-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, NwgeXiOf7dj1i1QMgZT/QqAf1cX9jQXQUXUxp9aAyVr5J4R3Nwigr4OS+KGzF/Cz aBdABTQJaekGKV/MeSfh5A== 0001116502-04-000522.txt : 20040315 0001116502-04-000522.hdr.sgml : 20040315 20040315103318 ACCESSION NUMBER: 0001116502-04-000522 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 9 CONFORMED PERIOD OF REPORT: 20031231 FILED AS OF DATE: 20040315 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PENN ENGINEERING & MANUFACTURING CORP CENTRAL INDEX KEY: 0000077106 STANDARD INDUSTRIAL CLASSIFICATION: BOLTS, NUTS, SCREWS, RIVETS & WASHERS [3452] IRS NUMBER: 230951065 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 001-05356 FILM NUMBER: 04667993 BUSINESS ADDRESS: STREET 1: PO BOX 1000 CITY: DANBORO STATE: PA ZIP: 18916 BUSINESS PHONE: 2157663675 MAIL ADDRESS: STREET 1: P O BOX 1000 CITY: DANBORO STATE: PA ZIP: 18916 10-K 1 penn10k.txt ANNUAL REPORT 12-31-2003 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 2003 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 1-5356 PENN ENGINEERING & MANUFACTURING CORP. -------------------------------------- (Exact name of registrant as specified in its charter) Delaware 23-0951065 - ------------------------------- ------------------ (State or other jurisdiction of (I.R.S. employer incorporation or organization) identification no.) P.O. Box 1000, Danboro, Pennsylvania 18916 - ------------------------------------ ---------- (Address of principal executive offices) (Zip code) Registrant's telephone number, including area code: (215) 766-8853 Securities registered pursuant to Section 12(b) of the Act: Title of each class Name of each exchange on which registered ------------------- ----------------------------------------- Class A Common Stock, $.01 par value New York Stock Exchange Common Stock, $.01 par value New York Stock Exchange Securities registered pursuant to Section 12(g) of the Act: None. 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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act 1934). Yes __X __. No __. As of June 30, 2003, the aggregate market value based on the closing sales price on that date of the voting and non-voting common equity held by non-affiliates of the Registrant was approximately $233,111,000. Indicate the number of shares outstanding of each of the Registrant's classes of common stock as of the latest practicable date: 14,231,978 shares of Common Stock and 3,350,164 shares of Class A Common Stock outstanding on March 1, 2004. DOCUMENTS INCORPORATED BY REFERENCE: 1. Portions of the Registrant's 2003 Annual Report to Stockholders filed as Exhibit (13) are incorporated by reference in Items 1, 3, 5, 6, 7, 7A, 8, and 15. 2. Portions of the Proxy Statement for the Registrant's 2004 Annual Meeting of Stockholders are incorporated by reference in Items 10, 11, 12, 13, and 14. PENN ENGINEERING & MANUFACTURING CORP. ____________ INDEX TO FORM 10-K REPORT ___________ PAGE ---- I. PART I Item 1. Business.......................................................3 Item 2. Properties.....................................................7 Item 3. Legal Proceedings..............................................8 Item 4. Submission of Matters to a Vote of Security Holders............8 Executive Officers of Registrant...............................8 II. PART II Item 5. Market for Registrant's Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities.............9 Item 6. Selected Financial Data........................................9 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.....................................10 Item 7A. Quantitative and Qualitative Disclosures About Market Risk....10 Item 8. Financial Statements and Supplementary Data...................10 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure......................................10 Item 9A. Controls and Procedures.......................................10 III. PART III Item 10. Directors and Executive Officers of the Registrant............10 Item 11. Executive Compensation........................................11 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters....................11 Item 13. Certain Relationships and Related Transactions................11 Item 14. Principal Accoutant Fees and Services.........................11 IV. PART IV Item 15. Exhibits, Financial Statements and Schedules, and Reports on Form 8-K......................................................12 2 PART I Item 1. Business. - ------- --------- (a) General Development of Business. The Registrant, a Delaware corporation, was incorporated in 1942. The primary businesses of the Registrant are: (i) The development, manufacture, and sale, through Registrant's PennEngineering Fastening Technologies division ("Fastening Technologies"), of PEM(R) self-clinching and broaching fasteners, automatic insertion equipment for such fasteners sold under the PEMSERTER(R) trademark, inserts for plastics sold under the SI(R) trademark, small screw insertion systems sold under the StickScrew(R) trademark, and blind-threaded inserts sold under the Atlas(R) trademark; (ii) The development, manufacture, and sale through the Registrant's PennEngineering Motion Technologies division ("Motion Technologies"), of permanent magnet brush-commutated dc motors under the Pittman(R) brand and Lo-Cog(R) trademark, electronically commutated brushless dc servomotors under the Elcom(R) trademark, and stepper, brush, and brushless dc motors under the MAE(TM) trademark; and (iii) The distribution of fasteners and other components utilized by original equipment manufacturers ("OEMs") and the provision of comprehensive logistical and inventory management services, through Arconix Group, Inc. and its subsidiaries ("Arconix Group"). On February 5, 2003, the Registrant acquired all of the issued and outstanding capital stock of Maelux S.A. and its sole operating company, MAE S.p.A. ("MAE"), of Offanengo, Italy, for approximately $10.7 million. MAE is a manufacturer of stepper, brush, and brushless dc motors serving customers throughout Europe and Asia. The purchase price was paid in cash. (b) Financial Information About Industry Segments. The answer to this Item is incorporated by reference to Note 13 of the Notes to Consolidated Financial Statements "Financial Reporting for Business Segments of the Registrant" on pages 26, 27, and 28 of the Registrant's 2003 Annual Report to Stockholders (the "Annual Report"), which is included as Exhibit (13) to this Form 10-K Annual Report. (c) Narrative Description of Business. Fastening Technologies is the world's leading manufacturer of self-clinching fasteners, which are used principally by the computer, data communications, telecommunications, general electronics, automotive, and avionics industries. PEM(R) self-clinching fasteners were first developed by the Registrant's founder in 1942. Self-clinching fasteners become an integral part of the material in which they are installed and provide a reliable means of attaching components to sheet metal and other thin materials. Typical applications for the Registrant's fastener products include personal computers, computer cabinetry, power supplies, instrumentation, telecommunications equipment, and certain automobile components, such as air bags, sun roofs, and windshield wipers. 3 The Registrant's fasteners are primarily used by sheet metal fabricators, which utilize the Registrant's fasteners to produce sub-assemblies for OEMs. Both OEMs and their subcontractors seek fastening solutions that provide lower total installed cost and are highly reliable, thereby lowering production and service costs. The Registrant's application engineers, its distributors, and its independent distributors continually work in close collaboration with OEMs and their subcontractors early in the design process to determine appropriate fastener applications and to engineer fastening solutions. This collaboration often results in OEMs specifying the Registrant's fasteners in their products. Self-clinching fasteners generally compete against loose hardware, such as nuts and bolts. Even though the Registrant's fasteners typically sell at a premium to loose hardware, its fasteners generally result in lower overall manufacturing costs. Fastening Technologies also manufactures and sells manual and automated presses for fastener installation under the PEMSERTER(R) trademark, small screw insertion systems sold under the StickScrew(R) trademark, and blind-threaded inserts sold under the Atlas(R) trademark. The rapid and accurate installation provided by PEMSERTER(R) presses, together with the Registrant's broad range of fastener products, provides the Registrant's customers with a complete fastening system. Motion Technologies, under the Pittman(R) and Lo-Cog(R) trademarks, produces high-quality, high-performance, permanent magnet dc motors and electronically commutated brushless dc servomotors used in light-weight precision electronics, medical, and manufacturing applications such as archival storage, printing, copying, robotics, and medical diagnostic equipment and centrifuges, and, under the MAE trademark, produces high quality, high performance stepper, brush, and brushless dc motors serving similar applications and markets in Europe and Asia. Motion Technologies' broad range of products are typically adapted to the specific requirements of individual customers. Arconix Group is a global distribution organization that offers a single source of supply for fastening and electronic hardware products and other components utilized by OEMs and their subcontractors. Arconix Group also provides a broad range of logistical and on-site inventory management services. The following table sets forth information with respect to the percentage of total sales attributable to each of the Registrant's principal segments that accounted for 10% or more of consolidated revenues in each of the fiscal years ended December 31, 2001, 2002, and 2003: Percentage of Total Sales ------------------------- Year Ended December 31, Fasteners Motors Distribution ------------ --------- ------ ------------ 2001 60% 18% 22% 2002 51 21 28 2003 50 23 27 The Registrant's fastener products are sold through a worldwide network of approximately 60 authorized independent distributors located in approximately 40 countries, including the Registrant's own subsidiaries in California, China, England, Singapore, and Mexico. Many of the independent distributors and engineering representative organizations have been affiliated with the Registrant for more than 20 years. The Registrant's independent 4 distributors, which maintain their own inventories of the Registrant's products, typically sell other complementary industrial components. The Registrant's return allowances, which are made through the exchange of inventory, have generally averaged less than 1% of sales. The Registrant supplies its customers and distributors through warehouses in: Oxnard, California; Shanghai, China; Doncaster, England; Singapore; and Guadalajara, Mexico, in addition to maintaining inventory at its facilities in Danboro, Pennsylvania, Winston-Salem, North Carolina, and Kent, Ohio. Domestic and European sales of the Registrant's motor products are made through independent sales representatives and authorized independent distributors. During the year ended December 31, 2003, conditions in the domestic market for fasteners continued to be highly competitive. It is not possible to determine with accuracy the relative competitive position of Fastening Technologies in the market for self-clinching, broaching, and insert fasteners. The Registrant believes that Fastening Technologies has maintained its market share during 2003. Approximately ten other companies are known to be competing with the Registrant in the manufacture and sale of such fasteners, some of which also manufacture products other than self-clinching, broaching, and insert fasteners. The Registrant also believes that Motion Technologies has maintained its competitive position in the dc motor market in 2003, and that Arconix Group has maintained its competitive position in the distribution and inventory management services arena in 2003. Among Fastening Technologies' principal customers for fasteners and PEMSERTER(R) presses are manufacturers of business machines, personal computers, computer peripherals, electronic and communications equipment, electrical equipment, industrial controls instrumentation, vending machines, automotive subcontractors, and other fabricated metal products. Motion Technologies' principal customers for the dc motors, servomotors, and stepper motors are manufacturers of mass data storage units, automated production equipment, instruments, computer peripherals, business machines, medical equipment and textile industry equipment. Arconix Group's customers are generally the same as those of Fastening Technologies. In the opinion of the Registrant, no material part of its business is dependent upon a single customer or a few customers, the loss of any one or more of which would have a material adverse effect on the business of the Registrant. For the year ended December 31, 2003, sales to one of the Registrant's authorized distributors totaled approximately $18,900,000, or approximately 10% of the Registrant's 2003 consolidated net sales. For the year ended December 31, 2002, there were no sales to any one customer that exceeded 10% of the Registrant's 2002 consolidated net sales. For the year ended December 31, 2001, sales of fasteners to one of the Registrant's authorized distributors totaled approximately $22,105,000, or approximately 12% of the Registrant's 2001 consolidated net sales. As of December 31, 2003, the Registrant had an order backlog of $79,498,000 compared with $33,718,000 as of December 31, 2002. The Registrant estimates that substantially all of its backlog as of December 31, 2003 will be shipped during its fiscal year ending December 31, 2004. The raw materials used by the Registrant are generally available in adequate supply. The Registrant holds a number of patents and trademarks, and has patent applications pending in the United States and various foreign countries. Management believes, however, that 5 the Registrant's business is not materially dependent on any patent or group of patents. The principal trademarks of the Registrant are registered in the United States and various foreign countries. Research and development is carried on by the operating personnel of the Registrant on a continuing basis. The amounts expended for research and development for the fiscal years ended December 31, 2001, 2002, and 2003 were approximately $5,111,000, $4,342,000, and $4,570,000, respectively. The Registrant believes that compliance with federal, state, and local laws and regulations that have been enacted or adopted regulating the discharge of materials into the environment, or otherwise relating to the protection of the environment, will not have a material adverse effect upon the earnings or competitive position of the Registrant. As of December 31, 2003, 1,267 persons were employed by the Registrant, or 101 more than were employed as of December 31, 2002. The Registrant believes that its labor rates are comparable to those of its competitors and that the Registrant's relations with its employees are good. The Registrant does not consider its business to be seasonal in any material respect, nor is any material portion of the Registrant's business subject to the renegotiation of profits or termination of contracts at the election of the Government. (d) Financial Information About Foreign and Domestic Operations and Export Sales. The answer to this Item is incorporated by reference to Note 13 of the Notes to the Consolidated Financial Statements, "Financial Reporting for Business Segments of the Company" on pages 26, 27, and 28 of the Annual Report. Approximately 37% of the Registrant's foreign sales in 2003 were payable in U.S. dollars. Of the remaining foreign sales, sales by certain of the Registrant's wholly owned subsdiaries are denominated as follows: (i) sales in the United Kingdom and Western Europe through Arconix/UK Ltd. and PennEngineering Fastening Technologies (Europe) Ltd. are denominated in pounds sterling, U.S. dollars, and Euros; (ii) sales in the Pacific Rim through Arconix/Singapore Pte Ltd. and Arconix Fastening & Inventory Management Solutions (Shanghai) Co., Ltd. are denominated in Chinese yuan, Singapore dollars, and U.S. dollars; and (iii) sales in Mexico through Arconix/Mexico, S. de R.L. de C.V., are denominated in Mexican pesos and U.S. dollars. (e) Available Information. The Registrant maintains an Internet web site at http://www.penn-eng.com and makes available free of charge on or through the web site its Annual Report on Form 10-K, its quarterly reports on Form 10-Q and its current reports on Form 8-K as soon as reasonably practicable after it electronically files such material with, or furnishes it to, the Securities and Exchange Commission (the "Commission"). The Registrant will comply with the requirements of the New York Stock Exchange to make available on the Registrant's website and in printed form upon request the Registrant's Code of Business Conduct and Ethics, the respective charter of its Audit, Compensation, and Nominating/Corporate Governance Committees. 6 Risk Factors Many of the Registrant's customers are in cyclical industries, and their purchases from the Registrant may decline substantially during periods of economic slowdown. A majority of the Registrant's revenues are derived from customers and OEMs that are in industries and businesses that are cyclical in nature and subject to change in general economic conditions, such as business machines, personal computers, computer peripherals, electronic and communications equipment, and other electronic equipment. Demand for the Registrant's products is affected by the business success of the Registrant's OEM and indirect customers who purchase products from those OEM customers. General economic or industry-specific downturns, particularly such as those in the telecommunication and datacommunications industries, have had, and in the future could have, a material adverse effect on the Registrant and its business, results of operations, and financial condition. The Registrant's foreign operations are subject to numerous risks, including currency fluctuations and other risks that may impact the Registrant's results of operations. Foreign sales accounted for approximately 40% of the Registrant's 2003 consolidated sales. Because approximately 37% of the Registrant's foreign sales and expenses were incurred in U.S. dollars, the Registrant's operations have been and may continue to be affected by fluctuations in currency exchange rates. Furthermore, currency fluctuations may cause reported sales to fluctuate from period to period regardless of the fluctuation in the volume of such sales in foreign currencies. The Registrant purchases forward foreign currency exchange contracts to attempt to insulate the Registrant from the impact of foreign currency exchange rate fluctuations. Foreign sales are subject to numerous other risks, including political and economic instability in foreign markets, restrictive trade policies of foreign governments, economic conditions in local markets, the imposition of product tariffs, and the burdens of complying with a wide variety of international and U.S. export laws. Forward-Looking Statements Forward-looking statements, within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), under the Private Securities Litigation Reform Act of 1995, are made throughout this Form 10-K. The Registrant's results may differ materially from those in the forward-looking statements. Forward-looking statements are based on management's current views and assumptions, and involve risks and uncertainties that significantly affect expected results. For example, operating results may be affected by external factors such as: changes in laws and regulations, changes in accounting standards, fluctuations in demand in markets served by the Registrant, particularly the computer and telecommunications markets, fluctuations in the cost and availability of the supply chain resources, and foreign economic conditions, including currency rate fluctuations. Item 2. Properties. - ------- ----------- The Registrant's principal plants and offices, all of which (other than the Singapore, China, and Mexico offices) are owned by the Registrant, were as follows at December 31, 2003: 7
Location Size of Facility Use of Facility -------- ---------------- --------------- Danboro, Pennsylvania 230,000 sq. ft building on 107 Executive offices and acres manufacture of fasteners Winston-Salem, 120,000 sq. ft. building on 16.3 Manufacture of fasteners North Carolina acres; and 58,280 sq. ft. building on 6 acres Kent, Ohio 75,000 sq. ft. building on 10 Manufacture of fasteners acres Galway, Ireland 55,000 sq. ft. building on Manufacture of fasteners 2 acres Pipersville, Pennsylvania 51,000 sq. ft. building on 10 Manufacture of installation acres presses and tooling Harleysville, Pennsylvania 58,000 sq. ft. building on Manufacture of dc motors 6 acres Offanengo, Italy 129,000 sq. ft. building on 8 Manufacture of dc motors acres Oxnard, California 30,600 sq. ft. building on Office and warehouse for the 2 acres distribution of fasteners and related components Doncaster, England 33,250 sq. ft. building on Office and warehouse for the 5 acres distribution of fasteners and related components
The Registrant also has leased 8,000 sq. ft. of office and warehouse space in Shanghai, China, 9,758 sq. ft. of office and warehouse space in Guadalajara, Mexico, and 7,000 sq. ft. of office and warehouse space in Singapore. The Registrant's 50,000 sq. ft. facility in Suffolk, Virginia is currently vacant and for sale. The Registrant carries fire, casualty, business interruption, and public liability insurance for all of its facilities in amounts which it deems adequate. Item 3. Legal Proceedings. - ------- ------------------ The answer to this Item is incorporated by reference to Note 12 of Notes to Consolidated Financial Statements "Commitments & Contingencies" on page 26 of the Annual Report. Item 4. Submission of Matters to a Vote of Security Holders. - ------- ---------------------------------------------------- None. Executive Officers of the Registrant Certain information about the executive officers of the Registrant is as follows: 8 Name Age Position Held with the Registrant - ---- --- --------------------------------- Kenneth A. Swanstrom 64 Chairman of the Board and Chief Executive Officer Martin Bidart 67 President and Chief Operating Officer Mark W. Simon 65 Senior Vice President, Chief Financial Officer, and Corporate Secretary Richard F. Davies 54 Treasurer and Assistant Secretary William E. Sarnese 50 Corporate Controller and Assistant Secretary Ronald J. Bean 48 Vice President and General Manager - Motion Technologies Alan M. Kay 56 President - Arconix Group Francis P. Wilson 64 President - Fastening Technologies All of the executive officers of the Registrant have been principally employed as officers or employees of the Registrant for more than the past five years. The executive officers of the Registrant are elected each year at the organization meeting of the Board of Directors of the Registrant, which is held following the Annual Meeting of Stockholders (the "Annual Meeting"). PART II Item 5. Market for Registrant's Common Equity, Related Stockholder Matters, - ------- ------------------------------------------------------------------- and Issuer Purchases of Equity Securities. ------------------------------------------ The Registrant's Common Stock (non-voting), par value $0.01, is traded on the New York Stock Exchange under the symbol "PNN." The Registrant's Class A Common Stock (voting), par value $0.01, is traded on the New York Stock Exchange under the symbol "PNNA." As of March 1, 2004, there were 827 holders of record of the Registrant's Common Stock and 324 holders of record of the Registrant's Class A Common Stock. Additional information with respect to this Item 5 is incorporated by reference to page 14 of the Annual Report. Item 6. Selected Financial Data. - ------- ------------------------ The Five-Year Financial Data and other financial information for the Registrant is incorporated by reference to page 13 of the Annual Report. 9 Item 7. Management's Discussion and Analysis of Financial Condition - ------- ----------------------------------------------------------- and Results of Operations. -------------------------- The answer to this Item is incorporated by reference to pages 9 through 13 of the Annual Report. Item 7A. Quantitative and Qualitative Disclosures About Market Risk. - -------- ----------------------------------------------------------- The answer to this Item is incorporated by reference to pages 12 through 13 of the Annual Report. Item 8. Financial Statements and Supplementary Data. - ------- -------------------------------------------- The answer to this Item is incorporated by reference to pages 15 through 28 of the Annual Report. Item 9. Changes in and Disagreements with Accountants on Accounting and - ------- --------------------------------------------------------------- Financial Disclosure. --------------------- None. Item 9A. Controls and Procedures. - -------- ------------------------ Disclosure Controls and Procedures The Registrant's management, with the participation of its Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Registrant's disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this report. Based on such evaluation, the Registrant's Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Registrant's disclosure controls and procedures are effective in recording, processing, summarizing, and reporting, on a timely basis, information required to be disclosed by the Registrant in the reports that the Registrant files or submits under the Exchange Act. Internal Control over Financial Reporting There have not been any changes in the Registrant's internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fourth quarter of 2003 that have materially affected, or are reasonably likely to materially affect, the Registrant's internal control over financial reporting. PART III Item 10. Directors and Executive Officers of the Registrant. - -------- --------------------------------------------------- The response to this Item with respect to the Registrant's directors is incorporated by reference to the proxy statement to be filed with the Commission relating to the Registrant's 2004 Annual Meeting to be held April 29, 2004 (the "Proxy Statement") under the caption "Election of Directors." Information with respect to executive officers of the Registrant is included in Part I of this Form 10-K Annual Report. 10 Item 11. Executive Compensation. - -------- ----------------------- The response to this Item is incorporated by reference to the Proxy Statement under the caption "Executive Compensation," other than the "Report of the Compensation Committee of the Board of Directors" and the "Performance Graph," which are not incorporated by reference into this Form 10-K Annual Report. Item 12. Security Ownership of Certain Beneficial Owners and - -------- --------------------------------------------------- Management and Related Stockholder Matters. ------------------------------------------- The response to this Item is incorporated by reference to the Proxy Statement under the caption "Beneficial Ownership of Common Stock and Class A Common Stock." The following table sets forth information regarding equity compensation plans of the Registrant as of December 31, 2003. Only shares of the Registrant's common stock (non-voting) may be issued under the Registrant's equity compensation plans. The Registrant does not have any equity compensation plans that have not been approved by the stockholders of the Registrant. Equity Compensation Plan Information
Number of securities remaining available for future issuance under Number of securities to be Weighted-average equity compensation plans issued upon exercise of exercise price of (excluding securities outstanding options, outstanding options, reflected Plan category warrants and rights warrants and rights in column (a)) - ------------- ------------------- ------------------- -------------- (a) (b) (c) Equity compensation plans 2,329,864 $14.50 536,443 approved by security holders Equity compensation plans not approved by security holders -- -- -- --------- ------ ------- Total 2,329,864 $14.50 536,443 ========= ====== =======
Item 13. Certain Relationships and Related Transactions. - -------- ----------------------------------------------- None. Item 14. Principal Accountant Fees and Services. - -------- --------------------------------------- The response to this Item is incorporated by reference to the Proxy Statement under the caption "Independent Auditors." 11 PART IV Item 15. Exhibits, Financial Statements and Schedules, and Reports on Form 8-K. - -------- ---------------------------------------------------------------------- (a) Financial Statements, Financial Schedules and Exhibits Filed. 1. Consolidated Financial Statements.The following Consolidated Financial Statements of the Registrant and its subsidiaries are filed as part of this Form 10-K Report: Page ---- Consolidated Balance Sheets at December 31, 2003 and 2002 15* Statements of Consolidated Income for the years ended December 31, 2003, 16* 2002, and 2001. Statements of Changes in Consolidated Stockholders' Equity for the years ended December 31, 2003, 2002, and 2001. 17* Statements of Consolidated Cash Flows for the years ended 18* December 31, 2003, 2002, and 2001. Notes to Consolidated Financial Statements. 19-28* Report of Independent Auditors. 28* - ------------------- * Refers to the respective pages of the Annual Report. With the exception of the portions of such Annual Report specifically incorporated by reference in this Item, and in Items 1, 3, 5, 6, 7, 7A, 8, and 15 hereof, such Annual Report shall not be deemed filed as a part of this Form 10-K Report or otherwise deemed subject to the liabilities of Section 18 of the Exchange Act. 2. Financial Schedules. None. 3. Exhibits. Reference is made to the Exhibit Index on pages 14-15 of this Form 10-K. (b) Reports on Form 8-K. The Registrant filed a Form 8-K Current Report with the Commission on October 29, 2003 furnishing information under Item 12 regarding its press release announcing earnings for the quarter ended September 30, 2003. 12 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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. PENN ENGINEERING & MANUFACTURING CORP. Date: March 15, 2004 By: /s/ Kenneth A. Swanstrom -------------------------------- Kenneth A. Swanstrom, Chairman and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE --------- ----- ---- /s/ Kenneth A. Swanstrom Chairman of the Board, March 15, 2004 - ------------------------ Chief Executive Officer, and Kenneth A. Swanstrom Director (Principal Executive Officer) /s/ Martin Bidart President, Chief Operating Officer, March 15, 2004 - ------------------------ and Director (Principal Operating Martin Bidart Officer) /s/ Mark W. Simon Senior Vice President, Chief March 15, 2004 - ------------------------ Financial Officer, Corporate Mark W. Simon Secretary, and Director (Principal Financial and Accounting Officer) /s/ Maurice D. Oaks Director March 15, 2004 - ------------------------ Maurice D. Oaks /s/ John J. Sickler Director March 15, 2004 - ------------------------ John J. Sickler /s/ Charles R. Smith Director March 15, 2004 - ------------------------ Charles R. Smith /s/ Daryl L. Swanstrom Director March 15, 2004 - ------------------------ Daryl L. Swanstrom /s/ Andrew B. Williams Director March 15, 2004 - ------------------------ Andrew B. Williams
13 EXHIBIT INDEX ------------- Item Description - ---- ----------- (3)(i) Restated Certificate of Incorporation of the Registrant. (Incorporated by reference to Exhibit 3.1 of the Registrant's Form 10-Q Quarterly Report for the quarter ended March 31, 2001.) (3)(ii) By-laws of the Registrant, as amended. (Incorporated by reference to Exhibit 3(ii) of the Registrant's Form 10-K Annual Report for the year ended December 31, 2001.) (10)(i) Right of First Refusal dated as of September 5, 1986 between the Registrant and Lawrence W. Swanstrom and Daryl L. Swanstrom. (Incorporated by reference to Exhibit A to the Registrant's Form 8-K Current Report dated September 5, 1986.) (10)(ii) 1996 Equity Incentive Plan. (Incorporated by reference to the Registrant's Form S-8 Registration Statement No. 333-20101 filed on January 21, 1997.) (10)(iii) 1996 Employee Stock Purchase Plan. (Incorporated by reference to the Registrant's Form S-8 Registration Statement No. 333-13073 filed on September 30, 1996.) (10)(iv) 1998 Stock Option Plan for Non-Employee Directors. (Incorporated by reference to the Registrant's Form S-8 Registration Statement No. 333-92907 filed on December 16, 1999.) (10)(v) 1999 Employee Stock Option Plan. (Incorporated by reference to the Registrant's Form S-8 Registration Statement No. 333-92903 filed on December 16, 1999.) (13) 2003 Annual Report to Stockholders. (Only those pages expressly incorporated by reference in Items 1, 3, 5, 6, 7, 7A, 8, and 15 of this Form 10-K report.) (14) Code of Ethics. (21) Subsidiaries of the Registrant. (23) Consent of Independent Auditors. (31.1) Rule 13a-14(a)/15(d)-14(a) Certification of Chief Executive Officer (31.2) Rule 13a-14(a)/15(d)-14(a) Certification of Chief Financial Officer (32.1) Section 1350 Certification of Chief Executive Officer (32.2) Section 1350 Certification of Chief Financial Officer EX-13 3 annual2003ex13.txt ANNUAL REPORT 2003 MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION Management's discussion and analysis of results of operations and financial condition provides an account of the Company's financial performance and financial condition that should be read in conjunction with the accompanying consolidated financial statements. It includes the following sections: o Consolidated Results o Business Segment Results o Liquidity and Capital Resources o Accounting Policies and Estimates o Quantitative and Qualitative Disclosures About Market Risk o Forward-Looking Statements CONSOLIDATED RESULTS OVERVIEW The following tables set forth for the periods indicated certain information derived from the Company's consolidated statements of income expressed in dollars and as a percentage of total net sales.
Years Ended December 31, (Dollars in thousands) 2003 2002 2001 - -------------------------------------------------------------------------------------------- NET SALES Fasteners $ 96,030 50.3% $ 77,581 51.5% $113,238 60.2% Distribution 51,871 27.2 41,644 27.6 40,902 21.7 Motors 42,846 22.5 31,576 20.9 34,038 18.1 - -------------------------------------------------------------------------------------------- Total $190,747 100.0% $150,801 100.0% $188,178 100.0% ============================================================================================ United States $113,908 59.7% $101,268 67.2% $131,676 70.0% Foreign 76,839 40.3 49,533 32.8 56,502 30.0 - -------------------------------------------------------------------------------------------- Total $190,747 100.0% $150,801 100.0% $188,178 100.0% ============================================================================================ TOTAL COMPANY Gross Profit $ 54,455 28.5% $ 46,582 30.9% $ 58,758 31.2% Selling, general and administrative expenses 47,989 25.2 42,188 28.0 45,476 24.2 Operating income 6,466 3.4 4,394 2.9 13,282 7.1 Net income 4,883 2.6 3,987 2.6 9,280 4.9
2003 VS. 2002 Consolidated net sales increased 26.5% from 2002 to 2003. Business conditions improved in 2003 for all Company business segments and in all regions. In the United States, economic trends were positive and that region continued to be our largest revenue producer. Sales volume increased in all business segments while average selling prices increased slightly as a result of the weaker dollar. Our most recent acquisition, M.A.E. S.p.A (MAE), which was acquired on February 5, 2003, contributed $9.7 million of revenue in 2003 and helped to increase our percentage of foreign sales to 40% of consolidated net sales. Consolidated gross profit increased 16.9% from 2002 to 2003. As a percentage of sales, however, consolidated gross margins decreased from 30.9% in 2002 to 28.5% in 2003. All business segments experienced increases in wages and employee benefit costs that contributed to the decline in gross margin percentage. The cost for employee medical insurance increased 17.8% from 2002 to 2003, while the cost for the Company's contribution to employee retirement plans increased 26.4%. Consolidated selling, general, and administrative (SG&A) expenses for 2003 increased 13.8% from 2002 to 2003; however, as a percent of sales, SG&A decreased from 28.0% in 2002 to 25.2% in 2003. In addition to the increased cost for wages and benefits as mentioned above, software and hardware rental and maintenance costs increased 15.0% and insurance costs increased 23.1% from 2002 to 2003. Because of our continued strong cash position during 2003, approximately $17.8 million of debt was repaid which resulted in a decrease in interest expense from $845,000 in 2002 to $782,000 in 2003. In addition, the weaker dollar resulted in increased currency gains of approximately 37% from 2002 to 2003. The Company's effective tax rate, which was unusually low in 2002 due to an increased tax benefit from foreign-source income, increased to 24%, resulting in an increase in the provision for income taxes from $326,000 in 2002 to $1.5 million in 2003. 2003 Annual Report 9 2002 VS. 2001 Consolidated net sales decreased 19.9% from 2001 to 2002. The major markets served by the Company in all business segments experienced a steep decline during the second half of 2001 and showed only modest signs of recovery during 2002. In addition, we initiated a program to reduce world-wide fastener inventory levels to better balance current demand. As a result, sales volume decreased while average selling prices remained stable in light of current economic conditions. Consolidated gross profit decreased 20.7% from 2001 to 2002. Due to the decreasing sales volume, we continued cost reduction programs that were started in late 2001, which included a workforce reduction of approximately 13.2% during 2002. Gross profit margins were also negatively impacted by the inventory reduction program which resulted in under used capacity as production was curtailed. Consolidated SG&A expenses decreased 7.2% from 2001 to 2002. Included in the SG&A expense for 2001 was approximately $1.2 million of severance costs incurred in connection with the closing of our Virginia manufacturing facility in December 2001 as well as $1.4 million of goodwill amortization. We incurred approximately $428,000 of costs to establish our new distribution centers in Mexico and China in 2002. Also, we continued to install our distribution software system at our Arconix sites around the world, resulting in greater depreciation expense in 2002. Consolidated net income for 2002 was $4.0 million, versus $9.3 million for 2001. In 2002, we benefited from favorable foreign currency exchange rates that resulted in income of approximately $411,000. The effective income tax rate decreased in 2002 compared to 2001 mainly due to an increased tax benefit from our foreign-source income. BUSINESS SEGMENT RESULTS OVERVIEW The Company operates in three reportable business segments. Our Fastener Technologies segment, which accounted for 50.3% of consolidated net sales in 2003, includes the operations of PEM Fastening Systems, PennEngineering Technologies, (Europe) Ltd., and Atlas Engineering, Inc. This segment manufactures and sells PEM(R) brand and Atlas(R) brand fasteners, and PEMSERTER(R) fastener insertion machines. Our Motion Technologies segment, which accounted for 22.5% of consolidated net sales in 2003, consists of the Pittman operation which manufactures and sells Pittman(R) brush and brushless dc motors, and the MAE operation in Offenango, Italy, which manufactures and sells brush, brushless, and stepper dc motors. Our Distribution segment, which accounted for 27.2% of consolidated net sales in 2003, consists of the Arconix Group which sells a portion of our own manufactured products as well as complementary products from other manufacturers. In total, the sale of fasteners and fastener-related products, including Arconix Group products, accounted for 77.5% of total product sales in 2003 compared to 79.1% in 2002 and 81.9% in 2001. Of the total 2003 fastener sales, telecommunications and datacommunications markets accounted for 28%, computer markets accounted for 20%, automotive markets accounted for 9%, and the remaining balance was distributed among other markets including medical, security, networking, and gaming. Motors are marketed in North America and Europe primarily through independent distributors and sales representatives. Of the total 2003 motor sales, data storage markets accounted for 24%, medical/biotech markets accounted for 15%, computer imaging markets accounted for 7%, semiconductor markets accounted for 7%, and the balance was distributed among other markets including industrial automation, transportation, hobbyist, and other commercial and industrial products. FASTENING TECHNOLOGIES 2003 VS. 2002 Within the Fastening Technologies segment, sales volume to outside customers increased 21.6% from 2002 to 2003 while the average selling price increased approximately 4.3%. As the business climate improved in all markets served by the Company, distributors gradually replenished inventory levels. The Company's average selling price increased mainly as a result of the weaker dollar. Gross profit increased 26.1% in 2003 compared to 2002. The segment was able to maintain its gross profit margins in spite of increasing wage and benefit costs through productivity improvements as well as increased plant and machinery utilization. In addition, the segment was able to satisfy the increasing global demand for its products in Europe and Asia as well as lower costs by utilizing its Ireland production facility as well as outsourcing some manufacturing to sources within Asia. 2002 VS. 2001 Net sales to outside customers decreased 31.5% from 2001 to 2002. This segment was adversely affected as distributors throughout the United States and Europe curtailed purchases as they reduced their inventories from unusually high levels. Gross profits decreased 35.3% in 2002 compared to 2001 as the decline in sales led to under used capacity as production was curtailed. MOTION TECHNOLOGIES 2003 VS. 2002 The Motion Technologies segment's net sales to outside customers increased 35.7%. Sales from this segment's most recent acquisition (MAE) amounted to $9.7 million or approximately 85.8% of the total sales increase. The number of motors sold from the Pittman operation increased 6.4% from 2002 to 2003 while the average selling price remained the same. This segment's gross profit increased 16.7% from 2002 to 2003. The segment was unable to realize the full effect of planned savings from outsourcing certain sub-assemblies that would have offset the wage and benefit increases. As a result, gross margins declined from 28.3% of sales in 2002 to 24.1% of sales in 2003. 2002 VS. 2001 Net sales to outside customers decreased 7.2% from 2001 to 2002. The number of motors sold decreased 11.3% in 2002 compared to 2001 while the average selling price increased 4.6% during the same period. The largest sales declines occurred in data storage and semiconducter markets, which were most affected by the 2001 recession. The gross profit margin remained the same from year to year as this segment was able to reduce costs by outsourcing certain sub-assemblies. 10 Penn Engineering DISTRIBUTION 2003 VS. 2002 Within the Distribution segment, net sales to outside customers increased 24.6% from 2002 to 2003. By geographic region, sales in North America (approximately 46.0% of total segment sales in 2003) increased 6.6% from 2002 to 2003, sales in Europe (approximately 18.3% of total segment sales in 2003) increased 13.4% from 2002 to 2003, while sales in the Asia-Pacific region (approximately 35.7% of total segment sales in 2003) increased 69.9% from 2002 to 2003. This segment benefited from increased ordering activity in both the computer market in Asia and the automotive market in Europe. Gross profit increased 10.7% in 2003 compared to 2002. The gross profit margin as a percent of sales however decreased from 28.2% in 2002 to 25.1% in 2003 as increased freight and duty costs as well as inventory reserve adjustments negatively impacted gross profit. SG&A expenses increased 8.9% from 2002 to 2003 due to increased wages and benefits as well as increased costs to bring the Shanghai, China distribution facility into full operation including implementation of our distribution software system in both Singapore and China. 2002 VS. 2001 Sales to outside customers increased 1.8% from 2001 to 2002. This increase was due to a 42.3% increase in sales in the Asia-Pacific region while sales in North America declined 8.6% and sales in Europe declined 4.5%. We opened a new distribution warehouse in Shanghai, China in 2002 to serve the market growth in the Asia-Pacific region more effectively. Gross profit decreased 9.9% from 2001 to 2002. This decrease was due to the shift in sales to the Asia-Pacific region where margins are lower due to greater freight and duty costs. This segment incurred approximately $428,000 of costs to establish our new distribution centers in Mexico and China in 2002. Also, we continued to install our distribution software system at our Arconix sites around the world, resulting in greater depreciation expense in 2002. LIQUIDITY AND CAPITAL RESOURCES Cash and cash equivalents at December 31, 2003 were $8.4 million compared to $20.9 million at December 31, 2002. Working capital totaled $69.5 million at December 31, 2003 compared to $76.0 million at December 31, 2002. Net cash of $21.2 million was provided by operating activities for the year ended December 31, 2003 compared to $24.1 million provided by operating activities for the year ended December 31, 2002. The Company continues to generate cash from further reductions in overall inventory levels. However, as sales volume increases, the level of accounts receivable also has increased, particularly in the Asia-Pacific region where payment terms are generally longer than domestic payment terms. There has been a strong focus on improved accounts receivable collections and on managing world wide inventory levels during 2003. This focus will continue into 2004. Net cash used in investing activities totaled $14.0 million for the year ended December 31, 2003 compared to $2.2 million for the year ended December 31, 2002 due mainly to the acquisition of MAE in February 2003 for $10.7 million. The Company spent $3.4 million for capital additions in 2003 of which approximately half was for machinery upgrades and additions at the Company's manufacturing facility in Ireland. The Company will continue to exercise caution with its capital expenditures during the coming year until signs of a solid economic recovery are realized. Net cash used in financing activities totaled $20.1 million for the year ended December 31, 2003 compared to $9.3 million for the year ended December 31, 2002. Because of the decreased capital expenditures, the Company repaid short-term debt in both years. Despite the economic downturn and its impact on our earnings, our strong cash and working capital position have allowed for the continued payment of cash dividends of $4.2 million for the year ended December 31, 2003. The Company's main contractual obligations are the repayment of its short-term debt and the payment of operating lease commitments covering certain automobiles, office space, and office equipment. The following table represents the significant contractual cash obligations of the Company as of December 31, 2003.
Contractual Due in Due in Due in Due in Due in Cash Obligations Total 2004 2005 2006 2007 2008 Thereafter - ------------------------------------------------------------------------------------------------ (Dollars in thousands) Debt $ 12,215 $ 9,042 $ 577 $ 577 $ 577 $ 577 $ 865 Operating leases 2,603 1,126 797 407 240 31 2 - ------------------------------------------------------------------------------------------- Total contractual cash obligations $ 14,818 $ 10,168 $ 1,374 $ 984 $ 817 $ 608 $ 867 ============================================================================================
We anticipate that existing capital resources and cash flow generated from future operations as well as existing short-term lines of credit will enable us to fully fund our current level of operations and our planned growth for the foreseeable future. ACCOUNTING POLICIES AND ESTIMATES The Company has identified a number of its accounting polices that it has determined to be critical. These critical accounting policies primarily relate to financial statement assertions that are based on the estimates and assumptions of management and the effect of changing those estimates and assumptions could have a material effect on our financial statements. The following is a summary of those critical accounting policies. INVENTORIES The Company's domestic fastener inventories are priced on the last-in, first-out (LIFO) method of accounting. Other inventories, representing approximately 79% and 69% of total inventories at December 31, 2003 and 2002, respectively, are priced on the first-in, first-out (FIFO) method. Reserves are recorded for obsolete, excess, and slow-moving inventories based on management's estimates about future demand and market conditions. At December 31, 2003, our inventory balance of $48,512,000 was net of a reserve for obsolete, excess, and slow-moving inventories of approximately $3,512,000. At December 31, 2002, our inventory balance of $56,458,000 was net of a reserve for obsolete, excess, and slow-moving inventory of approximately $2,423,000. If the estimated reserves for obsolete, excess, and slow-moving inventories are not sufficient based on actual future demand, additions to the reserves may be required. 2003 Annual Report 11 ACCOUNTS RECEIVABLE The Company maintains an allowance for doubtful accounts for trade receivables for which collectibility is uncertain. At December 31, 2003 and 2002, this allowance was approximately $886,000 and $830,000, respectively. In estimating uncollectible accounts, we consider factors such as current overall economic conditions, industry-specific economic conditions, and historical and anticipated customer performance. While we believe that our processes effectively address exposure for doubtful accounts, changes in the economy, industry, or specific customer conditions may require adjustments to the allowance. GOODWILL As discussed in Note 4 to our Consolidated Financial Statements, the Company adopted Statement of Financial Accounting Standards No. 142 ("SFAS No. 142") "Goodwill and Other Intangible Assets" on January 1, 2002. SFAS No. 142 requires that goodwill no longer be amortized, and instead, be tested for impairment on a periodic basis. At December 31, 2003, we had $41,844,000 in goodwill. The process of evaluating the potential impairment of goodwill is highly subjective and requires significant judgments at many points during the analysis. In estimating the fair value of the reporting units with recognized goodwill for the purposes of our fiscal 2003 financial statements, we made estimates and judgments about the future cash flows of these reporting units. Our cash flow forecasts were based on assumptions that are consistent with the plans and estimates we are using to manage the underlying businesses. In addition, we made certain judgments about allocating shared assets to the balance sheet for those reporting units. Based on our estimates, we have concluded that there is no impairment of our goodwill. However, changes in these estimates could cause one or more of the reporting units to be valued differently in the future. PENSIONS The Company accounts for its defined benefit pension plan in accordance with FASB No. 132, "Employers' Disclosures About Pensions and Other Postretirement Benefits," which requires that amounts recognized in the financial statements be determined on an actuarial basis. The most significant elements in determining our pension expense are pension liability discount rates and the expected return on plan assets. The pension discount rate reflects the current interest rate at which pension liabilities could be settled at the end of the year. At the end of each year, we determine the discount rate to be used to discount plan liabilities. In estimating this rate, we look to rates of return on high-quality, fixed-income investments. At December 31, 2003, we determined this rate to be 6.25%. Historically we have assumed that the expected long-term rate of return on plan assets will be 8.00%, and this expected rate of return has been used for many years. Because in the last two years pension plan assets have earned substantially less than 8.00%, we reduced the expected long-term rate of return to 7.00% in 2003. Should the downward trend in return on pension assets continue, future pension expense would likely increase. The net effect of changes in the discount rate, as well as the effect of differences between the expected return and the actual return on plan assets have been deferred in accordance with FASB No. 132 and will ultimately affect future pension expense. DERIVATIVE INSTRUMENTS AND HEDGING The Company manages risks associated with foreign exchange rates and interest rates with derivative instruments. The Company does not use derivative instruments for trading or speculative purposes and only uses derivatives when there is an underlying exposure. The evaluation of hedge effectiveness is subject to assumptions based on the terms and the timing of the underlying exposures. All derivative instruments are recognized in the Consolidated Balance Sheet at fair value, which is generally based on quoted market prices. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company's earnings and cash flow are subject to fluctuations due to changes in foreign currency exchange rates and interest rates. The Company has manufacturing and sales activities in foreign locations. The Company currently manufactures its products in the United States, Ireland, and Italy and sells those products in those markets as well as throughout Europe, North America, and the Asia-Pacific region. As a result, the Company's financial results could be significantly affected by factors such as changes in foreign currency exchange rates or weak economic conditions in the foreign markets in which the Company distributes its products. The Company's operating results are primarily exposed to changes in exchange rates between the U.S. dollar and the Euro, British pound sterling, and Singapore dollar. Generally, when the U.S. dollar strengthens against these foreign currencies, the value of nonfunctional currency sales decreases. When the U.S. dollar weakens, the value of functional currency sales increases. To mitigate a portion of the short-term effect of changes in the exchange rate between the U.S. dollar and the Euro and British pound sterling on the Company's sales, the Company regularly hedges forecasted sales by entering into foreign exchange contracts. The Company's risk management objective is to reduce its exposure to the effect of changes in exchange rates on sales revenue over quarterly time horizons. To a certain extent, foreign currency rate movements also affect the Company's competitive position compared to non-U.S. based competitors. The Company's foreign currency risk policies entail entering into foreign currency derivative instruments only to manage risk, and not as speculative investments. Annually, the Company's financial officers approve the outlook for expected currency exchange rate movements, as well as the policy on desired future foreign currency cash flow positions (i.e., long, short, balanced) for those currencies where there is significant activity. These officers receive reports on open foreign currency hedges on a regular basis. Expected future cash flow positions and strategies are continuously monitored. Foreign exchange practices, including the use of derivative financial instruments, are reviewed with the Audit Committee of the Company's Board of Directors at least annually. 12 Penn Engineering At December 31, 2003, the Company has foreign exchange contracts to deliver 12,000,000 Euros for U.S. dollars at various dates during 2004. As a result of the weakening of the U.S dollar against these currencies since the date the contracts were entered into in 2003, the fair value of these contracts is $(2,288,000) at December 31, 2003. Such amount is included in accrued expenses and accumulated other comprehensive income (loss) in the December 31, 2003 Consolidated Balance Sheet. The ultimate gain or loss on the contracts will be recognized in 2004 earnings when the forecasted sales occur or when it becomes probable that the forecasted sales will not occur. Considering both the forecasted 2004 cash flows from sales denominated in a foreign currency and the foreign currency derivative instruments in place at December 31, 2003, a hypothetical 10% weakening of the U.S. dollar relative to all other currencies would not materially adversely affect expected 2004 earnings or cash flows. This analysis is dependent on actual non-functional currency sales during 2004 occurring within at-least 90% of the budgeted forecasts. The effect of the hypothetical change in exchange rates ignores the effect that this movement may have on other variables including competitive risk. If it were possible to quantify this competitive impact, the results could well be different from the sensitivity effect mentioned above. In addition,it is unlikely that all currencies would uniformly strengthen or weaken relative to the U.S. dollar. In reality, some currencies may weaken while others strengthen. The fair values of the Company's bank loans are not significantly affected by changes in market interest rates. The change in fair value of the Company's long-term debt resulting from a hypothetical 10% change in interest rates is not material. FORWARD-LOOKING STATEMENTS Forward-looking statements, within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 under the Private Securities Litigation Reform Act of 1995, are made throughout this Management's Discussion and Analysis. The Company's results may differ materially from those in the forward-looking statements. Forward-looking statements are based on management's current views and assumptions, and involve risks and uncertainties that significantly affect expected results. For example, operating results may be affected by external factors such as: changes in laws and regulations, changes in accounting standards, fluctuations in demand in markets served by the Company, particularly the computer and telecommunications markets, fluctuations in the cost and availability of the supply chain resources, and foreign economic conditions, including currency rate fluctuations. SELECTED FINANCIAL DATA
Years Ended December 31, 2003 2002 2001 2000 1999 - -------------------------------------------------------------------------------------------- (Dollars in thousands except per share amounts) Net sales $190,747 $150,801 $188,178 $264,563 $198,074 Cost of products sold 136,292 104,219 129,420 171,100 135,521 Provision for income taxes 1,542 326 3,063 13,175 8,610 Net income 4,883 3,987 9,280 27,464 17,090 Capital expenditures 3,386 2,816 13,083 13,174 11,453 Depreciation and amortization 10,587 10,931 11,710 10,518 8,901 Total assets 236,124 224,979 228,826 209,996 201,544 Long-term debt 3,173 -- 12,000 -- 15,000 Stockholders' equity 191,600 183,217 180,426 176,288 152,880 Working capital $ 69,508 $ 76,022 $ 80,545 $ 78,536 $ 74,490 Number of employees (at year end) 1,267 1,166 1,344 1,657 1,489 Number of stockholders of record (at year end): PNN 575 591 510 487 525 PNNA 329 347 355 373 407 Average number of common shares outstanding used to compute per share information (in thousands)(1): Basic 17,439 17,375 17,268 17,152 17,276 Diluted 17,657 17,605 17,647 17,424 17,307 PER SHARE INFORMATION(1): Net income-- basic $ .28 $ .23 $ .54 $ 1.60 $ .99 Net income-- diluted .28 .23 .53 1.58 .99 Stockholders' equity 10.93 10.54 10.45 10.28 8.85 Dividends declared .24 .28 .32 .26 .24
(1) Share and per share information is adjusted to reflect a two-for-one stock split on May 1, 2001. 2003 Annual Report 13 SELECTED QUARTERLY FINANCIAL DATA
2003 QUARTERS ENDED MAR. 31 JUNE 30 SEPT. 30 DEC. 31 TOTAL YEAR - ------------------------------------------------------------------------------------------------ (Unaudited, dollars in thousands except per share amounts) Net sales $ 44,814 $ 47,439 $ 46,321 $ 52,173 $ 190,747 Gross profit 12,574 12,999 13,593 15,289 54,455 Net income 540 1,320 1,477 1,546 4,883 Net income per share-basic .03 .08 .08 .09 .28 Net income per share-diluted .03 .08 .08 .09 .28 Dividends declared per share .06 .06 .06 .06 .24 =============================================================================================== Market prices per share: Common Stock (PNN) High 11.77 15.35 17.16 19.25 19.25 Low 10.25 11.95 12.80 15.43 10.25 Class A Common Stock (PNNA) High 11.31 13.61 15.50 17.25 17.25 Low 10.85 10.80 11.50 13.80 10.80 2002 Quarters Ended Mar. 31 June 30 Sept. 30 Dec. 31 Total Year - ------------------------------------------------------------------------------------------------- (Unaudited, dollars in thousands except per share amounts) Net sales $ 35,331 $ 38,004 $ 38,112 $ 39,354 $ 150,801 Gross profit 11,308 11,374 12,117 11,783 46,582 Net income 371 988 1,000 1,628 3,987 Net income per share-basic .02 .06 .06 .09 .23 Net income per share-diluted .02 .06 .06 .09 .23 Dividends declared per share .08 .08 .06 .06 .28 =============================================================================================== Market prices per share: Common Stock (PNN) High 20.45 20.10 16.91 15.22 20.45 Low 14.73 14.95 8.68 10.00 8.68 Class A Common Stock (PNNA) High 19.20 18.90 16.25 13.30 19.20 Low 15.00 15.80 11.00 9.98 9.98
The Common Stock and Class A Common Stock of Penn Engineering & Manufacturing Corp. are traded on the New York Stock Exchange. Symbols: PNN and PNNA. 14 Penn Engineering CONSOLIDATED BALANCE SHEETS December 31, 2003 2002 - ----------------------------------------------------------------------------- (Dollars in thousands) ASSETS Current Assets: Cash and cash equivalents $ 8,361 $ 20,927 Short-term investments 228 233 Accounts receivable (less allowance for doubtful accounts--2003, $886; 2002, $830) 37,629 25,373 Inventories 48,512 56,458 Refundable income taxes 2,129 1,939 Other current assets 1,881 1,641 - ----------------------------------------------------------------------------- Total current assets 98,740 106,571 - ----------------------------------------------------------------------------- Property - at Cost: Land and improvements 9,112 8,687 Buildings and improvements 48,856 43,887 Machinery and equipment 132,908 122,297 - ----------------------------------------------------------------------------- Total 190,876 174,871 Less accumulated depreciation 99,774 88,202 - ----------------------------------------------------------------------------- Total property - net 91,102 86,669 - ----------------------------------------------------------------------------- Goodwill, net 41,844 27,047 - ----------------------------------------------------------------------------- Other Assets 4,438 4,692 - ----------------------------------------------------------------------------- Total Assets $ 236,124 $ 224,979 - ----------------------------------------------------------------------------- LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities: Accounts payable $ 6,865 $ 3,817 Bank debt 9,042 20,000 Dividends payable 1,052 1,042 Accrued Expenses: Profit sharing 2,104 -- Payroll and commissions 3,040 3,087 Other 7,129 2,603 - ----------------------------------------------------------------------------- Total current liabilities 29,232 30,549 - ----------------------------------------------------------------------------- Accrued Pension Cost 1,192 3,778 - ----------------------------------------------------------------------------- Deferred Income Taxes 10,927 7,435 - ----------------------------------------------------------------------------- Long-Term Bank Debt 3,173 -- - ----------------------------------------------------------------------------- Stockholders' Equity: Common Stock- authorized 50,000,000 shares of $.01 par value each; Issued 14,942,645 shares in 2003 and 14,784,482 shares in 2002 150 148 Class A Common Stock-- authorized 10,000,000 shares of $.01 par value each; Issued 3,544,050 shares in 2003 and 2002 35 35 Additional paid-in capital 42,573 40,682 Retained earnings 148,906 148,211 Accumulated other comprehensive income 6,022 227 - ----------------------------------------------------------------------------- Total 197,686 189,303 - ----------------------------------------------------------------------------- Less cost of treasury stock-956,368 shares in 2003 and 2002 (6,086) (6,086) - ----------------------------------------------------------------------------- Total stockholders' equity 191,600 183,217 - ----------------------------------------------------------------------------- Total Liabilities and Stockholders' Equity $ 236,124 $ 224,979 ============================================================================= See the accompanying notes to consolidated financial statements. 2003 Annual Report 15 Statements of Consolidated Income
Years ended December 31, 2003 2002 2001 - ------------------------------------------------------------------------------------------- (Dollars in thousands except share and per share amounts) Net sales $ 190,747 $ 150,801 $ 188,178 Cost of products sold 136,292 104,219 129,420 - ------------------------------------------------------------------------------------------- Gross profit 54,455 46,582 58,758 Selling expenses 22,146 19,621 20,799 General and administrative expenses 25,843 22,567 24,677 - ------------------------------------------------------------------------------------------- Operating income 6,466 4,394 13,282 - ------------------------------------------------------------------------------------------- Other (expense) income: Interest income 128 322 295 Interest expense (782) (845) (985) Other, net 613 442 (249) - ------------------------------------------------------------------------------------------- Total other (expense) income (41) (81) (939) - ------------------------------------------------------------------------------------------- Income before income taxes 6,425 4,313 12,343 Provision for income taxes 1,542 326 3,063 - ------------------------------------------------------------------------------------------- Net income $ 4,883 $ 3,987 $ 9,280 =========================================================================================== Net income per share basic $ .28 $ .23 $ .54 Weighted average shares outstanding 17,439,010 17,375,497 17,268,300 - ------------------------------------------------------------------------------------------- Net income per share diluted $ .28 $ .23 $ .53 Weighted average shares outstanding 17,439,010 17,375,497 17,268,300 Net effect of dilutive securities 217,570 229,764 379,116 - ------------------------------------------------------------------------------------------- Total shares outstanding used in computing diluted earnings per share 17,656,580 17,605,261 17,647,416 ===========================================================================================
See the accompanying notes to consolidated financial statements. 16 Penn Engineering STATEMENTS OF CHANGES IN CONSOLIDATED STOCKHOLDERS' EQUITY
ACCUMULATED CLASS A ADDITIONAL OTHER TOTAL COMMON COMMON PAID-IN TREASURY RETAINED COMPREHENSIVE STOCKHOLDERS' STOCK STOCK CAPITAL STOCK EARNINGS INCOME (LOSS) EQUITY - -------------------------------------------------------------------------------------------------------------- (Dollars in thousands, except per share amounts) BALANCE AT DECEMBER 31, 2000 $146 $35 $37,646 $(5,436) $145,339 $(1,442) $176,288 Net income for 2001 9,280 9,280 Increase in unrealized investment loss reserve (2) (2) Foreign currency translation adjustment (1,390) (1,390) - --------------------------------------------------------------------------------------------------------- Comprehensive income--total 7,888 - --------------------------------------------------------------------------------------------------------- Dividends declared--$.32 per share (5,529) (5,529) Stock issued under employee stock purchase plan and stock option plan 1 1,778 1,779 - --------------------------------------------------------------------------------------------------------- BALANCE AT DECEMBER 31, 2001 147 35 39,424 (5,436) 149,090 (2,834) 180,426 Net income for 2002 3,987 3,987 Decrease in unrealized investment loss reserve 84 84 Foreign currency translation adjustment 3,603 3,603 Unrealized loss on derivative instruments, net (626) (626) - --------------------------------------------------------------------------------------------------------- Comprehensive income--total 7,048 - --------------------------------------------------------------------------------------------------------- Dividends declared--$.28 per share (4,866) (4,866) Stock issued under employee stock purchase plan and stock option plan 1 1,258 1,259 Purchase of treasury stock (650) (650) - --------------------------------------------------------------------------------------------------------- BALANCE AT DECEMBER 31, 2002 148 35 40,682 (6,086) 148,211 227 183,217 Net income for 2003 4,883 4,883 Increase in unrealized investment loss reserve (3) (3) Foreign currency translation adjustment 6,774 6,774 Unrealized loss on derivative instruments, net (976) (976) - --------------------------------------------------------------------------------------------------------- Comprehensive income--total 10,678 - --------------------------------------------------------------------------------------------------------- Dividends declared--$.24 per share (4,188) (4,188) Stock issued under employee stock purchase plan and stock option plan 2 1,891 1,893 - --------------------------------------------------------------------------------------------------------- BALANCE AT DECEMBER 31, 2003 $150 $35 $42,573 $(6,086) $148,906 $ 6,022 $191,600 =========================================================================================================
See the accompanying notes to consolidated financial statements. 2003 Annual Report 17 STATEMENTS OF CONSOLIDATED CASH FLOWS
Years ended December 31, 2003 2002 2001 - ----------------------------------------------------------------------------------------------- (Dollars in thousands) CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 4,883 $ 3,987 $ 9,280 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation 10,584 10,918 10,267 Amortization 3 13 1,443 Deferred income taxes 79 1,592 995 Foreign currency transaction (gains) losses (12) (414) 933 Loss on disposal of property 192 31 284 Loss on disposal of investments -- 137 -- Changes in assets and liabilities, net of acquisitions: (Increase) decrease in accounts receivable (7,248) 1,922 16,035 Decrease (increase) in inventories 12,075 5,857 (14,880) (Increase) decrease in refundable income taxes (305) 3,656 (5,404) Decrease in other current assets 102 155 3,439 Decrease in other assets 238 500 500 (Decrease) increase in accounts payable (192) (364) (6,920) Increase (decrease) in accrued expenses 3,341 (1,696) (3,536) Decrease in accrued pension costs (2,586) (2,156) (31) - ----------------------------------------------------------------------------------------------- Net cash provided by operating activities 21,154 24,138 12,405 - ----------------------------------------------------------------------------------------------- CASH FLOWS FROM INVESTING ACTIVITIES: Property additions (3,386) (2,816) (13,083) Acquisitions of businesses (net of cash acquired) (10,665) -- (16,707) Additions to available-for-sale investments -- (46) -- Proceeds from sale of held-to-maturity investments -- -- 2,344 Proceeds from sale of available-for-sale investments -- 531 -- Proceeds from sale of property 31 130 243 - ----------------------------------------------------------------------------------------------- Net cash used in investing activities (14,020) (2,201) (27,203) - ----------------------------------------------------------------------------------------------- CASH FLOWS FROM FINANCING ACTIVITIES: Net short-term debt (repayments) borrowings (17,772) (4,664) 9,881 Long-term debt borrowings -- -- 12,000 Issuance of common stock 1,893 1,259 1,779 Dividends paid (4,178) (5,210) (4,143) Acquisition of treasury stock -- (650) -- - ----------------------------------------------------------------------------------------------- Net cash (used in) provided by financing activities (20,057) (9,265) 19,517 - ----------------------------------------------------------------------------------------------- Effect of exchange rate changes on cash 357 (166) 152 - ----------------------------------------------------------------------------------------------- Net (decrease) increase in cash and cash equivalents (12,566) 12,506 4,871 Cash and cash equivalents at beginning of year 20,927 8,421 3,550 - ----------------------------------------------------------------------------------------------- Cash and cash equivalents at end of year $ 8,361 $20,927 $ 8,421 =============================================================================================== SUPPLEMENTAL CASH FLOW DATA: Cash paid during the year for: Income taxes $ 1,516 $ 246 $ 6,728 Interest 782 845 985
See the accompanying notes to consolidated financial statements. 18 PennEngineering NOTES TO CONSOLIDATED FINANCIAL STATEMENTS For the years ended December 31, 2003, 2002, and 2001 NOTE 1: SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION The consolidated financial statements of the Company include the accounts of PennEngineering and its wholly owned subsidiaries. All significant intercompany transactions and balances are eliminated in consolidation. SHORT-TERM INVESTMENTS Management determines the appropriate classifications of securities at the time of purchase and reevaluates such designation as of each balance sheet date. Bonds and commercial paper investments are classified as held-to- maturity as the Company has the positive intent and ability to hold the securities to maturity. Bonds are stated at amortized cost. Securities not classified as held-to-maturity have been classified as available-for-sale. Available-for-sale securities are stated at fair value, with unrealized gains and losses reported as a separate component of stockholders' equity. The fair value of all securities is determined based upon the current value quoted on public exchanges. Investments are classified as short-term if the maturities at December 31 are less than one year. ALLOWANCE FOR DOUBTFUL ACCOUNTS The Company maintains an allowance for doubtful accounts for estimated losses resulting from the inability of its customers to make required payments. The allowance is determined through an analysis of the aging of accounts receivable and assessments of risk that are based on historical trends and an evaluation of the impact of current and projected economic conditions. The Company evaluates the past-due status of its trade receivables based on contractual terms of sale. If the financial condition of the Company's customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required. INVENTORIES The Company's domestic fastener inventories are priced on the last-in, first-out (LIFO) method, at the lower of cost or market. Other inventories, representing approximately 79% and 69% of total inventories at December 31, 2003 and 2002, respectively, are priced on the first-in, first-out (FIFO) method, at the lower of cost or market. PROPERTY Depreciation is calculated under the straight-line method over the estimated useful lives of the respective assets, generally 3-5 years for tooling and computer equipment, 10-15 years for furniture, fixtures, and machinery, and 25-40 years for buildings. Maintenance and repairs are charged to income and major renewals and betterments are capitalized. At the time properties are retired or sold, the cost and related accumulated depreciation are eliminated and any gain or loss is included in income. As of December 31, 2001, the Company ceased operations at its Suffolk, Virginia fastener manufacturing plant and has reclassified $2,014,000 and $2,192,000 from property to other assets at December 31, 2003 and 2002, respectively. This amount represents the net book value of the building which is currently held for sale. Depreciation expense was recorded in 2003 because the building was not sold during the year. The Company expects that the building will be sold in 2004. GOODWILL Goodwill is the excess of the purchase price over the fair value of identifiable net assets acquired in business combinations accounted for as purchases. The Company adopted Statement of Financial Accounting Standards No. 142 ("SFAS No. 142"), "Goodwill and Other Intangible Assets" on January 1, 2002. Goodwill and certain other intangible assets having indefinite lives, which were previously amortized on a straight-line basis over 20 years, are no longer permitted to be amortized to earnings, but instead are subject to periodic testing for impairment. Accumulated amortization was $2,905,000 and $2,834,000 at December 31, 2003 and 2002, respectively. The change in the accumulated amortization resulted from fluctuations in foreign currency exchange rates. The Company tests goodwill for impairment using the two-step process prescribed by SFAS No. 142 for its three reporting units, which are the same as its operating segments (Note 13). The first step tests for potential impairment, while the second step measures the amount of impairment, if any. The Company uses a discounted cash flow analysis to complete the first step in this process. CASH AND CASH EQUIVALENTS For purposes of reporting cash flows, cash and cash equivalents include cash on deposit, cash in excess of daily requirements, which is invested in overnight repurchase agreements, and other interest-bearing accounts withdrawable on a daily basis. RESEARCH AND DEVELOPMENT COSTS The Company expenses all research and development costs as incurred. FOREIGN CURRENCY TRANSLATION The effect of translating the financial statements of the Company's foreign subsidiaries is recorded as a separate component of other comprehensive income (loss) in the consolidated financial statements. All assets and liabilities are translated at the year-end exchange rate while all income and expense accounts are translated at the weighted average rate for the year. USE OF ESTIMATES The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that may affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. 2003 Annual Report 19 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS continued For the years ended December 31, 2003, 2002, and 2001 FAIR VALUES OF FINANCIAL INSTRUMENTS At December 31, 2003, the Company has the following financial instruments: cash and cash equivalents, short-term investments, accounts receivable, accounts payable, accrued expenses, and long and short-term bank debt. The carrying value of cash and cash equivalents, accounts receivable, accounts payable, and accrued expenses approximate their fair value because of their short-term nature. Short-term investments include available-for-sale securities whose carrying value approximates fair value based on quoted market prices. The carrying amounts of the bank debt approximate fair value because the interest rates are reflective of rates that the Company would be able to obtain on debt with similar terms and conditions. CAPITAL STOCK The Company's capital stock consists of $.01 par value Common Stock and $.01 par value Class A Common Stock. Holders of Class A Common Stock have one vote per share, while holders of Common Stock have no votes. All other rights of the Common Stock and Class A Common Stock, including rights with respect to dividends, stock splits, the consideration payable in a merger or consolidation, and distributions upon liquidation, are the same. REVENUE RECOGNITION The Company's revenues are recorded at the time the products are shipped and title has passed to the customer. SHIPPING AND HANDLING COSTS Shipping and handling costs are included in cost of products sold. CONCENTRATIONS OF CREDIT RISK The Company has operations and affiliates in the United States, the United Kingdom, Ireland, Italy, Singapore, Mexico, and China. The Company performs ongoing credit evaluations of its customers' financial condition, and except where risk warrants, requires no collateral. The Company may require, however, prepayment terms for certain customers. Short-term investments are placed with high credit quality financial institutions. The Company limits the amount of credit exposure in any one institution or single investment. ACCOUNTING FOR STOCK OPTIONS The Company follows Accounting Principles Board Opinion No. 25 ("APB 25"), "Accounting for Stock Issued to Employees" and related interpretations in accounting for stock options. Under APB 25, if the exercise price of stock options granted equals or exceeds the market price of the underlying common stock on the date of grant, no compensation expense is recognized. Statement of Financial Accounting Standards No. 123 ("SFAS No. 123") requires pro forma information regarding net income and earnings per share as if the Company had accounted for its employee stock options under the fair value method of SFAS No. 123. The fair value of each option granted was estimated on the date of grant using the Black-Scholes option-pricing model. The following assumptions were used in the Black-Scholes option-pricing model: 2003 2002 2001 - ---------------------------------------------------------------------------- Expected life 6 years 6 years 6 years Dividend yield 1.5% 2.0% 2.0% Assumed volatility 34.0% 33.0% 30.0% Risk-free interest rate 3.6% 3.6% 4.4% For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period. Had compensation costs for the Company's plans been determined based on the fair value at the grant date for awards under these plans consistent with the method of SFAS No. 123, the impact on the Company's financial results would have been as follows: 2003 2002 2001 - --------------------------------------------------------------------------- (Dollars in thousands except per share amounts) Net income as reported $ 4,883 $ 3,987 $ 9,280 Pro forma compensation cost, net of tax (1,125) (1,175) (1,130) - --------------------------------------------------------------------------- Pro forma net income 3,758 2,812 8,150 =========================================================================== Basic earnings per share: As reported $ .28 $ .23 $ .54 Pro forma .22 .16 .47 Diluted earnings per share: As reported .28 .23 .53 Pro forma .21 .16 .46 NET INCOME PER SHARE Basic and diluted earnings per share are calculated in accordance with FASB Statement No. 128, "Earnings Per Share." Basic earnings per share is calculated by dividing net income by the weighted average shares outstanding for the year, and diluted earnings per share is calculated by dividing net income by the weighted average shares outstanding for the year plus the dilutive effect of stock options. All share and per share amounts have been adjusted to account for the two-for-one stock split in the form of a 100% stock dividend that was issued on May 1, 2001. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES The Company accounts for its derivative instruments and hedging activities under the provisions of Statement of Financial Accounting Standards No. 133 ("SFAS No. 133"), "Accounting for Derivative Instruments and Hedging Activities". SFAS No. 133 requires that all derivative instruments be recorded on the balance sheet at fair value. Changes in the fair value of derivatives are recorded each period in current earnings or other comprehensive income, depending on whether a derivative is designated as part of a hedge transaction and, if it is, depending on the type of hedge transaction. For fair value hedges in which the Company is hedging firmly committed sales denominated 20 PennEngineering in a foreign currency, changes in the fair value of the derivative instrument are recognized currently in income along with changes in the fair value of the firmly committed sales. The Company had no fair value hedges outstanding at December 31, 2003 or 2002. For foreign currency cash flow hedges in which the Company is hedging the variability of cash flows related to forecasted foreign currency denominated sales, changes in the fair value of the derivative instruments are reported in other comprehensive income. Gains and losses on derivatives that are reported in other comprehensive income are reclassified as earnings or losses in the periods in which the forecasted transactions occur. RECLASSIFICATIONS Certain reclassifications have been made to prior year amounts and balances to conform with the 2003 presentation. NOTE 2: SHORT-TERM INVESTMENTS Unrealized losses on short-term investments classified as available-for-sale were $14,000, net of taxes of $8,000, at December 31, 2003, and were $11,000, net of taxes of $7,000, at December 31, 2002. The Company's only short-term available-for-sale investment is a state and municipal bond fund. The estimated fair value of this short-term available-for-sale investment was $228,000 and $233,000 at December 31, 2003 and 2002, respectively. NOTE 3: INVENTORIES Inventories consist of the following: December 31, 2003 2002 - --------------------------------------------------------- (Dollars in thousands) Raw material $ 2,807 $ 4,566 Tooling 5,540 4,926 Work-in-process 11,541 7,935 Finished goods 28,624 39,031 - --------------------------------------------------------- Total $48,512 $56,458 ========================================================= If the FIFO method of inventory valuation had been used for all inventories held by the Company, inventories at December 31, 2003 and 2002 would have been $10,072,000 and $10,100,000 higher, respectively. Long-term tooling inventory, totaling $1,285,000 at December 31, 2003 and $2,500,000 at December 31, 2002, is included in Other Assets. NOTE 4: GOODWILL AND INTANGIBLE ASSETS In connection with the Company's adoption of SFAS No. 142 on January 1, 2002, the Company reviewed the classification of its goodwill and other intangible assets and discontinued amortization of goodwill. The Company also tested goodwill for impairment on January 1, 2002 by comparing the fair values of the Company's reporting units to their carrying values and determined that there was no goodwill impairment at that time. The Company conducted the required annual impairment review as of October 1, 2003 and 2002 and also determined that there was no goodwill impairment as of those dates. The changes in the carrying value of goodwill for 2002 and 2003 by reporting unit are as follows: Fasteners Distribution Motors Consolidated - ------------------------------------------------------------------------------ (Dollars in thousands) Balance as of December 31, 2001 $17,172 $8,647 $ 41 $25,860 Impact of foreign currency exchange rate fluctuations 1,187 -- -- 1,187 - --------------------------------------------------------------------------- Balance as of December 31, 2002 18,359 8,647 41 27,047 Goodwill from acquisitions 834 -- 10,687 11,521 Impact of foreign currency exchange rate fluctuations 1,512 -- 1,764 3,276 - --------------------------------------------------------------------------- Balance as of December 31, 2003 $20,705 $8,647 $12,492 $41,844 =========================================================================== A reconciliation of previously reported net income and earnings per share to the amounts adjusted for the exclusion of goodwill amortization, net of related income tax effect, is as follows: 2003 2002 2001 - --------------------------------------------------------------- (Dollars in thousands except per share amounts) Reported net income $4,883 $3,987 $ 9,280 Add: Goodwill amortization -- -- 1,403 Tax impact -- -- (407) - --------------------------------------------------------------- Adjusted net income $4,883 $3,987 $10,276 =============================================================== Adjusted earnings per share - basic $ .28 $ .23 $ .60 Adjusted earnings per share - diluted $ .28 $ .23 $ .58 NOTE 5: ACQUISITIONS On February 5, 2003, the Company acquired all of the issued and outstanding capital stock of Maelux SA and its sole operating company, M.A.E. S.p.A. of Offanengo, Italy for $10,665,000 including acquisition-related expenses. The acquisition was accounted for using the purchase method. Of the total amount paid, $2,000,000 has been placed in escrow pending the final determination of the purchase price. The results of the operations of these companies have been included in the accompanying consolidated statements of income since the acquisition date. The purchase price was allocated to: accounts receivable - $4,100,000, inventory - $3,214,000, property - $7,889,000, other current assets - - $295,000, goodwill - $10,687,000, accounts payable - $2,809,000, short-term debt - $5,029,000, other current liabilities - $1,777,000, mortgage payable - $3,713,000, and deferred tax liability - $2,192,000. Additional compensation to the seller may be required based on the future operating results of these companies through 2006. Such amount, if any, will be recorded as additional purchase price if and when it becomes payable in the future. 2003 Annual Report NOTES TO CONSOLIDATED FINANCIAL STATEMENTS continued For the years ended December 31, 2003, 2002, and 2001 On February 5, 2001, the Company acquired all of the issued and outstanding capital stock of Precision Steel Holdings Limited (now called PennEngineering Fastening Technologies (Europe) Limited) and its subsidiary, Precision Steel Components Limited (now called PEM Fastening Systems/Europe Holdings Limited) for $16,707,000 including acquisition-related expenses. The acquisition was accounted for using the purchase method. The results of the operations of these companies have been included in the accompanying consolidated statements of income since the acquisition date. The purchase price was allocated to: accounts receivable - $812,000, inventory - $370,000, property - $9,039,000, other current assets - $110,000, goodwill - $7,105,000, and other current liabilities - - $729,000. NOTE 6: BANK DEBT As of December 31, 2003, the Company has four unsecured line-of-credit facilities available. All lines-of-credit bear interest at interest rate options provided in the facilities and are reviewed annually by the banks for renewal. The first facility is a working capital facility that permits maximum borrowings of $7,000,000 due on demand. At December 31, 2003, there was no outstanding amount on this facility. The second facility is a general facility that allows for borrowings up to $12,000,000. As of December 31, 2003, there was no outstanding amount on this facility. The third facility allows for borrowings of up to $15,000,000. Two short-term loans are currently outstanding on this facility. The first is a $5,300,000 term loan at a rate of 1.93% and the second is a $1,885,000 loan at a rate of 2.8881%. The fourth facility provides for borrowings up to $15,000,000. A short-term loan in the amount of $536,000 at a rate of 4.7839% is outstanding under this facility as of December 31, 2003. In addition to the above facilities, the Company has a committed line-of- credit that permits borrowings of up to $8,000,000 and a lease line facility of $1,000,000. At December 31, 2003, there was no amount outstanding on either one of these facilities. These line-of-credit facilities require the Company to comply with certain financial covenants. At December 31, 2003, the Company was in compliance with all financial covenants. In addition to the above domestic line-of credit facilities, the Company's new subsidiary, M.A.E. S.p.A. (MAE) (Note 5) has two short-term credit facilities in place and there was a total of $744,000 outstanding on these facilities as of December 31, 2003. MAE also has an outstanding mortgage on its building, where $577,000 is classified as short-term debt and $3,173,000 is classified as long-term debt as of December 31, 2003. NOTE 7: PENSION AND PROFIT SHARING PLANS The Company has a defined benefit pension plan covering all eligible employees in the United States. Effective January 1, 2002, the plan was converted to a cash balance plan for all eligible employees. Participants were credited with an initial account balance equal to the present value of their accrued benefit as determined under the plan in effect on December 31, 2001. At the end of each Plan Year, participants receive pay credits equal to a percentage of annual compensation, and participant accounts are also credited with annual interest based on a one-year constant maturity Treasury bill plus 1%, equal to 2.39% and 2.56% in 2003 and 2002, respectively. The percentage of annual compensation credited to participant accounts is based on the participants' age and length of service with the Company. Participants whose age and years of benefit service as of December 31, 2001 totaled 45 or more will have their pension benefit calculated under both the old and new formula and will automatically receive the higher of the two. Plan provisions and funding meet the requirements of the Employee Retirement Income Security Act of 1974. The following table sets forth the financial status of the plan: OBLIGATIONS AND FUNDED STATUS December 31, 2003 2002 - ----------------------------------------------------------------- (Dollars in thousands) CHANGE IN BENEFIT OBLIGATION: Change in benefit obligation: Benefit obligation at beginning of year $ 41,500 $ 40,188 Service cost 2,004 2,261 Interest cost 2,628 2,638 Actuarial loss (gain) 2,133 (209) Benefits paid (3,555) (2,279) Plan amendments 163 (1,099) - ----------------------------------------------------------------- Benefit obligation at end of year $ 44,873 $ 41,500 ================================================================= CHANGE IN PLAN ASSETS: Fair value of plan assets at beginning of year $ 28,739 $ 29,552 Actual return on assets 3,997 (3,071) Employer contributions 5,300 4,537 Benefits paid (3,555) (2,279) Other 32 -- - ----------------------------------------------------------------- Fair value of plan assets at end of year $ 34,513 $ 28,739 ================================================================= Funded status $(10,360) $(12,761) Unrecognized actuarial loss 9,988 10,046 Unamortized prior service cost (820) (1,063) - ----------------------------------------------------------------- Accrued pension cost $ (1,192) $ (3,778) ================================================================= COMPONENTS OF NET PERIODIC PENSION COST Net pension costs included the following components: December 31, 2003 2002 2001 - ------------------------------------------------------------------ (Dollars in thousands) Service cost $ 2,004 $ 2,261 $ 2,748 Interest cost 2,628 2,638 2,680 Expected return on plan assets (2,022) (2,385) (2,379) Net amortization and deferral 104 (92) (80) - ------------------------------------------------------------------ Net periodic pension cost $ 2,714 $ 2,422 $ 2,969 ================================================================== 22 PennEngineering ASSUMPTIONS The weighted-average assumptions used to determine benefit obligations at December 31 were as follows: 2003 2002 - ----------------------------------------------------------- Discount rate 6.25% 7.00% Rate of compensation increase 5.25 5.25 The weighted-average assumptions used to determine net periodic benefit cost for years ended December 31 were as follows: 2003 2002 - ----------------------------------------------------------- Discount rate 7.00% 7.25% Expected return on plan assets 7.00 8.00 Rate of compensation increase 5.25 5.25 PLAN ASSETS The Company's defined benefit pension plan's assets are managed in accordance with investment guidelines approved by the Board of Directors. Investments are restricted to domestic and international equity investments, fixed income securities of the U.S. Government, its agencies, investment grade corporate issues, cash and equivalents such as commercial paper, repurchase agreements, Treasury Bills, certificates of deposit, and money market funds. Alternate investments, such as hedge funds and real estate investment trusts, may be used as part of the allocation only with the consent of the Company's investment committee and may not exceed a stated percentage of plan funds. Equity securities must be in liquid securities listed on national exchanges. Investment managers' returns are expected to exceed selected market indices by prescribed margins. The target allocation percentage for equity securities and equity-based alternate investments is between 50% and 75% of the fund's market value and the target allocation percentage for fixed income securities and fixed income alternative investments is between 25% and 50% of the fund's market value. The Company's pension plan weighted-average asset allocations at December 31, 2003 and 2002, by category are as follows: 2003 2002 - ----------------------------------------------------------- Equity securities 45% 42% Debt securities 35 36 Alternate (mainly equity-based funds) 20 22 - ----------------------------------------------------------- Total 100% 100% =========================================================== The plan's assumed future returns are based principally on the asset allocation and on the historic returns for the plan's asset classes determined from both actual returns and, over longer time periods, market returns for those asset classes. The Company expects to contribute $5,100,000 to its pension plan in 2004. The Company has a profit sharing plan covering all eligible employees in the United States. Contributions and costs are determined as the lesser of 25% of income before income taxes and profit sharing cost or 10% of each covered employee's salary, and totaled $2,141,000 in 2003, $1,463,000 in 2002, and $4,114,000 in 2001. The Company also provides retirement benefits to all eligible participants at its foreign operations. NOTE 8: STOCK OPTIONS AND STOCK PURCHASE PLAN The Company currently has three fixed stock option plans: the 1996 Equity Incentive Plan , the 1998 Stock Option Plan for Non-Employee Directors, and the 1999 Employee Stock Option Plan. The 1996 Equity Incentive Plan and the 1999 Employee Stock Option Plan provide for the granting of options to eligible employees of the Company. The 1998 Stock Option Plan for Non-Employee Directors provides for the granting of options to eligible directors. All Plans provide for the granting of options that do not qualify as incentive stock options under the Code (Non-Qualified Stock Options). The Company is authorized under the Plans to grant options for shares of the Company's non-voting Common Stock not to exceed in the aggregate: 1,000,000 shares for the 1996 Equity Incentive Plan, 200,000 shares for the 1998 Stock Option Plan for Non-Employee Directors, and 2,000,000 shares for the 1999 Employee Stock Option Plan. The Plans provide for the granting of options with exercise prices equal to the closing market price of the Company's non-voting Common Stock on the date of the grant with a maximum term of ten years. All options granted under these Plans vest in four equal installments commencing on the first, second, third, and fourth anniversaries of the grant date of the option. A summary of the Company's option activity, and related information for the years ended December 31, 2001, December 31, 2002 and December 31, 2003 is as follows: Weighted-Average Options Exercise price - -------------------------------------------------------------------------------- Outstanding - December 31, 2000 1,615,640 $13.62 Granted 462,100 16.58 Exercised 99,886 11.56 Canceled 45,268 15.33 - -------------------------------------------------------------------------------- Outstanding - December 31, 2001 1,932,586 14.33 Granted 435,760 11.70 Exercised 66,620 12.07 Canceled 113,985 16.17 - -------------------------------------------------------------------------------- Outstanding - December 31, 2002 2,187,741 13.76 Granted 421,920 17.30 Exercised 131,571 11.11 Canceled 148,226 14.52 - -------------------------------------------------------------------------------- Outstanding - December 31, 2003 2,329,864 14.50 Exercisable at December 31, 2003 1,345,619 13.74 Weighted-average fair value of options granted during 2003 $ 5.75 Weighted-average remaining life of options outstanding at December 31, 2003 7.27 years - -------------------------------------------------------------------------------- 2003 Annual Report 23 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS continued For the years ended December 31, 2003, 2002, and 2001 A summary of the status of the Company's stock options at December 31, 2003 is as follows:
Options Outstanding Options Exercisable --------------------------------------------- --------------------------- Weighted Average Range of Number of Remaining Weighted Average Number of Weighted Average Exercise Prices Options Contractual Life Exercise Price Options Exercise Price - ------------------------------------------------------------------------------------------- $8.00-$12.00 736,309 6.80 $11.08 441,664 $10.67 $12.01-$16.00 424,695 5.12 $12.74 424,695 $12.74 $16.01-$20.00 1,168,860 8.35 $17.30 479,260 $17.45
The Company also has one stock purchase plan, the 1996 Employee Stock Purchase Plan (the "Purchase Plan") that provides for the purchase of the Company's non-voting Common Stock by eligible employees of the Company. The Purchase Plan commenced on October 1, 1996 and has a term of ten years with twenty semi-annual subscription periods. During its term, the Purchase Plan permits employees to purchase the Company's non-voting Common Stock on a regular basis through payroll deductions, not exceeding 10% of base wages, at a 10% discount from the lower of the market price on the last trading day before the first day of the subsequent subscription period or on the last trading day of such subscription period. The maximum number of shares to be issued under the Purchase Plan is 300,000 shares of the Company's non-voting Common Stock. Shares under the Purchase Plan are subscribed during each subscription period and purchased on the last business day of such subscription period. The Company had a balance of $78,000 in employee withholdings at the beginning of the year and had employee withholdings of $75,000 for the current subscription period at December 31, 2003. The Plan has issued 260,498 shares to employees as of December 31, 2003. NOTE 9: FINANCIAL INSTRUMENTS AND RISK MANAGEMENT At times, the Company hedges forecasted British Pound and Euro denominated sales of its subsidiary based in the United Kingdom with foreign currency contracts (cash flow hedges). The hedge contracts generally mature during the year following the date the contracts are entered into. Changes in the fair value of the effective portion of the Company's cash flow hedges are recognized in Other Comprehensive Income. These amounts are reclassified from Other Comprehensive Income and recognized in earnings when either the forecasted transaction occurs or it becomes probable that the forecasted transaction will not occur. The fair market value of the foreign exchange contracts is the amount the Company would receive or pay to terminate the contracts using quoted market rates. At December 31, 2003, the Company had foreign exchange contracts outstanding with a notional amount of $12,720,000 hedging 2004 forecasted Euro denominated sales (cash flow hedges). The fair value of the contracts of $(2,288,000) is included in other accrued expenses in the accompanying December 31, 2003 consolidated balance sheet. At December 31, 2002, the Company had foreign exchange contracts outstanding with a notional amount of $17,171,000 and a fair value of $(680,000). The Company also hedges against the variability of cash flows in the interest payments for its variable rate debt with interest rate swaps (cash flow hedges). At December 31, 2003, the Company had no interest rate swaps outstanding. At December 31, 2002, the Company had two interest rate swaps in place. Changes in the cash flows of the interest rate swaps are expected to exactly offset the changes in cash flows (i.e., changes in interest rate payments) attributable to fluctuations in the LIBOR interest rates on the total variable-rate debt. The first interest rate swap was for a notional amount of $8,000,000 where the Company received a variable (LIBOR) rate and paid a fixed 3.35% interest rate. The second interest rate swap was for a notional amount of $12,000,000 where the Company received a variable (LIBOR) rate and paid a fixed 3.1% interest rate. Both swaps matured throughout 2003, with settlement consistent with the maturities of the related debt. At December 31, 2002, the interest rate swaps were reflected at their fair value of $(214,000) and are included in other accrued expenses. Net foreign currency transaction gains (losses) recorded in Other Income (Expense) totaled $564,000, $411,000, and ($145,000) for the years ended December 31, 2003, 2002, and 2001, respectively. 24 PennEngineering NOTE 10: INCOME TAXES Income before income taxes consists of the following components: December 31, 2003 2002 2001 - ------------------------------------------------------------- (Dollars in thousands) Domestic $(1,349) $ (305) $12,793 Foreign 7,774 4,618 (450) - ------------------------------------------------------------- Income before income taxes $ 6,425 $4,313 $12,343 ============================================================= The income tax provision consists of the following: December 31, 2003 2002 2001 - ------------------------------------------------------------------ (Dollars in thousands) Current: Federal $ (591) $(2,335) $ 1,947 State 14 4 57 Foreign 2,040 1,065 64 - ------------------------------------------------------------------- Total current tax provision $ 1,463 $(1,266) $ 2,068 - ------------------------------------------------------------------- Deferred: Federal $ 251 $ 1,080 $ 842 State (35) 197 153 Foreign (137) 315 -- - ------------------------------------------------------------------- Total deferred tax provision 79 1,592 995 - ------------------------------------------------------------------- Total income tax provision $ 1,542 $ 326 $ 3,063 =================================================================== The significant components of the Company's net deferred tax assets and liabilities are as follows : December 31, 2003 2002 - -------------------------------------------------------- (Dollars in thousands) Deferred tax assets: Accrued pension $ 467 $ 1,491 Allowance for doubtful accounts 251 284 Foreign tax credit carryforward 927 -- Other 1,882 1,394 - -------------------------------------------------------- Total deferred tax asset $ 3,527 $ 3,169 - -------------------------------------------------------- Deferred tax liabilities: Property $11,801 $ 8,569 Other 2,653 2,035 - -------------------------------------------------------- Total deferred tax liability 14,454 10,604 - -------------------------------------------------------- Net deferred tax liability $10,927 $ 7,435 ======================================================== The foreign tax credit carryforward expires in 2008. A reconciliation between the provision for income taxes, computed by applying the statutory federal income tax rate to income before taxes, and the actual provision for income taxes on such income, is as follows: December 31, 2003 2002 2001 - ---------------------------------------------------------------------- (Dollars in thousands) Federal income tax provision at statutory rate $2,249 $1,510 $ 4,146 State income taxes, after deducting federal income tax benefit (14) 131 137 Export sales tax benefits (438) (840) (1,413) Foreign tax rate differential and operating loss benefits (net) (280) (59) (75) Other 25 (416) 268 - ---------------------------------------------------------------------- Provision for income taxes $1,542 $ 326 $ 3,063 ====================================================================== NOTE 11: ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS) The components of other comprehensive income (loss) are as follows:
Unrealized Losses on Currency Unrealized Losses Derivative Instruments Translation on Available-for- Qualifying as Cash Adjustments Sale Securities Flow Hedges Total - ------------------------------------------------------------------------------------------------------------------------- (Dollars in thousands) Balance at December 31, 2001 $(2,739) $ (95) $ 0 $(2,834) Currency translation adjustments 3,603 3,603 Realized loss on sale of available-for-sale security 137 137 Unrealized gain on available-for-sale securities 1 1 Unrealized loss on derivative instruments (895) (895) Deferred taxes (54) 269 215 - ------------------------------------------------------------------------------------------------------------------------- Balance at December 31, 2002 864 (11) (626) 227 Currency translation adjustments 6,774 6,774 Unrealized loss on available-for-sale securities (4) (4) Unrealized loss on derivative instruments (1,394) (1,394) Deferred taxes 1 418 419 - ------------------------------------------------------------------------------------------------------------------------- Balance at December 31, 2003 $ 7,638 $ (14) $(1,602) $ 6,022 =========================================================================================================================
2003 Annual Report 25 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS continued For the years ended December 31, 2003, 2002, and 2001 NOTE 12: COMMITMENTS & Contingencies The Company has operating leases covering certain automobiles, office space, and office equipment. The future minimum annual payments on these non-cancelable operating leases which were in effect at December 31, 2003, having initial or remaining terms of more than one year are $1,126,000 for 2004, $797,000 for 2005, $407,000 for 2006, $240,000 for 2007, and $31,000 for 2008. Rental and operating lease expenses charged against earnings were $1,701,000, $1,716,000, and $1,938,000 in 2003, 2002, and 2001, respectively. The Company is exposed to asserted and unasserted potential claims encountered in the normal course of business. Based on the advice of legal counsel, management believes that the final resolution of these matters will not materially affect the Company's consolidated financial position or results of operations. NOTE 13: FINANCIAL REPORTING FOR BUSINESS SEGMENTS OF THE COMPANY The Company has three reportable segments: fasteners, motors, and distribution. Segment income is net sales less segment costs and expenses excluding certain corporate expenses, interest expense, income taxes, and certain other income and expenses. Identifiable assets by segment are those assets that are used in the Company's operations in each segment. Sales of fasteners to one customer (an authorized distributor of the Company) totaled approximately $18,900,000 and $22,105,000 for the years ended December 31, 2003 and 2001, respectively (approximately 10% of consolidated net sales in 2003 and 12% in 2001). For the year ended December 31, 2002, there were no sales to any one customer that exceeded 10% of consolidated net sales. The Company records intersegment sales and transfers at published distributor prices less an agreed-upon markdown. In 2001, the Company recorded intersegment sales and transfers at cost plus an agreed-upon intercompany profit. Segment data is as follows:
Year Ended December 31, 2003 Fasteners Distribution Motors Consolidated - ---------------------------------------------------------------------------------------------------------- (Dollars in thousands) REVENUES: Sales to external customers $ 96,030 $51,871 $42,846 $190,747 Intersegment sales 27,899 451 28,350 Intersegment elimination (27,899) (451) (28,350) - ---------------------------------------------------------------------------------------------------------- Net sales $96,030 $51,871 $42,846 $190,747 - ---------------------------------------------------------------------------------------------------------- NET INCOME BEFORE TAXES: Segment income $ 11,517 $1,746 $ 2,151 $ 15,414 Unallocated corporate expenses (8,338) Interest expense (782) Other income 131 - ---------------------------------------------------------------------------------------------------------- Consolidated income before income taxes $ 6,425 - ---------------------------------------------------------------------------------------------------------- DEPRECIATION, AMORTIZATION, AND CAPITAL EXPENDITURES: Depreciation and amortization 8,187 1,159 1,241 $ 10,587 Capital expenditures 2,362 285 739 3,386 SEGMENT ASSETS: Identifiable assets 130,171 57,580 45,365 233,116 - ---------------------------------------------------------------------------------------------------------- Corporate assets 3,008 - ---------------------------------------------------------------------------------------------------------- Total assets $236,124
26 PennEngineering
Year Ended December 31, 2002 Fasteners Distribution Motors Consolidated - --------------------------------------------------------------------------------------------------------------------- (Dollars in thousands) REVENUES: Sales to external customers $ 77,581 $ 41,644 $ 31,576 $ 150,801 Intersegment sales 24,887 24,887 Intersegment elimination (24,887) (24,887) - --------------------------------------------------------------------------------------------------------------------- Net sales $ 77,581 $ 41,644 $ 31,576 $ 150,801 - --------------------------------------------------------------------------------------------------------------------- NET INCOME BEFORE TAXES: Segment income $ 5,254 $ 1,769 $ 1,946 $ 8,969 Unallocated corporate expenses (3,444) Interest expense (845) Other expense (367) - --------------------------------------------------------------------------------------------------------------------- Consolidated income before income taxes $ 4,313 - --------------------------------------------------------------------------------------------------------------------- DEPRECIATION, AMORTIZATION, AND CAPITAL EXPENDITURES: Depreciation and amortization 9,104 1,123 704 $ 10,931 Capital expenditures 1,067 1,216 533 2,816 SEGMENT ASSETS: Identifiable assets 160,021 45,964 16,265 222,250 Corporate assets 2,729 - --------------------------------------------------------------------------------------------------------------------- Total assets $ 224,979 - --------------------------------------------------------------------------------------------------------------------- Year Ended December 31, 2001 Fasteners Distribution Motors Consolidated - --------------------------------------------------------------------------------------------------------------------- (Dollars in thousands) REVENUES: Sales to external customers $ 113,238 $ 40,902 $ 34,038 $ 188,178 Intersegment sales 30,763 30,763 Intersegment elimination (30,763) (30,763) - --------------------------------------------------------------------------------------------------------------------- Net sales $ 113,238 $ 40,902 $ 34,038 $ 188,178 - --------------------------------------------------------------------------------------------------------------------- NET INCOME BEFORE TAXES: Segment income $ 13,333 $ 1,591 $ 1,126 $ 16,050 Unallocated corporate expenses (3,940) Interest expense (985) Other income 1,218 - --------------------------------------------------------------------------------------------------------------------- Consolidated income before income taxes $ 12,343 - --------------------------------------------------------------------------------------------------------------------- DEPRECIATION, AMORTIZATION, AND CAPITAL EXPENDITURES: Depreciation and amortization 9,552 1,465 693 $ 11,710 Capital expenditures 6,485 5,581 1,017 13,083 SEGMENT ASSETS: Identifiable assets 157,798 52,670 16,311 226,779 Corporate assets 2,047 - --------------------------------------------------------------------------------------------------------------------- Total assets $ 228,826 - ---------------------------------------------------------------------------------------------------------------------
2003 Annual Report 27 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS continued For the years ended December 31, 2003, 2002 and 2001 The Company has operations in the United States, Ireland, the United Kingdom, Italy, Mexico, Singapore, and China. Information about the primary operations of the Company in different geographic segments is as follows:
United States Operations ------------------------ North Asia-Pacific United Total America Europe & Other Total Ireland Kingdom Italy Singapore China Consolidated - ----------------------------------------------------------------------------------------------------------------------------------- (Dollars in thousands) Sales 2003 $120,155 $2,737 $3,069 $125,961 $ 1,806 $34,741 $9,679 $16,276 $2,284 $190,747 2002 106,788 2,521 2,256 111,565 1,879 26,433 10,924 150,801 2001 138,772 3,204 2,418 144,394 2,223 33,884 7,677 188,178 - --------------------------------------------------------------------------------------------------------------------------------- Identifiable assets 2003 $131,294 $131,294 $33,275 $21,904 $29,622 $16,320 $3,709 $236,124 2002 167,214 167,214 23,726 21,599 12,196 244 224,979 2001 167,337 167,337 19,908 31,695 9,886 228,826
REPORT OF INDEPENDENT AUDITORS To the Stockholders and Board of Directors Penn Engineering & Manufacturing Corp. We have audited the accompanying consolidated balance sheets of Penn Engineering & Manufacturing Corp. as of December 31, 2003 and 2002, and the related consolidated statements of income, changes in stockholders' equity and cash flows for each of the three years in the period ended December 31, 2003. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Penn Engineering & Manufacturing Corp. at December 31, 2003 and 2002, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2003, in conformity with accounting principles generally accepted in the United States. As discussed in Note 4 to the financial statements, in 2002 the Company changed its method of accounting for goodwill and its related amortization. /s/ Ernst & Young LLP Philadelphia, Pennsylvania January 28, 2004 28 Penn Engineering EX-14 4 codeofethics14.txt CODE OF ETHICS EXHIBIT 14 PENN ENGINEERING & MANUFACTURING CORP. CODE OF ETHICS -------------- This Code of Ethics of Penn Engineering & Manufacturing Corp. (the "Company") applies to the Chief Executive Officer, the Chief Financial Officer, the Chief Accounting Officer, the Treasurer, the Controller, and all other executive officers of the Company (each, a "Covered Person"). The Covered Persons hold important roles in corporate governance. This Code of Ethics is designed to deter wrongdoing and promote ethical conduct and compliance with applicable laws and regulations. Each Covered Person has the obligation to: (a) Engage in and promote honest and ethical conduct, including the ethical handling of actual or apparent conflicts of interest between personal and professional relationships; (b) Produce full, fair, accurate, timely, and understandable disclosure in reports and documents that the Company or its subsidiaries file with, or submit to, the Securities and Exchange Commission and other regulators and in other public communications made by the Company or its subsidiaries; (c) Comply with applicable governmental laws, rules, and regulations, as well as the rules and regulations of the New York Stock Exchange; and (d) Promptly report any possible violation of this Code of Ethics to the Audit Committee or any of the persons designated from time to time by the Company's Board of Directors for such purposes. Each Covered Person is prohibited from directly or indirectly taking any action to fraudulently influence, coerce, manipulate, or mislead the Company or its subsidiaries' independent public accountants for the purpose of rendering the financial statements of the Company or its subsidiaries misleading. Each Covered Person will be held accountable for his or her adherence to this Code of Ethics. Failure to observe the terms of this Code of Ethics may result in disciplinary action, up to and including termination of employment. Violations of this Code of Ethics may also constitute violations of law and may result in civil and criminal penalties for the Covered Person, his or her supervisors, or the Company. Reporting any possible violation of this Code of Ethics may be made anonymously. Questions regarding the best course of action in a particular situation should promptly be directed to Mark W. Simon, Senior Vice President, Chief Financial Officer, and Corporate Secretary. EX-21 5 subsidreg21.txt SUBSIDIARIES OF THE REGISTRANT EXHIBIT 21 SUBSIDIARIES OF THE REGISTRANT PEM International, Ltd., incorporated under the laws of the State of Delaware, is 100% owned by the Registrant. PEM International (Singapore) Pte. Ltd., incorporated under the laws of the State of Delaware, is 100% owned by the Registrant. PEM Management, Inc., incorporated under the laws of the State of Delaware, is 100% owned by the Registrant. PEM World Sales, Ltd., incorporated under the laws of Bermuda, is 100% owned by the Registrant. Arconix Group, Inc., incorporated under the laws of Delaware, is 100% owned by the Registrant. PEM Industries, Inc., incorporated under the laws of Delaware, is 100% owned by the Registrant. PennEngineering Holdings, Inc., incorporated under the laws of Delaware, is 100% owned by the Registrant. INDIRECT SUBSIDIARIES OF THE REGISTRANT Atlas Engineering, Inc., incorporated under the laws of Ohio, is 100% owned by PennEngineering Holdings, Inc. Arconix/Singapore Pte. Ltd., incorporated under the laws of Delaware, is 100% owned by Arconix Group, Inc. Arconix/U.K. Ltd., incorporated under the laws of Delaware, is 100% owned by Arconix Group, Inc. Arconix/USA Inc., incorporated under the laws of California, is 100% owned by Arconix Group, Inc. Arconix/Mexico, S. de R.L., incorporated under the laws of Mexico, is 99% owned by PEM Industries, Inc. and 1% owned by Arconix Group, Inc. Arconix/Mexico Management S.A. de C.V., incorporated under the laws of Mexico, is 99.998% owned by PEM Industries, Inc. and .002% owned by Arconix Group, Inc. Arconix Fastening Distribution (Shanghai) Co., Ltd., incorporated under the laws of The Peoples Republic of China, is 100% owned by PennEngineering Global Holdings SRL. PennEngineering Fastening Technologies (Europe) Ltd., incorporated under the laws of Ireland, is 100% owned by PennEngineering Holdings, Inc. PEM Fastening Systems/Europe Holdings Ltd., incorporated under the laws of Ireland, is 100% owned by PennEngineering Fastening Technologies (Europe) Ltd. PennEngineering Global Holdings SRL, incorporated under the laws of Barbados, WI, is 99.09% owned by PennEngineering Holdings, Inc., and 0.01% by Arconix Group, Inc. PennEngineering World Holdings L.P., a limited partnership formed under the laws of Bermuda, has as a General Partner, PennEngineering Holdings, Inc., and as a Limited Partner, Arconix Group, Inc. Maelux SA, incorporated under the laws of Luxembourg, is owned 100% by PennEngineering World Holdings L.P. M.A.E. SpA, incorporated under the laws of Italy, is 100% owned by Maelux SA. EX-23 6 consent23.txt CONSENT EXHIBIT 23 Consent of Ernst & Young LLP, Independent Auditors We consent to the incorporation by reference in this Annual Report (Form 10-K) of Penn Engineering & Manufacturing Corp. of our report dated January 28, 2004, included in the 2003 Annual Report to Stockholders of Penn Engineering & Manufacturing Corp. We also consent to the incorporation by reference of our report dated January 28, 2004 with respect to the consolidated financial statements of Penn Engineering & Manufacturing Corp. incorporated by reference in this Annual Report (Form 10-K) for the year ended December 31, 2003, in the following registration statements: Penn Engineering & Manufacturing Corp. 1996 Equity Incentive Plan Form S-Registration Statement (Registration No. 333-20101); Penn Engineering & Manufacturing Corp. 1996 Employee Stock Purchase Plan Form S-8 Registration Statement (Registration No. 333-13073); Penn Engineering & Manufacturing Corp. 1998 Stock Option Plan for Non-Employee Directors Form S-8 Registration Statement (Registration No. 333-92907); Penn Engineering & Manufacturing Corp. 1999 Employee Stock Option Plan Form S-8 Registration Statement (Registration No. 333-92903); Penn Engineering & Manufacturing Corp. Dividend Reinvestment and Stock Purchase Plan Form S-3 Registration Statement (Registration No. 333-73450). Ernst & Young LLP Philadelphia, Pennsylvania March 12, 2004 EX-31.1 7 certswanstrom311.txt CERTIFICATION SWANSTROM EXHIBIT 31.1 CERTIFICATION ------------- I, Kenneth A. Swanstrom, Chairman and Chief Executive Officer of Penn Engineering & Manufacturing Corp., certify that: 1. I have reviewed this annual report on Form 10-K for the year ended December 31, 2003 of the registrant; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report. 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: March 15, 2004 /s/ Kenneth A. Swanstrom ------------------------------------ Kenneth A. Swanstrom, Chairman and Chief Executive Officer EX-31.2 8 certsimon312.txt CERTIFICATION SIMON EXHIBIT 31.2 CERTIFICATION I, Mark W. Simon, Senior Vice President, Chief Financial Officer and Corporate Secretary of Penn Engineering & Manufacturing Corp., certify that: 1. I have reviewed this annual report on Form 10-K for the year ended December 31, 2003 of the registrant; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report. 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: March 15, 2004 /s/ Mark W. Simon ------------------------------------- Mark W. Simon, Senior Vice President, Chief Financial Officer and Corporate Secretary EX-32.1 9 certceo321.txt CERTIFICATION SWANSTROM EXHIBIT 32.1 Statement of Chief Executive Officer Pursuant to Section 1350 of Title 18 of the United States Code Pursuant to Section 1350 of Title 18 of the United States Code, I, Kenneth A. Swanstrom, Chairman and Chief Executive Officer of Penn Engineering & Manufacturing Corp. (the "Company"), hereby certify that, to the best of my knowledge: 1. The Company's Form 10-K Annual Report for the period ended December 31, 2003 (the "Report") fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2. The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Date: March 15, 2004 /s/ Kenneth A. Swanstrom ------------------------------------ Kenneth A. Swanstrom, Chairman and Chief Executive Officer EX-32.2 10 certsimon322.txt CERTIFICATION SIMON EXHIBIT 32.2 Statement of Chief Financial Officer Pursuant to Section 1350 of Title 18 of the United States Code Pursuant to Section 1350 of Title 18 of the United States Code, I, Mark W. Simon, Senior Vice President, Chief Financial Officer and Corporate Secretary of Penn Engineering & Manufacturing Corp. (the "Company"), hereby certify that, to the best of my knowledge: 1. The Company's Form 10-K Annual Report for the period ended December 31, 2003 (the "Report") fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2. The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Date: March 15, 2004 /s/ Mark W. Simon ------------------------------------- Mark W. Simon, Senior Vice President, Chief Financial Officer and Corporate Secretary -----END PRIVACY-ENHANCED MESSAGE-----