Wescast Reports Third Quarter Sales and Earnings
BRANTFORD, Ontario--Oct. 2, 20056, 2005--Wescast Industries Inc. (TSX:WCS.SV.A) today reported 2005 third quarter sales of $86.9 million and a net loss for the quarter of $3.2 million. "We have undertaken aggressive steps within our North American manufacturing operations to remain competitive within the global automotive industry," said Ed Frackowiak, Wescast Chairman and CEO. "During the quarter the costs associated with these actions overshadowed the positive benefits these actions are already beginning to yield."Highlights
- Wescast sales were $86.9 million, down 2.0% from the $88.7 million reported in the same quarter last year, reflecting the decline in vehicle production levels reported by the domestic Big 3 and the continued impact of programs that were lost to Asian suppliers during the second half of 2004.
- The Company reported a net loss for the quarter of $3.2 million compared with a net loss of $17.6 million in the third quarter of 2004. Continuing operations generated a net loss of $3.0 million for the quarter compared to net earnings from continuing operations of $4.1 million generated over the same period in 2004.
- The net loss per share on a diluted basis was $0.24 for the third quarter of 2005, compared with a net loss per share of $1.35 for the same period in 2004. Continuing operations generated a net loss per share on a diluted basis of $0.23, compared with earnings per share from continuing operations of $0.31 in the third quarter of 2004.
- The Company's primary customer base, the domestic Big 3, experienced a 1.3% decline in light vehicle production levels in the third quarter of 2005 compared to the third quarter of 2004. This decline compares to a 1.8% increase in production levels in the overall North American automotive industry during the quarter.
- During the third quarter the Company announced that it had terminated an agreement entered into for the sale of the land, building and the majority of the production assets associated with its foundry operation in Brantford, Ontario. Discussions with the prospective purchaser are ongoing to determine if a new agreement can be reached. The Company continues to operate the facility, with a reduced workforce, to meet the remaining customer requirements. Production in the facility is expected to be concluded within the first half of 2006.
Operations
Consolidated sales for the quarter were $86.9 million, a 2.0% decline over the previous year's level of $88.7 million.
Sales of powertrain products in North America, excluding prototype and tooling sales, decreased by 7.4% to $74.2 million compared to $80.1 million for the same period in 2004. The Company experienced a year-over-year decline in unit sales volume in North America of 3.6%. The unit volume and sales decline resulted from:
- A reduction in volumes to Ford, reflecting the impact of programs that were resourced to Asian suppliers during the second half of 2004;
- Lower volume requirements to GM, specifically the GEN IV and L850 programs;
- The impact of market driven price reductions compared to the same quarter last year; and,
- The impact of the decline in vehicle production levels reported by the domestic Big 3, the Company's primary customer base.
The factors above were partially offset by volume level increases with non-Big 3 customers, specifically Isuzu.
Sales generated by the Company's operation in Hungary, excluding prototype and tooling sales, were $10.3 million for the quarter compared to $6.5 million during the same quarter last year. A significant amount of this growth represents the increase in the Company's proportionate share of sales compared with the third quarter of 2004. On August 31, 2004 the Company's proportionate ownership interest in the operation increased from 50% to 100%. Excluding the impact of the ownership change, sales on a non-proportionate basis generated by the operation in Hungary during the third quarter of 2005 increased by 8.2% over the same period in 2004. The overall increase in sales revenues resulted from the receipt of retroactive price adjustments, the impact of steel and moly surcharges, and an increase in the number of parts machined, which rose 13.6%. The impact of recent new program launches in Hungary has been largely offset by soft market conditions. The operation realized a year-over-year decline in unit sales volume of 3.4%.
Consolidated prototype and tooling sales in the third quarter was $2.4 million, compared with the $2.1 million recorded in the third quarter of 2004.
The Company realized a net loss from continuing operations of $3.0 million during the quarter, compared with net earnings from continuing operations of $4.1 million reported in the third quarter of 2004.
The Company's North American powertrain operations reported a net loss of $0.2 million, compared to net earnings of $6.2 million reported in the third quarter of 2004.
The decline resulted from the impact of:
- Lower casting sales volumes;
- Market driven sales price reductions;
- Product launch costs associated with the transfer of production requirements from the Brantford foundry to the Company's other facilities. The absorption of these products into these facilities resulted in temporary increases in scrap rates and a reduction in uptime levels;
- A one time reduction in accruals for variable compensation arrangements in the third quarter of 2004 with no similar adjustments in 2005;
- Increased accruals for severance expenses compared with the prior year; and,
- Higher foreign exchange losses in 2005.
The impact of these factors was partially offset by the positive benefits from:
- The reduction in the Company's fixed cost structure associated with the implementation of its foundry optimization plan; and,
- The impact of Company-wide cost reduction initiatives.
The North American powertrain operation experienced lower average scrap steel pricing in the third quarter of 2005 compared to 2004. However, moly pricing remained at record high levels and for the most part offset the benefit of reduced scrap steel pricing.
The operation in Hungary generated a net loss of $2.8 million during the quarter compared with a $2.1 million net loss reported in the same period in 2004. The increased loss resulted solely from the increase in our proportionate ownership interest in the operation. On a non-proportionate basis, the loss generated by the operation in Hungary was lower than generated during the same period in 2004. The improved performance was partially due to retroactive customer price adjustments realized during the third quarter. The business continues to develop as evidenced by improved uptime performance, however its financial performance reflects the costs associated with ramping-up the manufacturing facilities and the costs associated with new product launches. The impact of recent product launches is expected to contribute positively to the profitability of this operation in future periods.
The Company's Chassis business, which is classified as discontinued operations, generated a net loss of $0.2 million for the quarter, compared with a net loss of $21.7 million reported in the third quarter of 2004. Production activities of this business have been concluded. The Company is attempting to dispose of the manufacturing assets and property associated with the operation.
The Company showed continued improvement in its financial condition during the quarter as debt levels were further reduced.
A more detailed discussion of the consolidated results for the quarter ended October 2, 2005 is contained in the attached Management's Discussion and Analysis which follows the interim consolidated financial statements and the notes thereto.
About Wescast
Wescast Industries Inc. is the world's largest supplier of exhaust manifolds for passenger cars and light trucks. The Company designs, casts, machines and assembles high-quality iron exhaust manifolds, turbo charger housings and integrated turbo manifolds for automotive OEMs. The Company's global sales and design activities are co-ordinated through its technical development centre in Canada and supported by sales and design centres in the United States, Japan and Europe. The Company operates seven production facilities in North America and Europe, including a 49% interest in United Machining Inc., an accredited Minority supplier in Michigan. The Company is recognized worldwide for its quality products, innovative design solutions and highly committed workforce.
Learn more at www.wescast.com.
Forward Looking Statements
Wescast and its representatives may periodically make written or oral statements that are "forward-looking", including statements included in this news release and in our filings with applicable Securities Commissions and in reports to our stockholders. These statements may be identified by words such as "believe," "anticipate," "project," "expect," "intend" or other similar expressions, and include all statements which address operating performance, events or developments that we expect or anticipate may occur in the future (including statements relating to future sales or earnings expectations, volume growth, awarded sales contracts and earnings per share expectations or statements expressing general optimism about future operating results). Such statements involve risks and uncertainties that may cause unanticipated events and actually evolve to be materially different from those either expressed or implied. These factors include, but are not limited to, risks associated with the automotive industry, production, marketing and transportation such as loss of market, volatility of prices, currency fluctuations, environmental risks, competition from other producers and ability to access sufficient capital from internal and external sources; as a consequence, actual results may differ materially from those anticipated in the forward-looking statements. For more detailed information regarding these risks you may refer to Wescast's publicly filed documents with applicable Canadian securities authorities. Wescast undertakes no obligation to update any of these forward-looking statements.
A conference call has been arranged for:
October 26, 2005
3:00 p.m. EST
To participate, please dial (416)-695-9748 Reservation #T585263W or log into www.wescast.com and listen to the live webcast.
Post view is available from October 26, 2005 to November 2, 2005. To access please dial 416-695-6231 and enter pin #5263
Wescast Industries Inc.
Consolidated Statement of Earnings and Retained Earnings
(in thousands of Canadian dollars, except per share amounts)
(Unaudited Canadian GAAP)
Three months ended Nine months ended
------------------ -----------------
October 2, September 26, October 2, September 26,
2005 2004 2005 2004
-------------------------------------------------------
Sales $86,924 $88,720 $292,110 $303,541
Cost of sales 78,101 71,657 250,022 224,682
-------------------------------------------------------
Gross profit 8,823 17,063 42,088 78,859
Selling, general
and
administration 6,503 6,922 20,681 25,171
Stock-based
compensation (7) 324 (40) (1,336)
Research,
development
and design 1,340 1,478 4,236 4,925
-------------------------------------------------------
987 8,339 17,211 50,099
Other (income)
expense
Interest
expense 447 119 1,261 215
Restructuring
charge
(Note 3) 0 0 10,500 0
Investment
income (44) (125) (95) (485)
Other
expenses 2,655 1,280 2,525 1,753
-------------------------------------------------------
Earnings (loss)
from continuing
operations before
income taxes (2,071) 7,065 3,020 48,616
Income taxes 882 2,960 3,971 17,163
-------------------------------------------------------
Earnings (loss)
from continuing
operations (2,953) 4,105 (951) 31,453
Net loss from
discontinued
operations
(Note 4) (198) (21,712) (3,885) (30,095)
-------------------------------------------------------
Net earnings
(loss) ($3,151) ($17,607) ($4,836) $1,358
-------------------------------------------------------
-------------------------------------------------------
Earnings (loss)
from continuing
operations per
share (Note 6)
- basic ($0.23) $0.31 ($0.07) $2.41
-------------------------------------------------------
-------------------------------------------------------
- diluted ($0.23) $0.31 ($0.07) $2.33
-------------------------------------------------------
-------------------------------------------------------
Net earnings
(loss) per
share (Note 6)
- basic ($0.24) ($1.35) ($0.37) $0.10
-------------------------------------------------------
-------------------------------------------------------
- diluted ($0.24) ($1.35) ($0.37) $0.04
-------------------------------------------------------
-------------------------------------------------------
Retained
earnings,
beginning
of period $283,061 $335,218 $286,319 $319,397
Net earnings
(loss) (3,151) (17,607) (4,836) 1,358
Dividends
paid (787) (1,573) (2,360) (4,717)
-------------------------------------------------------
Retained
earnings,
end of period $279,123 $316,038 $279,123 $316,038
-------------------------------------------------------
-------------------------------------------------------
Wescast Industries Inc.
Consolidated Balance Sheet
(in thousands of Canadian dollars) (Unaudited Canadian GAAP)
As at
October 2, January 2,
2005 2005
-------------------------------
Current assets
Cash and cash equivalents $1,950 $3,745
Receivables 70,188 66,758
Income taxes receivable 3,645 7,441
Inventories 32,834 38,580
Prepaids 3,141 2,539
Future income taxes 1,165 1,177
Current assets - discontinued
operations (Note 4) 2,124 10,096
-------------------------------
115,047 130,336
Property, plant and equipment 324,578 364,690
Future income taxes 50,865 50,427
Other 471 595
Long-term assets - discontinued
operations (Note 4) 8,140 10,463
-------------------------------
$499,101 $556,511
-------------------------------
-------------------------------
Current liabilities
Payables and accruals $35,225 $44,148
Current portion of long-term debt 1,684 2,091
Current portion of stock
appreciation rights 74 117
Future income taxes 96 96
Restructuring accrual (Note 3) 6,796 0
Current liabilities - discontinued
operations (Note 4) 521 38,279
-------------------------------
44,396 84,731
Long-term debt 32,210 28,472
Deferred government assistance 2,382 2,341
Future income taxes 23,520 20,319
Employee benefits 15,990 15,051
-------------------------------
118,498 150,914
-------------------------------
Shareholders' equity
Capital stock (Note 5) 110,561 110,374
Retained earnings 279,123 286,319
Share purchase loans (251) (650)
Cumulative translation adjustment (8,830) 9,554
-------------------------------
380,603 405,597
-------------------------------
$499,101 $556,511
-------------------------------
-------------------------------
Wescast Industries Inc.
Consolidated Statement of Cash Flows
(in thousands of Canadian dollars) (Unaudited Canadian GAAP)
Three months ended Nine months ended
------------------ -----------------
October 2, September 26, October 2, September 26,
2005 2004 2005 2004
-------------------------------------------------------
Cash derived
from
(applied to)
Operating
Earnings
(loss) from
continuing
operations ($2,953) $4,105 ($951) $31,453
Add (deduct)
items not
requiring cash:
Depreciation
and
amortization 8,906 9,052 28,119 26,284
Amortization
of bond costs 55 3 150 11
Future income
taxes 778 329 2,634 1,017
Loss on disposal
of equipment 324 1,802 708 2,371
Deferred
government
assistance (193) (389) 41 (103)
Stock-based
compensation,
net of payments (7) (972) (43) (3,072)
Employee benefits,
net of payments 720 747 939 2,386
------------------------------------------------------
7,630 14,677 31,597 60,347
Change in
non-cash
operating
working
capital
(Note 7) (5,339) (7,475) 4,065 (9,674)
-------------------------------------------------------
2,291 7,202 35,662 50,673
Discontinued
operations 75 (4,114) (3,377) (15,986)
-------------------------------------------------------
2,366 3,088 32,285 34,687
-------------------------------------------------------
Investing
Purchase of
property,
plant and
equipment
and other
assets (9,956) (10,185) (16,978) (24,248)
Purchase of
subsidiary,
net of cash
acquired 0 (52,636) 0 (52,636)
Proceeds on
disposal of
equipment 10,898 37 11,194 317
Discontinued
operations 499 (387) 1,545 (2,864)
-------------------------------------------------------
1,441 (63,171) (4,239) (79,431)
-------------------------------------------------------
Financing
Issue of
long-term
debt 14,824 106 40,926 501
Repayment of
long-term
debt (17,085) (165) (37,169) (1,365)
Payment of
credit
facility fees (63) (25) (74) (25)
Payment of
obligations
under
capital leases (95) (166) (324) (455)
Issuance of
share capital 55 81 186 274
Employee share
purchase
loan repayments 13 188 400 354
Repurchase of
common shares 0 (167) 0 (167)
Dividends paid (787) (1,573) (2,360) (4,717)
Discontinued
operations 0 0 (31,426) (2,023)
-------------------------------------------------------
(3,138) (1,721) (29,841) (7,623)
-------------------------------------------------------
Net increase
(decrease)
in cash
and cash
equivalents 669 (61,804) (1,795) (52,367)
Cash and cash
equivalents,
(bank indebtedness)
Beginning
of period 1,281 37,795 3,745 28,358
-------------------------------------------------------
End of period $1,950 ($24,009) $1,950 ($24,009)
-------------------------------------------------------
-------------------------------------------------------
Wescast Industries Inc.
Notes to the Consolidated Financial Statements
(in thousands of Canadian dollars, except per share amounts)
(Unaudited Canadian GAAP)
Note 1. Basis of presentation
The unaudited interim consolidated financial statements ("interim financial statements") have been prepared following the accounting policies as set out in the annual consolidated financial statements for the year ended January 2, 2005 included in the Company's 2004 Annual Report to Shareholders.
The disclosures in these interim financial statements do not conform in all respects to the requirements of generally accepted accounting principles for annual consolidated financial statements. These interim financial statements should be read in conjunction with the most recent annual consolidated financial statements for the year ended January 2, 2005.
The interim financial statements and the notes thereto have not been reviewed by the company's external auditors pursuant to a review engagement applying review standards set out in the CICA handbook.
Note 2. Recent accounting pronouncements and changes in accounting policies
In June 2003, the CICA issued Accounting Guideline 15 ("AcG-15"), "Consolidation of Variable Interest Entities". AcG-15 requires that an enterprise holding other than a voting interest in a Variable Interest Entity ("VIE") could, subject to certain conditions, be required to consolidate the VIE if it is considered its primary beneficiary whereby it would absorb the majority of the VIE's expected losses and/or receive the majority of its expected residual returns. The Company has concluded that it has no VIEs, as a result the adoption of the guideline had no impact on the Company's interim financial statements.
Note 3. Restructuring Charge
On February 23, 2005 the Company announced that its Board of Directors had approved a foundry optimization plan for its North American operations aimed at significantly lowering future operating costs through the effective utilization of foundry assets. As a result, the Company indicated that its foundry operation in Brantford, Ontario would be closed during fiscal 2005 following the transfer of the plant's production requirements to the Company's other facilities. Although it was not possible to determine the exact costs that may result from this closure, the Company estimated and recorded during the first quarter of 2005 a one-time charge to pre-tax earnings of $10.5 million representing anticipated severance and other benefit costs associated with workforce reductions. Approximately $1.4 million of this accrual was paid out during the third quarter of 2005 to coincide with reductions in the workforce.
Upon reaching an agreement in principle with a prospective purchaser that had submitted an unsolicited bid for the Brantford foundry assets, on August 3, 2005 the Company's Board of Directors approved a purchase and sale agreement to dispose of the land, buildings and the majority of the production assets associated with the Brantford foundry operation. The foundry assets were not being actively marketed or classified as held for sale under generally accepted accounting principles at the time of the announced purchase and sale agreement as the assets were required during the transition of the plant's production requirements to other facilities. Under the terms of this agreement, it was anticipated that the purchaser would support certain production requirements for Wescast beyond 2005 under an ongoing supply arrangement. The Company expected to realize a non-cash charge to pre-tax earnings of $10.0 million on completion of the sale transaction, representing the excess of the book value of the assets to be disposed over the proceeds of disposition.
On September 15, 2005 the Company announced that the purchase and sale agreement had been terminated. Discussions with the prospective purchaser are ongoing to determine if a new agreement can be reached. The foundry assets are currently classified as held and used as they are being utilized to meet the remaining customer requirements. If a successful conclusion cannot be reached on the sale, the Company will continue to operate the facility until all production requirements have been transferred to other facilities. Production in the facility is expected to be concluded within the first half of 2006. The future use or disposition options for these foundry assets, as well as their appropriate carrying value, will be reviewed as the Company nears the completion of their production requirements.
Note 4. Discontinued Operations
Included in discontinued operations are the Company's chassis business conducted at its Cordele, Georgia operations and its stainless steel manifold business.
Production activities were concluded during the first quarter and the chassis business is wound down. The carrying value of the chassis business has been adjusted to reflect the estimate of its net realizable value. The Company is pursuing buyers for the manufacturing assets and property.
The Company approved a plan to shut down its stainless steel manifold business in 2001. All costs associated with the shut-down were reflected in the Company's 2001 fiscal year. The shut-down was completed as of June 30, 2002. The Company is currently reviewing its options for the disposition of the remainder of the manufacturing assets; the carrying value of these assets reflects the estimate of their net realizable value.
Note 5. Capital stock
Authorized
Unlimited Preference shares, no par value
Unlimited Class A subordinate voting common shares, no par value
9,000,000 Class B multiple voting common shares, no par value
October 2, January 2,
2005 2005
Issued and outstanding
5,737,868 Class A Common shares
(2004 - 5,730,268) $98,134 $97,947
7,376,607 Class B Common shares
(2004 - 7,376,607) 12,427 12,427
------------------------------
$110,561 $110,374
------------------------------
------------------------------
Note 6. Earnings per common share
Basic earnings (loss) per share from continuing operations and basic net earnings (loss) per share for the three months ended October 2, 2005 and September 26, 2004 are based on the weighted average common shares outstanding (2005 - 13,097,112 shares; 2004 - 13,068,378). Diluted earnings (loss) per share from continuing operations and diluted net earnings (loss) per share for the three months ended October 2, 2005 and September 26, 2004 are based on the diluted weighted average common shares outstanding (2005 - 13,117,393 shares; 2004 - 13,123,544 shares).
Basic earnings (loss) per share from continuing operations and basic net earnings (loss) per share for the nine months ended October 2, 2005 and September 26, 2004 are based on the weighted average common shares outstanding (2005 - 13,097,242 shares; 2004 - 13,068,263 shares). Diluted earnings (loss) per share from continuing operations and diluted net earnings (loss) per share for the nine months ended October 2, 2005 and September 26, 2004 are based on the diluted weighted average common shares outstanding (2005 - 13,117,578 shares; 2004 - 13,132,503 shares).
Note 7. Consolidated statement of cash flows
The following is additional information to the statement of cash flows.
Change in non-cash operating
working capital
Three months ended Nine months ended
October 2, September 26, October 2, September 26,
2005 2004 2005 2004
--------------------------------------------------------
Receivables ($8,594) $6,899 ($3,388) $1,540
Inventories 2,821 (2,183) 5,746 (4,812)
Prepaids (676) (1,890) (602) (1,468)
Payables and
accruals 6,260 (5,715) (8,283) (2,236)
Restructuring
accrual (1,419) 0 6,796 0
Income taxes
receivable (3,731) (4,586) 3,796 (2,698)
--------------------------------------------------------
($5,339) ($7,475) $4,065 ($9,674)
--------------------------------------------------------
Note 8. Employee benefits
The Company's net benefit plan expense, which is recorded in cost of sales and selling, general and administrative expenses, is as follows:
Three months ended Nine months ended
October 2, September 26, October 2, September 26,
2005 2004 2005 2004
--------------------------------------------------------
Pension
benefit plan $628 $780 $1,849 $2,341
Other benefit
plans 251 202 753 606
--------------------------------------------------------
$879 $982 $2,602 $2,947
--------------------------------------------------------
Note 9. Segment Information
The Company operates in the automotive industry in two geographic segments, North America and Europe. The Company's manufacturing facilities, where appropriate, are geographically situated to align with the physical location of its customer base. The Company evaluates segment performance based on earnings or loss before income taxes.
There were no intersegment sales during the three months ended October 2, 2005. All Corporate costs not directly allocated to the European operation have been allocated to the North American segment.
Three months ended
October 2, 2005 September 26, 2004
------------------------------------------------------
North North
America Europe Total America Europe Total
------------------------------------------------------
Sales $76,412 $10,512 $86,924 $81,729 $6,991 $88,720
Earnings (loss)
from continuing
operations (210) (2,743) (2,953) 6,186 (2,081) 4,105
Investment Income 44 0 44 125 0 125
Interest expense 447 0 447 119 0 119
Depreciation and
amortization 7,021 1,885 8,906 7,822 1,230 9,052
Income taxes 862 20 882 2,940 20 2,960
Purchase of
property, plant
and equipment
and other assets $8,307 $1,649 $9,956 $8,495 $1,690 $10,185
---------------------------------------------------------------------
Nine months ended
October 2, 2005 September 26, 2004
------------------------------------------------------
North North
America Europe Total America Europe Total
------------------------------------------------------
Sales $254,447 $37,663 $292,110 $283,694 $19,847 $303,541
Earnings (loss)
from continuing
operations 6,937 (7,888) (951) 35,387 (3,934) 31,453
Investment income 95 0 95 485 0 485
Interest expense 1,261 0 1,261 215 0 215
Depreciation and
amortization 22,031 6,088 28,119 23,365 2,919 26,284
Income taxes 3,913 58 3,971 17,098 65 17,163
Purchase of
property, plant
and equipment
and other assets $14,247 $2,731 $16,978 $19,853 $4,395 $24,248
---------------------------------------------------------------------
October 2, 2005
North Discontinued
America Europe Operations Total
-----------------------------------------------
Total Assets $377,472 $111,365 $10,264 $499,101
Property, plant
and equipment 233,483 91,095 - 324,578
---------------------------------------------------------------------
January 2, 2005
North Discontinued
America Europe Operations Total
-----------------------------------------------
Total Assets $404,329 $131,623 $20,559 $556,511
Property, plant
and equipment 254,097 110,593 - 364,690
---------------------------------------------------------------------
Note 10. Comparative Figures
Certain of the comparative figures have been reclassified to conform with the presentation adopted at October 2, 2005.
Management's Discussion and Analysis Of Results of Operations and Financial Position For the Three Months Ended October 2, 2005
All amounts in this Management's Discussion and Analysis of Results of Operations and Financial Position ("MD&A") are in Canadian dollars unless otherwise noted. This MD&A should be read in conjunction with: the interim consolidated financial statements and notes thereto for the three-month period ended October 2, 2005; the "Management's Discussion and Analysis" included in the Annual Report of Wescast for the year ended January 2, 2005; and with the consolidated financial statements and notes thereto for the year ended January 2, 2005. The accompanying interim consolidated financial statements and the notes thereto have not been reviewed by the Company's external auditors pursuant to a review engagement applying review standards set out in the CICA Handbook.
This MD&A is current to October 24, 2005. Additional information relating to the Company is available online at Sedar.com.
Overview
Wescast Industries Inc. ("Wescast" or the "Company") designs, casts, machines and assembles high-quality engineered iron products for automotive original equipment manufacturers ("OEMs") and Tier 1 customers for the passenger car and light truck markets in North America and Europe. The Company employs approximately 1,950 skilled and highly committed people in 7 production facilities and 5 sales and design centres in Canada, the United States, Japan and Europe.
Wescast's research and development activities are focused on generating innovative solutions for its customers in product design and the use of high performance materials. The Company continues to focus on the conversion of tubular manifolds to cast with current and potential customers around the world. A number of initiatives are underway in this area and in the development of other hot-end solutions to better meet the needs of the customer.
The Company's resources are strategically aligned to meet unique, customer-specific requirements. The Company believes that the combination of its design capability and high-quality manufacturing creates unique value for the customers in the markets that it serves. The Company believes this is the reason that it is the world's largest supplier of exhaust manifolds for passenger cars and light truck applications.
The Company's resources are focused on the execution of its global powertrain strategy. The Company's powertrain business is focused on the design and manufacture of exhaust system components for sale primarily to OEM and Tier 1 customers for application in the passenger car and light truck markets in North America and Europe. The Company's powertrain operations in North America are well established and consist of 6 production facilities. The European powertrain operations are conducted through a production facility in Hungary, Wescast Autoipari, Rt., a relatively new operation. Prior to August 31, 2004 the facility, formerly named Weslin Autoipari, Rt., was jointly owned and managed by Wescast and Linamar Corporation ("Linamar"). On August 31, 2004 Wescast acquired the remaining 50% interest in this operation from Linamar.
In July of 2004 the Company announced its decision to exit the Chassis business conducted at its Cordele, Georgia facility. This business was focused on the design and manufacture of brake and suspension components for sale to OEM and Tier 1 customers. This business is reflected as a discontinued operation. Production activities related to this business were concluded during the first quarter of this year. At this time the Company is pursuing buyers for the manufacturing assets and property.
The following MD&A focuses on the powertrain segment.
Current Market Conditions
North American light vehicle production volumes for the quarter totaled approximately 3.3 million units, a 1.8% increase from the 3.2 million units produced for the same period in 2004. However, production during the quarter by the domestic Big 3 automakers, that comprise the Company's primary customer base, was down 1.3% over the same period in 2004.
Results from Operations
Sales
Consolidated sales for the quarter were $86.9 million, a decrease of 2.0% over the previous year's level of $88.7 million.
- Sales of powertrain products in North America, comprised of cast and machined iron manifolds, decreased by 7.4% compared with the same period in 2004. Sales, excluding prototype and tooling sales, were $74.2 million compared to $80.1 million in 2004. Unit sales of cast manifolds of 2.8 million units reflected a decline of 3.6% from the third quarter of 2004. The reduction in unit volume and sales was primarily the result of the following:
- A reduction in volumes to Ford, reflecting the impact of programs resourced to Asian suppliers in the second half of 2004;
- Lower volume requirements to GM, specifically the GEN IV and L850 programs;
- The impact of market driven price reductions compared to the same quarter last year; and,
- The impact of the decline in vehicle production levels reported by the domestic Big 3.
- The factors above were partially offset by increased volumes with the Company's non-Big 3 customers as year-over-year volume increases were reported with Isuzu. Demand requirements to Nissan were down compared with the same quarter last year.
Sales generated by the Company's operation in Hungary, excluding prototype and tooling sales, were $10.3 million for the quarter. This compares with $6.5 million recorded during the same quarter last year. Much of this growth represents the increase in the Company's proportionate share of sales compared with the third quarter of 2004. On August 31, 2004 the Company's proportionate ownership interest in the operation increased from 50% to 100%. Excluding the impact of the ownership change, sales for the Hungarian operation increased by 8.2% over the third quarter of 2004. However, the operation realized a year-over-year decline in unit sales of 3.4%. While unit sales volume was down, sales dollars were higher due to the receipt of retroactive price adjustments, the impact of steel and moly surcharges, and an increase of 13.6% in parts machined. The impact of recent program launches in Hungary has been largely offset by soft market conditions.
Consolidated prototype and tooling sales for the quarter was $2.4 million, compared with the $2.1 million recorded in the third quarter of 2004.
On a year-to-date basis, consolidated sales of $292.1 million were 3.8% lower than the $303.5 million reported during the first nine months of 2004. The decline is a result of the lower casting volumes in North America and the impact of market driven price reductions. The sales decline in North America was partially offset by increased sales in Hungary reflecting the Company's acquisition of the remaining 50% interest in this operation in the third quarter of 2004.
Gross Profit
Gross profit for the quarter was $8.8 million, a decline of 48.5% compared with the $17.1 million reported in the third quarter of 2004. The decline was the result of several factors as follows:
- The North American powertrain business generated lower gross profit due to the impact of:
- Lower casting sales volumes;
- Market driven sales price reductions which reduced gross profit by $1.4 million compared with the third quarter of 2004;
- Product launch costs associated with the transfer of production requirements from the Brantford foundry to the Company's other facilities. The absorption of these products into these facilities resulted in temporary increases in scrap rates and a reduction in uptime levels;
- Reductions in accruals for variable compensation arrangements in the third quarter of 2004 with no similar adjustments in 2005 represented an impact of $2.1 million; and,
- Increased accruals for severance expenses.
The reduction in the operation's fixed cost structure associated with the implementation of its foundry optimization plan and savings generated through cost reduction initiatives partially offset the impact of these factors.
- The Company's operation in Hungary continues to focus on launch activities and improving performance metrics, including equipment uptime and scrap rates. The operation has yet to reach the production levels required to achieve a breakeven position. In addition, the operation in Europe is being impacted by soft market conditions.
Also contributing to the decline in gross profit was the increase in year-over-year depreciation and amortization. Depreciation and amortization costs included in cost of sales during the quarter were $7.9 million, an increase of $0.5 million over the $7.4 million recorded in the third quarter of 2004. The increase reflected higher depreciation in Hungary, a significant portion of which resulted from the increase in the proportionate ownership in this operation.
On a year-to-date basis the Company's gross profit of $42.1 million was down $36.8 million, compared with the $78.9 million reported in the first nine months of 2004. The decline was a result of lower North American casting volumes, the impact of customer driven price reductions and increased raw material and commodity prices on the North American powertrain business and the recognition during 2005 of 100% of the losses associated with the ramp-up of the Hungarian operations.
Selling, General and Administration
The Company's selling, general and administrative expenses for the quarter were $6.5 million, compared to $6.9 million incurred in the same period in 2004. Included in these amounts was depreciation of $1.0 million for the quarter compared to $1.7 million in 2004. Excluding depreciation, the selling, general and administrative expenses were $5.5 million, up $0.3 million over 2004. The majority of the increase was due to the inclusion of 100% of the selling and administrative expenses of the operation in Hungary compared to a 50% inclusion for the majority of the quarter in 2004. Offsetting this increase was the impact of the cost reduction efforts being implemented within the various administrative departments.
On a year-to-date basis the Company's selling, general and administrative expenses were $20.7 million, down $4.5 million or 17.9% from the $25.2 million reported in the first nine months of 2004. Again, the decrease reflects the administrative department cost reduction initiatives.
Stock-based Compensation
In connection with options granted under the Company's stock option plan, participants are granted tandem stock appreciation rights. Under the plan, participants have the choice of exercising stock options or receiving cash from the Company for the options equal to their intrinsic value, being the difference between the option exercise price and the current market value of the shares. The increase or decrease in the intrinsic value of the stock options is included as stock-based compensation expense. In the third quarter of 2004 an increase in the market price of the Company's shares resulted in a negative impact of $0.3 million on pre-tax earnings. In the third quarter of 2005, the market price of the Company's shares was consistently lower than the exercise price of the majority of the outstanding options. As a result, the impact of stock based compensation expense was negligible for the quarter.
Over the first nine months of 2005, the impact of stock-based compensation expense was negligible compared to a $1.3 million positive effect on pre-tax earnings in 2004.
Research, Development and Design
The Company's research, development and design expenses of $1.3 million for the quarter were down from the $1.5 million incurred over the same period of 2004. The Company remains committed to funding customer focused research and development activities. The reduction reflects continued efforts to reduce discretionary spending.
Interest Expense
Interest expense for the quarter of $0.4 million was up from the $0.1 million incurred over the same period in 2004.
Restructuring Charge
In February of 2005 the Company announced that a foundry optimization plan for its North American operations had been approved by its Board of Directors. The plan is aimed at significantly lowering future operating costs through the effective utilization of foundry assets. As a result, the Company planned to close its foundry operation in Brantford, Ontario at the end of 2005 following the transfer of the plant's production requirements to the Company's other facilities. Although it was not possible to determine the exact costs that may result from this closure, the Company estimated and recorded during the first quarter of 2005 a one-time charge to pre-tax earnings of $10.5 million representing anticipated severance and other benefit costs associated with workforce reductions. The cash flow associated with this charge is being incurred as the reduction in the workforce takes place. The workforce reductions correspond with the specific timing of production requirements being transferred to other Wescast facilities. The accrual was reduced by approximately $1.4 million during the third quarter.
On August 3, 2005 the Company's Board of Directors approved a purchase and sale agreement to dispose of the land, buildings and the majority of the production assets associated with the Brantford foundry operation. The foundry assets were not being actively marketed or classified as held for sale at the time of the announced purchase and sale agreement as the assets were required during the transition of the plant's production requirements to other facilities. Under the terms of this agreement, it was anticipated that the purchaser would support certain production requirements for Wescast beyond 2005 under an ongoing supply arrangement. The Company expected to realize a non-cash charge to pre-tax earnings of $10.0 million on completion of the transaction, representing the excess of the book value of the assets to be disposed over the proceeds of disposition. During the third quarter the Company announced that the purchase and sale agreement had been terminated. Discussions with the prospective purchaser are ongoing to determine if a new agreement can be reached. The foundry assets are currently classified as held and used as they are being utilized to meet the remaining customer requirements. If a successful conclusion cannot be reached on the sale, the Company will continue to operate the facility until all production requirements have been transferred to other facilities. Production in the facility is expected to be concluded within the first half of 2006. The future use or disposition options for these foundry assets, as well as their appropriate carrying value, will be reviewed as the Company nears the completion of their production requirements.
Other Expenses
The Company's other expenses for the third quarter were $2.7 million, compared to $1.3 million recorded in the same period of 2004. Included in other expenses for the quarter was a $2.4 million net foreign exchange loss on the translation of foreign denominated assets, principally related to a future income tax asset associated with the Company's Chassis business. As the Chassis operation was classified as a self-sustaining subsidiary in the third quarter of 2004, any foreign exchange adjustments on translation were recorded through the cumulative translation adjustment account of shareholders' equity. The future income tax asset will be utilized by the Company's other US subsidiary as the Chassis business is no longer operating. In 2005 the Chassis business assets together with the assets of the Company's other US subsidiary are classified as integrated, therefore the third quarter foreign exchange translation loss is reported through income. The Company is currently reviewing methods to mitigate this foreign exchange risk.
Income Taxes
The Company has recorded income tax expense of $0.9 million for the quarter. Although the Company generated a loss during the quarter, the following factors resulted in the recognition of income tax expense:
- No tax benefit has been recognized with respect to the loss realized by the operation in Hungary as the operation is subject to a tax holiday during the first ten years of operations.
- There is no tax impact associated with the foreign exchange loss, resulting from the translation of foreign subsidiaries, which was discussed under Other Expenses.
The effective tax rate reflected for the third quarter of 2004 was 41.9%.
Financial Condition, Liquidity and Financial Resources
At October 2, 2005 the Company had cash balances of $2.0 million and net debt of $31.9 compared with cash balances of $3.7 million and net debt of $57.5 million at the end of 2004. During the third quarter, cash flows generated from operations and the sale of equipment exceeded capital expenditures and dividend payments, allowing for a reduction in net debt of $3.3 million during the quarter.
Operating Activities
The Company generated $2.3 million in cash from continuing operations during the third quarter, compared with $7.2 million in cash generated during the third quarter of 2004. The decrease was primarily attributable to lower earnings from operations offset by changes in non-cash working capital. Cashflow invested in non-cash working capital during the quarter was $5.3 million, this compares with cash invested in non-cash working capital of $7.5 million in the third quarter of 2004. The third quarter benefit compared to the prior year was due to increased payables and accruals and a reduction in inventories offset by an increase in receivables due to a large customer payment received just after quarter end.
Investing Activities
Cash used in investing activities was $64.6 million lower in the third quarter of 2005 compared to the year earlier period, driven primarily by the acquisition of the Hungarian joint venture last year. Capital expenditures for the third quarter of 2005 were $10.0 million, which were $0.2 million lower than the $10.2 million incurred over the same quarter last year. During the quarter the Company disposed of an aircraft generating proceeds of $10.9 million. A portion of these proceeds, $6.7 million, was used to purchase a more economical used aircraft.
Financing Activities
Net repayments of long-term debt during the quarter totaled $2.3 million. Dividends paid during the quarter were $0.06 per common share, compared with $0.12 per share in the third quarter of 2004.
Financing Resources
At October 2, 2005 the Company was in a strong financial position. The Company had net debt outstanding at the end of the third quarter of $31.9 million compared with $57.5 million at the end of 2004. At October 2, 2005, the Company had $91.2 million of unused and available credit under a multi-year committed borrowing facility to fund operating needs and growth initiatives, if required.
Shareholders Equity
Shareholders' equity at the end of the quarter was $380.6 million, a decrease from $405.6 million at January 2, 2005. The decrease resulted from the impact of the net loss recorded year-to-date during 2005 and the decrease in the value of the cumulative translation adjustment account over the same period. The cumulative translation adjustment account represents the unrealized change in the value of the Company's investments in its self-sustaining subsidiaries operating in foreign currencies and translated to Canadian dollars at current rates of exchange. The change during 2005 has resulted from exchange fluctuations associated with the investment in Hungary.
Outlook
Although there can be no certainty as to future levels of production, current industry estimates project that the automotive industry in North America will remain stable in 2005. While there have been signs of softening in recent months it is projected that North American light vehicle production levels will be in the range of 15.6 to 15.8 million vehicles, consistent with the 15.8 million units achieved in 2004. However, it is also projected that market share declines will result in lower production levels by the Company's primary customer base, the domestic Big 3 automakers.
The Company anticipates that its 2005 production levels of its North American Powertrain business will not achieve the levels reached in 2004, primarily a result of the lower production volumes projected for its customer base and the annualized impact of production programs re-sourced to low-cost country suppliers during 2004. These declines will be partially offset by new programs in North America together with new product launches in Europe.
The Company's results are sensitive to raw material prices for scrap steel and moly. Scrap steel prices fell during the third quarter compared with the preceding quarter, but have experienced a steady increase since. The price of moly has remained at or near record highs. If these prices are maintained throughout 2005, Wescast will pay significantly more in total for scrap steel and moly than was incurred in 2004.
The Company's strategic direction is the pursuit of a global powertrain strategy capable of generating attractive growth and strong financial return prospects for our stakeholders:
- The focus of the core Powertrain segment in North America will be on becoming more cost-competitive in an effort to address the significant pressure on pricing that is being exerted by the powertrain customer base. This pressure has intensified with the growing threat from competitors based in low-cost countries, specifically China. To meet this challenge the Company will continue to pursue aggressive year-over-year cost-reduction targets in these operations. Progress has been made toward achieving these targets by applying the Company's HEART participative management process and continuous improvement focus. To date many cost-reduction initiatives have been proposed and are being implemented.
- The Company will also focus on aligning its global capacity to meet the needs of its customers in the most efficient manner available. This includes the planned closure of the foundry operations in Brantford, Ontario. The initial phases of manpower reductions have been implemented; further reductions will be phased in over the remainder of 2005 and the first half of 2006 as production is transferred to other Wescast facilities. There will be costs incurred during 2005 associated with the closure, including the severance and benefit costs that were accrued in the first quarter. The Company expects that the implementation of its foundry optimization plan will significantly reduce its fixed costs. A portion of these fixed cost reductions are expected to be realized in the fourth quarter of 2005. Further cost reductions are expected to be realized in 2006, as the plan implementation continues. During the third quarter the fixed cost savings associated with the reduced operating activities in Brantford were offset by the initial product launch costs incurred at the Company's other facilities as they absorb this production.
- The Company will continue to focus on expanding its powertrain business through the expansion of its customer base and geographic coverage. This includes completing the foundry and machining ramp-up of the operation in Hungary. The successful completion of the ramp-up is expected to generate significant improvements in Wescast results in 2006.
- The Company will maintain its commitment to fund research and development activities, including:
- The deployment to customers of the "hot-end solutions" strategy; and,
- The continued development of high-temperature alloys.
- The successful closure of the Chassis business has eliminated the negative impact that this operation has had on Wescast finances.
- The Company is taking the initial steps necessary to establish a facility in China, which include the acquisition of property, design of the facility and the hiring of senior Chinese management. It is anticipated that some of these activities will be completed during the fourth quarter of this year.
The Company believes that maintaining the focus on these areas is the best means to ensure the long-term success of the business.
Forward-Looking Information
Certain information provided by Wescast in this MD&A and in other documents published throughout the year that is not a recitation of historical facts may constitute forward-looking information, within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. The words "estimate", "anticipate", "believe", "expect", and similar expressions are intended to identify forward-looking statements. Such forward-looking information involves important risks and uncertainties that could materially alter results in the future from those expressed in any forward-looking statements made by, or on behalf of the Company. These risks and uncertainties include, but are not limited to, global economic and industry conditions causing changes to production volumes, changes in raw material and other input costs, price reduction pressures, dependence on certain vehicles and major OEM customers, program launch delays, currency exposure, contract negotiations with the unionized workforce, failure in implementing Company strategy, technological developments by the Company's competitors, government and regulatory policies and changes in the competitive environment in which the Company operates. While the Company believes that its forecasts and assumptions are reasonable, persons reading this report are cautioned that such statements are only predictions and that actual events or results may differ materially. In evaluating such forward-looking statements readers should specifically consider the various factors which could cause actual events or results to differ from those indicated by such forward-looking statements.
Wescast Industries Inc. (TSX:WCS.SV.A)