Document
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q/A
Amendment No. 1
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ý | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended October 1, 2017
Or
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¨ | 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 1-1000
Sparton Corporation
(Exact name of registrant as specified in its charter)
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Ohio | | 38-1054690 |
(State or other jurisdiction of incorporation or organization) | | (I.R.S. Employer Identification No.) |
425 N. Martingale Road, Suite 1000, Schaumburg, Illinois | | 60173-2213 |
(Address of principal executive offices) | | (Zip code) |
(847) 762-5800
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or such shorter period that the registrant was required to submit and post such files). Yes ý No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
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Large accelerated filer | ¨ | Accelerated filer | ý |
Non-accelerated filer | ¨ (Do not check if a smaller reporting company) | Smaller reporting company | ¨ |
| | Emerging growth company | o |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No ý
As of November 8, 2017, there were 9,834,723 shares of common stock, $1.25 par value per share, outstanding.
EXPLANATORY NOTE
We are filing this Amendment No. 1 to the Quarterly Report on Form 10-Q/A (“Form 10-Q/A”) for the quarterly period ended October 1, 2017, which was filed with the United States Securities and Exchange Commission (“SEC”) on November 9, 2017 (the “Original Filing”), to reflect restatements of the Unaudited Consolidated Balance Sheet at October 1, 2017, and the Unaudited Consolidated Statement of Operations, Unaudited Consolidated Statement of Comprehensive Income (Loss) and Unaudited Consolidated Statement of Cash Flows for the three months ended October 1, 2017, and the related notes thereto. On September 13, 2018, the Company filed on Form 8-K with the SEC Item 4.02 Non-Reliance on Previously Issued Financial Statements or a Related Audit Report or Completed Interim Review.
In connection with our year-end financial statement close process and related preparation of our 2018 Form 10-K, misstatements were identified in our previously filed unaudited interim financial statements which required restatement. The restatement arose as a result of the implementation of a new enterprise resource planning system (“ERP system”) at our DeLeon Springs, FL location at the beginning of fiscal 2018. The new ERP system was implemented, in large part, to address the needs of the U.S. Navy, the Defense Contract Management Agency (“DCMA”) and the Defense Contract Audit Agency (“DCAA”) in our reporting and management of our government contracts. To meet these needs, the ERP system capitalized certain allowable general and administrative expenses to inventory in accordance with Defense Federal Acquisition Regulations (“DFARs”). In order to properly account for these expenses under generally accepted accounting principles, the Company, during its monthly financial close process, reversed these capitalized expenses as an adjustment in its consolidation and financial reporting tool. As this reversal entry was reflected in the consolidation and financial reporting tool and not in the ERP system, the Company did not properly account for cost of goods sold as inventory was shipped, resulting in an understatement of inventory of $1,336 at October 1, 2017 and an overstatement of cost of goods sold of $1,336 for the three months ended October 1, 2017. To correct this misstatement as reflected in this Form 10-Q/A, the Company recognized additional net income of $868 for the three months ended October 1, 2017. As a result, net loss decreased from $(2,852) to $(1,984) and net loss per share from $(0.29) to $(0.20). The correction only impacted the Company’s Engineered Components & Products reportable business segment.
The information in this Form 10-Q/A not only revises the unaudited consolidated financial statements that were contained in the Original Filing, but also amends other information contained in the Original Filing affected by the correction described above. Therefore, this Form 10-Q/A should be read together with the originally-filed Form 10-Q. Additionally, except as discussed, this Form 10-Q/A does not reflect events occurring after the date of the Original Filing and should be read in conjunction with our filings with the SEC subsequent to the date of the Original Filing, as those filings may have been superseded or amended.
The following items in the originally-filed Form 10-Q for the three months ended October 1, 2017 have been revised:
Part I - Item 1 - Consolidated Financial Statements
Part I - Item 2 - Management’s Discussion and Analysis of Financial Condition and Results of Operations
Part I - Item 4 - Controls and Procedures
Part II - Item 6 - Exhibits
Pursuant to the rules of the SEC, Part II - Item 6 of the Original Filing has been amended to include the currently-dated certifications from our interim chief executive officer and chief financial officer as required by Sections 302 and 906 of the Sarbanes-Oxley Act of 2002. These certifications are included in this Form 10-Q/A as Exhibits 31.1, 31.2, and 32.1.
TABLE OF CONTENTS
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PART I | | |
ITEM 1. | | |
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ITEM 2. | | |
ITEM 3. | | |
ITEM 4. | | |
PART II | | |
ITEM 1. | | |
ITEM 1A. | | |
ITEM 6. | | |
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| CERTIFICATIONS | |
FORWARD-LOOKING STATEMENTS
This Quarterly Report on Form 10-Q contains statements about future events and expectations that are “forward-looking statements.” We may also make forward-looking statements in our other reports filed with the SEC, in materials delivered to our shareholders and in press releases. These statements relate to future events or our future financial performance and involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by these forward-looking statements. Certain of these risks, uncertainties and other factors are described in Item 1A of Part II, “Risk Factors” of our most recent Annual Report on Form 10-K. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “expects,” “intends,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “potential,” or the negative use of these terms or other comparable terminology that convey the uncertainty of future events or outcomes. Although we believe these forward-looking statements are reasonable, they are based on a number of assumptions concerning future conditions, any or all of which may ultimately prove to be inaccurate. These forward-looking statements are based on management’s views and assumptions at the time originally made, and we undertake no obligation to update these statements whether as a result of new information or future events. There can be no assurance that our expectations, projections or views will materialize and you should not place undue reliance on these forward-looking statements. Any statement in this report that is not a statement of historical fact may be deemed to be a forward-looking statement and subject to the safe harbor created by the Private Securities Litigation Reform Act of 1995.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
SPARTON CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except share data)
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| October 1,
2017 | | July 2,
2017 |
Assets | (Unaudited - As Restated) | | |
Current Assets: | | | |
Cash and cash equivalents | $ | 319 |
| | $ | 988 |
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Accounts receivable, net of allowance for doubtful accounts of $417 and $429, respectively | 53,933 |
| | 45,347 |
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Inventories and cost of contracts in progress, net | 69,982 |
| | 60,248 |
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Prepaid expenses and other current assets | 4,443 |
| | 3,851 |
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Total current assets | 128,677 |
| | 110,434 |
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Property, plant and equipment, net | 33,374 |
| | 34,455 |
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Goodwill | 12,663 |
| | 12,663 |
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Other intangible assets, net | 26,522 |
| | 28,445 |
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Deferred income taxes | 24,874 |
| | 24,893 |
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Other non-current assets | 5,670 |
| | 6,253 |
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Total assets | $ | 231,780 |
| | $ | 217,143 |
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Liabilities and Shareholders’ Equity | | | |
Current Liabilities: | | | |
Accounts payable | $ | 30,278 |
| | $ | 27,672 |
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Accrued salaries | 7,699 |
| | 11,453 |
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Accrued health benefits | 1,103 |
| | 1,150 |
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Performance based payments on customer contracts | — |
| | 1,749 |
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Current portion of capital lease obligations | 269 |
| | 269 |
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Other accrued expenses | 8,428 |
| | 11,959 |
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Total current liabilities | 47,777 |
| | 54,252 |
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Credit facility | 97,600 |
| | 74,500 |
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Capital lease obligations, less current portion | 100 |
| | 167 |
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Environmental remediation | 5,322 |
| | 5,468 |
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Pension liability | 851 |
| | 888 |
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Total liabilities | 151,650 |
| | 135,275 |
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Commitments and contingencies |
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Shareholders’ Equity: | | | |
Preferred stock, no par value; 200,000 shares authorized, none issued | — |
| | — |
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Common stock, $1.25 par value; 15,000,000 shares authorized, 9,834,723 and 9,860,635 shares issued and outstanding, respectively | 12,293 |
| | 12,326 |
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Capital in excess of par value | 18,095 |
| | 17,851 |
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Retained earnings | 50,983 |
| | 52,967 |
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Accumulated other comprehensive loss | (1,241 | ) | | (1,276 | ) |
Total shareholders’ equity | 80,130 |
| | 81,868 |
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Total liabilities and shareholders’ equity | $ | 231,780 |
| | $ | 217,143 |
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See Notes to unaudited consolidated financial statements.
SPARTON CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(Dollars in thousands, except per share data)
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| For the First Quarter of Fiscal Years |
| 2018 | | 2017 |
| (As Restated) | | |
Net sales | $ | 82,763 |
| | $ | 100,367 |
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Cost of goods sold | 66,839 |
| | 83,082 |
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Gross profit | 15,924 |
| | 17,285 |
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Operating Expense: | | | |
Selling and administrative expenses | 15,205 |
| | 13,383 |
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Internal research and development expenses | 572 |
| | 351 |
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Amortization of intangible assets | 1,923 |
| | 2,219 |
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Total operating expense | 17,700 |
| | 15,953 |
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Operating income (loss) | (1,776 | ) | | 1,332 |
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Other income (expense) | | | |
Interest expense, net | (1,266 | ) | | (1,185 | ) |
Other, net | (10 | ) | | 20 |
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Total other expense, net | (1,276 | ) | | (1,165 | ) |
Income (loss) before income taxes | (3,052 | ) | | 167 |
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Income taxes | (1,068 | ) | | 59 |
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Net income (loss) | $ | (1,984 | ) | | $ | 108 |
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Income (loss) per share of common stock: | | | |
Basic | $ | (0.20 | ) | | $ | 0.01 |
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Diluted | $ | (0.20 | ) | | $ | 0.01 |
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Weighted average shares of common stock outstanding: | | | |
Basic | 9,856,649 |
| | 9,792,818 |
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Diluted | 9,856,649 |
| | 9,792,818 |
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See Notes to unaudited consolidated financial statements.
SPARTON CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(UNAUDITED)
(Dollars in thousands)
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| For the First Quarter of Fiscal Years |
| 2018 | | 2017 |
| (As Restated) | | |
Net income (loss) | $ | (1,984 | ) | | $ | 108 |
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Other comprehensive income, net: | | | |
Pension amortization of unrecognized net actuarial loss, net of tax | 35 |
| | 35 |
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Other comprehensive income, net | 35 |
| | 35 |
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Comprehensive income (loss) | $ | (1,949 | ) | | $ | 143 |
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See Notes to unaudited consolidated financial statements.
SPARTON CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(Dollars in thousands)
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| For the First Quarter of Fiscal Years |
| 2018 | | 2017 |
| (As Restated) | | |
Cash Flows from Operating Activities: | | | |
Net income (loss) | $ | (1,984 | ) | | $ | 108 |
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Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: | | | |
Depreciation | 1,536 |
| | 1,500 |
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Amortization of intangible assets | 1,923 |
| | 2,219 |
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Deferred income taxes | 19 |
| | 19 |
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Stock-based compensation expense | 211 |
| | 309 |
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Amortization of deferred financing costs | 212 |
| | 124 |
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Changes in operating assets and liabilities: | | | |
Accounts receivable | (8,586 | ) | | (1,447 | ) |
Inventories and cost of contracts in progress | (9,734 | ) | | 10,100 |
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Prepaid expenses and other assets | (204 | ) | | 202 |
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Performance based payments on customer contracts | (1,749 | ) | | 280 |
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Accounts payable and accrued expenses | (4,873 | ) | | (10,202 | ) |
Net cash provided by (used in) operating activities | (23,229 | ) | | 3,212 |
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Cash Flows from Investing Activities: |
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Purchases of property, plant and equipment | (455 | ) | | (1,119 | ) |
Net cash used in investing activity | (455 | ) | | (1,119 | ) |
Cash Flows from Financing Activities: |
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Borrowings under credit facility | 71,700 |
| | 28,404 |
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Repayments under credit facility | (48,600 | ) | | (29,835 | ) |
Payments under capital lease agreements | (68 | ) | | (61 | ) |
Payment of debt financing costs | (17 | ) | | (15 | ) |
Net cash provided by (used in) financing activities | 23,015 |
| | (1,507 | ) |
Net increase (decrease) in cash and cash equivalents | (669 | ) | | 586 |
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Cash and cash equivalents at beginning of period | 988 |
| | 132 |
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Cash and cash equivalents at end of period | $ | 319 |
| | $ | 718 |
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Supplemental disclosure of cash flow information: |
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Cash paid for interest | $ | 950 |
| | $ | 1,072 |
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Cash paid for income taxes | 509 |
| | — |
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Supplemental disclosure of non-cash investing activities: | | | |
Machinery and equipment financed under capital leases | — |
| | 148 |
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See Notes to unaudited consolidated financial statements.
SPARTON CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except per share data)
(1) Business and Basis of Presentation
The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Certain reclassifications of prior year amounts have been made to conform to the current year presentation. Subsequent events have been evaluated through the date these financial statements were issued. Additionally, the consolidated financial statements should be read in conjunction with Item 2, Management’s Discussion and Analysis of Financial Condition and Results of Operations, included in this Quarterly Report on Form 10-Q. Operating results for the quarter ended October 1, 2017 are not necessarily indicative of the results that may be expected for the year ending July 1, 2018. The consolidated balance sheet at July 2, 2017 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States ("GAAP") for complete financial statements. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended July 2, 2017.
The Company reports fiscal years on a 52-53 week year (5-4-4 basis) ending on the Sunday closest to June 30.
On July 7, 2017, Sparton Corporation (the "Company" or "Sparton"), Ultra Electronics Holdings plc, ("Parent" or “Ultra”), and Ultra Electronics Aneira Inc., (“Merger Sub”) entered into an Agreement and Plan of Merger (the "Merger Agreement") that provides for Ultra to acquire the Company by merging Merger Sub into the Company (such transaction referred to as the "Merger"), subject to the terms and conditions set forth in the Merger Agreement.
At the effective time of the Merger, each issued and outstanding share of common stock, par value $1.25 per share, of the Company (each, a “Share”) (other than (i) Shares that immediately prior to the effective time of the Merger are owned by Parent, Merger Sub or any other wholly owned subsidiary of Parent or owned by the Company or any wholly owned subsidiary of the Company (including as treasury stock) and (ii) Shares that are held by any record holder who is entitled to demand and properly demands payment of the fair cash value of such Shares as a dissenting shareholder pursuant to, and who complies in all respects with, the provisions of Section 1701.85 of the Ohio General Corporation Law (the “OGCL”)) will be cancelled and converted into the right to receive $23.50 per Share in cash, without interest.
The Merger Agreement provides for certain other termination rights for both the Company and Ultra, and further provides that, upon termination of the Merger Agreement under certain specified circumstances, the Company will be required to pay Ultra a termination fee of $7.5 million or Ultra will be required to pay the Company a termination fee of $7.5 million.
On October 5, 2017, at a special meeting of holders of shares of common stock of the Company, shareholders voted to adopt the Merger Agreement. Although the Merger Agreement has been adopted by the shareholders, consummation of the Merger remains subject to other closing conditions, including the expiration or termination of the applicable waiting period (or any extension thereof) under the Hart-Scott-Rodino Antitrust Improvements Act (the “HSR Act”.) On September 22, 2017, the Company and Ultra each received a request for additional information (the “second requests”) from the United States Department of Justice (the “DOJ”) in connection with the pending merger. The second requests were issued under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended. On October 23, 2017, the Company, Ultra and the DOJ entered into a timing agreement pursuant to which, among other things, the Company and Ultra agreed not to consummate the pending merger until 90 days following the date on which both of them shall have certified compliance with the second requests, unless the DOJ’s investigation shall have been closed sooner, subject to certain exceptions. The Company and Ultra have been cooperating fully with the DOJ as it conducts its review of the pending merger and will continue to do so in connection with the second requests. The pending merger also remains subject to other governmental approvals, as well as other customary closing conditions.
Restatement
In connection with our year-end financial statement close process and related preparation of our 2018 Form 10-K, misstatements were identified in our previously filed unaudited interim financial statements which required restatement. The restatement arose as a result of the implementation of a new enterprise resource planning system (“ERP system”) at our DeLeon Springs, FL location at the beginning of fiscal 2018. The new ERP system was implemented, in large part, to address the needs of the U.S. Navy, the DCMA and the DCAA in our reporting and management of our government contracts. To meet
these needs, the ERP system capitalized certain allowable general and administrative expenses to inventory in accordance with DFAR. In order to properly account for these expenses under generally accepted accounting principles, the Company, during its monthly financial close process, reversed these capitalized expenses as an adjustment in its consolidation and financial reporting tool. As this reversal entry was reflected in the consolidation and financial reporting tool and not in the ERP system, the Company did not properly account for cost of goods sold as inventory was shipped, resulting in an understatement of inventory of $1,336 at October 1, 2017 and an overstatement of cost of goods sold by $1,336 for the three months ended October 1, 2017. To correct this misstatement, as reflected in this 10-Q/A, the Company recognized additional net income of $868 for the three months ended October 1, 2017. As a result, the net loss decreased from $(2,852) to $(1,984) and net loss per share decreased from $(0.29) to $(0.20) for the three months ended October 1, 2017. This restatement had no effect on net cash flows from operating, investing, or financing activities and only impacted the Company’s Engineered Components & Products reportable business segment.
(2) Inventories and Cost of Contracts in Progress, net
The following are the major classifications of inventory, net of interim billings:
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| October 1,
2017 | | July 2,
2017 |
| (As Restated) | | |
Raw materials | $ | 36,123 |
| | $ | 31,353 |
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Work in process | 19,520 |
| | 19,098 |
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Finished goods | 23,855 |
| | 18,338 |
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Total inventory and cost of contracts in progress, gross | 79,498 |
| | 68,789 |
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Inventory to which the U.S. government has title due to interim billings | (9,516 | ) | | (8,541 | ) |
Total inventory and cost of contracts in progress, net | $ | 69,982 |
| | $ | 60,248 |
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(3) Property, Plant and Equipment, net
Property, plant and equipment, net consists of the following:
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| October 1,
2017 | | July 2,
2017 |
Land and land improvements | $ | 1,439 |
| | $ | 1,439 |
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Buildings and building improvements | 28,121 |
| | 28,121 |
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Machinery and equipment | 50,246 |
| | 46,502 |
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Construction in progress | 1,174 |
| | 4,463 |
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Total property, plant and equipment | 80,980 |
| | 80,525 |
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Less accumulated depreciation | (47,606 | ) | | (46,070 | ) |
Total property, plant and equipment, net | $ | 33,374 |
| | $ | 34,455 |
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(4) Other Intangible Assets
The components of other intangible assets, net consist of the following:
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| Net Carrying Value at
July 2, 2017 | | Additions | | Amortization | | Net Carrying Value at
October 1, 2017 |
Non-compete agreements | $ | 1,345 |
| | $ | — |
| | $ | (168 | ) | | $ | 1,177 |
|
Customer relationships | 25,377 |
| | — |
| | (1,661 | ) | | 23,716 |
|
Trademarks/Tradenames | 1,221 |
| | — |
| | (41 | ) | | 1,180 |
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Unpatented technology and patents | 502 |
| | — |
| | (53 | ) | | 449 |
|
| $ | 28,445 |
| | $ | — |
| | $ | (1,923 | ) | | $ | 26,522 |
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(5) Debt
On September 11, 2014, the Company entered into a revolving line-of-credit facility with a group of banks (the “Credit Facility”). The Company amended the Credit Facility on April 13, 2015, June 27, 2016 and again on June 30, 2017. As of the June 30, 2017 amendment, the Credit Agreement permits the Company to borrow up to $125,000. The facility is secured by
substantially all assets of the Company and its subsidiaries and expires on September 11, 2019. As of October 1, 2017, the Company had $22,293 available under the facility, which included letters of credit of $4,738 and capital leases of $369. The letters of credit balance includes a $3,114 standby letter of credit issued during the second quarter of fiscal 2017 to support environmental remediation obligations. (See Note 8, Commitments and Contingencies, of the “Notes to Unaudited Consolidated Financial Statements” in this Quarterly Report on Form 10-Q for further information). All borrowings under the Facility are classified as long-term.
Outstanding borrowings under the Credit Facility will bear interest, at the Company’s option, at either LIBOR, fixed for
interest periods of one, two, three or six month periods, plus 1.00% to 3.75%, or at the bank’s base rate, as defined, plus 0.00%
to 2.75%, based upon the Company’s Total Funded Debt/EBITDA Ratio, as defined. The Company is also required to pay
commitment fees on unused portions of the Credit Facility ranging from 0.20% to 0.50%, based on the Company’s Total
Funded Debt/EBITDA Ratio, as defined. The Credit Facility includes representations, covenants and events of default that are
customary for financing transactions of this nature. The effective interest rate on outstanding borrowings under the Credit
Facility was 3.60% at October 1, 2017.
As a condition of the Credit Facility, the Company is subject to certain customary covenants, which had been met or waived at October 1, 2017.
(6) Income Taxes
The Company's effective income tax rate for interim periods was determined based on the Company's estimated annual effective tax rate for the applicable year using the federal statutory income tax rate, permanent tax differences, foreign income taxes and state income taxes. The Company's estimated annual effective rate for the first quarter of fiscal years 2018 and 2017 was determined to be approximately 35%.
(7) Defined Benefit Pension Plan
The Company has a frozen defined benefit pension plan. The Company recorded net periodic pension expense of $18 and $13 for the first quarter of fiscal years 2018 and 2017, respectively. No contributions were made to the pension plan during the first quarter of fiscal years 2018 and 2017, respectively.
(8) Commitments and Contingencies
The Company is a party to an environmental remediation matter in Albuquerque, New Mexico ("Coors Road"). As of October 1, 2017 and July 2, 2017, Sparton had accrued $5,890 and $6,036, respectively, as its estimate of the remaining minimum future discounted financial liability regarding this matter, of which $568 and $568, respectively, was classified as a current liability and included on the balance sheets in other accrued expenses. As of October 1, 2017 and July 2, 2017, the Company had accrued $1,606, in relation to expected reimbursements from the Department of Energy, which are included in other non-current assets on the balance sheets and are considered collectible.
On October 3, 2016, the Company established the Sparton Corporation Standby Financial Assurance Trust and issued a standby letter of credit in the amount of $3,114 related to the Coors Road environmental remediation liability. The trust was established to meet the United States Environmental Protection Agency’s financial assurance requirements. As a result of the goodwill write-off of $64,174 in fiscal year 2016, the Company was not in compliance with these requirements as of the end of fiscal year 2016.
As of the end of fiscal year 2017, the Company was again in compliance with these requirements. The Company is in the process of dissolving the trust and canceling the letters of credit. See the Company’s Annual Report on Form 10-K for the fiscal year ended July 2, 2017 for further information.
In addition to the foregoing, from time to time, the Company is involved in various legal proceedings relating to claims arising in the ordinary course of business.
The Company and the members of our board of directors were named as defendants in four federal securities class actions purportedly brought on behalf of all holders of the Company’s common stock challenging the pending merger transaction with Ultra. The lawsuits generally sought, among other things, to enjoin the defendants from proceeding with the shareholder vote on the merger at the special meeting or consummating the merger transaction unless and until the Company disclosed the allegedly omitted information. The complaints also sought damages allegedly suffered by the plaintiffs as a result of the asserted omissions, as well as related attorneys’ fees and expenses.
After discussions with counsel for the plaintiffs, the Company included certain additional disclosures in the proxy statement soliciting shareholder approval of the Merger. The Company believes the demands and complaints were without
merit, there were substantial legal and factual defenses to the claims asserted, and the proxy statement disclosed all material information prior to the inclusion of the additional disclosures. The Company made the additional disclosures to avoid the expense and burden of litigation. On September 1, 2017, the court dismissed the lawsuits with prejudice with respect to lead plaintiffs in the lawsuits and without prejudice as to all other shareholders. The Company and plaintiffs must still attempt to resolve the appropriate amount of attorneys’ fees, if any, to be awarded to plaintiffs’ counsel.
In addition, the members of our board of directors were named as defendants in another class action suit filed in the
United States District Court for the Northern District of Ohio on October 24, 2017, purportedly brought on behalf of all holders of the Company's common stock. This lawsuit seeks damages allegedly suffered by plaintiffs as a result of violations by the members of the board of directors of their fiduciary duties. The Company believes the allegations in the complaint are without merit.
The Company is not currently a party to any other such legal proceedings, the adverse outcome of which, individually or in the aggregate, is expected to have a material adverse effect on our business, financial condition or results of operations. However, Goodrich Corporation (“Goodrich”) has alleged the Company owes indemnification under an agreement as a result
of damages suffered by Goodrich in a lawsuit that Goodrich settled. The Company has disputed the indemnification claim to
date and Goodrich has requested the parties mediate the dispute.
The Company is subject to audits by certain federal government agencies, including the Defense Contract Audit Agency and the Defense Contract Management Agency. The agencies audit and evaluate government contracts and government contractors’ administrative processes and systems. These agencies review the Company’s performance on contracts, pricing practices, cost structure, financial capability and compliance with applicable laws, regulations and standards. They also review the adequacy of the Company’s internal control systems and policies, including the Company’s purchasing, accounting, estimating, compensation and management information processes and systems. The Company works closely with these agencies to ensure compliance. From time to time, the Company is notified of claims related to noncompliance arising from the audits performed by agencies. Such claims have historically been subject to actions of remediation and/or financial claims that are typically subject to negotiated settlements. The Company believes that it has appropriate reserves established for outstanding issues and is not aware of any other issues of noncompliance that would have a material effect on the Company’s financial position or results of operations.
(9) Stock-Based Compensation
The Company has a long-term incentive plan to offer incentive and non-qualified stock options, stock appreciation rights, restricted stock or restricted stock units, performance awards and other stock-based awards, including grants of shares under the Sparton Corporation 2010 Long-Term Incentive Plan (the “2010 Plan”).
The following table shows stock-based compensation expense (income) by type of share-based award included in the consolidated statements of income:
|
| | | | | | | |
| For the First Quarter of Fiscal Years |
| 2018 | | 2017 |
Fair value expense of stock option awards | $ | 40 |
| | $ | 48 |
|
Restricted stock units | 171 |
| | 279 |
|
Restricted and unrestricted stock | — |
| | (18 | ) |
Total stock-based compensation expense (income) | $ | 211 |
| | $ | 309 |
|
The following is a summary of activity for the first quarter of fiscal year 2018 related to the 2010 Plan:
|
| | | | | | | | |
| Stock Options | | Restricted stock units | | Restricted shares |
Outstanding at July 2, 2017 | 100,022 |
| | 128,134 |
| | 25,912 |
|
Granted | — |
| | — |
| | — |
|
Forfeited | (2,382 | ) | | — |
| | (25,912 | ) |
Outstanding at October 1, 2017 | 97,640 |
| | 128,134 |
| | — |
|
As of October 1, 2017, 54,492 stock options were exercisable, of which 22,227 vested in the first quarter of fiscal year 2018.
(10) Earnings Per Share Data
The following table sets forth the computation of basic and diluted net income (loss) per share:
|
| | | | | | | |
| For the First Quarter of Fiscal Years |
| 2018 | | 2017 |
| (As Restated) | | |
Numerator: | | | |
Net income (loss) | $ | (1,984 | ) | | $ | 108 |
|
Less net income allocated to contingently issuable participating securities | — |
| | — |
|
Net income (loss) available to common shareholders | $ | (1,984 | ) | | $ | 108 |
|
| | | |
Weighted average shares outstanding – Basic | 9,856,649 |
| | 9,792,818 |
|
Dilutive effect of stock options | — |
| | — |
|
Weighted average shares outstanding – Diluted | 9,856,649 |
| | 9,792,818 |
|
| | | |
Net income (loss) available to common shareholders per share: | | | |
Basic | $ | (0.20 | ) | | $ | 0.01 |
|
Diluted | $ | (0.20 | ) | | $ | 0.01 |
|
For the first quarter of fiscal years 2018 and 2017, net income available to common shareholders was not reduced by allocated earnings associated with unvested restricted shares of 21,926 and 42,472, respectively, as the unvested restricted shares did not participate in the net loss for the first quarter of 2018 and the amount of allocated earnings in the first quarter of 2017 was not material.
There were 97,640 and 105,342 potential shares of common stock issuable upon exercise of stock options which were excluded from diluted income or loss per share computations for the first quarter of fiscal years 2018 and 2017, respectively, as they were anti-dilutive. For the first quarter of fiscal year 2018, they were anti-dilutive due to the net loss. For the first quarter of fiscal year 2017, they were anti-dilutive due to option exercise prices in excess of the average share prices.
(11) Business Segments
The Company has identified two reportable segments; Manufacturing & Design Services ("MDS") and Engineered Components & Products ("ECP"). The Company uses an internal management reporting system, which provides important financial data to evaluate performance and allocate the Company's resources on a segment basis. The Company’s Chief Operating Decision Maker assesses segment performance and allocates resources to each segment individually.
Operating results and certain other financial information about the Company’s two reportable segments for the first quarter of fiscal years 2018 and 2017 were as follows:
|
| | | | | | | | | | | | | | | | | | | |
| For the First Quarter of Fiscal Year 2018 |
| MDS | | ECP | |
Unallocated | | Eliminations | | Total |
| | | (As Restated) |
| | | | | | (As Restated) |
|
Net sales | $ | 55,308 |
| | $ | 30,399 |
| | $ | — |
| | $ | (2,944 | ) | | $ | 82,763 |
|
Gross profit | 5,993 |
| | 9,931 |
| | — |
| | — |
| | 15,924 |
|
Selling and administrative expenses (incl. depreciation) | 5,900 |
| | 3,580 |
| | 5,725 |
| | — |
| | 15,205 |
|
Internal research and development expenses | — |
| | 572 |
| | — |
| | — |
| | 572 |
|
Depreciation and amortization | 2,327 |
| | 561 |
| | 571 |
| | — |
| | 3,459 |
|
Operating income (loss) | (1,485 | ) | | 5,434 |
| | (5,725 | ) | | — |
| | (1,776 | ) |
Capital expenditures | 105 |
| | 187 |
| | 163 |
| | — |
| | 455 |
|
Total assets at October 1, 2017 | $ | 144,618 |
| | $ | 76,677 |
| | $ | 10,485 |
| | $ | — |
| | $ | 231,780 |
|
| | | | | | | | | |
| For the First Quarter of Fiscal Year 2017 |
| MDS | | ECP | |
Unallocated
| | Eliminations | | Total |
Net sales | $ | 65,002 |
| | $ | 37,592 |
| | $ | — |
| | $ | (2,227 | ) | | $ | 100,367 |
|
Gross profit | 7,294 |
| | 9,991 |
| | — |
| | — |
| | 17,285 |
|
Selling and administrative expenses (incl. depreciation) | 5,976 |
| | 3,824 |
| | 3,583 |
| | — |
| | 13,383 |
|
Internal research and development expenses | — |
| | 351 |
| | — |
| | — |
| | 351 |
|
Depreciation and amortization | 2,676 |
| | 606 |
| | 437 |
| | — |
| | 3,719 |
|
Operating income (loss) | (514 | ) | | 5,429 |
| | (3,583 | ) | | — |
| | 1,332 |
|
Capital expenditures | 206 |
| | 335 |
| | 578 |
| | — |
| | 1,119 |
|
Total assets at July 2, 2017 | $ | 142,513 |
| | $ | 64,694 |
| | $ | 9,936 |
| | $ | — |
| | $ | 217,143 |
|
| | | | | | | | | |
(12) New Accounting Standards
In May 2014, the Financial Accounting Standards ("FASB") issued Accounting Standards Update ("ASU") No. 2014-09 ("ASU 2014-09"), Revenue from Contracts with Customers, which amends guidance for revenue recognition. Under the new standard, revenue will be recognized when control of the promised goods or services is transferred to customers in an amount that reflects the consideration to which the Company expects to be entitled in exchange for those goods and services. The standard creates a five-step model that will generally require companies to use more judgment and make more estimates than under current guidance when considering the terms of contracts along with all relevant facts and circumstances. These include the identification of customer contracts and separating performance obligations, the determination of transaction price that potentially includes an estimate of variable consideration, allocating the transaction price to each separate performance obligation, and recognizing revenue in line with the pattern of transfer. In August 2015, the FASB issued an amendment to defer the effective date for all entities by one year. The new standard will become effective for annual reporting periods beginning after December 15, 2017, including interim periods within that reporting period. Early adoption is permitted as of annual reporting periods beginning after December 15, 2016. Companies have the option of using either a full or modified retrospective approach in applying this standard. During fiscal 2016 and 2017, the FASB issued four additional updates which further clarify the guidance provided in ASU 2014-09. The Company has identified key personnel to evaluate the guidance and approve a transition method, while also formulating a time line to review the potential impact of the new standard on its existing revenue recognition policies and procedures.
In July 2015, the FASB issued ASU No. 2015-11 ("ASU 2015-11"), Simplifying the Measurement of Inventory. ASU 2015-11 clarifies that inventory should be held at the lower of cost or net realizable value. Net realizable value is defined as the estimated selling price, less the estimated costs to complete, dispose and transport such inventory. ASU 2015-11 will be effective for fiscal years and interim periods beginning after December 15, 2016. ASU 2015-11 is required to be applied prospectively and early adoption is permitted. There was no significant impact on the Company's financial statements as a result of the adoption in the first quarter of fiscal year 2018.
In February 2016, the FASB issued ASU No. 2016-02 (“ASU 2016-02”), Leases (Topic 842). ASU 2016-02 establishes a right-of-use (ROU) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. A modified retrospective transition approach is required for capital leases and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the
financial statements, with certain practical expedients available. The Company is currently in the process of evaluating the impact of adoption on its consolidated financial statements.
In June 2016, the FASB issued ASU No. 2016-13 ("ASU 2016-13"), Financial Instruments—Credit Losses (Topic 326). ASU 2016-13 requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. ASU 2016-13 is effective for fiscal years beginning after December 15, 2019 and early adoption is permitted. The Company is currently in the process of evaluating the impact of adoption on its consolidated financial statements.
In August 2016, the FASB issued ASU No. 2016-15 ("ASU 2016-15"), Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. ASU 2016-15 will make eight targeted changes to how cash receipts and cash payments are presented and classified in the statement of cash flows. ASU 2016-15 is effective for fiscal years beginning after December 15, 2017. The new standard will require adoption on a retrospective basis unless it is impracticable to apply, in which case it would be required to apply the amendments prospectively as of the earliest date practicable. The Company is currently in the process of evaluating the impact of adoption on its consolidated financial statements.
In October 2016, the FASB issued ASU 2016-16 ("ASU 2016-16"), Income Taxes - Intra-Entity Transfers of Assets Other Than Inventory, which requires entities to recognize the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs. ASU 2016-16 is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption is permitted as of the beginning of a fiscal year. ASU 2016-16 must be adopted using a modified retrospective transition method which is a cumulative-effective adjustment to retained earnings as of the beginning of the first effective reporting period. The Company is currently in the process of evaluating the impact of adoption on its consolidated financial statements.
In November 2016, the FASB issued ASU No. 2016-18 ("ASU 2016-18"), Restricted Cash, which addresses classification and presentation of changes in restricted cash on the statement of cash flows. ASU 2016-18 requires an entity’s reconciliation of the beginning-of-period and end-of-period total amounts shown on the statement of cash flows to include in cash and cash equivalents amounts generally described as restricted cash and restricted cash equivalents. ASU 2016-18 does not define restricted cash or restricted cash equivalents, but an entity will need to disclose the nature of the restrictions. ASU 2016-18 is effective for public business entities for annual and interim periods in fiscal years beginning after December 15, 2017. Early adoption is permitted, including adoption in an interim period. If an entity early adopts the amendments in an interim period, adjustments should be reflected at the beginning of the fiscal year that includes that interim period. Entities should apply this ASU using a retrospective transition method to each period presented. The Company is currently in the process of evaluating the impact of adoption on its consolidated financial statements.
In January 2017, the FASB issued ASU No. 2017-04 (“ASU 2017-04”), Simplifying the Test for Goodwill Impairment. ASU 2017-04 eliminates step 2 from the goodwill impairment test. As amended, the goodwill impairment test will consist of one step comparing the fair value of a reporting unit with its carrying amount. An entity should recognize a goodwill impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value. An entity may still perform the optional qualitative assessment for a reporting unit to determine if it is more likely than not that goodwill is impaired. ASU 2017-04 will be effective for fiscal years and interim periods beginning after December 15, 2019. ASU 2017-04 is required to be applied prospectively and early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. The Company is currently in the process of evaluating the impact of adoption on its consolidated financial statements.
In March 2017, the FASB issued ASU No. 2017-07, (“ASU 2017-07”), Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost. ASU 2017-07 requires that the service cost component be disaggregated from the other components of net benefit cost and provides guidance for separate presentation in the income statement. ASU 2017-07 also changes the rules for capitalization of costs such that only the service cost component of net benefit cost may be capitalized rather than total net benefit cost. ASU 2017-07 will be effective for fiscal years and interim periods beginning after December 15, 2017. ASU 2017-07 is required to be applied retrospectively for the income statement presentation and prospectively for the capitalization of the service cost component of net periodic pension cost. The Company is currently in the process of evaluating the impact of adoption on its consolidated financial statements.
In May 2017, the FASB issued Accounting Standards Update No. 2017-09 (“ASU 2017-09”), Scope of Modification Accounting. ASU 2017-09 clarifies when to account for a change to the terms or conditions of a share-based payment award as a modification. Under the new guidance, modification accounting is required only if the fair value, the vesting conditions, or the classification of the award (as equity or liability) changes as a result of the change in terms or conditions. ASU 2017-09 is effective for all entities for fiscal years beginning after December 15, 2017, including interim periods within those years. Early adoption is permitted, including adoption in an interim period. The Company is currently in the process of evaluating the impact of adoption on its consolidated financial statements.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
The following is management’s discussion and analysis of certain significant events affecting Sparton Corporation’s (the “Company” or “Sparton”) results of operations and financial condition during the periods included in the accompanying financial statements. Additional information regarding the Company can be accessed via Sparton’s website at www.sparton.com. Information provided at the website includes, among other items, the Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Quarterly Earnings Releases, News Releases and the Code of Business Conduct and Ethics, as well as various corporate charters and documents.
Consolidated Results of Operations
Presented below is comparative data and discussions regarding our consolidated results of operations for the first quarter of fiscal year 2018 compared to the first quarter of fiscal year 2017. Results of operations for any period less than one year are not necessarily indicative of results of operations that may be expected for a full year. The following discussion should be read in conjunction with the Unaudited Consolidated Financial Statements and Notes thereto included in Item 1 of this Quarterly Report on Form 10-Q.
For the First Quarter of Fiscal Year 2018 compared to the First Quarter of Fiscal Year 2017
The following table presents selected consolidated statements of operations data (dollars in thousands):
CONSOLIDATED
|
| | | | | | | | | | | | | |
| For the First Quarter of Fiscal Years |
| 2018 | | % of Sales | | 2017 | | % of Sales |
| (As Restated) | | (As Restated) | | | | |
Net sales | $ | 82,763 |
| | 100.0 | % | | $ | 100,367 |
| | 100.0 | % |
Cost of goods sold | 66,839 |
| | 80.8 |
| | 83,082 |
| | 82.8 |
|
Gross profit | 15,924 |
| | 19.2 |
| | 17,285 |
| | 17.2 |
|
Selling and administrative expenses | 15,205 |
| | 18.4 |
| | 13,383 |
| | 13.3 |
|
Internal research and development expenses | 572 |
| | 0.7 |
| | 351 |
| | 0.3 |
|
Amortization of intangible assets | 1,923 |
| | 2.3 |
| | 2,219 |
| | 2.2 |
|
Operating income (loss) | (1,776 | ) | | (2.2 | ) | | 1,332 |
| | 1.4 |
|
Other expense, net | (1,276 | ) | | (1.5 | ) | | (1,165 | ) | | (1.2 | ) |
Income (loss) before income taxes | (3,052 | ) | | (3.7 | ) | | 167 |
| | 0.2 |
|
Income taxes | (1,068 | ) | | (1.3 | ) | | 59 |
| | 0.1 |
|
Net income (loss) | $ | (1,984 | ) | | (2.4 | )% | | $ | 108 |
| | 0.1 | % |
The decrease in net sales was a result of reduced sales of $10.4 million and $7.2 million in our MDS segment and ECP segment, respectively. The decrease in our gross profit was primarily a result of the reduced sales volumes. Selling and administrative expense was higher due to costs associated with the proposed merger, which were partially mitigated by the continued focused effort on cost containment and expense reduction.
The Company's estimated annual effective tax rate for the first quarter of fiscal years 2018 and 2017 was determined to be 35%.
Due to the factors described above, the Company reported net loss of $2.0 million, or $0.20 loss per share, basic and diluted, for the first quarter of fiscal year 2018, compared to net income of $0.1 million, or $0.01 earnings per share, basic and diluted, for the first quarter of fiscal year 2017.
Segment Information
The Company has two reportable segments - Manufacturing and Design Services ("MDS") and Engineered Components and Products ("ECP").
MDS
MDS segment operations are comprised of contract design, manufacturing and aftermarket repair and refurbishment of sophisticated printed circuit card assemblies, sub-assemblies, full product assemblies and cable/ wire harnesses for customers seeking to bring their intellectual property to market. Additionally, Sparton is a developer of embedded software and software
quality assurance services in connection with medical devices and diagnostic equipment. Customers include OEM and ET customers serving the Medical & Biotechnology, Military & Aerospace and Industrial & Commercial markets. In engineering and manufacturing for its customers, this segment adheres to very strict military and aerospace specifications, Food and Drug Administration guidelines and approvals, in addition to product and process certifications.
ECP
ECP segment operations are comprised of design, development and production of proprietary products for both domestic and foreign defense as well as commercial needs. Sparton designs and manufactures anti-submarine warfare ("ASW") devices known as sonobuoys for the U.S. Navy and foreign governments that meet Department of State licensing requirements. This segment also performs an engineering development function for the United States military and prime defense contractors for advanced technologies, ultimately leading to future defense products, as well as replacements for existing products. The sonobuoy product line is built to stringent military specifications. These products are restricted by International Tariff and Arms Regulations and qualified by the U.S. Navy, which limits opportunities for competition. This segment is also a provider of rugged flat panel display systems for military panel PC workstations, air traffic control and industrial and commercial marine applications, as well as high performance industrial grade computer systems and peripherals. Rugged displays are manufactured for prime contractors, in some cases to specific military grade specifications. Additionally, this segment internally develops and markets commercial products for underwater acoustics and microelectromechanical (“MEMS”)-based inertial measurement.
MDS
The following table presents selected segment data (dollars in thousands):
|
| | | | | | | | | | | | | | | | | |
| For the First Quarter of Fiscal Years |
| 2018 | | % of Sales | | 2017 | | % of Sales | | $ Chg |
Gross sales | $ | 55,308 |
| | 100.0 | % | | $ | 65,002 |
| | 100.0 | % | | $ | (9,694 | ) |
Intercompany sales | (2,937 | ) | | (5.3 | ) | | (2,200 | ) | | (3.4 | ) | | (737 | ) |
Net sales | 52,371 |
| | 94.7 |
| | 62,802 |
| | 96.6 |
| | (10,431 | ) |
Gross profit | 5,993 |
| | 10.8 |
| | 7,294 |
| | 11.2 |
| | (1,301 | ) |
Selling and administrative expenses | 5,900 |
| | 10.7 |
| | 5,976 |
| | 9.2 |
| | (76 | ) |
Amortization of intangible assets | 1,578 |
| | 2.8 |
| | 1,832 |
| | 2.8 |
| | (254 | ) |
Restructuring charges | — |
| | — |
| | — |
| | — |
| | — |
|
Operating income (loss) | $ | (1,485 | ) | | (2.7 | )% | | $ | (514 | ) | | (0.8 | )% | | $ | (971 | ) |
The $10.4 million decrease in net sales was due to (i) the continued insourcing of a large customer in our medical end-market and the loss of a customer in our industrial end-market reducing sales by $18.7 million and (ii) program delays and volume reductions of $2.3 million. These losses were offset by revenues from new programs wins and increased volumes with other customers of $10.6 million. MDS backlog was $130.5 million at October 1, 2017 compared to $125.3 million at October 2, 2016. Commercial orders, in general, may be rescheduled or canceled without significant penalty, and, as a result, may not be a meaningful measure of future sales. A majority of the October 1, 2017 MDS backlog is currently expected to be realized in the next 12 months.
The decrease in gross profit was primarily due to lower sales volumes. Gross profit percentage decreased slightly as a result of revenue mix. The decrease in selling and administrative expense was due to lower compensation and related benefit costs partially offset by higher medical claims.
ECP
The following table presents selected segment data (dollars in thousands):
|
| | | | | | | | | | | | | | | | | |
| For the First Quarter of Fiscal Years |
| 2018 | | % of Sales | | 2017 | | % of Sales | | $ Chg |
| (As Restated) | | (As Restated) | | | | | | (As Restated) |
Gross sales | $ | 30,399 |
| | 100.0 | % | | $ | 37,592 |
| | 100.0 | % | | $ | (7,193 | ) |
Intercompany sales | (7 | ) | | — |
| | (27 | ) | | (0.1 | ) | | 20 |
|
Net sales | 30,392 |
| | 100.0 |
| | 37,565 |
| | 99.9 |
| | (7,173 | ) |
Gross profit | 9,931 |
| | 32.7 |
| | 9,991 |
| | 26.6 |
| | (60 | ) |
Selling and administrative expenses | 3,580 |
| | 11.8 |
| | 3,824 |
| | 10.2 |
| | (244 | ) |
Internal research and development expenses | 572 |
| | 1.9 |
| | 351 |
| | 1.0 |
| | 221 |
|
Amortization of intangible assets | 345 |
| | 1.1 |
| | 387 |
| | 1.0 |
| | (42 | ) |
Operating income | $ | 5,434 |
| | 17.9 | % | | $ | 5,429 |
| | 14.4 | % | | $ | 5 |
|
The segment had decreases of $3.0 million in foreign sonobuoy sales, $1.8 million in rugged electronics sales, $1.6 million in engineering sales and $0.8 million in domestic sonobuoy sales. Total sales to the U.S. Navy in the first quarter of fiscal years 2018 and 2017 were $17.5 million and $20.0 million, respectively. For the first quarter of fiscal years 2018 and 2017, sales to the U.S. Navy accounted for 21% and 20%, respectively, of consolidated Company net sales and 58% and 53%, respectively, of ECP segment net sales. ECP backlog was $141.9 million at October 1, 2017 compared to $118.8 million at October 2, 2016. A majority of the October 1, 2017 ECP backlog is currently expected to be realized in the next 18 months.
Gross profit was flat compared to the first quarter of the prior year due to the impact of lower foreign sonobuoy sales, which were offset by lower overhead costs. The decrease in selling and administrative expense is due to lower corporate allocated costs.
Internal research and development expenses reflect costs incurred for the internal development of technologies for use in undersea warfare, navigation, hand held targeting applications as well as rugged electronics and display devices. These costs include salaries and related expenses, contract labor and consulting costs, materials and the cost of certain research and development specific equipment.
Eliminations and Corporate Unallocated
The following table presents selected data (dollars in thousands):
|
| | | | | | | | | | | |
| For the First Quarter of Fiscal Years |
| 2018 | | 2017 | | $ Chg |
Intercompany sales elimination | $ | (2,944 | ) | | $ | (2,227 | ) | | $ | (717 | ) |
Selling and administrative expenses unallocated | 5,725 |
| | 3,583 |
| | 2,142 |
|
Total corporate selling and administrative expenses before allocation to operating segments were $9.2 million and $7.3 million for the first quarter of fiscal year 2018 and fiscal year 2017, respectively, or 11.1% and 7.3% of consolidated sales, respectively. Of these costs, $3.4 million and $3.7 million, respectively, were allocated to segment operations in each of these periods. The increase in corporate selling and administrative expenses was due to legal and investment banker costs associated with proposed merger.
Liquidity and Capital Resources
As of October 1, 2017, the Company had $22.3 million available under its $125.0 million credit facility, reflecting borrowings under the facility of $97.6 million, letters of credit of $4.7 million and capital leases of $0.4 million. The letters of credit balance includes a $3.1 million standby letter of credit issued during the second quarter of fiscal year 2017 to support environmental remediation obligations. (See Note 8, Commitments and Contingencies, of the “Notes to Unaudited Consolidated Financial Statements” in this Quarterly Report on Form 10-Q for further information).
As a condition of the Credit Facility, the Company is subject to certain customary covenants, which had been met or waived at October 1, 2017.
The Company currently expects to meet its liquidity needs through a combination of sources including, but not limited to, operations and its revolving line-of-credit. With the above sources providing the expected cash flows, the Company currently
believes that it will have sufficient liquidity for its anticipated needs over the next 12 months, but no assurances regarding liquidity can be made.
|
| | | | | | | |
| For the First Quarter of Fiscal Years |
CASH FLOWS | 2018 | | 2017 |
| (As Restated) | | |
Operating activities, excluding net changes in working capital | $ | 1,917 |
| | $ | 4,279 |
|
Net changes in working capital | (25,146 | ) | | (1,067 | ) |
Operating activities | (23,229 | ) | | 3,212 |
|
Investing activities | (455 | ) | | (1,119 | ) |
Financing activities | 23,015 |
| | (1,507 | ) |
Net changes in working capital related cash flows in the first quarter of fiscal year 2018 primarily reflect increased accounts receivables, inventories and decreased accrued expenses, which were partially offset by increased accounts payable. Working capital related cash flows in the first quarter of fiscal year 2017 primarily reflect increased inventories, decreased accounts payable and accrued expenses as well as the funding of production related to U.S. Navy contracts, partially offset by collections of accounts receivable.
Net cash used in investing activity for the first quarter of fiscal year 2018 and 2017 reflect net capital expenditures of $0.5 million and $1.1 million, respectively.
Net cash provided by financing activities in the first quarter of fiscal year 2018 reflects $23.1 million of net borrowings under the Company's Credit Facility as compared to $1.4 million in net payments for the first quarter of fiscal year 2017.
Commitments and Contingencies
See Note 8, Commitments and Contingencies, of the “Notes to Unaudited Consolidated Financial Statements” in this Quarterly Report on Form 10-Q for a discussion of the Company's commitments and contingencies.
Contractual Obligations
Information regarding the Company’s long-term debt obligations, environmental liability payments, operating lease payments and other commitments is provided in Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” of the Company’s Annual Report on Form 10-K for fiscal year ended July 2, 2017. As of July 2, 2017, there were $45.6 million of non-cancelable purchase orders outstanding, $74.5 million of debt, $13.6 million of operating lease payments and a liability related to performance based billings was 1.7 million. As of October 1, 2017, compared to July 2, 2017, the non-cancelable purchase orders outstanding increased to $51.6 million, debt increased to $97.6 million, operating lease payments, net of subleases, decreased to $13.1 million and there was no liability related to performance based billings. Other than as noted above, there have been no material changes in the nature or amount of the Company’s contractual obligations since fiscal year end 2017.
Off-Balance Sheet Arrangements
The Company has standby letters of credit outstanding of $4.7 million at October 1, 2017, principally to support environmental remediation obligations and insurance arrangements. Other than these standby letters of credit and the operating lease commitments referenced above, we have no off-balance sheet arrangements that would have a current or future material effect on our financial condition, changes in financial condition, revenue, expense, results of operations, liquidity, capital expenditures or capital resources.
Critical Accounting Policies
Our financial statements are prepared in conformity with GAAP and require us to select appropriate accounting policies. The assumptions and judgments we use in applying our accounting policies have a significant impact on our reported amounts of assets, liabilities, revenue and expenses. While we believe that the assumptions and judgments used in our estimates are reasonable, actual results may differ from these estimates under different assumptions or conditions.
We have identified the most critical accounting policies upon which our financial status depends. The critical policies were determined by considering accounting policies that involve the most complex or subjective decisions or assessments. We also have other policies considered key accounting policies; however, these policies do not meet the definition of critical accounting policies because they do not generally require us to make estimates or judgments that are complex or subjective.
Our critical accounting policies include the following:
•Revenue recognition
•Goodwill and other intangible assets
•Percentage-of-completion accounting
•Environmental contingencies
•Income taxes
•Commercial inventory valuation
•Stock-based compensation
There have been no significant changes to our critical accounting policies that are described in Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section of our Annual Report on Form 10-K for the fiscal year ended July 2, 2017.
New Accounting Pronouncements
See Note 12, New Accounting Standards, of the “Notes to Unaudited Consolidated Financial Statements” in this Quarterly Report on Form 10-Q for a discussion of new accounting pronouncements.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
The Company manufactures its products in the United States, Canada and Vietnam. Sales of the Company’s products are in the U.S. and foreign markets. The Company is subject to foreign currency exchange rate risk relating to intercompany activity and balances and to receipts from customers and payments to suppliers in foreign currencies. Adjustments related to the remeasurement of the Company's Canadian and Vietnamese financial statements into U.S. dollars are included in current earnings. As a result, the Company's financial results could be affected by factors such as changes in foreign currency exchange rates or economic conditions in the domestic and foreign markets in which the Company operates. However, minimal third party receivables and payables are denominated in foreign currencies and the related market risk exposure is considered to be immaterial.
The Company’s revolving credit line, when drawn upon, is subject to future interest rate fluctuations which could potentially have a negative impact on cash flows of the Company. The Company had $97.6 million outstanding under its Credit Facility at October 1, 2017. A prospective increase of 100 basis points in the interest rate applicable to the Company’s outstanding borrowings under its Credit Facility would result in an increase of $1.0 million in our annual interest expense. The Company is not party to any currency exchange or interest rate protection agreements as of October 1, 2017.
Item 4. Controls and Procedures.
Each of our Interim Chief Executive Officer and Chief Financial Officer has evaluated the effectiveness of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) as of October 1, 2017. Based on such evaluation, such officers have concluded that our disclosure controls and procedures were not effective as of October 1, 2017 due to the material weakness in our internal control over financial reporting discussed below.
In connection with our year-end financial statement close process and related preparation of our 2018 Form 10-K, the Company identified a material weakness in our internal control over financial reporting during the previously-reported interim quarters ended October 1, 2017, December 31, 2017, and April 1, 2018 (the "Restated Quarters"). The material weakness was a result of the implementation of the new ERP system at our DeLeon Springs, FL location at the beginning of fiscal 2018. The new ERP system was implemented, in large part, to address the needs of the U.S. Navy, the DCMA and the DCAA in our reporting and management of our government contracts. To meet these needs, the ERP system capitalized certain allowable general and administrative expenses to inventory in accordance with DFAR. In order to properly account for these expenses under generally accepted accounting principles, the Company, during its monthly financial close process, reversed these capitalized expenses as an adjustment in our consolidation and financial reporting tool. As this reversal entry was reflected in our consolidation and financial reporting tool but not in the ERP system, the Company did not properly account for cost of goods sold when inventory was shipped, resulting in an understatement of inventory and a corresponding overstatement of cost of goods sold. We believe this is an isolated matter as this was the only adjustment to the consolidation and financial reporting tool that was not also recorded in the ERP systems of the operating entities (other than reclassification entries for reporting purposes) during the Restated Quarters.
In connection with the restatement, the Company re-evaluated its conclusions regarding the effectiveness of the Company’s disclosure controls and procedures and internal controls over financial reporting for the Restated Quarters and determined that a material weakness existed for the periods covered by the Restated Quarters. The Company determined that the unaudited financial statements as of the above interim periods should be restated to correct inadvertent errors related to this material weakness. To remediate the material weakness over the interim reporting periods, we no longer allow adjustments to be made in our consolidation and financial reporting tool (other than reclassification entries for reporting purposes) that are not also reflected in the ERP systems of the operating entities. In addition, we will increase our quarterly oversight of the consolidation and reporting tool. We believe that the additional controls over our interim reporting periods will mitigate this matter.
Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Our internal control system was designed to provide reasonable assurance to our management and board of directors regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Any internal control system, no matter how well designed, has inherent limitations and may not prevent or detect misstatements. Accordingly, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Other than remediation measure noted above, there have been no changes in our internal controls over financial reporting (as such term is defined in Rules 13a 15(f) and 15d 15(f) under the Exchange Act) during the first quarter of fiscal year 2018 ended October 1, 2017, that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting except as described above.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.
See Note 8, Commitments and Contingencies, of the “Notes to Unaudited Consolidated Financial Statements” in this Quarterly Report on Form 10-Q for a discussion of legal proceedings and other commitments and contingencies.
Item 1A. Risk Factors.
You should carefully consider the risks and uncertainties described in Part I, Item 1A., "Risk Factors," in our Annual Report on Form 10-K for the year ended July 2, 2017 and the other information in our subsequent filings with the SEC, including this Quarterly Report on Form 10-Q. Our business, financial condition, results of operations and stock price could be materially and adversely affected by any of these risks. The risks described in our Annual Report on Form 10-K are not the only ones we face. Additional risks and uncertainties that are currently unknown to us or that we currently consider to be immaterial may also impair our business or adversely affect our financial condition, results of operations and stock price.
Item 6. Exhibits.
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Exhibit Number | | Description |
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| | Second Amended Articles of Incorporation of the Registrant, incorporated herein by reference from the Registrant’s Proxy Statement on Form DEF 14A filed with the SEC on September 21, 2010. |
| | Amended and Restated Code of Regulations of the Registrant, incorporated herein by reference from Exhibit 3.2 to the Registrant’s Current Report on Form 8-K filed with the SEC on May 5, 2015. |
| | Amendment to Amended and Restated Code of Regulations of the Registrant, incorporated by reference from Exhibit 99.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on June 15, 2017. |
| | Interim Chief Executive Officer certification under Section 302 of the Sarbanes-Oxley Act of 2002. |
| | Chief Financial Officer certification under Section 302 of the Sarbanes-Oxley Act of 2002. |
| | Interim Chief Executive Officer and Chief Financial Officer certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
101.INS* | XBRL Instance Document |
101.SCH* | XBRL Taxonomy Extension Schema Document |
101.CAL* | XBRL Taxonomy Calculation Linkbase Document |
101.DEF* | XBRL Taxonomy Extension Definition Linkbase Document |
101.LAB* | XBRL Taxonomy Extension Label Linkbase Document |
101.PRE* | XBRL Taxonomy Extension Presentation Linkbase Document |
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.
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| Sparton Corporation |
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Date: October 10, 2018 | By: | | /s/ JOSEPH J. HARTNETT |
| | | Joseph J. Hartnett |
| | | Interim President and Chief Executive Officer |
| | | (Principal Executive Officer) |
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Date: October 10, 2018 | By: | | /s/ JOSEPH G. MCCORMACK |
| | | Joseph G. McCormack |
| | | Senior Vice President and Chief Financial Officer |
| | | (Principal Financial Officer) |