10-Q 1 first10q2004.txt FIRST QUARTER 10-Q 2004 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED April 3, 2004 OR[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM to . Commission File Number 0-599 THE EASTERN COMPANY ------------------- (Exact Name of Registrant as specified in its charter) Connecticut 06-0330020 ----------- ---------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 112 Bridge Street, Naugatuck, Connecticut 06770 ----------------------------------------- ----- (Address of principal executive offices) (Zip Code) (203) 729-2255 (Registrant's Telephone Number, Including Area Code) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No-- . Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes-- No X. Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Class Outstanding as of April 3, 2004 ----- ------------------------------- Common Stock, No par value 3,625,339 -1- PART I FINANCIAL INFORMATION THE EASTERN COMPANY AND SUBSIDIARIES ITEM I CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED) ------
ASSETS April 3, 2004 January 3, 2004 ------------- --------------- CURRENT ASSETS Cash and cash equivalents $ 2,900,375 $ 4,896,816 Accounts receivable, less allowances: 2004 - $310,000; 2003 - $302,000 13,287,772 11,036,760 Inventories 16,772,800 16,926,548 Prepaid expenses and other 1,796,387 1,642,513 Deferred income taxes 421,700 462,700 ------------ ------------ Total Current Assets 35,179,034 34,965,337 -------------------- Property, plant and equipment 43,444,003 42,819,165 Accumulated depreciation (18,697,253) (17,888,740) ------------ ------------ 24,746,750 24,930,425 Goodwill and trademarks 10,517,417 10,687,373 Patents, technology and licenses, less accumulated amortization 2,015,408 1,877,408 Intangible pension asset 964,592 964,592 Prepaid pension cost 957,479 1,192,281 ------------ ------------ TOTAL ASSETS $ 74,380,680 $ 74,617,416 ============ ============ LIABILITIES AND SHAREHOLDERS' EQUITY CURRENT LIABILITIES Accounts payable $ 5,092,087 $ 4,246,633 Accrued compensation 1,344,745 1,782,408 Other accrued expenses 1,911,519 2,034,918 Current portion of long-term debt 2,002,121 2,007,273 ------------ ------------ Total Current Liabilities 10,350,472 10,071,232 ------------------------- Deferred federal income taxes 1,243,264 1,243,264 Long-term debt, less current portion 15,163,192 15,814,669 Accrued postretirement benefits 2,359,770 2,384,770 Accrued rate swap obligation 478,612 580,055 Accrued pension obligation 3,373,577 4,015,858 Shareholders' Equity Preferred Stock, no par value Authorized shares - 2,000,000 (No shares issued) Common Stock, no par value: Authorized Shares - 25,000,000 Issued and outstanding shares: 2004-3,625,339; 2003-3,616,039 excluding 1,680,342 in 2004 and 1,680,342 in 2003 shares held in treasury 799,392 664,949 Accumulated other comprehensive (loss)/income: Foreign currency translation (135,565) (166,295) Additional minimum pension liability, net of taxes (4,049,886) (4,049,886) Derivative financial instruments, net of taxes (287,612) (348,055) ------------ ------------ (4,473,063) (4,564,236) Retained earnings 45,085,464 44,406,855 ------------ ------------ TOTAL SHAREHOLDERS' EQUITY 41,411,793 40,507,568 ------------ ------------ TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 74,380,680 $ 74,617,416 ============ ============
See accompanying notes. -2-
THE EASTERN COMPANY AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) Three Months Ended April 3, 2004 March 29, 2003 ------------- -------------- Net sales $ 24,565,208 $ 21,590,714 Cost of products sold 18,430,062 16,091,179 ------------ ------------ 6,135,146 5,499,535 Selling and administrative expenses 4,171,486 3,819,453 Interest expense 276,397 346,519 Other income 7,812 12,569 ------------ ------------ INCOME BEFORE INCOME TAXES 1,695,075 1,346,132 Income taxes 618,702 392,755 ------------ ------------ NET INCOME $ 1,076,373 $ 953,377 ============ ============ Earnings per share: Basic $ 0.30 $ 0.26 Diluted $ 0.29 $ 0.26 Cash dividends per share $ 0.11 $ 0.11
See accompanying notes. -3-
THE EASTERN COMPANY AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) Three Months Ended April 3, 2004 March 29, 2003 ------------- -------------- OPERATING ACTIVITIES: Net income $ 1,076,373 $ 953,377 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 892,152 908,383 Postretirement benefits other than pensions (25,000) 18,396 Provision for doubtful accounts 4,215 27,799 Issuance of Common Stock for directors' fees 19,018 28,894 (Gain)/Loss on sale of equipment & other assets (3,516) - Changes in operating assets and liabilities: Accounts receivable (2,405,487) (571,406) Inventories 180,825 (93,250) Prepaid expenses and other (159,550) 79,824 Prepaid pension cost (215,543) 207,470 Accounts payable 652,821 161,887 Other Accrued expenses (405,248) (194,126) Other assets (40,378) (39,479) ----------- ----------- NET CASH (USED)/PROVIDED BY OPERATING ACTIVITIES (429,318) 1,487,769 INVESTING ACTIVITIES: Proceeds from sale of equipment 3,516 - Purchases of property, plant, and equipment (638,309) (311,957) ----------- ----------- NET CASH USED BY INVESTING ACTIVITIES (634,793) (311,957) FINANCING ACTIVITIES: Principal payments on long-term debt (656,438) (656,530) Proceeds from sale of Common Stock 115,425 - Purchases of Common Stock for treasury - (60,055) Dividends paid (397,764) (399,506) ----------- ----------- NET CASH USED BY FINANCING ACTIVITIES (938,777) (1,116,091) Effect of exchange rate changes on cash 6,447 11,153 ----------- ----------- NET CHANGE IN CASH AND CASH EQUIVALENTS (1,996,441) 70,874 Cash and Cash Equivalents at Beginning of Period 4,896,816 5,939,232 ----------- ----------- CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 2,900,375 $ 6,010,106 =========== ===========
-4- THE EASTERN COMPANY AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)
Three Months Ended April 3, 2004 March 29, 2003 Net income $1,076,373 $ 953,377 Other comprehensive income (loss) Currency translation 30,730 177,258 Change in fair value of derivative financial instruments, net of income tax benefit: 2004 - ($41,000) 2003 - ($40,000) 60,443 60,567 Unrealized holding loss on investment in common stock, net of income tax benefit of $14,300 - (21,568) ---------- --------- Comprehensive income $1,167,546 $ 1,169,634 ========== ===========
-5- THE EASTERN COMPANY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) APRIL 3, 2004 Note A - Basis of Presentation The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and do not include all of the information and footnotes required by generally accepted accounting principles in the United States for complete financial statements. Refer to the Company's consolidated financial statements and notes thereto included in its Form 10-K for the year ended January 3, 2004 for additional information. The accompanying condensed consolidated financial statements are unaudited. However, in the opinion of management, all adjustments (consisting only of normal recurring accruals) necessary for a fair presentation of the results of operations for interim periods have been reflected therein. Operating results for interim periods are not necessarily indicative of the results that may be expected for the full year. Certain prior year amounts have been reclassified to conform to the current year presentation. These reclassifications had no effect on previously reported net income. The condensed balance sheet as of January 3, 2004 has been derived from the audited consolidated balance sheet at that date. Note B - Earnings Per Share The denominators used in the earnings per share computations follow:
THREE MONTHS ENDED April 3, 2004 March 29, 2003 Basic: Denominator for basic earnings per share 3,617,034 3,630,303 ========= ========= Diluted: Weighted average shares outstanding 3,617,034 3,630,303 Dilutive stock options 96,702 -- --------- --------- Denominator for diluted earnings per share 3,713,736 3,630,303 ========= =========
Note C - Inventories The components of inventories follow:
April 3, 2004 January 3, 2004 ------------- --------------- Raw materials and component parts $ 8,604,447 $ 8,687,003 Work in process 4,075,790 4,112,625 Finished goods 4,092,563 4,126,920 ------------ ------------ $ 16,772,800 $ 16,926,548 ============ ============
-6- THE EASTERN COMPANY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) APRIL 3, 2004 Note D - Segment Information Segment financial information follows:
THREE MONTHS ENDED April 3, 2004 March 29, 2003 Revenues: Sales to unaffiliated customers: Industrial Hardware $10,912,204 $ 8,605,204 Security Products 10,465,716 9,481,688 Metal Products 3,187,288 3,503,822 ----------- ----------- $24,565,208 $21,590,714 Income Before Income Taxes: Industrial Hardware $ 1,509,582 $ 1,123,869 Security Products 1,361,501 1,069,774 Metal Products (30,630) 144,575 ----------- ----------- Operating Profit 2,840,453 2,338,218 General corporate expenses (868,981) (645,567) Interest expense (276,397) (346,519) ----------- ----------- $ 1,695,075 $ 1,346,132
Note E - Stock-Based Compensation The Company measures compensation expense related to stock-based compensation using the intrinsic value method. Accordingly, no stock-based employee compensation cost is reflected in net income if the exercise price of the option equals or exceeds the fair value of the stock on the date of grant. Pro forma information regarding net income and earnings per share, as required by Statement No. 123 "Accounting for Stock-Based Compensation", has been determined as if the Company had accounted for its employee stock options under the fair value method. The fair value of the stock options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted-average assumptions: April 3, 2004 March 29, 2003 ------------- -------------- Risk free interest rate N/A 2.78% Expected volatility N/A 0.306 Expected option life N/A 5 years Weighted-average dividend yield N/A 3.1% Assumptions are not applicable (N/A) because no options were granted in the first quarter of 2004. -7- THE EASTERN COMPANY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) APRIL 3, 2004 Note E - Stock-Based Compensation - continued
THREE MONTHS ENDED April 3, 2004 March 29, 2003 Net income, as reported $1,076,373 $953,377 Deduct: Total stock-based employee ------- compensation expense determined under fair value based method for all awards granted, net of related tax effects (4,476) (12,873) ---------- -------- Pro forma net income $1,071,897 $940,504 ========== ======== Earnings per share: Basic-as reported $0.30 $0.26 Basic-pro forma $0.30 $0.26 Diluted-as reported $0.29 $0.26 Diluted-pro forma $0.29 $0.26
For the purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the stock options' vesting period ranging from 1 to 5 years. The pro forma effect on net income and related earnings per share may not be representative of future years' impact since the terms and conditions of new grants may vary from the current terms. Note F - Recent Accounting Pronouncements During the quarter, the Company adopted FASB issued Interpretation No. 46, "Consolidation of Variable Interest Entities" ("FIN 46"), which addresses when a company should consolidate an entity based on the variable interest model of FIN 46. It defines a variable interest entity ("VIEs") as those entities in which equity investors do not have the characteristics of a controlling financial interest or in which equity investors do not bear the residual economic risks. Upon adoption, FIN 46 did not have any impact on the Company's financial position and results of operations. Note G - Legal Proceedings The Company is currently a party to a patent infringement suit. Although management has determined this suit is without merit, the Company incurred approximately $115,000 of legal expenses in 2003, $165,000 of legal expenses in the first quarter of 2004 and expects to incur additional expenses in 2004 to defend itself. There are no other legal proceedings, other than ordinary routine litigation incidental to the Company's business, or to which either the Company or any of its subsidiaries is a party or to which any of their property is the subject. Note H - Debt Effective January 4, 2004 The Company received approval from its financial institution to modify the basis of calculating its debt service covenant ratios from a rolling four-quarter test to a cumulative quarter test. The debt service covenant test will return to a rolling four-quarter test for the fiscal years beginning in 2005. -8- THE EASTERN COMPANY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) APRIL 3, 2004 Note I - Retirement Benefit Plans The Company has non-contributory defined benefit pension plans covering certain U.S. employees. Plan benefits are generally based upon age at retirement, years of service and, for its salaried plan, the level of compensation. The Company also sponsors unfunded nonqualified supplemental retirement plans that provide certain current and former officers with benefits in excess of limits imposed by federal tax law. The measurement date for the obligations disclosed below is September 30 of each year. The Company also provides health care and life insurance for retired salaried employees in the United States who meet specific eligibility requirements. Significant disclosures relating to these benefit plans for the first quarter of 2004 and 2003 follows:
Pension Benefits Postretirement Benefits ---------------- ----------------------- 2004 2003 2004 2003 ---- ---- ---- ---- Service cost $ 294,255 $ 202,354 $ 44,086 $ 92,395 Interest cost 571,589 383,756 77,016 180,168 Expected return on plan assets (650,011) (397,548) (41,123) (90,887) Transition obligation (51,099) (37,600) 0 0 Prior service cost 49,245 41,504 (11,433) (27,708) Losses recognized 89,196 61,375 (29,362) (82,155) --------- --------- -------- -------- Net periodic benefit cost $ 303,175 $ 253,841 $ 33,184 $ 71,813
The Company's funding policy with respect to its qualified plans is to contribute at least the minimum amount required by applicable laws and regulations. The Company was required to contribute $1,007,929 into its salaried plan and $194,123 into one of its hourly plans. The Company has paid all of the required contributions into the salaried plan as of March 15, 2004 and will make the minimum contribution into its hourly plan prior to filing its federal income tax return on September 15, 2004. On December 8, 2003, the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the Act) was signed into law. The Act introduces a prescription drug benefit under Medicare (Medicare Part D), as well as a federal subsidy to sponsors of retiree health care benefit plans that provide a benefit that is at least actuarially equivalent to Medicare Part D. As of April 3, 2004, in accordance with FASB Staff Position No. FAS 106-1 any measures of the Accumulated Postretirement Benefit Obligation (APBO) or net periodic postretirement benefit cost in the financial statements do not reflect the effects of the Act on the plan. More specific authoritative guidance on the accounting of the federal subsidy is pending and, when issued, could require the company to change previously reported information. The Company has a contributory savings plan under Section 401(k) of the Internal Revenue Code covering substantially all U.S. non-union employees. The plan allows participants to make voluntary contributions of up to 100% of their annual compensation on a pretax basis, subject to IRS limitations. The plan provides for contributions by the Company at its discretion. The Company made contributions of $37,115 in the first quarter of 2004, and $34,508 in the first quarter of 2003. -9- ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF ------ FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion is intended to highlight significant changes in the Company's financial position and results of operations for the twelve weeks ended April 3, 2004. The interim financial statements and this Management's Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the Consolidated Financial Statements and Notes thereto for the fiscal year ended January 3, 2004 and the related Management's Discussion and Analysis of Financial Condition and Results of Operations, both of which are contained in the Company's Annual Report on Form 10-K for the fiscal year ended January 3, 2004. Certain statements set forth in this discussion and analysis of financial condition and results of operations are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. They use such words as "may," "will," "expect," "believe," "plan" and other similar terminology. These statements reflect management's current expectations regarding future events and operating performance and speak only as of the date of this release. These forward-looking statements involve a number of risks and uncertainties and actual future results and trends may differ materially depending on a variety of factors including changing customer preferences, lack of success of new products, loss of customers, competition, increased raw material prices, problems associated with foreign sourcing of parts and products, changes within our industry segments, in the overall economy, litigation and legislation. In addition, terrorist threats and the possible responses by the U.S. government, the effects on consumer demand, the financial markets, the travel industry, the trucking industry and other conditions increase the uncertainty inherent in forward-looking statements. Forward-looking statements reflect the expectations of the Company at the time they are made, and investors should rely on them only as expressions of opinion about what may happen in the future and only at the time they are made. The Company undertakes no obligation to update any forward-looking statement. Although the Company believes it has an appropriate business strategy and the resources necessary for its operations, future revenue and margin trends cannot be reliably predicted and the Company may alter its business strategies to address changing conditions. In addition, the Company makes estimates and assumptions that may materially affect reported amounts and disclosures. These relate to valuation allowances for accounts receivable and for excess and obsolete inventories, accruals for pensions and other postretirement benefits (including forecasted future cost increases and returns on plan assets), provisions for depreciation (estimating useful lives), and, on occasion, accruals for contingent losses. Overview During the first quarter of 2004 the Company experienced a 13.8% increase in sales as compared to the first quarter of 2003. The Industrial Hardware and the Security Products segments experienced a 26.8% and 10.4%, respectively, increase in sales during the period while the sales of the Metal Products segment declined 9.0% from the comparable quarter of 2003. The Industrial Hardware sales increase came from both distributors and original equipment manufacturers (OEM's), as the result of a general improvement in the economy particularly in the manufacturing sector; sales increased to our service body OEM's, due to sales of our stainless steel paddles and our new PowerUp(TM) system; subcontractors for military vehicles, as the result of retrofitting the Humvee, 1 ton and 3/4 ton trucks with heavy duty rotary and paddle latches as the Army increases the armor on these vehicles; and class 8 truck market as this industry is experiencing significant growth requiring our hardware and sleeper boxes for Freightliner's Western Star tractor-trailer truck line. -10- The sales increase in the Security Products segment came as a result of increased sales of locks to computer manufactures such as IBM, Dell and Sun Micro Systems as we gain more market share from our competitors; increased sales to the travel industry as the result of the new SearchAlert(TM) lock recently introduced into the Transportation Security Administration's program for locking checked baggage at airports; industrial enclosures, and electro-mechanical timers serving the commercial laundry market as the result of the expanding economy and increasing market share from competitors. Sales in the Metals Products segment were down in both the mining and contract casting product lines. Our proprietary mine roof anchors declined as the result of mining techniques requiring the use of fewer of our proprietary mine roof anchors, and sales of contract casting products were down as the result of moving away from low margin jobs. However the Company has recently signed a technical development contract with China University of Mining and Technology. The contract calls for the testing and appraisal of our proprietary mine roof anchors for use in underground coal mining in China. If initial laboratory test results prove positive the second phase calls for field testing in one of China's largest coal mines. The Company is experiencing or has been notified of cost increases, in the majority of material it uses such as steel, zinc and brass, with price increases ranging from 20% to 50%. The Company intends to pass on to our customers where possible these increases. Currently, there is no indication that the Company will not be able to obtain all the materials that it requires. Cash flow in the first quarter of 2004 has tightened as the Company has experienced an increase in sales resulting in the need for additional working capital, primarily due to timing of accounts receivable collections. The Company's line of credit, along with controlling discretionary expenditures should provide sufficient cash flow to meet all existing obligations. A more detailed analysis of the Company's results of operations and financial condition follows: Results of Operations The following table sets forth, for the periods indicated, selected Company statement of operations data expressed as a percentage of net sales.
Three Months Ended April 3, 2004 March 29, 2003 Net sales 100.0% 100.0% Cost of products sold 75.0% 74.5% ----- ----- Gross margin 25.0% 25.5% Selling and administrative expense 17.0% 17.7% Interest expense 1.1% 1.6% Other (income) expense 0.0% (0.1%) ----- ----- Income before income taxes 6.9% 6.2% Income taxes 2.5% 1.8% ----- ----- Net Income 4.4% 4.4% ===== =====
Net income for the first quarter of 2004 was $1,076,400 or $.29 per diluted share on sales of $24.6 million compared to net income of $953,000 or $.26 per diluted share on sales of $21.6 million in the first quarter of 2003. -11- Sales for the first quarter 2004 were up 13.8% compared to the same period a year ago. New product sales contributed 4% while the volume of existing products increased 10.3%. Prices decreased .5% in the first quarter due to some price concessions given in order to maintain customer accounts. However, the Company intends to institute selective price increases in the second quarter in order to recover the increasing cost of material the Company is experiencing. The Industrial Hardware segment's first quarter sales were up 26.8% compared to the first quarter of 2003. New product sales increased 5.9%, volume of existing products increased 22.7% and prices were down 1.8%. New products include the PowerUp(TM) system and power rotary locks. Sales of "sleeper boxes" for the class 8 truck market were up 62.9%. The Company anticipates continued sales improvement in the Industrial Hardware segment throughout 2004. Our Eastern Industrial (Shanghai) Ltd., manufacturing facility located in Shanghai, China has just begun to produce products for our U.S and Canadian affiliates. This subsidiary will be instrumental in helping us to remain price competitive in North America and will open up the possibility to more effectively pursue global markets. In addition to producing fabricated metal products, it will include plastic injection molding capability. It will also serve as a sourcing center for products that do not compete directly against our North American based operations. The Security Products segment's sales were up 10.4% in the first quarter 2004 as compared to the first quarter of 2003. New product sales increased 3.6% and sales volume of existing products increased 6.8%. Sales of new products consisted of the SearchAlert(TM) luggage lock and a remote keyless entry system for the automotive accessory market. The Metal Products segment's sales were down 9.0% in the first quarter of 2004 as compared to the first quarter of 2003. Volume of existing products decreased by 10.7% offset by an increase of 1.7% in prices. Sales of our contract casting products for use in the commercial and industrial construction industry decreased 7.8% and sales of our proprietary mine roof support anchors were down 9.6% for the first quarter of 2004 as compared to the first quarter of 2003. Sales are expected to remain below prior year levels throughout 2004. Gross margin as a percentage of sales for the three months ended April 3, 2004 was 25.0% compared to 25.5% in the comparable period a year ago. The decrease in gross margin in the first quarter is primarily the result of product mix, some price erosion, decreased sales volume in the metal products segment, which resulted in lower plant utilization, higher raw material prices, operating inefficiencies experienced with the training of new workers in the Industrial Hardware segment as it prepared for increased production activities. Selling and administrative expenses were up 9.2% or $352,000 for the first quarter of 2004 as compared to the same periods a year ago. The increase was due in large part to our new manufacturing facility in Shanghai which added $184,000 of start-up expenses and a patent infringement suit which added an additional $165,000 of legal expenses. Interest expense decreased by $70,100 or 20.2% for the first quarter of 2004 as compared to the same periods in 2003. This decrease in interest expense was due to the lower level of debt in the current period. Earnings before income taxes for the three months ended April 3, 2004 were up $348,900 or 25.9% as compared to the same periods of 2003. The Industrial Hardware segment was up 34.3% or $385,700, the Security Products segment was up $291,700 or 27.3% and the Metal Products segment was down $175,200 or 121.2% as compared to the first quarter of 2003. The increases in the Industrial Hardware and Security Products segments reflect the general overall increase in the economy in the first quarter of 2004, increased market share and the introduction of new products. The Metal Products segment loss is the result of the continued decline in the use of our proprietary mine roof anchors in the North American mining industry as new mining technology continues to reduce the need for our products. -12- The effective tax rate of 36.5% for the first quarter is higher compared to the 29.2% for the first quarter of 2003. The increase in the effective tax rate is the result of the Company deriving a higher percentage of its earnings from countries with higher effective tax rates. Liquidity and Sources of Capital The Company used $429,300 from operations for the first three months of 2004 compared to $1,487,800 provided from operations for the same period in 2003. The decrease in cash flows was the result of increases in the level of sales at all segments and the associated timing differences for collections of accounts receivable and payments of liabilities and changes in inventories. Cash flow from operations coupled with cash on hand at the beginning of the year was sufficient to fund capital expenditures, debt service, contributions to the Company's pension plans, and dividend payments. Additions to property, plant and equipment were $638,300 during the first three months of 2003 versus $312,000 for the comparable period in the prior year. Total capital expenditures for 2004 are expected to be in the range of $2.0 million to $3.0 million. Total inventories as of April 3, 2004 were $16.8 million or $154,000 lower than year end 2003. The inventory turnover ratio of 4.4 turns at the end of the first quarter was higher than both the prior year first quarter of 4.0 turns and the year end 2003 ratio of 4.1 turns. Accounts receivable increased by $2.3 million from year end 2003, primarily due to increased sales volume. The average days sales in accounts receivable for the first quarter of 2004 was 49 days compared to 47 days in the first quarter of 2003 and 48 days at year end 2003. Cash flow from operating activities and funds available under the revolving credit portion of the Company's loan agreement are expected to be sufficient to cover future foreseeable working capital requirements. The Company requested and received approval from its financial institution to modify the basis of calculating its debt service covenant ratios from a rolling four-quarter test to a cumulative quarter test effective for the periods beginning January 4, 2004. The debt service covenant test will return to a rolling four-quarter test for the fiscal years beginning in 2005. This modification to the debt service covenants will provide the Company more flexibility within its capital expenditure programs. ITEM 3 QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK ------ ---------------------------------------------------------- There have been no material changes in market risk from what was reported in the 2003 Annual Report on Form 10-K. ITEM 4 CONTROLS AND PROCEDURES ------ ----------------------- Evaluation of Disclosure Controls and Procedures An evaluation was performed under the supervision and with the participation of the Company's management, including the Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO"), of the effectiveness of the design and operation of the Company's disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, the Company's management, including the CEO and CFO, concluded that the Company's disclosure controls and procedures were effective as of the end of the period covered by this report based on such evaluation. The Company believes that a controls system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the controls system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected. The Company's disclosure controls and procedures are designed to provide reasonable assurance of achieving their objectives, and the CEO and CFO have concluded that these controls and procedures are effective at the "reasonable assurance" level. -13- Changes in Internal Controls During the period covered by this report there have been no significant changes in the Company's internal control over financial reporting or in other factors that have materially affected, or are reasonably likely to materially affect the Company's internal controls. PART II OTHER INFORMATION ITEM 1 LEGAL PROCEEDINGS - ------ ------------------- The Company is currently a party to a patent infringement suit. Although management has determined this suit is without merit, the Company incurred approximately $115,000 of legal expenses in 2003, $165,000 in the first quarter of 2004 and expects to incur additional expenses in 2004 to defend itself. There are no other legal proceedings, other than ordinary routine litigation incidental to the Company's business, or to which either the Company or any of its subsidiaries is a party or to which any of their property is the subject. ITEM 2 CHANGES IN SECURITIES AND USE OF PROCEEDS ------ ----------------------------------------- None ITEM 3 DEFAULTS UPON SENIOR SECURITIES None ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS ------ --------------------------------------------------- The Registrant held its Annual Meeting of the Stockholders at The Eastern Company, Naugatuck, Connecticut on Wednesday, the twenty-eighth day of April 2004. The matters voted on and the voting results were:
FOR AGAINST ABSTENTION 1) Election of Charles W. Henry as a director for a three-year term expiring in the year 2007: 2,989,240 29,789 Continuing Directors: Leonard F. Leganza John W. Everets David C. Robinson Donald S. Tuttle III 2) Appointment of Ernst & Young LLP as independent auditors: 3,007,662 8,251 3,115
ITEM 5 OTHER INFORMATION ------ ----------------- None -14- ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K ------- -------------------------------- (a) 31 Certifications required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 32 Certifications pursuant to Rule 13a-14(b) and 18 USC 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 99(1) The Registrant's Annual Report on Form 10-K for the fiscal year ended January 3, 2004 is incorporated herein by reference. (b) 99(2) Form 8-K filed on April 28, 2004 setting forth the press release reporting the Company's earnings for the quarter ended April 3, 2004 is incorporated herein by reference. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. THE EASTERN COMPANY (Registrant) DATE: May 3, 2004 /s/Leonard F. Leganza ----------- --------------------- Leonard F. Leganza President and Chief Executive Officer DATE: May 3, 2004 /s/John L. Sullivan, III ----------- ------------------------ John L. Sullivan, III Vice President, Secretary and Treasurer -15-