UNITED STATES SECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C. 20549-1004
FORM 10-Q
COMMISSION FILE NUMBER 1-11846
AptarGroup, Inc.
475 West Terra Cotta Avenue, Suite E, Crystal Lake, Illinois 60014
815-477-0424
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 Noo
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes x Noo
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date (November 6, 2003).
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Form 10-Q
Quarter Ended September 30, 2003
INDEX
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AptarGroup, Inc.CONSOLIDATED STATEMENTS OF INCOME(Unaudited)
In thousands, except per share amounts
See accompanying notes to consolidated financial statements.
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AptarGroup, Inc.CONSOLIDATED BALANCE SHEETS(Unaudited)
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AptarGroup, Inc.CONSOLIDATED STATEMENTS OF CASH FLOWS(Unaudited)
In thousands, brackets denote cash outflows
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AptarGroup, Inc.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Amounts in Thousands, Except per Share Amounts, or Otherwise Indicated)(Unaudited)
NOTE 1 — BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements include the accounts of AptarGroup, Inc. and its subsidiaries. The terms “AptarGroup” or “Company” as used herein refer to AptarGroup, Inc. and its subsidiaries. In the opinion of management, the unaudited consolidated financial statements include all adjustments, consisting of only normal recurring adjustments, necessary for a fair presentation of consolidated financial position, results of operations, and cash flows for the interim periods presented. The accompanying unaudited consolidated financial statements have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosure normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures made are adequate to make the information presented not misleading. Accordingly, these unaudited consolidated financial statements and related notes should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2002. The results of operations of any interim period are not necessarily indicative of the results that may be expected for the year. At September 30, 2003 and September 30, 2002, the Company had stock-based employee compensation plans. The Company accounts for those plans under the recognition and measurement principles of APB Opinion No. 25, “Accounting for Stock Issued to Employees,” and related Interpretations. No stock-based employee compensation cost is reflected in net income, as all options granted under those plans had an exercise price equal to the market value of the underlying common stock on the date of grant. The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of SFAS No. 123, “Accounting for Stock-Based Compensation,” to stock-based employee compensation.
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NOTE 2 — INVENTORIES
At September 30, 2003 and December 31, 2002, approximately 21% and 23%, respectively, of the total inventories are accounted for by using the last-in, first-out (LIFO) method, while the remaining inventories are valued using the first-in, first-out (FIFO) method. Inventories, by component, consisted of:
Inventories are stated at cost, which is lower than market. Costs included in inventories are raw materials, direct labor and manufacturing overhead.
NOTE 3 — GOODWILL AND OTHER INTANGIBLE ASSETS
The table below shows a summary of intangible assets as of September 30, 2003 and December 31, 2002.
Aggregate amortization expense for the intangible assets above for the quarters ended September 30, 2003 and 2002 was $537 and $346, respectively. Aggregate amortization expense for the intangible assets above for the nine months ended September 30, 2003 and September 30, 2002 was $1,508 and $859, respectively.
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Estimated amortization expense for the years ending December 31 is as follows:
Future amortization expense may fluctuate depending on changes in foreign currency rates. The estimates for amortization expense noted above are based upon foreign exchange rates as of September 30, 2003. The changes in the carrying amount of goodwill since the year ended December 31, 2002 are as follows by reporting segment:
NOTE 4 — COMPREHENSIVE INCOME
AptarGroup’s total comprehensive income was as follows:
NOTE 5 — DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
The Company maintains a foreign exchange risk management policy designed to establish a framework to protect the value of the Company’s non-functional currency denominated transactions from adverse changes in exchange rates. Sales of the Company’s products can be denominated in a currency different from the currency in which the related costs to produce the product are denominated. Changes in exchange rates on such inter-country sales impact the Company’s results of operations. The Company’s policy is not to engage in speculative foreign currency hedging activities, but to minimize its net foreign currency transaction exposure defined as firm commitments and transactions recorded and denominated in currencies other than the functional currency. The Company may use foreign currency forward exchange contracts and collars, currency swaps, options and cross currency swaps to hedge these risks. The Company maintains an interest rate risk management strategy to minimize significant, unanticipated earnings fluctuations that may arise from volatility in interest rates. For derivative instruments designated as hedges, the Company formally documents the nature and relationships between the hedging instruments and the hedged items, as well as the risk management objectives, strategies for undertaking the various hedge transactions, and the method of assessing hedge effectiveness. Additionally, in order to designate any derivative instrument as a hedge of an anticipated transaction, the significant characteristics and expected terms of any anticipated transaction must be specifically identified, and it must be probable that the anticipated transaction will occur.
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FAIR VALUE HEDGES
CASH FLOW HEDGES
HEDGE OF NET INVESTMENTS IN FOREIGN OPERATIONS
OTHER
NOTE 6 — COMMITMENTS AND CONTINGENCIES
The Company, in the normal course of business, is subject to a number of lawsuits and claims both actual and potential in nature. Management believes the resolution of these claims and lawsuits will not have a material adverse or positive effect on the Company’s financial position, results of operations or cash flow. Under its Certificate of Incorporation, the Company has agreed to indemnify its officers and directors for certain events or occurrences while the officer or director is, or was serving, at its request in such capacity. The maximum potential amount of future payments the Company could be required to make under these indemnification agreements is unlimited; however, the Company has a directors and officers liability insurance policy that covers a portion of its exposure. As a result of its insurance policy coverage, the Company believes the estimated fair value of these indemnification agreements is minimal. The Company has no liabilities recorded for these agreements as of September 30, 2003.
NOTE 7 — STOCK REPURCHASE PROGRAM
The Board of Directors authorized the repurchase of a maximum of three million shares of the Company’s outstanding common stock. The timing of and total amount expended for the share repurchase depends upon market conditions. During the quarter ended September 30, 2003, the Company did not repurchase any shares. The cumulative total number of shares repurchased at September 30, 2003 was approximately 1.4 million shares for an aggregate amount of $36.5 million.
NOTE 8 — STRATEGIC INITIATIVE
As of December 31, 2002, the Company essentially completed a project (“Strategic Initiative”) started in 2001 that improved the efficiency of operations that produced pumps for its mass-market fragrance/cosmetic and personal care customers. In addition to improving efficiency and reducing costs, the Strategic Initiative also has improved customer service through reduced lead times and the ability to customize finished products on a local basis. As part of the Strategic Initiative, the Company closed one molding operation in the U.S. and consolidated the molding and assembly of the base cartridge (standard internal components common to modular pumps) into one of the Company’s facilities in Italy. The Company also closed several of its sales offices in certain foreign countries. There were no charges related to the Strategic Initiative for the quarter or nine months ended September 30, 2003 and total charges before taxes related to the Strategic Initiative for the quarter and nine months ended September 30, 2002 were approximately $36 and $1,439, respectively.
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Details of the pre-tax charges and changes in the reserves for nine months ended September 30, 2003 and 2002 are shown in the following table:
In thousands
The remaining $137 thousand reserve as of September 30, 2003 is expected to be paid out during 2003.
NOTE 9 — EARNINGS PER SHARE
AptarGroup’s authorized common stock consisted of 99 million shares, having a par value of $0.01 each. Information related to the calculation of earnings per share is as follows:
No antidilutive options were outstanding for the quarter ended September 30, 2003. For the quarter ended September 30, 2002, options to purchase 1,000 shares of common stock were outstanding but not included in the computation of diluted earnings per share because the options’ exercise price was greater than the average market price of the common shares and, therefore, the effect would be antidilutive. Options to purchase 1,500 and 1,000 shares common stock were outstanding for the nine months ended September 30, 2003 and September 30, 2002, respectively, but not included in the computation of diluted earnings per share because the options’ exercise price was greater than the average market price of the common shares and, therefore, the effect would be antidilutive.
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NOTE 10 — SEGMENT INFORMATION
The Company operates in the packaging components industry, which includes the development, manufacture and sale of consumer product dispensing systems. The Company is organized primarily based upon individual business units, which resulted from historic acquisitions or internally created business units. All of the business units sell primarily dispensing systems. These business units all require similar production processes, sell to similar classes of customers and markets, use the same methods to distribute products and operate in similar regulatory environments. Based on the current economic characteristics of the Company’s business units, the Company has identified two reportable segments: Dispensing Systems and SeaquistPerfect. The Dispensing Systems segment is an aggregate of four of the Company’s five business units. The Dispensing Systems segment sells primarily non-aerosol spray and lotion pumps, plastic dispensing and non-dispensing closures, and metered dose aerosol valves. These three products are sold to all of the markets served by the Company including the fragrance/cosmetic, pharmaceutical, personal care, household, and food/beverage markets. SeaquistPerfect represents the Company’s fifth business unit and sells primarily aerosol valves and accessories and certain non-aerosol spray and lotion pumps. These products are sold primarily to the personal care, household, and food/beverage markets. The accounting policies of the segments are the same as those described in Note 1, Summary of Significant Accounting Policies in the Company’s Annual Report on Form 10-K for the year ended December 31, 2002. The Company evaluates performance of its business units and allocates resources based upon earnings before interest expense in excess of interest income, corporate expenses and income taxes (collectively referred to as “EBIT”) excluding unusual items. The Company accounts for intersegment sales and transfers as if the sales or transfers were to third parties.
Financial information regarding the Company’s reportable segments is shown below:
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Reconciliation of segment EBIT to consolidated income before income taxes is as follows:
NOTE 11 — PATENT DISPUTE SETTLEMENT
In May 2002, the Company announced an agreement settling an outstanding patent dispute to avoid the time and expense of a trial. As part of the settlement, the parties entered into a cross-license agreement. As a result of the settlement, the Company recorded a pre-tax charge of $4.2 million ($2.7 million after-tax) in the first quarter of 2002.
NOTE 12 — ACQUIRED RESEARCH AND DEVELOPMENT CHARGE
In the third quarter of 2003, the company acquired intellectual property (patents, licenses and know how) and equipment relating to certain dry powder technology dispensing systems for the pharmaceutical market. Approximately $1.3 million ($.8 million after-tax) of acquired intellectual property was expensed in the quarter as it was for a particular research and development project while the equipment purchased was capitalized and included in fixed assets.
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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONAND RESULTS OF OPERATIONS(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS, OR OTHERWISE INDICATED)
RESULTS OF OPERATIONS
NET SALES
We achieved net sales for the quarter and nine months ended September 30, 2003 of $281.3 million and $834.5 million, respectively, or 17% and 21% above the quarter and nine months ended 2002 net sales of $239.8 million and $691.6 million, respectively. The U.S. dollar was approximately 14% and 20% weaker compared to the Euro for the third quarter and nine months ended September 30, 2002, respectively. The weaker U.S. dollar compared to the Euro had a positive impact on the translation of our European subsidiaries into U.S. dollars for both the quarter and nine months. Changes in foreign currency rates accounted for approximately $19 million and $70 million of the net sales increase for the quarter and nine months ended September 30, 2003, respectively. An increase in sales of custom injection molds and equipment to our customers accounted for approximately $12 million and $20 million of the sales increase for the quarter and nine months ended September 30, 2003. Excluding changes in foreign currency rates, sales of our products to the food/beverage market increased significantly over the prior year for the quarter and first nine months of the year reflecting the acceptance of our inverted dispensing systems by this market. Included in sales to the food market is $500 thousand of license revenue realized in the third quarter. Excluding changes in foreign currency rates, sales of our products to the fragrance/cosmetic market were up less in the third quarter than the previous six months reflecting a general slow down in incoming orders first noticed at the end of the second quarter. For the first nine months, sales of our products to the fragrance/cosmetics market remain up modestly compared to the same period a year ago. Excluding changes in foreign currency rates, sales of our products to the personal care market increased solidly over the prior year for the quarter and nine months ended September 30, 2003 reflecting increased unit volumes related to new product introductions. Excluding changes in foreign currency rates, sales of our products to the pharmaceutical market increased significantly over the prior year for the quarter ended September 30, 2003 reflecting an increase in the sale of custom molds and equipment as well an increase in unit volumes. For the first nine months, sales of our products to the pharmaceutical market increased modestly over the same period in the prior year. Excluding changes in foreign currency rates, sales of our products to the household market decreased over the prior year for both the quarter and first nine months of the year due primarily to the elimination of low margin accounts in the fourth quarter of 2002. Pricing pressure continued across all the markets we serve and in particular for our dispensing closure and our low-end fragrance/cosmetic products and had a negative impact on the sales in the quarter and first nine months of 2003.
The following table sets forth, for the periods indicated, net sales by geographic location:
The primary reason for the growth in sales coming from Europe compared to the prior year is the strengthening of the Euro compared to the U.S. dollar in 2003.
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COST OF SALES (EXCLUSIVE OF DEPRECIATION SHOWN BELOW)
Our cost of sales as a percent of net sales increased to 66.0% and 65.5% in the third quarter and nine months ended September 30, 2003, respectively compared to 64.4% and 64.0% for the same periods a year ago. Our cost of sales percentage was negatively influenced by the following factors in 2003:
Higher Amount of Tooling and Equipment Sales. We reported approximately $12 million and $20 million increase in sales of tooling to customers in the third quarter and first nine months of 2003, respectively, compared to the same periods in the prior year. Typically, tooling and equipment sales to customers generate lower margins than our traditional product sales and have a much higher cost of sales component than regular product sales as we view tooling and equipment sales as a vehicle to generate additional product sales. As a result, the increase in tooling sales in the quarter and first nine months of 2003 had the most significant negative impact on the cost of goods sold as a percentage of net sales, for both the quarter and nine months ended September 30, 2003 compared to the same periods in the prior year.
Strengthening of the Euro. We are a net exporter from Europe of products produced in Europe with costs denominated in Euros. As a result, when the Euro strengthens against the U.S. dollar or other currencies, products produced in Europe, exported from Europe and sold in currencies which have weakened against the Euro increase our costs, thus having a negative impact on cost of sales as a percentage of net sales. This increase in costs more than offset any positive impacts coming from the translation of foreign denominated financial statements into U.S. dollars for the quarter and nine months ended September 30, 2003.
Continued Price Pressure. Pricing pressure continues in all the markets we serve, particularly for dispensing closure and low-end fragrance/cosmetic products.
Increased Production Costs for New Product Introductions. We introduced several new products in the first nine months of the year to both the food/beverage and personal care markets. The start-up costs associated with these new products was higher than we anticipated, thus leading to an increase in the cost of sales as a percentage of net sales for the quarter and nine months ended September 30, 2003.
Partially offsetting the above mentioned negative factors were the following positive impacts in 2003:
Improved Overhead Utilization. Our increase in sales, particularly to the personal care and fragrance/cosmetic and markets, helped improve overhead utilization and helped reduce cost of sales as a percentage of net sales.
Cost Reduction Efforts. We achieved significant cost reductions at several of our operations, particularly related to our Strategic Initiative project. In addition, repairs and maintenance expense as a percent of net sales decreased in the quarter and nine months ended September 30, 2003 compared to the prior year.
SELLING, RESEARCH & DEVELOPMENT AND ADMINISTRATIVE
Our Selling, Research & Development and Administrative expenses (“SG&A”) increased by approximately $5.0 million in the third quarter of 2003 compared to the same period a year ago. Approximately $3.2 million of the increase in SG&A is related to the weakened U.S. dollar compared to other currencies in particular the Euro compared to the prior year. Approximately 60% of our business is based in Europe and have costs denominated in Euros. The remaining increase in SG&A costs is primarily attributed to an increase in insurance and pension related costs as well as the timing of patent filing expenses for our new products. This increase in expense was offset partially by the cost reduction efforts related to the Strategic Initiative. SG&A as a percentage of net sales for the quarter ended September 30, 2003 decreased to 15.1% from 15.6% in 2002. Our SG&A costs increased approximately $18.2 million for the nine months ended September 30, 2003 compared to the same period a year ago. Changes in foreign currency rates accounted for approximately $12.5 million of the increase in SG&A costs. The remaining increase in SG&A costs is primarily related to insurance and pension related cost increases as well as the timing of patent filing expenses for our new products, offset partially by the cost reduction effort achieved related to the Strategic Initiative. SG&A as a percentage of net sales for the nine months ended September 30, 2003 decreased to 15.4% from 16.0% in 2002.
DEPRECIATION AND AMORTIZATION
Depreciation and amortization increased approximately $2.4 million in the third quarter of 2003 to $21.5 million compared to $19.0 million in the third quarter of 2002. Approximately $1.6 million of the increase is due to changes in foreign currency rates compared to the U.S. dollar in 2003. The remainder of the increase in depreciation and amortization expense is due to increased capital expenditures in the prior years.
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Depreciation and amortization increased approximately $10.6 million for the first nine months of 2003 to $63.8 million compared to $53.2 million for the first nine months of 2002. Approximately $6.0 million of the increase is due to changes in foreign currency rates compared to the U.S. dollar in 2003. The remainder of the increase in depreciation and amortization expense is due to increased capital expenditures in the prior years.
ACQUIRED RESEARCH AND DEVELOPMENT CHARGE
We acquired intellectual property and equipment relating to certain dry powder technology dispensing systems for the pharmaceutical market during the third quarter of 2003. As a result, we are required to expense the acquired research and development costs of approximately $1.3 million ($.8 million after-tax) in the third quarter of this year as they were for a particular research and development project.
PATENT DISPUTE SETTLEMENT
In May 2002, we announced an agreement settling an outstanding patent dispute to avoid the time and expense of a trial. As part of the settlement, the parties entered into a cross-license agreement. Patent dispute settlement charges of approximately $4.2 million ($2.7 million after-tax) were recorded in the quarter ended March 31, 2002.
OPERATING INCOME
Operating income increased approximately $1.4 million in the third quarter of 2003 to $30.4 million compared to $29.0 million in the prior year. The increase in operating income is primarily due to the increase in sales volume offset partially by the net negative impact of changes in foreign currency rates and other cost increases mentioned earlier. Operating income increased approximately $13.9 million for the nine months ended September 30, 2003 to $94.2 million compared to $80.3 million in the prior year. Similar to the quarter, the increase in operating income is due to the increase in sales volume offset by the net negative impact of changes in foreign currency rates and other cost increases mentioned earlier.
NET OTHER EXPENSE
Net other expenses in the third quarter of 2003 decreased to $2.0 million from $2.3 million in the prior year primarily reflecting decreased interest expense of $0.4 million and increased interest income of $0.2 million, partially offset by an increase in minority interest expense. The reduction in interest expense is due to a reduction in interest rates compared to the prior year, while the increase in minority interest expense is due to an improvement in profitability of consolidated subsidiaries owned less than 100%. Net other expenses for the nine months ended September 30, 2003 decreased to $4.9 million from $7.8 million in the prior year primarily due to decreased foreign currency losses of approximately $1.2 million, decreased interest expense of $1.1 million, and increased interest income of $0.8 million. The foreign currency losses are the result of marking to market any open forward foreign currency contracts as well as the settlement and marking to the spot rate of non-functional currency denominated receivables and payables.
EFFECTIVE TAX RATE
The reported effective tax rate for the three months and nine months ended September 30, 2003 was 32.8% and 33.2%, respectively, compared to 33.4% and 33.0% for the same periods a year ago. The change in the effective tax rate for the quarter and nine months is primarily attributed to the mix of income earned.
NET INCOME
We reported net income for the third quarter of 2003 of $19.1 million compared to $17.8 million reported in the third quarter of 2002. Net income for the nine months ended September 30, 2003 was $59.7 million compared to $48.6 million for the first nine months of the prior year.
DISPENSING SYSTEMS SEGMENT
The Dispensing Systems segment is an aggregate of four of our five business units. The Dispensing Systems segment sells primarily non-aerosol spray and lotion pumps, plastic dispensing closures, and metered dose aerosol valves. These products are sold to all the markets we serve.
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Our net sales for the Dispensing Systems segment grew by approximately 19% in the third quarter of 2003 over the third quarter of 2002 reflecting strong sales of our dispensing closure product range to the food/beverage and personal care markets as well as an increase in sales of custom injection molds and equipment to our customers The strengthening Euro also helped contribute to the sales increase. Approximately $16.9 million of the $37.3 million increase in sales was the result of changes in foreign currency exchange rates. Net sales for the Dispensing Systems segment grew approximately 22% in the first nine months of 2003 compared to the first nine months of 2002, reflecting once again, strong sales of our dispensing closure product range to the food/beverage and personal care markets as well as increased sales of our pumps to the fragrance/cosmetic market and an increase in sales of custom injection molds and equipment to our customers. Approximately $61.1 million of the $124.8 million increase in sales was the result of changes in foreign currency exchange rates. Segment EBIT in the third quarter of 2003 increased 5% to $31.1 million compared to $29.6 million reported in the prior year. The increase in EBIT from the prior year is primarily related to the increased sales volumes as well as cost savings achieved through our Strategic Initiative project. Somewhat offsetting these positive effects were an increase in start up costs related to a large number of new product introductions in the food/beverage and personal care market and the negative impact of incurring manufacturing costs in Euros and selling in currencies that weakened against the Euro in the quarter compared to the prior year. Segment EBIT in the first nine months of 2003 increased approximately 10% to $94.9 million compared to $86.0 million reported in the first nine months of the prior year. The increase in EBIT from the prior year is primarily due to the increase in sales volume and better utilization of fixed costs in the fragrance/cosmetic production facilities as well as cost savings achieved through our Strategic Initiative project. Partially offsetting these positive effects were an increase in start up costs related to a large number of new product introductions in the food/beverage and personal care market and the negative impact of incurring manufacturing costs in Euros and selling in currencies that weakened against the Euro in the first nine months compared to the prior year.
SEAQUISTPERFECT SEGMENT
SeaquistPerfect represents our fifth business unit and sells primarily aerosol valves and accessories and certain non-aerosol spray and lotion pumps. These products are sold primarily to the personal care, household, and food/beverage markets.
Net sales for the quarter ended September 30, 2003 increased 10%, or approximately $4.3 million, to $47.0 million from $42.7 million reported in the third quarter of the prior year. Approximately $2.2 million of the $4.3 million increase is due to the change in foreign currency rates from the prior year. Net sales decreased in North America but were offset by an increase in net sales in Europe. Net sales to the personal care market increased for the quarter ended September 30, 2003 compared to the prior year, while net sales to the household market were flat compared to the prior year. Net sales for the SeaquistPerfect segment for the first nine months of 2003, increased approximately 13% or $16.2 million compared to the first nine months of the prior year. Approximately $9.1 million of the $16.2 million increase is due to the change in foreign currency exchange rates. The remainder of the increase is due to an increase in sales to the personal care market offset slightly by a decrease in sales to the household market. The decrease in sales to the household market is primarily due to the replacement of low margin accounts with higher margin business in the fourth quarter of 2002. Net sales for the first nine months of 2003 decreased in North America while sales in Europe for the first nine months of 2003 increased.
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Segment EBIT in the third quarter of 2003 increased approximately 54% to $4.7 million compared to $3.0 million reported in the prior year. EBIT increased over the prior year in both North America and Europe. In North America, EBIT increased in spite of a decrease in sales reflecting productivity improvements over the prior year, higher new product sales and the change in product mix eliminating low margin accounts. In Europe, the increase in EBIT reflects the increase in sales volume and the mix of products sold. Segment EBIT in the first nine months of 2003 increased approximately 46% to $13.5 million compared to $9.2 million reported in the first nine months of the prior year. EBIT increased over the prior year in both North America and Europe reflecting increased sales volumes in Europe combined with productivity improvements, higher new product sales and the elimination of low margin accounts in North America. See Note 10 to the Notes to Consolidated Financial Statements for a reconciliation of the EBIT amounts to the Company’s income before income taxes.
FOREIGN CURRENCY
A significant number of our operations are located outside of the United States. Because of this, movements in exchange rates may have a significant impact on the translation of the financial condition and results of operations of our entities. Our primary foreign exchange exposure is to the Euro, but we also have foreign exchange exposure to South American and Asian currencies as well as the Swiss Franc and British Pound. A weakening U.S. dollar relative to foreign currencies has an additive translation effect on our financial condition and results of operations. Conversely, a strengthening U.S. dollar has a dilutive effect. Additionally, we are a net importer of products produced in European countries with Euro based costs, into the U.S. and sold in U.S. dollars. The strengthening Euro compared to the U.S. dollar makes imported European produced products more expensive thus reducing operating income margins.
QUARTERLY TRENDS
Customer plant shutdowns and holidays in December typically have negatively impacted our results of operations for the fourth quarter. In the future, our results of operations in a quarterly period could be impacted by factors such as changes in product mix, changes in material costs, changes in growth rates in the industries to which our products are sold, and changes in general economic conditions in any of the countries in which we do business.
LIQUIDITY AND CAPITAL RESOURCES
Our financial condition continued to strengthen in the third quarter of 2003. Cash and equivalents increased to $148.9 million from $90.2 million at December 31, 2002. Total short and long-term interest bearing debt decreased slightly in the first nine months of 2003 to $224.0 million from $226.9 million at December 31, 2002. The ratio of Net Debt (interest bearing debt less cash and cash equivalents) to Net Capital (stockholder’s equity plus Net Debt) decreased to 10% compared to 19% as of December 31, 2002. For the first nine months of 2003, net cash provided by operations of $111.3 million was flat compared to the same period a year ago. In both periods, cash flow from operations was primarily derived from earnings before depreciation and amortization. Earnings before depreciation and amortization in the first nine months of 2003 increased over the prior year, but was offset by an increase in inventory and accounts receivable reflecting the increased level of sales in 2003. During the first nine months of 2003, we utilized the majority of operating cash flows to finance capital expenditures, pay down long-term debt obligations, and pay dividends to shareholders. We used $55.0 million in cash for investing activities during the first nine months of 2003, compared to $63.2 million during the same period a year ago. The decrease in cash used for investing activities is due to fewer cash outlays for capital expenditures compared to the prior year. Cash outlays for capital expenditures for the full year 2003 are estimated to be approximately $80 to $85 million. Cash used by financing activities decreased to $8.5 million in the first nine months of 2003 compared to $25.3 million in the same period a year ago. The decrease in cash used by financing activities is primarily due to an increase in short term borrowings of approximately $3.6 million from December 31, 2002 compared to repayments of short term borrowings of $2.2 million from December 31, 2001. In addition, a reduction in repayments of long-term debt obligations of $5.1 million and an increase in proceeds from stock option exercises of $4.2 million also contributed to the decrease in cash used by financing activities. The majority of the increase in short term borrowings occurred in the U.S. The majority of our $148.9 million in cash and cash equivalents is located outside of the U.S. We are currently in an overall foreign loss (“OFL”) tax situation in the U.S. Any foreign dividend repatriated back to the U.S. would be taxed up to the extent of the OFL. The negative tax consequences of the OFL would impact approximately the first $10 million in foreign dividends repatriated back to the U.S. Assuming we repatriated approximately $10 million in dividends from foreign entities, we estimate that the cash cost to repatriate these dividends would be approximately $2 million.
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We have a $100 million unsecured revolving credit agreement. Under this credit agreement, interest on borrowings is payable at a rate equal to LIBOR plus an amount based on our financial condition. At September 30, 2003 and December 31, 2002, the amount unused and available under this agreement was $27 million. We are required to pay a fee for the unused portion of the commitment. The agreement expires on June 30, 2004. Since we have not yet replaced, renegotiated or extended the terms of the unsecured revolving credit agreement, the $73 million used at September 30, 2003 is shown as short-term notes payable on the consolidated balance sheet. We have no reason to believe we will not be successful in replacing, renegotiating or extending the terms of the agreement before June 30, 2004. Our foreign operations have historically met cash requirements with the use of internally generated cash or borrowings. Foreign subsidiaries have financing arrangements with several foreign banks to fund operations located outside of the U.S., but all of these lines are uncommitted. Cash generated by foreign operations has generally been reinvested locally. We believe we are in a strong financial position and have the financial resources to meet business requirements in the foreseeable future. We have historically used cash flow from operations as our primary source of liquidity. If customer demand would decrease significantly for a prolonged period of time and negatively impact cash flow from operations, we would have the ability to restrict and significantly reduce capital expenditure levels, which historically have been the most significant use of cash for us. The Board of Directors declared a quarterly dividend of $.07 per share payable on November 19, 2003 to stockholders of record as of October 29, 2003.
OFF-BALANCE SHEET ARRANGEMENTS
We lease certain warehouse, plant, and office facilities as well as certain equipment under noncancelable operating leases expiring at various dates through the year 2018. Most of the operating leases contain renewal options and certain equipment leases include options to purchase during or at the end of the lease term. We have an option on one building lease to purchase the building during or at the end of the term of the lease at approximately the amount expended by the lessor for the purchase of the building and improvements. If we do not exercise the purchase option at the end of the lease, we would be required to pay an amount not to exceed $9.5 million. Other than operating lease obligations, we do not have any off-balance sheet arrangements.
ADOPTION OF ACCOUNTING STANDARDS
In January 2003, the Financial Accounting Standards Board, (“FASB”) issued Interpretation No. (“FIN”) 46, “Consolidation of Variable Interest Entities.” The objective of FIN 46 is to improve financial reporting by companies involved with variable interest entities. Prior to FIN 46, companies have generally included another entity in its consolidated financial statements only if it controlled the entity through voting interest. FIN 46 changes that by requiring a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk or loss from the variable interest entity’s activities or entitled to receive a majority of the entity’s residual returns or both. Consolidation by a primary beneficiary of the assets, liabilities and results of activities of variable interest entities will provide more complete information about the resources, obligations, risks and opportunities of the consolidated company. We do not have any investments in variable interest entities. The effective date for FIN 46 is the first interim or annual period ending after December 15, 2003. In April 2003, the FASB issued Statement of Financial Accounting Standards (“SFAS”) No. 149 “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” SFAS No. 149 amends and clarifies financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts (collectively referred to as derivatives) and for hedging activities under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” This statement is effective for contracts entered into or modified after June 30, 2003. We currently do not have any derivative instruments clarified by this statement but will apply the new statement should any be entered into subsequent to June 30, 2003. In May 2003, the FASB issued SFAS No. 150 “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” SFAS No. 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. This statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003, except for mandatory redeemable financial instruments of nonpublic entities. We currently do not have any of these financial instruments.
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OUTLOOK
The horizon of our sales visibility continues to be very short and this makes our ability to forecast quite difficult. We do expect our strong sales to the food/beverage and personal care markets to continue into the fourth quarter. The modest reduction in the incoming orders for the fragrance/cosmetic market that we saw at the end of the second quarter has continued into the third quarter and is an indication that fragrance/cosmetic sales may not be as strong in the fourth quarter this year as they were in the prior year. We received notification by one of our major pharmaceutical customers of a planned inventory reduction that will negatively impact sales of our products to the pharmaceutical market in the fourth quarter. Raw material costs, in particular plastic resin costs, have stabilized somewhat in the second half of the year and have begun to decrease slightly. We do not expect raw material prices to have a significant impact on the fourth quarter 2003 results. We continue to face price competition in all of our markets we serve but this pricing pressure is mitigated by our ability to offer innovative new products and further penetrate the markets we serve. In particular, we are beginning to see an increase in activity coming from Asian competitors against whom we have not traditionally competed. Should these Asian competitors be successful introducing their products to our traditional markets, price competition could intensify in the future. We expect fourth quarter 2003 diluted earnings per share to be in the range of $.45 to $.50 per share, compared to $.50 per share reported in the fourth quarter of 2002.
FORWARD-LOOKING STATEMENTS
This Management’s Discussion and Analysis and certain other sections of this Form 10-Q contain forward-looking statements that involve a number of risks and uncertainties. Forward-looking statements are made pursuant to the safe harbor provisions of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 and are based on management’s beliefs as well as assumptions made by and information currently available to management. Accordingly, the Company’s actual results may differ materially from those expressed or implied in such forward-looking statements due to known or unknown risks and uncertainties that exist in the Company’s operations and business environment, including but not limited to, direct or indirect consequences of acts of war or terrorism, government regulation including tax rate policies, competition and technological change, intellectual property rights, the failure by the Company to produce anticipated cost savings or improve productivity, the timing and magnitude of capital expenditures and acquisitions, currency exchange rates, interest rates, economic and market conditions in the United States, Europe and the rest of the world, changes in customer spending levels, the demand for existing and new products, the cost and availability of raw materials, the successful integration of the Company’s acquisitions, and other risks associated with the Company’s operations. Although the Company believes that its forward-looking statements are based on reasonable assumptions, there can be no assurance that actual results, performance or achievements will not differ materially from any future results, performance or achievements expressed or implied by such forward-looking statements. Readers are cautioned not to place undue reliance on forward-looking statements.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
A significant number of our operations are located outside of the United States. Because of this, movements in exchange rates may have a significant impact on the translation of the financial condition and results of operations of our entities. Our primary foreign exchange exposure is to the Euro, but we also have foreign exchange exposure to South American and Asian currencies, as well as the Swiss Franc and British pound. A weakening U.S. dollar relative to foreign currencies has an additive translation effect on our financial condition and results of operations. Conversely, a strengthening U.S. dollar has a dilutive effect. Additionally, in some cases, we sell products denominated in a currency different from the currency in which the related costs are incurred. Any changes in exchange rates on such inter-country sales impact our results of operations. We manage our exposures to foreign exchange principally with forward exchange contracts to hedge certain firm purchase and sales commitments and intercompany cash transactions denominated in foreign currencies. The table below provides information as of September 30, 2003 about our forward currency exchange contracts.
All the contracts expire before the end of the fourth quarter of 2003.
The other contracts in the above table represent contracts to buy or sell various other currencies (principally Asian and Australian). As of September 30, 2003, we have recorded the fair value of foreign currency forward exchange contracts of $975 thousand in prepayments and other and $125 thousand in accounts payable and accrued liabilities in the balance sheet. All forward exchange contracts outstanding as of September 30, 2002 had an aggregate contract amount of $24.7 million. At September 30, 2003, we had a fixed-to-variable interest rate swap agreement with a notional principal value of $25 million, which requires us to pay an average variable interest rate (which was 1.1% at September 30, 2003) and receive a fixed rate of 6.6%. The variable rate is adjusted semiannually based on London Interbank Offered Rates (“LIBOR”). Variations in market interest rates would produce changes in our net income. If interest rates increase by 100 basis points, net income related to the interest rate swap agreement would decrease by approximately $100 assuming a tax rate of 33%. As of September 30, 2003, we recorded the fair value of the fixed-to-variable interest rate swap agreement of $4.6 million in miscellaneous other assets with an offsetting adjustment to debt. No gain or loss was recorded in the income statement in 2003 since there was no hedge ineffectiveness.
ITEM 4. CONTROLS AND PROCEDURES
DISCLOSURE CONTROLS AND PROCEDURES
Under the supervision and with the participation of management, the chief executive officer and chief financial officer of the Company have evaluated the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of September 30, 2003, and, based on their evaluation, the chief executive officer and chief financial officer have concluded that these controls and procedures are effective. Disclosure controls and procedures are designed to ensure that information required to be disclosed by the Company in reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms. Disclosure controls and procedures are also designed to ensure that information is accumulated and communicated to management, including the chief executive officer and chief financial officer, as appropriate to allow timely decisions regarding required disclosure.
INTERNAL CONTROL OVER FINANCIAL REPORTING
There has been no change in the Company’s internal control over financial reporting that occurred during the Company’s fiscal quarter ended September 30, 2003 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
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PART II — OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
During the quarter ended September 30, 2003, the FCP Aptar Savings Plan (the “Plan”) sold 150 shares of our Common Stock on behalf of the participants at an average price of $38.20, for an aggregate amount of $5,730. At September 30, 2003, the Plan owns 4,205 shares of our Common Stock. The employees of AptarGroup S.A.S., and Valois S.A.S., our subsidiaries, are eligible to participate in the Plan. All eligible participants are located outside of the United States. An independent agent purchases shares of Common Stock available under the Plan for cash on the open market and the Company issues no shares. The Company does not receive any proceeds from the purchase of Common Stock under the Plan. The agent under the Plan is Banque Nationale de Paris (BNP) Paribas Asset Management. No underwriters are used under the Plan. All shares are sold in reliance upon the exemption from registration under the Securities Act of 1933 provided by Regulation S promulgated under that Act.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
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INDEX OF EXHIBITS
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