|
For the fiscal year ended December 31, 2005
|TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934|
For the transition period from to
Commission file number 333-123708
COOPER-STANDARD HOLDINGS INC.
(Exact name of registrant as specified in its charter)
39550 Orchard Hill Place
Novi, Michigan 48375
(Address of principal executive offices)
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: None.
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
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.
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of ‘‘accelerated filer and large accelerated filer’’ in Rule 12b-2 of the Act.
Large accelerated filer Accelerated filer Non-accelerated filer
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
The number of the registrant’s shares of common stock, $0.01 par value per share, outstanding as of March 21, 2006 was 3,238,100 shares.
The aggregate market value of the shares of the registrant’s common stock held by non-affiliates of the registrant as of March 21, 2006 was $0.
DOCUMENTS INCORPORATED BY REFERENCE
TABLE OF CONTENTS
The terms the ‘‘Company,’’ ‘‘Cooper-Standard,’’ ‘‘we,’’ ‘‘us,’’ and ‘‘our’’ in this Form 10-K refer to Cooper-Standard Holdings Inc. and its consolidated subsidiaries, unless the context requires otherwise.
The Company is a leading global manufacturer of body sealing, fluid handling, and noise, vibration, and harshness control (‘‘NVH’’) components, systems, subsystems, and modules, primarily for use in passenger vehicles and light trucks for global original equipment manufacturers (‘‘OEMs’’) and replacement markets. The Company conducts substantially all of its activities through its subsidiaries. The Company’s principal executive offices are located at 39550 Orchard Hill Place Drive, Novi, Michigan 48375, and its telephone number is (248) 596-5900. We also maintain a website at www.cooperstandard.com, which is not a part of this Form 10-K.
On February 6, 2006, the Company completed the acquisition of the automotive fluid handling systems business of ITT Industries, Inc. (‘‘FHS’’ or the ‘‘FHS business’’) pursuant to a Stock and Asset Purchase Agreement between ITT Industries, Inc. and Cooper-Standard Automotive Inc. dated as of December 4, 2005. See ‘‘Item 8. Financial Statements and Supplementary Data’’ (especially Note 23). Except as otherwise indicated or unless the context requires otherwise, this Form 10-K does not reflect the acquisition of FHS.
We believe that we are the largest global producer of body sealing systems, the largest North American producer in the NVH control business, and, with the acquisition of FHS, the second largest global producer of the types of fluid handling products that we manufacture. Approximately 90% of our sales in 2005 were to automotive original equipment manufacturers (‘‘OEMs’’), including Ford, General Motors, DaimlerChrysler (collectively, the ‘‘Big 3’’), Audi, BMW, Fiat, Honda, Jaguar, Mercedes Benz, Porsche, PSA Peugeot Citroën, Renault/Nissan, Toyota, Volkswagen, and Volvo. The remaining 10% of our 2005 sales were primarily to Tier I and Tier II suppliers. In 2005, our products were found in all of the 20 top-selling models in North America and in 16 of the 20 top-selling models in Europe.
We operate in 40 manufacturing locations and eight design, engineering, and administrative locations in 14 countries around the world. Our net sales have grown from $1.5 billion for the year ended December 31, 2001, to $1.8 billion for the year ended December 31, 2005. See ‘‘Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations—Company Overview’’.
The Company’s principal shareholders are The Cypress Group L.L.C. and GS Capital Partners 2000, L.P., whom we refer to as our ‘‘Sponsors.’’ Each of the Sponsors, including their respective affiliates, currently owns approximately 49.1% of the equity of Cooper-Standard Holdings Inc. See ‘‘Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.’’
On December 23, 2004, Cooper-Standard Holdings Inc. acquired the automotive segment of Cooper Tire & Rubber Company (‘‘Cooper Tire’’) for a cash purchase price of approximately $1,165 million, excluding fees and working capital adjustments (hereafter, the ‘‘Acquisition’’). Cooper-Standard Holdings Inc. had no operations or operating subsidiaries prior to the Acquisition. The Company funded the Acquisition through $318 million of equity contributions, $200 million of senior notes (the ‘‘Senior Notes'’), $350 million of senior subordinated notes (the ‘‘Senior Subordinated Notes’’), and $350 million of term loan facilities and $125 million revolving credit facility (the ‘‘Senior Credit Facilities’’). See ‘‘Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operation— Liquidity and Capital Resources’’ and ‘‘Item 8. Financial Statements and Supplementary Data’’ (especially Notes 18 and 9, respectively), for further descriptions of the equity contributions and of the Senior Notes, Senior Subordinated Notes, and Senior Credit Facilities.
Some market data and other statistical information used throughout this Form 10-K are based on data available from CSM Worldwide and J.D. Power-LMC, independent market research firms. Other data
are based on our good faith estimates, which are derived from our review of internal surveys, as well as third party sources. To the extent that we have been unable to obtain information from third party sources, we have expressed our belief on the basis of our own internal analyses and estimates of our and our competitors' products and capabilities.
We intend to maintain our position as one of the world's leading automotive suppliers of body sealing, fluid handling, and NVH control systems by focusing on the following key strategic areas:
Strengthening Relationships with the Big 3 and Expanding Relationships with other OEMs
We plan to strengthen our leading positions with the Big 3 while aggressively pursuing additional business opportunities with New American Manufacturers (‘‘NAMs’’) and European and Asian OEMs. The Big 3 are highly valued customers and have consistently produced stable platforms with generally predictable revenue streams spread among all platform categories, including cars, light trucks, and SUVs. However, we believe NAMs and European and Asian OEMs will provide significant opportunities to further grow our business, especially as Asian OEMs have been rapidly penetrating North American and European markets, and Asian markets are relatively young and growing at a higher rate than other automotive markets. In particular, China's light vehicle market is projected to grow at a 14% compound annual growth rate (‘‘CAGR’’) between 2005 and 2010, according to J.D. Power-LMC estimates, which will make it the world's fastest growth market.
To further strengthen our customer relationships, we plan to continue to focus on our program management capabilities, engineering excellence, and customer service, and to utilize our technological and design capabilities to enhance the value we offer our customers. We will continue to seek customer feedback with respect to quality manufacturing, design and engineering, delivery, and after-sales support in an effort to provide the highest level of customer service and responsiveness. We believe our efforts have been successful to date as we continue to be awarded content on the Big 3's most important platforms. We have also achieved several recent successes with other OEMs, such as Nissan, Toyota, and Mercedes Benz. In Asia, and particularly in China, we have been successful in entering new markets and are developing a substantial manufacturing and marketing presence to serve local OEMs and to follow our customers as they expand into these markets. We operate four manufacturing locations in China, including one acquired in the FHS transaction, which provide products and services to Ford in China and to Chery Automotive, a Chinese OEM.
Targeting high-volume vehicle platforms and increasing content per vehicle
We intend to target high-volume platforms and to maximize the amount of content we provide to each platform. We expect that high-volume platforms will allow us to efficiently gain market share, create greater economies of scale, and provide more opportunities to realize cost savings from our Lean initiatives program. Supplying OEMs' high-volume platforms is increasingly important as OEMs are using fewer platforms over a greater number of vehicle models. Maximizing content-per-vehicle is important not only to increase revenue per vehicle, but also to increase our relative importance to the platform and strengthen our customer relationships as the OEMs continue to consolidate their supplier base.
By leveraging our extensive product portfolio and providing superior customer service and product innovations, we have been and expect to continue to be successful in winning significant business on high-volume platforms.
Developing new modular solutions and other value-added products
We believe that significant opportunities exist to grow our current portfolio of products, including components as well as complete sub-systems, modules, and assemblies, by continuing to design, develop and launch new products that distinguish us from our competitors. As a leader in design, engineering, and technical capabilities, we are able to focus on improving products, developing new
technologies, and implementing more efficient processes in each of our three product lines. Our body sealing products are visible to vehicle passengers and can enhance the vehicle's aesthetic appeal, in addition to creating a barrier to wind, precipitation, dust, and noise. Our fluid handling modules and sub-systems are designed to increase functionality and decrease cost to the OEM, which can be the deciding factor in winning new business. Our NVH control products are a fundamental part of the driving experience and can be important to the vehicle's quality.
To remain a leader in new product innovation, we will continue to invest in research and development and to focus on new technologies, materials, and designs. We believe that extensive use of Design for Six Sigma and other development strategies and techniques has led to some of our most successful recent product innovations, including our ESP Thermoplastic Glassruns (body sealing), a proprietary plastics-to-aluminum overmolding process (fluid handling), and our Truck Tuff Hydromounts (NVH control). Examples of successful modular innovations include engine cooling systems, fuel and brake systems, and exhaust gas recirculation modules in our fluid handling product category, and Daylight Opening Modules in our body sealing category.
Selectively pursuing complementary acquisitions and alliances
We intend to selectively pursue acquisitions, joint ventures, and technology alliances to enhance our customer base, geographic penetration, market diversity, scale, and technology. Consolidation is currently a key industry trend and is encouraged by OEMs' desire for fewer supplier relationships. We believe joint ventures allow us to penetrate new markets with less relative risk and capital investment. Technology alliances are important because they are an effective way to share development costs, best-practices, and specialized knowledge.
We believe we have a strong platform for growth through acquisitions based on our past integration successes, experienced management team, global presence, operational excellence. We also operate through several successful joint ventures and technical alliances, including those with Nishikawa Rubber, Jin Young Chemical, Wuhu Saiyang Seal Products Company Limited (‘‘Saiyang Sealing’’), Guyoung Technology Co. Ltd. (‘‘Guyoung’’), Automobile Industrial Ace (‘‘AIA’’), and USUI.
In 2005, we furthered our strategy by acquiring the Mexican automotive hose manufacturing business of Gates Corporation, acquiring a 20% equity interest in Guyoung Technology Co. Ltd. of Korea, and entering into the Stock and Asset Purchase Agreement for the acquisition of the FHS business, which was completed in February of 2006. We believe that the FHS acquisition allows us to provide a more complete line of fluid management solutions for new vehicle platforms, diversifies our customer base, and has made us the second largest fluid handling systems supplier in the automotive industry.
Focusing on operational excellence and cost structure
We will continue to intensely focus on the efficiency of our manufacturing operations and on opportunities to reduce our cost structure. While the automotive supply sector is highly competitive, we believe that we have been able to maintain strong operating margins, in part due to our ability to constantly improve our manufacturing processes and to selectively relocate or close facilities. Our primary areas of focus are:
|•||Identifying and implementing Lean initiatives throughout the Company. Our Lean initiatives are focused on optimizing manufacturing by eliminating waste, controlling cost, and enhancing productivity. Lean initiatives, including Six Sigma, have been implemented at each of our manufacturing and design facilities.|
|•||Evaluating opportunities to relocate operations to lower-cost countries. We have successfully employed this strategy to date by relocating operations to the Czech Republic and Poland from higher-cost countries in Western Europe and from the United States and Canada to Mexico, China, and India. We plan to continue to emphasize our operations in lower-cost countries to capitalize on reduced labor and other costs.|
|•||Consolidating facilities to reduce our cost structure. Our restructuring efforts were primarily undertaken to streamline our global operations. We will continually evaluate restructuring opportunities that would improve our efficiency, profitability, and cost structure.|
We supply a diverse range of products on a global basis to a broad group of customers. For the year ended December 31, 2005, body sealing products, fluid handling products, and NVH control products accounted for 49%, 35%, and 16% of net sales, respectively. For the year ended December 31, 2004, body sealing products, fluid handling products, and NVH control products accounted for 46%, 34%, and 20% of net sales, respectively. Our top ten platforms by sales accounted for nearly 40% of net sales in 2005, with the remainder derived from a multitude of platforms, composed of a diversity of sport-utility, light truck, and various classes of sedans and other vehicles.
Our principal product lines are described below:
Body Sealing Products
We are a leading global supplier of body sealing products and components that protect vehicle interiors from weather, dust, and noise intrusion. We believe we are the largest provider of sealing products in the world based on sales. We have an extensive product offering and believe we are known for exceptional quality and strong design and technical capabilities, including advanced skills in adhesives, mixing, and plastics technology. Our products are found on some of the world's top-selling platforms, including the Ford F-Series, Ford EN114 (Crown Victoria/Grand Marquis), and General Motors' GMT355 (Colorado/Canyon). For the years ended December 31, 2005 and 2004, we generated approximately 49% and 46%, respectively of total revenue before corporate eliminations from the sale of body sealing products.
Our body sealing product line is comprised of manufactured EPDM (synthetic rubber) and TPE (thermoplastic elastomer) seals to provide environmental closure to the hood, trunk, and interior of vehicles. These products are highly engineered and are developed and manufactured with regard to aesthetic, performance, and durability requirements. The typical production process involves mixing of rubber/plastic compounds, extrusion (supported with metal carriers or unsupported), cutting, notching, forming, injection molding, and assembly. Below is a description of the major products produced in our body sealing line:
As a result of our global presence, patented technologies and engineering capabilities, as well as our strong relationships with the global OEMs, we believe we are positioned for future growth and further product expansion. We are currently developing additional system integration opportunities, particularly in window regulators, plastics, door components, and exterior trim.
We have expertise in nearly every aspect of automotive sealing technology, including adhesives, exterior coatings, corner molding, and rubber extrusion techniques, and have been a leader in the use of plastic applications, with a dedicated facility in Spartanburg, South Carolina that primarily produces plastic weathersealing components. This expertise has helped provide us with an entry with Japanese manufacturers, such as Nissan, in the use of TPE inner belt lines that their traditional suppliers have been unable to offer as competitively. We have been an early adopter of thermoplastic elastomers, which provide a lightweight, cost-effective alternative to rubber seals in some applications. We are a leader in the application of plastic supported glassrun systems through engineered stretched plastic and patent-protected daylight opening systems, which often provide cost savings, reduction of assembly time, and performance improvement. To further our capabilities, we exchange plastics technology with Nishikawa Rubber Company, one of our joint venture partners, and are currently cooperating on the development of a protected ‘‘blown sponge plastic’’ process as well as other innovative plastic applications with our customers. We are also currently collaborating on several customer-funded, advanced engineering projects with Ford and General Motors.
To grow our customer base, we intend to continue to strengthen our relationship with the Big 3 and are aggressively targeting other OEMs, particularly NAMs and European OEMs. Over the past two years we have secured business from Toyota, Nissan, Honda, Volkswagen, and Audi. We intend to continue to develop new customer relationships by forming new strategic alliances and building on our existing joint ventures and long standing relationships. We own 50% of Nishikawa Standard Co.
(‘‘NISCO’’), a joint venture with Nishikawa Rubber Company; 74% of Cooper Saiyang Wuhu Automotive Co., Ltd., a joint venture with Saiyang Sealing in Wuhu, China; and 90% of Cooper-Standard Automotive of Korea. We believe our strong Asian presence in rapidly expanding markets gives us the base and the abilities to engineer and deliver weathersealing products not enjoyed by our competition. These relationships and engineering and design capabilities have led to our providing content on some of the world's top-selling platforms.
Fluid Handling Products
We are a leading global supplier of subsystems and components that direct, control, measure, and transport fluids and vapors throughout a vehicle. With the acquisition of FHS, we believe we are the second largest global provider of the types of fluid handling products we manufacture. We offer an extensive product portfolio and are positioned globally to serve OEMs around the world. We believe we have a reputation for superior technical support, product quality, rapid response capabilities, innovative solutions to design problems, and outstanding prototype capabilities. Our products are found on some of the world's top-selling platforms, including the Ford F-Series, General Motors GMT800 (includes Yukon, Tahoe, Sierra, and Silverado), Dodge Ram, and Ford B Car (Fiesta/Fusion). For the years ended December 31, 2005 and 2004, we generated approximately 35% and 34%, respectively, of total revenue before corporate eliminations from the sale of fluid handling products.
Our products are principally found in four major vehicle systems: heating and cooling; fuel and brake; emissions; and power management, which includes power steering and power roof lines. These products, particularly fuel and brake components, are critical to the safe and reliable functioning of the vehicle. Our fluid handling systems include assemblies for various heating and cooling and fluid and vapor management systems and subsystems. Individual components include quick connects, hoses, couplings, coolers, valves, tubing, thermostats, and similar products. Below is a description of the major products that we produce within each category.
To grow sales of fluid handling products, we intend to continue to capitalize on recent brake, fuel, and exhaust gas recirculation (‘‘EGR’’) product successes in North America and Europe; develop new complete module and assembly solutions, aimed at building a reputation as a ‘‘tube and hose integrator;’’ and create product improvements that provide greater functionality at a lower cost to the customer. We plan to continue to invest in research and development to support these efforts and focus on advanced materials, innovative processes and product design and development driven by Design for Six Sigma. Advanced EGR valves, tubes, and cooler products have become critical components in regions where environmental regulations are stringent, such as in Europe, and for heavy truck platforms in the United States. For products such as rubber hose, steel tubing, and nylon tubing, innovations in advanced materials have led to the development of superior components. We also have in-house tube manufacturing and coating capabilities in the United States, Canada, Mexico, and Europe, allowing us to maintain a competitive edge over smaller fabricators.
We believe these engineering and design capabilities, combined with intense focus on quality and customer service, have led to strong customer relationships and a growing customer base. We are targeting an increasing market share with NAMs and European and Asian OEMs, especially in China. In addition to pursuing business directly from NAMs, we partner with Tier I suppliers, such as Denso and Calsonic, to help build relationships. We have also experienced success targeting high-volume programs where a substantial degree of complexity, engineering interaction, and design support are required, and which also serve to strengthen customer relationships.
Noise, Vibration, and Harshness (NVH) Control Products
We are a leading North American supplier of systems and components that control and isolate noise and vibration in a vehicle to improve ride and handling. We believe we are the largest provider of NVH control products in North America based on sales. We provide a comprehensive line of powertrain and suspension products and active noise and vibration cancellation systems. We are a leader in engineering, design, testing, and rubber-to-metal bonding technology, and provide superior integrated customer service and problem-solving capabilities. Our products are found on some of the world's top-selling platforms, including the Ford F-Series and General Motors GMT800 (includes Yukon, Tahoe, Sierra, and Silverado) and GMX 380 (Malibu). For the years ended December 31, 2005 and 2004, we generated approximately 16% and 20%, respectively, of total revenue before corporate eliminations from the sale of NVH control products.
NVH control products include various engine and body mounts, dampers, isolators, and other equipment. Engine mounts secure and isolate vehicle powertrain noise, vibration, and harshness from the uni-body or frame. Body and cradle mounts enable isolation of the cabin from the vehicle frame, reducing noise, vibration, and harshness, and are manufactured with a variety of materials, such as natural rubber, butyl, and microcellular urethane. Tuned dampers are designed to reduce specific vibration issues, such as for the steering wheel and column, exhaust system, and internal driveshaft.
We believe we are the market leader in developing breakthrough innovations in NVH control products and continue to make significant investment in our ability to deliver advanced technologies. We developed the popular Truck Tuff hydromounts for light trucks and sport utility vehicles. We believe that the Truck Tuff hydromount design was critical to our winning the engine mounting system on the new Ford F-Series, which Ford claims to be the smoothest, quietest truck on the market. We also recently developed ENVIsys, an advanced electronic system for the active control of noise and vibration for commercial applications. ENVIsys products have a wide variety of potential applications, including aircraft, rail, heavy truck, automotive, and mining equipment.
We believe these engineering and design capabilities, combined with intense focus on quality and customer service, have led to strong customer relationships and a growing customer base. In addition to strengthening our relationships with the Big 3, we target NAMs and Asian expansion opportunities. In North America, we continue to target NAMs and have recently been awarded new business with
Toyota and Hyundai. In China, we are pursuing plans to establish development and manufacturing operations, and in Korea, we are pursuing expansion via joint venture partners.
Supplies and Raw Materials
The principal raw materials for our business include fabricated metal-based components, synthetic rubber, carbon black, and natural rubber. We manage the procurement of our raw materials to assure supply and to obtain favorable pricing. For natural rubber, procurement is managed by buying forward of production requirements and by buying in the spot market. For other materials, procurement arrangements may contain formula-based pricing based on commodity indices. These arrangements provide quantities needed to satisfy normal manufacturing demands. We believe we have adequate sources for the supply of raw materials and components for our products with suppliers located around the world. We often use offshore suppliers for machined components, metal stampings, castings, and other labor-intensive, economically freighted products.
Patents and Trademarks
We hold over 300 patents. Our patents cover both products, such as the ENVIsys active control system, the Daylight Opening Module, and our Engineered Stretched Plastics, and specific manufacturing processes, such as our plastics-to-aluminum overmolding process. We consider each of these patents to be of value and seek to protect our rights throughout the world against infringement. While in the aggregate these patents are important to our business, we do not consider them of such importance that the loss or termination of any one of them would materially affect our company. We continue to seek patent protection for our new products. Our patents will continue to be amortized over the next two to 13 years.
We also have license and technology sharing agreements with Nishikawa Rubber Company for sales, marketing, and engineering services on certain body sealing products we sell. Under those agreements, each party pays for services provided by the other and royalties on certain products for which the other party provides design or development services.
We own or have licensed several trademarks that are registered in many countries, enabling us to protect and market our products worldwide. Through December 23, 2006, we intend to use our current name under an agreement with Cooper Tire.
Sales to automotive customers are lowest during the months prior to model changeovers and during assembly plant shutdowns. These typically result in lower sales volumes during July, August, and December. During these periods of lower sales volumes, profit performance is lower, but working capital improves due to continuing collection of accounts receivable.
We believe that the principal competitive factors in our industry are price, quality, service, performance, design and engineering capabilities, innovation, and timely delivery. We believe that our capabilities in these core competencies are integral to our position as a market leader in each of our product lines. In body sealing products we compete with GDX Automotive; Metzeler Automotive Profile Systems; Toyoda Gosei; and Hutchinson, a subsidiary of Total SA, among others. In fluid handling products, we compete with TI Automotive, Dana, Mark IV Automotive, Martinrea, and numerous manufacturers of hoses. In NVH control products we compete with Delphi; Trelleborg; Tokai; Vibracoustic, a joint venture between Freudenberg and Phoenix; and Paulstra, a subsidiary of Total SA.
The automotive industry is one of the world's largest and most competitive. The industry is mature, with vehicle sales primarily driven by general economic conditions. In recent decades, significant
consolidation among OEMs, combined with globalization, has led to major shifts in market share positions and greater pressure on profit margins.
These developments have also led to a more competitive environment for automotive suppliers. The automotive supply industry is generally characterized by high barriers to entry, significant start-up costs, and long-standing customer relationships. The primary criteria by which OEMs judge automotive suppliers include price, quality, service, performance, design and engineering capabilities, innovation, and timely delivery.
Several significant existing and emerging trends are impacting the automotive supply industry, including North American light truck growth, consolidation of suppliers, a trend towards increased models, foreign sourcing, increased use of assemblies and modular solutions, increased OEM outsourcing, and raw materials volatility.
We are a leading supplier to the Big 3 in each of our product categories and are increasing our presence with NAMs and European and Asian OEMs. During the year ended December 31, 2005, approximately 33%, 23%, and 12% of our sales were to Ford, General Motors, and DaimlerChrysler, respectively, as compared to 35%, 21%, and 14% for the year ended December 31, 2004, respectively. Sales to Ford include sales to OEMs owned by Ford, such as Volvo, Jaguar, and Land Rover. Our other major customers include Renault/Nissan, PSA Peugeot Citroën, and Visteon. We also sell products to Volkswagen, Toyota, Porsche and, through NISCO, Honda. Our business with any given customer is typically split among several contracts for different platforms. We are actively pursuing relationships to diversify our customer relationships, including expanding sales with NAMs and European and Asian OEMs.
Research and Development
We operate eight design, engineering, and administration facilities throughout the world and employ 437 research and development personnel, some of whom reside at our customers' facilities. We utilize Design for Six Sigma and other methodologies that emphasize manufacturability and quality. We are aggressively expanding our capabilities with new systems for Computer Aided Design, Computer Aided Engineering, vehicle testing, and rapid prototyping. We spend significantly each year to maintain and enhance our technical centers, enabling us to quickly and effectively respond to customer demands. We spent $53.6 million, $63.4 million, and $65.6 million in 2003, 2004, and 2005, respectively, on research and development.
Joint Ventures and Strategic Alliances
Joint ventures represent an important part of our business, both operationally and strategically. We have often used joint ventures to enter into new geographic markets such as China and Korea, to acquire new customers, and to develop new technologies. In entering new geographic markets, teaming with a local partner can reduce capital investment by leveraging pre-existing infrastructure. In addition, local partners in these markets can provide knowledge and insight into local practices and access to local suppliers of raw materials and components. In North America, joint ventures have proven valuable in establishing new relationships with NAMs. For example, we won significant new business with Honda through our NISCO joint venture. In 2005, we acquired a 20% equity interest and expanded our technical alliance with Guyoung, a Korean supplier of metal stampings which is currently building a manufacturing facility in Alabama to service Hyundai.
In 2005, we generated 68% of net sales in North America, 23% in Europe, 4% in South America and 5% in Asia/Pacific. Approximately 19% of our revenues were generated from our Canadian operations.
In 2004, we generated 70% of net sales in North America, 23% in Europe, 3% in South America and 4% in Asia/Pacific. Approximately 19% of our revenues were generated from our Canadian operations.
We maintain good relations with both our union and non-union employees and have experienced no work stoppages for more than ten years. We recently negotiated some longer-term agreements, including two five-year agreements with the USWA at two facilities located in the United States. We are currently negotiating two of our Canadian union agreements, which are due to expire this year. As of December 31, 2005, approximately 49.7% of our employees were represented by unions, of which approximately 22% were located in the United States.
As of December 31, 2005, we had 13,429 full-time and temporary employees.
We are subject to a broad range of federal, state, and local environmental and occupational safety and health laws and regulations in the United States and other countries, including those governing emissions to air; discharges to water; noise, and odor emissions; the generation, handling, storage, transportation, treatment, and disposal of waste materials; the cleanup of contaminated properties; and human health and safety. For example, as an owner and operator of real property or a generator of hazardous substances, we may be subject to environmental cleanup liability, regardless of fault, pursuant to the Comprehensive Environmental Response, Compensation and Liability Act or analogous laws, as well as to claims for harm to health or property or for natural resource damages arising out of contamination or exposure to hazardous substances. Several of our properties have been the subject of remediation activities to address historic contamination. In general, we believe we are in substantial compliance with the requirements under such laws and regulations and our continued compliance is not expected to have a material adverse effect on our financial condition or the results of our operations. We expect that additional requirements with respect to environmental matters will be imposed in the future. Our expense and capital expenditures in recent years for environmental matters at our facilities have not been material, it is not expected that expenditures in future years for such uses will be material.
This Form 10-K includes ‘‘forward-looking statements’’ within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act. We make forward-looking statements in this Annual Report on Form 10-K and may make such statements in future filings with the SEC. We may also make forward-looking statements in our press releases or other public or stockholder communications. These forward-looking statements include statements concerning our plans, objectives, goals, strategies, future events, future revenue or performance, capital expenditures, financing needs, plans or intentions relating to acquisitions, business trends, and other information that is not historical information and, in particular, appear under ‘‘Management's Discussion and Analysis of Financial Condition and Results of Operations’’, ‘‘Risk Factors’’ and ‘‘Business.’’ When used in this report, the words ‘‘estimates,’’ ‘‘expects,’’ ‘‘anticipates,’’ ‘‘projects,’’ ‘‘plans,’’ ‘‘intends,’’ ‘‘believes,’’ ‘‘forecasts,’’ or future or conditional verbs, such as ‘‘will,’’ ‘‘should,’’ ‘‘could,’’ or ‘‘may,’’ and variations of such words or similar expressions are intended to identify forward-looking statements. All forward-looking statements, including, without limitation, management's examination of historical operating trends and data are based upon our current expectations and various assumptions. Our expectations, beliefs, and projections are expressed in good faith and we believe there is a reasonable basis for them. However, we cannot assure you that these expectations, beliefs, and projections will be achieved.
There are a number of risks and uncertainties that could cause our actual results to differ materially from the forward-looking statements contained in this Form 10-K. Important factors that could cause our actual results to differ materially from the forward-looking statements we make in this Form 10-K are set forth in this Form 10-K, including under Item 1A. ‘‘Risk Factors.’’
As stated elsewhere in this Form 10-K, such risks, uncertainties, and other important factors include, among others: our substantial leverage; limitations on flexibility in operating our business contained in
our debt agreements; our dependence on the automotive industry; availability and cost of raw materials; our dependence on certain major customers; competition in our industry; our conducting operations outside the United States; the uncertainty of our ability to achieve expected Lean savings; our exposure to product liability and warranty claims; labor conditions; our vulnerability to rising interest rates; our ability to meet our customers' needs for new and improved products in a timely manner; our ability to attract and retain key personnel; the possibility that our owners' interests will conflict those of investors; our status as a stand-alone company; our legal rights to our intellectual property portfolio; our underfunded pension plans; environmental and other regulation; and the possibility that our acquisition strategy will not be successful. There may be other factors that may cause our actual results to differ materially from the forward-looking statements.
We undertake no obligation to update or revise forward-looking statements to reflect events or circumstances that arise after the date made or to reflect the occurrence of unanticipated events.
We do not undertake, and we specifically disclaim, any obligation to update any forward-looking statements to reflect the occurrence of unanticipated events or circumstances after the date of such statements.
|Item 1A.||Risk Factors|
You should carefully consider the following risk factors and all other information contained in this Form 10-K. The risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties that we are unaware of, or that we currently deem immaterial, also may become important factors that affect us.
Risks Relating to Our Leverage
Our substantial leverage could harm our business by limiting our available cash and our access to additional capital and, to the extent of our variable rate indebtedness, is more costly due to higher rates, exposes us to interest rate risk.
We are highly leveraged. As of December 31, 2005, our total consolidated indebtedness was $902.4 million. Our leverage increased upon the closing of our acquisition of FHS, because we financed the acquisition with an incremental loan under our Senior Credit Facilities.
Our high degree of leverage could have important consequences, including:
It may limit our ability to obtain additional financing for working capital, capital expenditures, product development, debt service requirements, acquisitions, and general corporate or other purposes on favorable terms or at all;
A substantial portion of our cash flows from operations must be dedicated to the payment of principal and interest on our indebtedness and thus will not be available for other purposes, including our operations, capital expenditures, and future business opportunities;
The debt service requirements of our other indebtedness could make it more difficult for us to make payments on the Senior Notes and Senior Subordinated Notes issued by Cooper-Standard Automotive Inc. in connection with the Acquisition (the ‘‘Notes’’);
It may place us at a competitive disadvantage compared to those of our competitors that are less highly leveraged;
It may restrict our ability to make strategic acquisitions or cause us to make non-strategic divestitures; and
We may be more vulnerable than a less highly-leveraged company to a downturn in general economic conditions or in our business, or we may be unable to carry out capital spending that is important to our growth.
Our cash paid for interest for the year ended December 31, 2005 was $63.8 million, which excludes the amortization of $3.7 million of debt issuance costs. At December 31, 2005, we had $344.5 million
of debt with floating interest rates. If interest rates increase, assuming no principal repayments or use of financial derivatives, our debt service obligations on the variable rate indebtedness would increase even though the amount borrowed remained the same, and our net income and cash available for servicing our indebtedness, including the Notes, would decrease. A 1% increase in the average interest rate of our variable rate indebtedness would increase future interest expense by approximately $3.4 million per year.
On February 6, 2006, in conjunction with the closing of the FHS acquisition, we amended our Senior Credit Facilities and closed on a term loan with a notional amount of $215 million (‘‘Term Loan D’’). The amount of the additional term loan was determined by the purchase price of the acquisition and anticipated transaction costs. Term Loan D matures on December 23, 2011 and carries terms and conditions similar to those found in the remainder of our Senior Credit Facilities. Term Loan D was structured in two tranches, $190.0 million borrowed in U.S. dollars, and €20.7 million borrowed in Euros. The financing was split between currencies to take into consideration the value of the European assets acquired in the FHS transaction.
Our debt agreements contain restrictions that limit our flexibility in operating our business.
The senior credit agreement and the indentures under which the Notes were issued contain a number of significant covenants that, among other things, restrict our ability to:
|•||incur additional indebtedness or issue redeemable preferred stock;|
|•||pay dividends and repurchase our capital stock;|
|•||issue stock of subsidiaries;|
|•||make certain investments;|
|•||enter into agreements that restrict dividends from subsidiaries;|
|•||transfer or sell assets;|
|•||enter into transactions with our affiliates;|
|•||engage in mergers, amalgamations, or consolidations; and|
|•||make capital expenditures.|
In addition, under the senior credit agreement, we are required to satisfy specified financial ratios and tests. Our ability to comply with those provisions may be affected by events beyond our control, and we may not be able to meet those ratios and tests.
Risks Relating to Our Business
We are highly dependent on the automotive industry.
Our customers are automobile manufacturers and their suppliers whose production volumes are dependent upon general economic conditions and the level of consumer spending. The volume of global vehicle production has fluctuated considerably from year to year, and such fluctuations may give rise to fluctuations in the demand for our products. Demand for new vehicles fluctuates in response to overall economic conditions and is particularly sensitive to changes in interest rate levels, consumer confidence, and fuel costs. In addition, to the extent our production volumes have been positively impacted by OEM new vehicle sales incentives, these sales incentives may not be sustained or may cease to favorably impact our sales. If any of these or other factors leads to a decline in new vehicle production, our results of operations could be materially adversely affected. Further, to the extent that the financial condition of any of our largest customers deteriorates or results in bankruptcy, our financial position and operating results could be adversely affected.
Increasing competitiveness in the automotive industry has also led OEMs to increase their pressure on us to supply our products at lower prices. Price reductions have impacted our sales and profit margins.
If we are not able to offset price reductions through improved operating efficiencies and reduced expenditures, those price reductions may have a material adverse effect on our results of operations.
Increasing costs for or reduced availability of manufactured components and raw materials may adversely affect our profitability.
The principal raw materials we purchase include fabricated metal-based components, synthetic rubber, carbon black, and natural rubber. Raw materials comprise the largest component of our costs, representing approximately 41% of our total costs during the year ended December 31, 2005. A significant increase in the price of these items could materially increase our operating costs and materially and adversely affect our profit margins. For example, we have experienced significant price increases in our raw steel and steel-related component purchases as a result of increased global demand. During the year ended December 31, 2005, no single raw material cost comprised more than 10% of our total material costs. Our largest single raw material purchase is synthetic rubber. It is generally difficult to pass through these increased costs to our customers in the form of price increases.
Because we purchase various types of raw materials and manufactured components, we may be materially and adversely affected by the failure of our suppliers of those materials to perform as expected. This non-performance may consist of delivery delays or failures caused by production issues or delivery of non-conforming products. The risk of non-performance may also result from the insolvency or bankruptcy of one or more of our suppliers. Our suppliers' ability to supply products to us is also subject to a number of risks, including availability of raw materials, such as steel and natural rubber, destruction of their facilities, or work stoppages. In addition, our failure to promptly pay, or order sufficient quantities of inventory from, our suppliers may increase the cost of products we purchase or may lead to suppliers refusing to sell products to us at all. Our efforts to protect against and to minimize these risks may not always be effective.
Our business would be materially and adversely affected if we lost a significant portion of business from any of our largest customers.
For the year ended December 31, 2005, approximately 33%, 23%, and 12% of our sales were to Ford, General Motors, and DaimlerChrysler, respectively. To compete effectively, we must continue to satisfy these and other customers' pricing, service, technology, and increasingly stringent quality and reliability requirements. Additionally, our revenues may be affected by decreases in these three manufacturers' businesses or market shares. The market shares of these customers have declined in recent years and may continue to decline in the future. We cannot provide any assurance that we will be able to maintain or increase our sales to these or any other customers. The loss of, or significant reduction in purchases by, one of these major customers or the loss of all of the contracts relating to certain major platforms of one of these customers could materially and adversely affect our results of operations.
We could be adversely affected if we are unable to continue to compete successfully in the highly competitive automotive parts industry.
The automotive parts industry is highly competitive. We face numerous competitors in each of the product lines we serve. In general, there are three or more significant competitors for most of the products offered by our company and numerous smaller competitors. We also face increased competition for certain of our products from suppliers producing in lower-cost countries such as Korea, especially for certain lower-technology NVH control products that have physical characteristics that make long-distance shipping more feasible and economical. We may not be able to continue to compete favorably and increased competition in our markets may have a material adverse effect on our business.
We are subject to other risks associated with our non-U.S. operations.
We have significant manufacturing operations outside the United States, including joint ventures and other alliances. Our operations are located in 14 countries and we export to several other countries. In 2005, approximately 57% of our net sales originated outside the United States. Risks are inherent in international operations, including:
|•||exchange controls and currency restrictions;|
|•||currency fluctuations and devaluations;|
|•||changes in local economic conditions;|
|•||changes in laws and regulations, including the imposition of embargos;|
|•||exposure to possible expropriation or other government actions; and|
|•||unsettled political conditions and possible terrorist attacks against American interests.|
These and other factors may have a material adverse effect on our international operations or on our business, results of operations, and financial condition. For example, we are faced with potential difficulties in staffing and managing local operations and we have to design local solutions to manage credit risks of local customers and distributors. Also, the cost and complexity of streamlining operations in certain European countries is greater than would be the case in the United States, due primarily to labor laws in those countries that can make reducing employment levels more time-consuming and expensive than in the United States. Our flexibility in our foreign operations can also be somewhat limited by agreements we have entered into with our foreign joint venture partners.
Our overall success as a global business depends, in part, upon our ability to succeed in differing economic, social, and political conditions. We may not continue to succeed in developing and implementing policies and strategies that are effective in each location where we do business, and failure to do so could harm our business, results of operations, and financial condition.
Our sales outside the United States expose us to currency risks. During times of a strengthening U.S. dollar, at a constant level of business, our reported international sales and earnings will be reduced because the local currency will translate into fewer U.S. dollars. In addition to currency translation risks, we incur a currency transaction risk whenever one of our operating subsidiaries enters into either a purchase or a sales transaction using a different currency from the currency in which it receives revenues. Given the volatility of exchange rates, we may not be able to manage our currency transaction and/or translation risks effectively, or volatility in currency exchange rates may have a material adverse effect on our financial condition or results of operations.
Our Lean manufacturing and other cost savings plans may not be effective.
Our operations strategy includes cutting costs by reducing product errors, inventory levels, operator motion, overproduction, and waiting while fostering the increased flow of material, information, and communication. The cost savings that we anticipate from these initiatives may not be achieved on schedule or at the level anticipated by management. If we are unable to realize these anticipated savings, our operating results and financial condition may be adversely affected. Moreover, the implementation of cost saving plans and facilities integration may disrupt our operations and performance.
We may incur material losses and costs as a result of product liability and warranty and recall claims that may be brought against us.
We may be exposed to product liability and warranty claims in the event that our products actually or allegedly fail to perform as expected or the use of our products results, or is alleged to result, in bodily injury and/or property damage. Accordingly, we could experience material warranty or product liability losses in the future and incur significant costs to defend these claims.
In addition, if any of our products are, or are alleged to be, defective, we may be required to participate in a recall of that product if the defect or the alleged defect relates to automotive safety. Our costs associated with providing product warranties could be material. Product liability, warranty, and recall costs may have a material adverse effect on our business, results of operations, and financial condition.
Work stoppages or similar difficulties could disrupt our operations.
As of December 31, 2005, approximately 49.7% of our employees were represented by unions, of which approximately 22% were located in the United States. It is possible that our workforce will
become more unionized in the future. We may be subject to work stoppages and may be affected by other labor disputes. A work stoppage at one or more of our plants may have a material adverse effect on our business. Unionization activities could also increase our costs, which could have an adverse effect on our profitability.
Two of our Canadian union agreements are due to expire this year. We are currently negotiating new contracts with the affected unions. Any of the risks mentioned above can be exacerbated during periods of renegotiation. Also, the unions may succeed in negotiating higher wages or benefits, which could increase our costs.
Additionally, a work stoppage at one of our suppliers could adversely affect our operations if an alternative source of supply were not readily available. Stoppages by employees of our customers also could result in reduced demand for our products.
Our success depends in part on our development of improved products, and our efforts may fail to meet the needs of customers on a timely or cost-effective basis.
Our continued success depends on our ability to maintain advanced technological capabilities, machinery, and knowledge necessary to adapt to changing market demands as well as to develop and commercialize innovative products. We may not be able to develop new products as successfully as in the past or be able to keep pace with technological developments by our competitors and the industry generally. In addition, we may develop specific technologies and capabilities in anticipation of customers' demands for new innovations and technologies. If such demand does not materialize, we may be unable to recover the costs incurred in such programs. If we are unable to recover these costs or if any such programs do not progress as expected, our business, financial condition, or results of operations could be materially adversely affected.
Our ability to operate our company effectively could be impaired if we fail to attract and retain key personnel.
Our ability to operate our business and implement our strategies depends, in part, on the efforts of our executive officers and other key employees. In addition, our future success will depend on, among other factors, our ability to attract and retain other qualified personnel, particularly research and development engineers and technical sales professionals. The loss of the services of any of our key employees or the failure to attract or retain other qualified personnel could have a material adverse effect on our business or business prospects.
Our Sponsors may have conflicts of interest with us in the future.
Our Sponsors beneficially own approximately 98% of the outstanding shares of our common stock. Additionally, we have entered into a stockholders' agreement with the Sponsors that grants them certain preemptive rights to purchase additional equity and rights to designate members of our Board of Directors. As a result, our Sponsors have control over our decisions to enter into any corporate transaction and have the ability to prevent any transaction that requires the approval of stockholders regardless of whether or not other stockholders or noteholders believe that any such transactions are in their own best interests.
Additionally, our Sponsors are in the business of making investments in companies and may from time to time acquire and hold interests in businesses that compete directly or indirectly with us. Our Sponsors may also pursue acquisition opportunities that may be complementary to our business, and as a result, those acquisition opportunities may not be available to us. So long as our Sponsors continue to own a significant amount of the outstanding shares of our common stock, even if such amount is less than 50%, they will continue to be able to strongly influence or effectively control our decisions.
Our historical financial information before the Acquisition may not be representative of our results as a separate, stand-alone company.
Prior to December 23, 2004, we operated as a reportable business segment of Cooper Tire. Our historical financial information for periods prior to December 23, 2004 included in this report may not
reflect what our results of operations, financial position, and cash flows would have been had we been a separate, stand-alone entity during the periods presented, or what our results of operations, financial position, and cash flows will be in the future.
Our intellectual property portfolio is subject to legal challenges.
We have developed and actively pursue developing proprietary technology in the automotive industry and rely on intellectual property laws and a number of patents in many jurisdictions to protect such technology. However, we may be unable to prevent third parties from using our intellectual property without authorization. If we had to litigate to protect these rights, any proceedings could be costly, and we may not prevail. We also face increasing exposure to the claims of others for infringement of intellectual property rights. We may have material intellectual property claims asserted against us in the future and could incur significant costs or losses related to such claims.
Our pension plans are currently underfunded and we may have to make cash payments to the plans, reducing the cash available for our business.
We sponsor various pension plans worldwide that are underfunded and will require cash payments. Additionally, if the performance of the assets in our pension plans does not meet our expectations, or if other actuarial assumptions are modified, our required contributions may be higher than we expect. If our cash flow from operations is insufficient to fund our worldwide pension liability, we may be forced to reduce or delay capital expenditures, seek additional capital, or seek to restructure or refinance our indebtedness.
As of December 31, 2005, our $212.4 million projected benefit obligation (‘‘PBO’’) for U.S. pension benefit obligations exceeded the fair value of the relevant plans’ assets, which totaled $157.4 million, by $55.0 million. Additionally, the international employees’ plans’ PBO exceeded plan assets by approximately $30.9 million at December 31, 2005. The PBO for other postretirement benefits (‘‘OPEB’’) was $96.3 million at December 31, 2005. Our estimated funding requirement for pensions and OPEB during 2006 is approximately $26 million. Net periodic pension costs for U.S. and international plans, including pension benefits and OPEBs, were $24.7 million and $19.5 million for the years ended December 31, 2004 and 2005, respectively. See ‘‘Item 8. Financial Statements and Supplementary Data’’ (especially Notes 10 and 11).
We are subject to a broad range of environmental, health, and safety laws and regulations, which could adversely affect our business and results of operations.
We are subject to a broad range of federal, state, and local environmental and occupational safety and health laws and regulations in the United States and other countries, including those governing emissions to air, discharges to water, noise and odor emissions; the generation, handling, storage, transportation, treatment, and disposal of waste materials; the cleanup of contaminated properties; and human health and safety. We may incur substantial costs associated with hazardous substance contamination or exposure, including cleanup costs, fines, and civil or criminal sanctions, third party property or natural resource damage, or personal injury claims, or costs to upgrade or replace existing equipment, as a result of violations of or liabilities under environmental laws or non-compliance with environmental permits required at our locations. In addition, many of our current and former facilities are located on properties with long histories of industrial or commercial operations and some of these properties have been subject to certain environmental investigations and remediation activities. Because some environmental laws (such as the Comprehensive Environmental Response, Compensation and Liability Act) can impose liability for the entire cost of cleanup upon any of the current or former owners or operators, retroactively and regardless of fault, we could become liable for investigating or remediating contamination at these or other properties (including offsite locations). We may not always be in complete compliance with all applicable requirements of environmental law or regulation, and we may incur material costs or liabilities in connection with such requirements. In addition, new environmental requirements or changes to existing requirements, or in their enforcement, could have a material adverse effect on our business, results of operations, and financial condition. We have made and will continue to make expenditures to comply with
environmental requirements. While our costs to defend and settle claims arising under environmental laws in the past have not been material, such costs may be material in the future. For more information about our environmental compliance and potential environmental liabilities, see ‘‘Item 1. Business—Environmental.’’
If our acquisition strategy is not successful, we may not achieve our growth and profit objectives.
We may selectively pursue complementary acquisitions in the future as part of our growth strategy. While we will evaluate business opportunities on a regular basis, we may not be successful in identifying any attractive acquisitions. We may not have, or be able to raise on acceptable terms, sufficient financial resources to make acquisitions. In addition, any acquisitions we make will be subject to all of the risks inherent in an acquisition strategy, including integrating financial and operational reporting systems; establishing satisfactory budgetary and other financial controls; funding increased capital needs and overhead expenses; obtaining management personnel required for expanded operations; and funding cash flow shortages that may occur if anticipated sales and revenues are not realized or are delayed, whether by general economic or market conditions or unforeseen internal difficulties.
Our ability to make scheduled payments or to refinance our debt obligations depends on our financial and operating performance, which is subject to prevailing economic and competitive conditions and to certain financial, business, and other factors beyond our control. We may not be able to maintain a level of cash flows from operating activities sufficient to permit us to pay the principal, premium, if any, and interest on our indebtedness. See ‘‘Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources.’’
If our cash flows and capital resources are insufficient to fund our debt service obligations, we may be forced to reduce or delay capital expenditures, seek additional capital, or seek to restructure or refinance our indebtedness. These alternative measures may not be successful and may not permit us to meet our scheduled debt service obligations. In the absence of such operating results and resources, we could face substantial liquidity problems and might be required to sell material assets or operations to attempt to meet our debt service and other obligations. The Senior Credit Facilities and the indentures under which the Senior Notes and the Senior Subordinated Notes were issued restrict our ability to use the proceeds from asset sales. We may not be able to consummate those asset sales to raise capital or sell assets at prices that we believe are fair and proceeds that we do receive may not be adequate to meet any debt service obligations then due.
Despite our current leverage, we may still be able to incur substantially more debt. This could further exacerbate the risks that we and our subsidiaries face.
We and our subsidiaries may be able to incur substantial additional indebtedness in the future. Our revolving credit facilities provide commitments of up to $125 million, of which $109 million was available for future borrowings as of December 31, 2005. Our debt increased upon the closing of our acquisition of FHS, because we financed the acquisition with an incremental loan under our Senior Credit Facilities.
|Item 1B.||Unresolved Staff Comments.|
As of December 31, 2005, our operations were conducted through 48 facilities in 14 countries, of which 40 are manufacturing facilities and 8 are used for multiple purposes. Our headquarters are located in Novi, Michigan. Our manufacturing facilities are located in North America, Asia, Europe, South America, and Australia. We believe that substantially all of our properties are in good condition and that we have sufficient capacity to meet our current and projected manufacturing and design needs. The following table summarizes our property holdings.
We acquired an additional 15 facilities through the acquisition of FHS, of which 10 are located in North America, four in Europe and one in Asia.
|Item 3.||Legal Proceedings|
We are involved in various legal actions and claims arising in the ordinary course of business, including without limitation intellectual property matters, product related claims, tax claims, and employment matters. Although the outcome of legal matters cannot be predicted with certainty, we do not believe that any matters with which we are currently involved, either individually or in the aggregate, will have a material adverse effect on our liquidity, financial condition, or results of operations. See ‘‘Item 8. Financial Statements and Supplementary Data’’ (especially Note 15).
|Item 4.||Submission of Matters to a Vote of Security Holders|
No matters were submitted to a vote of the Company’s stockholders during the fourth quarter of 2005.
|Item 5.||Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities|
Equity interests in Cooper-Standard Holdings Inc. consist of shares of its common stock, $0.01 par value per share. Cooper-Standard Holdings Inc. has been a privately held entity since its formation and no trading market exists for its common stock. At December 31, 2005, 3,235,100 shares of its common stock were issued and outstanding. As of that date, there were 21 holders of record of Cooper-Standard Holdings Inc. common stock.
Cooper-Standard Holdings Inc. has never paid or declared a dividend. The declaration of any prospective dividends is at the discretion of the Board of Directors and would be dependent upon sufficient earnings, capital requirements, financial position, general economic conditions, state law requirements, and other relevant factors. Additionally, our agreement with our lenders prohibits payment of dividends, except stock dividends, without the lenders’ prior consent.
The following table presents all stock-based compensation plans of the Company at December 31, 2005:
|Item 6.||Selected Financial Data|
The selected financial data referred to as the Successor data as of and for the year ended December 31, 2005, and as of December 31, 2004 and for the period from December 24, 2004 to December 31, 2004, have been derived from the consolidated audited financial statements of Cooper-Standard Holdings Inc. and its subsidiaries which have been audited by Ernst & Young LLP, independent registered public accountants.
The selected financial data referred to as the Predecessor financial data as of December 31, 2003 and for the period from January 1, 2004 to December 23, 2004 and the years ended December 31, 2003 and 2002 have been derived from the combined audited financial statements of the automotive segment of Cooper Tire, which have been audited by Ernst & Young LLP, independent registered public accountants. The selected financial data as of December 31, 2002, and as of and for the year ended December 31, 2001, are derived from unaudited historical combined financial statements of the automotive segment of Cooper Tire. In the opinion of management, such unaudited financial data reflect all adjustments, consisting only of normal and recurring adjustments, necessary for a fair presentation of the results for that period. The information reflects our business as it historically operated within Cooper Tire, and includes certain assets and liabilities that we did not acquire or assume as part of the Acquisition. Also, on December 23, 2004, Cooper-Standard Holdings Inc., which prior to the Acquisition never had any independent operations, purchased the automotive business represented in the historical Predecessor financial statements. As a result of applying the required purchase accounting rules to the Acquisition and accounting for the assets and liabilities there were not assumed in the Acquisition, our financial statements for the period following the acquisition were significantly affected. The application of purchase accounting rules required us to revalue our assets
and liabilities, which resulted in different accounting bases being applied in different periods. As a result, historical combined financial data included in this Form 10-K in Predecessor statements may not reflect what our actual financial position, results of operations, and cash flows would have been had we operated as a separate, stand-alone company as of and for those periods presented.
The audited combined and consolidated financial statements as of December 31, 2004 and 2005 and for the periods from January 1, 2003 to December 31, 2003, from January 1, 2004 to December 23, 2004, from December 24, 2004 to December 31, 2004, and from January 1, 2005 to December 31, 2005, are included elsewhere in this Form 10-K. See ‘‘Item 8. Financial Statements and Supplementary Data.’’
You should read the following data in conjunction with ‘‘Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations’’ and the combined and consolidated financial statements of Cooper-Standard Holdings Inc. included elsewhere in this Form 10-K.
|(1)||Amounts were adjusted to reflect the change to a net presentation of cash held in our global cash management vehicle.|
|(2)||Net working capital is defined as current assets (excluding cash and cash equivalents) less current liabilities (excluding debt payable within one year).|
|(3)||Includes term loans, bonds, $3.2 million in capital leases, and $4.7 million of other third-party debt at December 31, 2005.|
|Item 7.||Management’s Discussion and Analysis of Financial Condition and Results of Operations|
The following discussion and analysis should be read in conjunction with the consolidated financial statements and the notes thereto included elsewhere in this Form 10-K. The following discussion of the financial condition and results of operations of the Company contains certain forward-looking statements relating to anticipated future financial conditions and operating results of the Company and its current business plans. In the future, the financial condition and operating results of the Company could differ materially from those discussed herein and its current business plans could be altered in response to market conditions and other factors beyond the Company’s control. Important factors that could cause or contribute to such differences or changes include those discussed elsewhere in this report. See ‘‘Item 1. Business—Forward Looking Statements’’ and ‘‘Item 1A. Risk Factors’’.
Basis of Presentation
Prior to the Acquisition, the Predecessor (defined below) did not operate as a stand-alone business, but as a reportable business segment of Cooper Tire & Rubber Company. The audited and unaudited financial information of the Predecessor represents our business as it historically operated and includes certain assets and liabilities, principally related to closed plants or those in the process of being closed, which were not acquired or assumed as part of the Transactions, and also includes U.S. pension program balances previously held at the parent company. Also, due to the change in ownership in the Acquisition, and the resultant application of purchase accounting, the historical financial statements of the Predecessor and the Successor (defined below) included in this Form 10-K have been prepared on different bases for the periods presented and are not comparable.
The following provides a description of the basis of presentation during all periods presented:
Predecessor: Represents the combined financial position, results of operations and cash flows of the Automotive segment of Cooper Tire for all periods prior to the Acquisition on December 23, 2004. This presentation reflects the historical basis of accounting without any application of purchase accounting for the Acquisition.
Successor: Represents our consolidated financial position as of December 31, 2004 and 2005 and our consolidated results of operations and cash flows for the period from December 24, 2004 to December 31, 2004 following the Acquisition and for the period from January 1, 2005 to December 31, 2005. The financial position as of December 31, 2004 and results of operations and cash flows for the period from December 24, 2004 to December 31, 2004 reflect the preliminary application of purchase accounting, described below, relating to the Acquisition and the adjustments required to reflect the assets and liabilities not acquired in the Acquisition and the adjustments for domestic pension liabilities previously held by Cooper Tire.
Combined Fiscal 2004: Represents the combined historical results of the Predecessor and Successor for the year ended December 31, 2004. Such information is provided for informational purposes only and does not purport to be indicative of the results which would have actually been attained had the Acquisition not occurred. However, especially given the impact of the year-end production shutdowns by our major customers on the Successor's 2004 results of operations, such information is considered a more representative basis of comparison to 2003.
As a result of the foregoing, the historical financial information for periods prior to December 24, 2004 included in this Form 10-K may not reflect what our results of operations, financial position and cash flows would have been had we operated as a separate, stand-alone company for such periods.
We produce body sealing, fluid handling, and vibration control components, systems, subsystems, and modules for use in passenger vehicles and light trucks manufactured by global OEMs. In 2005, approximately 90% of our sales consisted of original equipment sold directly to the OEMs for installation on new vehicles. The remaining 10% of our sales were primarily to Tier I and Tier II
suppliers. Accordingly, sales of our products are directly affected by the annual vehicle production of OEMs, and in particular the production levels of the vehicles for which we provide specific parts. In most cases, our products are custom designed and engineered for a specific vehicle platform. Our sales and product development personnel frequently work directly with the OEMs' engineering departments in the design and development of our various products.
Although each OEM may emphasize different requirements as the primary criteria for judging its suppliers, we believe success as an automotive supplier generally requires outstanding performance with respect to price, quality, service, performance, design and engineering capabilities, innovation, and timely delivery. As such, we believe our continued commitment to investment in our engineering and design capability, including enhanced computerized software design capabilities, is important to future success, and many of our present initiatives are designed to enhance these capabilities. To remain competitive we must also consistently achieve cost savings; we believe we will continue to be successful in our efforts to improve our engineering, design and manufacturing processes, and implement our Lean initiatives.
Our OEM sales are generally based upon purchase orders issued by the OEMs and as such we do not have a backlog of orders at any point in time. Based upon planned production levels, the OEMs specify quantities of components required by their manufacturing plants, which provides us with significant annual visibility of our production volumes. Once selected to supply products for a particular platform, we typically supply those products for the platform life, which is typically six to eight years. In addition, when we are the incumbent supplier to a given platform, we believe we have an advantage in winning the redesign or replacement platform.
We provide parts to virtually every major global OEM for use on a multitude of different platforms. However, we generate a significant portion of our sales from the Big 3. For the year ended December 31, 2005, our sales to the global operations of Ford, General Motors, and DaimlerChrysler comprised approximately 33%, 23%, and 12% of our net sales, respectively. Significant reduction of our sales to or the loss of any one of these customers or any significant reduction in these customers' market shares could have a material adverse effect on the financial results of our company.
While approximately 70% of sales are generated in North America, we maintain sales offices in strategic locations throughout the world to provide support and service to our global OEM customers. We continue to expand internationally. In May 2004 we completed the expansion of our body sealing systems facility in Poland, more than doubling its original size. This expansion positions us for continued growth in Eastern Europe and is also part of our strategy to selectively relocate facilities to lower cost countries. In July 2004, we entered into a joint-venture agreement with China-based Saiyang Sealing to manufacture and sell automotive body sealing products in China under the name Cooper Saiyang Wuhu Automotive. This venture has already secured business with two OEMs. In the third quarter of 2004, we opened manufacturing facilities for sealing, fluid handling, and NVH control products in China to serve both the rapidly expanding Chinese market and, to a lesser extent, the North American market. In July 2005, we purchased the automotive hose manufacturing business of The Gates Corporation located in Mexico. In the fourth quarter of 2005, we purchased a 20% equity interest in Korea-based Guyoung, a supplier to Korean automotive OEMs, and entered into a Cooperation Agreement with Guyoung in order to expand the customer base of both companies worldwide. In December 2005, we entered into the Stock and Asset Purchase Agreement for the acquisition of FHS which was completed in February 2006 and includes automotive fluid handling business and facilities in Europe, Asia, Mexico, and Australia.
Historically, our operations in Canada and Western Europe have not presented materially different risks or problems from those we have encountered in the United States, although the cost and complexity of streamlining operations in certain European countries is greater than would be the case in the United States. This is due primarily to labor laws in those countries that can make reducing employment levels more time-consuming and expensive than in the United States. We believe the risks of conducting business in less developed markets, including Brazil, Mexico, Poland, Czech Republic, China, Korea, and India are somewhat greater than in the U.S., Canadian, and Western European markets. This is due to the potential for currency volatility, high interest, inflation rates, and the general political and economic instability that are associated with these markets.
Business Environment and Outlook
Our business is greatly affected by the automotive build rates in North America and Europe. New vehicle demand is driven by macro-economic and other factors such as interest rates, manufacturer and dealer sales incentives, fuel prices, consumer confidence, and employment and income growth trends. According to the J.D. Power-LMC Quarter Four Automotive Production Report, light vehicle production in North America is expected to be 15.9 million units in 2006, as compared to 15.7 million units produced in 2005. European production levels in 2006 are expected to be 20.3 million units as compared to 20.1 million units in 2005. Light vehicle production in South America is expected to increase to 2.9 million vehicles in 2006 from 2.8 million vehicles in 2005.
Fluid segment sales are expected to increase approximately 66% over 2005 due mainly to the anticipated revenues resulting from the acquisition of FHS. This growth is expected to be partially offset by unfavorable effects of currency translation.
Competition in the automotive supplier industry is intense and has increased in recent years as OEMs have demonstrated a preference for stronger relationships with fewer suppliers. There are typically three or more significant competitors and numerous smaller competitors for most of the products we produce, and competition can always arise from new sources. For example, certain of our products have experienced new competition from lower cost imports from Korea. We addressed this challenge with a combination of North American cost reductions and our own Asian sourcing.
Pricing pressure is also prevalent as competition for market share among U.S.-based OEMs, has reduced the overall profitability of the industry and resulted in continued pressure on suppliers for price concessions. The market shares of the Big 3, which are our three largest customers, have declined in recent years and may continue to decline in the future. OEMs have been further hurt by increased pension and other retirement-related costs and by the impact of global overcapacity. This pricing pressure will continue to drive our focus on implementing Lean initiatives to achieve cost savings and selectively consolidate and relocate facilities to optimize our cost structure.
Another trend affecting our business is the global expansion of our customers. Consolidation among the OEMs in recent years has resulted in the creation of a relatively small number of very large global customers that increasingly require their suppliers to serve them on a global basis. We have expanded our business globally and believe we have the size, geographic breadth, and resources to meet our customers' requirements. We have accomplished this via a combination of organic growth and joint ventures, which we believe have ensured that we provide the same high levels of quality, service, and design and engineering support that we provide in our domestic markets.
Lastly, OEMs have shifted some research and development, design, and testing responsibility to suppliers, while at the same time shortening new product cycle times. To remain competitive suppliers must have state-of-the-art engineering and design capabilities and must be able to continuously improve their engineering, design, and manufacturing processes. Suppliers are increasingly expected to collaborate on or assume the product design and development of key automotive components, and to provide value added solutions under more stringent time frames.
In the year ended December 31, 2005, our business was negatively impacted by reduced OEM production volumes on certain platforms in North America. According to J.D. Power-LMC, actual North America and Europe light vehicle production volumes for the year ended December 31, 2005 were 15.7 million and 20.1 million units, respectively, as compared to 15.7 million and 20.3 million units, respectively, for Combined Fiscal 2004. Additionally, we continued to experience significant pricing pressure from our customers as well as significant increases in certain raw material prices, especially steel-based components, synthetic rubber, and other compounding materials. Our contracts typically do not allow us to pass these price increases on to our customers. These negative impacts were partially offset by favorable foreign currency translation. Our performance in 2005 has been, and will continue to be, impacted by changes in light vehicle production volumes, customer pricing pressures, and the cost of raw materials.
Results of Operations
(Dollar amounts in thousands)
Year ended December 31, 2005 Compared to the Combined Periods Beginning January 1, 2004 through December 23, 2004 and Beginning December 24, 2004 through December 31, 2004 (together, ‘‘Combined Fiscal 2004’’)
Net Sales: Our net sales decreased from $1,863.6 million in Combined Fiscal 2004 to $1,827.4 million in 2005, a decrease of $36.2 million, or 1.9%. The decrease resulted primarily from lower unit sales volumes coupled with customer price concessions, offset by favorable foreign exchange rates ($45.6 million). In North America, our sales decreased by $55.6 million due to lower unit sales volumes and customer price concessions, offset by $25.8 million favorable foreign currency translation. In our international operations, a sales increase of $13.9 million was attributable to $19.8 million favorable impact of foreign currency translation and increased unit sales in Asia, offset by customer price concessions.
Gross Profit: Gross profit decreased $42.6 million to 15.2% of sales in 2005 as compared to 17.2% of sales in Combined Fiscal 2004. This decrease resulted primarily from the aforementioned volume and pricing factors combined with increased raw material costs, especially steel, synthetic rubber, and resin prices. Such negative items were offset by the favorable impact of various cost savings initiatives.
Operating Profit: Operating profit in 2005 was $38.8 million lower than the operating profit reported in Combined Fiscal 2004, decreasing from $115.1 million to $76.3 million. The decrease is primarily due to decreased gross profit ($42.6 million) and increased amortization of intangibles ($27.4 million), offset by reduced selling, administration, and engineering expenses and restructuring costs. Selling, administration, and engineering expenses were lower in 2005 by $13.0 million, or 7.1%, due to lower costs experienced thus far associated with operating as a stand-alone company and reduced incentive compensation based on the Company’s 2005 profitability offset partially by inflationary increased in wages and benefits. Restructuring costs were $18.2 million lower due to completion of previously announced plant closures and consolidation of European engineering and administration headquarters.
Amortization of Intangibles: Amortization increased by $27.4 million in 2005 due to the amortization of intangible assets recorded as a result of the Acquisition, primarily related to customer contracts and relationships.
Interest Expense, net: Interest expense increased by $59.2 million in 2005, primarily due to indebtedness used to finance the Acquisition.
Other Income (Expense): Other expense increased by $3.8 million in 2005, primarily due to a change from net foreign exchange gain to losses. Such change resulted from a $0.8 million decrease in foreign exchange gain related to Term Loan B, a U.S. dollar-denominated obligation of our Canadian subsidiary, in addition to losses of $1.7 million related to other indebtedness used to finance the Acquisition.
Provision for Income Tax Expense (Benefit): Our effective tax rate decreased from 29.1% in 2004 to 21.2% in 2005 due primarily to an increase in earnings in jurisdictions with effective tax rates below the U.S. statutory rate and the impact of tax credits.
Combined Fiscal 2004 Compared to the Year Ended December 31, 2003
Net Sales: Our net sales increased from $1,662.2 million in 2003 to $1,863.6 million in Combined Fiscal 2004, an increase of $201.3 million, or 12.1%. The increase in our net sales was due to higher volume and new business in each of our business segments, as well as $71 million favorable foreign currency translation. These increases were partially offset by the impact of run-out businesses and price concessions, which together decreased our total net sales by $117 million. Our operations in North America generated $116 million of our increased sales from new business and $22 million of the favorable foreign currency translation. Light vehicle production in North America decreased slightly in Combined Fiscal 2004 to 15.7 million vehicles compared to 2003 at 15.9 million vehicles. In our international operations, a sales increase of $85 million was attributable to the favorable impact of foreign currency translation and $17 million was attributable to the inclusion of the sales of Cooper-Standard Automotive of Korea, Inc. The impact of new business and increased production volume offset lost business and price concessions. Production in Europe increased from 19.5 million vehicles in 2003 to 20.3 million vehicles in Combined Fiscal 2004.
Gross Profit: Gross profit was $46.7 million higher in Combined Fiscal 2004 than in 2003. This increase from $273.0 million to $319.8 million, due to higher volumes on new and current businesses, favorable currency exchange translation, and Lean initiatives, was partially offset by lost volumes on run-off businesses, customer price concessions, and higher steel surcharges.
Operating Profit: Operating profit in Combined Fiscal 2004 was $18.4 million higher than the operating profit reported in 2003, increasing from $96.7 million to $115.1 million. Selling, administration, and engineering expenses were higher by $20.0 million due to lower engineering recoveries, a negative foreign exchange impact of $5.9 million, higher incentive compensation, and inflationary increases in wages and benefits. Restructuring costs were $8.4 million higher due to the continued spending on previously announced plant closures and consolidation of European engineering and administration headquarters.
Interest Expense, net: Interest expense increased by $2.5 million for Combined Fiscal 2004, primarily due to bridge loan fees of $4 million related to the Acquisition and $1.7 million of interest expense related to increased indebtedness used to finance the Acquisition. These increases were offset by reduced borrowings under other credit facilities.
Other Income (Expense): Other income increased by $3.5 million in Combined Fiscal 2004, primarily due to a foreign exchange gain of $4.1 million after the Acquisition related to changes in the value of a U.S. dollar-denominated term loan of one of our Canadian subsidiaries.
Provision for Income Tax Expense (Benefit): Our effective tax rate decreased from 37.4% for 2003 to 29.1% for Combined Fiscal 2004 due to an income tax benefit of $5.5 million resulting from the reversal of certain valuation allowances in Predecessor 2004 and changes in the distribution of income between U.S. and foreign sources.
Short Period Discussions on a Historical Basis
As a result of the Acquisition, our historical results of operations for the eight days ended December 31, 2004 are reported on a different basis under the purchase method of accounting and thus are not comparable to previous periods of the Predecessor. Following is a discussion of the results of operations of the Predecessor for the period from January 1, 2004 to December 23, 2004 and of the Successor for the eight days ended December 31, 2004 on a historical basis.
Period from January 1, 2004 to December 23, 2004
For the period from January 1, 2004 to December 23, 2004, the Predecessor generated net sales of $1,858.9 million, with cost of sales of $1,539.1 million, resulting in a gross profit of $319.8 million, or 17.2% of sales. Selling, administration, and engineering expenses were $177.5 million, or 9.5% of sales. Restructuring expenses were $21.2 million and consisted of continuing costs related to initiatives begun in 2003. Operating profit was $120.4 million, while net income was $83.3 million, or 4.5% of sales.
Eight Days Ended December 31, 2004
For the eight days ended December 31, 2004, the Successor generated sales of $4.7 million, with cost of sales of $4.7 million. Production costs incurred for the month of December were reflected in the period in which production occurred, substantially all of which occurred during the period from January 1, 2004 to December 23, 2004. As a result of the year-end shutdowns common to the automotive industry, combined with an increase in the recorded value of our inventories to their fair market value as of the date of the Acquisition, gross profit for this period was $0. Selling, administration, and engineering expenses were $5.2 million, or 110.6% of sales, due to the lack of sales volume resulting from the year-end shutdowns. Operating loss was $5.2 million, while net loss was $4.5 million, or 97.7% of sales.
Segment Results of Operations
(Dollar amounts in thousands)
Year ended December 31, 2005 Compared to Combined Fiscal 2004
Sealing: Sales increased $21.2 million, or 2.4%, primarily due to favorable foreign exchange ($29.5 million) and higher sales volumes, offset by customer price concessions. Segment profit decreased by $8.6 million as the result of increased interest costs on indebtedness used to finance the Acquisition ($34.8 million), liquidation of the inventory fair value adjustment and amortization of intangible assets recorded as a result of the Acquisition ($5.2 million and $5.7 million, respectively), higher raw material costs, and customer price concessions. Such items were offset by favorable foreign exchange ($3.4 million), reduced restructuring costs ($13.9 million), higher unit sales volumes, and the favorable impact of various cost savings initiatives.
Fluid: Sales decreased $6.8 million, or 1.1%, due to lower unit sales volumes and customer price concessions offset by favorable foreign exchange ($7.9 million). Segment profit decreased by
$47.2 million as the result of increased interest costs on indebtedness used to finance the Acquisition ($21.4 million) and amortization of intangible assets recorded as a result of the Acquisition ($16.8 million) combined with higher raw materials costs and customer price concessions. Such items were offset by reduced restructuring costs ($4.4 million) and the favorable impact of various cost savings initiatives.
NVH: Sales decreased $50.8 million, or 14.3%, due to lower unit sales volumes and customer price concessions offset by favorable foreign exchange ($8.2 million). Segment profit decreased by $45.2 million as the result of increased interest costs on indebtedness used to finance the Acquisition ($10.4 million) and amortization of intangible assets recorded as a result of the Acquisition ($5.1 million) combined with lower unit sales volumes and price concessions. Such items were partially offset by the favorable impact of various cost savings initiatives.
Combined Fiscal 2004 Compared to the Year Ended December 31, 2003
Sealing: Sales increased $119.6 million, or 16.0%, primarily due to volume and new business ($143 million) and favorable foreign exchange offset by the impact of run-out business and price recessions. Segment profit increased by $14.7 million due to operational improvements and increased volumes primarily due to operating items mentioned above along with favorable foreign exchange impact.
Fluid: Sales increased $68.1 million, or 11.9%, primarily due to volume and new business ($69 million) and favorable foreign exchange offset by the impact of run-out business and price recessions. Segment profit increased by $16.4 million due primarily to increased sales.
NVH: Sales increased $13.8 million, or 4.1%, primarily due to volume and new business ($35 million) and favorable foreign exchange offset by the impact of run-out business and price recessions. Segment profit decreased by $14.3 million due to increased raw material costs exceeding increases from net new business.
Off-Balance Sheet Arrangements
We have provided a guarantee of a portion of the bank loans made to NISCO, our joint venture with Nishikawa Rubber Company. This debt guarantee is required of the partners by the joint-venture agreement and serves to support the credit-worthiness of NISCO. On July 1, 2003, NISCO entered into an additional bank loan with the joint venture partners each guaranteeing an equal portion of the amount borrowed. In accordance with FASB Interpretation No. 45, ‘‘Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others,’’ guarantees meeting the characteristics described in the Interpretation are required to be recorded at fair value. As of December 31, 2005, we have recorded a $22 thousand liability related to the guarantee of this debt with a corresponding increase to the carrying value of our investment in the joint venture. Our maximum exposure under the two guarantee arrangements at December 31, 2005 was $5.0 million.
As of December 31, 2005 we had no other material off-balance sheet arrangements.
Liquidity and Capital Resources
Operating Activities: Cash flow provided by operations was $113.0 million in 2005 as compared to $161.5 million in Combined Fiscal 2004. Such decrease is primarily due to significantly lower net income in 2005 as a result of Acquisition-related debt and other charges, as well as lower sales volumes, partially offset by working capital improvements. We anticipate that cash flows from operations for the next twelve months will be positive and will exceed our projected capital expenditures and working capital needs.
Investing Activities: Cash used in investing activities was $133.0 million in 2005 as compared to $1,186.4 million in Combined Fiscal 2004. This change resulted directly from the payment of $1,132.6 million for the Acquisition in 2004, as compared to $54.3 million working capital adjustment
payment related to the Acquisition in 2005. Such decrease is offset by payment of transaction advisory fees to one of the Company’s primary stockholders ($8.0 million) and the Gates and Guyoung investments ($17.2 million) in 2005. We anticipate that we will spend approximately $80 million on capital expenditures in 2006, excluding FHS related spending. A portion of these capital expenditures in 2005 and 2006 are or will be attributable to new facilities being built in China.
Financing Activities: Cash used in financing activities prior to the Acquisition related primarily to inter-company activity and were not reflective of our current stand-alone financial structure. Net cash used in financing activities totaled $7.2 million in 2005 as compared to net cash provided by financing activities of $1,079.7 million during Combined Fiscal 2004. The 2004 cash flow provided by financing activities was primarily comprised of net borrowings of $900 million and a $318 million capital contribution used to finance the Acquisition, offset by $27.8 million fees incurred in connection with the Acquisition and related financing. The 2005 cash flow used in financing activities resulted primarily from principal payment on long-term debt.
Since the consummation of the Acquisition, we have been significantly leveraged. As of December 31, 2004, we had $912.7 million outstanding in aggregate indebtedness, with an additional $125 million of borrowing capacity available under our revolving credit facilities. As of December 31, 2005, we have $902.4 million outstanding in aggregate indebtedness, with an additional $109 million of borrowing capacity available under our revolving credit facilities (after giving effect to $16 million of outstanding letters of credit). In April 2005, we made the final purchase price payment to Cooper Tire related to settlement of a post-closing working capital adjustment. Such payment totaled $54 million but did not necessitate drawing against our revolving credit facility. Our future liquidity requirements will likely be significant, primarily due to debt service obligations. Future debt service obligations may include required prepayments from annual excess cash flows, as defined, under our senior credit agreement, which would be due 5 days after filing our Form 10-K, or in connection with specific transactions, such as certain asset sales and the incurrence of debt not permitted under the senior credit agreement.
Senior Credit Facilities. Our Senior Credit Facilities consist of revolving credit facilities and term loan facilities. Our revolving credit facilities provide for loans in a total principal amount of up to $125 million with a maturity of 2010. The Senior Credit Facilities include a Term Loan A facility of the Canadian dollar equivalent of $51.3 million with a maturity of 2010, a Term Loan B facility of $115 million with a maturity of seven years and a Term Loan C facility of $185 million with a maturity of seven years. These term loans were used to fund the Acquisition. As described below, the Company closed on an additional term loan facility, Term Loan D, in February 2006.
The borrowings under the Senior Credit Facilities denominated in US dollars bear interest at a rate equal to an applicable margin plus, at our or the Canadian Borrower's option, as applicable, either (a) a base rate determined by reference to the higher of (1) the prime rate of Deutsche Bank Trust Company Americas (or another bank of recognized standing reasonably selected by Deutsche Bank Trust Company Americas) and (2) the federal funds rate plus 0.5% or (b) LIBOR rate determined by reference to the costs of funds for deposits in US dollars for the interest period relevant to such borrowing adjusted for certain additional costs. Borrowings under the senior credit facilities denominated in Canadian dollars bear interest at a rate equal to an applicable margin plus, at the Canadian Borrower's option, either (a) an adjusted Canadian prime rate determined by reference to the higher of (1) the prime rate of Deutsche Bank AG, Canada Branch for commercial loans made in Canada in Canadian dollars and (2) the average rate per annum for Canadian dollar bankers' acceptances having a term of 30 days that appears of Reuters Screen CDOR Page plus 0.75% or (b) bankers' acceptances rate determined by reference to the average discount rate on bankers' acceptances as quoted on Reuters Screen CDOR Page or as quoted by certain Canadian reference lenders.
In addition to paying interest on outstanding principal under the Senior Credit Facilities, we are required to pay a commitment fee to the lenders under the revolving credit facilities in respect of the unutilized commitments thereunder at a rate equal to 0.50% per annum. We also pay customary letter of credit fees.
The Term Loan B facility and the Term Loan C facility amortize each year in an amount equal to 1% per annum in equal quarterly installments for the first six years and nine months, with the remaining amount payable on the date that is seven years from the date of the closing of the Senior Credit Facilities. The Term Loan A facility amortizes in equal quarterly installments of C$1.538 million for the fiscal quarters in 2005 and 2006, C$2.308 million for the fiscal quarters in 2007 and 2008 and C$3.846 million for the fiscal quarters in 2009 and 2010.
On February 6, 2006, in conjunction with the closing of the FHS acquisition, the Company entered into an amendment to the Senior Credit Facilities which established a Term Loan D facility, with a notional amount of $215 million. The Term Loan D facility was structured in two tranches, with $190 million borrowed in US dollars and €20.7 borrowed in Euros, to take into consideration the value of the European assets acquired in the FHS acquisition. The amendment to the Senior Credit Facilities provides for interest on Term Loan D borrowings at a rate equal to an applicable margin plus a base rate established by reference to alternative market-based rates and amends the interest rates previously applicable to Term Loan B and Term Loan C borrowings to equal those applicable to Term Loan D borrowings. The amendment also includes modifications to certain covenants under the Senior Credit Facilities.
The Senior Credit Facilities contain a number of covenants that, among other things, restrict, subject to certain exceptions, our ability, and the ability of our subsidiaries, to sell assets; incur additional indebtedness or issue preferred stock; repay other indebtedness (including the notes); pay certain dividends and distributions or repurchase our capital stock; create liens on assets; make investments, loans, or advances; make certain acquisitions; engage in mergers or consolidations; enter into sale and leaseback transactions; engage in certain transactions with affiliates; amend certain material agreements governing our indebtedness, including the exchange notes; and change the business conducted by us and our subsidiaries. In addition, the senior credit facilities contain the following financial covenants: a maximum total leverage ratio; a minimum interest coverage ratio; and a maximum capital expenditures limitation.
Senior Notes and Senior Subordinated Notes
Our outstanding 7% Senior Notes due 2012 (the ‘‘Senior Notes’’) were issued under an Indenture, dated December 23, 2004 (the ‘‘Senior Indenture’’). Our 8 3/8% Senior Subordinated Notes (the ‘‘Senior Subordinated Notes’’) were also issued under an Indenture, dated December 23, 2004 (the ‘‘Subordinated Indenture’’ and, together with the Senior Indenture, the ‘‘Indentures’’).
Interest on the Senior Notes accrues at the rate of 7% per annum and is payable semiannually in arrears on June 15 and December 15, commencing on June 15, 2005. The Company makes each interest payment to the holders of record of the Senior Notes on the immediately preceding June 1 and December 1.
Interest on the Senior Subordinated Notes accrues at the rate of 8 3/8% per annum and is payable semiannually in arrears on June 15 and December 15, commencing on June 15, 2005. The Company makes each interest payment to the holders of record of the Senior Subordinated Notes on the immediately preceding June 1 and December 1.
The indebtedness evidenced by the Senior Notes (a) is unsecured senior Indebtedness of the Company, (b) ranks pari passu in right of payment with all existing and future senior Indebtedness of the Company, and (c) is senior in right of payment to all existing and future Subordinated Obligations (as used in respect of the Senior Notes) of the Company. The Senior Notes are also effectively subordinated to all secured Indebtedness and other liabilities (including trade payables) of the Company to the extent of the value of the assets securing such Indebtedness, and to all Indebtedness of its Subsidiaries (other than the Subsidiary Guarantors).
The Indebtedness evidenced by the Senior Subordinated Notes is unsecured Senior Subordinated Indebtedness of the Company, is subordinated in right of payment, as set forth in the Subordinated Indenture, to the prior payment in full in cash or Temporary Cash Investments when due of all existing and future Senior Indebtedness of the Company, including the Company's Obligations under
the Senior Notes and the Credit Agreement, ranks pari passu in right of payment with all existing and future Senior Subordinated Indebtedness of the Company, and is senior in right of payment to all existing and future Subordinated Obligations (as used in respect of the Senior Subordinated Notes) of the Company. The Senior Subordinated Notes are also effectively subordinated to any secured Indebtedness of the Company to the extent of the value of the assets securing such Indebtedness, and to all Indebtedness and other liabilities (including trade payables) of the Company's Subsidiaries (other than the Subsidiary Guarantors).
Under each Indenture, upon the occurrence of any ‘‘change of control’’ (as defined in each Indenture), unless the Company has exercised its right to redeem all of the outstanding Notes, each holder of Notes of the applicable series shall have the right to require that the Company repurchase such Noteholder's Notes of such series at a purchase price in cash equal to 101% of the principal amount thereof on the date of purchase plus accrued and unpaid interest, if any, to the date of purchase (subject to the right of the applicable Noteholders of record on the relevant record date to receive interest due on the relevant interest payment date). The change of control purchase feature of the Notes may in certain circumstances make more difficult or discourage a sale or takeover of the Company and, thus, the removal of incumbent management.
The Credit Agreement provides that the occurrence of certain change of control events with respect to us would constitute a default thereunder. Under the Credit Agreement, as amended, the Company may purchase Senior Notes or Senior Subordinated Notes on the open market, subject to certain limitations. The Company, its directors, officers, employees or affiliates may, from time-to-time, purchase or sell Senior Notes or Senior Subordinated Notes on the open market.
The Indentures governing the Senior Notes and Senior Subordinated Notes limit our (and most or all of our subsidiaries') ability to:
|•||incur additional indebtedness;|
|•||pay dividends on or make other distributions or repurchase our capital stock;|
|•||make certain investments;|
|•||enter into certain types of transactions with affiliates;|
|•||use assets as security in other transactions; and|
|•||sell certain assets or merge with or into other companies.|
Subject to certain exceptions, the indentures governing the Senior Notes and Senior Subordinated Notes permit us and our restricted subsidiaries to incur additional indebtedness, including secured indebtedness.
Our compliance with certain of the covenants contained in the indentures governing the Notes and in our senior credit agreement is determined based on financial ratios that are derived using our reported EBITDA, as adjusted for unusual items and certain other contingencies described in those agreements. The breach of such covenants in our senior credit agreement could result in a default under that agreement and the lenders could elect to declare all amounts borrowed due and payable. Any such acceleration would also result in a default under our indentures. Additionally, under our debt agreements, our ability to engage in activities such as incurring additional indebtedness, making investments and paying dividends is also tied to similar financial ratios. We refer to EBITDA as adjusted under the indentures as Indentures EBITDA and EBITDA as adjusted under the credit agreement as Consolidated EBITDA.
We believe that the inclusion of supplementary adjustments to EBITDA applied in presenting Indentures EBITDA are appropriate to provide additional information to investors to demonstrate compliance with our financing covenants. However, EBITDA and Indentures EBITDA are not recognized terms under GAAP and do not purport to be alternatives to net income as a measure of operating performance. Additionally, EBITDA and Indentures EBITDA are not intended to be measures of free cash flow for management's discretionary use, as they do not consider certain cash requirements such as interest payments, tax payments, and debt service requirements. Because not all
companies use identical calculations, these presentations of EBITDA and Indentures EBITDA may not be comparable to similarly titled measures of other companies.
While the adjustments to EBITDA in determining covenant compliance under the credit agreement are generally similar to those made under the indentures, the credit agreement provides that the Consolidated EBITDA used in the covenant calculations are $52.6 million, $56.0 million, $38.4 million, and $53.4 million for the fiscal quarters ended March 31, June 30, September 30 and December 31, 2005, respectively, which totals $200.4 million.
The following table reconciles net income to EBITDA and pro forma Indenture EBITDA under the credit agreement (dollars in millions):
|(1)||Predecessor restructuring charges related to severance and asset impairments primarily related to facility closures for facilities retained by Cooper Tire and any liabilities associated with those facilities.|
|(2)||Costs related to closed facilities retained by Cooper Tire.|
|(3)||Non-recurring costs from the movement of Cleveland facility OEM production to other facilities.|
|(4)||Unrealized foreign exchange gain on Acquisition-related indebtedness.|
|(5)||Amortized pension losses eliminated in 2005 as the result of purchase accounting.|
|(6)||A one-time write-up of inventory to fair value at the date of Acquisition.|
|(7)||Purchase accounting adjustment related to tooling projects at the date of Acquisition.|
|(8)||Non-recurring payment of bonuses ($1.0 million) and stock grants ($1.2 million) and non-recurring purchase and acquisition costs of professional fees ($0.4 million) in connection with the Acquisition.|
|(9)||Amount by which corporate expenses of Cooper Tire allocated to us on a historical basis exceeded our estimate of costs to operate on a stand-alone basis. This adjustment would not apply to our calculation of Indentures EBITDA.|
|(10)||The Company's share of earnings in one of its joint ventures less cash dividends received from the joint venture.|
|(11)||Fees related to review of (since terminated) transaction.|
Our covenant levels and ratios for the four quarters ended December 31, 2005 are as follows:
In addition, under the terms of our credit agreement, we are required to repay a portion of our credit facilities by a certain percentage, based on our leverages, of our Excess Cash Flow. As of December 31, 2005, we are not obligated under our credit agreement to repay a portion of our credit facilities.
Historically we have not generally experienced difficulties in collecting our accounts receivable because most of our customers are large, well-capitalized automobile manufacturers. We believe that we currently have a strong working capital position. As of December 31, 2005, we have net cash of $62.2 million. Our additional borrowing capacity through use of our senior credit facilities with our bank group and other bank lines is $109 million (after giving effect to $16 million of outstanding letters of credit).
Available cash and contractual commitments
The following table summarizes our contractual cash obligations at December 31, 2005. Our contractual cash obligations consist of legal commitments requiring us to make fixed or determinable cash payments, regardless of the contractual requirements of the vendor to provide future goods or services. Except as disclosed, this table does not include information on our recurring purchase of materials for use in production, as our raw materials purchase contracts typically do not meet this definition because they do not require fixed or minimum quantities.