MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Executive Summary
Until 2007, our business was focused upon three businesses: hermetically sealed
compressors, small gasoline engine and power train products, and electrical
components. Over the course of 2007 and 2008, we successfully executed a
strategy to divest operations that we did not consider to be core to our ongoing
business strategy. As part of that strategy, we sold the Residential &
Commercial, Asia Pacific and Automotive & Specialty portions of our Electrical
Components business, and also sold our Engine & Power Train business (with the
exception of TMT Motoco, which recently completed a judicial restructuring and
is in the process of finalizing its liquidation). We also completed the sale of
MP Pumps, a business not associated with any of our major business segments. As
a result of these initiatives, we are now primarily focused on our global
compressor business.
In addition to the relative competitiveness of our products, our business is
significantly influenced by several specific economic factors: the strength of
the overall global economy, which can have a significant impact on our sales
volumes; the drivers of product cost, especially the cost of copper and steel;
the relative value against the U.S. dollar of those foreign currencies where we
operate; and global weather conditions.
With respect to global economic activity, the recent decline, which has become a
global recession precipitated by the financial crisis, has had a detrimental
effect on our sales volumes. This decline has been marked by a deterioration of
credit availability for consumers and customers, increased borrowing rates for
those who are able to secure lines of credit, slowdowns in the housing market,
and growing unemployment rates in some countries where our business is
concentrated. Given that these unfavorable conditions have arisen
simultaneously, the impact has been significant. In addition, the current
slowdown is affecting all of our global markets with nearly equal severity. In
the first half of 2008, consistent with our expectations, we began to see a
slowdown when compared to prior periods. As a result of the conditions described
above, this trend continued at an accelerated pace in the third quarter of the
year, and in the fourth quarter resulted in an even greater decline in activity.
The sales volumes in the first quarter of 2009 reflected conditions similar to
those experienced in the fourth quarter of 2008. We cannot currently project
when market conditions may begin to improve. Accordingly, we have accelerated
certain restructuring activities which involve the idling of underutilized
assets and reductions in employment levels throughout the world.
Due to the high material content of copper and steel in compressor products, our
results of operations are very sensitive to the prices of these commodities.
Overall, commodity prices have been extremely volatile during 2008 and through
the first quarter of 2009. The price of copper is representative of this overall
market volatility; from January 1 through July 31, 2008, copper prices increased
by 22.6%; in the subsequent five months, the price dropped by 62.8%; then, from
January 1 to March 31, 2009, copper prices rebounded to an extent, increasing
once again by 23.9%. Such extreme volatilities create substantial challenges to
our ability to control the cost of our products, as the final product cost can
depend greatly on our ability to secure optimally priced forward and futures
contracts. The cost for the types of steel utilized in our products escalated in
a manner similar to copper in 2008 (one type of steel increased by 86.2% from
the beginning of 2008 to September 30) but has not yet experienced a similar
decline in certain markets, particularly in Brazil. We currently expect that
prices for the types of steel used in our products should decline over the
remainder of 2009 in a manner commensurate to other commodities. Due to
competitive markets, we are typically not able to quickly recover cost increases
Page 25
Table of Contents
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
through price increases or other cost savings. While we have been proactive in
addressing the volatility of these costs, including executing forward purchase
and futures contracts to cover approximately 70% of our anticipated copper
requirements for the remaining three quarters of 2009, renewed rapid escalation
of these costs would nonetheless have an adverse affect on our results of
operations both in the near and long term. The rapid increase of steel prices
has a particularly negative impact, as there is currently no well-established
market for hedging against increases in the cost of steel. In addition, while
the use of forwards and futures can mitigate the risks of cost increases
associated with these commodities by "locking in" costs at a specific level,
declines in the prices of the underlying commodities can result in downward
pressure in selling prices, particularly if competitors have lesser future
purchase positions, thus causing a contraction of margins.
The compressor industry and our business in particular are characterized by
global and regional markets that are served by manufacturing locations
positioned throughout the world. An increasing portion of our manufacturing
presence is in international locations. From January 1 to December 31, 2008,
approximately 81% of our compressor manufacturing activity took place outside
the United States, primarily in Brazil, France, and India. Similarly,
approximately 82% of our sales in 2008 were to destinations outside the United
States. As a result, our consolidated financial results are extremely sensitive
to changes in foreign currency exchange rates, most notably the Brazilian real,
the euro and the Indian rupee. Because of our significant manufacturing and
sales presence in Brazil, changes in the Brazilian real have been especially
adverse to our results of operations when compared to prior periods; from
January 1 to July 31, 2008, the Brazilian real strengthened by 11.6%, and in the
following five months the real weakened by 49.2%. Our results of operations are
substantially affected by several types of foreign exchange risk. One type is
balance sheet re-measurement risk, which results when assets and liabilities are
denominated in currencies other than the functional currencies of the respective
operations. This risk applies for our Brazilian operation, which denominates
certain of its borrowings in U.S. dollars. The periodic re-measurement of these
liabilities is recognized in the income statement. In the third and fourth
quarters of 2008, the abrupt weakening of the Brazilian real against the U.S.
dollar resulted in losses which were reported in our results of operations.
Another significant risk for our business is transaction risk, which occurs when
the foreign currency exchange rate changes between the date that a transaction
is expected and when it is executed, such as collection of sales or purchase of
goods. This risk affects our business adversely when foreign currencies
strengthen against the dollar, which until recently had been the case for the
last several years. We have developed strategies to mitigate or partially offset
these impacts, primarily hedging against transactional exposure where the risk
of loss is greatest. In particular, we have entered into foreign currency
forward purchases to hedge the Brazilian export sales, some of which are
denominated in U.S. dollars and some in euros. To a lesser extent, we have also
entered into foreign currency forward purchases to mitigate the effect of
fluctuations in the euro and the Indian rupee. However, these hedging programs
only reduce exposure to currency movements over the limited time frame of three
to fifteen months. Additionally, if the currencies weaken against the dollar,
any hedge contracts that have been entered into at higher rates result in losses
to our income statement when they are settled. From January 1 to December 31,
2008, the euro weakened against the dollar by 4.5%, the rupee weakened by 23.4%
and the real weakened by 31.9%. This resulted in losses to our income statement
for the settlement of currency contracts entered into with respect to these
currencies. In general, the strengthening of the U.S. dollar is favorable to our
overall results over time; however, the rapid and significant weakening of
foreign currencies in the third and fourth quarters of 2008 caused balance sheet
re-measurement losses to out-weigh the favorable impacts of net transactional
gains in the period. The euro and the
Page 26
Table of Contents
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
rupee continued to weaken against the dollar in the first quarter of 2009,
(weakening by 5.1% and 4.0% respectively), although the real was relatively
stable, fluctuating by less than 1.0%.
Ultimately, long-term changes in currency exchange rates have lasting effects on
the relative competitiveness of operations located in certain countries versus
competitors located in different countries. Only one major competitor to our
compressor business faces similar exposure to the real. Other competitors,
particularly those with operations in countries where the currency has been
substantially pegged to the U.S. dollar, currently enjoy a cost advantage over
our compressor operations.
Our foreign manufacturing operations are subject to many other risks, including
governmental expropriation, governmental regulations that may be disadvantageous
to businesses owned by foreign nationals, and instabilities in the workforce due
to changing political and social conditions.
Aside from our efforts to manage increasing commodity costs and foreign exchange
risk with forward purchase contracts and futures, we have executed other
strategies to mitigate or partially offset the impact of rising costs and
declining volumes, which include aggressive cost reduction actions, cost
optimization engineering strategies, selective out-sourcing of components where
internal supplies are not cost competitive, continued consolidation of our
supply base and acceleration of low-cost country sourcing. In addition, the
sharing of increases in raw material costs has been, and will continue to be as
the situation warrants, the subject of negotiations with our customers,
including seeking mechanisms that would result in more timely adjustment of
pricing in reaction to changing material costs. While we believe that our
mitigation strategies have offset a substantial portion of the financial impact
of these increased costs, no assurances can be given that the magnitude and
duration of these increased costs will not have a continued material adverse
impact on our operating results. As we have raised prices to cover cost
increases, it is possible that customers may react by choosing to purchase their
requirements from alternative suppliers, or, in the case of certain customers,
to source more compressors utilizing internal capabilities. We may also need to
adjust prices downward if the economy contracts for an extended period of time.
Any increases in cost that could not be recovered through increases in selling
prices would make it more difficult for us to achieve our business plans.
Upon completion of the divestitures of the business operations discussed above,
we eliminated all our North American debt, and accumulated substantial net cash
on our balance sheet. This cash balance has become increasingly important in
light of recently constrained capital markets. In addition, consolidated
interest expense for our business, taking into account amounts allocated to both
continuing and discontinued operations, will be substantially reduced for the
foreseeable future. We also expect further non-operational cash inflows through
the end of 2009, due primarily to the termination and reversion of our
over-funded hourly pension plan and receipt of a tax refund in the U.S. However,
challenges remain with respect to our ability to generate appropriate levels of
liquidity via results of operations, particularly those driven by global
economic conditions, currency exchange and commodity pricing as discussed above.
With current macroeconomic conditions and expected further volatility of the
U.S. dollar versus key currencies, we expect that we may not generate cash from
normal operations until further restructuring activities are implemented or
economic conditions improve. As part of our strategy to maintain sufficient
liquidity, we continue to maintain various credit facilities, both drawn and
undrawn upon, in each of the jurisdictions in which we operate. While we believe
that current cash balances combined with the cash to be generated by the pension
plan reversion and the
Page 27
Table of Contents
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
tax refund will produce adequate liquidity to implement our business strategy
over a reasonable time horizon, there can be no assurance that such improvements
will ultimately be adequate if economic conditions remain at current levels or
even continue to deteriorate. We anticipate that we will restrict non-essential
uses of our cash balances until the global economy begins to recover, credit
markets become less constrained, and cash production from normal operations
improves. In addition, while our business dispositions have improved our
liquidity, many of the sale agreements provide for certain retained liabilities,
indemnities and/or purchase price adjustments including liabilities that relate
to environmental issues and product warranties. While we believe we have
adequately provided for such contingent liabilities based on currently available
information, future events could result in the recognition of additional
liabilities that could consume available liquidity and management attention.
For further information related to other factors that have had, or may in the
future have, a significant impact on our business, financial condition or
results of operations, see "Other Matters - Adequacy of Liquidity Sources,"
"Outlook," and "Cautionary Statements Relating To Forward-Looking Statements"
below.
Page 28
Table of Contents
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Results of Operations
A summary of our operating results as a percentage of net sales is shown below
(dollar amounts in millions):
Three Months Ended March 31,
(dollars in millions) 2009 % 2008 %
Net sales $ 148.1 100.0 % $ 275.2 100.0 %
Cost of sales 138.8 93.7 % 229.7 83.5 %
Selling and administrative expenses 32.2 21.7 % 31.6 11.5 %
Impairments, restructuring charges, and
other items 5.9 4.0 % 0.5 0.2 %
Operating (loss) income (28.8 ) (19.4 %) 13.4 4.8 %
Interest expense 2.9 2.0 % 7.3 2.6 %
Interest income and other, net 0.8 0.5 % 1.8 0.6 %
(Loss) income from continuing operations
before taxes (30.9 ) (20.9 %) 7.9 2.8 %
Tax (benefit) expense (6.4 ) (4.3 %) 1.2 0.4 %
(Loss) income from continuing operations ($24.5 ) (16.5 %) $ 6.7 2.4 %
|
Three Months Ended March 31, 2009 vs. Three Months Ended March 31, 2008
Consolidated net sales from continuing operations in the first quarter of 2009
decreased to $148.1 million from $275.2 million in 2008. After consideration for
the effect of currency translation, which decreased sales in U.S. dollars by
$28.3 million, sales declined by $98.8 million or 36%. Sales for refrigeration &
freezer ("R&F") applications recorded the most significant decline, with sales
reduced by $58.0 million or 66% year-on-year. Volumes for R&F product were the
most substantially affected by the global economic contraction, as consumer
credit has become more constrained than in the first quarter of 2008 and the
rate of housing starts has declined. The downturn in market volumes for R&F
applications was the end result of a twofold effect of these economic
conditions; a decreased demand by consumers, combined with lower demand from our
R&F customers as they brought their own inventories in line with lower volumes.
Compressors for commercial and aftermarket applications also showed a
substantial decline when compared to the first quarter of 2008, down by
$52.4 million or 38%. For the commercial and aftermarket business, volume
declines were also driven by softer economic conditions as well as lower
shipments to customers as they too reduced inventory balances to better reflect
current sales levels. Sales of compressors for air conditioning and other
applications declined by $16.7 million or 34%.
Cost of sales was $138.8 million in the three months ended March 31, 2009
compared to $229.7 million in the three months ended March 31, 2008. As a
percentage of net sales, cost of sales was 93.7% and 83.5% in the first quarters
of 2009 and 2008, respectively. Gross profit (defined as net sales less cost of
sales) declined by $36.2 million, from $45.5 million in the first quarter of
2008 to $9.3 million in the first quarter of 2009. The most substantial impact
to profitability in the first quarter of 2009 was volume declines, which had an
unfavorable impact of $29.6 million when compared to the same quarter of 2008.
Unfavorable commodity costs of $4.6 million when compared to the prior year were
also a factor; while we saw commodities generally move in directions favorable
to us over the second half of 2008, our practice of mitigating our exposure to
such movements will result in limited benefit being realized,
Page 29
Table of Contents
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
particularly in the first half of 2009. All other purchasing-related costs were
also unfavorable by $4.5 million. Pricing and mix impacts were unfavorable by
$3.3 million, and the effect of all other income and expense items reduced
operating results year-on-year by a total of $8.4 million. These declines were
offset by productivity gains of $9.8 million, reflecting cost reduction and
efficiency improvements that have been implemented over the course of the past
twelve months. Currency impacts were also favorable in the quarter, due to the
strengthening U.S. dollar, improving results by $4.4 million.
Selling and administrative ("S&A") expenses were $32.2 million and $31.6 million
in the three months ended March 31, 2009 and 2008 respectively. As a percentage
of net sales, S&A expenses were 21.7% in the first quarter of 2009 compared to
11.5% in the first quarter of 2008. We recorded expenditures of approximately
$3.3 million in the first quarter of 2009 for one-time professional fees,
primarily comprised of legal fees for corporate governance issues. This
expenditure constituted an increase of $1.6 million in professional fees
incurred for one-time projects when compared to the same period in 2008. All
other S&A expenses were reduced by a total of $1.0 million.
We recorded expense of $5.9 million in impairments, restructuring charges, and
other items in the three months ended March 31, 2009. More than half of these
expenses were as a result of costs associated with reductions in force at our
Brazilian ($1.9 million), North American ($0.8 million) and Indian
($0.6 million) locations during the quarter. The remainder of the expense in the
first quarter of 2009 was primarily associated with the establishment of an
environmental accrual for our former Tecumseh, Michigan facility of
$2.3 million. We also incurred $0.3 million in losses related to the transfer of
surplus land.
Interest expense amounted to $2.9 million in the three months ended March 31,
2009 compared to $7.3 million in the same period of 2008. The substantially
lower interest expense in the current quarter was primarily attributable to
reduced borrowings, including both debt balances and accounts receivable
factoring, in the quarter just ended. In addition, interest expense in the first
quarter of 2008 included $1.4 million in fees associated with our former first
lien credit agreement that were expensed upon its termination. Interest income
and other, net was $0.8 million in the first quarter of 2009 compared to
$1.8 million in the first quarter of 2008, reflecting the lower levels of cash
and short-term investments held in 2009.
Our results of operations reflect a $6.4 million income tax benefit from
continuing operations for the first quarter of 2009 and a $1.2 million income
tax expense from continuing operations for the first quarter of 2008. For
further discussion of the factors that affect our tax benefits and expenses,
refer to Note 13, "Income Taxes," of the Notes to the consolidated condensed
financial statements.
As a result of the factors described above, net loss from continuing operations
for the quarter ended March 31, 2009 was $24.5 million ($1.32 per share basic
and diluted) as compared to net income of $6.7 million ($0.36 per share basic,
$0.34 per share diluted) in the same period of 2008.
Page 30
Table of Contents
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OTHER MATTERS
LIQUIDITY AND CAPITAL RESOURCES
Our primary liquidity needs are to fund capital expenditures, service
indebtedness and support working capital requirements. In 2008, we utilized the
reversion of our salaried pension plan and the recovery of non-income taxes in
our Brazilian operations as significant sources of cash. In general, our
principal sources of liquidity are cash flows from operating activities, when
available, and borrowings under available credit facilities.
A substantial portion of our operating income can be generated by foreign
operations. In those circumstances, we are dependent on the earnings and cash
flows of and the combination of dividends, distributions and advances from our
foreign operations to provide the funds necessary to meet our obligations in
each of our legal jurisdictions. There are no significant restrictions on the
ability of our subsidiaries to pay dividends or make other distributions.
Cash Flow
In the first quarter of 2009, cash used by operations amounted to $28.3 million.
The most significant uses of cash during the quarter involved working capital
requirements, particularly payables and accrued expenses, which were reduced by
$27.4 million. $13.1 million of that total related to the payment of a working
capital settlement to the purchaser of our former Engine & Powertrain business,
which had been accrued as of December 31, 2008. The remainder of the reduction
in payables and accrued expenses is primarily reflective of reduced business
volumes, which in turn led to reduced purchases of raw materials during the
quarter. In addition, there was a reduction in payables days outstanding of
seven days when compared to the end of 2008. Our continued aggressive efforts to
reduce inventory balances yielded cash of $10.1 million during the quarter; the
lower levels of inventory reflect a decrease in days inventory on hand ("DOH")
of eleven days when compared to December 31, 2008. Management of accounts
receivable provided cash of $5.8 million. The remaining cash use was primarily
attributable to cash net losses, which were a result of the economic downturn
adversely affecting our sales volumes and, to a lesser extent, higher steel
costs.
When evaluating days to collection for outstanding receivables, the days sales
outstanding ("DSO") improved by eight days from the end of the 2008 to March 31,
2009 (before consideration for discounted accounts receivable), due primarily to
a significant improvement in time to collection for our India operations.
In evaluating balance sheet metrics, we consider the DSO and DOH metrics to be
more relevant when comparing year-over-year periods than when comparing the
current period to year-end, as it removes any seasonality of our sales patterns
from the comparison. Average DSO increased by three days at March 31, 2009
versus March 31, 2008, before giving effect to receivables sold. DOH was fifteen
days higher at March 31, 2009 as compared to March 31, 2008.
Cash used by investing activities was $2.1 million in the first three months of
2009 versus cash used by investing activities of $1.6 million for the same
period of 2008. $6.8 million in proceeds were received from the sale of assets
during 2008, while no such proceeds were recorded in the first three months of
2009. Asset sales in 2008 included an airplane for $3.4 million, our Dundee,
Michigan facility for $1.6
Page 31
Table of Contents
TECUMSEH PRODUCTS COMPANY AND SUBSIDIARIES
PART 1. FINANCIAL INFORMATION - ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
million, excess equipment for $1.0 million, and our airport facility for
$0.8 million. Changes in restricted cash represented a source of $0.5 million in
cash in 2009 and a use of $7.6 million in cash in 2008.
Cash provided by financing activities was $7.2 million in the first quarter of
2009 as compared to cash provided of $3.2 million in the comparable period of
2008. The changes in both periods were due to increases in borrowing at foreign
facilities.
Credit Facilities and Cash on Hand
In addition to cash provided by operating activities when available, we use a
combination of our revolving credit arrangement under our North American credit
agreement, foreign bank debt and other foreign credit facilities such as
accounts receivable discounting programs to fund our capital expenditures and
working capital requirements. For the three months ended March 31, 2009 and the
full year ended December 31, 2008, our average outstanding debt balance was
. . .
Add
TECUA to Portfolio
Set Alert
Email to a
Friend