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, 2007
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: 333-119902
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Nortek,
Inc.
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(exact
name of registrant as specified in its charter)
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Delaware
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05-0314991
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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 [X] No
[_]
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 [_] No [X]
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, a non-accelerated filer or a smaller reporting company (as
defined in Rule 12b-2 of the Act).
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Large
accelerated filer [_]
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Accelerated
filer [_]
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Non-accelerated
filer [X]
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Smaller
reporting company [_]
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Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).
Yes
[_] No
[X]
There
is no established public trading market for any of the common stock of the
Company. The aggregate market value of voting stock held by
non-affiliates is zero.
The
number of shares of Common Stock outstanding as of April 11, 2008 was
3,000.
NORTEK,
INC. AND SUBSIDIARIES
December
31, 2007
PART
I
Item
1. Business.
General
Nortek,
Inc. (the “Company” or “Nortek”) is a leading diversified manufacturer of
innovative, branded residential and commercial products, operating within three
reporting segments:
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the
Residential Ventilation Products, or RVP,
segment,
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the
Home Technology Products, or HTP, segment,
and
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the
Air Conditioning and Heating Products, or HVAC,
segment.
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Through
these segments, the Company manufactures and sells, primarily in the United
States, Canada and Europe, a wide variety of products for the professional
remodeling and replacement markets, the residential and commercial construction
markets, the manufactured housing market and the do-it-yourself, or DIY,
market.
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 “Nortek” refer to Nortek, Inc., together
with its subsidiaries, unless the context indicates otherwise. Such
terms as “Company” and “Nortek” 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 9 of the Notes to the Consolidated Financial Statements,
Item 8 of Part II of this report, incorporated herein by reference.
Our
Business Segments
Residential
Ventilation Products Segment
The
Company’s Residential Ventilation Products segment primarily manufactures and
distributes room and whole house ventilation products and other products
primarily for the professional remodeling and replacement markets, residential
new construction market and DIY market. The principal products of the
segment, which are sold under the Broan®, NuTone®, Venmar®, Best® and Zephyr®
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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indoor
air quality products.
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The
Company is one of the world’s largest suppliers of residential range hoods and
exhaust fans, and is the largest supplier of these products in North
America. The Company is also one of the leading suppliers in Europe
of luxury “Eurostyle” range hoods. The Company’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 the Company offers are primarily used in
bathrooms to remove odors and humidity and include combination units, which may
have lights, heaters or both. The Company’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 Home
Ventilating Institute in the United States certifies the Company’s range hood
and exhaust fan products, as well as its indoor air quality
products.
The
Company’s sales of kitchen range hoods and exhaust fans accounted for
approximately 18.3% and 12.9%, respectively, of the Company’s consolidated net
sales in 2007, approximately 17.9% and 14.6%, respectively, of the Company’s
consolidated net sales in 2006 and approximately 18.3% and 15.8%, respectively,
of the Company’s consolidated net sales in 2005.
The
Company is one of the largest suppliers in North America of indoor air quality
products, which include air exchangers, as well as heat or energy recovery
ventilators (HRVs or ERVs, respectively) 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 Company also sells powered attic ventilators, which
alleviate heat built up in attic areas and reduce 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
Company sells other products in this segment, including among others, door
chimes, medicine cabinets, trash compactors, ceiling fans and central vacuum
systems, by leveraging its strong brand names and distribution
network.
The
Company sells the products in its RVP segment 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®, Best®
and Zephyr® brand names, among others. Private label customers
accounted for approximately 24.5% of the net sales of this segment in
2007.
A key
component of the Company’s operating strategy for this segment 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 its 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 its status as a low-cost producer provides the segment
with a competitive advantage.
The
Company’s primary residential ventilation products compete with many domestic
and international suppliers in various markets. The Company competes
with suppliers of competitive products primarily on the basis of quality,
distribution, delivery and price. Although the Company believes it
competes favorably with other suppliers of residential ventilation products,
some of the Company’s competitors have greater financial and marketing resources
than this segment of the Company’s business.
Product
manufacturing in the RVP segment 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.
The
Company is in the process of moving production of certain of its product lines
from its facilities in the U.S., Canada and Italy to facilities in regions with
lower labor costs. The Company has moved and is continuing to move
the production of certain bath fan and other products to its facility in China,
which it acquired in late 2005. In addition, the Company is in the
process of moving certain range hood and motor production from its facilities in
Italy to its facilities in Poland and in 2007 built a new facility for the
production of range hoods in Mexico, which commenced operations in the first
quarter of 2008. The Company is also in the process of consolidating
its production of medicine cabinets from its facilities in Los Angeles,
California and Union, Illinois to its facility in Cleburne, Texas (previously
used to manufacture range hoods). As a result of these production
moves, the Company has closed its operations in Los Angeles, CA and Cincinnati,
Ohio, as well as certain operations in Italy.
The
Company’s RVP segment had 15 manufacturing plants and employed approximately
3,000 full-time people as of December 31, 2007, of which approximately 363 are
covered by collective bargaining agreements which expired in 2007 and
approximately 12 are covered by collective bargaining agreements which expire in
2008. See “Employees” for more information regarding the Company’s
collective bargaining agreements which expired in 2007.
Home
Technology Products Segment
The
Company’s Home Technology Products segment manufactures and distributes a broad
array of products designed to provide convenience and security for residential
and certain commercial applications. The principal products the
Company sells in this segment are:
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audio/video
distribution and control equipment,
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speakers
and subwoofers,
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security
and access control products,
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power
conditioners and surge protectors,
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audio/video
wall mounts and fixtures,
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lighting
and home automation controls, and
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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®,
IntelliControl® ICS, Elan®, Via®, HomeLogic®, ATON™, SpeakerCraft®, JobSite®,
Proficient Audio Systems®, Sunfire®, Imerge®, Xantech®, M&S Systems® and
Channel Plus® brand names.
Through
its 2007 acquisition of Home Logic, LLC, the segment has expanded its offering
of control equipment to include software and hardware that facilitates the
control of third party residential subsystems such as home theatre, whole-house
audio, climate control, lighting, security and irrigation. These
products are being sold under the Home Logic® brand name and are now being
offered in conjunction with Elan®’s product offerings.
The
segment’s security and access control products include residential and certain
commercial intrusion protection systems, components for closed circuit
television systems (cameras and housings), garage and gate operators and devices
to gain entry to buildings and gated properties such as radio transmitters and
contacts, keypads and telephone entry systems. These products are
sold under the Linear®, GTO/PRO®, Mighty Mule®, OSCO®, Aigis®, AllStar®, IEI®
and other private label brand names, as well as Westinghouse®, which is
licensed.
Other
products in this segment include power conditioners and surge protectors sold
under the Panamax® and Furman® brand names, audio/video wall mounts and fixtures
sold under the OmniMount® brand name, structured wiring products sold under the
OpenHouse® and Channel Plus® brand names, audio/video products distributing,
extending and converting signals to multiple display screens under the Magenta™
and Gefen® brand names, radio frequency control products and accessories sold
under the iJet® brand name for use with Apple’s iPod® brand products and
lighting control products sold under the Litetouch® brand name (which was
acquired in 2007).
The
Company sells the products in its HTP segment to distributors, professional
installers, electronics retailers and original equipment
manufacturers. The Company believes approximately 40% of the products
sold by this segment are sold to customers in the new construction
market. The remaining sales of this segment are driven by replacement
applications, new installations in existing properties and the purchases of
high-priced audio/video equipment such as flat panel televisions and
displays. In addition, a portion of the sales of this segment is sold
to customers in the non-residential market. 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 the long-term. In
addition, the demand for security and access control products in the United
States is also believed to be growing due to homeowners’ security
concerns.
A key
component to the Company’s growth of this segment has been strategic
acquisitions of companies with similar or complementary products and
distribution channel strengths. There have been 18 acquisitions
within the segment since December 31, 2003. 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 widely-recognized brand names
with various features and price points, which the Company believes allows it to
expand its distribution in the professional installation and retail
markets. Another key component of the Company’s operating strategy is
the introduction of new products and innovations, which capitalize on the
Company’s 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
Duchossois Industries, Inc.). The segment competes with suppliers of
competitive products primarily on the basis of quality, distribution, delivery
and price. Although the Company believes it competes favorably with
other suppliers of home technology products, some of the Company’s competitors
have greater financial and marketing resources than this segment of the
Company’s business.
The
Company has several administrative and distribution facilities in the United
States in this segment and a significant amount of its products are manufactured
in its facility located in China. In addition, certain products are
sourced from low cost Asian suppliers based on our
specifications. The Company believes that its Asian operations
provide the Company with a competitive cost advantage.
The
Company’s HTP segment had 9 manufacturing plants and employed approximately
2,600 full-time people as of December 31, 2007. The Company believes
that its relationships with its employees in this segment are
satisfactory.
Air
Conditioning and Heating Products Segment
The
Company’s 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 applications.
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 certain commercial markets. For site-built homes
and certain commercial structures, the segment markets its products under the
licensed names Frigidaire®, Tappan®, Philco®, Kelvinator®, Gibson®,
Westinghouse® and Maytag®. The segment also supplies products to
certain of its customers under the Broan®, NuTone®, Mammoth® and several private
label names. Within the residential market, the Company is one of the
largest suppliers of HVAC 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 demand by the replacement market will continue to exceed
the demand for products by the new installation market as a large number of
previously installed heating and cooling products become outdated or reach the
end of their useful lives. The market for residential cooling
products, including those the segment sells into, 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 its ability
to offer both heating and cooling products helps offset the effects of
seasonality on this 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, or 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 it has one major competitor in
the manufactured housing furnace market, York International Corporation (a
subsidiary of Johnson Controls, Inc.) which markets its products primarily under
the “Coleman” name. The segment competes with most major industry
manufacturers in the manufactured housing air conditioning market.
The
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., Trane, Inc. (formerly American Standard Companies
Inc.), York International Corporation (a subsidiary of Johnson Controls, Inc.)
and Goodman Global, Inc. In 2007, the Company estimates that between
approximately 55% and 60% of this segment’s sales of residential HVAC products
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 it
competes favorably with respect to certain of these factors, most of the
segment’s competitors have greater financial and marketing resources and the
products of certain competitors may enjoy greater brand awareness than the
Company’s residential HVAC products.
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, clean rooms and governmental
buildings. These 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 tons to 600 tons. The segment markets its commercial HVAC products
under the Governair®, Mammoth®, Temtrol®, Venmar CES™, Ventrol®, Webco™,
Huntair® and Cleanpak™ brand names. The Company’s subsidiary,
Eaton-Williams Group Limited, 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, such as the Company. 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,
clean rooms 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 its custom-designed equipment.
In
2007, the Company estimates that between approximately 25% and 30% of its air
conditioning and heating product commercial sales 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 HVAC products are marketed through independently owned
manufacturers’ representatives and approximately 320 sales, marketing and
engineering professionals as of December 31, 2007. 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 it competes.
The
Company believes that it 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 Trane,
Inc. 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 it competes favorably with
respect to some of these factors, most of its competitors have greater financial
and marketing resources than this segment of the Company’s business and enjoy
greater brand awareness. However, the Company believes that its
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
Company’s HVAC segment had 17 manufacturing plants and employed approximately
4,200 full-time people as of December 31, 2007, of which approximately 105 are
covered by collective bargaining agreements which expire in 2008 and
approximately 125 are covered by collective bargaining agreements which expire
in 2009. See “Employees” for more information regarding the Company’s
collective bargaining agreements which expired in 2007.
Backlog
Backlog
expected to be filled within the next twelve months as of December 31, 2007 was
approximately $263.1 million and was approximately $275.8 million as of December
31, 2006. The decrease in backlog from December 31, 2006 to December
31, 2007 primarily reflects a reduction in the backlog for residential
ventilation and commercial HVAC products.
Backlog
is not regarded as a significant factor for operations where orders are
generally for prompt delivery. While backlog stated for all periods
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, and therefore there can be no
assurance that the Company’s backlog will result in actual
revenues.
Raw
Materials
The
Company purchases raw materials and most components used in its various
manufacturing processes. The principal raw materials the Company
purchases 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 Company believes that the use of these
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.
Research
and Development
The
Company’s research and development activities are principally new product
development and represent approximately 2.4%, 2.0% and 1.9% of the Company’s
consolidated net sales in 2007, 2006 and 2005, respectively.
Trademarks
and Patents
The
Company owns or licenses numerous trademarks that it uses in the marketing of
its products. Certain of the trademarks the Company owns, including
Broan® and NuTone®, are particularly important in the marketing of its
products. The Company also holds numerous design and process patents,
but no single patent is material to the overall conduct of the Company’s
business. It is the Company’s policy to obtain and protect patents
whenever such action would be beneficial to it.
Environmental
and Regulatory Matters
The
Company is subject to numerous federal, state, local and foreign laws and
regulations, relating to protection of the environment, including those that
impose limitations on the discharge of pollutants into the air and water,
establish standards for the use, treatment, storage and disposal of solid and
hazardous materials and wastes and govern the cleanup of contaminated
sites. 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 currently
or formerly owned or operated by such companies or 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
materials or wastes. Expenditures in 2007, 2006 and 2005 to evaluate
and remediate such sites were not material. While the Company is able
to reasonably estimate its losses, the Company is unable to estimate with
certainty 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 current or future
environmental regulations, (ii) the Company’s lack of information about
additional sites to which it may be listed as a potentially responsible party,
or 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 may be joint and several, each PRP is potentially
wholly liable for other PRPs that become insolvent or bankrupt. Thus,
the solvency of other PRPs 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.
The
Company’s HVAC products must be designed and manufactured to meet various
regulatory standards. The United States and other countries have
implemented a protocol on ozone-depleting substances that limits its ability to
use HCFCs, a refrigerant used in air conditioning and heat pump
products. In addition, the Company’s residential HVAC products are
subject to federal minimum efficiency standards, which increased to 13 SEER in
2006. The Company’s residential HVAC products for manufactured
housing include furnaces which must be designed and engineered to meet certain
standards required by the U.S. Department of Housing and Urban Development and
other federal agencies. The Company must continue to improve its
products to meet these and other applicable standards as they develop and become
more stringent over time.
Employees
The
Company employed approximately 9,800 full time persons as of December 31,
2007.
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 or losses or the recognition of an asset
impairment. As agreements expire and until negotiations are
completed, the Company does not know whether it 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.
In late
June 2006, the Company informed the union located at the Cincinnati, OH location
of its subsidiary NuTone, that the Company would close the manufacturing
operations at the facility on or about August 30, 2006. As a result
of this closure, the Company, through its RVP segment, recorded an approximate
$3.5 million charge to operations in 2006 (of which approximately $1.8 million
was recorded in cost of goods sold and approximately $1.7 million was recorded
in selling, general and administrative expense, net) consisting of severance of
approximately $2.2 million and write-offs related to equipment sales and
disposals of approximately $1.3 million.
During
the year ended December 31, 2007, the Company recorded liabilities and expensed
into selling, general and administrative expense, net approximately $1.8 million
in the accompanying consolidated statement of operations related to the closure
of its NuTone Cincinnati, OH facility and the relocation of such operations to
certain other subsidiaries of the Company within the RVP segment. The
NuTone facility was shutdown in the third quarter of 2007 and approximately 59
employees were terminated. Prior to August 2006, this facility
supported manufacturing, warehousing and distribution activities for
NuTone.
During the second quarter of 2007, after
meeting and negotiating with the bargaining committee of the Teamsters Local
970, representing approximately 127 union employees of the Company’s
wholly-owned subsidiary Mammoth, Inc. (“Mammoth”) located in Chaska, Minnesota,
it was decided to shut down manufacturing operations at the Chaska plant and
relocate such operations to other manufacturing facilities within the Commercial
HVAC Group. During the second quarter of 2007, Mammoth finalized its
negotiations with the union over the severance benefits associated with the
shutdown and approximately $0.3 million was paid related to severance to the
union employees. In addition to the severance paid in the second
quarter of 2007 related to the union employees, the Company recorded
approximately $3.4 million in selling, general and administrative,
net during the year ended December 31,
2007 related to shutdown
costs and asset write-offs associated with the anticipated cessation of
manufacturing operations at Chaska during the fourth quarter of
2007. It is
estimated that an additional approximate $0.8 million will be expensed in 2008
related to this shutdown.
On August 8, 2007, after negotiating
with the bargaining committee of the Steel, Paper House, Chemical Drivers and
Helpers, Local No. 578, which represented approximately 64 union employees
located at the Vernon, CA manufacturing facility of the Company’s wholly-owned
subsidiary Jensen, Inc. (“Jensen”), the decision was made to shut down manufacturing operations
and relocate such operations to other manufacturing facilities within the RVP
segment. Additionally, on such date, Jensen finalized its
negotiations with the union over the severance benefits associated with this
shutdown. During
the year ended December 31, 2007, the Company recorded in selling, general and
administrative expense, net approximately $0.8 million related to the shutdown, including severance,
relocation expenses, facility lease costs and asset write-offs and expensed an additional $0.3 million
to cost of products sold related to severance associated with the
shutdown. The Company does not anticipate recording any further
expenses associated with this shutdown in 2008.
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 dependent upon the levels of remodeling and replacement
activity and new construction activity which have been negatively impacted by
the economic downturn and the instability of the credit markets.
Critical
factors in the level of the Company’s sales, profitability and cash flows are
the levels of residential remodeling and replacement activity and new
residential and non-residential construction activity. The level of
new residential and non-residential construction activity and, to a lesser
extent, the level of residential remodeling and replacement activity are
affected by seasonality and cyclical factors such as interest rates, inflation,
consumer spending habits, employment levels and other macroeconomic factors,
over which the Company has no control. Any decline in economic
activity as a result of these or other factors typically results in a decline in
new construction and, to a lesser extent, residential remodeling and replacement
purchases, which would result in a decrease in the Company’s sales,
profitability and cash flows. For example, reduced levels of home
sales and housing starts and other softening in the housing markets in 2007
negatively affected the Company’s results of operations in 2007 and these
factors are expected to continue to negatively affect the Company’s results of
operations in 2008.
In
addition, uncertainties due to the significant instability in the mortgage
markets and the resultant impact on the overall credit market could continue to
adversely impact the Company’s business. The tightening of credit
standards is expected to result in a decline in consumer spending for home
remodeling and replacement projects which could adversely impact the Company’s
operating results. Additionally, increases in the cost of home
mortgages and the difficulty in obtaining financing for new homes could continue
to materially impact the sales of the Company’s products in the residential
construction market.
Fluctuations
in the cost or availability of raw materials and components and increases in
freight and other costs could have an adverse effect on the Company’s
business.
The
Company is dependent upon raw materials and purchased components, including,
among others, steel, motors, compressors, copper, packaging material, aluminum,
plastics, glass and various chemicals and paints that it purchases from third
parties. As a result, the Company’s results of operations, cash flows
and financial condition may be adversely affected by increases in costs of raw
materials or components, or in limited availability of raw materials or
components. The Company does not typically enter into long-term
supply contracts for raw materials and components. In addition, the
Company generally does not hedge against its supply
requirements. Accordingly, the Company may not be able to obtain raw
materials and components from its current or alternative suppliers at reasonable
prices in the future, or may not be able to obtain raw materials and components
on the scale and within the time frames the Company
requires. Further, if the Company’s suppliers are unable to meet the
Company’s supply requirements, the Company could experience supply interruptions
and/or costs increases which (to the extent the Company was unable to find
alternate suppliers or pass along these additional costs to its customers) could
adversely affect the Company’s results of operations, cash flows and financial
condition.
For
example, during 2005 through 2007, the Company experienced significant increases
in the prices it paid for steel, copper, aluminum and steel fabricated
parts. In addition, the Company has experienced and may continue to
experience an increase in freight and other costs due to rising oil and other
energy prices. While the Company was able to offset a portion of
these cost increases in these periods by raising prices to its customers for
some products, as well as through strategic sourcing initiatives and
improvements in manufacturing efficiency, there can be no assurance that the
Company will be able to offset all material cost increases in 2008 or in any
future periods.
The availability of certain raw materials and
component parts from sole or limited sources of supply may have an adverse
effect on the Company’s business.
Sources of raw materials or component
parts for certain of the Company’s operations may be dependent upon limited or
sole sources of supply which may impact the Company’s ability to manufacture
finished product. While the Company continually reviews alternative
sources of supply, there can be no assurance that the Company will not face
disruptions in sources of supply which could adversely affect the Company’s
results of operations, cash flows and financial position.
Weather
fluctuations may negatively impact the Company’s business.
Weather
fluctuations may adversely affect the Company’s operating results and its
ability to maintain sales volume. In the Company’s HVAC segment,
operations may be adversely affected by unseasonably warm weather in the months
of November to February and unseasonably cool weather in the months of May to
August, which has the effect of diminishing customer demand for heating and air
conditioning products. In all of the Company’s segments, adverse
weather conditions at any time of the year may negatively affect overall levels
of new construction and remodeling and replacement activity, which in turn may
lead to a decrease in sales. Many of the Company’s operating expenses
are fixed and cannot be reduced during periods of decreased demand for its
products. Accordingly, the Company’s results of operations and cash
flows will be negatively impacted in quarters with lower sales due to weather
fluctuations.
If
the Company fails to identify suitable acquisition candidates, or 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, and those
acquisitions have contributed significantly to the Company’s growth in sales and
profitability, particularly in the HTP segment. The Company believes
that acquisitions will continue to be a key component of its growth
strategy. However, the Company cannot assure that it will continue to
locate and secure acquisition candidates on terms and conditions that are
acceptable to the Company. If the Company is unable to identify
attractive acquisition candidates, its growth, particularly in the HTP segment,
could be impaired.
There
are several risks in acquisitions, including:
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the
difficulty and expense that the Company incurs in connection with the
acquisition,
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the
difficulty and expense that the Company incurs in the subsequent
assimilation of the operations of the acquired company into the Company’s
operations,
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adverse
accounting consequences of conforming the acquired company's accounting
policies to the Company’s,
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the
difficulties and expense of developing, implementing and monitoring
systems of internal controls at acquired companies, including disclosure
controls and procedures and internal controls over financial
reporting,
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the
difficulty in operating acquired
businesses,
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the
diversion of management's attention from the Company’s other business
concerns,
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the
potential loss of customers or key employees of acquired
companies,
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the
impact on the Company’s financial condition due to the timing of the
acquisition or the failure to meet operating expectations for the acquired
business, and
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the
assumption of unknown liabilities of the acquired
company.
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The
Company cannot assure that any acquisition it has made or may make will be
successfully integrated into the Company’s on-going operations or that the
Company will achieve any expected cost savings from any
acquisition. If the operations of an acquired business do not meet
expectations, the Company’s profitability and cash flows may be impaired and 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 its
business.
The
Company’s RVP and HTP segments compete with many domestic and international
suppliers in various markets. The Company competes with suppliers of
competitive products primarily on the basis of quality, distribution, delivery
and price. Some of the Company’s competitors in these markets have
greater financial and marketing resources than the Company does.
In the
HVAC segment, the Company’s residential HVAC products compete in both the
site-built and manufactured housing markets on the basis of breadth and quality
of product line, distribution, product availability and price. Most of the
Company’s residential HVAC competitors have greater financial and marketing
resources and the products of certain of the Company’s competitors may enjoy
greater brand awareness than the Company’s residential HVAC
products. The Company’s commercial HVAC products compete primarily on
the basis of engineering support, quality, design and construction flexibility
and total installed system cost. Most of the Company’s competitors in
the commercial HVAC market have greater financial and marketing resources and
enjoy greater brand awareness than the Company does.
Competitive
factors could require the Company to reduce prices or increase spending on
product development, marketing and sales, either of which could adversely affect
its operating results.
Fluctuations
in currency exchange rates could adversely affect the Company’s revenues,
profitability and cash flows.
The
Company’s foreign operations expose the Company to fluctuations in currency
exchange rates and currency devaluations. The Company reports its
financial results in U.S. dollars, but a portion of its sales and expenses are
denominated in Euros, Canadian Dollars and other currencies. As a
result, changes in the relative values of U.S. dollars, Euros, Canadian Dollars
and other currencies will affect the Company’s levels of revenues and
profitability. If the value of the U.S. dollar increases relative to
the value of the Euro, Canadian Dollars and other currencies, the Company’s
levels of revenue and profitability will decline since the translation of a
certain number of Euros or units of such other currencies into U.S. dollars for
financial reporting purposes will represent fewer U.S.
dollars. Conversely, if the value of the U.S. dollar decreases
relative to the value of the Euro, Canadian Dollars and other currencies, the
Company’s levels of revenue and profitability will increase since the
translation of a certain number of Euros or units of such other currencies into
U.S. dollars for financial reporting purposes will represent additional U.S.
dollars. In addition, in the case of sales to customers in certain
locations, the Company’s sales are denominated in U.S. dollars, Euros or
Canadian Dollars but all or a substantial portion of the Company’s associated
costs are denominated in a different currency. As a result, changes
in the relative values of U.S. dollars, Euros and Canadian Dollars and any such
different currency will affect the Company’s profitability and cash
flows.
Because
the Company has substantial operations outside the United States, the Company is
subject to the economic and political conditions of foreign
nations.
The
Company has manufacturing facilities in several countries outside of the United
States. In 2007, the Company sold products in approximately 100
countries other than the United States. Foreign net sales, which are
attributed based upon the location of the Company’s subsidiary responsible for
the sale, were approximately 19.5% and 21.5% of consolidated net sales for the
years ended December 31, 2006 and 2007, respectively. The Company’s
foreign operations are subject to a number of risks and uncertainties, including
risks that:
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foreign
governments may impose limitations on the Company’s ability to repatriate
funds,
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foreign
governments may impose withholding or other taxes on remittances and other
payments to the Company, or the amount of any such taxes may
increase,
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an
outbreak or escalation of any insurrection, armed conflict or act of
terrorism, or another form of political instability, may
occur,
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natural
disasters may occur, and local governments may have difficulties in
responding to these events,
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foreign
governments may nationalize foreign assets or engage in other forms of
government protectionism,
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foreign
governments may impose or increase investment barriers, customs or tariffs
or other restrictions affecting the Company’s business,
and
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development,
implementation and monitoring of systems of internal controls of the
Company’s international operations, including disclosure controls and
procedures and internal controls over financial reporting, may be
difficult and expensive.
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The
occurrence of any of these conditions could disrupt the Company’s business in
particular countries or regions of the world, or prevent the Company from
conducting business in particular countries or regions, which could reduce sales
and adversely affect profitability. In addition, the Company relies
on dividends and other payments or distributions from its subsidiaries to meet
its debt obligations. If foreign governments impose limitations on
the Company’s ability to repatriate funds or impose or increase taxes on
remittances or other payments to the Company, the amount of dividends and other
distributions the Company receives from its subsidiaries could be reduced, which
could reduce the amount of cash available to the Company to meet its debt
obligations.
Varying
international business practices.
The
Company currently purchases raw materials, components and finished products from
various foreign suppliers. To the extent that any such foreign
supplier utilizes labor or other practices that vary from those commonly
accepted in the United
States, the Company’s
business and reputation could be adversely affected by any resulting litigation,
negative publicity, political pressure or otherwise.
A
decline in the Company’s relations with its key distributors and dealers or loss
of major customers may negatively impact the Company’s business.
The
Company’s operations depend upon its ability to maintain relations with its
independent distributors and dealers and the Company does not typically enter
into long-term contracts with them. If the Company’s key distributors
or dealers are unwilling to continue to sell the Company’s products or if any of
them merge with or are purchased by a competitor, the Company could experience a
decline in sales. If the Company is unable to replace such
distributors or dealers or otherwise replace the resulting loss of sales, the
Company’s business, results of operations and cash flows could be adversely
affected. For the year ended December 31, 2007, approximately 54% of
the Company’s consolidated net sales were made through its independent
distributors and dealers, and the Company’s largest distributor or dealer
accounted for approximately 4.9% of consolidated net sales for the year ended
December 31, 2007.
In
addition, the loss of one or more of the Company’s other major customers, or a
substantial decrease in such customers' purchases from the Company, could have a
material adverse effect on results of operations and cash
flows. Because the Company does not generally have binding long-term
purchasing agreements with its customers, there can be no assurance that the
Company’s existing customers will continue to purchase products from the
Company. The Company’s largest customer (other than a distributor or
dealer) accounted for approximately 4.9% of consolidated net sales for the year
ended December 31, 2007.
Labor
disruptions or cost increases could adversely affect the Company’s
business.
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 employment terms (including the
collective bargaining agreements affecting the Company’s unionized employees)
could result in material gains or losses or the recognition of an asset
impairment. As collective bargaining agreements expire and 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 without production interruptions, including
labor stoppages. At December 31, 2007, approximately 6.2% of the
Company’s employees are unionized, and from time to time the Company experiences
union organizing efforts directed at the Company’s non-union
employees. The Company may also experience labor cost increases or
disruptions in its non-union facilities in circumstances where the Company must
compete for employees with necessary skills and experience or in tight labor
markets.
The
Company must continue to innovate and improve its products to maintain its
competitive advantage.
The
Company’s ability to maintain and grow its market shares depends on the ability
to continue to develop high quality, innovative products. An
important part of the Company’s competitive strategy includes leveraging its
distributor and dealer relationships and its existing brands to introduce new
products. In addition, some of the Company’s HVAC products are
subject to federal minimum efficiency standards and/or protocols concerning the
use of ozone-depleting substances that have and are expected to continue to
become more stringent over time. The Company cannot assure that its
investments in product innovation and technological development will be
sufficient or that it will be able to create and market new products to enable
the Company to successfully compete with new products or technologies developed
by the Company’s competitors or meet heightened regulatory requirements in the
future.
The
Company could incur substantial costs, including cleanup costs, fines and civil
or criminal sanctions, as a result of violations of or liabilities under
environmental laws.
The
Company’s operations are subject to numerous federal, state, local and foreign
laws and regulations relating to protection of the environment, including those
that impose limitations on the discharge of pollutants into the air and water,
establish standards for the use, treatment, storage and disposal of solid and
hazardous materials and wastes and govern the cleanup of contaminated
sites. The Company has used and continues to use various substances
in its products and manufacturing operations, and has generated and continues to
generate wastes, 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. These laws and regulations affect ongoing operations and
require capital costs and operating expenditures in order to achieve and
maintain compliance. For example, the United States and other
countries have established programs for limiting the production, importation and
use of certain ozone depleting chemicals, including hydrochlorofluorocarbons, or
HCFCs, a refrigerant used in the Company’s air conditioning and heat pump
products. Some of these chemicals have been banned completely, and
others are currently scheduled to be phased out in the United States by the year
2010. Modifications to the design of the Company’s products may be
necessary in order to utilize alternative refrigerants.
In
addition, the Company could incur substantial costs, including cleanup costs,
fines and civil or criminal sanctions, and third party property damage or
personal injury claims, as a result of violations of or liabilities under
environmental laws or non-compliance with environmental permits required at its
facilities. Certain environmental 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 the Company’s predecessors, or at locations to
which current or former operations or those of the Company’s predecessors have
shipped waste for disposal. Contaminants have been detected at
certain of the Company’s former sites, and the Company has been named as a
potentially responsible party at several third-party waste disposal
sites. While the Company is not currently aware of any such sites as
to which material outstanding claims or obligations exist, the discovery of
additional contaminants or the imposition of additional cleanup obligations at
these or other sites could result in significant liability. In
addition, 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 the
Company’s business, financial condition, results of operations and cash
flows.
The
Company faces risks of litigation and liability claims on 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, results of operations and cash
flows.
The
Company is subject to legal proceedings and claims arising out of its businesses
that cover a wide range of matters, including contract and employment claims,
product liability claims, warranty claims and claims for modification,
adjustment or replacement of component parts of units sold. Product
liability and other legal proceedings include those related to businesses the
Company has acquired or properties it has previously owned or
operated.
The
development, manufacture, sale and use of the Company’s products involve risks
of product liability and warranty claims, including personal injury and property
damage arising from fire, soot, mold and carbon monoxide. The Company
currently carries insurance and maintains reserves for potential product
liability claims. However, the Company’s insurance coverage may be
inadequate if such claims do arise and any liability not covered by insurance
could have a material adverse effect on the Company’s business. 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 reported claims as of the reporting
date. To date, the Company has been able to obtain insurance in
amounts it believes to be appropriate to cover such
liability. However, the Company’s insurance premiums may increase in
the future as a consequence of conditions in the insurance business generally or
the Company’s situation in particular. Any such increase could result
in lower profits or cause the need to reduce the Company’s insurance
coverage. In addition, a future claim may be brought against the
Company which would have a material adverse effect on the
Company. Any product liability claim may also include the imposition
of punitive damages, the award of which, pursuant to certain state laws, may not
be covered by insurance. The Company’s product liability insurance
policies have limits that if exceeded, may result in material costs that would
have an adverse effect on future profitability. In addition, warranty
claims are generally not covered by the Company’s product liability
insurance. Further, any product liability or warranty issues may
adversely affect the Company’s reputation as a manufacturer of high-quality,
safe products and could have a material adverse effect on its
business.
Product
recalls or reworks may adversely affect the Company’s business.
In the
event the Company produces a product that is alleged to contain a design or
manufacturing defect, the Company could be required to incur costs involved to
recall or rework that product. While the Company has undertaken
several voluntary product recalls and reworks over the past several years,
additional product recalls and reworks could result in material
costs. Many of the Company’s products, especially certain models of
bath fans, range hoods and residential furnaces and air conditioners, have a
large installed base, and any recalls and reworks related to products with a
large installed base could be particularly costly. The costs of
product recalls and reworks are not generally covered by
insurance. In addition, the Company’s reputation for safety and
quality is essential to maintaining its market share and protecting its
brands. Any recalls or reworks may adversely affect the Company’s
reputation as a manufacturer of high-quality, safe products and could have a
material adverse effect on its financial condition, results of operations and
cash flows.
The
Company’s business operations could be significantly disrupted if it 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 the Company’s other executive
officers, could prevent the Company from executing its business
strategy.
The
Company’s business operations could be negatively impacted if it fails to
adequately protect its intellectual property rights, if it fails to comply with
the terms of its licenses or if third parties claim that the Company is in
violation of its intellectual property rights.
The
Company is highly dependent on certain of the brand names under which it sells
its products, including Broan® and NuTone®. Failure to protect these
brand names and other intellectual property rights or to prevent their
unauthorized use by third parties could adversely affect the Company’s
business. The Company seeks to protect its intellectual property
rights through a combination of trademark, copyright, patent and trade secret
laws, as well as confidentiality agreements. These protections may
not be adequate to prevent competitors from using the Company’s brand names and
trademarks without authorization or from copying the Company’s products or
developing products equivalent to or superior to the Company’s. The
Company licenses several brand names from third parties. In the event
the Company fails to comply with the terms of these licenses, the Company could
lose the right to use these brand names. In addition, the Company
faces the risk of claims that the Company is infringing third parties'
intellectual property rights. Any such claim, even if it is without
merit, could be expensive and time-consuming; could cause the Company to cease
making, using or selling certain products that incorporate the disputed
intellectual property; could require the Company to redesign its products, if
feasible; could divert management time and attention; and could require the
Company to enter into costly royalty or licensing arrangements.
The
Company’s substantial debt could negatively impact its business, prevent the
Company from fulfilling its outstanding debt obligations and adversely affect
its financial condition.
The
Company has a substantial amount of debt. As of December 31, 2007,
the Company had approximately $1,445.4 million of total debt outstanding and a
debt to equity ratio of approximately 2.3:1. The terms of the
Company’s outstanding debt, including 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, 2007, the Company had
approximately $35.0 million outstanding (with an interest rate of
approximately 7.45%) and approximately $133.4 million of
available borrowing capacity under the U.S. revolving portion of its senior secured
credit facility, with approximately $21.6 million in outstanding letters of
credit. Borrowings under the revolving portion of the senior secured
credit facility are used for general corporate purposes, including
borrowings to fund working capital requirements. Under the Canadian revolving portion of
its senior secured credit facility, the Company had no outstanding borrowings and
approximately $10.0 million of available borrowing
capacity. Letters of credit have been issued under the
Company’s revolving credit facility as additional security for (1) approximately
$17.2 million relating to certain of the Company’s insurance programs, (2)
approximately $3.6 million relating to leases outstanding for certain of the
Company’s manufacturing facilities and (3) approximately $0.8 million relating
to certain of the subsidiaries’ purchases and other
requirements. Letters of credit reduce borrowing availability under
the Company’s revolving credit facility on a dollar for dollar
basis. If additional
debt is added to current debt levels, the related risks described below could
intensify. See
also the discussion in risk factors and Management’s Discussion and Analysis of
Financial Condition and Results of Operations, “Liquidity and Capital Resources”
concerning the terms and conditions of the Company’s debt covenants included
elsewhere herein.
The
substantial amount of the Company’s debt could have important consequences,
including the following:
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the
Company’s ability to obtain additional financing for working capital,
capital expenditures, acquisitions, refinancing indebtedness, or other
purposes could be impaired,
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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,
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the
Company may be more leveraged than some of its competitors, which may
result in a competitive
disadvantage,
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the
Company may be vulnerable to interest rate increases, as certain of its
borrowings, including those under the Nortek senior secured credit
facility, are at variable rates,
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the
Company’s failure to comply with the restrictions in its financing
agreements would have a material adverse effect on the
Company,
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the
Company’s significant amount of debt could make it more vulnerable to
changes in general economic
conditions,
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|
·
|
the
Company may be restricted from making strategic acquisitions, investing in
new products or capital assets or taking advantage of business
opportunities, and
|
|
·
|
the
Company may be limited in its flexibility in planning for, or reacting to,
changes in its business and the industries in which it
operates.
|
The
Company believes that it will need to access the capital markets in the future
to raise the funds to repay its debt that remains outstanding at December 31,
2007. 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 Nortek’s
senior secured credit facility or Nortek’s 8 1/2% senior subordinated notes then
virtually all of the Company’s other debt would become immediately due and
payable. Any default on the Company’s debt obligations or the
acceleration of its debt will likely have a substantial adverse effect on the
Company’s financial condition, results of operations and cash
flows.
The
terms of the Company’s debt covenants could limit how the Company conducts its
business and its ability to raise additional funds.
The
agreements which govern the terms of the Company’s debt, including the indenture
that governs the Company’s 8 1/2%
senior subordinated notes and the agreement that governs the Company’s senior
secured credit facility, contain covenants that restrict the Company’s ability
and the ability of the Company’s subsidiaries to:
|
·
|
incur
additional indebtedness,
|
|
·
|
pay
dividends or make other
distributions,
|
|
·
|
make
loans or investments,
|
|
·
|
enter
into transactions with affiliates,
and
|
|
·
|
consolidate,
merge or sell assets.
|
In addition, the
Company’s senior secured credit facility contains two financial maintenance
covenants, which become more restrictive over time, and the Company cannot
assure that these covenants will always be met particularly given the further
deterioration of the new residential construction and repair and remodeling
industries, plus the instability in the overall credit markets. These
two covenants require that the Company maintain at the end of each quarter,
calculated based on the last twelve months, a Leverage Ratio and an Interest
Coverage Ratio, each as defined. The Leverage Ratio must not exceed a
defined ratio amount and the Interest Coverage Ratio must not be less than a
defined ratio amount. The Leverage Ratio is calculated by dividing
the Company’s total indebtedness, net of cash, (as defined) by EBITDA (as
defined) and the Interest Coverage Ratio is calculated by dividing EBITDA (as
defined) by interest expense, net (as defined). At December 31, 2007
the Company was required to maintain a Leverage Ratio not greater than 5.85:1
and an Interest Coverage Ratio of not less than 2.10:1. At December
31, 2007 the Company was in compliance with the Leverage Ratio and the Interest
Coverage Ratio covenants. At December 31, 2007, the Company’s
Leverage Ratio was 5.37:1 and its Interest Coverage Ratio was
2.32:1. The Leverage Ratio requirement of 5.85:1 at December 31, 2007
tightens to 5.60:1 at the end of the second quarter of 2008 and further tightens
to 5.25:1 at December 31, 2008, while the Interest Coverage Ratio requirement of
2.10:1 at December 31, 2007 tightens to 2.20:1 at the end of the first quarter
of 2008 through December 31, 2008. Should the Company not satisfy
either of these covenants, the Company’s senior secured credit facility allows a
cure, whereby a subsequent cash equity investment equal to the EBITDA shortfall,
will be treated as EBITDA for purposes of the compliance calculations in the
current and future periods. The senior secured credit facility allows
for such a cure to occur twice within a consecutive twelve-month
period. The Company expects that its financial statements for the
first quarter of 2008, which will be filed with its quarterly report on Form
10-Q on or about May 15, 2008, will indicate that its EBITDA for such quarter
(as calculated in accordance with the senior secured credit facility) will be
below the level necessary to be in compliance with the Interest Coverage Ratio
and the Leverage Ratio covenants as of the end of such quarter. Any
such shortfall is not expected to be significant and the Company plans to
utilize the equity cure right under its senior secured credit facility to avoid
any default otherwise arising out of such shortfall. The Company
expects that it may also encounter events of non-compliance with the Interest
Coverage Ratio and the Leverage Ratio covenants as of the end of the second
quarter of 2008 and anticipates that it may seek to use the equity cure right
again to remedy any such non-compliance. Based upon the Company’s
current forecast regarding its operating results for the balance of 2008
following the second quarter, the Company does not anticipate further events of
non-compliance with the Interest Coverage Ratio and Leverage Ratio covenants as
of the end of the third and fourth quarters of 2008. To the extent
the Company experiences events of non-compliance with such covenants, which are
not resolved through the use of the equity cure feature or other alternatives,
the Company would need to seek waivers or amendments from the lenders under its
senior secured credit facility or refinance such facility. Should an
event of non-compliance occur, the Company will not be permitted to borrow under
its credit facility until such time that a cure happens. If these
events of non-compliance were to occur, and were not cured, an event of default
would exist under the Company’s senior secured credit facility and would allow
the lenders to accelerate the payment of indebtedness outstanding. In
addition, an event of default under the credit facility would result in a cross
default under substantially all of the Company’s other senior and senior
subordinated indebtedness. In light of the instability and
uncertainty that currently exists within the financial and credit markets and
the tightening of credit standards, the Company may not be able to obtain any
such waivers or amendments or any such refinancing on acceptable
terms. In addition, any such waivers, amendments or refinancing may
involve terms which would have a further adverse effect on the future cash flows
of the Company.
A
breach of the covenants under the indenture that governs the Company’s 8 1/2%
senior subordinated notes or under the agreement that governs the Company’s
senior secured credit facility could result in an event of default under the
applicable indebtedness. Such default may allow the creditors 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 the Company’s senior secured credit facility
would permit the lenders to terminate all commitments to extend further credit
under that facility. Furthermore, if the Company 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 that the
Company 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 the Company conducts its
business,
|
|
·
|
unable
to raise additional debt or equity financing to operate during general
economic or business downturns, or
|
|
·
|
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. Refer to Note 5 of the Notes to the Consolidated Financial
Statements, Item 8 of Part II of this report, incorporated herein by
reference.
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 pay interest, make scheduled payments on or to refinance
its debt obligations depends on the Company’s 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 that its subsidiaries
will maintain a level of cash flows from operating activities sufficient to
permit the Company to pay interest and 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.
If
the Company is unable to access funds generated by its subsidiaries the Company
may not be able to meet its financial obligations.
Because
the Company conducts all of its operations through its subsidiaries, the Company
depends on those entities for dividends, distributions and other payments to
generate the funds necessary to meet its financial obligations. Legal
restrictions in the United States and foreign jurisdictions applicable to the
Company’s subsidiaries and contractual restrictions in certain agreements
governing current and future indebtedness of the Company’s subsidiaries, as well
as the financial condition and operating requirements of the Company’s
subsidiaries, may limit the Company’s ability to obtain cash from its
subsidiaries. All of the Company’s subsidiaries are separate and
independent legal entities and have no obligation whatsoever to pay any
dividends, distributions or other payments to the Company.
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
|
(3)
|
|
Hartford,
WI
|
Manufacturing/Warehouse/Administrative
|
538,000
|
(3)
|
|
Hartford,
WI
|
Warehouse
|
130,000
|
*
|
|
Mississauga,
ONT, Canada
|
Manufacturing/Warehouse/Administrative
|
110,000
|
|
|
Fabriano,
Italy
|
Manufacturing/Warehouse/Administrative
|
178,000
|
|
|
Cerreto
D’Esi, Italy
|
Manufacturing/Warehouse/Administrative
|
174,000
|
|
|
Montefano,
Italy
|
Manufacturing/Warehouse/Administrative
|
93,000
|
(2)
|
|
Cleburne,
TX
|
Manufacturing/Warehouse/Administrative
|
215,000
|
(3)
|
|
Drummondville,
QUE, Canada
|
Manufacturing/Warehouse/Administrative
|
126,000
|
|
|
Chenjian,
Huizhou, PRC
|
Manufacturing/Warehouse/Administrative/Other
|
198,000
|
|
|
San
Francisco, CA
|
Warehouse/Administrative
|
48,000
|
*
|
|
Gliwice,
Poland
|
Manufacturing/Warehouse/Administrative
|
162,000
|
|
|
Tecate,
Mexico
|
Manufacturing/Warehouse/Administrative
|
204,000
|
*
|
|
|
|
|
|
|
Home
Technology Products Segment:
|
|
|
|
|
Sylmar,
CA
|
Administrative
|
18,000
|
*
|
|
Xiang,
Bao An County, Shenzhen, PRC
|
Manufacturing/Warehouse/Administrative/Other
|
251,000
|
*
|
|
Chaiwan,
Hong Kong
|
Administrative
|
15,000
|
*
|
|
Lexington,
KY
|
Warehouse/Administrative
|
73,000
|
*
|
|
Carlsbad,
CA
|
Warehouse/Administrative
|
64,000
|
*
|
|
Vista,
CA
|
Warehouse
|
69,000
|
*
|
|
Riverside,
CA
|
Administrative
|
82,000
|
*
|
|
Casnovia,
MI
|
Manufacturing/Warehouse/Administrative
|
28,000
|
*
|
|
Phoenix,
AZ
|
Manufacturing/Warehouse/Administrative
|
51,000
|
*
|
|
Petaluma,
CA
|
Warehouse/Administrative
|
26,000
|
*
|
|
Miami,
FL
|
Warehouse/Administrative
|
62,000
|
*
|
|
Cambridge,
U.K.
|
Warehouse/Administrative
|
11,000
|
*
|
|
Snohomish,
WA
|
Manufacturing/Warehouse/Administrative
|
25,000
|
*
|
|
Tallahassee,
FL
|
Manufacturing/Warehouse/Administrative
|
71,000
|
(3)
|
|
Summerville,
SC
|
Warehouse/Administrative
|
162,000
|
*
|
|
New
Milford, CT
|
Manufacturing/Warehouse/Administrative
|
17,000
|
**
|
|
Los
Angeles, CA
|
Warehouse/Administrative
|
28,000
|
*
|
|
Salt
Lake City, UT
|
Manufacturing/Warehouse/Administrative
|
25,000
|
*
|
|
Winston-Salem,
NC
|
Manufacturing/Warehouse/Administrative
|
62,000
|
*
|
|
Marblehead,
MA
|
Warehouse/Administrative
|
4,000
|
*
|
|
Canton,
MA
|
Warehouse/Administrative
|
21,000
|
*
|
|
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
|
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
|
*
|
|
Oklahoma
City, OK
|
Manufacturing/Administrative
|
127,000
|
(3)
|
|
Okarche,
OK
|
Manufacturing/Warehouse/Administrative
|
228,000
|
(3)
|
|
Springfield,
MO
|
Manufacturing/Warehouse/Administrative
|
113,000
|
*
|
|
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
|
88,000
|
*
|
|
Anji
County, Zhejiang, PRC
|
Manufacturing/Warehouse/Administrative
|
202,000
|
(2)
|
|
Clackamas,
OR
|
Manufacturing/Warehouse/Administrative
|
165,000
|
*
|
|
Tualatin,
OR
|
Manufacturing/Warehouse/Administrative
|
176,000
|
*
|
|
Catano,
Puerto Rico
|
Warehouse
|
17,000
|
*
|
|
|
|
|
|
|
Other:
|
|
|
|
|
Providence,
RI
|
Administrative
|
23,000
|
*
|
(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.
|
|
|
(3)
|
These
facilities are pledged as security under the Company’s senior secured
credit facility.
|
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 2007, 2006 and
2005 to evaluate and remediate such sites were not material. While
the Company is able to reasonably estimate its losses, the Company is unable to
estimate with certainty 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 8 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, the Company
reorganized into a holding company structure and each outstanding share of
capital stock of the Company was converted into an identical share of capital
stock of the former Nortek Holdings. The former Nortek Holdings
became the successor public company, and the Company became a wholly-owned
subsidiary of the former Nortek Holdings. As of November 20, 2002,
there is no established public trading market for the Company’s capital
stock.
As of April 11, 2008, there were 3,000 shares of common
stock of the Company authorized and outstanding, all of which are owned by
Nortek Holdings, Inc.
(“Nortek Holdings”).
NTK
Holdings, Inc. (“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 THL-Nortek Investors, LLC (“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.
On May 5, 2006, NTK Holdings filed a registration statement on Form
S-1 (last amended on September 15, 2006) with the
SEC for an initial public offering of shares of its common
stock. NTK
Holdings withdrew its registration statement on Form S-1 in a filing with the
SEC on November 13, 2007 due to the unsettled market
conditions.
On May 10, 2006, NTK Holdings borrowed
an aggregate principal amount of $205.0 million under a senior unsecured loan
facility. A portion of these proceeds was used to contribute capital
of approximately $25.9 million to Nortek Holdings, which was used by Nortek
Holdings, together with a dividend of approximately $28.1 million from the
Company to make a distribution of approximately $54.0 million to participants
under the 2004 Nortek Holdings, Inc. Deferred Compensation Plan (including
certain of the Company’s executive officers).
The Company’s senior secured credit facility and the indenture governing the Company’s 8 1/2% senior subordinated notes
contain restrictions on its ability to pay dividends or make other distributions in respect
of its capital stock, including to NTK Holdings.
The
Company and its subsidiaries, affiliates or significant shareholders may from
time to time, in their sole discretion, purchase, repay, redeem or retire any of
the Company’s outstanding debt (including publicly issued debt), in privately
negotiated or open market transactions, by tender offer or otherwise, which may
be subject to restricted payment limitations.
See
Notes 1, 5 and 6 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
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pre-
|
|
|
|
|
Post-Acquisition
|
|
|
Pre-Acquisition
|
|
|
Recapitalization
|
|
|
|
|
For the Years Ended December
31,
|
|
|
Aug. 28, 2004
-
|
|
|
Jan.1, 2004
-
|
|
|
Jan.10, 2003
-
|
|
|
Jan.1, 2003
-
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Dec. 31,
2004
|
|
|
Aug. 27,
2004
|
|
|
Dec. 31,
2003
|
|
|
Jan. 9,
2003
|
|
|
|
|
(In millions except
ratios)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated Summary of
Operations:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales
|
|
$ |
2,368.2 |
|
|
$ |
2,218.4 |
|
|
$ |
1,959.2 |
|
|
$ |
561.0 |
|
|
$ |
1,117.9 |
|
|
$ |
1,480.6 |
|
|
$ |
24.8 |
|
|
Operating earnings (loss)
(1)
|
|
|
185.5 |
|
|
|
267.0 |
|
|
|
237.2 |
|
|
|
42.1 |
|
|
|
32.6 |
|
|
|
159.4 |
|
|
|
(81.8 |
) |
|
Earnings (loss) from continuing
operations
|
|
|
32.4 |
|
|
|
89.7 |
|
|
|
80.5 |
|
|
|
(2.2 |
) |
|
|
(111.3 |
) |
|
|
62.1 |
|
|
|
(60.9 |
) |
|
(Loss) earnings from
discontinued operations
|
|
|
--- |
|
|
|
--- |
|
|
|
--- |
|
|
|
(0.5 |
) |
|
|
67.4 |
|
|
|
12.1 |
|
|
|
(1.0 |
) |
|
Net earnings
(loss)
|
|
|
32.4 |
|
|
|
89.7 |
|
|
|
80.5 |
|
|
|
(2.7 |
) |
|
|
(43.9 |
) |
|
|
74.2 |
|
|
|
(61.9 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Financial
Position:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrestricted cash, investments
and
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
marketable
securities
|
|
$ |
53.4 |
|
|
$ |
57.4 |
|
|
$ |
77.2 |
|
|
$ |
95.0 |
|
|
$ |
202.0 |
|
|
$ |
194.1 |
|
|
$ |
283.6 |
|
|
Working
capital
|
|
|
207.2 |
|
|
|
211.1 |
|
|
|
273.8 |
|
|
|
284.1 |
|
|
|
(645.2 |
) |
|
|
689.8 |
|
|
|
830.0 |
|
|
Total
assets
|
|
|
2,706.8 |
|
|
|
2,627.3 |
|
|
|
2,416.6 |
|
|
|
2,297.4 |
|
|
|
1,730.3 |
|
|
|
2,100.0 |
|
|
|
1,781.2 |
|
|
Total debt
--
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
|
|
|
96.4 |
|
|
|
43.3 |
|
|
|
19.7 |
|
|
|
19.8 |
|
|
|
13.4 |
|
|
|
15.3 |
|
|
|
4.4 |
|
|
Long-term
|
|
|
1,349.0 |
|
|
|
1,362.3 |
|
|
|
1,354.1 |
|
|
|
1,350.2 |
|
|
|
30.4 |
|
|
|
1,324.6 |
|
|
|
953.7 |
|
|
Current
ratio
|
|
1.4:1
|
|
|
1.4:1
|
|
|
1.7:1
|
|
|
1.9:1
|
|
|
0.5:1
|
|
|
2.7:1
|
|
|
2.9:1
|
|
|
Debt to equity
ratio
|
|
2.3:1
|
|
|
2.5:1
|
|
|
2.7:1
|
|
|
3.3:1
|
|
|
0.4:1
|
|
|
6.7:1
|
|
|
3.5:1
|
|
|
Depreciation and amortization
expense,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
including non-cash
interest
|
|
|
70.8 |
|
|
|
66.5 |
|
|
|
51.2 |
|
|
|
24.4 |
|
|
|
50.5 |
|
|
|
38.2 |
|
|
|
0.7 |
|
|
Capital expenditures
(2)
|
|
|
36.4 |
|
|
|
42.3 |
|
|
|
33.7 |
|
|
|
15.1 |
|
|
|
12.7 |
|
|
|
24.7 |
|
|
|
0.2 |
|
|
Stockholder's
investment
|
|
|
618.7 |
|
|
|
563.1 |
|
|
|
500.3 |
|
|
|
417.0 |
|
|
|
114.6 |
|
|
|
200.1 |
|
|
|
272.1 |
|
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.
|
|
(1)
|
See
Note 12 of the Notes to the Consolidated Financial Statements included
elsewhere herein.
|
|
|
(2)
|
Includes
capital expenditures financed under capital leases of approximately $4.8
million, $1.6 million, $0.9 million and $7.6 million for the year ended
December 31, 2005 and the periods from August 28, 2004 to December 31,
2004, from January 1, 2004 to August 27, 2004 and from January 10, 2003 to
December 31, 2003, respectively. There were no expenditures
financed under capital leases for the years ended December 31, 2007 and
2006 and the period from January 1, 2003 to January 9,
2003.
|
NORTEK,
INC. AND SUBSIDIARIES
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
December
31, 2007
Item
7. Management’s Discussion and Analysis of Financial Condition and
Results of Operation.
Nortek, Inc. and its wholly-owned
subsidiaries (individually and collectively the “Company” or “Nortek”) are
diversified manufacturers of innovative, branded residential and commercial
building products, operating within three reporting
segments:
|
·
|
the Residential Ventilation
Products, or RVP, segment,
|
|
·
|
the Home Technology Products, or
HTP, segment, and
|
|
·
|
the Air Conditioning and Heating
Products, or HVAC, segment.
|
Through these segments, the Company
manufactures and sells, primarily in the United States, Canada and Europe, a wide variety of products for the
professional remodeling and replacement markets, the residential and commercial
construction markets, the manufactured housing market and the do-it-yourself
(“DIY”) market.
The Residential Ventilation Products
segment manufactures and sells room and whole house ventilation products and
other products primarily for the professional remodeling and replacement
markets, the residential new construction market and the DIY
market. 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 a broad array of products designed to provide convenience
and security for residential and certain 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,
|
|
·
|
lighting and home automation
controls, and
|
The Air Conditioning and Heating
Products segment manufactures and sells heating, ventilating and air
conditioning (“HVAC”) systems for site-built residential and manufactured
housing structures, custom-designed commercial applications and standard light
commercial applications. The principal products sold by the segment
are:
|
·
|
split system air conditioners and
heat pumps,
|
|
·
|
furnaces and related
equipment,
|
|
·
|
large custom roof top cooling and
heating products.
|
In the results of operations presented
below, Unallocated includes corporate related items, intersegment eliminations
and certain income and expense not allocated to its
segments.
Changes in Structure and
Ownership
Over
the past several years, the Company has undergone changes in its structure and
ownership that are useful to an understanding of the Company’s financial results
over this time period.
|
·
|
Nortek
had been a public company for over thirty-five years until November 2002
when the former Nortek Holdings was formed to become its holding company
and successor public company.
|
|
·
|
The
former Nortek Holdings was then taken private in an acquisition by
affiliates and designees of Kelso & Company L.P., together with
members of the Company’s management, in January
2003.
|
|
·
|
Affiliates
of THL, together with members of the Company’s management, purchased the
former Nortek Holdings from affiliates and designees of Kelso &
Company L.P. in August 2004. The former Nortek Holdings was
merged out of existence and a newly formed acquisition subsidiary became
the parent company of Nortek and was renamed Nortek
Holdings.
|
|
·
|
NTK
Holdings, then a newly formed company, became the parent company of Nortek
Holdings in February 2005 in order to facilitate a financing and related
dividend.
|
In connection with
these transactions, the Company has incurred a significant amount of
indebtedness. For further discussion, see “Liquidity and Capital
Resources”.
Financial
Statement Presentation
The
consolidated financial statements presented herein reflect the financial
position, results of operations and cash flows of Nortek and all of its
wholly-owned subsidiaries (collectively, the “Consolidated Financial
Statements”).
Acquisitions
The
Company accounts for acquisitions under the purchase method of accounting and
accordingly, the results of these acquisitions are included in the Company’s
consolidated results since the date of their acquisition. The Company
has made the following acquisitions since January 1, 2005:
|
Acquired Company
|
Date
of
Acquisition
|
Primary
Business
of Acquired Company
|
Reporting
Segment
|
|
|
|
|
|
|
Stilpol
SP. Zo.O.
|
September
18, 2007
|
Supply
various fabricated material components and sub-assemblies used by the
Company’s Best subsidiaries in the manufacture of kitchen range
hoods.
|
RVP
|
|
|
|
|
|
|
Metaltecnica
S.r.l.
|
September
18, 2007
|
Supply
various fabricated material components and sub-assemblies used by the
Company’s Best subsidiaries in the manufacture of kitchen range
hoods.
|
RVP
|
|
|
|
|
|
|
Triangle
|
August
1, 2007
|
Manufacture,
marketing and distribution of bath cabinets and related
products.
|
RVP
|
|
|
|
|
|
|
Home
Logic, LLC
|
July
27, 2007
|
Design
and sale of software and hardware that facilitates the control of third
party residential subsystems such as home theatre, whole-house audio,
climate control, lighting, security and irrigation.
|
HTP
|
|
|
|
|
|
|
Aigis
Mechtronics, Inc.
|
July
23, 2007
|
Manufacture
and sale of equipment, such as camera housings, into the close-circuit
television portion of the global security market.
|
HTP
|
|
|
|
|
|
|
International
Electronics, Inc.
|
June
25, 2007
|
Design
and sale of security and access control components and systems for use in
residential and light commercial applications.
|
HTP
|
|
c.p.
All Star Corporation
|
April
10, 2007
|
Manufacture
and distribution of residential, commercial and industrial gate operators,
garage door openers, radio controls and accessory products for the garage
door and fence industry.
|
HTP
|
|
|
|
|
|
|
Par
Safe / Litewatch
|
March
26, 2007
|
Design
and sale of home safes and solar LED security lawn signs
|
HTP
|
|
|
|
|
|
|
LiteTouch,
Inc.
|
March
2, 2007
|
Design,
manufacture and sale of automated lighting control for a variety of
applications including residential, commercial, new construction and
retro-fit.
|
HTP
|
|
|
|
|
|
|
Gefen,
Inc.
|
December
12, 2006
|
Design
and sale of audio and video products which extend, switch, distribute and
convert signals in a variety of formats, including high definition, for
both the residential and commercial markets.
|
HTP
|
|
|
|
|
|
|
Zephyr
Corporation
|
November
17, 2006
|
Design
and sale of upscale range hoods.
|
RVP
|
|
|
|
|
|
|
Pacific
Zephyr Range Hood, Inc.
|
November
17, 2006
|
Design,
sale and installation of range hoods and other kitchen products for Asian
cooking markets in the United States.
|
RVP
|
|
|
|
|
|
|
Magenta
Research, Ltd.
|
July
18, 2006
|
Design and sale of products
that distribute audio and video signals over Category 5 and fiber optic
cable to multiple display screens.
|
HTP
|
|
|
|
|
|
|
Secure
Wireless, Inc.
|
June
26, 2006
|
Design
and sale of wireless security products for the residential and commercial
markets.
|
HTP
|
|
|
|
|
|
|
Advanced
Bridging Technologies, Inc.
|
June
26, 2006
|
Design
and sale of innovative radio frequency control products and
accessories.
|
HTP
|
|
|
|
|
|
|
Huntair,
Inc.
|
April
14, 2006
|
Design,
manufacture and sale of custom air handlers and related products for
commercial and clean room applications.
|
HVAC
|
|
|
|
|
|
|
Cleanpak
International, LLC
|
April
14, 2006
|
Design,
manufacture and sale of custom air handlers and related products for
commercial and clean room applications.
|
HVAC
|
|
|
|
|
|
|
Furman
Sound, Inc.
|
February
22, 2006
|
Design
and sale of audio and video signal processors and innovative power
conditioning and surge protection products.
|
HTP
|
|
|
|
|
|
|
Mammoth
(Zhejiang) EG Air
Conditioning Ltd. (1)
|
January
25, 2006
|
Design,
manufacture and sale of commercial HVAC products, including water source
heat pumps.
|
HVAC
|
|
|
|
|
|
|
Shanghai
Mammoth Air
Conditioning Co., Ltd. (1)
|
January
25, 2006
|
Design,
manufacture and sale of commercial HVAC products, including water source
heat pumps.
|
HVAC
|
|
|
|
|
|
|
GTO,
Inc.
|
December
9, 2005
|
Design,
manufacture and sale of automatic electric gate openers and access control
devices to enhance the security and convenience of both residential and
commercial property fences.
|
HTP
|
|
|
|
|
|
|
Sunfire
Corporation
|
August
26, 2005
|
Design,
manufacture and sale of home audio and home cinema amplifiers, receivers
and subwoofers.
|
HTP
|
|
|
|
|
|
|
Imerge
Limited
|
August
8, 2005
|
Design
and sale of hard disk media players and multi-room audio
servers.
|
HTP
|
|
|
|
|
|
|
Niles
Audio Corporation
|
July
15, 2005
|
Design,
manufacture and sale of whole-house audio/video distribution equipment,
including speakers, receivers, amplifiers, automation devices, controls
and accessories.
|
HTP
|
|
|
|
|
|
|
International
Marketing Supply, Inc.
|
June
13, 2005
|
Sale
of heating, ventilation and air conditioning equipment to customers in
Latin America and the Caribbean.
|
HVAC
|
|
|
|
|
|
|
Panamax,
Inc.
|
April
26, 2005
|
Design
and sale of innovative power conditioning and surge protection products
that prevent loss or damage of home and small business equipment due to
power disturbances.
|
HTP
|
|
|
(1)
|
On
January 25, 2006, the Company increased its ownership to
60%. On June 15, 2007, the Company increased this ownership
from 60% to 75%. Prior to January 25, 2006, the Company did not
have a controlling interest and accounted for these investments under the
equity method of accounting.
|
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, Accounts Receivable 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 sale 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.
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.
Provisions
for the estimated costs for future product warranty claims are recorded in cost
of sales 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. The Company also periodically evaluates the
adequacy of its reserves for warranty 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. 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.
Provisions
for the estimated allowance for doubtful accounts are recorded in selling,
general and administrative expense, net 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 changes in economic conditions, past due
and nonperforming accounts, bankruptcies or other events affecting particular
customers. The Company also periodically evaluates the
adequacy of its allowance for doubtful accounts recorded in its consolidated
balance sheet as a further test to ensure the adequacy of the recorded
provisions. The analysis for allowance for doubtful accounts 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.
Inventory
Valuation
The
Company values inventories at the lower of the cost or market with approximately
35.5% of the Company’s inventory as of December 31, 2007 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.
Income
Taxes
In June
2006, the Financial Accounting Standards Board (“FASB”) issued FASB
Interpretation No. 48, “Accounting for Uncertainty in Income Taxes (an
interpretation of FASB Statement No. 109)”, (“FIN 48”). FIN 48
clarifies the criteria that an individual tax position must satisfy for some or
all of the benefits of that position to be recognized in a company’s financial
statements. FIN 48 prescribes a recognition threshold of
“more-likely-than-not” and a measurement attribute for all tax positions taken
or expected to be taken on a tax return in order for those tax positions to be
recognized in the financial statements. The Company adopted the
provisions of FIN 48 effective January 1, 2007. As a result of the
adoption of this standard, the Company recorded a charge to retained earnings of
approximately $3.2 million and also increased goodwill related to
pre-acquisition tax uncertainties by approximately $3.8 million.
As of January 1,
2007, after the adoption of FIN 48, the Company has provided a liability of
approximately $36.7 million for unrecognized tax benefits related to various
federal, foreign and state tax income tax matters. The amount of
unrecognized tax benefits at December 31, 2007 was approximately $34.2 million,
of which approximately $9.1 million would impact the effective tax
rate. The difference between the total amount of unrecognized tax
benefits and the amount that would impact the effective rate consists of items
that would adjust deferred tax assets and liabilities of approximately $5.2
million, items that, if recognized prior to January 1, 2009, would result in
adjustments to goodwill of approximately $13.2 million and the federal benefit
of state tax items of approximately $6.4 million.
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 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, “Business Combinations” (“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 reporting unit goodwill and determined that no impairment existed at
either the date of its annual evaluation date of October 1, 2007 or December 31,
2007 in accordance with SFAS No. 142. Accordingly, no adjustments
were required to be recorded in the Company’s Consolidated Financial
Statements.
Goodwill is
considered to be potentially impaired when the net book value of a reporting
unit exceeds its estimated fair value as determined in accordance with the
Company’s valuation procedures. The Company believes that its
assumptions used to determine the fair value for the respective reporting units
are reasonable. If different assumptions were to be used,
particularly with respect to estimating future cash flows, there could be the
potential that an impairment charge could result. Actual operating
results and the related cash flows of the reporting units could differ from the
estimated operating results and related cash flows.
The
Company performs an annual evaluation, and more frequently if impairment
indicators are identified, 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,
“Accounting for the Impairment or Disposal of Long-Lived Assets (“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. The Company
utilizes long-term investment-grade bond yields as the basis for selecting a
discount rate by which plan obligations are measured. An analysis of
projected cash flows for each plan is performed in order to determine
plan-specific duration. Discount rates are selected based on high
quality corporate bond yields of similar durations. 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.
On
December 31, 2006, the Company adopted SFAS No. 158, “Employers’ Accounting for
Defined Benefit Pension and Other Postretirement Plans – an amendment of FASB
Statements No. 87, 88, 106, and 132(R)” (“SFAS No.
158”). SFAS No.
158 requires the Company to: (a) recognize the over-funded or under-funded
status of its defined benefit post-retirement plans as an asset or liability in
its statement of financial position; (b) recognize changes in the funded status
in the year in which the changes occur through comprehensive income and (c)
measure plan assets and benefit obligations as of the date of the employer’s
fiscal year-end. The Company was required to initially recognize the
funded status of its defined benefit plans and to provide the required
disclosures for the fiscal year ended December 31, 2006. The
requirement to measure benefit obligations as of the date of the employer’s
fiscal year-end statement of financial position is effective for the Company for
the fiscal year ended December 31, 2008. See Notes 1 and 7 of the
Notes to the Consolidated Financial Statements included elsewhere
herein.
Warranty,
Product Recalls and Safety Upgrades
The
Company sells a number of products and offers a number of warranties including
in some instances, extended warranties for which the Company receives
proceeds. The specific terms and conditions of these warranties vary
depending on the product sold and the country in which the product is
sold. The Company estimates the costs that may be incurred under its
warranties, with the exception of extended warranties, and records a liability
for such costs at the time of sale. Deferred revenue from extended
warranties is recorded at the estimated fair value and is amortized over the
life of the warranty and reviewed to ensure that the amount recorded is equal to
or greater than estimated future costs. Factors that affect the
Company’s warranty liability include the number of units sold, historical and
anticipated rates of warranty claims, cost per claim and new product
introduction. The Company periodically assesses the adequacy of its
recorded warranty claims and adjusts the amounts as necessary.
Insurance
Liabilities, including Product Liability
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 payments are expected to be made in the succeeding
year by the Company 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 reported 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.
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
Our principal
sources of liquidity are our cash flow from subsidiaries, our ability to borrow
under the terms of our revolving credit facility and our unrestricted cash and
cash equivalents.
Our ability to pay
interest on or to refinance indebtedness depends on our future performance,
working capital levels and capital structure, which are subject to general
economic, financial, competitive, legislative, regulatory and other factors
which may be beyond our control. Critical factors in the level of our
sales, profitability and cash flows are the levels of residential remodeling and
replacement activity and new residential and non-residential construction
activity. The level of new residential and non-residential
construction activity and, to a lesser extent, the level of residential
remodeling and replacement activity are affected by seasonality and cyclical
factors such as interest rates, inflation, consumer spending habits, employment
levels and other macroeconomic factors, over which we have no
control. Any decline in economic activity as a result of these or
other factors typically results in a decline in new construction and, to a
lesser extent, residential remodeling and replacement purchases, which would
result in a decrease in our sales, profitability and cash
flows. Reduced levels of home sales and housing starts and other
softening in the housing markets in 2007 negatively affected our results of
operations in 2007 and our cash flow and these factors are expected to continue
to negatively affect our results of operations and its cash flow in
2008.
In addition,
uncertainties due to the significant instability in the mortgage markets and the
resultant impact on t