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LMI Aerospace 10-K 2008 Documents found in this filing:
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
DC 20549
FORM
10-K
þ
Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act of
1934
For the
fiscal year ended December 31, 2007
¨ 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 000-24293
Securities
registered pursuant to Section 12(b) of the Act:
Common
stock, $0.02 par value, The NASDAQ Stock Market LLC
Securities
registered pursuant to Section 12(g) of the Act:
Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act.¨YESþNO
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act.¨YESþNO
Note—Checking the box above
will not relieve any registrant required to file reports pursuant to Section 13
or 15(d) of the Exchange Act from their obligations under those
Sections.
Indicate
by check mark whether 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. þYES
¨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 a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
definitions of “accelerated filer,” “accelerated filer” and “smaller reporting
company” in Rule 12b-2 of the Exchange Act.
Large
accelerated filer¨ Accelerated
filerþ
Non-accelerated
filer¨ Smaller
reporting company¨
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act).
¨YES
þNO
The
aggregate market value of the voting common equity held by non-affiliates
computed by reference to the price at which the common equity was last sold as
of the last business day of the registrant’s most recently completed second
fiscal quarter ended June 30, 2007, was $196,419,743.
There
were 11,505,949 shares of common stock outstanding as of March 6,
2008.
DOCUMENTS
INCORPORATED BY REFERENCE
Part III
incorporates by reference portions of the Proxy Statement for the Registrant’s
2008 Annual Meeting. TABLE OF
CONTENTS
1
Forward-Looking
Information
The
Private Securities Litigation Reform Act of 1995 provides a “safe harbor” for
forward-looking statements. The Company makes forward-looking statements in this
Annual Report on Form 10-K and in the public documents that are incorporated
herein by reference, which represent the Company’s expectations or beliefs about
future events and financial performance. When used in this report and the
documents incorporated herein by reference, the words “expect,” “believe,”
“anticipate,” “goal,” “plan,” “intend,” “estimate,” “may,” “will” or similar
words are intended to identify forward-looking statements. These forward-looking
statements are based on estimates, projections, beliefs and assumptions and are
not guarantees of future events or results. Such statements are
subject to known and unknown risks, uncertainties and assumptions, including
those referred to under “Risk Factors” in this Annual Report on Form 10-K and
otherwise described in the Company’s periodic filings and current reports filed
with the Securities and Exchange Commission.
All
predictions as to future results contain a measure of uncertainty, and
accordingly, actual results could differ materially. Among the factors that
could cause actual results to differ from those contemplated, projected or
implied by the forward-looking statements (the order of which does not
necessarily reflect their relative significance) are:
2
In light
of these risks, uncertainties and assumptions, the forward-looking events
discussed may not occur. Accordingly, investors are cautioned not to place undue
reliance on the forward-looking statements. Except as required by law, the
Company undertakes no obligation to publicly update or revise any
forward-looking statements, whether as a result of new information, future
events or otherwise. Investors should, however, review additional disclosures
made by the Company from time to time in its periodic filings with the
Securities and Exchange Commission.
This
Annual Report on Form 10-K and the documents incorporated herein by reference
should be read completely and with the understanding that the Company’s actual
future results may be materially different from what the Company expects. All
forward-looking statements made by the Company in this Annual Report on Form
10-K and in the Company’s other filings with the Securities and Exchange
Commission are qualified by these cautionary statements.
3
PART
I
General
Overview
LMI
Aerospace, Inc. is a leading provider of structural components, assemblies and
kits to the aerospace, defense and technology industries. On July 31,
2007 we acquired all of the capital stock of D3 Technologies, Inc., a premier
design and engineering services firm, for $65.0 million. With our
acquisition of D3 Technologies, we now provide a complete range of design,
engineering and program management services for the aerospace and defense
industries.
Our
current growth strategy focuses on being well positioned to meet the more
demanding requirements of original equipment manufacturers, referred to as OEMs,
and Tier 1 aerospace providers for more complex products, using both metal and
non-metal technologies, and for related services. We believe that OEMs and Tier
1 aerospace providers will continue to outsource the design and manufacturing of
components, assemblies and sub-systems to fewer preferred suppliers. In
addition, these companies have formed relationships with an increasingly smaller
number of preferred suppliers in order to improve quality and service levels
while reducing purchasing costs. Accordingly, we continue to focus on remaining
well positioned to benefit from these trends by:
We
believe that implementation of this growth strategy will enhance our ability to
successfully compete in the future. Our plans for the implementation
of this strategy include:
4
With our
acquisition of D3 Technologies, we operate in two business segments consisting
of our Aerostructures segment, comprised of all of LMI’s operations other than
D3 Technologies, and our Engineering Services segment, comprised of the
operations of D3 Technologies.
Through
our Aerostructures segment, we fabricate, machine, finish and integrate formed,
close tolerance aluminum and specialty alloy components and sheet metal products
primarily for large commercial, corporate, regional and military
aircraft. We manufacture more than 30,000 products for integration
into a variety of aircraft platforms manufactured by leading OEMs, and Tier 1
aerospace suppliers, including Gulfstream Aerospace Corporation, Boeing Company,
Spirit AeroSystems, Sikorsky, Vought Aircraft and Bombardier. We are
the sole-source provider, under long-term agreements, for many of the products
that we provide. Our primary aerospace products include:
· leading edge wing
slats and flapskins;
·
winglets and related wing modification kits;
·
detail interior components;
·
helicopter cabin components and assemblies;
·
helicopter aft components and assemblies;
·
wing panels;
·
door components, assemblies and floorbeams;
·
thrust reversers and engine nacelles/cowlings;
·
cockpit window frames and landing light lens assembly;
·
fuselage and wing skin;
·
structural sheet metal and extruded components;
·
auxiliary power unit components;
·
fans, heat exchangers and various assemblies;
·
housings and assemblies for gun turrets; and
·
various components and assemblies.
We also
offer our customers value-added services related to the design, production,
assembly and distribution of aerospace components, as well as deliver kits of
products directly to customer points of use. We believe these value-added
services strengthen our position as a preferred supplier by improving overall
production efficiencies and value for our customers. These services
include:
·
kitting and distribution;
·
assembly;
·
just-in-time delivery;
·
warehousing;
·
engineered tool fabrication and repair;
·
prototyping and manufacturing producibility design;
·
polishing and painting;
5
·
heat treating and aging of components;
·
chemical milling; and
·
metal finishing.
In
addition to aerospace products, we produce components and assemblies for laser
equipment used by semiconductor and medical equipment manufacturers in the
technology industry.
Our
Engineering Services segment provides prototyping and complex design and
engineering services to the aerospace industry. It supports both
military and commercial aircraft lifecycles from conceptual design, analysis and
certification through production support, fleet support and service life
extensions via a complete turnkey engineering solution, including:
·
structural design and analysis;
·
systems design and integration;
·
tool design and fabrication;
·
certification planning and support;
·
logistics and fleet maintainability;
·
complex program management support; and
·
avionics and tactical software development.
Through
our Engineering Services segment, we offer a complete range of design,
engineering and program management services. This capability, added
through our acquisition of D3 Technologies, enhances our ability to provide
timely, complete turnkey solutions to our customers. Our team of
engineers has extensive experience across multiple disciplines, enabling us to
creatively address the needs of our customers throughout the life cycle of our
customers’ programs. We have the ability to work with OEM customers
to launch new programs by assisting in the preliminary and conceptual design,
certification planning support, risk mitigation and producibility trade studies,
and development of high level program schedule and resource
planning. This early stage work better positions us to provide
tooling design support in the fabrication stage, as well as modifications and
upgrades throughout the platform’s life cycle.
We were
organized as a Missouri corporation in 1948. Our principal executive
offices are located at 411 Fountain Lakes Blvd., St. Charles,
Missouri 63301. Our Internet address is www.lmiaerospace.com. Interested
readers can access our annual reports on Form 10-K, quarterly reports on Form
10-Q, current reports on Form 8-K, and any amendments to those reports filed or
furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of
19334, as amended, through the Securities and Exchange Commission website at
www.sec.gov. Such
reports are generally available on the day they are
filed. Additionally, we will furnish interested readers a paper copy
of such reports, upon request, free of charge.
Customers
and Products
Customers
Our
principal customers are primarily leading OEMs and Tier 1 suppliers in the
corporate and regional, large commercial and military aircraft markets of the
aerospace industry. Through December 31, 2007, direct sales to our top three
customers (Gulfstream Aerospace Corporation, Spirit AeroSystems, and Boeing
Company) accounted for a total of approximately 53% of our sales. The loss of
any of these customers could materially affect our sales and
profitability.
We have
entered into long-term agreements with our customers whereby the customer
generally commits to purchase all of its requirements of a particular component
from us, subject to termination rights. When operating under these agreements,
our customers issue purchase orders or provide a shipment signal to schedule
delivery of products at a previously negotiated price. Our products sold outside
of long-term agreements are based upon previously negotiated pricing and
specific terms and conditions on purchase orders.
6
See “Item
1A. Risk Factors. Risks Related to Our Business. Sales to
a limited number of customers represent a significant portion of our revenues,
and our long-term agreements with these customers are generally terminable upon
written notice.”
Products
& Services
Our
Aerostructures segment fabricates, machines and integrates formed, close
tolerance aluminum and specialty alloy components for use by the aerospace,
defense and technology industries. All of our components and assemblies are
based on designs and specifications prepared and furnished by our
customers. Our Engineering Services segment provides a complete range
of design, engineering and program management services for the aerospace
industries. Because we manufacture thousands of components and
provide design services on various programs, no one component or service program
accounts for a significant portion of our sales. The following table describes
some of the principal products we manufacture and the structural design services
we provide, as well as the models into which they are integrated:
7
8
See
“Management’s Discussion and Analysis of Financial Condition and Results of
Operations, Overview” for detailed information regarding the revenues
contributed by each of the corporate and regional, large commercial, military
and technology product sectors. Also refer to Note 16 to Consolidated
Financial Statements for business segment information.
Manufacturing
Process
We
organize our manufacturing facilities by work centers focusing on a particular
manufacturing process. Depending on the component, we utilize either a forming
process or a machining process. Each work center is staffed by a team of
operators who are supported by a supervisor, lead operators and quality
inspectors. Throughout each stage of the manufacturing and finishing processes,
we collect, maintain and evaluate data, including customer design inputs,
process scheduling, material inventory, labor, inspection results and completion
and delivery dates. Our information systems employ this data to provide accurate
pricing and scheduling information to our customers as well as to establish
production standards used to measure internal performance.
We use
several different processes in manufacturing components, including:
· fluid
cell press;
· sheet
metal and extrusion stretch;
· skin
stretch;
· stretch
draw;
· hot
joggle;
· machining
and turning;
· brake
forming; and
· roll
forming.
9
These
processes shape or form aluminum, stainless steel or titanium sheet metal and
extrusion, known as a work piece, into components by applying pressure through
impact, stretching or pressing, which causes the work piece to conform to a die.
The shapes may be simple with a single angle, bend or curve, or may be complex
with compound contours having multiple bends and angles. Some processes
incorporate heat to soften the metal prior to or during forming.
We also
produce components using close tolerance machining methods. These methods
involve the machining of various metals, such as stainless steel, aluminum,
monel, kevlar and numerous varieties of steel and castings. We have the
capability of machining steel and castings in both heat-treated and
non-heat-treated conditions. The parts we manufacture using these
close-tolerance machining methods are typically small to medium sized
parts.
We
process parts through conventional and computer numerical control machining
methods, also known as CNC, from raw material or castings up to and including
assembly processes. In addition, complex machining of parts is accomplished
through the use of engineering set-ups to produce intricate and close tolerances
with very restrictive finish requirements. Each machining facility is also set
up to complete turnkey, research and development projects to better support
engineering changes from customers.
Value-Added
Services
In
addition to the products we sell, each segment offers various value-added
services that are intended to result in both cost and time savings. These
services include:
· kitting;
· assembly;
· just-in-time
delivery;
· warehousing;
· engineered
tool design, fabrication and repair;
· prototyping
and manufacturing producibility design;
· polishing
and painting;
· heat
treating and aging of components;
· chemical
milling; and
· metal
finishing.
Also, our
distribution facilities in Savannah, Georgia and Tulsa, Oklahoma are designed to
kit manufactured components and deliver to customer points of use in a
just-in-time manner.
Backlog
Our
Engineering Services segment does not utilize backlog to monitor its
operations. Our Aerostructures segment’s backlog is displayed in the
following table:
10
Our
customers often modify purchase orders to accelerate or delay delivery dates.
The level of unfilled orders at any given time during the year will be
materially affected by our customers’ provisioning policies, the timing of our
receipt of orders and the speed with which those orders are filled. Moreover,
sales during any period may include sales that are not part of the backlog at
the end of the prior period. See “Item 1A. Risk Factors, Risks
Related to Our Business – We may not realize all of the sales expected from our
existing backlog.”
Raw
Materials and Procurement Practices
We
manufacture the majority of our components from aerospace quality aluminum sheet
metal and extrusion. We also use steel, titanium, inconel, monel and other
metals to support the balance of our components. We purchase the
majority of these materials through contracts we have negotiated with a
distributor and a mill as well as contracts certain of our customers have
negotiated with distributors. These contracts are designed to provide an
adequate supply of material at predictable pricing levels. If supply is not
available or we need a product that is not covered under these agreements, we
use a variety of mills and distributors to support our needs. We believe that
currently there are adequate alternative sources of supply.
In line
with our customers’ demands for more sophisticated and complex products, we have
focused our attention on operational execution of an unprecedented number of
assembled products. As a result, we anticipate a greater use of third
party suppliers for strategic components. To meet this challenge, we
established a management procurement process designed to develop strategic
relationships with key suppliers and to manage the supply chain to ensure the
timely delivery of quality components.
During
2007, we purchased approximately 31% of the materials used in production from
three suppliers.
Quality
Assurance and Control
Our
Aerospace Quality Systems are continuously reviewed and updated to comply with
the requirements of ISO9001-2000/AS9100 Revision B and Nadcap (National
Aerospace and Defense Contractors Accreditation Program) special processes
quality requirements. The continuous review and updating of our processes have
allowed our fabrication facilities, with third party ISO9001-2000/AS9100
registrations from National Quality Assurance, USA and Perry Johnson Registrars
and Performance Review Institute, to maintain those certifications for 2008 and
beyond. Our Engineering Services segment’s quality management system is
continuously reviewed and updated to comply with the requirements of
ISO9001-2000/A/AS9100 Revision B.
This
attention to quality system and business processes has allowed us to remain an
approved supplier for many of the leading OEM and Tier 1 suppliers such as
Gulfstream, Boeing, Bombardier, Sikorsky Aircraft, Spirit AeroSystems, Lockheed
Martin, Cessna, Raytheon, Goodrich and others.
Our
quality systems include the quality review of work order masters and outside
purchase orders to ensure that the flow-down of our customer’s requirements is
being addressed both internally and externally. The quality review of the work
order master also ensures that the necessary inspection operations are properly
located within the work order to verify and control the outcome of the
fabrication processes. We use an ongoing employee training program and lean
manufacturing techniques to assist employees in becoming familiar with any
changes in our procedures or special customer requirements. We use a robust
internal auditing program for each of the facilities to ensure that the training
is effective and to ensure ongoing compliance to industry and customer required
standards. The internal auditing is provided by a combination of Quality
Engineer/Auditors located in some of our facilities or by Corporate Quality
Engineer/Auditors traveling to our individual facilities from our headquarters
to perform internal audits. All of our quality auditors have completed Registrar
Accreditation Board approved Lead Auditor training and have been observed by a
Corporate Quality Engineer/Auditor.
11
We
utilize a first part buy-off at each operation during the fabrication process as
well as a 100% final inspection of parts to verify their compliance with the
customer’s configuration requirements.
We use
the AS9102 Rev A standard and forms to perform First Article Inspections. Our
Corporate Quality Group maintains our Approved Supplier List (“ASL”) for all
facilities. This includes reviewing surveys, performing on-site audits and
constant monitoring of customer ASL’s to verify that suppliers are maintaining
their customers’ direct approvals.
Our
Engineering Services segment’s quarterly management review meetings are
performed with the segment’s executive level team on all internal processes and
performance to ensure that we meet expectations with positive measurable
results. All suppliers of our Engineering Services segment are approved through
our supplier rating system and are maintained in our ASL database. All
fabrications suppliers of our Engineering Services segment are reviewed on a
continual basis with documented quality performance reviews and quality
deliverable reviews. All certification documentation is reviewed through
preliminary design reviews and critical design reviews by our engineering
department and is routed through our internal quality design verification group
for verification and validation of data. All Engineering Services sites are
required to go through a robust quality assurance internal audit program every
year to ensure the effectiveness of our quality management system structure. All
final audit reports are reviewed by each Engineering Services site director and
the internal audit team to assess required process improvements.
Sales
and Marketing
Our
Aerostructures sales and marketing group targets four market sectors: corporate
and regional aircraft, large commercial aircraft, military aircraft and
non-aerospace. We utilize five Program Managers to support these sectors. At
each of our facilities, customer service representatives establish and maintain
a business relationship between customers and our production and fabrication
business units with a focus on customer satisfaction. Additionally, we retain
two independent sales representatives.
Awards of
new work are generally preceded by receipt of a request for quotation, referred
to as an RFQ. Upon receipt, the RFQ is preliminarily reviewed by a team
consisting of members of senior management, a program manager, an estimator,
engineering personnel and plant management. If our team determines that the
program is adequately compatible with our capabilities and objectives, we
prepare a formal response. A substantial percentage of new programs are awarded
on a competitive bid basis. Following award, the same team reviews
the work statement for consistency with the bid and changes are coordinated with
the customer. Communication with the customer is performed by the
Program Manager.
Our
Engineering Services segment utilizes a central marketing and business
development team whose main area of responsibility is to establish and maintain
ongoing business relationships with our engineering services customer base. In
addition, the directors of engineering, operations and program management
organization, as well as the organizations they oversee, directly engage with
existing customers and programs. All internal organizations within our
Engineering Services segment work together to maintain and expand customer
relationships with new and existing customers. The segment’s marketing and
business development team serves as the main focus for sales and marketing
activities relating to design-build programs, working in conjunction with the
Program Managers and other LMI corporate staff to assure seamless customer
service.
12
Competition
Our
competitors in the aerospace industry consist of a large fragmented group of
companies, including certain business units or affiliates of our customers.
However, we are unaware of any single company in the aerospace industry that
competes in all of our processes. We believe competition within the aerospace
industry will increase substantially as a result of industry consolidation,
trends favoring greater outsourcing of components and design engineering, the
reduction of the number of preferred suppliers and increased capabilities of
foreign sources. We also believe participants in the aerospace industry compete
primarily with respect to delivery, price and quality.
Unlike
the aerospace industry, we believe there are only a few producers of components
similar to the principal technology components we manufacture. We believe
engineering capability, responsiveness and price are key aspects of competition
in the technology industry.
In all of
our industries, some of our competitors, including business units affiliated
with our customers, have substantially greater financial, production and other
resources than we have. We also believe that foreign aerospace manufacturers and
engineering service providers are becoming an increasing source of competition,
due largely to foreign manufacturers’ access to low-cost labor. Within the
aerospace industry, the prevalence of industry participation commitments,
pursuant to which domestic OEMs agree to award production work to manufacturers
from a foreign country in order to obtain orders from that country, is also
driving this trend.
Governmental
Regulations and Environmental Compliance
Our
operations are subject to extensive and frequently changing federal, state and
local laws and substantial regulation by government agencies, including the
United States Environmental Protection Agency, the United States Occupational
Safety and Health Administration and the Federal Aviation Administration. Among
other matters, these agencies impose requirements that regulate the handling,
transportation and disposal of hazardous materials generated or used by us
during the normal course of our operations, govern the health and safety of our
employees and require that we meet standards and licensing requirements for
aerospace components. This extensive regulatory framework imposes significant
compliance burdens and risks and, as a result, may substantially affect our
operational costs.
In
addition, we may become liable for the costs of removal or remediation of
hazardous substances released on or in our facilities without regard to whether
we knew of, or caused, the release of such substances. Furthermore,
we are subject to U.S. Export Regulations, including the Arms Export Control Act
(AECA), associated International Traffic in Arms Regulations (ITAR), as well as
other federal regulations promulgated by various departments within the U.S.
Government.
We
believe that we are currently in material compliance with applicable laws and
regulations and we are not aware of any material environmental violations at any
of our current or former facilities. There can be no assurance, however, that
our prior activities did not create a material environmental situation for which
we could be responsible or that future uses or conditions (including, without
limitation, changes in applicable environmental laws and regulations, or an
increase in the amount of hazardous substances generated or used by our
operations) will not result in any material environmental liability to us or
result in a material adverse effect to our financial condition or results of
operations.
13
Employees
As of
December 31, 2007, we had 1,338 permanent employees, of whom 32 served in
executive positions, approximately 400 were engineers and
engineering-related personnel, approximately 160 served in administrative
positions and 746 were engaged in manufacturing operations. In addition, we also
used the services of approximately 119 temporary employees. None of our
employees are subject to a collective bargaining agreement, and we have not
experienced any material business interruption as a result of labor disputes
since our inception. We believe we have an excellent relationship with our
employees.
We strive
to continuously train and educate our employees, which enhances the skill and
flexibility of our work force. Through the use of internally developed programs,
which include formal classroom and on-the-job, hands-on training, lean
manufacturing training developed jointly with external resources and tuition
reimbursement programs we fund, we seek to attract, develop and retain the
personnel necessary to achieve our growth and profitability
objectives.
Seasonality
We do not
generally experience any seasonality in the demand for our
products.
Geographic
Operations
We derive
less than ten percent of our sales from foreign sources.
You
should carefully consider the following risks and other information contained in
or incorporated by reference in this Annual Report on Form 10-K when evaluating
our business and financial condition. Although the risks described below are the
risks that we believe are material, there may also be risks of which we are
currently unaware, or that we currently regard as immaterial based on the
information available to us that later prove to be material. These risks may
adversely affect our business, financial condition and operating
results.
Risks
Related to Our Business
Sales
to a limited number of customers represent a significant portion of our
revenues, and our long-term agreements with these customers are generally
terminable upon written notice.
As of
December 31, 2007, 53% of our aggregate sales were dependent upon relationships
with three major customers: Gulfstream Aerospace Corporation, Spirit
AeroSystems, and Boeing Company. Although a majority of our sales, including
sales to these customers, are made pursuant to long-term agreements, these
agreements are generally terminable upon written notice by the customer and
typically do not require the customer to purchase any specific quantity of
products. As a result, our sales under these agreements may not continue for the
full term of the agreements or be consistent with historical sales levels.
Additionally, the loss of any one of these customers, or a significant reduction
in the amount of orders received from any one of these customers, could cause a
significant decrease in our net sales and profitability. We anticipate that a
small number of large customers will continue to represent a significant portion
of our sales for the foreseeable future. See “Item 1. Business —
Customers.”
14
We
may experience cost over-runs related to orders for new products and changes to
existing products, and we may be unable to recoup the resulting increased
costs.
We
generally sell our components, kits and assemblies under multi-year firm
agreements on a fixed-price basis, regardless of our production costs. As a
result, factors such as inaccurate pricing, manufacturing inefficiencies,
start-up costs and increases in the cost of labor, materials or overhead may
result in cost over-runs and losses on those agreements. We may not succeed in
obtaining the agreement of a customer to reprice a particular product, and we
may not be able to recoup previous losses resulting from incomplete or
inaccurate engineering data or out-of-tolerance tooling.
Demand for our defense-related
products depends upon government spending.
A
material portion of our sales is derived from the military market. The military
market is largely dependent upon government budgets, particularly the U.S.
defense budget. The funding of government programs is subject to Congressional
appropriation. Although multi-year contracts may be authorized in connection
with major procurements, Congress generally appropriates funds on a fiscal year
basis, even though a program may be expected to continue for several years.
Consequently, programs, including those that require our components, may be only
partially funded or never enter full-scale production as expected. As a result,
future U.S. defense spending may not be allocated to programs that would benefit
our business or at levels that we had anticipated. A decrease in levels of
defense spending or the government’s termination of, or failure to fully fund,
one or more of the contracts for the programs in which we participate would
adversely impact our revenues and cash flow.
We
may not realize all of the sales expected from our existing
backlog.
At
December 31, 2007, we had approximately $161 million of order backlog. We
consider backlog to be firm customer orders for future delivery. From time to
time, our OEM customers provide projections of components and assemblies that
they anticipate purchasing in the future under new and existing programs. These
projections are not included in our backlog unless we have received a firm
purchase order or order commitment from our customers. Our customers may have
the right, under certain circumstances and with certain penalties or
consequences, to terminate, reduce or defer firm orders that we have in backlog.
If our customers terminate, reduce or defer firm orders, we may be protected
from certain costs and losses, but our sales will nevertheless be adversely
affected.
Given the
nature of our industry and customers, there is always a risk that orders may be
cancelled or rescheduled due to fluctuation in our customers’ business needs,
purchasing budgets or inventory management practices. Moreover, our realization
of sales from new and existing programs is inherently subject to a number of
important risks and uncertainties, including the possibility that our customers
will not launch programs on time, or at all, the number of units that our
customers will actually produce will change and the timing of production will be
altered. Also, until firm orders are pledged, our customers generally have the
right to discontinue a program or replace us with another supplier at any time
without penalty. Our failure to realize sales from new and existing programs
would adversely impact our net sales, results of operations and cash
flow.
We may be required
to risk our capital to continue existing partnerships or develop new strategic
partnerships with OEMs.
Many OEMs
are moving toward developing strategic, and sometimes risk-sharing, partnerships
with their larger suppliers. Each strategic partner provides an array of
integrated services including purchasing, warehousing and assembly for OEM
customers. We have been designated as a strategic partner by some OEMs and are
striving to become a strategic partner of other OEMs. In order to maintain our
current strategic partnerships and establish new ones, we will likely need
to expand our existing capacities or capabilities. We may not, however, have the
financial ability or technical expertise to do so.
15
Our
long-term success and growth strategy depend on our senior management and our
ability to attract and retain qualified personnel.
We have
written employment agreements with certain of our senior management that expire
on December 31, 2009 and 2010. We also maintain key man life insurance policies
on the lives of certain members of senior management. The loss of service of one
or more of our senior management personnel, however, could result in a loss of
leadership and an inability to successfully pursue our long-term success and
growth strategy.
Our
success and future growth also depend on management’s ability to attract, hire,
train, integrate and retain qualified personnel in all areas of our business.
Competition for such personnel is intense, and our inability to adequately staff
our operations with qualified personnel could render us less efficient and
decrease our rate of production. For example, our Engineering Services segment
competes in a highly competitive market to attract and retain highly qualified
and well-trained engineers. Such a competitive market could put upward pressure
on labor costs for engineering talent. Although we have historically been able
to pass through increases in engineering labor costs to our customers, there can
be no assurance that we will be able to do so in the future.
In
addition, rising costs associated with certain employee benefits, in particular
employee health coverage, could limit our ability to provide certain employee
benefits in the future. If we are unable to provide a competitive employee
benefits package, recruiting and retaining qualified personnel may become more
difficult.
We
use sophisticated equipment that is not easily repaired or replaced, and
therefore equipment failures could cause us to be unable to meet quality or
delivery expectations of our customers.
Many of
our manufacturing processes are dependent on sophisticated equipment used to
meet the strict tolerance requirements of our customers. Because sophisticated
equipment generally is not easily repaired or replaced, unexpected failures of
this equipment could result in production delays or the manufacturing of
defective products. Our ability to meet the expectations of our customers with
respect to on-time delivery of quality products is critical. Our failure to meet
the quality or delivery expectations of our customers could lead to the loss of
one or more of our significant customers.
The
use by end-users of the product platforms into which our components are
integrated could expose us to product liability claims.
We may be
exposed to possible claims of personal injury, death, grounding costs, property
damage or other liabilities that result from the failure or malfunction of any
component or assembly fabricated or designed by us. We currently have in place
policies for products liability and premises insurance, which we believe provide
adequate coverage in amounts and on terms that are generally consistent with
industry practice. Nevertheless, to the extent a claim is made against us that
is not covered in whole or in part by our current insurance, we may be subject
to a material loss. Moreover, any claims that are covered by our policies would
likely cause our premiums to increase, and we might not be able to maintain
adequate insurance coverage levels in the future.
Our
long-term growth strategy depends on our ability to maintain a robust and
effective supply chain management system.
As we
pursue our long-term growth strategy, we will be providing to our customers
increasingly sophisticated components, value-added services and design-build
programs. In addition, many OEMs are moving toward developing strategic
partnerships with their larger suppliers, which are providing purchasing,
warehousing and assembly services. The increased complexity of our products, the
expected increased outsourcing of non-core activities and the value-added
services we are providing to our customers require us to maintain and manage an
effective supply chain to assure timely delivery to us of quality components
needed to meet our delivery schedules. Failure to procure from our suppliers
quality components on a timely basis could decrease customer satisfaction, and
thus our competitiveness, and could also result in loss revenue due to
contractual penalties or lost sales.
16
Our
facilities are located in regions that are affected by natural
disasters.
Several
of our facilities are located in regions that have an increased risk of
earthquake activity, and one of our facilities has experienced damage due to
floods. Although we maintain earthquake and flood loss insurance where
necessary, an earthquake, flood or other natural disaster could disrupt our
business, result in significant recovery costs and cause our productivity to
decrease.
We
may be required to record material impairment charges for goodwill, which would
reduce our net income and earnings per share.
Current
accounting standards require a periodic review of goodwill for impairment in
value if circumstances indicate that the carrying amount will not be
recoverable. In assessing the recoverability of our goodwill,
management is required to make certain critical estimates and assumptions,
particularly as to manufacturing efficiency, the achievement of reductions in
operating costs, and increased sales and backlog. If any of these or other
estimates and assumptions are not realized in the future, we may be required to
record impairment charges for goodwill, which charges would reduce net income
and earnings per share.
Risks
associated with acquisitions could result in increased costs and production
inefficiencies.
A key
element of our growth strategy continues to be expansion of our business through
the acquisition of complementary businesses involved in the aerospace industry
and strategic acquisitions that would provide us with access to new industries,
product lines and technology. Our ability to expand by acquisition is dependent
upon, and may be limited by, the availability of suitable acquisition candidates
and our capital resources. Acquisition risks include:
Furthermore,
although we will investigate the business operations and assets of entities that
we acquire, there may be liabilities that we fail or are unable to discover and
for which we, as a successor owner or operator, may be liable. Also, the
necessity of integrating our internal controls over financial reporting with
businesses acquired by us in order to meet the requirements of Section 404 of
the Sarbanes - Oxley Act of 2002 will add additional cost and expense to
acquisitions and expose us to the risk that we may not be successful in
integrating our internal control over financial reporting with that of the
acquired business on a timely basis.
17
Certain
newer aircraft platforms include fewer metal products and could, over time,
limit our ability to grow.
Newer
military aircraft, such as the Lockheed F-35 Series, and newer aircraft designs
for large commercial aircraft, such as the Boeing 787, include more composite
and other non-metal components than previous models. Additionally, redesigns of
existing platforms could include greater amounts of non-metal components.
Although we are in the process of developing and/or acquiring non-metalic
production capabilities, we currently do not have the capability to produce
non-metal components. If we are unsuccessful in developing and/or acquiring such
production expertise, the trend toward the use of non-metal components could
limit our opportunities for new work, cause the loss of certain existing work
and increase the competitive environment with other suppliers of metal
components.
Anti-takeover
provisions and our organizational documents may discourage our acquisition by a
third party, which could limit your opportunity to sell your shares at a
premium.
Our
restated articles of incorporation and amended and restated bylaws contain
certain provisions that reduce the probability of a change of control or
acquisition of our company. These provisions include, among other
things:
In
addition, we are subject to Section 459 of the General and Business Corporation
Law of Missouri, which, under certain circumstances, may prohibit a business
combination with any shareholder holding 20% or more of our outstanding voting
power. This provision may have the effect of delaying, deterring or preventing
certain potential acquisitions or a change of control of our
company.
If
our directors and executive officers choose to act together, they will exercise
voting control over matters requiring approval by our shareholders.
As of
December 31, 2007, our directors and executive officers beneficially owned
approximately 28% of our common stock. As a result, these shareholders, acting
together, would be able to effectively control all matters requiring approval by
our shareholders, including the election of our directors and any merger, sale
of assets or other change of control transaction.
Risks
Related to Our Industry
We
are subject to the cyclical nature of the aerospace industry, and any future
downturn in the aerospace industry or general economic conditions could cause
our sales and operating income to decrease.
We derive
approximately 92% of our revenue from the sale of services and components for
the aerospace industry. Consequently, our business is directly affected by
certain characteristics and trends of the aerospace industry or general economic
conditions that affect our customers, such as:
18
In the
event that these characteristics and trends were to adversely affect customers
in the aerospace industry, they would reduce the overall demand for our products
and services, thereby decreasing our sales and operating income.
Terrorist
attacks could reduce demand for our large commercial, corporate and regional
products and services.
Acts of
sabotage or terrorism or adverse results to the U.S. and its military conflicts,
such as the current conflict in Iraq, would likely have an adverse impact on the
large commercial, corporate and regional aircraft industries, which could lead
to reduced demand for our products and services. Prior industry downturns caused
by such acts or results have negatively affected our net Aerostructures
segment’s sales, gross margin, net income and cash flow. In particular, we and
the aerospace industry suffered significantly as a result of the events of
September 11, 2001, the events of which caused a substantial downturn in new
large commercial aircraft deliveries and order cancellations or deferrals by
major domestic and international air carriers.
We
may not be able to maintain or improve our competitive position because of the
intense competition in the markets we serve.
Our
competitors in the aerospace industry consist of a large fragmented group of
companies, including certain business units or affiliates of our customers. We
believe that competition within the aerospace industry will increase
substantially as a result of industry consolidation, trends favoring greater
outsourcing of components and a decrease in the number of preferred suppliers.
We also believe foreign aerospace manufacturers and engineering service
providers will become an increasing source of competition, due largely to
foreign manufacturers’ access to low-cost labor and the increased prevalence of
industry participation commitments, pursuant to which domestic OEMs agree to
award production work to manufacturers from a foreign country in order to obtain
orders from that country. Some of our competitors have substantially greater
financial, production and other resources than we have. These competitors may
have:
Decreases
in the availability or increases in the cost of our raw materials would increase
our operating costs.
Most of
our components are manufactured from aluminum products. From time to time, we,
and the aerospace components industry as a whole, have experienced shortages in
the availability of aerospace quality aluminum. In addition, we utilize certain
materials in the manufacture of our non-aerospace products that, in some cases,
may be provided by a limited number of suppliers. Raw material shortages could
limit our ability to meet our production needs and adversely affect our ability
to deliver products to our customers on a timely basis. Also, raw material
shortages and capacity constraints at our raw material producers are outside of
our control and can cause the price of aluminum to increase. Any significant
shortage or price escalation of raw materials such as aluminum could increase
our operating costs, which would likely reduce our profits.
19
OEMs
in the aerospace industry have significant pricing leverage over suppliers such
as ourselves, and may be able to achieve price reductions over time, which could
adversely impact our profitability.
There is
substantial and continuing pressure from OEMs in the aerospace industry on
suppliers such as ourselves, to reduce prices for products and services. If we
are unable to absorb OEM price reductions through operating cost reductions and
other methods, our gross margins, profitability and cash flows could be
reduced.
Compliance
with and changes in environmental, health and safety laws and other laws that
regulate the operation of our business and industry standards could increase the
cost of production and expose us to regulatory claims.
Our
operations are subject to extensive and frequently changing federal, state and
local laws and substantial regulation by government agencies, including the
United States Environmental Protection Agency, the United States Occupational
Safety and Health Administration and the Federal Aviation Administration. Among
other matters, these agencies impose requirements that:
In
particular, we use and generate hazardous waste in our operations. Consequently,
we monitor hazardous waste management and applicable environmental permitting
and reporting for compliance with applicable laws at our locations in the
ordinary course of our business. We may be subject to potential material
liabilities relating to any investigation and cleanup of our locations or
properties where we deliver hazardous waste for handling or disposal that may be
contaminated and to claims alleging personal injury. In addition, we have
incurred, and expect to continue to incur, costs to comply with environmental
laws and regulations. The adoption of new laws and regulations, stricter
enforcement of existing laws and regulations, the discovery of previously
unknown contamination or the imposition of new cleanup requirements could
require us to incur costs and become subject to new or increased liabilities
that could increase our operating costs and adversely affect the manner in which
we conduct our business.
While we
require Federal Aviation Administration certifications only to a limited extent,
we typically are required to maintain third-party registration to industry
specification standards, such as AS9100 and National Aerospace and Defense
Contractors Accreditation Program, for our quality systems and processes. In
fact, many individual OEMs and Tier 1 suppliers require certifications or
approvals of our work for them based on third-party registrations in order to
engineer and serve the systems and components used in specific aircraft models.
If material OEM certifications or approvals were revoked or suspended, OEMs may
cease purchasing our products.
We are
also subject to U.S. Export Regulations, including the Arms Export Control Act
(AECA) and associated International Traffic in Arms Regulations
(ITAR).
Moreover,
if in the future new or more stringent governmental regulations are adopted, or
industry oversight heightened, such action could result in our incurrence of
significant additional costs.
None.
20
Facilities
The
following table provides certain information with respect to our headquarters
and manufacturing, and engineering centers:
21
__________________________________
22
We are
not a party to any legal proceedings, other than routine claims and lawsuits
arising in the ordinary course of our business. We do not believe such claims
and lawsuits, individually or in the aggregate, will have a material adverse
effect on our business.
None.
23
PART
II
Market
Information
The
Company’s common stock is traded on The NASDAQ Stock Market LLC under the symbol
“LMIA.” The following table sets forth the range of high and low sales prices
for the Company’s common stock for the periods indicated during the Company’s
past two fiscal years:
Holders
As
of March 6,
2008, there were
approximately 142 holders of record of the
Company’s common stock.
Dividends
We have
not historically declared or paid cash dividends on our common stock and we do
not anticipate paying any cash dividends in the foreseeable future. Our credit
facility with Wachovia Bank, National Association prohibits us from declaring a
dividend with respect to our common stock without the lender’s approval. We
currently intend to retain our earnings, if any, and reinvest them in the
development of our business.
Securities
Authorized for Issuance Under Equity Compensation Plans
On July
7, 2005, our shareholders approved the LMI Aerospace, Inc. 2005 Long-term
Incentive Plan (the “2005 Plan”). The 2005 Plan replaced the Amended and
Restated LMI Aerospace, Inc. 1998 Stock Option Plan (the “1998 Plan”) as the
Company’s only compensation plan under which the Company’s common stock is
authorized for issuance to employees or directors. The 2005 Plan provides for
the grant of non-qualified stock options, incentive stock options, shares of
restricted stock, restricted stock units, stock appreciation rights, performance
awards, and other stock-based awards and cash bonus awards. Up to
1,200,000 shares of common stock are authorized for issuance under the 2005
Plan.
24
The
following table summarizes information about our equity compensation plan as of
December 31, 2007. All outstanding awards relate to the Company’s common
stock.
Equity
Compensation Plan Information
Issuer
Purchases of Equity Securities
In 1998,
the Company’s Board of Directors authorized the repurchase of up to 1,100,000
shares. As of December 31, 2007, the Company had purchased 960,520
shares under this arrangement, but the Company made no purchases of stock under
this arrangement during 2007.
25
Performance
Graph
Set forth
below is a line graph presentation comparing the yearly percentage change in
cumulative total shareholder returns since December 31, 2002 on an indexed basis
with the S & P 500 Index and the S&P Small Cap
Aerospace/Defense Index, which is a nationally recognized industry standard
index.
The
following graph assumes the investment of $100 in LMI Aerospace, Inc. Common
Stock, the S & P 500 Index and the S&P Small Cap
Aerospace/Defense Index as well as the reinvestment of all
dividends. There can be no assurance that the performance of the
Company’s stock will continue into the future with the same or similar trend
depicted in the graph below.
 26
The
selected financial data set forth below for each of the five years ended
December 31, 2007, should be read in conjunction with “Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of
Operations,” the consolidated financial statements, related notes and other
financial information included herein. The financial data for the years ended
December 31, 2003 through 2007 was derived from our consolidated financial
statements for those periods that were audited by BDO Seidman, LLP, independent
registered public accounting firm.
(Dollar
amounts in thousands, except share and per share data)
27
Overview
We are a leading provider of design
engineering services, structural components, assemblies, and kits to the
aerospace, defense, and technology industries. We primarily sell our
products and services to the large commercial aircraft, military, corporate and
regional aircraft, and technology markets within the aerospace and technology
industries. Historically, our business was primarily dependent on the
large commercial aircraft market, specifically with one principal customer. In
order to diversify our product and customer base, we implemented an acquisition
and marketing strategy in the late 1990’s that has broadened the number of
industries to which we sell our products and services and, within the aerospace
industry, diversified our customer base to reduce our dependence on the
principal customer. Our acquisition of D3 Technologies was
in furtherance of our growth strategy of increasing the array of value-added
services and solutions that we offer to our customers. We believe that OEMs and
Tier 1 aerospace companies will continue the trend of selecting their suppliers
based upon the breadth of more complex and sophisticated design and
manufacturing capabilities and value-added services and the ability of their
suppliers to manage large production programs.
As a
result of acquiring D3 Technologies and in accordance with the criteria set
forth in SFAS No. 131, “Disclosures about Segments of an Enterprise and Related
Information,” we are now organized into two reportable segments: Aerostructures
segment and Engineering Services segment. The Aerostructures segment
fabricates, machines, assembles, and kits formed, close tolerance aluminum and
specialty alloy components and sheet metal products for use by the aerospace,
semiconductor and medical products industries. The Engineering Services segment
provides engineering solutions to commercial and military aviation, aerospace,
military weapons systems, marine and industrial markets.
The
following table illustrates our sales percentages over the last three years to
our primary industries and markets.
__________________________________________________
(1) Includes
commercial consulting services, and various aerospace
products.
28
Results
of Operations
Year
ended December 31, 2007 compared to year ended December 31, 2006
The
following table provides the comparative data for 2007 and 2006:
(1) For
the five-month period commencing on our acquisition of D3 Technologies on July
31, 2007 and ending on December 31, 2007.
Aerostructures
Segment
Net
Sales. Net sales were
$138.1 million in 2007, an increase of 12.3% from $123.0 million in
2006. The following table summarizes our total sales by the market
served:
Net sales
for corporate and regional aircraft were $49.5 million during 2007 compared to
$47.4 million in 2006, an increase of 4.4%. This increase was
primarily attributable to higher production rates at Gulfstream.
Large
commercial aircraft generated net sales of $44.1 million in 2007 compared to
$37.8 million in 2006, an increase of 16.7%. Increase in net sales to
this market was driven by higher production rates on certain models at
Boeing. In particular, we generated net sales for the Boeing 737 of
$25.9 million in 2007, up 14.6% from $22.6 million in 2006, and net sales for
the Boeing 747 of $8.7 million in 2007, up 17.6% from $7.4 million in 2006. In
addition, sales for the Boeing 787, which primarily began in the first quarter
of 2007, generated $1.8 million for the year.
Net sales
of military products were $33.1 million in 2007 compared to $26.5 million in
2006, an increase of 24.9%. During the third quarter of 2007, we settled a claim
with a customer which generated $1.2 million of net sales. Excluding this
settlement, sales of military products was $31.9 million in 2007, an increase of
20.4% compared to 2006. This increase in net sales resulted from net sales for
the Sikorsky Blackhawk program which generated $18.4 million of net sales in
2007, up 49.6% from $12.3 million in 2006. Additionally, net sales
for the Boeing Apache helicopter generated $6.1 million in 2007, up 15.1% from
$5.3 million in 2006.
29
Net sales
of technology products were $7.3 million in 2007 compared to $6.2 million in
2006, an increase of 17.7%. This increase was due to higher net sales of
products used in semiconductor equipment.
Other net
sales are primarily consulting services for lean manufacturing, commercial sheet
metal and machined components and various aerospace products that are not easily
identifiable to the appropriate aircraft and market.
Engineering Services
Segment
Approximately
$28.6 million, or 94.1% of net sales, of the segment’s revenues were recorded
under reimbursement type contracts for engineering services which generate net
sales from labor hours incurred at varying, pre-negotiated rates and other
direct costs plus an administrative fee. Net sales under these
reimbursement contracts are primarily for commercial, corporate, and military
markets. Net sales for services for commercial aircraft were
approximately $15.4 million, or 50.7% of net sales. These revenues are primarily
from programs supporting Boeing’s 747, 777 and 787 platforms. Net
sales for services supporting corporate aircraft were approximately $8.3
million, or 27.3% of net sales, the majority of which is on the development of
new aircraft programs. Net sales of services for military programs were $4.8
million, or 15.8% of net sales. These military revenues were derived from
support provided on multiple Navy programs, F-35 and various other
programs.
Approximately
$1.9 million, or 6.2% of net sales, primarily related to design and delivery of
tooling on various programs supporting commercial aircraft.
30
Non-segment
Expenses
Other Income
(Expense), Net. Other expense was
$0.9 million for 2007, compared to $0.2 million for 2006. The increased expense
resulted from interest expense on borrowings due to the acquisition of D3
Technologies, as well as a charge for $0.2 million of unamortized prepaid
financing costs related to our former credit facility.
Income Tax
Expense. Income tax
expense for 2007 was $7.4 million compared to $5.3 million for 2006. During 2007
our effective income tax rate was 35.9%, up from 33.5% in 2006. The
lower 2006 effective tax rate was due to recognition of certain tax credits. Our
2007 effective tax rate was positively impacted by additional deductions
available for manufacturers and favorable changes in state apportionment while
negatively impacted by a higher tax rate for D3 Technologies and the reserving
of certain credits challenged by the Internal Revenue Service.
Year
ended December 31, 2006 compared to year ended December 31, 2005
The
following table provides the comparative data for 2006 and 2005:
31
Net sales
for corporate and regional aircraft were $47.4 million during 2006 compared to
$43.9 million in 2005, an increase of 8.0%. This increase was
primarily attributable to higher production rates at Gulfstream.
Large
commercial aircraft generated net sales of $37.8 million in 2006 compared to
$28.8 million in 2005, an increase of 31.3%. Net sales to this market
were driven by higher production rates on certain models at
Boeing. In particular, we generated net sales for the Boeing 737 of
$22.6 million in 2006, up 38.7% from $16.3 million in 2005, net sales for the
Boeing 747 of $7.4 million in 2006, up 17.5% from $6.3 million in 2005, and net
sales for the Boeing 777 of $5.7 million in 2006, up 32.6% from $4.3 million in
2005.
Net sales
of military products were $26.5 million in 2006 compared to $16.3 million in
2005, an increase of 62.6%. This increase in net sales resulted from
net sales for the Sikorsky Blackhawk program which generated $12.3 million of
net sales in 2006 compared to $0.8 million in 2005. Additionally, net
sales for the Boeing Apache helicopter generated $5.3 million in 2006, up 17.8%
from $4.5 million in 2005. Partially offsetting these increases was a
decline in net sales on the Lockheed F-16 and C-130 which generated $3.8 million
in 2006, down from $6.2 million in 2005, reflecting our planned exit from these
programs. Our contract on the F-16 and C-130 work expired at the end
of 2007. The remaining net sales of military products for 2006 and 2005
supported a large number of programs.
Net sales
of technology products were $6.2 million in 2006 compared to $6.0 million in
2005, an increase of 3.3%. An increase in net sales of components for
use in semiconductor products was substantially offset by a decline
in net sales of components for medical applications.
Other net
sales are primarily consulting services for lean manufacturing, commercial sheet
metal and machined components and various aerospace products that are not easily
identifiable to the appropriate aircraft and market.
32
Income Tax
Expense.> Income tax expense for 2006 was $5.3 million compared
to $3.1 million for 2005 due to increased pre-tax income. During 2006
our effective income tax rate was 33.5%, down from 37.8% in
2005. This reduction in effective rate was created by the utilization
of a capital loss carry forward which provided a tax benefit of $0.2 million
that had been fully reserved in prior years and the realization of research and
experimentation tax credits of $0.4 million for current and prior
years. Excluding these items, the effective tax rate would have been
approximately 37% in 2006.
Liquidity
and Capital Resources
On July
31, 2007, we entered into a new credit agreement. See Note 2 of the Consolidated
Financial Statements. The credit agreement provides for a senior secured
revolving credit facility in an aggregate principal amount of up to $80 million.
Borrowings under the credit facility are secured by substantially all of our
assets and bear interest at either the “base rate” (the higher of the federal
funds rate plus one-half of one percent or the prime commercial lending rate)
plus an applicable interest margin ranging from 0.125% to 1.0%, depending upon
our then total leverage ratio, or the LIBOR rate plus an applicable interest
margin ranging from 1.125% to 2.0% depending upon our then total leverage ratio.
The maturity date of the credit facility, which is subject to acceleration upon
breach of the financial covenants (consisting of a maximum total leverage ratio
and a minimum fixed charge coverage ratio) and other customary non-financial
covenants contained in the credit agreement, is July 31, 2012. In connection
with our acquisition of D3 Technologies, we borrowed a total of approximately
$38.5 million under the credit facility. The foregoing description of the credit
agreement does not purport to be complete and is qualified in its entirety by
reference to the credit agreement, a copy of which is attached as Exhibit 4.1 to
our Form 8-K filed with the Securities and Exchange Commission on August 6,
2007.
On
December 28, 2006, we entered into an agreement with a third party to sell and
lease back certain of our real estate properties for a total sale price of $10.3
million. The sale of one of these properties occurred on December 28, 2006 for a
sale price of $4.3 million. On February 13, 2007, the sale of the three
remaining properties was completed at a price of $6.0 million. The two operating
lease agreements resulting from the sales expire on February 28, 2025 and we
have the options for three additional five-year renewal terms. The combined
initial annual minimum lease payment for the four properties is $0.9 million and
will be increased by 2.3% per year. Total gain from the sale of these properties
in the amount of $4.2 million ($2.6 million as of December 31, 2006) was
deferred and will be recognized over the term of the leases. Proceeds from the
sale are included in cash and were available for general corporate
needs.
We generated cash from
operations of $3.2 million in 2007 compared to $6.2 million in 2006 and $5.3
million in 2005. Net cash provided by operating activities for 2007 was
favorably impacted by increased net income and non-cash restricted stock
compensation expense. Cash generated from operating activities was negatively
impacted by increases in trade accounts receivable of $6.6 million and inventory
of $7.9 million. The increase in accounts receivable was primarily due to
greater shipments near the end of 2007, changes in payment terms on certain
contracts affecting 2007 and shifting of sales to programs with longer payment
terms. The change in inventory consists of a $3.1 million increase in raw
materials, work in process and purchased components due to production increases
to support our growth in net sales and the growth in our assembly business and a
$3.9 million increase in finished goods primarily due to changes in inventory
management processes at two large customers.
Net cash
used in investing activities for the year ended December 31, 2007 was $56.1
million compared to $5.0 million and $2.8 million for the years ended December
31, 2006 and 2005, respectively. We paid $59.1 million, net of cash acquired, in
the 2007 acquisition of D3 Technologies. We spent $6.6 million on capital
expenditures primarily for equipment in order to meet current and expected
customer demand during 2007, compared to $6.7 million and $2.9 million during
2006 and 2005, respectively. The sale of our real estate properties discussed
above generated $5.9 million and $4.3 million of cash proceeds for 2007 and
2006, respectively.
33
Cash flow
provided by financing activities was $28.6 million in 2007 compared to $23.2
million cash provided and $2.9 million cash used in 2006 and 2005, respectively.
In connection with the acquisition of D3 Technologies, we incurred $38.5 million
of debt, of which $10.5 million was repaid by year end. Funds generated in 2006
resulted from our public offering of common stock completed on March 29, 2006,
reduced by payments of outstanding debt.
Our
capital budget for 2008 anticipates capital expenditures of approximately $9.0
million to $10.0 million. We expect to meet our ongoing working capital and
capital expenditure needs from a combination of our cash on hand, cash flow from
operating activities and cash obtained by drawing down our credit facility. In
addition, the available borrowings under our lending agreement described above
should be capable of supporting strategic acquisitions and investments in new
program development.
Off-Balance
Sheet Arrangements
Our
off-balance sheet arrangements consist primarily of operating leases as
reflected under “Contractual Obligations and Commitments” below.
Contractual
Obligations and Commitments
We had
the following contractual obligations and commitments for debt and
non-cancelable operating lease payments:
Critical
Accounting Estimates
Certain
accounting issues require management estimates and judgments for the preparation
of financial statements. We believe that the estimates, assumptions and
judgments involved in the accounting policies described below have the greatest
potential impact on our financial statements. Therefore, we consider these to be
our critical accounting estimates. Our management has discussed the development
and selection of these critical accounting estimates with the Audit Committee of
our Board of Directors, and the Audit Committee has reviewed our disclosure
relating to these estimates. Our most significant estimates and judgments are
listed below.
34
As
discussed in Note 1 to the Consolidated Financial Statements included as part of
this Annual Report on Form 10-K, we generate a significant portion of our
revenues and corresponding accounts receivable from sales to a limited number of
customers in the aerospace and technology industries. If these customers
experience significant adverse conditions in their industries or operations,
including the impact of the potential future downturn in demand for aerospace
and technology products, these customers may not be able to meet their ongoing
financial obligations to us for prior sales or purchase additional products
under the terms of existing contracts.
We sell
many of our products under fixed-price arrangements. Occasionally,
costs of production may exceed the market values of certain products and product
families, which requires us to adjust our inventory value. In these
circumstances, management is required to make estimates of costs not yet
incurred to determine the ultimate cost of these products that are in work in
process. Changes in the assumptions and estimates of such factors as expected
scrap, costs of material, labor and outside services and the amount of labor
required to complete the products may result in actual results that vary from
management’s estimates.
At times,
we accept new orders for products from our customers in which actual production
costs may differ from our expectations when we quoted the product. Additionally,
customers may request engineering changes or quality acceptance changes in
products that may alter the cost of products produced by us. In these
circumstances, we notify the customer of these issues and seek reimbursement for
costs incurred over and above the selling price of the products and re-pricing
of the product on future deliveries. Our inventory valuation considers the
estimated recovery of these costs. Actual negotiation of the claim amounts may
result in outcomes different from those estimated by us and may have material
impacts upon our operating results.
35
its fair value. Actual results may
vary significantly from our projections and may result in future material
adjustments to the goodwill balance on our financial statements.
Customer-related
intangible assets resulting from the acquisitions of D3 Technologies, Versaform
Corporation, and Technical Change Associates, Inc. have an original estimated
useful life of 5 to 15 years. However, if events or changes in
circumstances indicate that the carrying amount of these intangible assets may
not be recoverable, an impairment charge will be recognized for the amount by
which the carrying amount of these assets exceeds its fair value.
Income Taxes.> We account for
income taxes under the provisions of SFAS No. 109, “Accounting for Income Taxes”
(“SFAS No. 109”). The objectives of accounting for income taxes are to recognize
the amount of taxes payable or refundable for the current year and deferred tax
liabilities and assets for the future tax consequences of events that have been
recognized in our financial statements or tax returns. SFAS No. 109 also
requires that deferred tax assets be reduced by a valuation allowance if it is
more likely than not that some portion or all of the deferred tax asset will not
be realized.
Recent
Accounting Pronouncements
In
December 2007, the Financial Accounting Standard Board (“FASB”) issued
SFAS No. 141, (revised 2007), “Business Combinations” (“SFAS
No. 141(R)”), which continues the evolution toward fair value reporting and
significantly changes the accounting for acquisitions that close beginning in
2009, both at the acquisition date and in subsequent periods. SFAS
No. 141(R) introduces new accounting concepts and valuation complexities,
and many of the changes have the potential to generate greater earnings
volatility after an acquisition. SFAS No. 141(R) applies to acquisitions on
or after January 1, 2009 and will impact the Company’s reporting
prospectively only.
In
December 2007, FASB issued SFAS No. 160, “Noncontrolling Interests in
Consolidated Financial Statements – an amendment of ARB No. 51” (“SFAS
No. 160”), which requires companies to measure an acquisition of
noncontrolling (minority) interest at fair value in the equity section of the
acquiring entity’s balance sheet. The objective of SFAS No. 160 is to
improve the comparability and transparency of financial data as well as to help
prevent manipulation of earnings. The changes introduced by the new standards
are likely to affect the planning and execution, as well as the accounting and
disclosure, of merger transactions. The effective date to adopt SFAS
No. 160 for us is January 1, 2009 and we do not expect the adoption to
have a material effect on our results of operations and financial
position.
In
February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for
Financial Assets and Financial Liabilities - Including an Amendment of FASB
Statement No. 115” (“SFAS No. 159”). This standard permits an entity to choose
to measure many financial instruments and certain other items at fair value.
Most of the provisions in SFAS No. 159 are elective; however, the amendment to
FASB SFAS No. 115, “Accounting for Certain Investments in Debt and Equity
Securities”, applies to all entities with available-for-sale and trading
securities. The provisions of SFAS No. 159 are effective as of the beginning of
an entity’s first fiscal year that begins after November 15, 2007. We do
not expect the adoption of SFAS No. 159 to have a significant impact on our
consolidated financial statements.
In
September 2006, the FASB issued SFAS No. 157, “Fair Value
Measurements” (“SFAS No. 157”), which defines fair value, establishes a
framework for measuring fair value and expands disclosures about fair value
measurements. The provisions of SFAS No. 157 are effective for financial
statements issued for fiscal years beginning after November 15, 2007. In
February of 2008, the FASB issued FASB Staff position No. 157-2 which delays the
effective date of SFAS No. 157 for non-financial assets and liabilities which
are not measured at fair value on a recurring basis (at least annually) until
fiscal years beginning after November 15, 2008. We are currently in the
process of evaluating the impact of the adoption of SFAS No. 157 on our
consolidated financial statements.
36
In
July 2006, the FASB issued FASB Interpretation No. 48, “Accounting for
Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109”
(“FIN 48”), which prescribes a recognition threshold and measurement process for
recording in the financial statements, uncertain tax positions taken or expected
to be taken in a tax return. In addition, FIN 48 provides guidance on the
derecognition, classification, accounting in interim periods and disclosure
requirements for uncertain tax positions. The adoption of FIN 48 on
January 1, 2007 did not have a significant impact on our consolidated
financial statements.
Market
risk represents the risk of loss that may impact our consolidated financial
position, results of operations or cash flows. We are exposed to
market risk primarily due to fluctuations in interest rates. We do
not utilize any particular strategy or instruments to manage our interest rate
risk.
Our
outstanding credit facility carries a fluctuating interest rate that varies
based on changes on the prime lending rate of Wachovia. Accordingly, we are
subject to potential fluctuations in our debt service. Based on the amount of
our outstanding debt as of December 31, 2007, a hypothetical 1% change in the
interest rate of our outstanding credit facility would result in a change in our
annual interest expense of approximately $0.3 million during the next fiscal
year. However, we had the ability to fix the interest rate under LIBOR for a
period not to exceed six months. Subsequent to December 31, 2007, our credit
agreement was amended to allow us to fix the interest rate under LIBOR for up to
one year (see Note 2 to Consolidated Financial Statements). While not
eliminating interest rate risk, this allows us to moderate the impact of changes
in Wachovia’s prime lending rate.
37
The
following financial statements are included in Item 8 of this
report:
38
Board of
Directors and Stockholders
LMI
Aerospace, Inc.
St.
Charles, Missouri
We have
audited the accompanying consolidated balance sheets of LMI Aerospace, Inc. as
of December 31, 2007 and 2006 and the related consolidated statements of
operations, stockholders’ equity, and cash flows for each of the three years in
the period ended December 31, 2007. In connection with our audits of the
financial statements, we have also audited the accompanying Schedule II,
“Valuation and Qualifying Accounts” for each of the three years in the period
ended December 31, 2007. These financial statements and schedule are
the responsibility of the Company’s management. Our responsibility is
to express an opinion on these financial statements and schedules based on our
audits.
We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (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, assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall presentation of the financial statements and schedule. We
believe that our audits provide a reasonable basis for our opinion.
In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of LMI Aerospace, Inc. at
December 31, 2007 and 2006, and the results of its operations and its cash flows
for each of the three years in the period ended December 31, 2007, in conformity
with accounting principles generally accepted in the United States of
America.
Also, in
our opinion, the financial statement schedule, when considered in relation to
the basic consolidated financial statements taken as a whole, presents fairly,
in all material respects, the information set forth therein.
We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), LMI Aerospace, Inc.’s internal control over
financial reporting as of December 31, 2007, based on criteria established in
Internal Control – Integrated
Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO) and our report dated March 12, 2008 expressed an
unqualified opinion thereon.
/s/ BDO
Seidman LLP
Chicago,
Illinois
March 12,
2008 39
See
accompanying notes to the consolidated financial statements. 40
See
accompanying notes to the consolidated financial statements.
41
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