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HDNG > SEC Filings for HDNG > Form 10-Q on 7-Nov-2013All Recent SEC Filings

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Form 10-Q for HARDINGE INC


7-Nov-2013

Quarterly Report


MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Overview. The following Management's Discussion and Analysis ("MD&A") contains information that the Company believes is necessary to an understanding of the Company's financial condition and associated matters, including the Company's liquidity, capital resources and results of operations. The MD&A is provided as a supplement to, and should be read in conjunction with, our unaudited financial statements, the accompanying notes to the financial statements ("Notes") appearing elsewhere in this report and our Annual Report on Form 10-K for the year ended December 31, 2012.

Our primary business is designing, manufacturing, and distributing high-precision computer controlled metal-cutting turning, grinding, and milling machines and of technologically advanced workholding accessories. We are geographically diversified with manufacturing facilities in China, France, Germany, Switzerland, Taiwan, the United States ("U.S."), and the United Kingdom ("U.K.") with sales to most industrialized countries. Approximately 75% of our 2012 sales were to customers outside of North America, 80% of our 2012 products sold were manufactured outside of North America, and 69% of our employees were employed outside of North America.

Our machine products are considered to be capital goods and are part of what has historically been a highly cyclical industry. Our management believes that a key performance indicator is our order level as compared to industry measures of market activity levels.

Metrics on machine tool market activity monitored by our management include world machine tool consumption (a proxy for shipments), as reported annually by Gardner Publications in the Metalworking Insiders Report and metal-cutting machine orders, as reported by the Association of Manufacturing Technology, the primary industry group for U.S. machine tool manufacturers. Other closely followed U.S. market indicators are tracked to determine activity levels in U.S. manufacturing plants that are prospective customers for our products. One such measurement is the Purchasing Managers Index, as reported by the Institute for Supply Management. Another measurement is capacity utilization of U.S. manufacturing plants, as reported by the Federal Reserve Board. Similar information regarding machine tool consumption in foreign countries is published by trade associations in those countries.

Non-machine sales, which include collets, workholding accessories, repair parts and service revenue, historically account for approximately 24% of overall sales and are an important part of our business due to an installed base of thousands of machines. We believe that the acquisition of Forkardt in May 2013 will increase the proportion of non-machine sales to overall sales by 8% to 10% on a full year basis. In the past, sales of these products and services have not fluctuated on a year-to-year basis as significantly as the sales of our machines have from time to time, but demand for these products and services typically track the direction of the related machine metrics.

Other key performance indicators are geographic distribution of net sales ("sales") and net orders ("orders"), gross profit as a percent of sales, income from operations, working capital changes, and debt level trends. In an industry where constant product technology development has led to an average model life of three to five years, effectiveness of technological innovation and development of new products are also key performance indicators.

We are exposed to financial market risk resulting from changes in interest and foreign currency rates. Global economic conditions and related disruptions within the financial markets have also increased our exposure to the possible liquidity and credit risks of our counterparties. We believe we have sufficient liquidity to fund our foreseeable business needs, including cash and cash equivalents, cash flows from operations, and our bank financing arrangements.


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We monitor the third-party depository institutions that hold our cash and cash equivalents. Our emphasis is primarily on safety of principal. Our cash and cash equivalents are diversified among counterparties to minimize exposure to any one of these entities.

We are subject to credit risks relating to the ability of counterparties of hedging transactions to meet their contractual payment obligations. The risks related to creditworthiness and nonperformance have been considered in the fair value measurements of our foreign currency forward exchange contracts.

We expect that some of our customers and vendors may experience difficulty in maintaining the liquidity required to buy inventory or raw materials. We continue to monitor our customers' financial condition in order to mitigate the risk associated with our ability to collect on our accounts receivable.

Foreign currency exchange rate changes can be significant to reported results for several reasons. Our primary competitors, particularly for the most technologically advanced products, are now largely manufacturers in Japan, Germany, Switzerland, Korea, and Taiwan, which causes the worldwide valuation of their respective currencies to be central to competitive pricing in all of our markets. The major functional currencies of our subsidiaries are the British Pound Sterling ("GBP"), Chinese Renminbi ("CNY"), Euro ("EUR"), New Taiwanese Dollar ("TWD"), and Swiss Franc ("CHF"). Under U.S. generally accepted accounting principles, results of foreign subsidiaries are translated into U.S. Dollars ("USD") at the average exchange rate during the periods presented. Period-to-period changes in the exchange rate between their local currency and the USD may affect comparative data significantly. We also purchase computer controls and other components from suppliers throughout the world, with purchase costs reflecting currency changes.

Below is a summary of the percentage changes for the average rates of our functional currencies for the three and nine months ended September 30, 2013 as compared to their respective USD equivalents during the same periods in 2012:

       Three Months Ended        Nine Months Ended
          September 30             September 30
      increase / (decrease)    increase / (decrease)
CHF                     3.3 %                    0.6 %
CNY                     3.7 %                    2.5 %
EUR                     5.9 %                    2.7 %
GBP                    (1.8 )%                  (2.0 )%
TWD                    (0.3 )%                  (0.2 )%

The fluctuations of the foreign currency exchange rates during the three months ended September 30, 2013 resulted in favorable currency translation impact of approximately $1.1 million on new orders and $1.3 million on sales, as compared to the same period in 2012. The fluctuations of the foreign currency exchange rates during the nine months ended September 30, 2013 resulted in favorable currency translation impact of approximately $1.3 million on new orders and $1.8 million on sales, as compared to the same period in 2012.


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Results of Operations



Summarized selected financial data for the three and nine months ended
September 30, 2013 and 2012:



                                       Three Months Ended                                   Nine Months Ended
                                          September 30,                                       September 30,
                                                  $                   %                                   $             %
                         2013       2012        Change              Change      2013        2012       Change         Change
                                                       (in thousands, except per share data)
Orders                 $ 72,945   $ 68,359   $          4,586            7 %  $ 218,284   $ 230,063   $ (11,779 )         (5 )%
Sales                    82,258     82,883               (625 )         (1 )%   230,291     243,853     (13,562 )         (6 )%
Gross profit             23,029     23,994               (965 )         (4 )%    65,353      69,155      (3,802 )         (5 )%
% of sales                 28.0 %     28.9 %             (0.9 )pts.                28.4 %      28.4 %       0.0 pts.
Selling, general &
administrative
expenses                 20,113     18,569              1,544            8 %     58,616      55,215       3,401            6 %
% of sales                 24.5 %     22.4 %              2.1 pts.                 25.5 %      22.6 %       2.9 pts.
Other (income)
expense                     (37 )      127               (164 )       (129 )%       417         430         (13 )         (3 )%
Income from
operations                2,951      5,311             (2,360 )        (44 )%     6,329      13,537      (7,208 )        (53 )%
% of sales                  3.6 %      6.4 %             (2.8 )pts.                 2.7 %       5.6 %      (2.9 )pts.
Net income                1,479      4,020             (2,541 )        (63 )%     3,784      10,103      (6,319 )        (63 )%
% of sales                  1.8 %      4.9 %             (3.1 )pts.                 1.6 %       4.1 %      (2.5 )pts.

Basic earnings per
share                  $   0.13   $   0.35              (0.22 )               $    0.32   $    0.87       (0.55 )
Diluted earnings per
share                  $   0.13   $   0.34              (0.21 )               $    0.32   $    0.87       (0.55 )

Weighted average
shares outstanding -
basic                    11,721     11,567                154                    11,681      11,551         130

Weighted average
shares outstanding -
diluted                  11,813     11,606                207                    11,770      11,588         182


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Orders. The table below summarizes orders by each corresponding geographical region for the three and nine months ended September 30, 2013 compared to the same periods in 2012:

                             Three Months Ended                           Nine Months Ended
                                September 30,                                September 30
                                            $         %                                   $         %
                     2013       2012      Change    Change      2013        2012       Change     Change
                           (in thousands)                              (in thousands)
North America      $ 19,279   $ 20,913   $ (1,634 )     (8 )% $  61,618   $  61,572   $      46        0 %
Europe               29,796     23,756      6,040       25 %     75,252      86,041     (10,789 )    (13 )%
Asia                 23,870     23,690        180        1 %     81,414      82,450      (1,036 )     (1 )%
                   $ 72,945   $ 68,359   $  4,586        7 %  $ 218,284   $ 230,063   $ (11,779 )     (5 )%

Orders were $72.9 million and $218.3 million, respectively, during the three and nine months ended September 30, 2013. When compared to the same periods in 2012, orders increased by $4.6 million, or 7%, and decreased by $11.8 million, or 5%, during the three and nine months ended September 30, 2013, respectively. The acquisition of Forkardt contributed $10.5 million and $17.9 million in incremental orders during the three and nine months ended September 30, 2013, respectively. Currency exchange rate fluctuations had a favorable impact of $1.1 million and $1.3 million on new orders during the three and nine months ended September 30, 2013, respectively, when compared to the same periods in 2012. Excluding the orders from Forkardt and the impact of currency exchange rate fluctuations, order levels decreased over the prior year periods as a result of lower demand which was mainly attributable to the current difficult economic and financial conditions in North America and Europe regions.

North America orders were $19.3 million and $61.6 million, respectively, during the three and nine months ended September 30, 2013. North America orders decreased by $1.6 million, or 8%, during the three months ended September 30, 2013, when compared to the same period in 2012. For the nine months ended September 30, 2013, North America orders were flat when compared to the same period in 2012. The acquisition of Forkardt contributed $2.9 million and $5.5 million in incremental orders to North America during the three and nine months ended September 30, 2013, respectively. Excluding orders from Forkardt, North America order levels decreased during the three months ended September 30, 2013, when compared to the same period in 2012, due to lower demand for grinding machines. The year to date decrease was attributable, in part, to the decline in milling and turning order activities during the first half of 2013 from our U.S. based distributors as they managed their existing inventory.

Europe orders were $29.8 million and $75.3 million, respectively, during the three and nine months ended September 30, 2013. When compared to the same periods in 2012, European orders increased by $6.0 million, or 25%, and decreased by $10.8 million, or 13%, during the three and nine months ended September 30, 2013, respectively. The acquisition of Forkardt contributed $5.9 million and $10.4 million in incremental orders to Europe during the three and nine months ended September 30, 2013, respectively. Currency exchange rate fluctuations had a favorable impact of $0.5 million on new orders during the three months ended September 30, 2013, when compared to the same period in 2012. For the nine months ended September 30, 2013, the impact of currency exchange rate fluctuations was not material. Excluding orders from Forkardt and impact of currency exchange rate fluctuations, Europe order levels decreased as a result of challenging economic and fiscal conditions in the region, especially during the first half of 2013.

Asia orders were $23.9 million and $81.4 million, respectively, during the three and nine months ended September 30, 2013. Asia orders increased by $0.2 million, or 1%, and decreased by $1.0 million, or


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1%, during the three and nine months ended September 30, 2013, respectively, when compared to the same period in 2012. The acquisition of Forkardt contributed $1.6 million and $2.0 million in incremental orders to Asia during the three and nine months ended September 30, 2013. Currency exchange rate fluctuations had a favorable impact of $0.6 million and $1.3 million on new orders during the three and nine months ended September 30, 2013, respectively, when compared to the same periods in 2012. Excluding orders from Forkardt and the impact of currency exchange rate fluctuations, Asia order levels decreased during the three months ended September 30, 2013, when compared to the same period in 2012, due to reduced activity relating to grinding products. The year to date decrease in Asia orders was impacted by 2012 multiple machine orders of $4.4 million from suppliers to the consumer electronics industry in China, which did not recur in 2013.

Sales. The table below summarizes sales by each corresponding geographical region for the three and nine months ended September 30, 2013 compared to the same periods in 2012:

                             Three Months Ended                          Nine months Ended
                               September 30,                               September 30,
                                            $        %                                   $         %
                     2013       2012     Change    Change      2013        2012       Change     Change
                          (in thousands)                              (in thousands)
North America      $ 22,020   $ 20,161   $ 1,859        9 %  $  72,984   $  59,517   $  13,467       23 %
Europe               29,454     27,445     2,009        7 %     75,193      86,130     (10,937 )    (13 )%
Asia                 30,784     35,277    (4,493 )    (13 )%    82,114      98,206     (16,092 )    (16 )%
                   $ 82,258   $ 82,883   $  (625 )     (1 )% $ 230,291   $ 243,853   $ (13,562 )     (6 )%

Sales were $82.3 million and $230.3 million, respectively, during the three and nine months ended September 30, 2013. When compared to the same periods in 2012, sales decreased by $0.6 million, or 1%, and $13.6 million, or 6%, respectively, during the three and nine months ended September 30, 2013. The acquisitions of Usach and Forkardt contributed $10.5 million and $21.9 million in incremental sales during the three and nine months ended September 30, 2013, respectively. Currency exchange rates fluctuations had a favorable impact of $1.3 million and $1.8 million on sales during the three and nine months ended September 30, 2013, respectively, when compared to the same periods in 2012. Excluding sales from Usach and Forkardt and the impact of currency exchange rate fluctuations, we believe that sales decreased over prior year periods as a result of challenging economic conditions in Europe and the slowing growth in Asia which started during the second half of 2012.

North America sales were $22.0 million and $73.0 million, respectively, during the three and nine months ended September 30, 2013. North America sales increased by $1.9 million, or 9%, and $13.5 million, or 23%, for the respective three and nine months ended September 30, 2013, when compared to the same periods in 2012. The acquisitions of Usach and Forkardt contributed $4.1 million and $11.6 million in incremental sales during the three and nine months ended September 30, 2013, respectively. Excluding sales from Usach and Forkardt, the decrease in North America sales during the three months ended September 30, 2013 was primarily driven by lower milling and turning activities from our U.S. based distributors as they managed their existing inventory. The year to date increase in North America sales was primarily driven by the sales of grinding products as a result of strong 2012 order backlog.

Europe sales were $29.5 million and $75.2 million, respectively, during the three and nine months ended September 30, 2013. Europe sales increased by $2.0 million, or 7%, and decreased by $10.9 million, or 13%, for the respective three and nine months ended September 30, 2013, when compared to the same periods in 2012. The acquisition of Forkardt in 2013 contributed $6.0 million and $9.6 million in


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incremental sales during the three and nine months ended September 30, 2013, respectively. Currency exchange rate fluctuations had a favorable impact of $0.6 million and $0.3 million on sales during the three and nine months ended September 30, 2013, respectively, when compared to the same periods in 2012. Excluding sales from Forkardt and the impact of currency exchange rate fluctuations, Europe sales decreased as a result of lower order levels since the second half of 2012 as the demand for machine tools decreased due to continued economic and fiscal uncertainties in the region.

Asia sales were $30.8 million and $82.1 million, respectively, during the three and nine months ended September 30, 2013. Asia sales decreased by $4.5 million, or 13%, and $16.1 million, or 16%, for the respective three and nine months ended September 30, 2013, when compared to the same periods in 2012. The acquisition of Forkardt contributed $0.5 million and $0.7 million in incremental sales during the three and nine months ended September 30, 2013. Asia sales for the three and nine months ended September 30, 2012 included $10.6 million and $15.8 million, respectively, in multiple machine sales to suppliers to the consumer electronics industry in China. Currency exchange rates fluctuations had a favorable impact of $0.7 million and $1.5 million on Asia sales during the three and nine months ended September 30, 2013, respectively, when compared to the same periods in 2012. Excluding sales from Forkardt, the impact of 2012 multiple machine sales, and the impact of currency exchange rate fluctuations, Asia sales increased during the three months ended September 30, 2013 as a result of strong turning and milling activities in China. The year to date decrease in Asia sales was driven by lower backlog as a result of a decelerating Chinese economy during the second half of 2012.

Sales of machines accounted for approximately 67% and 69% of the consolidated sales for the three and nine months ended September 30, 2013, respectively, compared to 78% and 77% for the same periods in 2012. Sales of non-machine products and services, primarily workholding, repair parts, and accessories, accounted for 33% and 31% of the consolidated sales for the three and nine months ended September 30, 2013, respectively, compared to 22% and 23% for the same periods in 2012. The increase in the portion of non-machine sales over total sales during the three and nine months ended September 30, 2013, when compared to the same periods in 2012, was driven by sales activity from the Forkardt business.

Gross Profit. Gross profit was $23.0 million, or 28.0% of sales, for the three months ended September 30, 2013, when compared to $24.0 million, or 28.9% of sales for the same period in 2012. The decrease in gross profit and gross margin was attributable to $0.4 million in inventory valuation step-up charges associated with Forkardt acquisition, a 0.5% impact to gross margin, as well as unfavorable product mix. Gross profit was $65.4 million for the nine months ended September 30, 2013, a decrease of $3.8 million when compared to $69.1 million for the same period in 2012. The decrease in gross profit was attributable to lower sales volume as well as the negative impact of $1.2 million in inventory valuation step-up charges associated with acquisitions. Gross margin for the nine months ended September 30, 2013 remain unchanged when compared to the same period in 2012, which is primarily attributable to favorable product mix due to higher portion of non-machine sales as a result of the Forkardt acquisition. The impact of favorable product mix was negated by a 0.5% unfavorable impact to gross margin as a result of inventory valuation step-up charges of $1.2 million for the nine months ended September 30, 2013.

Selling, General and Administrative Expenses. Selling, general and administrative (SG&A) expenses were $20.1 million, or 24.5% of net sales for the three months ended September 30, 2013, an increase of $1.5 million or 8.3%, compared to $18.6 million, or 22.4% of net sales for the three months ended September 30, 2012. SG&A expenses were $58.6 million, or 25.5% of net sales for the nine months ended September 30, 2013, an increase of $3.4 million or 6.2%, compared to $55.2 million, or 22.6% of net sales for the nine months ended September 30, 2012. SG&A expenses for the three and nine months ended September 30, 2013 included $0.3 million and $1.9 million, respectively, in acquisition related expenses. In addition, our acquisition of Usach and Forkardt resulted in a $3.7 million and $6.6 million incremental SG&A expense for the three and nine months ended September 30, 2013, respectively.


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Other (Income) Expense. Other income was $0.01 million for the three months ended September 30, 2013, compared to other expense of $0.1 million for the same period in 2012. Other expense for the nine months ended September 30, 2013 was $0.4 million, which was flat when compared to the same period in 2012.

Income from Operations. Income from operations was $3.0 million for the three months ended September 30, 2013 compared to $5.3 million for the same period in 2012. The decrease in income from operations during the three months ended September 2013 was driven by lower sales volume, the $0.4 million in acquisition related inventory step-up charge, and the $0.3 million in acquisition related expenses. Income from operations was $6.3 million for the nine months ended September 30, 2013 compared to $13.5 million for the same period in 2012. The year-to-date decrease in income from operations was driven by lower sales volume, the $1.2 million in acquisition related inventory valuation step-up charges, and the $1.9 million in acquisition related expenses.

Interest Expense, Net. Net interest expense was $0.3 million for the three months ended September 30, 2013 compared to $0.2 million for the same period in 2012. Net interest expense was $0.8 million for the nine months ended September 30, 2013 compared to $0.6 million for the same period in 2012. The increase in interest expense was mainly attributable to the additional interest on the $23.0 million term loan which the Company entered into in May 2013 to fund the Forkardt acquisition.

Income Taxes. The provision for income taxes was $1.2 million and $1.7 million for the three and nine months ended September 30, 2013, respectively, compared to $1.1 million and $2.9 million for the three and nine months ended September 30, 2012, respectively. The effective tax rates were 44.0% and 31.6% for the three and nine months ended September 30, 2013 compared to 21.3% and 22.1% for the three and nine months ended September 30, 2012, respectively.

The difference in effective tax rates between these two periods was driven by the mix of earnings by country and by the non-recognition of tax benefits for certain entities in a loss position for which a full valuation allowance has been recorded.

Each quarter, an estimate of the full year tax rate for jurisdictions not subject to a full valuation allowance is developed based upon anticipated annual results and an adjustment is made, if required, to the year-to-date income tax expense to reflect the full year anticipated effective tax rate.

We continue to maintain a full valuation allowance on the tax benefits of our U.S. net deferred tax assets and we expect to continue to record a full valuation allowance on future tax benefits until an appropriate level of profitability in the U.S. is sustained. We also maintain a valuation allowance against all or a portion of our deferred tax assets in Canada, U.K., Germany, Switzerland, and the Netherlands.

The effective tax rate for the three and nine months ended September 30, 2013 of 44.0% and 31.6%, respectively differs from the U.S. statutory rate primarily due to no tax benefit being recorded for certain entities in a loss position for which a full valuation allowance has been recorded, and due to the rate difference between the U.S. and non-US entities.

Net Income. Net income for the three months ended September 30, 2013 was $1.5 million, or 1.8% of net sales, compared to $4.0 million, or 4.9% of net sales, for the same period in 2012. Net income for the nine months ended September 30, 2013 was $3.8 million, or 1.6% of net sales, compared to $10.1 million, or 4.1% of net sales, for the same period in 2012. The decrease in net income is attributable to lower gross profit due to the decrease in sales volume, acquisition related inventory valuation step-up charges and acquisition related expenses. Basic earnings per share, for the three and nine months ended September 30, 2013 were $0.13 and $0.32, respectively, compared to $0.35 and $0.87, respectively, for the same period in 2012. Diluted earnings per share, for the three and nine months ended September 30, 2013 were $0.13 and $0.32, respectively, compared to $0.34 and $0.87, respectively, for the same period in 2012.

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