Form 10-Q
Table of Contents

 

 

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

For the quarter ended September 30, 2011

Commission file number 1-13905

 

 

COMPX INTERNATIONAL INC.

(Exact name of Registrant as specified in its charter)

 

 

 

Delaware    57-0981653

(State or other jurisdiction of

Incorporation or organization)

  

(IRS Employer

Identification No.)

5430 LBJ Freeway, Suite 1700,

Three Lincoln Centre, Dallas, Texas

   75240-2697
(Address of principal executive offices)    (Zip Code)

Registrant’s telephone number, including area code (972) 448-1400

 

 

Indicate by checkmark:

Whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such a shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company (as defined in Rule 12b-2 of the Exchange Act).

 

Large accelerated filer   ¨    Accelerated filer   ¨
Non-accelerated filer   x    Smaller reporting company   ¨

Whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).     Yes   ¨     No   x.

Number of shares of common stock outstanding on October 28, 2011:

 

Class A:

     2,386,107   

Class B:

     10,000,000   

 

 

 


Table of Contents

COMPX INTERNATIONAL INC.

Index

 

         Page  
Part I.  

FINANCIAL INFORMATION

  
Item 1.  

Financial Statements

  
 

Condensed Consolidated Balance Sheets –
December 31, 2010 and September 30, 2011 (unaudited)

     3   
 

Condensed Consolidated Statements of Operations –
Three and nine months ended September 30, 2010 and 2011 (unaudited)

     5   
 

Condensed Consolidated Statements of Cash Flows –
Nine months ended September 30, 2010 and 2011 (unaudited)

     6   
 

Condensed Consolidated Statement of Stockholders’ Equity and Comprehensive Income –
Nine months ended September 30, 2011 (unaudited)

     7   
 

Notes to Condensed Consolidated Financial Statements (unaudited)

     8   
Item 2.  

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     15   
Item 3.  

Quantitative and Qualitative Disclosure About Market Risk

     26   
Item 4.  

Controls and Procedures

     26   
Part II.  

OTHER INFORMATION

  
Item 1.  

Legal Proceedings

     27   
Item 1A.  

Risk Factors

     27   
Item 6.  

Exhibits

     28   
Items 2, 3, 4 and 5 of Part II are omitted because there is no information to report.   

 

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COMPX INTERNATIONAL INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands)

 

      December 31,
2010
     September 30,
2011
 
            (unaudited)  

ASSETS

     

Current assets:

     

Cash and cash equivalents

   $ 13,919       $ 8,533   

Accounts receivable, net

     14,601         16,625   

Inventories, net

     18,424         19,982   

Prepaid and other

     1,050         1,287   

Deferred income taxes

     2,366         2,352   

Promissory note receivable

     15,000         15,000   
  

 

 

    

 

 

 

Total current assets

     65,360         63,779   
  

 

 

    

 

 

 

Other assets:

     

Goodwill

     31,452         34,026   

Other intangible assets

     840         2,279   

Assets held for sale

     2,415         6,661   

Other assets

     102         94   
  

 

 

    

 

 

 

Total other assets

     34,809         43,060   
  

 

 

    

 

 

 

Property and equipment:

     

Land

     12,646         11,242   

Buildings

     39,934         32,148   

Equipment

     123,725         123,292   

Construction in progress

     965         1,122   
  

 

 

    

 

 

 
     177,270         167,804   

Less accumulated depreciation

     117,367         116,709   
  

 

 

    

 

 

 

Net property and equipment

     59,903         51,095   
  

 

 

    

 

 

 

Total assets

   $ 160,072       $ 157,934   
  

 

 

    

 

 

 

 

 

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COMPX INTERNATIONAL INC.

CONDENSED CONSOLIDATED BALANCE SHEETS (CONTINUED)

(In thousands)

 

      December 31,
2010
     September 30,
2011
 
            (unaudited)  

LIABILITIES AND STOCKHOLDERS’ EQUITY

     

Current liabilities:

     

Current maturities of long-term debt

   $ 1,000       $ 5,842   

Accounts payable and accrued liabilities

     16,182         14,896   

Interest payable to affiliate

     876         3   

Income taxes payable to affiliate

     1,087         1,174   

Income taxes

     907         1,436   
  

 

 

    

 

 

 

Total current liabilities

     20,052         23,351   
  

 

 

    

 

 

 

Noncurrent liabilities:

     

Long-term debt

     44,230         36,480   

Deferred income taxes

     11,889         12,834   

Other noncurrent liabilities

     6         775   
  

 

 

    

 

 

 

Total noncurrent liabilities

     56,125         50,089   
  

 

 

    

 

 

 

Stockholders’ equity:

     

Preferred stock

     —           —     

Class A common stock

     24         24   

Class B common stock

     100         100   

Additional paid-in capital

     54,982         55,153   

Retained earnings

     16,486         18,551   

Accumulated other comprehensive income

     12,303         10,666   
  

 

 

    

 

 

 

Total stockholders’ equity

     83,895         84,494   
  

 

 

    

 

 

 

Total liabilities and stockholders’ equity

   $ 160,072       $ 157,934   
  

 

 

    

 

 

 

Commitments and contingencies (Note 9)

See accompanying Notes to Condensed Consolidated Financial Statements.

 

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COMPX INTERNATIONAL INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

 

     Three months ended
September 30,
    Nine months ended
September 30,
 
     2010     2011     2010     2011  
     (unaudited)  

Net sales

   $ 35,740      $ 35,736      $ 102,924      $ 105,755   

Cost of goods sold

     26,042        27,202        75,272        78,704   
  

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

     9,698        8,534        27,652        27,051   

Selling, general and administrative expense

     5,901        5,745        17,239        17,807   

Other operating income (expense):

        

Assets held for sale write-down

     (500     (1,135     (500     (1,135

Litigation settlement gain

     —          —          —          7,468   

Litigation expense

     (158     —          (2,100     (227

Facility consolidation costs

     —          (175     —          (1,973
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

     3,139        1,479        7,813        13,377   

Other non-operating income, net

     119        127        221        385   

Interest expense

     (263     (218     (683     (617
  

 

 

   

 

 

   

 

 

   

 

 

 

Income before income taxes

     2,995        1,388        7,351        13,145   

Provision for income taxes

     1,325        302        4,924        6,437   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income

   $ 1,670      $ 1,086      $ 2,427      $ 6,708   
  

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted income per common share

   $ .13      $ .09      $ .20      $ .54   
  

 

 

   

 

 

   

 

 

   

 

 

 

Cash dividends per share

   $ .125      $ .125      $ .375      $ .375   
  

 

 

   

 

 

   

 

 

   

 

 

 

Shares used in the calculation of basic and diluted income per share

     12,375        12,386        12,373        12,381   
  

 

 

   

 

 

   

 

 

   

 

 

 

See accompanying Notes to Condensed Consolidated Financial Statements.

 

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COMPX INTERNATIONAL INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 

     Nine months ended
September 30,
 
     2010     2011  
     (unaudited)  

Cash flows from operating activities:

    

Net income

   $ 2,427      $ 6,708   

Depreciation and amortization

     5,871        5,259   

Assets held for sale write-down

     500        1,135   

Deferred income taxes

     (421     885   

Other, net

     560        488   

Change in assets and liabilities (net of effect of acquisition):

    

Accounts receivable, net

     (5,784     (1,886

Inventories, net

     (2,144     (872

Accounts payable and accrued liabilities

     270        (3,176

Accounts with affiliates

     3,090        141   

Income taxes

     2,360        585   

Other, net

     (910     (950
  

 

 

   

 

 

 

Net cash provided by operating activities

     5,819        8,317   
  

 

 

   

 

 

 

Cash flows from investing activities:

    

Capital expenditures

     (1,472     (1,772

Acquisition, net of cash acquired

     —          (4,903

Note receivable from affiliate:

    

Advances

     (9,000     —     

Collections

     9,000        —     

Purchase of promissory note receivable

     (15,000     —     

Proceeds from sale of fixed assets

     —          151   
  

 

 

   

 

 

 

Net cash used in investing activities

     (16,472     (6,524
  

 

 

   

 

 

 

Cash flows from financing activities:

    

Borrowing under long-term debt

     5,000        5,294   

Repayment of long-term debt

     —          (3,006

Repayment of loan from affiliate

     —          (4,750

Dividends paid

     (4,640     (4,643

Other, net

     (28     171   
  

 

 

   

 

 

 

Net cash provided by (used in) financing activities

     332        (6,934
  

 

 

   

 

 

 

Cash and cash equivalents – net change from:

    

Operating, investing and financing activities

     (10,321     (5,141

Currency translation

     185        (245

Cash and cash equivalents at beginning of period

     20,788        13,919   
  

 

 

   

 

 

 

Cash and cash equivalents at end of period

   $ 10,652      $ 8,533   
  

 

 

   

 

 

 

Supplemental disclosures – cash paid (received) for:

    

Interest

   $ 194      $ 1,402   

Income taxes paid, net

     (98     4,850   

Non-cash investing and financing activity – Accrual for capital expenditures

   $ 54      $ 320   

See accompanying Notes to Condensed Consolidated Financial Statements.

 

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COMPX INTERNATIONAL INC.

CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY AND COMPREHENSIVE INCOME

Nine months ended September 30, 2011

(In thousands)

(unaudited)

 

     Common Stock      Additional            Accumulated other
comprehensive income
    Total        
            paid-in      Retained     Currency     Hedging     stockholders’     Comprehensive  
     Class A      Class B      capital      earnings     translation     derivatives     equity     income  

Balance at December 31, 2010

   $ 24       $ 100       $ 54,982       $ 16,486      $ 12,303      $ —        $ 83,895     

Net income

     —           —           —           6,708        —          —          6,708      $ 6,708  

Other comprehensive loss, net

     —           —           —           —          (997     (640     (1,637     (1,637

Issuance of common stock

     —           —           171         —          —          —          171        —     

Cash dividends

     —           —           —           (4,643     —          —          (4,643     —     
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance at September 30, 2011

   $ 24       $ 100       $ 55,153       $ 18,551      $ 11,306      $ (640   $ 84,494     
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

   

Comprehensive income

                    $ 5,071   
                   

 

 

 

See accompanying Notes to Condensed Consolidated Financial Statements.

 

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COMPX INTERNATIONAL INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2011

(unaudited)

Note 1 – Organization and basis of presentation:

Organization. We (AMEX: CIX) are 87% owned by NL Industries, Inc. (NYSE: NL) at September 30, 2011. We manufacture and sell component products (security products, precision ball bearing slides, ergonomic computer support systems, and performance marine components). At September 30, 2011, (i) Valhi, Inc. (NYSE: VHI) held approximately 83% of NL’s outstanding common stock and (ii) subsidiaries of Contran Corporation (“Contran”) held approximately 94% of Valhi’s outstanding common stock. Substantially all of Contran’s outstanding voting stock is held by trusts established for the benefit of certain children and grandchildren of Harold C. Simmons (of which Mr. Simmons is sole trustee), or is held directly by Mr. Simmons or other persons or companies related to Mr. Simmons. Consequently, Mr. Simmons may be deemed to control each of the companies and us.

Basis of presentation. Consolidated in this Quarterly Report are the results of CompX International Inc. and its subsidiaries. The unaudited Condensed Consolidated Financial Statements contained in this Quarterly Report have been prepared on the same basis as the audited Consolidated Financial Statements included in our Annual Report on Form 10-K for the year ended December 31, 2010 that we filed with the Securities and Exchange Commission (“SEC”) on March 2, 2011 (the “2010 Annual Report”). In our opinion, we have made all necessary adjustments (which include only normal recurring adjustments) in order to state fairly, in all material respects, our consolidated financial position, results of operations and cash flows as of the dates and for the periods presented. We have condensed the Consolidated Balance Sheet at December 31, 2010 contained in this Quarterly Report as compared to our audited Consolidated Financial Statements at that date, and we have omitted certain information and footnote disclosures (including those related to the Consolidated Balance Sheet at December 31, 2010) normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). Our results of operations for the interim periods ended September 30, 2011 may not be indicative of our operating results for the full year. The Condensed Consolidated Financial Statements contained in this Quarterly Report should be read in conjunction with our 2010 Consolidated Financial Statements contained in our 2010 Annual Report.

Unless otherwise indicated, references in this report to “we”, “us” or “our” refer to CompX International Inc. and its subsidiaries, taken as a whole.

 

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Note 2 – Business segment information:

 

     Three months ended
September 30,
    Nine months ended
September 30,
 
     2010     2011     2010     2011  
     (In thousands)  

Net sales:

        

Security Products

   $ 17,723      $ 18,077      $ 51,740      $ 54,261   

Furniture Components

     16,119        15,588        44,504        44,630   

Marine Components

     1,898        2,071        6,680        6,864   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total net sales

   $ 35,740      $ 35,736      $ 102,924      $ 105,755   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating income:

        

Security Products

   $ 3,680      $ 3,550      $ 10,261      $ 10,911   

Furniture Components *

     1,630        711        2,715        8,351   

Marine Components

     (393     (252     (840     (664

Corporate operating expense **

     (1,778     (2,530     (4,323     (5,221
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating income

     3,139        1,479        7,813        13,377   

Other non-operating income, net

     119        127        221        385   

Interest expense

     (263     (218     (683     (617
  

 

 

   

 

 

   

 

 

   

 

 

 

Income before income taxes

   $ 2,995      $ 1,388      $ 7,351      $ 13,145   
  

 

 

   

 

 

   

 

 

   

 

 

 

Intersegment sales are not material.

 

*   Furniture Components operating income includes the following:

 

   

a patent litigation settlement gain of $7.5 million in the first quarter of 2011 discussed in Note 9;

 

   

facility consolidation costs of approximately $175,000 and $2.0 million for the third quarter and first nine months of 2011, respectively, as discussed in Note 7; and

 

   

patent litigation expenses of $158,000 and $2.1 million in the third quarter and first nine months of 2010 compared to nil and $227,000 in the same comparative periods for 2011.

 

**   Corporate operating expenses include a write-down on assets held for sale of approximately $500,000 in the third quarter and first nine months of 2010 compared to a $1.1 million write-down on assets held for sale in the same comparative periods for 2011. See Note 7.

On July 29, 2011, we completed the acquisition of 100% of the stock of a Canadian ergonomic component products company for initial cash consideration of the equivalent of approximately $4.9 million, net of approximately $3,000 of cash acquired, with potential additional cash consideration ranging from nil to approximately $1.5 million payable in the first quarter of 2013, contingent upon the acquired business achieving certain acquired product line sales targets during 2012. The estimated fair value of the contingent consideration recognized at the date of acquisition was $761,000. The acquisition is intended to expand our Furniture Components ergonomics product line. We have included the results of operations and cash flows of the acquired business in our Condensed Consolidated Financial Statements subsequent to the acquisition date. The purchase price has been preliminarily allocated among net assets acquired (pending completion of the final valuation), consisting of (i) net working capital (receivable, inventory and payables) of $950,000, (ii) identifiable intangibles other than goodwill of $2.0 million, (iii) goodwill of $3.0 million and (iv) deferred

 

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income tax liabilities of $450,000. The tangible and intangible net assets acquired (other than goodwill) were valued based upon a preliminary estimate of the fair value of such net assets, with the remainder of the purchase price allocated to goodwill. The business had net sales of $4.2 million in 2010 and the pro-forma effect to us, assuming this acquisition had been completed as of January 1, 2011, is not material.

Note 3 – Inventories, net:

 

     December 31,
2010
     September 30,
2011
 
     (In thousands)  

Raw materials:

     

Security Products

   $ 2,174       $ 2,463   

Furniture Components

     3,325         3,711   

Marine Components

     894         1,047   
  

 

 

    

 

 

 

Total raw materials

     6,393         7,221   
  

 

 

    

 

 

 

Work-in-process:

     

Security Products

     5,178         5,634   

Furniture Components

     1,068         1,031   

Marine Components

     434         440   
  

 

 

    

 

 

 

Total work-in-process

     6,680         7,105   
  

 

 

    

 

 

 

Finished goods:

     

Security Products

     1,720         1,676   

Furniture Components

     2,717         3,248   

Marine Components

     914         732   
  

 

 

    

 

 

 

Total finished goods

     5,351         5,656   
  

 

 

    

 

 

 

Total inventories, net

   $ 18,424       $ 19,982   
  

 

 

    

 

 

 

Note 4 – Accounts payable and accrued liabilities:

 

     December 31,
2010
     September 30,
2011
 
     (In thousands)  

Accounts payable

   $ 4,890       $ 4,409   

Accrued liabilities:

     

Employee benefits

     8,345         6,959   

Forward currency contracts

     —           713   

Taxes other than on income

     479         698   

Insurance

     641         427   

Customer tooling

     561         348   

Professional

     487         302   

Other

     779         1,040   
  

 

 

    

 

 

 

Total

   $ 16,182       $ 14,896   
  

 

 

    

 

 

 

 

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Note 5 – Long-term debt:

 

     December 31,
2010
     September 30,
2011
 
     (In thousands)  

Revolving bank credit facility

   $ 3,000       $ 4,842   

Promissory note payable to affiliate

     42,230         37,480   
  

 

 

    

 

 

 

Total debt

     45,230         42,322   

Less current maturities

     1,000         5,842   
  

 

 

    

 

 

 

Total long-term debt

   $ 44,230       $ 36,480   
  

 

 

    

 

 

 

In February 2011, we repaid all of the $3.0 million which was outstanding at December 31, 2010 on the revolving credit facility. In July 2011, we borrowed the equivalent of approximately $5.3 million under our revolving credit facility in connection with the acquisition discussed in Note 2 (such borrowing was denominated in Canadian dollars, as permitted by the terms of the credit facility). Of the current maturities, $4.8 million relates to our revolving bank credit facility and $1.0 million relates to our note payable to affiliate discussed below.

The promissory note payable to affiliate was amended in September 2009 resulting in the deferral of interest payments and postponement of quarterly principal payments on the promissory note until March 2011. As such, in March 2011 we paid our required quarterly principal payment of $250,000 and all accrued interest totaling approximately $1.0 million. In addition, we prepaid $4.0 million in principal on the promissory note. In the second and third quarters of 2011, we continued our regularly scheduled quarterly principal payment of $250,000 and related accrued interest for each quarter. The interest rate on the promissory note at September 30, 2011 was 1.2%.

In October 2011, we collected the $15.0 million principal amount due to us under our promissory note receivable, and subsequently made an additional $15.0 million prepayment on our promissory note payable to affiliate.

Note 6 – Provision for income taxes:

 

     Nine months ended
September 30,
 
     2010     2011  
     (In thousands)  

Expected tax expense, at the U.S. federal statutory income tax rate of 35%

   $ 2,573      $ 4,600   

Non–U.S. tax rates

     (358     (899

Incremental U.S. tax on earnings of non-U.S. subsidiaries

     2,864        2,694   

State income taxes and other, net

     (155     42   
  

 

 

   

 

 

 

Total income tax expense

   $ 4,924      $ 6,437   
  

 

 

   

 

 

 

In the first quarter of 2011, we recognized a $2.1 million provision for deferred income taxes related to the undistributed earnings of our Canadian subsidiary attributable to the $7.5 million patent litigation settlement gain discussed in Note 9.

Under GAAP, we are required to recognize a deferred income tax liability with respect to the incremental U.S. (federal and state) and foreign withholding taxes that would be incurred when undistributed earnings of a foreign subsidiary are subsequently repatriated, unless management has

 

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determined that those undistributed earnings are permanently reinvested for the foreseeable future. Prior to March 31, 2010, we had not recognized a deferred income tax liability related to incremental income taxes on the pre-2005 undistributed earnings of our Taiwanese subsidiary, as those earnings were deemed to be permanently reinvested. We are required to reassess the permanent reinvestment conclusion on an ongoing basis to determine if our intentions have changed. At the end of March 2010, and based primarily upon changes in our cash management plans, we determined that all of the undistributed earnings of our Taiwanese subsidiary can no longer be considered to be permanently reinvested in Taiwan. Accordingly, in the first quarter of 2010 we recognized an aggregate $1.9 million provision for deferred income taxes on the pre-2005 undistributed earnings of our Taiwanese subsidiary. Consequently, all of the undistributed earnings of our non-U.S. operations are now considered to be not permanently reinvested.

Note 7 – Facility consolidation costs:

In November 2010, management approved a restructuring plan for our Furniture Components segment to move precision slide production from our Byron Center, Michigan facility to our other precision slide manufacturing facilities in Kitchener, Ontario and Taipei, Taiwan. The move, which was substantially completed in April 2011, reduced the facilities where we produce precision slides from three to two and is expected to enhance the operating efficiency of our precision slide production capacity. As of September 30, 2011, approximately $191,000 of severance costs and approximately $2.0 million of machinery and equipment relocation costs from the Byron Center facility to the Kitchener facility had been expensed, mostly in the first six months of 2011. No additional severance and equipment relocation costs are expected to be incurred subsequent to September 30, 2011.

At the time management approved the Furniture Components restructuring discussed above in November 2010, we intended to continue to utilize the Byron Center facility for light assembly and warehousing of product to service our U.S. customers. After operating the facility from the first quarter of 2011 to the latter part of the third quarter of 2011, we determined that continued use of the Byron Center facility for warehousing and light assembly was no longer necessary to serve our U.S. customers. Accordingly, in September 2011 management made the decision to sell the facility, at which time such facility met all of the criteria under GAAP to be classified as an “asset held for sale.” In classifying the facility (land and building) as held for sale, we concluded that the carrying amount of the assets exceeded the estimated fair value less costs to sell such assets. In determining the estimated fair value of such assets, we obtained an independent appraisal. Based on this appraisal, we recognized a write-down of $910,000 during the third quarter of 2011 to reduce the carrying value of the asset to its estimated fair value less cost to sell.

At September 30, 2011 our assets held for sale consisted of the Byron Center facility discussed above and two additional properties (primarily land, building and building improvements) formerly used in our operations. These assets were classified as “assets held for sale” when they ceased to be used in our operations and met all of the applicable criteria under GAAP. During the third quarter of 2011 due to continued negative local market conditions, we obtained an updated independent appraisal for the River Grove facility, the most significant of these two properties. Based on this appraisal, we recognized an additional write-down of $225,000 during the third quarter of 2011 to reduce the carrying value of that asset to its estimated fair value less cost to sell.

 

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These write-downs totaled $1.1 million in the third quarter of 2011 and are included in corporate operating expense. The appraisals represent a Level 2 input as defined by ASC 820-10-35. The carrying value of the remaining property is not significant. All three properties are being actively marketed; however, due to the current state of the commercial real estate market, we can not be certain of the timing of the disposition of these assets.

Note 8 – Financial instruments:

The following table presents the financial instruments that are not carried at fair value but which require fair value disclosure:

 

     December 31,
2010
     September 30,
2011
 
     Carrying
amount
     Fair
value
     Carrying
amount
     Fair
value
 
     (In thousands)  

Cash and cash equivalents

   $ 13,919       $ 13,919       $ 8,533       $ 8,533   

Accounts receivable, net

     14,601         14,601         16,625         16,625   

Promissory note receivable

     15,000         15,000         15,000         15,000   

Accounts payable

     4,890         4,890         4,409         4,409   

Long-term debt (including current maturities)

     45,230         45,230         42,322         42,322   

Due to their near-term maturities, the carrying amounts of accounts receivable and accounts payable are considered equivalent to fair value. The fair values of our variable-rate promissory note receivable and long-term debt are deemed to approximate book value. The fair values of our promissory note receivable and long-term debt are Level 2 inputs as defined by ASC Topic 820-10-35.

We periodically use currency forward contracts to manage a portion of currency exchange rate market risk associated with receivables, or similar exchange rate risk associated with future sales, denominated in a currency other than the holder’s functional currency. We have not entered into these contracts for trading or speculative purposes in the past, nor do we anticipate entering into such contracts for trading or speculative purposes in the future. Most of our currency forward contracts meet the criteria for hedge accounting under GAAP and are designated as cash flow hedges. For these currency forward contracts, gains and losses representing the effective portion of our hedges are deferred as a component of accumulated other comprehensive income, and are subsequently recognized in earnings at the time the hedged item affects earnings. Occasionally, we enter into currency forward contracts which do not meet the criteria for hedge accounting. For these contracts, we mark-to-market the estimated fair value of the contracts at each balance sheet date based on quoted market prices for the forward contracts, with any resulting gain or loss recognized in income currently as part of net currency transactions. The quoted market prices for the forward contracts are a Level 1 input as defined by ASC Topic 820-10-35.

At September 30, 2011, we held a series of contracts to exchange an aggregate of U.S. $22.4 million for an equivalent value of Canadian dollars at exchange rates ranging from Cdn. $1.03 to Cdn. $0.99 per U.S. dollar. These contracts qualified for hedge accounting and mature through December 2012. The exchange rate was $1.03 per U.S. dollar at September 30, 2011. The estimated fair value of the contracts was a liability of approximately $713,000 at September 30, 2011. We had no currency forward contracts outstanding at December 31, 2010.

 

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Note 9 – Commitments and contingencies:

Legal proceedings. Prior to March 9, 2011, we were involved in certain patent litigation with a competitor, and in March 2011, we entered into a confidential settlement agreement with the competitor. Under the terms of the agreement, the competitor paid our Canadian subsidiary approximately $7.5 million in cash (which is recognized as a litigation settlement gain in the first quarter of 2011), and we each agreed to cross-license certain patents and to withdraw certain legal proceedings against the other party.

We are involved, from time to time, in various contractual, product liability, patent (or intellectual property), employment and other claims and disputes incidental to our business. We currently believe the disposition of all claims and disputes, individually or in the aggregate, should not have a material long-term adverse effect on our consolidated financial condition, results of operations or liquidity.

Note 10 – Recent Accounting Pronouncements:

In May 2011 the Financial Accounting Standards Board issued Accounting Standards Update (“ASU”) 2011-04, Amendments to Achieve Common Fair Value Measurements and Disclosure Requirements in U.S. GAAP and IFRSs. ASU 2011-04 contains technical adjustments and clarifications to more closely align the U.S. GAAP and International Financials Reporting Standards (“IFRS”) for fair value and will be effective for our first quarter 2012 report. We do not believe the adoption of this standard will have a material affect on our Condensed Consolidated Financial Statements.

In June 2011 the FASB issued ASU 2011-05, Presentation of Comprehensive Income. ASU 2011-05 will eliminate the option of presenting comprehensive income as a component of the Consolidated Statement of Stockholders’ Equity and will instead require comprehensive income be presented as a component of the Consolidated Statement of Income or as a separate statement immediately following the Consolidated Statement of Income. Additionally, ASU 2011-05 will require us to present on the face of our financial statements reclassification adjustments for items that are reclassified from other comprehensive income to net income where the components of net income and other comprehensive income are presented. This standard will be effective for our first quarter 2012 report. Upon adoption of ASU 2011-05, we intend to present our comprehensive income in a separate Consolidated Statement of Comprehensive Income.

In September of 2011 the FASB issued ASU 2011-08 Testing Goodwill for Impairment (the revised standard). ASU 2011-08 provides the option to first assess qualitatively whether events or circumstances exist to indicate a goodwill impairment may be present to determine whether further impairment testing is necessary. This standard will be effective for annual and interim goodwill testing beginning with our first quarter 2012 report, although early adoption is permitted. We do not believe the adoption of this standard will have a material affect on our Condensed Consolidated Financial Statements and we did not avail ourselves of the qualitative goodwill impairment assessment as part of our 2011 annual goodwill impairment analysis conducted during the third quarter.

 

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ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Overview

We are a leading manufacturer of engineered components utilized in a variety of applications and industries. Through our Security Products Segment we manufacture mechanical and electronic cabinet locks and other locking mechanisms used in postal, office and institutional furniture, transportation, vending, tool storage and general cabinetry applications. Our Furniture Components Segment manufactures precision ball bearing slides and ergonomic computer support systems used in office and institutional furniture, home appliances, tool storage and a variety of other applications. We also manufacture stainless steel exhaust systems, gauges and electronic and mechanical throttle controls for the performance boat industry through our Marine Components Segment.

We reported operating income of $1.5 million in the third quarter of 2011 compared to $3.1 million in the same period of 2010. We reported operating income of $13.4 million for the nine-month period ended September 30, 2011 compared to $7.8 million for the comparable period in 2010. Our operating income decreased in the third quarter of 2011 primarily due to a less favorable product sales mix and higher raw material costs in 2011 compared to 2010 and the negative impact of a write-down on assets held for sale of $1.1 million in the third quarter of 2011 as compared to a write-down on assets held for sale of $500,000 in the third quarter of 2010.

Our operating income increased for the nine-month period in 2011 primarily due to the net effects of:

 

   

The positive impact of a litigation settlement gain recorded in the first quarter of 2011 as well as the positive impact of lower litigation expense in 2011;

 

   

The positive impact of higher sales in the first six months of 2011 from an increase in customer order rates primarily in Security Products due to improved economic conditions in North America;

 

   

The negative impact in 2011 of relocation costs and production inefficiencies related to the consolidation of our precision slides facilities;

 

   

The negative impact on margins in 2011 from higher raw material costs;

 

   

The negative impact of write-downs on assets held for sale, as discussed above; and

 

   

The negative impact of relative changes in foreign currency exchange rates in 2011.

 

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Results of Operations

 

     Three months ended
September 30,
 
     2010      %     2011      %  
     (Dollars in thousands)  

Net sales

   $ 35,740         100   $ 35,736         100

Cost of goods sold

     26,042         73        27,202         76   
  

 

 

    

 

 

   

 

 

    

 

 

 

Gross profit

     9,698         27        8,534         24   

Operating costs and expenses

     5,901         17        5,745         16   

Assets held for sale write-down

     500         1        1,135         3   

Litigation expense

     158         —          —           —     

Facility consolidation costs

     —           —          175         —     
  

 

 

    

 

 

   

 

 

    

 

 

 

Operating income

   $ 3,139         9   $ 1,479         4
  

 

 

    

 

 

   

 

 

    

 

 

 

 

     Nine months ended
September 30,
 
     2010      %     2011     %  
     (Dollars in thousands)  

Net sales

   $ 102,924         100   $ 105,755        100

Cost of goods sold

     75,272         73        78,704        74   
  

 

 

    

 

 

   

 

 

   

 

 

 

Gross profit

     27,652         27        27,051        26   

Operating costs and expenses

     17,239         17        17,807        17   

Litigation settlement gain

     —           —          (7,468 )     (7

Litigation expense

     2,100         2        227        —     

Assets held for sale write-down

     500         —          1,135        1   

Facility consolidation costs

     —           —          1,973        2   
  

 

 

    

 

 

   

 

 

   

 

 

 

Operating income

   $ 7,813         8   $ 13,377        13
  

 

 

    

 

 

   

 

 

   

 

 

 

Net sales. Net sales in the third quarter of 2011 were comparable to the third quarter of 2010, and increased 3% in the first nine months of 2011 as compared to the same periods of 2010. Net sales increased in the nine month period due to an increase in order rates from many of our customers during the first half of 2011 resulting from improving economic conditions in North America. Sales related to the July 2011 acquisition of an ergonomics component products business were not significant to the third quarter and nine-month periods of 2011. See Notes 2 and 5 to our Condensed Consolidated Financial Statements. For the nine-month period comparison, our Security Products, Furniture Components and Marine Components Segments accounted for approximately 89%, 4% and 7%, respectively, of the total increase in sales. Security Products sales represented the largest percentage of the total increase in sales due to stronger sales to customers in the transportation market.

Cost of goods sold and gross profit. Cost of goods sold as a percentage of sales increased by 3% and 1% in the third quarter and in the first nine months of 2011 compared to the same periods in 2010 resulting in a decrease in gross profit and related margin.

Both the quarter and nine-month period comparisons were negatively impacted by higher raw material costs and the relative changes in currency exchange rates. Additionally, the nine-month period was partially offset by the positive impact of increased leverage of fixed costs from higher sales.

 

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Operating costs and expenses. Operating costs and expenses consist primarily of sales and administrative related personnel costs, sales commissions and marketing expenses, as well as gains and losses on plant, property and equipment and currency transaction gains and losses. As a percentage of net sales, operating costs and expenses were comparable for the third quarter and the nine-month period of 2011 in relation to the same periods in 2010.

Litigation. The litigation settlement gain recorded in the first quarter 2011 of approximately $7.5 million is discussed in Note 9 to the Condensed Consolidated Financial Statements. Additionally, as a result of the settlement, legal expenses decreased approximately $158,000 and $1.9 million for the third quarter and first nine-month period of 2011 compared to the same periods of 2010.

Facility consolidation costs. Our Furniture Components segment recorded approximately $175,000 and $2.0 million in relocation costs for the third quarter and for the nine-month period, respectively, as a result of consolidating two of our precision slides facilities. See Note 7 to our Condensed Consolidation Financial Statements.

Assets held for sale write-down. During the third quarter of 2011, we recorded a write-down on assets held for sale totaling $1.1 million which is included in corporate operating expense. See Note 7 to the Condensed Consolidated Financial Statements. During the third quarter of 2010, we recorded a write down on assets held for sale of $500,000.

Operating income. Operating income decreased to $1.5 million for the third quarter of 2011 compared to $3.1 million for the third quarter of 2010 and improved to $13.4 million for the first nine months of 2011 compared to $7.8 million for the same period in 2010. Operating income for the third quarter decreased primarily due to the negative impact of higher raw material costs, a less favorable product sales mix and a $1.1 million write-down on assets held for sale in the third quarter of 2011 as compared to a $500,000 write-down on assets held for sale in the third quarter of 2010.

Operating income for the nine month comparative period improved primarily due to the positive impact of the litigation settlement gain in 2011 and lower related litigation expense, partially offset by facility consolidation costs and related production inefficiencies, higher raw material costs, a $1.1 million write-down on assets held sale in the third quarter of 2011 as compared to a $500,000 write-down on assets held for sale in the third quarter of 2010 and relative changes in currency exchange rates.

Currency. Our Furniture Components Segment has substantial operations and assets which are all located outside the United States (in Canada and Taiwan). The majority of sales generated from our non-U.S. operations are denominated in the U.S. dollar, with the remainder denominated in foreign currencies, principally the Canadian dollar and the New Taiwan dollar. Most raw materials, labor and other production costs for our non-U.S. operations are denominated in local currencies. Consequently, the translated U.S. dollar values of our non-U.S. sales and operating results are subject to currency exchange rate fluctuations which may favorably or unfavorably impact reported earnings and may affect comparability of period-to-period operating results. In addition to the impact of the translation of sales and expenses over time, our non-U.S. operations also generate currency transaction gains and losses which primarily relate to the difference between the currency exchange rates in effect when non-local currency sales or operating costs are initially accrued and when such amounts are settled. Our Furniture Component segment’s net

 

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sales were positively impacted while its operating income was negatively impacted by currency exchange rates in the following amounts as compared to the impact of currency exchange rates during the corresponding periods in the prior year:

 

Three months ended September 30, 2011 vs. 2010 (in thousands)

 
     Transaction gains/(losses)     

Translation
gain/loss-

impact of rate

    Total currency
impact
 
     2010     2011      Change      changes     2011 vs. 2010  

Impact on:

            

Net Sales

   $ —          —           —           159        159   

Operating income

     (127     369         496         (644     (148

 

Nine months ended September 30, 2011 vs. 2010 (in thousands)

 
      Transaction
gains/(losses)
    

Translation
gain/loss-

impact of rate

    Total currency
impact
 
      2010     2011      Change      changes     2011 vs. 2010  

Impact on:

            

Net Sales

   $ —          —           —           491        491   

Operating income

     (60     412         472         (1,556     (1,084

The positive impact on sales relates to sales denominated in non-U.S. dollar currencies translated into higher U.S. dollar sales due to a strengthening of the local currency in relation to the U.S. dollar. The negative impact on operating income results from the U.S. dollar denominated sales of non-U.S. operations converted into lower local currency amounts due to the weakening of the U.S. dollar. This negatively impacted our gross margin as it results in less local currency generated from sales to cover the costs of non-U.S. operations which are denominated in local currency.

Provision for income taxes. A tabular reconciliation between our effective income tax rates and the U.S. federal statutory income tax rate of 35% is included in Note 6 to the Condensed Consolidated Financial Statements. Our income tax rates vary by jurisdiction (country and/or state), and relative changes in the geographic mix of our pre-tax earnings can result in fluctuations in the effective income tax rate. Generally, the effective tax rate on income derived from our U.S. operations, including the effect of U.S. state income taxes, is lower than the effective tax rate on income derived from our non-U.S. operations, in part due to the deferred tax on our foreign earnings that are not permanently reinvested and an election to not claim a credit with respect to foreign income taxes paid but instead to claim a tax deduction, consistent with the election made by Contran, the parent of our consolidated U.S. federal income tax group.

Our geographic mix of pre-tax earnings and the U.S. deferred tax related to our foreign earnings that are not permanently reinvested without offset by foreign tax credits where available are the primary reasons our effective income tax rate in 2010 and 2011 is higher than the 35% U.S. federal statutory income tax rate. In the first quarter of 2011, we recognized a $2.1 million provision for deferred income taxes related to the undistributed earnings of our Canadian subsidiary attributable to the $7.5 million patent litigation settlement gain. See Notes 6 and 9 to the Condensed Consolidated

 

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Financials Statements. Prior to the first quarter of 2010, we had not recognized a deferred tax liability related to incremental income taxes on the pre-2005 undistributed earnings of our Taiwanese subsidiary, as those earnings were deemed to be permanently reinvested. We are required to reassess the permanent reinvestment conclusion on an ongoing basis to determine if our intentions have changed. In the first quarter of 2010, and based primarily upon changes in our cash management plans, we determined that all of the undistributed earnings of our Taiwanese subsidiary can no longer be considered permanently reinvested in Taiwan. Accordingly, in the first quarter of 2010 we recognized an aggregate $1.9 million provision for deferred income taxes on the pre-2005 undistributed earnings of our Taiwanese subsidiary. Consequently, all of the undistributed earnings of our non-U.S. operations are now considered to be not permanently reinvested.

Segment Results

The key performance indicator for our segments is their operating income.

 

     Three months ended
September 30,
          Nine months ended
September 30,
       
     2010     2011     % Change     2010     2011     % Change  
     (Dollars in thousands)  

Net sales:

            

Security Products

   $ 17,723      $ 18,077        2   $ 51,740      $ 54,261        5

Furniture Components

     16,119        15,588        (3 %)      44,504        44,630        —     

Marine Components

     1,898        2,071        9     6,680        6,864        3
  

 

 

   

 

 

     

 

 

   

 

 

   

Total net sales

   $ 35,740      $ 35,736        —        $ 102,924      $ 105,755        3
  

 

 

   

 

 

     

 

 

   

 

 

   

Gross profit:

            

Security Products

   $ 5,770      $ 5,738        (1 %)    $ 16,616      $ 17,554        6

Furniture Components

     3,753        2,552        (32 %)      10,136        8,479        (16 %) 

Marine Components

     175        244        39     899        1,017        13
  

 

 

   

 

 

     

 

 

   

 

 

   

Total gross profit

   $ 9,698      $ 8,534        (12 %)    $ 27,651      $ 27,050        (2 %) 
  

 

 

   

 

 

     

 

 

   

 

 

   

Operating income:

            

Security Products

   $ 3,680      $ 3,550        (4 %)    $ 10,261      $ 10,911        6

Furniture Components

     1,630        711        (56 %)      2,715        8,351        208

Marine Components

     (393     (252     36     (840     (664     21

Corporate operating expense

     (1,778     (2,530     (42 %)      (4,323     (5,221     (21 %) 
  

 

 

   

 

 

     

 

 

   

 

 

   

Total operating income

   $ 3,139      $ 1,479        (53 %)    $ 7,813      $ 13,377        71
  

 

 

   

 

 

     

 

 

   

 

 

   

Gross margin as a percentage of net sales:

            

Security Products

     33     32       32     32  

Furniture Components

     23     16       23     19  

Marine Components

     9     12       13     15  

Total gross margin

     27     24       27     26  

Operating income margin:

            

Security Products

     21     20       20     20  

Furniture Components

     10     5       6     19  

Marine Components

     (21 %)      (12 %)        (13 %)      (10 %)   

Total operating income margin

     9     4       8     13  

 

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Security Products. Security Products net sales increased 2% in the third quarter and 5% in the first nine months of 2011 compared to the same periods last year. The increase in sales is primarily due to improved customer order rates across most customers with a slightly greater increase among transportation market customers resulting from improved economic conditions in North America. As a percentage of net sales, gross margin and operating income decreased approximately 1 percentage point for the third quarter of 2011 as compared to the prior year due to the net effects of (i) a decrease of 2 percentage points primarily due to higher raw material costs and (ii) a 1 percentage point increase primarily due to lower depreciation expense resulting from assets that became fully depreciated in 2010.

For the 2011 nine month period compared to the same period in 2010, the gross margin and operating income percentages were comparable as the impact of the items noted above on the third quarter comparisons were mitigated by first and second quarter 2011 margins that were slightly better than the comparable periods in 2010 that resulted from greater leverage of fixed manufacturing costs and selling, general and administrative costs with higher level of sales in each of the 2011 periods.

Furniture Components. Furniture Components net sales decreased 3% in the third quarter of 2011 compared to the same period last year, and were comparable in the first nine months of 2011 in relation to the same period in the prior year. The decrease in sales for the third quarter is primarily due to lower ergonomic product sales in 2011 due to several one time customer projects in 2010 that were not repeated or replaced in 2011, partially offset by approximately $600,000 of sales relating to the ergonomics component products business acquired in the third quarter of 2011. Lower ergonomic sales for the nine month period are offset by higher precision slide sales over the same comparative period.

Gross margin percentage decreased by approximately 7 percentage points for the quarter and by approximately 4 percentage points for the nine month comparative periods. The decrease in gross margin percentage for the third quarter was primarily due to (i) a 4 percentage point impact from negative changes in currency exchange rates, (ii) a 2 percentage point impact of lower ergonomic product sales which have higher margins than slide product sales and (iii) a one percentage point impact of higher steel costs that were recovered through surcharges but which negatively impacted margin percentage. The decrease in gross margin percentage for the nine month period was primarily due to (i) a 3 percentage point impact from negative changes in currency exchange rates and (ii) a 1 percentage point impact of higher steel costs that were recovered through surcharges but which negatively impacted margin percentage as surcharges increased sales with no additional contribution above the steel cost. The impact of the acquired ergonomics component business on gross margin percentage for the third quarter and for the nine-month period of 2011 was not significant.

On a percentage basis, Furniture Components operating income decreased 5 percentage points for the quarter primarily due to the above noted items impacting gross margin. For the nine month comparative period, Furniture Components operating income includes: (i) a patent litigation settlement gain of $7.5 million recognized in the first quarter of 2011, (ii) patent litigation expenses of $2.1 million and $227,000 in 2010 and 2011, respectively, and (iii) facility consolidation costs of approximately $2.0 million in 2011. Excluding the patent litigation settlement gain, patent litigation expenses and facility consolidation costs, operating income percentage decreased 4 percentage points in the first nine months of 2011 compared to the first nine months of 2010 primarily due to the decrease in gross margin for the comparative period, as noted above. See Notes 9 and 7 to the Condensed Consolidated Financial Statements regarding the litigation settlement gain and the facility consolidation costs in the first quarter of 2011, respectively.

 

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In July of 2011, we completed an acquisition of an ergonomic component products business for cash consideration of the equivalent of approximately $4.9 million. The acquisition is intended to expand our Furniture Components ergonomics product line. See Notes 2 and 5 to our Condensed Consolidated Financial Statements.

Marine Components. Marine Components net sales increased $173,000, or 9%, and increased $184,000, or 3%, the third quarter and nine month periods in 2011 compared to the same period in the prior year, respectively. As a percentage of net sales, gross margin and operating income increased for the third quarter and nine month periods of 2011 compared to the respective 2010 periods primarily due to increased leverage of fixed costs as a result of the higher sales in the third quarter and lower intangible amortization expense due to intangibles that became fully amortized in 2010 and the first six months of 2011.

Outlook. Demand for our products increased during the first quarter of 2011 compared to the prior year as conditions in the overall economy improved. However, during the later part of the second quarter and continuing into the third quarter, customer orders were flat which appeared to be consistent with the overall economic activity in North America during the that period. It is uncertain whether sales growth will return over the next several months. While changes in market demand are not within our control, we are focused on the areas we can impact. Staffing levels are continuously evaluated in relation to sales order rates which may result in headcount adjustments, to the extent possible, to match staffing levels with demand. We expect our continuous lean manufacturing and cost improvement initiatives, such as the consolidation of our Furniture Components facilities, to positively impact our productivity and result in a more efficient infrastructure. Additionally, we continue to seek opportunities to gain market share in markets we currently serve, expand into new markets and develop new product features in order to mitigate the impact of changes in demand as well as broaden our sales base.

Volatility in the costs of commodity raw materials is ongoing. Our primary commodity raw materials are steel, brass, alloyed zinc and stainless steel which together represent approximately 17% of our total cost of goods sold. Compared to the first nine months of 2010, our cost of these raw materials increased in 2011 between approximately 14% and 24%. We generally seek to mitigate the impact of fluctuations in commodity raw material costs on our margins through improvements in production efficiencies or other operating cost reductions as well as occasionally executing larger quantity tactical spot buys of these raw materials, which may result in higher inventory balances for a period of time. In the event we are unable to offset commodity raw material cost increases with other cost reductions, it may be difficult to recover those cost increases through increased product selling prices or surcharges due to the competitive nature of the markets served by our products. Additionally, significant surcharges may negatively affect our margins as they typically only recover the increased cost of the raw material without adding margin dollars resulting in a lower margin percentage. Consequently, overall operating margins may be affected by commodity raw material cost pressures as is currently the case.

As discussed in Note 9 to the Condensed Consolidated Financial Statements, we have been involved in certain patent infringement litigation, which has in the past resulted in our incurring significant litigation expense. With the settlement reached during the first quarter of 2011, we do not expect to incur significant litigation expense relating to these patent infringement claims going forward.

 

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The U.S. dollar weakened in 2011 in comparison to the Canadian dollar and the New Taiwan dollar, which are the primary currencies of our non-US operations. At the end of the third quarter the U.S. dollar significantly strengthened although we expect this to be temporary and expect the U.S. dollar will weaken during the fourth quarter and remain below rates that were in effect in 2010, which will likely have a negative impact on our 2011 results in comparison to 2010. When practical, we will seek to mitigate the negative impact of changes in currency exchange rates on our results by entering into currency hedging contracts. However, such strategies cannot fully mitigate the negative impact of changes in currency exchange rates.

Liquidity and Capital Resources

Consolidated cash flows –

Operating activities. Trends in cash flows from operating activities, excluding changes in assets and liabilities have generally been similar to the trends in operating earnings. Changes in assets and liabilities result primarily from the timing of production, sales and purchases. Changes in assets and liabilities generally tend to even out over time. However, period-to-period relative changes in assets and liabilities can significantly affect the comparability of cash flows from operating activities. Our cash provided by operating activities for the first nine months of 2011 increased by $2.5 million as compared to the first nine months of 2010 primarily due to the net effects of:

 

   

Higher operating income in the first nine months of 2011 of $5.6 million (primarily as a result of a $7.5 million litigation settlement gain recognized in the first quarter of 2011, partially offset by $2.0 million in facility consolidation costs);

 

   

Higher cash paid for income taxes in the first nine months of 2011 of approximately $4.9 million due to the timing of tax payments and refunds; and

 

   

Higher cash paid for interest of $1.2 million in 2011 due to timing of interest payments discussed in Note 5 to the Condensed Consolidated Financial Statements.

Relative changes in working capital can have a significant effect on cash flows from operating activities. As shown below, the change in our average days sales outstanding from December 31, 2010 to September 30, 2011 varied by segment. For comparative purposes, we have provided December 31, 2009 and September 30, 2010 numbers below. Overall, our September 30, 2011 days sales outstanding compared to December 31, 2010 is in line with our expectations.

 

     December 31,      September 30,      December 31,      September 30,  

Days Sales Outstanding:

   2009      2010      2010      2011  

Security Products

     34 Days         42 Days         40 Days         39 Days   

Furniture Components

     40 Days         50 Days         44 Days         47 Days   

Marine Components

     33 Days         29 Days         34 Days         34 Days   

Consolidated CompX

     37 Days         45 Days         41 Days         42 Days   

As shown below, our consolidated average number of days in inventory decreased from December 31, 2010 to September 30, 2011. For comparative purposes, we have provided December 31, 2009 and September 30, 2010 numbers below. The days in inventory at September 30, 2011 improved slightly from December 31, 2010 due to targeted inventory reduction initiatives. The variability in days in inventory among our segments primarily relates to the differences in the complexity of the production processes and therefore the length of time it takes to produce end-products.

 

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     December 31,      September 30,      December 31,      September 30,  

Days in Inventory:

   2009      2010      2010      2011  

Security Products

     77 Days         68 Days         73 Days         72 Days   

Furniture Components

     44 Days         50 Days         58 Days         56 Days   

Marine Components

     109 Days         119 Days         143 Days         110 Days   

Consolidated CompX

     64 Days         63 Days         70 Days         67 Days   

Investing activities. Net cash used in investing activities totaled $6.5 million in the first nine months of 2011 compared to net cash used of $16.5 million in the first nine months of 2010.

During 2011:

 

   

we had $1.8 in capital expenditures, and

   

we acquired an ergonomic component products business for $4.9 million.

During 2010:

 

   

we had $1.5 million in capital expenditures, and

   

we purchased a promissory note receivable for $15.0 million.

Financing activities. Net cash used by financing activities was $6.9 million in the first nine months of 2011 compared to net cash provided of $332,000 in the first nine months of 2010.

During 2011:

 

   

we repaid $3.0 million that was outstanding under our credit facility at December 31, 2010,

 

   

we borrowed $5.3 million in connection with our acquisition of an ergonomic products business,

 

   

we repaid $4.8 million in principal payments on our promissory note payable to affiliate, and

   

we paid $4.6 million, or $.375 per share, in dividends.

During 2010:

 

   

we borrowed $5.0 million under our credit facility, and

   

we paid $4.6 million, or $.375 per share, in dividends.

See Note 5 to the Condensed Consolidated Financial Statements.

Debt obligations. At September 30, 2011, there was approximately $4.8 million outstanding under our $37.5 million revolving credit facility that matures in January 2012. In the third quarter of 2011, we borrowed $5.3 million under the credit facility in connection with the acquisition discussed in Notes 2 and 5 to our Condensed Consolidated Financial Statements. At September 30, 2011 we could borrow the full amount of the remaining capacity of our credit facility without violating any debt covenants. We were in compliance with all of our financial covenants at September 30, 2011. Our credit facility expires in January 2012. We expect to renew the credit facility prior to its expiration.

 

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At September 30, 2011, the outstanding balance of our promissory note payable to affiliate was $37.5 million. In October 2011, we collected the $15.0 million principal amount due to us under our promissory note receivable, and subsequently made a $15.0 million prepayment on the promissory note payable to affiliate. See Note 5 to the Condensed Consolidated Financial Statements.

Provisions contained in our revolving credit facility could result in the acceleration of any outstanding indebtedness prior to its stated maturity for reasons other than defaults from failing to comply with typical financial covenants. For example, our revolving credit facility allows the lender to accelerate the maturity of the indebtedness upon a change of control (as defined) of the borrower. The terms of our revolving credit facility could result in the acceleration of all or a portion of the indebtedness following a sale of assets outside of the ordinary course of business. Other than noted above, there are no current expectations to borrow on the revolving credit facility to fund working capital, capital expenditures, debt service or dividends (if declared), lower future operating results could reduce or eliminate our amount available to borrow and restrict future dividends.

Future cash requirements –

Liquidity. Our primary source of liquidity on an on-going basis is our cash flow from operating activities, which is generally used to (i) fund capital expenditures, (ii) repay short-term or long-term indebtedness incurred primarily for capital expenditures, investment activities or reducing our outstanding stock and (iii) provide for the payment of dividends (if declared). From time-to-time, we will incur indebtedness, primarily to fund capital expenditures or business combinations. In addition, from time-to-time, we may also sell assets outside the ordinary course of business, the proceeds of which are generally used to repay indebtedness (including indebtedness which may have been collateralized by the assets sold) or to fund capital expenditures or business combinations.

Periodically, we evaluate liquidity requirements, alternative uses of capital, capital needs and available resources in view of, among other things, our capital expenditure requirements, dividend policy and estimated future operating cash flows. As a result of this process, we have in the past and may in the future seek to raise additional capital, refinance or restructure indebtedness, issue additional securities, modify our dividend policy or take a combination of such steps to manage our liquidity and capital resources. In the normal course of business, we may review opportunities for acquisitions, joint ventures or other business combinations in the component products industry. In the event of any such transaction, we may consider using available cash, issuing additional equity securities or increasing our indebtedness or that of our subsidiaries.

We believe that cash generated from operations together with cash on hand, as well as, our ability to obtain additional external financing, will be sufficient to meet our liquidity needs for working capital, capital expenditures, debt service and dividends (if declared) for both the next twelve months and five years. To the extent that our actual operating results or other developments differ from our expectations, our liquidity could be adversely affected.

Of the $8.5 million aggregate cash and cash equivalents at September 30, 2011, $4.3 million was held by our non-U.S. subsidiaries.

Capital Expenditures. Firm purchase commitments for capital projects in process at September 30, 2011 totaled $1.5 million. Our 2011 capital investments are limited to those expenditures required to meet our expected customer demand and those required to properly maintain our facilities.

 

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Commitments and Contingencies. See Note 9 to the Condensed Consolidated Financial Statements for a description of certain legal proceedings.

Off-balance sheet financing arrangements –

We do not have any off-balance sheet financing agreements other than the operating leases discussed in our 2010 Annual Report.

Recent accounting pronouncements –

See Note 10 to our Condensed Consolidated Financial Statements.

Critical accounting policies –

There have been no changes in the first nine months of 2011 with respect to our critical accounting policies presented in Management’s Discussion and Analysis of Financial Condition and Results of Operations in our 2010 Annual Report.

Forward-looking information –

As provided by the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, we caution that the statements in this Quarterly Report on Form 10-Q relating to matters that are not historical facts are forward-looking statements that represent our beliefs and assumptions based on currently available information. Forward-looking statements can be identified by the use of words such as “believes,” “intends,” “may,” “should,” “anticipates,” “expects” or comparable terminology, or by discussions of strategies or trends. Although we believe that the expectations reflected in such forward-looking statements are reasonable, we do not know if our expectations will prove to be correct. Such statements by their nature involve substantial risks and uncertainties that could significantly impact expected results, and actual future results could differ materially from those described in such forward-looking statements. Among the factors that could cause actual future results to differ materially are the risks and uncertainties discussed in this Quarterly Report and those described from time to time in our other filings with the Securities and Exchange Commission. While it is not possible to identify all factors, we continue to face many risks and uncertainties including, but not limited to the following:

 

   

Future demand for our products,

 

   

Changes in our raw material and other operating costs (such as steel and energy costs) and our ability to pass those costs on to our customers or offset them with reductions in other operating costs,

 

   

Demand for office furniture,

 

   

Price and product competition from low-cost manufacturing sources (such as China),

 

   

The impact of pricing and production decisions,

 

   

Customer and competitor strategies including substitute products,

 

   

Uncertainties associated with the development of new product features,

 

   

Fluctuations in the value of the U.S. dollar relative to other currencies (such as the Canadian dollar and New Taiwan dollar),

 

   

Current and future litigation,

 

   

Potential difficulties in integrating completed or future acquisitions,

 

   

Decisions to sell operating assets other than in the ordinary course of business,

 

   

Environmental matters (such as those requiring emission and discharge standards for existing and new facilities),

 

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Our ability to comply with covenants contained in our revolving bank credit facility,

 

   

The ultimate outcome of income tax audits, tax settlement initiatives or other tax matters,

 

   

The impact of current or future government regulations,

 

   

General global economic and political conditions (such as changes in the level of gross domestic product in various regions of the world),

 

   

Operating interruptions (including, but not limited to labor disputes, hazardous chemical leaks, natural disasters, fires, explosions, unscheduled or unplanned downtime and transportation interruptions); and

 

   

Possible disruption of our business or increases in the cost of doing business resulting from terrorist activities or global conflicts.

Should one or more of these risks materialize or if the consequences worsen, or if the underlying assumptions prove incorrect, actual results could differ materially from those currently forecasted or expected. We disclaim any intention or obligation to update or revise any forward-looking statement whether as a result of changes in information, future events or otherwise.

 

ITEM 3. QUANTITATIVE AND QUALITATITVE DISCLOSURES ABOUT MARKET RISK.

We are exposed to market risk, including foreign currency exchange rates, interest rates and security prices. For a discussion of these market risk items, refer to Part I, Item 7A – “Quantitative and Qualitative Disclosure About Market Risk” in our 2010 Annual Report, and to Note 8 to the Condensed Consolidated Financial Statements.

We have substantial operations located outside the United States for which the functional currency is not the U.S. dollar. As a result, the reported amounts of our assets and liabilities related to our non-U.S. operations, and therefore our consolidated net assets, will fluctuate based upon changes in currency exchange rates.

 

ITEM 4. CONTROLS AND PROCEDURES.

Evaluation of Disclosure Controls and Procedures. We maintain a system of disclosure controls and procedures. The term “disclosure controls and procedures,” as defined by regulations of the SEC, means controls and other procedures that are designed to ensure that information required to be disclosed in the reports that we file or submit to the SEC under the Securities Exchange Act of 1934, as amended (the “Act”), is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information we are required to disclose in the reports that we file or submit to the SEC under the Act is accumulated and communicated to our management, including our principal executive officer and our principal financial officer, or persons performing similar functions, as appropriate to allow timely decisions to be made regarding required disclosure. Each of David A. Bowers, our Vice Chairman of the Board, President and Chief Executive Officer, and Darryl R. Halbert, our Vice President, Chief Financial Officer and Controller, have evaluated the design and operating effectiveness of our disclosure controls and procedures as of September 30, 2011. Based upon their evaluation, these executive officers have concluded that our disclosure controls and procedures are effective as of the date of such evaluation.

Internal Control Over Financial Reporting. We also maintain internal control over financial reporting. The term “internal control over financial reporting,” as defined by regulations of the SEC, means a process designed by, or under the supervision of, our principal executive and principal financial officers, or persons performing similar functions, and effected by our board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with GAAP, and includes those policies and procedures that:

 

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pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of our assets,

 

   

provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors, and

 

   

provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on our Condensed Consolidated Financial Statements.

Changes in Internal Control Over Financial Reporting. There has been no change to our internal control over financial reporting during the quarter ended September 30, 2011 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

Part II. OTHER INFORMATION

 

ITEM 1. Legal Proceedings.

Refer to Note 9 of the Condensed Consolidated Financial Statements and to our 2010 Annual Report for descriptions of certain legal proceedings.

 

ITEM 1A. Risk Factors.

Reference is made to the 2010 Annual Report for a discussion of the risk factors related to our businesses. There have been no material changes in such risk factors during the first nine months of 2011.

 

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ITEM 6. Exhibits.

 

Item No.

  

Exhibit Index

31.1*    Certification
31.2*    Certification
32.1*    Certification
101.INS*    XBRL Instance Document
101.SCH*    XBRL Taxonomy Extension Schema
101.CAL*    XBRL Taxonomy Extension Calculation Linkbase
101.DEF*    XBRL Taxonomy Extension Definition Linkbase
101.LAB*    XBRL Taxonomy Extension Label Linkbase
101.PRE*    XBRL Taxonomy Extension Presentation Linkbase

 

* Filed herewith.

We have retained a signed original of any of the above exhibits that contains signatures, and we will provide such exhibit to the Commission or its staff upon request. We will also furnish, without charge, a copy of our Code of Business Conduct and Ethics, and Audit Committee Charter, each as adopted by our board of directors on February 24, 2004 and May 28, 2008 respectively, upon request. Such requests should be directed to the attention of our Corporate Secretary at our corporate offices located at 5430 LBJ Freeway, Suite 1700, Dallas, Texas 75240.

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

   

COMPX INTERNATIONAL INC.

   

(Registrant)

Date: November 2, 2011 

    By:   /s/ Darryl R. Halbert
      Darryl R. Halbert
      Vice President, Chief Financial Officer and Controller

 

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