SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
Form
10-K
(Mark
One)
[X] ANNUAL
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES
EXCHANGE ACT OF 1934
For
the fiscal year-ended December 31, 2005
OR
[
] TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES
EXCHANGE ACT OF 1934
For
the
transition period from __________ to __________
Commission
file number: 333-126389
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NTK
Holdings, Inc.
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(exact
name of registrant as specified in its charter)
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Delaware
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20-1934298
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(State
or other jurisdiction of incorporation or organization)
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(IRS
Employer Identification Number)
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50
Kennedy Plaza
Providence,
Rhode Island
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02903-2360
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(Address
of principal executive offices)
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(zip
code)
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Registrant’s
Telephone Number, Including Area Code:
(401)
751-1600
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Securities
registered pursuant to Section 12(b) of the Act: None
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Indicate
by check mark if the registrant is a well-known seasoned issuer (as defined
in
Rule 405 of the Securities Act). Yes
[_] No
[X]
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or 15(d) of the Exchange Act. Yes
[_] No
[X]
Indicate
by check mark whether 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 and (2) has been subject to such filing requirements for
the
past 90 days. Yes
[X] No
[_]
Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this
Form 10-K. [X]
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer or a non-accelerated filer (as defined in Rule 12b-2 of the
Act).
|
Large
accelerated filer [_]
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Accelerated
Filer [_]
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Non-accelerated
filer [X]
|
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act). Yes
[_] No
[X]
The
aggregate market value of voting stock held by non-affiliates is
zero.
The
number of shares of Common Stock outstanding as of March 3, 2006 was
3,000.
PART
I
Item
1. Business.
NTK
Holdings, Inc. (the “Company” or “NTK Holdings”) is a Delaware corporation that
was formed to hold the capital stock of Nortek Holdings, Inc. (“Nortek
Holdings”). NTK Holdings became the parent company of Nortek Holdings on
February 10, 2005.
General
The
Company is a diversified manufacturer of residential and commercial building
products, operating within three reporting segments:
| · |
the
Residential Ventilation Products
Segment,
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| · |
the
Home Technology Products Segment, and
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| · |
the
Air Conditioning and Heating Products Segment.
|
Through
these segments, the Company manufactures and sells, primarily in the United
States, Canada and Europe, a wide variety of products for the residential and
commercial construction market, the manufactured
housing market, the do-it-yourself, or DIY, market and the professional
remodeling and renovation markets.
The
levels of residential replacement and remodeling, new residential construction
and non-residential construction significantly impact the Company’s performance.
Interest rates, seasonality, inflation, consumer spending habits and
unemployment are factors that affect these levels.
As
used
in this report, the terms “Company” and “NTK Holdings” refer to NTK Holdings,
Inc., together with its subsidiaries, unless the context indicates otherwise.
Such terms as “Company” and “NTK Holdings” are used for convenience only and are
not intended as a precise description of any of the separate corporations,
each
of which manages its own affairs.
Additional
information concerning the Company’s business is set forth in Management’s
Discussion and Analysis of Financial Condition and Results of Operations, Item
7
of Part II of this report, incorporated herein by reference. Additional
information on foreign and domestic operations is set forth in Note 11 of the
Notes to the Consolidated Financial Statements, Item 8 of Part II of this
report, incorporated herein by reference.
Residential
Ventilation Products Segment
The
Residential Ventilation Products Segment primarily manufactures and distributes
room and whole house ventilation products and other products primarily for
the
residential new construction, DIY and professional remodeling and renovation
markets. The principal products of the Segment, which are sold under the Broan®,
NuTone®, Venmar® and Best® brand names, among others, are:
| |
•
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exhaust
fans (such as bath fans and fan, heater and light combination units),
and
|
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•
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indoor
air quality products.
|
The
Segment is the largest supplier in North America of range hoods and exhaust
fans
and one of the leading suppliers in Western Europe and South America of luxury
“Eurostyle” range hoods. The Segment’s kitchen range hoods expel grease, smoke,
moisture and odors from the cooking area and are offered under an array of
price
points and styles from economy to upscale models. The exhaust fans offered
by
the Segment are primarily used in bathrooms to remove odors and humidity and
include combination units, which may have lights, heaters or both. The Segment’s
range hood and exhaust fan products are differentiated on the basis of air
movement as measured in cubic feet per minute and sound output as measured
in
sones. The Segment’s range hood and exhaust fan products, as well as its indoor
air quality products, are certified by the Home Ventilating Institute in the
United States.
The
Company’s sales of kitchen range hoods and exhaust fans accounted for
approximately 15.9% and 14.7%, respectively, of the Company’s consolidated net
sales in 2005, 18.6% and 17.0%, respectively, of the Company’s consolidated net
sales in 2004 and 18.6% and 17.4%, respectively, of the Company’s consolidated
net sales in 2003.
The
Segment is one of the largest suppliers in North America of indoor air quality
products, which include air exchangers, and heat or energy recovery ventilators
(HRVs and ERVs) that provide whole house ventilation. These systems bring in
fresh air from the outdoors while exhausting stale air from the home. Both
HRVs
and ERVs moderate the temperature of the fresh air by transferring heat from
one
air stream to the other. In addition, ERVs also modify the humidity content
of
the fresh air. The Segment also sells powered attic ventilators, which alleviate
heat build up in attic areas and prevent deterioration of roof
structures.
Since
the
late 1970s, homes have been built more airtight and insulated in order to
increase energy efficiency. According to published studies, this trend
correlates with an increased incidence of respiratory problems such as asthma
and allergies in individuals. In addition, excess moisture, which may be trapped
in a home, has the potential to cause significant deterioration to the structure
and interiors of the home. Proper intermittent ventilation in high concentration
areas such as kitchens and baths as well as whole house ventilation will
mitigate these problems.
The
Segment also sells other products, which leverage its strong brand names and
extensive distribution network. These products include among others, door
chimes, medicine cabinets, trash compactors, ceiling fans, and central vacuum
systems.
The
Company sells these products to distributors and dealers of electrical and
lighting products, kitchen and bath dealers, retail home centers and original
equipment manufacturers under the Broan®, NuTone®, Venmar®, and Best®, brand
names, among others. Private
label customers accounted for approximately 21.7% of the total sales of this
Segment in 2005.
A
key
component of the Segment’s operating strategy is the introduction of new
products and innovations, which capitalize on the strong brand names and the
extensive distribution system of the Segment’s businesses. These include the new
QT series of ultra-quiet exhaust fans with new grille styles, decorative and
recessed fan / light combination units, as well as high performance range hoods
used in today’s “gourmet” kitchen environments. The Company believes that the
Segment’s variety of product offerings and new product introductions help it to
maintain and improve its market position for its principal products. At the
same
time, the Company believes that the Segment’s status as a low-cost producer,
which is in large part due to its advanced manufacturing processes, provides
the
Segment with a competitive advantage.
The
Segment’s primary residential ventilation products compete with many domestic
and international suppliers in various markets. The Segment competes with
suppliers of competitive products primarily on the basis of quality,
distribution, delivery and price. Although the Segment believes it competes
favorably with other suppliers of residential ventilation products, some of
its
competitors have greater financial and marketing resources than the Segment.
Production
generally consists of fabrication from coil and sheet steel and formed metal
utilizing stamping, pressing and welding methods, assembly with components
and
subassemblies purchased from outside sources (principally motors, fan blades,
heating elements, wiring harnesses, controlling devices, glass, mirrors,
lighting fixtures and polyethylene components and electronic components) and
painting, finishing and packaging. See the discussion on Raw Materials under
General Considerations below.
The
Segment had 13 manufacturing plants and employed approximately 2,800 full-time
people as of December 31, 2005, of which approximately 212 were covered by
a
collective bargaining agreement which expired in 2004 and was subsequently
renewed on January 19, 2006, extending into 2007, approximately 420 are covered
by a collective bargaining agreement which expired in 2005 and approximately
224
are covered by collective bargaining agreements which expire between 2007
and
2008. See the discussion on Employees under General Considerations
below.
The
Company believes that the Segment’s relationships with its employees are
satisfactory.
Home
Technology Products Segment
The
Home
Technology Products Segment manufactures and distributes products that provide
convenience and security in residential and light commercial applications.
The
principal products sold by the Segment are:
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•
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audio
/ video distribution and control
equipment,
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•
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speakers
and subwoofers,
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•
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security
and access control products,
|
| |
• |
power conditioners and surge
protectors, |
| |
• |
audio / video wall mounts and fixtures,
and |
The
Segment’s audio / video distribution and control equipment products include
multi-room / multi-source amplifiers, home theatre receivers, intercom systems,
hard disk media servers and control devices such as keypads, remote controls
and
volume controls. The Segment’s speakers are primarily built-in (in-wall or
in-ceiling) and are primarily used in multi-room or home theatre applications.
These products are sold under the Niles®, Elan®, SpeakerCraft®, JobSite®,
Proficient Audio Systems®, Sunfire®, Imerge®, Xantech®, M&S Systems®, and
ChannelPlus® brand names.
The
Segment’s security and access control products include residential and light
commercial intrusion protection systems, garage and gate operators and devices
to gain entry to buildings and gated properties such as radio transmitters,
keypads and telephone entry systems. These products are sold under the Linear®,
Westinghouse®, GTO/PRO®, Mighty Mule® and OSCO® brand names.
Other
products sold by the Segment include power conditioners and surge protectors
sold under the Panamax® brand name, audio / video wall mounts and fixtures sold
under the OmniMount® brand name and structured wiring products sold under the
OpenHouse® brand name.
The
Segment sells to distributors and dealers of security and low-voltage equipment,
professional installers, electronics retailers and original equipment
manufacturers.
The
majority of the Segment’s products are used in existing properties. Therefore,
the Segment is not heavily dependent on the level of new construction in the
United States. The penetration of audio / video distribution and control systems
in the United States housing stock is relatively low and is believed to be
growing. In addition, the demand for security and access control products in
the
United States is also believed to be growing due to homeowners’ post-911
security concerns.
A
key
component to the growth of this Segment has been strategic acquisitions of
companies with similar or complementary products and distribution channel
strengths. There have been ten acquisitions within the Segment during the past
three years. Post-acquisition savings and synergies have been realized in the
areas of manufacturing, sourcing and distribution as well as in the
administrative, engineering and sales and marketing areas.
The
Segment offers a broad array of products under various brand names with various
features and price points. This allows the company to maximize and grow
distribution in the professional installation and retail markets. Another key
component of the Segment’s operating strategy is the introduction of new
products and innovations, which capitalize on its well-known brand names and
strong customer relationships.
The
Segment’s primary products compete with many domestic and international
suppliers in various markets. In the access control market, the Segment’s
primary competitor is Chamberlain Corporation (a subsidiary of Duchossios
Industries, Inc.). The Segment competes with suppliers of competitive products
primarily on the basis of quality, distribution, delivery and price. Although
the Segment believes it competes favorably with other suppliers of home
technology products, some of its competitors have greater financial and
marketing resources than the Segment.
The
Segment has several administrative and distribution facilities in the United
States while a majority of its manufacturing facilities are located in China.
In
addition, certain products of the Segment are sourced from low cost Asian
suppliers based on its specifications. The Segment believes that its Asian
operations provide it with a competitive cost advantage.
The
Segment had 10 manufacturing plants and employed approximately 2,400 full-time
people as of December 31, 2005.
The
Company believes that the Segment’s relationships with its employees are
satisfactory.
Air
Conditioning and Heating Products Segment
The
Air
Conditioning and Heating Products Segment manufactures and sells heating,
ventilating and air conditioning, or HVAC, systems and products for site-built
residential and manufactured housing structures, custom-designed commercial
applications and standard light commercial products. For site-built homes and
light commercial structures, the Segment markets its products under the licensed
names Frigidaire®, Tappan®, Philco®, Kelvinator®, Gibson®, Westinghouse® and
Maytag® and certain private label names.
Residential
HVAC Products
The
Segment principally manufactures and sells split-system air conditioners,
heat
pumps, air handlers, furnaces and related equipment, accessories and parts
for
the residential and light commercial markets. Within the residential market,
the
Company believes that the Segment is one of the largest suppliers of these
products for manufactured homes in the United States and Canada. In the
manufactured housing market, the Segment markets its products under the
Intertherm® and Miller® brand names.
Demand
for replacing and modernizing existing equipment, the level of housing starts
and manufactured housing shipments are the principal factors that affect the
market for the Segment’s residential HVAC products. The Company anticipates that
the replacement market will continue to expand as a large number of previously
installed heating and cooling products become outdated or reach the end of
their
useful lives. This growth may be accelerated by a tendency among consumers
to
replace older heating and cooling products with higher efficiency models prior
to the end of such equipment’s useful life. The market for residential cooling
products, including those sold by the Segment, which excludes window air
conditioners, is affected by spring and summer temperatures. The window air
conditioner market is highly seasonal and significantly impacted by spring
and
summer temperatures. The Company believes that the Segment’s ability to offer
both heating and cooling products helps offset the effects of seasonality on
the
Segment’s sales.
The
Segment sells its manufactured housing products to builders of manufactured
housing and, through distributors, to manufactured housing retailers and owners.
The majority of sales to builders of manufactured housing consist of furnaces
designed and engineered to meet or exceed certain standards mandated by the
U.S.
Department of Housing and Urban Development (“HUD”) and other federal agencies.
These standards differ in several important respects from the standards for
furnaces used in site-built residential homes. The aftermarket channel of
distribution includes sales of both new and replacement air conditioning units
and heat pumps and replacement furnaces. The Company believes that the Segment
has one major competitor in the manufactured housing furnace market, York
International Corporation, which markets its products primarily under the
“Coleman” name. The Segment competes with most major industry manufacturers in
the manufactured housing air conditioning market.
This
Segment sells residential HVAC products for use in site-built homes through
independently owned distributors who sell to HVAC contractors. The site-built
residential HVAC market is very competitive. In this market, the Segment
competes with, among others, Carrier Corporation (a subsidiary of United
Technologies Corporation), Rheem Manufacturing Company, Lennox Industries,
Inc.,
The Trane Company (a subsidiary of American Standard Companies Inc.), York
International Corporation (a subsidiary of Johnson Controls, Inc.) and Goodman
Global, Inc. The Company estimates that approximately 57% of the Segment’s sales
of residential HVAC products in 2005 were attributable to the replacement
market, which tends to be less cyclical than the new construction market.
The
Segment competes in both the site-built and manufactured housing markets on
the
basis of breadth and quality of its product line, distribution, product
availability and price. Although the Company believes that the Segment competes
favorably with respect to certain of these factors, most of the Segment’s
competitors have greater financial and marketing resources and certain
competitors may enjoy greater brand awareness than the Segment.
Commercial
HVAC Products
The
Segment also manufactures and sells HVAC systems that are custom-designed to
meet customer specifications for commercial offices, manufacturing and
educational facilities, hospitals, retail stores and governmental buildings.
Such systems are designed primarily to operate on building rooftops (including
large self-contained walk-in-units), or on individual floors within a building,
and to have cooling capacities ranging from 40 to 600 tons. The Segment markets
its commercial HVAC products under the Governair®, Mammoth®, Temtrol®, Venmar
CES™, Ventrol® and Webco™ brand names. Also part of the Segment, the Company’s
subsidiary Eaton-Williams Group Limited (“Eaton-Williams”), manufactures and
markets custom and standard air conditioning and humidification equipment
throughout Western Europe under the Vapac®, Cubit®, Qualitair®, Edenaire®,
Colman™ and Moducel™ brand names.
The
market for commercial HVAC equipment is divided into standard and
custom-designed equipment. Standard equipment can be manufactured at a lower
cost and therefore offered at substantially lower initial prices than
custom-designed equipment. As a result, standard equipment suppliers generally
have a larger share of the overall commercial HVAC market than custom-designed
equipment suppliers, including the Segment. However, because of certain building
designs, shapes or other characteristics, the Company believes there are many
applications for which custom-designed equipment is required or is more cost
effective over the life of the building. Unlike standard equipment, the
Segment’s commercial HVAC equipment can be designed to match a customer’s exact
space, capacity and performance requirements. The Segment’s packaged rooftop and
self-contained walk-in equipment rooms maximize a building’s rentable floor
space because this equipment is located outside the building. In addition,
the
manner of construction and timing of installation of commercial HVAC equipment
can often favor custom-designed over standard systems. As compared with
site-built and factory built HVAC systems, the Segment’s systems are factory
assembled according to customer specifications and then installed by the
customer or third parties, rather than assembled on site, permitting extensive
testing prior to shipment. As a result, the Segment’s commercial systems can be
installed later in the construction process than site-built systems, thereby
saving the owner or developer construction and labor costs. The Segment sells
its commercial HVAC products primarily to contractors, owners and developers
of
commercial office buildings, manufacturing and educational facilities,
hospitals, retail stores and governmental buildings. The Segment seeks to
maintain strong relationships nationwide with design engineers, owners and
developers, and the persons who are most likely to value the benefits and
long-term cost efficiencies of the Segment’s custom-designed equipment.
The
Company estimates that about 42% of the Segment’s air conditioning and heating
product commercial sales in 2005 came from replacement and retrofit activity,
which typically is less cyclical than new construction activity and generally
commands higher margins. The Segment continues to develop product and marketing
programs to increase penetration in the growing replacement and retrofit market.
The
Segment’s commercial products are marketed through independently owned
manufacturers’ representatives and approximately 325 sales, marketing and
engineering professionals as of December 31, 2005. The independent
representatives are typically HVAC engineers, a factor which is significant
in
marketing the Segment’s commercial products because of the design intensive
nature of the market segment in which the Segment competes.
The
Company believes that the Segment is among the largest suppliers of
custom-designed commercial HVAC products in the United States. The Segment’s
four largest competitors in the commercial HVAC market are Carrier Corporation,
York International, McQuay International (a subsidiary of OYL Corporation),
and
The Trane Company. The Segment competes primarily on the basis of engineering
support, quality, design and construction flexibility and total installed system
cost. Although the Company believes that the Segment competes favorably with
respect to some of these factors, most of the Segment’s competitors have greater
financial and marketing resources than the Segment and enjoy greater brand
awareness. However, the Company believes that the Segment’s ability to produce
equipment that meets the performance characteristics required by the particular
product application provides it with advantages that some of its competitors
do
not enjoy.
The
Segment had 14 manufacturing plants and employed approximately 3,300 full-time
people as of December 31, 2005, of which approximately 125 are covered by a
collective bargaining agreement which expires in 2007. The Company believes
that
the Segment’s relationships with its employees are satisfactory.
GENERAL
CONSIDERATIONS
Employees
The
Company employed approximately 8,600 full time persons at December 31, 2005.
On
June
8, 2005 the Company’s collective bargaining agreement with the United Automobile
Aerospace & Agricultural Implement Workers of America and its Local No. 2029
expired. That agreement is estimated, as of December 31, 2005, to cover
approximately 4.9% of the Company’s employees (420 employees) which are located
at the Cincinnati, OH location of the Company’s subsidiary NuTone, Inc. The
Company has presented its final proposal to the union bargaining committee,
but
such proposal was not accepted by the union members. On July 16, 2005, the
Company locked out the union employees at the NuTone Cincinnati, OH facility.
On
September 6, 2005, the Company notified the union bargaining committee that
negotiations had reached an impasse and that it was unilaterally implementing
the terms of its final offer. On March 6, 2006, the Company received notice
that
the union filed an unfair labor practice charge with the US National Labor
Relations Board claiming that the Company had not bargained to impasse and
that,
from and after September 6, 2005, it had failed to bargain collectively and
in
good faith. The Company denies and will vigorously challenge such allegations.
The Company’s management has provided temporary manufacturing support to ensure
that operational disruptions are minimized and the Company’s customers’ needs
are met without significant delay. NuTone’s operating results are included in
the Company’s Residential Ventilation Products Segment. See Note 8
of the
Notes to the Consolidated Financial Statements, Item 8 of Part II of this
report, incorporated herein by reference.
A
work
stoppage at one of the Company’s facilities that lasts for a significant period
of time could cause the Company to lose sales, incur increased costs and
adversely affect its ability to meet customers’ needs. A plant shutdown or a
substantial modification to a collective bargaining agreement could result
in
material gains and losses or the recognition of an asset impairment. As
agreements expire, until negotiations are completed, it is not known whether
the
Company will be able to negotiate collective bargaining agreements on the same
or more favorable terms as the current agreements or at all and without
production interruptions, including labor stoppages.
Backlog
Backlog
expected to be filled during 2006 was approximately $228,100,000 at December
31,
2005 ($144,900,000 at December 31, 2004). The higher level of backlog at
December 31, 2005 as compared to December 31, 2004 is principally due to an
increase in orders for 10 SEER residential HVAC products in the Company’s Air
Conditioning and Heating Products Segment prior to the change in the minimum
SEER rating on January 23, 2006.
Backlog
is not regarded as a significant factor for operations where orders are
generally for prompt delivery. While backlog stated for December 31, 2005 is
believed to be firm, as all orders are supported by either a purchase order
or a
letter of intent, the possibility of cancellations makes it difficult to assess
the firmness of backlog with certainty.
Research
and Development
The
Company’s research and development activities are principally new product
development and represent approximately 1.9%, 1.7% and 1.5% of the Company’s
consolidated net sales in 2005, 2004 and 2003, respectively.
Environmental
Considerations
See
Part
III, Legal Proceedings, of this report, incorporated herein by reference for
more information regarding the material effects that compliance with federal,
state and local provisions regulating the discharge of materials into the
environment may have upon capital expenditures, earnings and competitive
position.
Patents
and Trademarks
The
Company holds numerous design and process patents that it considers important,
but no single patent is material to the overall conduct of its business. It
is
the Company’s policy to obtain and protect patents whenever such action would be
beneficial to the Company. The Company owns or licenses numerous trademarks
that
it considers material to the marketing of its products, including Broan®,
NuTone®, Nautilus®, Venmar®, Guardian Plus™ Air Systems, vanEE®, Best®,
Governair®, Mammoth®, Temtrol®, Miller®, Intertherm®, Frigidaire®, Tappan®,
Philco®, Kelvinator®, Gibson®, Westinghouse®, Maytag®, Ventrol®, Webco™, Vapac®,
Cubit®, Qualitair®, Edenaire®, Linear®, Channel Plus®, Open House®, Xantech®,
Elan®, Via!®, SpeakerCraft®, Proficient Audio Systems®, OSCO®, OmniMount®,
M&S Systems®, Panamax®, Niles®, Sunfire®, Mighty Mule®, JobSite®, Imerge®
and GTO/PRO®. The Company believes that its rights in these trademarks are
adequately protected.
Raw
Materials
The
Company purchases raw materials and most components used in its various
manufacturing processes. The principal raw materials purchased by the Company
are rolled sheet steel, formed and galvanized steel, copper, aluminum, plate
mirror glass, various chemicals, paints and plastics.
The
materials, molds and dies, subassemblies and components purchased from other
manufacturers, and other materials and supplies used in manufacturing processes
have generally been available from a variety of sources. From time to time
increases in raw material costs can affect future supply availability due in
part to raw material demands by other industries. Whenever practical, the
Company establishes multiple sources for the purchase of raw materials and
components to achieve competitive pricing, ensure flexibility and protect
against supply disruption. The Company employs a company-wide procurement
strategy designed to reduce the purchase price of raw materials and purchased
components. The strategy focuses on adopting world-class procurement practices
to reduce the costs of purchased materials. The Company believes that the use
of
world-class strategic sourcing procurement practices will continue to enhance
its competitive position by reducing costs from its vendors and limiting cost
increases for goods and services in sectors experiencing rising
prices.
The
Company is subject to significant market risk with respect to the pricing of
its
principal raw materials. If prices of these raw materials were to increase
dramatically, the Company may not be able to pass such increases on to its
customers and, as a result, gross margins could decline significantly. See
Management’s Discussion and Analysis of Financial Condition and Results of
Operations, Item 7 of Part II of this report, incorporated herein by reference
for further discussion.
Working
Capital
The
carrying of inventories to support customers and to permit prompt delivery
of
finished goods requires substantial working capital. Substantial working capital
is also required to carry receivables. The demand for the Company’s products is
seasonal, particularly in the Northeast and Midwest regions of the United States
and in Canada where inclement weather during the winter months usually reduces
the level of building and remodeling activity in both the home improvement
and
new construction markets. Certain of the residential product businesses in
the
Air Conditioning and Heating Products Segment have in the past been more
seasonal in nature than the Company’s other businesses’ product categories. As a
result, the demand for working capital of the Company’s subsidiaries is greater
from late in the first quarter until early in the fourth quarter. See “Liquidity
and Capital Resources” in Management’s Discussion and Analysis of Financial
Condition and Results of Operations, Item 7 of Part II of this report,
incorporated herein by reference.
Website
The
Company’s periodic and current reports are available on its website,
www.nortek-inc.com, free of charge, as soon as reasonably practicable after
such
materials are filed with, or furnished to the Securities and Exchange Commission
(“SEC”).
Item
1A. Risk Factors.
The
Company’s business is sensitive to economic cycles and to the availability and
pricing of raw materials, and adverse changes in these factors could have a
negative impact on the Company’s business.
A
significant percentage of the Company’s sales of residential and commercial
building products is attributable to new residential and non-residential
construction, which are affected by cyclical factors such as interest rates,
seasonality, inflation, consumer spending habits and employment. In addition,
the Company is dependent upon raw materials including, among others, steel,
copper, packaging material, plastics, glass and aluminum and components that
we
purchase from third parties. Accordingly, the Company’s results of operations
and financial condition have in the past been, and may again in the future
be,
adversely affected by such cyclicality and increases in raw material or
component costs or their lack of availability.
If
the Company fails to integrate the businesses it has acquired or will acquire
in
the future, it could negatively impact the Company’s
business.
Historically,
the Company has engaged in a significant number of acquisitions. The Company
will continue to review future acquisition opportunities. The Company cannot
assure the reader that it will continue to locate and secure acquisition
candidates on terms and conditions that are acceptable to the Company. There
are
several risks in acquisitions, including:
| · |
the
difficulty and expense that the Company incurs in connection with
the
acquisition,
|
| · |
the
difficulty and expense that the Company incurs in the subsequent
assimilation of the operations of the acquired company into the Company’s
operations,
|
| · |
adverse
accounting consequences of conforming the acquired company’s accounting
policies to the Company’s,
|
| · |
the
difficulty in operating acquired
businesses,
|
| · |
the
diversion of management’s attention from the Company’s other business
concerns, and
|
| · |
the
potential loss of key employees previously employed at acquired
companies.
|
The
Company cannot assure the reader that any acquisition it has made or may make
will be successfully integrated into its on-going operations or that it will
achieve the estimated cost savings from the acquisition. If the operations
of an
acquired business do not meet expectations, the Company may be required to
restructure the acquired business or write-off the value of some or all of
the
assets of the acquired business.
Because
the Company competes against competitors with substantially greater resources,
the Company faces external competitive risks that may negatively impact the
business.
Substantially
all of the markets in which the Company operates are highly competitive and
many
of its competitors and potential competitors have substantially greater
financial and marketing resources than that of the Company. These competitive
factors could require the Company to reduce prices or increase spending on
product development, marketing and sales that would adversely affect the
operating results of the Company.
A
significant portion of the Company’s workforce is unionized and labor
disruptions could adversely affect the business.
As
of
December 31, 2005, approximately 11.5% of the Company’s workforce was subject to
various collective bargaining agreements. Collective bargaining agreements
covering approximately 2.5% of the Company’s workforce expired in 2004 and were
subsequently renewed on January 19, 2006, extending into 2007.
On
June
8, 2005 the Company’s collective bargaining agreement with the United Automobile
Aerospace & Agricultural Implement Workers of America and its Local No. 2029
expired. That agreement is estimated, as of December 31, 2005, to cover
approximately 4.9% of the Company’s employees (420 employees) which are located
at the Cincinnati, OH location of the Company’s subsidiary NuTone, Inc. The
Company has presented its final proposal to the union bargaining committee,
but
such proposal was not accepted by the union members. On July 16, 2005, the
Company locked out the union employees at the NuTone Cincinnati, OH facility.
On
September 6, 2005, the Company notified the union bargaining committee that
negotiations had reached an impasse and that it was unilaterally implementing
the terms of its final offer. On March 6, 2006, the Company received notice
that
the union filed an unfair labor practice charge with the US National Labor
Relations Board claiming that the Company had not bargained to impasse and
that,
from and after September 6, 2005, it had failed to bargain collectively and
in
good faith. The Company denies and will vigorously challenge such allegations.
The Company’s management has provided temporary manufacturing support to ensure
that operational disruptions are minimized and the Company’s customers’ needs
are met without significant delay. NuTone’s operating results are included in
the Company’s Residential Ventilation Products Segment. See Note 8
of the
Notes to the Consolidated Financial Statements, Item 8 of Part II of this
report, incorporated herein by reference.
A
work
stoppage at one of the Company’s facilities that lasts for a significant period
of time could cause the Company to lose sales, incur increased costs and
adversely affect its ability to meet customers’ needs. A plant shutdown or a
substantial modification to a collective bargaining agreement could result
in
material gains and losses or the recognition of an asset impairment. As
agreements expire, until negotiations are completed, it is not known whether
the
Company will be able to negotiate collective bargaining agreements on the
same
or more favorable terms as the current agreements or at all and without
production interruptions, including labor stoppages.
The
Company faces risks of litigation and liability claims on environmental, product
liability, workers compensation and other matters, the extent of which exposure
can be difficult or impossible to estimate and which can negatively impact
the
Company’s business, financial condition and results of
operations.
The
Company is subject to legal proceedings and claims arising out of its businesses
that cover a wide range of matters, including environmental matters, contract
and employment claims, product liability claims, warranty claims and claims
for
modification, adjustment or replacement of component parts of units sold.
Product liability, environmental and other legal proceedings include those
related to businesses or properties the Company has previously owned or
operated. The Company has used and continues to use various substances in its
products and manufacturing operations and has generated and continues to
generate waste, which have been or may be deemed to be hazardous or dangerous.
As such, the Company’s business is subject to and may be materially and
adversely affected by compliance obligations and other liabilities under
environmental, health and safety laws and regulations to which it is subject.
These laws and regulations affect ongoing operations and require capital costs
and operating expenses in order to achieve and maintain compliance and, if
violated, may result in fines, penalties and other sanctions. These laws and
regulations also impose liability, without regard to knowledge or fault,
relating to the existence of contamination at or associated with properties
used
in the Company’s current and former operations or those of its predecessors, or
at locations to which current or former operations or those of predecessors
have
shipped waste. The Company cannot be certain that identification of presently
unidentified environmental conditions, more vigorous enforcement by regulatory
agencies, enactment of more stringent laws and regulations, or other
unanticipated events will not arise in the future and give rise to material
environmental liabilities which could have a material adverse effect on its
business, financial condition or results of operations. The extent of the
Company’s potential liability under environmental, product liability and
workers’ compensation statutes, rules, regulations and case law cannot be
quantified at this time. Further, due to the lack of adequate information and
the potential impact of present and future regulations, there are circumstances
where no range of potential exposure can be reasonably estimated.
The
Company’s business operations could be significantly disrupted if the Company
lost members of its management team.
The
Company’s success depends to a significant degree upon the continued
contributions of its executive officers and key employees and consultants,
both
individually and as a group. The Company’s future performance will be
substantially dependent on its ability to retain and motivate them. The loss
of
the services of any of these executive officers or key employees and
consultants, particularly the Company’s chairman and chief executive officer,
Richard L. Bready, and other executive officers named in “Executive Officers of
the Company” could prevent the Company from executing its business strategy. See
“Directors and Executive Officers of the Registrant”.
A
significant equity investor controls the Company and its interests may not
be in
line with the reader’s interests.
Thomas
H.
Lee Equity Fund V, L.P. and its co-investors control the ultimate parent company
of NTK Holdings, which is the sole shareholder of Nortek Holdings, Inc., which
is the sole shareholder of Nortek, Inc., and exercise control over matters
requiring approval of the Company’s stockholders and board of directors. Thomas
H. Lee Equity Fund V, L.P. has the right to designate a majority of the members
of the management committee of the ultimate parent company of Nortek. In
addition, THL Managers V, LLC, an affiliate of Thomas H. Lee Equity Fund V,
L.P., provides the Company with financial advisory and management consulting
services. Because of this control, transactions may be pursued that could
enhance this equity investment while involving risks to the reader’s interests.
There can be no assurance that the interests of the Company’s controlling equity
investor will not conflict with the reader’s interests. See “Certain
Relationships and Related Transactions.”
The
Company’s substantial debt could negatively impact its business and prevent the
Company from fulfilling its obligations under the
notes.
The
Company has a substantial amount of debt. At December 31, 2005, the Company
had
approximately $1,648,378,000 of total debt outstanding and a debt to equity
ratio of approximately 8.7:1. The terms of the Company’s other outstanding debt,
including the Company’s 10 3/4% Senior Discount Notes, Nortek’s 8 1/2% Senior
Subordinated Notes and Nortek’s Senior Secured Credit Facility limit, but do not
prohibit, the Company from incurring additional debt. At December 31, 2005,
Nortek had approximately $70,400,000 of additional borrowing capacity under
the
U.S. revolving portion of its Senior Secured Credit Facility and approximately
$10,000,000 of additional borrowing capacity under the Canadian portion of
its
Senior Secured Credit Facility with approximately $19,600,000 in outstanding
letters of credit. If new debt is added to current debt levels, the related
risks described below could intensify.
The
amount of total debt that the Company incurs could have important consequences,
including the following:
| · |
the
Company’s ability to obtain additional financing for working capital,
capital expenditures, acquisitions, refinancing indebtedness, or
other
purposes could be impaired,
|
| · |
a
substantial portion of the Company’s cash flow from operations will be
dedicated to paying principal and interest on its debt, thereby reducing
funds available for expansion or other
purposes,
|
| · |
the
Company may be more leveraged than some of its competitors, which
may
result in a competitive
disadvantage,
|
| · |
the
Company may be vulnerable to interest rate increases, as borrowings
under
the Company’s Senior Secured Credit Facility are at variable
rates,
|
| · |
the
Company’s failure to comply with the restrictions in its financing
agreements would have a material adverse effect on the Company,
and
|
| · |
the
Company’s significant amount of debt could make it more vulnerable to
changes in general economic conditions and could make it difficult
to
satisfy its obligations with respect to its outstanding
debt.
|
The
Company believes that it will need to access the capital markets in the future
to raise the funds to repay its debt. The Company has no assurance that it
will
be able to complete a refinancing or that it will be able to raise any
additional financing, particularly in view of the Company’s anticipated high
levels of debt and the restrictions under its current debt agreements. If the
Company is unable to satisfy or refinance its current debt as it comes due,
the
Company may default on its debt obligations. If the Company defaults on its
debt
obligations, virtually all of its other debt could become immediately due and
payable.
The
terms of our debt covenants could limit how we conduct our business and our
ability to raise additional funds.
The
agreements which govern the terms of the Company’s debt, including the
indentures that govern the Company’s 10 3/4% Senior Discount Notes, Nortek’s 8
1/2% Senior Subordinated Notes and Nortek’s Senior Secured Credit Facility,
contain covenants that restrict the Company’s ability and the ability of its
subsidiaries to:
| · |
incur
additional indebtedness,
|
| · |
pay
dividends or make other
distributions,
|
| · |
make
loans or investments,
|
| · |
enter
into agreements restricting its subsidiaries’ ability to pay
dividends,
|
| · |
enter
into transactions with affiliates,
and
|
| · |
consolidate,
merge or sell assets.
|
In
addition, Nortek’s Senior Secured Credit Facility contains financial maintenance
covenants, and Nortek cannot assure the reader that such covenants will always
be met. A breach of the covenants under the indentures that govern the Company’s
10 3/4% Senior Discount Notes, Nortek’s 8 1/2% Senior Subordinated Notes or
under Nortek’s Senior Secured Credit Facility could result in an event of
default under the applicable indebtedness. Such default may allow the creditors,
if the agreements so provide, to accelerate the related debt and may result
in
the acceleration of any other debt to which a cross-acceleration or
cross-default provision applies. In addition, an event of default under Nortek’s
Senior Secured Credit Facility would permit the lenders to terminate all
commitments to extend further credit under that facility. Furthermore, if Nortek
was unable to repay the amounts due and payable under its Senior Secured Credit
Facility, those lenders could proceed against the collateral granted to them
to
secure that indebtedness. In the event the Company’s lenders or noteholders
accelerate the repayment of their borrowings, the Company cannot assure the
reader that it and its subsidiaries would have sufficient assets to repay such
indebtedness. The Company’s future financing arrangements will likely contain
similar or more restrictive covenants. As a result of these restrictions, the
Company may be:
| · |
limited
in how it conduct its business,
|
| · |
unable
to raise additional debt or equity financing to operate during general
economic or business downturns, and
|
| · |
unable
to compete effectively or to take advantage of new business
opportunities.
|
These
restrictions may affect the Company’s ability to grow in accordance with its
plans.
The
Company may be unable to generate sufficient cash to service all of its
indebtedness and may be forced to take other actions to satisfy its obligations
under such indebtedness, which may not be successful.
The
Company’s ability to make scheduled payments on or to refinance its debt
obligations depends on its subsidiaries’ financial condition and operating
performance, which is subject to prevailing economic and competitive conditions
and to financial, business and other factors beyond the Company’s control. The
Company cannot assure the reader that its subsidiaries will maintain a level
of
cash flows from operating activities sufficient to permit the Company to pay
or
refinance its indebtedness. If the Company’s subsidiaries’ cash flows and
capital resources are insufficient to fund the Company’s debt service
obligations, the Company and its subsidiaries could face substantial liquidity
problems and may be forced to reduce or delay capital expenditures, sell assets,
seek additional
capital or restructure or refinance its indebtedness. These alternative measures
may not be successful and may not permit the Company to meet its scheduled
debt
service obligations.
The
Company may not be able to satisfy its obligations to holders of the Company’s
indebtedness upon a change of control.
Upon
the
occurrence of a “change of control”, as defined in the indenture that governs
the Company’s 10 3/4% Senior Discount Notes, each holder of the notes will have
the right to require NTK Holdings to purchase the notes at a price equal to
101%
of their accreted value. NTK Holdings’ failure to purchase, or give notice of
purchase of, the notes would be a default under the indenture. In addition,
a
change of control may constitute an event of default under Nortek’s Senior
Secured Credit Facility and would also require Nortek to offer to purchase
its 8
1/2% Senior Subordinated Notes at 101% of the principal amount thereof, together
with accrued and unpaid interest. A default under Nortek’s Senior Secured Credit
Facility would result in an event of default under the indenture and under
the
indenture governing Nortek’s 8 1/2% Senior Subordinated Notes if the lenders
accelerate the debt under Nortek’s Senior Secured Credit Facility.
If
a
change of control occurs, the Company may not have enough assets to satisfy
all
obligations under Nortek’s Senior Secured Credit Facility and the indenture that
governs Nortek’s 8 1/2% Senior Subordinated Notes. Upon the occurrence of a
change of control, the Company could seek to refinance the indebtedness under
Nortek’s Senior Secured Credit Facility and Nortek’s 8 1/2% Senior Subordinated
Notes or obtain a waiver from the lenders under Nortek’s Senior Secured Credit
Facility and Nortek’s 8 1/2% Senior Subordinated Notes. The Company cannot
assure the reader, however, that it would be able to obtain a waiver or
refinance its indebtedness on commercially reasonable terms, if at all.
Item
1B. Unresolved Staff Comments.
None.
Item
2. Properties.
Set
forth
below is a brief description of the location and general character of the
principal administrative and manufacturing facilities and other material real
properties of the Company’s continuing operations, all of which the Company
considers to be in satisfactory repair. All properties are owned, except for
those indicated by an asterisk (*), which are leased under operating leases
and
those with a double asterisk (**), which are leased under capital
leases.
| |
|
Approximate
|
|
|
Location
(1)
|
Description
|
Square
Feet
|
|
| |
|
|
|
|
Residential
Ventilation Products Segment:
|
|
|
|
|
Union,
IL
|
Manufacturing/Warehouse/Administrative
|
197,000
|
(2)
|
|
Hartford,
WI
|
Manufacturing/Warehouse/Administrative
|
538,000
|
(3)
|
|
Mississauga,
ONT, Canada
|
Manufacturing/Warehouse/Administrative
|
110,000
|
|
|
Fabriano,
Italy
|
Manufacturing/Warehouse/Administrative
|
166,000
|
|
|
Cerreto
D’Esi, Italy
|
Manufacturing/Warehouse/Administrative
|
180,000
|
|
|
Montefano,
Italy
|
Manufacturing/Warehouse/Administrative
|
93,000
|
(2)
|
|
Cleburne,
TX
|
Manufacturing/Warehouse/Administrative
|
215,000
|
(3)
|
|
Los
Angeles, CA
|
Manufacturing/Administrative
|
177,000
|
*
|
|
Drummondville,
QUE, Canada
|
Manufacturing/Warehouse/Administrative
|
126,000
|
|
|
Cincinnati,
OH
|
Manufacturing/Warehouse/Administrative
|
735,000
|
|
|
Chenjian,
Huizhou, PRC
|
Manufacturing/Warehouse/Administrative/Other
|
198,000
|
|
| |
|
|
|
|
Home
Technology Products Segment:
|
|
|
|
|
Sylmar,
CA
|
Manufacturing/Administrative
|
18,000
|
*
|
|
Xiang,
Bao An County, Shenzhen, PRC
|
Manufacturing/Warehouse/Administrative
|
142,000
|
*
|
|
Chaiwan,
Hong Kong
|
Administrative
|
12,300
|
*
|
|
Lexington,
KY
|
Manufacturing/Warehouse/Administrative
|
40,000
|
*
|
|
Carlsbad,
CA
|
Administrative
|
53,000
|
*
|
|
Riverside,
CA
|
Manufacturing/Administrative
|
82,000
|
*
|
|
Casnovia,
MI
|
Manufacturing/Warehouse/Administrative
|
23,000
|
*
|
|
Phoenix,
AZ
|
Manufacturing/Warehouse/Administrative
|
45,000
|
*
|
|
Petaluma,
CA
|
Manufacturing/Warehouse/Administrative
|
15,000
|
*
|
|
Miami,
FL
|
Manufacturing/Warehouse/Administrative
|
83,000
|
*
|
|
Cambridge,
U.K.
|
Manufacturing/Warehouse/Administrative
|
10,700
|
*
|
|
Snohomish,
WA
|
Manufacturing/Warehouse/Administrative
|
25,000
|
*
|
|
Tallahassee,
FL
|
Manufacturing/Warehouse/Administrative
|
72,000
|
(3)
|
|
Summerville,
SC
|
Warehouse/Administrative
|
162,000
|
*
|
|
Air
Conditioning and Heating Products Segment:
|
|
|
|
|
St.
Leonard d’Aston, QUE, Canada
|
Manufacturing/Administrative
|
95,000
|
*
|
|
Saskatoon,
Saskatchewan, Canada
|
Manufacturing/Administrative
|
49,000
|
*
|
|
O’Fallon,
MO
|
Warehouse/Administrative
|
70,000
|
*
|
|
St.
Louis, MO
|
Manufacturing/Warehouse
|
103,000
|
*
|
|
Boonville,
MO
|
Manufacturing
|
250,000
|
(3)
|
|
Boonville,
MO
|
Warehouse/Administrative
|
150,000
|
(2)
|
|
Tipton,
MO
|
Manufacturing
|
50,000
|
(3)
|
|
Poplar
Bluff, MO
|
Manufacturing/Warehouse
|
725,000
|
**
|
|
Dyersburg,
TN
|
Manufacturing/Warehouse
|
368,000
|
**
|
|
Holland,
MI
|
Manufacturing/Administrative
|
45,000
|
*
|
|
Chaska,
MN
|
Manufacturing/Administrative
|
230,000
|
*
|
|
Oklahoma
City, OK
|
Manufacturing/Administrative
|
127,000
|
(3)
|
|
Okarche,
OK
|
Manufacturing/Warehouse/Administrative
|
228,000
|
(3)
|
|
Springfield,
MO
|
Manufacturing/Warehouse/Administrative
|
92,000
|
*
|
|
Anjou,
QUE, Canada
|
Manufacturing/Administrative
|
122,000
|
*
|
|
Edenbridge,
Kent, U.K.
|
Manufacturing/Administrative
|
92,000
|
*
|
|
Fenton,
Stoke-on-Trent, U.K.
|
Manufacturing/Administrative
|
104,000
|
*
|
|
Miami,
FL
|
Manufacturing/Warehouse/Administrative
|
24,000
|
*
|
| Anji
County, Zhejiang, PRC |
Manufacturing/Warehouse/Administrative |
141,000
|
*(4)
|
| |
|
|
|
|
Other:
|
|
|
|
|
Providence,
RI
|
Administrative
|
23,400
|
*
|
| (1) |
Certain locations may represent more than one property
and the square footage includes all properties within that
location. |
| (2) |
These
facilities are pledged as security under various subsidiary debt
agreements. (See Note 6 of the Notes to the Consolidated Financial
Statements, Item 8 of Part II of this report, incorporated herein
by
reference.)
|
| (3) |
These facilities are pledged as security under the
Company’s Senior Secured Credit Facility. |
| (4)
|
These
facilities are leased by a subsidiary which the Company had a minority
interest in at December 31, 2005. In the first quarter of 2006, the
Company has made further investment and is in the process of obtaining
a
majority interest in this subsidiary. During 2006, the Company expects
to
relocate from this leased facility to another facility which it will
own.
See Management’s Discussion and Analysis of Financial Condition and
Results of Operations -Overview, Item 7 of Part II of this report,
incorporated herein by reference. |
Item
3. Legal Proceedings.
The
Company and its subsidiaries are subject to numerous federal, state and local
laws and regulations, including environmental laws and regulations that impose
limitations on the discharge of pollutants into the air and water and establish
standards for the treatment, storage and disposal of solid and hazardous wastes.
The Company believes that it is in substantial compliance with the material
laws
and regulations applicable to it. The Company is involved in current, and may
become involved in future, remedial actions under federal and state
environmental laws and regulations which impose liability on companies to clean
up, or contribute to the cost of cleaning up, sites at which their hazardous
wastes or materials were disposed of or released. Such claims may relate to
properties or business lines acquired by the Company after a release has
occurred. In other instances, the Company may be partially liable under law
or
contract to other parties that have acquired businesses or assets from the
Company for past practices relating to hazardous substances management. The
Company believes that all such claims asserted against it, or such obligations
incurred by it, will not have a material adverse effect upon the Company’s
financial condition or results of operations. Expenditures in 2005, 2004 and
2003 to evaluate and remediate such sites were not material. However, the
Company is presently unable to estimate accurately its ultimate financial
exposure in connection with identified or yet to be identified remedial actions
due among other reasons to: (i) uncertainties surrounding the nature and
application of environmental regulations, (ii) the Company’s lack of information
about additional sites to which it may be listed as a potentially responsible
part (“PRP”), (iii) the level of clean-up that may be required at specific sites
and choices concerning the technologies to be applied in corrective actions
and
(iv) the time periods over which remediation may occur. Furthermore, since
liability for site remediation is joint and several, each PRP is potentially
wholly liable for other PRP’s that become insolvent or bankrupt. Thus, the
solvency of other PRP’s could directly affect the Company’s ultimate aggregate
clean-up costs. In certain circumstances, the Company’s liability for clean-up
costs may be covered in whole or in part by insurance or indemnification
obligations of third parties.
In
addition to legal matters described above, the Company and its subsidiaries
are
named as defendants in a number of legal proceedings, including a number of
product liability lawsuits, incident to the conduct of their
businesses.
The
Company does not expect that any of the above described proceedings will have
a
material adverse effect, either individually or in the aggregate, on the
Company’s financial position, results of operations, liquidity or competitive
position. (See Note 9 of the Notes to the Consolidated Financial Statements,
Item 8 of Part II of this report, incorporated herein by
reference.)
Item
4. Submission of Matters to a Vote of Security Holders.
None.
PART
II
Item
5. Market for Registrant’s Common Stock, Related Stockholder Matters and Issuer
Purchases of Equity Securities.
On
November 20, 2002, Nortek reorganized into a holding company structure and
each
outstanding share of capital stock of Nortek was converted into an identical
share of capital stock of the former Nortek Holdings. The former Nortek Holdings
became the successor public company, and Nortek became a wholly-owned subsidiary
of the former Nortek Holdings. As of November 20, 2002, there is no established
public trading market for Nortek’s capital stock.
NTK
Holdings was formed to hold the capital stock of Nortek Holdings. Prior to
February 10, 2005, Nortek Holdings was a direct wholly-owned subsidiary of
Investors LLC. On February 10, 2005, NTK Holdings issued 3,000 shares of
capital
stock to Investors LLC in exchange for Investor LLC’s 3,000 shares of capital
stock of Nortek Holdings. As of March 3, 2006, there were 3,000 shares of
common
stock of the Company authorized and 3,000 shares of common stock of the Company
outstanding, all of which are owned by Investors LLC.
On
February 15, 2005, the Company completed the sale of $403,000,000 aggregate
principal amount at maturity of its 10 3/4% Senior Discount Notes due March
1,
2014. The aggregate net proceeds of the offering were used to pay a dividend
of
approximately $187,000,000 to its sole stockholder, Investors LLC. In turn,
Investors LLC authorized a distribution of approximately $187,000,000 to
the
equity holders of Investors LLC in accordance with the terms of the LLC
agreement by and among Investors LLC and its members. In addition, on February
18, 2005, the Company contributed approximately $57,700,000 to Nortek Holdings,
Inc. for the purpose of making payments under the Nortek Holdings, Inc. Deferred
Compensation Plan.
The
Company’s 10 3/4% Senior Discount Notes contain certain restrictive financing
and operating covenants that restrict the ability of the Company to pay
dividends. Restricted payments to NTK Holdings and Nortek Holdings from
Nortek
are limited by the terms of Nortek’s most restrictive loan agreement, Nortek’s
Senior Secured Credit Facility. For
more
information see Note 6 of the Notes to the Consolidated Financial Statements,
Item 8 of Part II of this report, incorporated herein by reference.
See
Notes
1, 2 and 7 of the Notes to the Consolidated Financial Statements, Item 8
of Part
II of this report, incorporated herein by reference.
Item
6. Consolidated Selected Financial Data.
| |
|
For
the Periods
|
|
| |
|
Post-Acquisition
|
|
Pre-Acquisition
|
|
Pre-Recapitalization
|
|
| |
|
Jan.
1, 2005 -
|
|
Aug.
28, 2004 -
|
|
Jan.
1, 2004 -
|
|
Jan.
10, 2003 -
|
|
Jan.
1, 2003 -
|
|
Jan.
1, 2002 -
|
|
Jan.
1, 2001 -
|
|
| |
|
Dec.
31, 2005
|
|
Dec.
31, 2004
|
|
Aug.
27, 2004
|
|
Dec.
31, 2003
|
|
Jan.
9, 2003
|
|
Dec.
31, 2002
|
|
Dec.
31, 2001
|
|
| |
|
(In
millions except ratios)
|
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated
Summary of Operations:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
sales
|
|
$
|
1,959.2
|
|
$
|
561.0
|
|
$
|
1,117.9
|
|
$
|
1,480.6
|
|
$
|
24.8
|
|
$
|
1,376.5
|
|
$
|
1,286.4
|
|
|
Operating
earnings (loss)
|
|
|
236.9
|
|
|
42.1
|
|
|
32.6
|
|
|
159.4
|
|
|
(81.8
|
)
|
|
120.5
|
|
|
111.1
|
|
|
Earnings
(loss) from continuing operations
|
|
|
56.9
|
|
|
(3.6
|
)
|
|
(111.3
|
)
|
|
62.1
|
|
|
(60.9
|
)
|
|
44.2
|
|
|
33.8
|
|
|
Earnings
(loss) from discontinued operations
|
|
|
---
|
|
|
(0.5
|
)
|
|
67.4
|
|
|
12.1
|
|
|
(1.0
|
)
|
|
18.3
|
|
|
(25.8
|
)
|
|
Net
earnings (loss)
|
|
|
56.9
|
|
|
(4.1
|
)
|
|
(43.9
|
)
|
|
74.2
|
|
|
(61.9
|
)
|
|
62.5
|
|
|
8.0
|
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Financial
Position:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrestricted
cash, investments and
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
marketable securities
|
|
$
|
77.2
|
|
$
|
95.0
|
|
$
|
202.0
|
|
$
|
194.1
|
|
$
|
283.6
|
|
$
|
294.8
|
|
$
|
255.3
|
|
|
Working
capital
|
|
|
283.6
|
|
|
215.8
|
|
|
(645.2
|
)
|
|
689.8
|
|
|
830.0
|
|
|
816.3
|
|
|
745.3
|
|
|
Total
assets
|
|
|
2,404.6
|
|
|
2,264.6
|
|
|
1,730.4
|
|
|
2,100.0
|
|
|
1,781.2
|
|
|
1,830.9
|
|
|
1,819.9
|
|
|
Total
debt--
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
|
|
|
19.7
|
|
|
19.8
|
|
|
13.4
|
|
|
15.3
|
|
|
4.4
|
|
|
5.5
|
|
|
10.0
|
|
|
Long-term
|
|
|
1,628.7
|
|
|
1,350.2
|
|
|
30.4
|
|
|
1,324.6
|
|
|
953.7
|
|
|
953.8
|
|
|
959.7
|
|
|
Current
ratio
|
|
|
1.8:1
|
|
|
1.6:1
|
|
|
0.5:1
|
|
|
2.7:1
|
|
|
2.9:1
|
|
|
3.1:1
|
|
|
2.6:1
|
|
|
Debt
to equity ratio
|
|
|
8.7:1
|
|
|
4.3:1
|
|
|
0.4:1
|
|
|
6.7:1
|
|
|
3.5:1
|
|
|
3.0:1
|
|
|
3.6:1
|
|
|
Depreciation
and amortization expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
including non-cash interest
|
|
|
75.8
|
|
|
26.6
|
|
|
50.5
|
|
|
38.2
|
|
|
0.7
|
|
|
32.6
|
|
|
40.4
|
|
|
Amortization
of goodwill included in
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
depreciation and amortization expense
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
8.7
|
|
|
Capital
expenditures
|
|
|
33.7
|
|
|
15.1
|
|
|
12.8
|
|
|
24.7
|
|
|
0.2
|
|
|
19.0
|
|
|
26.9
|
|
|
Stockholder’s
investment
|
|
|
190.5
|
|
|
321.8
|
|
|
114.6
|
|
|
200.2
|
|
|
272.1
|
|
|
317.5
|
|
|
271.3
|
|
See
the
Notes to the Consolidated Financial Statements and Management’s Discussion and
Analysis of Financial Condition and Results of Operations, included elsewhere
herein regarding the effect on operating results of acquisitions, discontinued
operations and other matters. See Part II, Item 5 of this report, incorporated
herein by reference, for a discussion on certain Stockholder
Matters.
NTK HOLDINGS, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and
Results of Operations
December 31, 2005
Item
7. Management’s Discussion and Analysis of Financial Condition and Results of
Operation.
NTK
Holdings, Inc. and its continuing wholly-owned subsidiaries (individually
and
collectively the “Company” or “NTK Holdings”) are diversified manufacturers of
residential and commercial building products, operating within three reporting
segments: the Residential Ventilation Products Segment, the Home Technology
Products Segment and the Air Conditioning and Heating Products Segment.
In the
results of operations presented below, Unallocated includes corporate related
items, intersegment eliminations and certain income and expense not allocated
to
its segments. Through its reporting segments, the Company manufactures
and
sells, primarily in the United States, Canada and Europe, a wide variety
of
products for the residential and commercial construction, manufactured
housing
and the do-it-yourself (“DIY”) and professional remodeling and renovation
markets. As used in this report, the terms “Company” and “NTK Holdings” refer to
NTK Holdings, Inc., together with its subsidiaries, unless the context
indicates
otherwise. Such terms as “Company” and “NTK Holdings” are used for convenience
only and are not intended as a precise description of any of the separate
corporations, each of which manages its own affairs.
During
2005, the Company changed the composition of its reporting segments to
reflect
the Home Technology Products Segment separately. In accordance with Statement
of
Financial Standards (“SFAS”) No. 131, “Disclosures about Segments of an
Enterprise and Related Information”, the Company has restated prior period
segment disclosures to conform to the new composition.
The
Residential Ventilation Products Segment manufactures and sells room and
whole
house ventilation products and other products primarily for the residential
new
construction, DIY and professional remodeling and renovation markets. The
principal products sold by the Segment include:
| |
•
|
exhaust
fans (such as bath fans and fan, heater and light combination units),
and
|
| |
•
|
indoor
air quality products.
|
The
Home
Technology Products Segment manufactures and sells products that provide
convenience and security in residential and light commercial applications.
The
principal products sold by the Segment are:
| |
•
|
audio
/ video distribution and control
equipment,
|
| |
•
|
speakers
and subwoofers,
|
| |
•
|
security
and access control products,
|
| |
• |
power conditioners and surge
protectors, |
| |
• |
audio / video wall mounts and fixtures,
and |
The
Air
Conditioning and Heating Products Segment manufactures and sells heating,
ventilating and air conditioning systems (“HVAC”) for site-built residential and
manufactured housing structures, custom-designed commercial applications and
standard light commercial products. The principal products sold by the Segment
are:
| · |
split
system air conditioners and heat
pumps,
|
| · |
large
custom roof top cooling and heating
products.
|
The
THL Transaction
On
July
15, 2004, THL Buildco Holdings, Inc. (“THL Buildco Holdings”) and THL Buildco,
Inc. (“THL Buildco”), newly formed Delaware corporations affiliated with Thomas
H. Lee Partners L.P., entered into a stock purchase agreement with the owners
of
Nortek Holdings, Inc., Nortek’s former parent company (referred to herein as
“the former Nortek Holdings”), including affiliates of Kelso & Company, L.P.
(“Kelso”) and certain members of the Company’s management, pursuant to which THL
Buildco agreed to purchase all the outstanding capital stock of the former
Nortek Holdings. Prior to the completion of the THL Transaction described
below,
Nortek was a wholly-owned direct subsidiary of the former Nortek Holdings
and
THL Buildco was a wholly-owned direct subsidiary of THL Buildco Holdings.
On
August
27, 2004, THL Buildco purchased all of the outstanding capital stock of the
former Nortek Holdings pursuant to the stock purchase agreement in a transaction
valued at approximately $1,740,000,000 (the “Acquisition”). Immediately upon the
completion of the Acquisition, THL Buildco was merged with and into the former
Nortek Holdings with the former Nortek Holdings continuing as the surviving
corporation. The former Nortek Holdings was then merged with and into Nortek
with Nortek continuing as the surviving corporation and a wholly-owned
subsidiary of THL Buildco Holdings. THL Buildco Holdings was then renamed
Nortek
Holdings, Inc. (“Nortek Holdings”). Nortek Holdings is wholly-owned by NTK
Holdings, which is wholly-owned by THL-Nortek Investors, LLC, a Delaware
limited
liability company, (“Investors LLC”). In connection with the Acquisition,
members of Nortek management reinvested a portion of their equity interest
in
the former Nortek Holdings for an equity interest in Investors LLC and interests
in a deferred compensation plan established by Nortek Holdings (the Acquisition
and the above events are collectively referred to herein as the “THL
Transaction”) (see Note 2 of the Notes to the Consolidated Financial Statements
included elsewhere herein).
NTK
Holdings is a Delaware corporation that was formed to hold the capital
stock of
Nortek Holdings. NTK Holdings became the parent company of Nortek Holdings
on
February 10, 2005. Nortek Holdings is a wholly-owned subsidiary of NTK
Holdings
and Nortek is a wholly-owned subsidiary of Nortek Holdings.
The
Recapitalization
On
January 9, 2003, the former Nortek Holdings was acquired by certain affiliates
of Kelso and certain members of Nortek’s management in a transaction valued at
approximately $1,600,000,000, including all of Nortek’s indebtedness (the
“Recapitalization”). As a result of the Recapitalization, the former Nortek
Holdings shares of capital stock were no longer publicly traded. For more
information on the Recapitalization see Note 2 of the Notes to the Consolidated
Financial Statements included elsewhere herein.
Financial
Statement Presentation
The
consolidated financial statements included herein for periods prior to January
9, 2003 (“Pre-Recapitalization”) reflect the financial position, results of
operations and cash flows of Nortek, Inc. and its wholly-owned subsidiaries.
The
periods subsequent to January 9, 2003 and prior to August 28, 2004
(“Pre-Acquisition”) reflect the financial position, results of operations and
cash flows of the former Nortek Holdings, Inc. and all of its wholly-owned
subsidiaries (the predecessor company). Subsequent to August 27, 2004 and
prior
to February 10, 2005, the consolidated financial statements included herein
reflect the financial position, results of operations and cash flows of Nortek
Holdings, Inc. and all of its wholly-owned subsidiaries and the periods
subsequent to February 9, 2005 reflect the financial position, results of
operations and cash flows of NTK Holdings and its wholly-owned subsidiaries
(combined the “Post-Acquisition” periods).
Discontinued
Operations
On
July
31, 2004, the Company sold the capital stock of its wholly-owned subsidiary,
La
Cornue SAS (“La Cornue”). La Cornue was included in the Company’s Residential
Ventilation Products Segment.
On
February 12, 2004, the Company’s wholly-owned subsidiary, WDS, LLC, sold all of
the capital stock of Ply Gem Industries, Inc. (“Ply Gem”). The results of
operations of the operating subsidiaries of Ply Gem comprised the Company’s
entire Window, Doors and Siding Products (“WDS”) reporting segment and the
corporate expenses of Ply Gem which were previously included in Unallocated
in
the Company’s segment reporting.
The
results of La Cornue and Ply Gem have been excluded from earnings from
continuing operations and are classified separately as discontinued operations
for all periods presented. Accordingly, for purposes of this presentation of
Management’s Discussion and Analysis of Financial Condition and Results of
Operations, all discussion relates to the results from continuing operations
(see Notes 10 and 11 of the Notes to the Consolidated Financial Statements
included elsewhere herein).
Acquisitions
On
December 9, 2005, the Company, through its indirect wholly-owned subsidiary,
Linear LLC (“Linear”), acquired the stock of GTO, Inc. (“GTO”). GTO is located
in Tallahassee, FL and designs, manufactures and sells automatic electric
gate
openers and access control devices to enhance the security and convenience
of
both residential and commercial property fences.
On
August
26, 2005, the Company, through its indirect wholly-owned subsidiary, Elan
Home
Systems, LLC. (“Elan”), acquired the assets and certain liabilities of Sunfire
Corporation (“Sunfire”). Sunfire is located in Snohomish, WA and sells and
designs home audio and home cinema amplifiers, receivers and subwoofers.
On
August
8, 2005, the Company, through its indirect wholly-owned subsidiary, Nortek
(UK)
Limited (“Nortek UK”), acquired the stock of Imerge Limited (“Imerge”). Imerge
is located in Cambridge, United Kingdom and designs, manufactures and sells
hard
disk media players and multi-room audio servers.
On
July
15, 2005, the Company, through Linear, acquired the assets and certain
liabilities of Niles Audio Corporation (“Niles”). Niles is located in Miami, FL
and sells and designs products that provide customers with innovative solutions
for whole-house distribution and integration of audio and video systems,
including speakers, receivers, amplifiers, automation devices, controls and
accessories.
On
June
13, 2005, the Company, through its wholly-owned subsidiary Nordyne Inc.
(“Nordyne”), acquired the assets and certain liabilities of International
Marketing Supply, Inc. (“IMS”). IMS is located in Miami, FL and sells heating,
ventilation and air-conditioning equipment to customers in Latin America.
On
April
26, 2005, the Company, through Linear, acquired the stock of Panamax. Panamax
is
located in Petaluma, CA and sells and designs innovative power conditioning
and
surge protection products that prevent loss or damage of home and small business
equipment due to power disturbances.
On
December 17, 2004, the Company, through Linear, acquired the assets and certain
liabilities of M&S Systems, LP (“M&S”). M&S is located in Dallas, TX
and principally designs, manufactures and sells distributed audio and
communication equipment and speakers.
On
March
9, 2004, the Company, through Linear, acquired the stock of OmniMount Systems,
Inc. (“OmniMount”). OmniMount is located in Phoenix, AZ and sells and designs
speaker and video mountings and other products to maximize the home theater
experience.
On
December 15, 2003, the Company, through Linear, acquired the stock of Operator
Specialty Company, Inc. (“OSCO”). OSCO is located in Casnovia, MI and
manufactures and sells gate operators and access control devices.
On
July
11, 2003, the Company, through Linear, acquired the stock of SpeakerCraft,
Inc.
(“SPC”). SPC is located in Riverside, CA and
manufactures and sells in-wall and in-ceiling speakers, amplifiers and
subwoofers.
On
January 17, 2003, the Company, through Linear, acquired the ownership units
of
Elan. Elan is located in Lexington, KY and manufactures and sells home
automation and audio video distribution equipment.
These
acquisitions have been accounted for under the purchase method of accounting
and
are included in the Company’s Home Technology Products Segment, with the
exception of IMS, which is recorded in the Company’s Air Conditioning and
Heating Products Segment. Accordingly, the results of these acquisitions
are
included in the Company’s consolidated results since the date of their
acquisition (see “Liquidity and Capital Resources” and Note 3 of the Notes to
the Consolidated Financial Statements included elsewhere herein).
Critical
Accounting Policies
The
Company’s discussion and analysis of its financial condition and results of
operations are based upon the Company’s Consolidated Financial Statements, which
have been prepared in accordance with U.S. generally accepted accounting
principles. (See the Notes to the Consolidated Financial Statements included
elsewhere herein.) Certain of the Company’s accounting policies require the
application of judgment in selecting the appropriate assumptions for calculating
financial estimates. By their nature, these judgments are subject to an inherent
degree of uncertainty. The Company periodically evaluates the judgments and
estimates used for its critical accounting policies to ensure that such
judgments and estimates are reasonable for its interim and year-end reporting
requirements. These judgments and estimates are based on the Company’s
historical experience, current trends and other information available, as
appropriate. If different conditions result from those assumptions used in
the
Company’s judgments, the results could be materially different from the
Company’s estimates. The Company’s critical accounting policies
include:
Revenue
Recognition and Related Expenses
The
Company recognizes sales based upon shipment of products to its customers and
has procedures in place at each of its subsidiaries to ensure that an accurate
cut-off is obtained for each reporting period.
Allowances
for cash discounts, volume rebates, and other customer incentive programs,
as
well as gross customer returns, among others, are recorded as a reduction of
sales at the time of sales based upon the estimated future outcome. Cash
discounts, volume rebates and other customer incentive programs are based upon
certain percentages agreed to with the Company’s various customers, which are
typically earned by the customer over an annual period. The Company records
periodic estimates for these amounts based upon the historical results to date,
estimated future results through the end of the contract period and the
contractual provisions of the customer agreements. For calendar year customer
agreements, the Company is able to adjust its periodic estimates to actual
amounts as of December 31 each year based upon the contractual provisions of
the
customer agreements. For those customers who have agreements that are not on
a
calendar year cycle, the Company records estimates at December 31 consistent
with the above described methodology. As a result, at the end of any given
reporting period, the amounts recorded for these allowances are based upon
estimates of the likely outcome of future sales with the applicable customers
and may require adjustment in the future if the actual outcome differs. The
Company believes that its procedures for estimating such amounts are reasonable
and historically have not resulted in material adjustments in subsequent periods
when the estimates are adjusted to the actual amounts.
Customer
returns are recorded on an actual basis throughout the year and also include
an
estimate at the end of each reporting period for future customer returns related
to sales recorded prior to the end of the period. The Company generally
estimates customer returns based upon the time lag that historically occurs
between the date of the sale and the date of the return while also factoring
in
any new business conditions that might impact the historical analysis such
as
new product introduction. The Company believes that its procedures for
estimating such amounts are reasonable and historically have not resulted in
material adjustments in subsequent periods when the estimates are adjusted
to
the actual amounts.
Provisions
for the estimated costs for future product warranty claims and bad debts are
recorded in cost of sales and selling, general and administrative expense,
respectively, at the time a sale is recorded. The amounts recorded are generally
based upon historically derived percentages while also factoring in any new
business conditions that might impact the historical analysis such as new
product introduction for warranty and bankruptcies of particular customers
for
bad debts. The Company also periodically evaluates the adequacy of its reserves
for warranty and bad debts recorded in its consolidated balance sheet as a
further test to ensure the adequacy of the recorded provisions. Warranty claims
can extend far into the future and bad debt analysis often involves subjective
analysis of a particular customer’s ability to pay. As a result, significant
judgment is required by the Company in determining the appropriate amounts
to
record and such judgments may prove to be incorrect in the future. The Company
believes that its procedures for estimating such amounts are reasonable and
historically have not resulted in material adjustments in subsequent periods
when the estimates are adjusted to the actual amounts.
Inventory
Valuation
The
Company values inventories at the lower of the cost or market with approximately
50% of the Company's inventory as of December 31, 2005 valued using the
last-in, first-out (“LIFO”) method and the remainder valued using the first-in,
first-out (“FIFO”) method. In connection with both LIFO and FIFO inventories,
the Company will record provisions, as appropriate, to write-down obsolete
and
excess inventory to estimated net realizable value. The process for evaluating
obsolete and excess inventory often requires the Company to make subjective
judgments and estimates concerning future sales levels, quantities and prices
at
which such inventory will be able to be sold in the normal course of business.
Accelerating the disposal process or incorrect estimates of future sales
potential may cause the actual results to differ from the estimates at the
time
such inventory is disposed or sold. The Company believes that its procedures
for
estimating such amounts are reasonable and historically have not resulted in
material adjustments in subsequent periods when the estimates are adjusted
to
the actual amounts.
Prepaid
Income Tax Assets and Deferred Tax Liabilities
The
Company accounts for income taxes using the liability method in accordance
with
SFAS No. 109 “Accounting for Income Taxes” (“SFAS No. 109”), which requires that
the deferred tax consequences of temporary differences between the amounts
recorded in the Company’s Consolidated Financial Statements and the amounts
included in the Company’s federal, state and foreign income tax returns to be
recognized in the balance sheet. As the Company generally does not file their
income tax returns until well after the closing process for the December 31
financial statements is complete, the amounts recorded at December 31 reflect
estimates of what the final amounts will be when the actual tax returns are
filed for that fiscal year. In addition, estimates are often required with
respect to, among other things, the appropriate state income tax rates to use
in
the various states that the Company and its subsidiaries are required to file,
the potential utilization of operating and capital loss carry-forwards for
both
federal and state income tax purposes and valuation allowances required, if
any,
for tax assets that may not be realizable in the future. The Company requires
each of its subsidiaries to submit year-end tax information packages as part
of
the year-end financial statement closing process so that the information used
to
estimate the deferred tax accounts at December 31 is reasonably consistent
with
the amounts expected to be included in the filed tax returns. SFAS No. 109
requires balance sheet classification of current and long-term deferred income
tax assets and liabilities based upon the classification of the underlying
asset
or liability that gives rise to a temporary difference. As such, the company
has
historically had prepaid income tax assets due principally to the unfavorable
tax consequences of recording expenses for required book reserves for such
things as, among others, bad debts inventory valuation, insurance, product
liability and warranty that cannot be deducted for income tax purposes until
such expenses are actually paid. The Company believes that the amounts recorded
as prepaid income tax assets will be recoverable through future taxable income
generated by the Company, although there can be no assurance that all recognized
prepaid income tax assets will be fully recovered. The Company believes the
procedures and estimates used in its accounting for income taxes are reasonable
and in accordance with established tax law. The income tax estimates used have
historically not resulted in material adjustments to income tax expense in
subsequent periods when the estimates are adjusted to the actual filed tax
return amounts, although there may be reclassifications between the current
and
long-term portion of the deferred tax accounts.
Goodwill
and Other Long-Lived Assets
The
Company accounts for acquired goodwill and intangible assets in accordance
with
SFAS No. 141 which involves judgment with respect to the determination of the
purchase price and the valuation of the acquired assets and liabilities in
order
to determine the final amount of goodwill. The Company believes that the
estimates that it has used to record its acquisitions are reasonable and in
accordance with SFAS No. 141.
The
Company accounts for acquired goodwill and goodwill impairment in accordance
with SFAS No. 142, “Goodwill and Other Intangible Assets” (“SFAS No. 142”) (see
Note 1 of the Notes to the Consolidated Financial Statements included elsewhere
herein) which requires considerable judgment in the valuation of acquired
goodwill and the ongoing evaluation of goodwill impairment. The Company
primarily utilizes a discounted cash flow approach in order to value the
Company’s reporting units required to be tested for impairment by SFAS No. 142,
which requires that the Company forecast future cash flows of the reporting
units and discount the cash flow stream based upon a weighted average cost
of
capital that is derived from comparable companies within similar industries.
The
discounted cash flow calculations also include a terminal value calculation
that
is based upon an expected long-term growth rate for the applicable reporting
unit. The Company believes that its procedures for applying the discounted
cash
flow methodology, including the estimates of future cash flows, the weighted
average cost of capital and the long-term growth rate, are reasonable and
consistent with market conditions at the time of the valuation. The Company
has
evaluated the carrying value of segment goodwill and determined that no
impairment existed at either the date of the Acquisition or its annual
evaluation date of October 1, 2005. Accordingly, no adjustments were required
to
be recorded in the Company’s Consolidated Financial Statements.
The
Company performs an annual evaluation for the impairment of long-lived assets,
other than goodwill, based on expectations of non-discounted future cash
flows
compared to the carrying value of the subsidiary in accordance with SFAS
No.
144. The Company’s cash flow estimates are based upon historical cash flows, as
well as future projected cash flows received from subsidiary management in
connection with the annual Company wide planning process, and include a terminal
valuation for the applicable subsidiary based upon a multiple of earnings
before
interest expense, net, depreciation and amortization expense and income taxes
(“EBITDA”). The Company estimates the EBITDA multiple by reviewing comparable
company information and other industry data. The Company believes that its
procedures for estimating gross futures cash flows, including the terminal
valuation, are reasonable and consistent with current market conditions.
The
Company historically has not had any material impairment
adjustments.
Pensions
and Post Retirement Health Benefits
The
Company’s accounting for pensions, including supplemental executive retirement
plans, and post retirement health benefit liabilities requires the estimating
of
such items as the long-term average return on plan assets, the discount rate,
the rate of compensation increase and the assumed medical cost inflation
rate.
These estimates require a significant amount of judgment as items such as
stock
market fluctuations, changes in interest rates, plan amendments and curtailments
can have a significant impact on the assumptions used and therefore on the
ultimate final actuarial determinations for a particular year. The Company
believes the procedures and estimates used in its accounting for pensions
and
post retirement health benefits are reasonable and consistent with acceptable
actuarial practices in accordance with U.S. generally accepted accounting
principles.
Insurance
Liabilities
The
Company records insurance liabilities and related expenses for health, workers
compensation, product and general liability losses and other insurance reserves
and expenses in accordance with either the contractual terms of its policies
or,
if self-insured, the total liabilities that are estimable and probable as of
the
reporting date. Insurance liabilities are recorded as current liabilities to
the
extent they are expected to be paid in the succeeding year with the remaining
requirements classified as long-term liabilities. The accounting for
self-insured plans requires that significant judgments and estimates be made
both with respect to the future liabilities to be paid for known claims and
incurred but not report claims as of the reporting date. The Company considers
historical trends when determining the appropriate insurance reserves to record
in the consolidated balance sheet. In certain cases where partial insurance
coverage exists, the Company must estimate the portion of the liability that
will be covered by existing insurance policies to arrive at the net expected
liability to the Company. The Company believes that its procedures for
estimating such amounts are reasonable and historically have not resulted in
material adjustments in subsequent periods when the estimated amounts are
adjusted to the actual insurance claims paid.
Contingencies
The
Company is subject to contingencies, including legal proceedings and claims
arising out of its business that cover a wide range of matters, including,
among
others, environmental matters, contract and employment claims, worker
compensations claims, product liability, warranty and modification, adjustment
or replacement of component parts of units sold, which may include product
recalls. Product liability, environmental and other legal proceedings also
include matters with respect to businesses previously owned.
The
Company provides accruals for direct costs associated with the estimated
resolution of contingencies at the earliest date at which it is deemed probable
that a liability has been incurred and the amount of such liability can be
reasonably estimated. Costs accrued have been estimated based upon an analysis
of potential results, assuming a combination of litigation and settlement
strategies and outcomes.
While
it
is impossible to ascertain the ultimate legal and financial liability with
respect to contingent liabilities, including lawsuits, the Company believes
that
the aggregate amount of such liabilities, if any, in excess of amounts provided
or covered by insurance, will not have a material adverse effect on the
consolidated financial position or results of operations of the Company. It
is
possible, however, that future results of operations for any particular future
period could be materially affected by changes in our assumptions or strategies
related to these contingencies or changes out of the Company’s
control.
Overview
We
are a
leading, diversified manufacturer and distributor of building products used
in
the residential remodeling, replacement and new construction markets (including
the manufactured housing industry) and to a lesser extent the commercial
construction and replacement markets. We have a diverse number of products
that
serve multiple markets through various distribution channels. We operate through
three reporting segments: the Residential Ventilation Products Segment (“RVP”),
the Home Technology Products Segment (“HTP”) and the Air Conditioning and
Heating Products Segment (“HVAC”). For the year ended December 31, 2005, RVP
accounted for about 41% of consolidated net sales and 47% of operating earnings
before unallocated expense, HTP accounted for about 18% of consolidated net
sales and 27% of operating earnings before unallocated expense and HVAC
accounted for the balance. A little more than half of our business is believed
to be used in the replacement and remodeling markets and the balance serves
the
new construction markets. The manufactured housing and commercial construction
industries have seen significant declines in the level of business activity
over
the past several years, which have had an adverse effect on our business,
particularly for our HVAC Segment. The level of new construction, replacement
and remodeling activity in site-built residential markets has been strong over
the past several years and has contributed positively to our operating
performance.
Key
industry activity affecting our businesses in the United States for the past
three years was as follows:
| |
|
%
Increase (Decrease)
|
|
| |
|
Source
|
|
|
|
|
|
|
|
| |
|
of
data
|
|
2005
|
|
2004
|
|
2003
|
|
|
Residential
construction spending
|
|
|
1
|
|
10
|
.0%
|
|
20
|
.0%
|
|
13
|
.0%
|
|
|
Single
family housing starts
|
|
|
1
|
|
7
|
.0%
|
|
7
|
.0%
|
|
10
|
.0%
|
|
|
New
home sales
|
|
|
1
|
|
7
|
.0%
|
|
11
|
.0%
|
|
12
|
.0%
|
|
|
Residential
improvement spending
|
|
|
1
|
|
4
|
.0%
|
|
13
|
.0%
|
|
6
|
.0%
|
|
|
Air
conditioning and heat pump shipments
|
|
|
2
|
|
16
|
.0%
|
|
9
|
.0%
|
|
1
|
.0%
|
|
|
Manufactured
housing shipments
|
|
|
1,3
|
|
12
|
.0%
|
|
---
|
%
|
|
(22
|
.0)%
|
|
|
Non-residential
construction spending
|
|
|
1
|
|
3
|
.0%
|
|
7
|
.0%
|
|
(7
|
.0)%
|
|
Based
on
data accumulated by the Air Conditioning and Refrigeration Institute, industry
wide inventory on hand (in units) at December 31, 2005 were estimated to be
up
about 10% for distributors and about 32% for manufacturers.
Source
of data:
| (2) |
Air
Conditioning and Refrigeration
Institute
|
| (3) |
Manufactured
Housing Institute
|
Our
manufactured housing business for 2005 was about 7% of total sales versus about
13% in 2000. Our HVAC business serving the commercial construction market was
about 14% of consolidated sales in 2005 versus 17% of consolidated sales in
2004. A large portion of our manufacturing activity and customers are located
in
the United States although we do have manufacturing activity and sell product
to
customers in Canada, Europe and China, among other countries. Our foreign sales
in 2005 were about 18% of total sales. About 15% of total sales are through
retail distribution and about 51% is to distributors and wholesalers and similar
channels of distribution.
Principal
RVP products include kitchen range hoods, exhaust fans (such as bath fans and
fan, heater and light combination units) and indoor air quality products where
we have large market shares in North America. Principal HTP products include
audio / video distribution and control equipment, speakers and subwoofers and
security and access control products. Principal HVAC products include split
system air conditioners and heat pumps, furnaces, air handlers and large custom
roof top cooling and heating products. We have leading market shares in HVAC
products in both the manufactured housing and custom and semi-custom commercial
markets that we serve. Across our segments we have employed a strategy of using
well-recognized and respected brand names (both owned and licensed) and have
introduced new products and made selected acquisitions to improve growth and
profitability. As a result, we have experienced stable and strong cash flow
from
continuing operations during the past three years. In both the manufactured
housing and commercial HVAC products markets, we have maintained our market
shares and we believe that we can quickly respond to rebounds in these markets
over the long term.
In
late
2003 through 2004, our HVAC business serving the residential markets undertook
a
significant facilities rationalization and restructuring. This project included
the start-up of a new 368,000 square foot manufacturing facility in Dyersburg,
TN, closure of a 214,000 square foot manufacturing facility in St. Louis, MO
and
expansion of two other locations, as well as, significant changes in
distribution and warehouse facilities. The relocation of production lines to
Dyersburg, TN and other changes in production, as well as, the ramp up of
production and training of new workforces resulted in unfavorable charges
(including severance and production inefficiencies) to operating results of
about $10,200,000 in 2004 in the HVAC segment. During 2005, we saw a return
to
expected production levels.
In
2006
we expect manufactured housing and commercial construction markets to remain
weak, residential new construction to decline moderately and remodeling and
replacement activity to continue to grow moderately. We also expect that our
brand strategy for residential site-built HVAC products will allow us to gain
market share. In HTP in 2006 we expect to continue to grow and improve the
profitability of our home technology products through the integration of our
acquisitions. In 2006 we also expect to achieve further cost reductions in
raw
material and purchased components in all our businesses through our strategic
sourcing initiatives. During 2003, 2004 and 2005 we experienced significant
increases in the price we pay for steel, copper, aluminum and steel fabricated
parts. We also buy some component parts from suppliers that use steel, copper
and aluminum in their manufacturing process. While we have had some success
in
raising prices to our customers for some products (including a January 2005
price increase on certain HVAC product for residential site-built markets),
as a
result of higher material costs, there is no assurance that we will be able
to
offset all material cost increases in 2006. We also rely on our strategic
sourcing initiatives to mitigate the effect of higher material costs. Material
cost as a percentage of net sales has been fairly stable reflecting higher
material costs, partially offset from price increases and benefits realized
from
our strategic sourcing initiatives, and was approximately 43.7% in 2003, 44.4%
in 2004 and 44.5% in 2005.
During
the past three years, the following have been the major Company purchases (on
a
consolidated basis), expressed as a percentage of consolidated net sales, of
raw
materials and purchased components:
| |
|
For
the year ended December 31,
|
|
| |
|
2005
|
|
2004
|
|
2003
|
|
| |
|
|
|
|
|
|
|
|
Steel
|
|
6
|
.5%
|
|
7
|
.0%
|
|
5
|
.4%
|
|
|
Compressors
|
|
4
|
.8%
|
|
4
|
.4%
|
|
4
|
.5%
|
|
|
Motors
|
|
4
|
.9%
|
|
6
|
.2%
|
|
6
|
.5%
|
|
|
Copper
|
|
2
|
.4%
|
|
1
|
.8%
|
|
1
|
.2%
|
|
|
Aluminum
|
|
0
|
.9%
|
|
0
|
.9%
|
|
0
|
.9%
|
|
|
Packaging
|
|
1
|
.5%
|
|
1
|
.0%
|
|
1
|
.0%
|
|
In
the
following discussion of the results of operations for the year 2005 as compared
to 2004 we will talk about the significance of a number of factors that affected
our operations including, among others, the following:
| · |
The
effect of acquisitions in the HTP
Segment
|
| · |
The
softness in commercial HVAC markets
|
| · |
The
effect of changes in foreign exchange
rates
|
| · |
The
effect of the increase in the minimum seasonal energy rating for
residential air conditioners
|
| · |
The
effect of the Acquisition and
Recapitalization
|
In
2005,
we spent approximately $33,700,000 on capital expenditures. In 2006, we expect
to spend $45,000,000 on capital expenditures and expect to finance a portion
(particularly foreign investments) with borrowings by our foreign subsidiaries.
A portion of these capital expenditures together with cash investments in
foreign subsidiaries in 2005 and 2006 will allow our businesses to expand
their
manufacturing capacity, manufacture products at lower costs and broaden our
markets served. Among other expenditures, our RVP Segment acquired an
approximate 200,000 square foot manufacturing facility in Chenjian, Huizhou,
The
Peoples Republic of China (“PRC”) in late 2005 and began the construction of a
150,000 square foot manufacturing facility in Gliwice, Poland which is expected
to be completed in late 2006. In 2005, the Company’s HTP Segment expanded its
Shenzhen PRC manufacturing facilities from 72,000 square feet to 142,000
square
feet of leased space to support future growth. In January 2006, the Company’s
HVAC business (for commercial products) made a further investment in its
Anji,
PRC operations and expects to acquire and relocate its operations into a
202,000
square foot manufacturing facility in the second half of 2006.
In
our
discussion of Liquidity and Capital Resources we have reviewed a number of
transactions and summarized and analyzed our cash flow activity during the
past
year. We began the year with approximately $95,000,000 of unrestricted cash
and
investments and ended the year with about $77,200,000. We have also included
information with respect to our future cash flow requirements. During the
past
year we had a number of transactions that significantly affected our financial
position including acquisitions in the HTP and HVAC segments. In 2005, we
used
about $117,200,000 of our cash for acquisitions to further grow our businesses
primarily in the HTP Segment.
At
December 31, 2005, our total indebtedness was about $1,648,400,000 and was
about
$1,370,000,000 at December 31, 2004. The primary reason for the increase
was the
issuance of our 10 3/4% Senior Discount Notes in 2005, which had an outstanding
balance of approximately $274,600,000 as of December 31, 2005. The Senior
Secured Credit Facility provides the Company and its subsidiaries with a
$100,000,000 revolving credit facility with a maturity in August 2010 that
includes both a letter of credit sub-facility and swing line loan sub-facility.
At December 31, 2005, the Company had approximately $70,400,000 of borrowing
availability under the U.S. portion of its revolving credit facility and
approximately $10,000,000 of borrowing availability under the Canadian credit
facility. There were no outstanding borrowings under the U.S. or Canadian
portions of the revolving credit facility at December 31, 2005. In 2006 we
expect to amend Nortek’s Senior Secured Credit Facility to modify certain
covenants and expand the revolver to $200,000,000. See “Liquidity and Capital
Resources” for further discussion on our total indebtedness, including future
changes to the terms of Nortek’s Senior Secured Credit Facility.
Results
of Operations
The
year
ended December 31, 2005 has been compared to the combined year ended December
31, 2004 Pre-Acquisition and Post-Acquisition periods and the combined year
ended December 31, 2003 Pre-Recapitalization and Pre-Acquisition periods for
purposes of management’s discussion and analysis of the results of operations.
Any references below to the years ended 2004 and 2003 shall refer to the
combined periods.
The
table
below presents the combined year ended December 31, 2004 Pre-Acquisition and
Post-Acquisition periods for purposes of management’s discussion and analysis of
the results of operations.
| |
|
Pre-Acquisition
|
|
Post-Acquisition
|
|
Combined
|
|
|
|
|
Jan.
1, 2004 -
|
|
Aug.
28, 2004 -
|
|
Year
Ended
|
|
|
|
|
Aug.
27, 2004
|
|
Dec.
31, 2004
|
|
Dec.
31, 2004
|
|
| |
|
(Dollar
amounts in millions)
|
|
|
Net
sales:
|
|
|
|
|
|
|
|
|
Residential
ventilation products
|
|
$
|
496.9
|
|
$
|
268.5
|
|
$
|
765.4
|
|
|
Home
technology products
|
|
|
127.0
|
|
|
80.5
|
|
|
207.5
|
|
|
Air
conditioning and heating products
|
|
|
494.0
|
|
|
212.0
|
|
|
706.0
|
|
|
Consolidated net sales
|
|
$
|
1,117.9
|
|
$
|
561.0
|
|
$
|
1,678.9
|
|
|
Operating
earnings (loss):
|
|
|
|
|
|
|
|
|
|
|
|
Residential
ventilation products
|
|
$
|
79.9
|
|
$
|
39.7
|
|
$
|
119.6
|
|
|
Home
technology products
|
|
|
22.9
|
|
|
12.9
|
|
|
35.8
|
|
|
Air
conditioning and heating products
|
|
|
25.5
|
|
|
(2.6
|
)
|
|
22.9
|
|
|
Subtotal
|
|
|
128.3
|
|
|
50.0
|
|
|
178.3
|
|
|
Unallocated:
|
|
|
|
|
|
|
|
|
|
|
|
Expenses
and charges arising from the Acquisition
|
|
|
(38.5
|
)
|
|
---
|
|
|
(38.5
|
)
|
|
Stock-based
compensation charges
|
|
|
(36.4
|
)
|
|
(0.1
|
)
|
|
(36.5
|
)
|
|
Foreign
exchange (loss) gain on intercompany debt
|
|
|
(0.2
|
)
|
|
0.1
|
|
|
(0.1
|
)
|
|
Unallocated,
net
|
|
|
(20.6
|
)
|
|
(7.9
|
)
|
|
(28.5
|
)
|
|
Consolidated operating earnings
|
|
$
|
32.6
|
|
$
|
42.1
|
|
$
|
74.7
|
|
| |
|
|
|
|
|
|
|
|
|
|
|
Depreciation
and amortization expense:
|
|
|
|
|
|
|
|
|
|
|
|
Residential
ventilation products
|
|
$
|
11.2
|
|
$
|
8.3
|
|
$
|
19.5
|
|
|
Home
technology products
|
|
|
4.2
|
|
|
7.1
|
|
|
11.3
|
|
|
Air
conditioning and heating products
|
|
|
10.0
|
|
|
6.7
|
|
|
16.7
|
|
|
Unallocated
|
|
|
0.4
|
|
|
0.4
|
|
|
0.8
|
|
| |
|
$
|
25.8
|
|
$
|
22.5
|
|
$
|
48.3
|
|
| |
|
|
|
|