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MAG > SEC Filings for MAG > Form 10-Q on 14-Aug-2013All Recent SEC Filings

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Form 10-Q for MAGNETEK, INC.


14-Aug-2013

Quarterly Report


Item 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations

Overview

Magnetek, Inc. ("Magnetek," "the Company," "we," or "us") is a global provider of digital power control systems that are used to control motion and power primarily in material handling, elevator, and mining applications. Our digital power control systems serve the needs of selected niches of traditional and emerging markets that are becoming increasingly dependent on "smart" power. We are North America's largest independent supplier of digital drives, radio controls, software and accessories for industrial cranes and hoists, and we are also the largest independent supplier of


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digital direct current ("DC") motion control systems for elevators. Customers include most of the industrial crane and hoist companies in North America and the world's leading elevator builders. In addition, we have a growing range of products for motion control systems used in mining equipment. We are focused on providing our customers cost-effective power solutions that will improve efficiency, reduce costs, and save energy. Other trends in our served markets we believe we can capitalize on include the adoption of wireless control solutions, modernization and upgrading of installed equipment, and an increasing desire in our markets for added features, enhanced performance, and safer workplace environments. We believe that with our focus on innovation and our application expertise, combined with strong brand name recognition, broad product offerings and sales channel capabilities, we are well positioned to grow our business by gaining share in both our served markets as well as in new markets. Our operations are located in North America, predominantly in Menomonee Falls, Wisconsin, our Company headquarters.
Our product offerings for material handling applications include innovative power control systems, radio remote controls, and braking, collision avoidance, and electrification subsystems, sold primarily to original equipment manufacturers ("OEMs") of overhead cranes and hoists. While we sell primarily to OEMs of overhead cranes and hoists, we spend a great deal of effort understanding the needs of end users to gain specification. We can combine our products with engineered services to provide complete customer-specific systems solutions. A primary driver of our growth in this market is our ability to improve our customers' operations and provide them with quantifiable, and in many cases, significant returns on invested capital.
Our product offerings for elevator applications are comprised of highly integrated subsystems and drives used to control motion primarily in high-rise, high-speed elevator applications. Our products are sold mainly to elevator OEMs and we have a significant share of the available market for DC drives and subsystems used in high-rise elevators. We believe we have opportunities for growth in available elevator markets by introducing new energy-saving product offerings for both alternating current ("AC") and DC applications, expanding the breadth of our product offerings for lower performance AC applications, and using our new product offerings to expand geographically.
Our product offerings for mining applications include drives used mainly in the underground coal mining industry. We have been a leading supplier of DC digital motion control systems to underground coal mining equipment manufacturers for over 30 years. We believe that global energy needs will continue to grow significantly for the foreseeable future, and part of that need will continue to be met by traditional coal-based sources. In addition, we intend to develop and introduce new products for hard rock and surface mining applications in an effort to reduce our reliance on the coal industry.
More recently, we developed and marketed power inverters for renewable energy applications, primarily for use in wind turbines. These inverters convert DC power from renewable energy sources such as wind to utility-grade AC power. Challenging conditions have persisted in renewable energy markets for the past several years, and these markets have been characterized by rapidly changing product requirements, high levels of investment, and declining sales and profitability. We responded to the decline in our renewable energy sales by reducing our cost structure throughout fiscal year 2012, and we wrote down the value of our assets in that part of our business in the fourth quarter of fiscal 2012. Going forward, we intend to continue to support our existing installed based of inverters, but we don't intend to pursue new business opportunities in renewable energy, as we believe we have better growth opportunities in our traditional served markets.
We intend to continue to build on our competitive strengths in established material handling, elevator, and mining markets and continue to invest in research and development to expand our product portfolio aimed at penetrating growing markets for digital power-based systems, seeking to increase our market share, enter new markets, and expand our current business model geographically.

Continuing Operations

We focus on a variety of key indicators to monitor our business performance. These indicators include order rates, sales growth, gross profit margin, operating profit margin, net income, earnings per share, and working capital and cash flow measures. These indicators are compared to our operating plans as well as to our prior year actual results, and are used to measure our success relative to our objectives. Our Company objectives are to grow sales at least 10% on a year-over year basis, to achieve and maintain 35% gross margins and 10% operating profit margins, and to generate sufficient cash flow to fund our growth initiatives, our operations and our obligations.

While our 2013 second quarter sales decreased 7% from the comparable period last year, the majority of the decline was due to lower sales of wind power inverters and products for mining applications. Given the decline in sales, our second quarter 2013 gross profit and income from operations also declined year-over-year. However, second quarter


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sales of products with material handling and elevator applications increased year-over-year by 7% and 11%, respectively. As a result, our second quarter sales increased 8% sequentially over the first quarter of fiscal 2013, and our after-tax net income from continuing operations more than doubled sequentially to $1.2 million in the second quarter as compared to the first quarter of fiscal 2013. Our cash balances decreased by $0.8 million to $24.6 million as of the end of the second quarter of 2013, due mainly to a $4.4 million contribution to our defined benefit pension plan.

Business conditions remain mixed, and manufacturing growth rates appear to be moderating in the U.S. in the near term, while the overall U.S. economy continues to grow at a slow rate. We believe this slow growth environment will continue for the remainder of fiscal 2013, and that our operating results should improve moderately in the second half of the year both in terms of sales and profitability. Longer-term, we believe we can further grow our business by gaining share, by entering new markets, and by expanding geographically.

Macro-economic conditions remain dynamic and fragile. As a result, it remains challenging to predict the duration or the magnitude of the current economic recovery, whether in the U.S. overall or in the specific end markets we serve. For the remainder of 2013, we intend to focus our development and marketing efforts on organic sales growth opportunities in our traditional served markets. In addition, we are executing actions to prudently expand our reach into new end markets and geographical areas, and intend to control our cost structure and reallocate resources from those parts of our business which are not growing to those areas where we have the best growth opportunities.

Discontinued Operations

Certain expenses related to previously divested businesses have been classified as discontinued operations in the accompanying condensed consolidated financial statements and footnotes for all periods presented (see Note 2 of Notes to Condensed Consolidated Financial Statements). Expenses related to previously divested businesses include environmental matters, asbestos claims and product liability claims (see Note 4 of Notes to Condensed Consolidated Financial Statements). All of these issues relate to businesses we no longer own and most relate to indemnification agreements that we entered into when we divested those businesses.

Going forward, our results of discontinued operations may include additional costs incurred related to businesses no longer owned, and may include additional costs above those currently estimated and accrued related to the divestiture of our telecom power systems ("TPS") business, which was divested in 2008, and our power electronics business, which was divested in 2006.

Critical Accounting Policies and Estimates

There have been no material changes to our critical accounting policies and estimates from the information provided in Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations", included in our Annual Report on Form 10-K for the fiscal year year ended December 30, 2012.

Results of Operations - Three Months Ended June 30, 2013, and July 1, 2012

Net Sales and Gross Profit

Net sales for the three months ended June 30, 2013, were $27.0 million, a decrease of 7% from the three months ended July 1, 2012, sales of $29.0 million. The decrease in sales was primarily due to lower sales of products in mining markets, and lower sales of wind power inverters following our decision to no longer actively market our products in renewable energy markets, partially offset by higher sales into material handling and elevator markets. Sales of our mining products and wind inverters comprise our energy systems sales in the table below. Net sales by major market were as follows, in millions:


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                                  Three Months Ended
                          June 30, 2013        July 1, 2012
Material handling       $    20.2     75 %   $   18.9     65 %
Elevator motion control       5.8     21 %        5.3     18 %
Energy systems                1.0      4 %        4.8     17 %
Total net sales         $    27.0    100 %   $   29.0    100 %

Gross profit for the three months ended June 30, 2013, was $9.3 million, or 34.6% of sales, versus $10.2 million, or 35.0% of sales, for the three months ended July 1, 2012. The decrease in gross profit as a percentage of sales for the three months ended June 30, 2013, as compared to the three months ended July 1, 2012, was mainly due to lower sales volume into mining and renewable energy markets in the current year.

Research and Development, Pension Expense, and Selling, General and Administrative

Research and development ("R&D") expense decreased to $0.8 million, or 2.9% of sales, for the three months ended June 30, 2013, compared to R&D expense of $1.0 million, or 3.3% of sales, for the three months ended July 1, 2012, as we have not incurred any R&D expense related to products with renewable energy applications in the current fiscal year.

Pension expense was $1.6 million and $1.7 million for the three months ended June 30, 2013 and July 1, 2012, respectively (see Note 7 of Notes to Condensed Consolidated Financial Statements). The decrease in pension expense was mainly due to a decrease in the interest expense component of pension expense.

Selling, general and administrative ("SG&A") expense was $5.5 million (20.5% of sales) for the three months ended June 30, 2013, versus $5.0 million (17.2% of sales) for the three months ended July 1, 2012. Selling expenses in the three months ended June 30, 2013, were $3.2 million, comparable to selling expenses of $3.0 million in the three months ended July 1, 2012. General and administrative ("G&A") expense increased to $2.3 million for the three months ended June 30, 2013, from $2.0 million for the three months ended July 1, 2012, mainly due to a non-cash expense related to the revaluation of our investments in annuity contracts due to increased interest rates during the three months ended June 30, 2013.

Income from Operations

Income from operations for the three months ended June 30, 2013, was $1.5 million compared to income from operations of $2.5 million for the three months ended July 1, 2012. The decrease in income from operations for the three months ended June 30, 2013, as compared to the three months ended July 1, 2012, was mainly due to lower gross profit resulting from lower sales volume, and to a lesser extent, higher operating expenses in the three months ended June 30, 2013.

Interest Income

Interest income was negligible for the three months ended June 30, 2013 and July 1, 2012.

Provision for Income Taxes

We recorded a provision for income taxes of $0.3 million for each of the three months ended June 30, 2013, and July 1, 2012. The income tax provision in both periods includes non-cash deferred income tax provisions of $0.2 million related to changes in deferred tax liabilities from goodwill amortization for tax purposes.

Income from Continuing Operations

We recorded income from continuing operations of $1.2 million for the three months ended June 30, 2013, or $0.36 per diluted share, compared to income from continuing operations of $2.3 million for the three months ended July 1, 2012, or $0.70 per diluted share.


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Income (Loss) from Discontinued Operations

We recorded a negligible loss from discontinued operations for the three months ended June 30, 2013, of $0.01 per share on a diluted basis, compared to income from discontinued operations of $0.9 million, or $0.29 per share on a diluted basis, for the three months ended July 1, 2012. Our income from discontinued operations in the three months ended July 1, 2012, includes a gain of $1.1 million from non-cash adjustments of liabilities related to previously owned businesses, partially offset by certain legal and other expenses related to previously owned businesses (see Notes 2 and 4 of Notes to Condensed Consolidated Financial Statements).

Net Income

Our net income was $1.2 million in the three months ended June 30, 2013, or $0.35 per diluted share, compared to net income of $3.2 million in the three months ended July 1, 2012, or $0.99 per share on a diluted basis.

Results of Operations - Six Months Ended June 30, 2013, and July 1, 2012

Net Sales and Gross Profit

Net sales for the six months ended June 30, 2013, were $52.1 million, a decrease of 10% from the six months ended July 1, 2012, sales of $57.7 million. The decrease in sales was primarily due to lower sales of products in mining markets, and lower sales of wind power inverters following our decision to no longer actively market our products in renewable energy markets, partially offset by higher sales into material handling and elevator markets. Sales of mining products and wind inverters comprise our energy systems sales in the table below. Net sales by major market were as follows, in millions:

                                   Six Months Ended
                          June 30, 2013        July 1, 2012
Material handling       $    38.4     74 %   $   37.2     65 %
Elevator motion control      11.7     22 %       10.5     18 %
Energy systems                2.0      4 %       10.0     17 %
Total net sales         $    52.1    100 %   $   57.7    100 %

Gross profit for the six months ended June 30, 2013, was $17.5 million, or 33.6% of sales, versus $20.8 million, or 36.0% of sales, for the six months ended July 1, 2012. The decrease in gross profit as a percentage of sales for the six months ended June 30, 2013, as compared to the six months ended July 1, 2012, was mainly due to lower sales volume into mining and renewable energy markets in the current year.

Research and Development, Pension Expense, and Selling, General and Administrative

Research and development ("R&D") expense was $1.7 million, or 3.3% of sales, for the six months ended June 30, 2013, comparable to R&D expense of $1.9 million, or 3.4% of sales, for the six months ended July 1, 2012.

Pension expense was $3.1 million and $3.4 million for the six months ended June 30, 2013 and July 1, 2012, respectively (see Note 7 of Notes to Condensed Consolidated Financial Statements). The decrease in pension expense was mainly due to a decrease in the interest expense component of pension expense.

Selling, general and administrative ("SG&A") expense was $10.4 million (19.9% of sales) for the six months ended June 30, 2013, versus $10.5 million (18.2% of sales) for the six months ended July 1, 2012. Selling expenses in the six months ended June 30, 2013, were $6.1 million, comparable to selling expenses of $5.9 million in the six months ended July 1, 2012. General and administrative ("G&A") expense decreased to $4.3 million for the six months ended June 30, 2013, from $4.6 million for the six months ended July 1, 2012, mainly due to lower incentive compensation provisions.


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Income from Operations

Income from operations for the six months ended June 30, 2013, was $2.3 million compared to income from operations of $5.0 million for the six months ended July 1, 2012. The decrease in income from operations for the six months ended June 30, 2013, as compared to the six months ended July 1, 2012, was mainly due to lower gross profit resulting from lower sales volume, partially offset by lower operating expenses in the six months ended June 30, 2013.

Interest Income

Interest income was negligible for the six months ended June 30, 2013 and July 1, 2012.

Provision for Income Taxes

We recorded a provision for income taxes of $0.5 million for each of the six months ended June 30, 2013, and July 1, 2012. The income tax provision in both periods is comprised primarily of non-cash deferred income tax provisions related to changes in deferred tax liabilities from goodwill amortization for tax purposes.

Income from Continuing Operations

We recorded income from continuing operations of $1.7 million for the six months ended June 30, 2013, or $0.53 per diluted share, compared to income from continuing operations of $4.4 million for the six months ended July 1, 2012, or $1.37 per diluted share.

Income (Loss) from Discontinued Operations

We recorded a loss from discontinued operations for the six months ended June 30, 2013, of $0.1 million, or a $0.03 loss per share on a diluted basis, compared to income from discontinued operations of $5.7 million, or $1.74 per share on a diluted basis, for the six months ended July 1, 2012. Our income from discontinued operations in the six months ended July 1, 2012, includes a gain of $5.0 million from a settlement agreement to resolve a legal matter (see Note 2 of Notes to Condensed Consolidated Financial Statements). Income from discontinued operations in the six months ended July 1, 2012, also includes a gain of $1.1 million from non-cash adjustments of liabilities related to previously owned businesses, partially offset by certain legal and other expenses related to previously owned businesses.

Net Income

Our net income was $1.6 million in the six months ended June 30, 2013, or $0.50 per diluted share, compared to net income of $10.1 million in the six months ended July 1, 2012, or $3.11 per share on a diluted basis.

Liquidity and Capital Resources

Our unrestricted cash and cash equivalent balance decreased approximately $4.1 million during the first six months of fiscal 2013, from $28.7 million at December 30, 2012, to $24.6 million at June 30, 2013. Restricted cash balances remained unchanged during the first six months of fiscal 2013 at $0.3 million. The primary source of cash during the first six months of fiscal 2013 was income from continuing operations of $1.7 million, which reflects non-cash charges aggregating $4.4 million for depreciation, amortization, pension, stock compensation, and deferred income tax provisions.

The primary uses of cash in the first six months of fiscal 2013 included $8.3 million in contributions to our pension plan and a $1.2 million net increase in operating assets and liabilities. Inventories decreased $0.8 million in the first six months of fiscal 2013, mainly due to lower sales volume in the first half of fiscal 2013 as compared to sales levels in the fourth quarter of fiscal 2012. Accounts payable and other accrued liabilities decreased by $2.4 million during the first six months of fiscal 2013, due to volume-related decreases in trade accounts payable balances, as well as payment of incentive compensation amounts accrued as of December 30, 2012. We also consumed cash of $0.2 million for capital expenditures.


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While we may make further investments to increase capacity and improve efficiency, we do not anticipate that capital expenditures in fiscal 2013 will exceed $1.5 million. The expected amount of capital expenditures could change depending upon changes in revenue levels, our financial condition, and the general economy.

In November 2007 we entered into an agreement with Associated Bank, N.A. ("Associated Bank") providing for a $10 million revolving credit facility (the "revolving facility"). Borrowings under the revolving facility bore interest at the London Interbank Offering Rate ("LIBOR") plus 1.5%, with borrowing levels determined by a borrowing base formula as defined in the agreement, based on the level of eligible accounts receivable. The revolving facility also supports the issuance of letters of credit, places certain restrictions on our ability to pay dividends or make acquisitions, and includes covenants which require minimum operating profit levels and limit annual capital expenditures. Borrowings under the revolving facility were collateralized by our accounts receivable and inventory. We have subsequently entered into four amendments to the revolving facility, the primary purpose of which was to extend the maturity dates of the revolving facility and to broaden the security interest of Associated Bank to include all assets of the Company.

On June 7, 2013, we entered into the most recent fifth amendment to the revolving facility with Associated Bank, the purpose of which was to (i) extend the maturity date of the revolving facility to June 15, 2014; (ii) retain the commitment amount of Associated Bank to $12.5 million; (iii) establish minimum quarterly adjusted earnings before interest, taxes, depreciation and amortization requirements for the term of the agreement; and (iv) establish maximum quarterly cash amounts that we can contribute to our defined benefit pension plan during the term of the agreement. There were no amounts outstanding on the amended revolving facility as of June 30, 2013. We are currently in compliance with all covenants of the revolving facility, as amended.

Primarily as a result of the decline in interest rates over the past decade, the accumulated benefit obligation of our defined benefit pension plan currently exceeds plan assets. We contributed $30 million to our pension plan in December 2006 following the divestiture of our power electronics business, and subsequently have made contributions to the plan aggregating $58 million from April 2008 through June 2013, funded by cash generated from operations and existing cash on hand.

Estimated future contributions to achieve 100% funded status, as measured using current actuarial assumptions, are projected to be approximately $84 million, to be contributed over the next 9 years. Estimated pension contributions for fiscal 2013 are projected at approximately $20 million in total, of which $8.3 million was contributed in the first six months of fiscal 2013.

These estimates and the actual timing and amount of required plan contributions are dependent upon many factors, including returns on invested assets, the level of certain market interest rates, the discount rate used to determine pension obligations, the regulations to be adopted that implement the legislation, and other potential regulatory actions.

Based upon current plans and business conditions, we believe that current cash balances and internally generated cash flows will be sufficient to fund anticipated operational needs, capital expenditures, required pension plan contributions and other commitments over the next 12 months.

Caution Regarding Forward-Looking Statements and Risk Factors

This document, including documents incorporated herein by reference, contains "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. The words "believe," "expect," "estimate," "anticipate," "intend," "may," "might," "will," "would," "could," "project," and "predict," or similar words and phrases generally identify forward-looking statements. Forward-looking statements are inherently subject to risks and uncertainties which in many cases are beyond our control and which cannot be predicted or quantified. As a result, future events and actual results could differ materially from those set forth in, contemplated by, or underlying forward-looking statements. Forward-looking statements contained in this document speak only as of the date of this document or, in the case of any document incorporated by reference from another document, the date of that document. We do not have any obligation to publicly update or revise any forward-looking statement contained or incorporated by reference in these documents to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results over time.

Our future results of operations and the other forward-looking statements contained in this filing, including this section titled "Management's Discussion and Analysis of Financial Condition and Results of Operations," involve a


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number of risks and uncertainties. In particular, the statements regarding future economic conditions, our goals and strategies, new product introductions, penetration of new markets, projections of sales revenues and sales growth, manufacturing costs and operating costs, pricing of our products and raw materials required to manufacture our products, gross margin expectations, relocation and outsourcing of production capacity, capital spending, research and development expenses, the outcome of pending legal proceedings and environmental matters, payment of certain claims by insurance carriers, tax rates, sufficiency of funds to meet our needs including contributions to our defined benefit pension plan, and our plans for future operations, as well as our assumptions relating to the foregoing, are all subject to risks and uncertainties.

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