E S C O T E C H N O L O G I E S I N C .
Communications
Filtrati o n/ F lui d F low
RF S h i el di ng & Test
2 0 0 6 A N N U A L R E P O R T
Market Performance
Cumulative Total Return for Fiscal Years ended September 30 for $100 invested on
September 30, 2001 in stock or index, including reinvestment of dividends
$475
400
325
250
175
100
2002
2003
2004
2005
2006
ESCO Technologies Inc.
Peer Group
Russell 2000 Index
Russell 2000®
The Market Performance graph
depicted here includes a peer
group comprised of Pall
Corporation, Clarcor Inc.,
Peer Group
Badger Meter Inc., Itron Inc.,
Roper Industries Inc. and
Tektronix Inc. A more detailed
discussion is available in the
Company’s Proxy Statement.
ESCO Technologies Inc.
Contents
Letter To Shareholders
Company Overview
Communications
Filtration/Fluid Flow
RF Shielding & Test
Commitment To Communities
Financial Section
Report of the CFO
Management’s Discussion
and Analysis
Financial Statements
Notes to Consolidated
Financial Statements
Accountability Reports
Five-Year Financial Summary
Shareholders’ Summary
Management and Directors
1
3
4
6
8
10
11
12
13
25
30
46
50
51
52
To Our Shareholders
“We are positioned
for another period
of sustainable
performance in
2007 and beyond.”
Victor L. Richey Alyson S. Barclay Gary E. Muenster
A
lthough 2006 was a challenging year for ESCO, our operational performance was consistent
with the expectations set forth at the beginning of the year, and we were able to success-
fully complete several of our strategic objectives.
A year ago, I discussed our plans within the Communications segment to continue investing
in new product development, sales and marketing, software upgrades, and complementary ac-
quisitions. The investments that we made in 2006, in both technology and acquisition partners,
have positioned us for significantly improved financial performance in 2007, and should result
in meaningful sales and earnings growth for the foreseeable future. This growth will provide the
opportunity to increase long-term shareholder value, which is our primary mission.
In 2006, we invested nearly $125 million to acquire two companies significantly enhancing our
Communications segment product offering, and to upgrade our Advanced Metering Infrastructure
(AMI) software platform that drives our TWACS® electric utility solution. Our strong cash genera-
tion allowed us to make investments of this magnitude and still end the year with $37 million in
cash and no debt outstanding.
I am convinced that these investments in Communications, coupled with the foundation of our
core businesses that have successfully driven our historical performance, have positioned us for
another period of sustainable performance improvement in 2007 and beyond.
My perspective on the current position and outlook for the individual segments of our business
is as follows:
In the Communications segment, 2006 was a tremendous year for us in terms of positioning
ESCO for significant growth. This segment offers us the best opportunity to deliver meaningful
increases in shareholder value over the next few years.
In February 2006, we acquired Hexagram, Inc., a market leader in providing fixed network radio
frequency (RF) based automatic meter reading solutions to utility customers across the United
States. Prior to the addition of Hexagram, ESCO’s product offering was primarily devoted to elec-
tric utility customers through its market leading TWACS technology. With Hexagram, we not only
acquired one of the best technologies available, but we also doubled the size of our served market
by gaining direct access to gas and water utilities.
E S C O T E C H N O L O G I E S I N C . 2 0 0 6 A N N U A L R E P O R T
1
“In addition to
acquiring excel-
lent companies
and technologies,
we have added
strong manage-
ment teams.”
To Our Shareholders (Continued)
Earlier in fiscal 2006, we acquired Nexus Energy Software, a leading provider of sophisticated
meter data management software solutions serving over 85 utilities worldwide. Nexus’ application
software enables a utility to better manage its operations through energy management, energy
forecasting, distribution asset optimization, and revenue assurance. In addition, Nexus’ products
significantly enhance a utility’s customer service by providing a seamless interface through the
use of “customer-facing” software packages which allow consumers to view their individual usage
patterns and have a better understanding of their consumption and billing structure.
We are very pleased that in addition to acquiring excellent companies with solid technologies
and future market opportunities, we also added strong leadership and management teams with a
tremendous amount of industry knowledge and experience.
In addition to the acquisitions, we have invested and will continue to invest at DCSI where
we have introduced several new products and are developing a state-of-the-art software upgrade
known as TWACS Next Generation, or TNG. We strongly believe that TNG, with its significantly
enhanced speed, bandwidth and functionality, will be the best available solution to handle even
the most complex AMI requirements.
Our new product development, in conjunction with TNG, has been focused on meeting the
needs of our existing and future customers and includes several products that will provide func-
tionality “behind the meter.” These new products include interfaces with smart thermostats and
multiple-function in-home displays which will allow utilities and their customers to manage how
and when energy is used. Our full suite of products produces the information necessary to allow
the utilities to gain greater insight into and better control over the management of their energy
resources, which is the core tenet of AMI.
In the Test segment, we continue to see above average growth prospects as the introduction
of new electronic products and new testing standards continues at an unprecedented pace. My
confidence in our ability to capture a majority of this growth is based on our leadership position,
expanding international presence, and superior technology.
This segment continues to earn better than average returns on invested capital and therefore,
we will continue to invest to both expand our product offering and to extend our international
reach, especially in Asia. Electronics manufacturers are establishing new product development
centers in the Far East, and we will continue to expand our presence near these customers to
capture this growing demand. Additionally, we remain committed to managing our cost structure
in this segment to better leverage our growth.
In Filtration, we expect continued solid financial performance although our growth outlook
remains somewhat modest. Our Filtration segment continues to provide a foundation for our busi-
ness and is a significant cash generator. Although we have pockets of growth in aerospace and
medical, the aggregate growth prospects are somewhat muted by our automotive and industrial
content. As such, we will remain selective in our investment decisions and will be heavily focused
on improving the returns from our existing operations.
Overall, I believe we have the financial strength and flexibility, as well as the right products and
technologies, to effectively achieve our growth plans in 2007 and beyond. I am grateful that we
have solid management teams in place across the Company who understand our mission and are
fully committed to delivering exceptional results.
In closing, I want to thank our customers for the opportunity to serve them, our employees
for their effort and dedication, our Board of Directors for their leadership and guidance, and our
shareholders for their support and confidence.
Victor L. Richey
Chairman, Chief Executive Officer, and President
December 11, 2006
2
E S C O T E C H N O L O G I E S I N C . 2 0 0 6 A N N U A L R E P O R T
Company Overview
ESCO Technologies Inc.
ESCO is a worldwide manufacturer of highly engineered products operating in three business segments:
Communications The primary
companies of the Communications
segment, DCSI, Hexagram and
Nexus Energy Software, provide
market and technology leadership,
employing the highest caliber,
proven Two-Way Fixed Network
Advanced Metering Communication
Systems (TWACS by DCSI® and
Hexagram Star®), with enter-
prise software that stands apart
in its ability to optimize what
smart meter data can accomplish
for utilities and their customers
(Nexus MDMS™). Our SecurVision®
product line provides digital video
surveillance and security functions
for large commercial enterprises
and alarm monitoring companies.
Electric, Gas, and Water Utilities,
Security Industry
Filtration/Fluid Flow The com-
panies in this segment design and
manufacture specialty filtration
products ranging from high volume
medical components to unique
filter mechanisms used in micro-
propulsion devices for satellites.
RF Shielding & Test The com-
panies in the RF Shielding & Test
segment are industry leaders in
providing their customers with the
ability to identify, measure and
contain magnetic, electromagnetic
and acoustic energy.
Healthcare, Aviation, Space, Trans-
portation, Consumer Appliance
Healthcare, Electronics,
Transportation
North America
Cedar Park, TX
Cleveland, OH
Durant, OK
Glendale Heights, IL
Hebron, IL
Huntley, IL
Juarez, Mexico
Minocqua, WI
Oxnard, CA
South El Monte, CA
St. Louis, MO
Wellesley, MA
Europe
Eura, Finland
Newcastle West, Ireland
Plailly, France
Stevenage, England
ESCO Operations
Markets Served
Asia
Beijing, China
Tokyo, Japan
South America
São Paulo, Brazil
E S C O T E C H N O L O G I E S I N C . 2 0 0 6 A N N U A L R E P O R T
3
Communications
E SCO’s Communications segment continued to expand its in-
dustry leadership with enhanced products and services from
DCSI as well as the acquisition of Nexus Energy Software, a
acquired Hexagram, an RF based communications company
providing solutions to water, gas, and electric utilities. These
three companies allow ESCO to provide technology solutions
company which provides critical Meter Data Management and
that fit a utility’s unique Automated Metering Infrastructure
analysis software. To further augment its capabilities, ESCO
(AMI) needs of today and tomorrow.
State-of-the-Art Electronics
Are an Important Part of AMI.
ESCO’s Communications business
provides advanced metering
networks for utilities. Daily, hourly,
and finer resolution meter data
readings provide for accurate bills,
while powerful analytics help
customers understand where their
money is going. With installed
networks, utilities have the
flexibility to promote innovative
responses to the challenges of
supply and demand.
4
E S C O T E C H N O L O G I E S I N C . 2 0 0 6 A N N U A L R E P O R T
DCSI Provides Its
Reliable TWACS
Equipment. Utilities
install the Two Way
Automatic Communication
System (TWACS) alongside
their existing electrical
system. TWACS equipment
in each substation routes
messages from the utility
office along the power
lines to the TWACS
transponder in the meter.
Since the TWACS message
passes through transform-
ers, regulators, and other
equipment, utilities enjoy
a system that is straight-
forward to install and
manage. As new homes
are connected to the
electrical grid, TWACS
expands as well. When
outages occur, utilities
with TWACS can easily
verify which customers
are without power.
DCSI Leads with In-
Home Display Device.
To meet the emerging
need for utilities
to provide usable
end-customer in-
formation, DCSI has
led the way with a
low cost, versatile
In-Home Display
support. With the need
for fixed-network meter
reading for electric, it
is a logical evolution
to continue with gas as
well as for electric/gas
mixed utilities.
tamper, leak, flow, and
backflow detection. This
offering will provide the
industry’s most advanced
detection on both the
residential and distribu-
tion side of the water
meter. This technology
contribution makes the
STAR® System uniquely
capable of delivering
conservation tools, ex-
tensive customer service
capabilities, and a sound
financial return on
investment to the
water utility.
Hexagram Provides
the Fixed Network
STAR® for Gas Meters.
At its core, the STAR®
System provides data.
This vast and robust
level of data gives gas
utilities the tools need-
ed to enhance utility
capabilities, strengthen
customer service, pro-
vide revenue integrity,
and reduce regulatory
concerns. A completely
Fixed-Network solution,
the STAR® System can
provide mixed utility
Hexagram Is Leverag-
ing Advanced Water
Detection Technology.
Through its strategic
relationship with Neptune
Technology Group,
Hexagram Inc. is able to
offer an E-Coder compat-
ible MTU with advanced
device. This device can
support applications
from rate change mes-
saging to indi-
vidual account
monitoring in
user friendly
and more eas-
ily understood
monetary
values rather than tradi-
tional metering units.
Since the device works
via the existing DCSI
TWACS infrastructure,
it is not only an impor-
tant market differen-
tiator but also an easy
addition to existing
utility deployments.
Nexus Software Deliv-
ers Performance and
Benefits. Nexus Energy
Software enables the
vision of what energy
information can accom-
plish for the 21st Century
Utility by transforming
both energy company
and customer views of
energy. Nexus’ leading,
proven-at-scale solu-
tions support customer
interactions via self-
service and the contact
center, while enhancing
operating functions with
analytic applications
that integrate meter,
customer, and asset
data. Nexus’ ENERGY-
prism®, Energy Vision®
and Nexus MDMS™
(Meter Data Management
Software) product lines
are in use at over
85 energy companies
worldwide, supporting
millions of interac-
tions and transactions
each year.
ESCO Is the Leader
in Advanced Util-
ity Communications
Infrastructure. DCSI,
Hexagram and Nexus,
provide market and
technology leadership in
Advanced Utility Commu-
nications Infrastructure
to support all utilities by
employing the highest
caliber, proven Two-Way
Fixed Network Advanced
Communication Systems
(TWACS® by DCSI and
Hexagram Star®) along
with enterprise software
that stands apart in its
ability to optimize what
smart meter data can ac-
complish for utilities and
their customers (Nexus
MDMS™). ESCO’s Two-
Way Advanced Metering
Technologies are the
most widely deployed to-
day, with proven benefits
and seamless integration
with other systems.
E S C O T E C H N O L O G I E S I N C . 2 0 0 6 A N N U A L R E P O R T
5
Filtration/Fluid Flow
E SCO’s Filtration/Fluid Flow segment, comprised of PTI Tech-
nologies, Filtertek, and VACCO Industries, supplies engi-
neered filtration and fluid control components that span
The primary concentration of the filtration segment is organic
growth utilizing proprietary intellectual property and existing
core technologies to broaden product lines, target growth mar-
the world and beyond, from healthcare to spacecraft, and near-
kets, and penetrate strategic geographic regions. This growth
ly everything in between. ESCO’s diversified filtration portfolio
strategy affords a strong position for a sustained pipeline of
provides an environment for growth as product technologies
profitable business opportunities.
and international markets continually evolve.
PTI Leverages
Technical Expertise.
PTI designs and
manufactures highly
engineered filters and
fluid management prod-
ucts serving the growing
aerospace, defense, and
industrial markets. At
the core of PTI’s strategy
for continued worldwide
growth is a collaborative
development process
with OEMs that leverages
PTI’s extensive design
experience and manu-
facturing expertise. In
addition, new products
are continually being
developed which are
broadening PTI’s core
product offerings in both
the military and commer-
cial aftermarkets, as well
as extending its portfolio
into new markets.
Filtertek Grows
Transmission Market
Presence. Filtertek
develops custom filters
to meet the demanding
requirements of automo-
tive systems including
transmission, fuel,
engine control, and
power steering. Filtertek
automotive filters are
sold directly to automo-
tive OEMs, lower tier
sub-assemblers, and spe-
cialized distributors
for the aftermarket.
Filtertek has a long
standing presence with
American automakers.
To extend its global
automotive market
reach, Filtertek is fo-
cused on growing its
international automatic
transmission presence in
Asia and Europe. Recent
transmission filter
awards include Filtertek’s
first Asian program and
its first two European
platforms. These awards
represent a new gen-
eration of automotive
customers for Filtertek.
6
E S C O T E C H N O L O G I E S I N C . 2 0 0 6 A N N U A L R E P O R T
VACCO’s Intellectual
Property Propels
Satellites. VACCO
produces a full range
of lightweight fluid
propulsion components
to satisfy the demanding
needs of the emerging
micro-satellite industry.
Pictured is a VACCO
nitrous oxide Micro
Propulsion System
(MiPS). This patented
ChEMS™ technology
provides the necessary
architecture to allow
the unit to fit in the
palm of your hand.
VACCO Products
Explore the Solar
System. VACCO produces
a full range of filters and
flow control hardware for
the demanding require-
ments of man-rated
spacecraft and deep-
space satellites. Through
past deployment on the
Space Shuttle and Apollo
programs, these proven
flight-qualified compo-
nents will serve NASA
on Orion, the next gen-
eration Crew Exploration
Vehicle, its associated
launch systems, and the
Lunar Lander. Products
include helium regula-
tors, control valves, and
couplings for cryogenic
and hypergolic systems.
Filtertek Medical
Expands into
Biopharmaceutical.
Filtertek extends its
legacy of custom
development into
the bioscience
markets through
the co-development of
advanced, cross-flow
filtration elements used
for the purification of
biopharmaceutical
products in the labora-
tory, pilot plant, or
small-volume pro-
duction facility. Filtertek
also launched a line of
50mm process filters to
meet the needs of OEMs
requiring filters for early-
stage pharmaceutical
development programs.
E S C O T E C H N O L O G I E S I N C . 2 0 0 6 A N N U A L R E P O R T
7
RF Shielding & Test
E TS-Lindgren comprises ESCO’s RF Shielding & Test segment
and is the industry leader in providing customers with the
ability to identify, measure and contain magnetic, electro-
magnetic and acoustic energy. Suppliers of wireless devices
and products containing electronics can verify designs, mea-
sure product performance, test for regulatory compliance and
make on-going quality measurements. Medical professionals
now have magnetically and electrically isolated environments
that improve the quality of an MR (magnetic resonance) im-
age. Health & safety professionals are able to measure poten-
tially hazardous exposure to electromagnetic and magnetic
sources. ETS-Lindgren meets the local and global demands of
its customers and takes advantage of its regional presence in
the fast growing Asian market.
ETS-Lindgren Provides a Breadth
of Products. ETS-Lindgren’s wide
range of products can be broken into
three major categories: Shielding for
customers that require an acoustically
or electrically isolated environment;
Anechoic Rooms for customers that
need acoustically and electrically
quiet environments for product test-
ing; and Measurement Systems and
Components for customers doing RF
and electromagnetic measurements.
Shielding Provided
for Broad Applica-
tions. Whether provid-
ing magnetic shielding
for an MR unit, an
RF shield for wireless
product development or
an acoustically shielded
broadcast studio,
ETS-Lindgren provides
more types of shielded
enclosures and solutions
than any other supplier
in the world.
ETS-Lindgren Leads
in Anechoic Test
Facilities. ETS-Lindgren
is the world’s leading
supplier of anechoic test
facilities for conducting
EMC, RF or acoustic tests
in environments small
enough to test a mobile
phone or large enough
to test an aircraft.
Testing Needs Are
Met with Compo-
nents and Systems.
From system components
to complete turnkey
solutions, ETS-Lindgren
provides customers with
measurement systems
for conducting EM
(electromagnetic) and
RF (radio frequency)
measurements.
ETS-Lindgren Provides
Critical RF Probes
and Field Monitors.
ETS-Lindgren manufactur-
ers magnetic and electric
field probes critical in
measuring field strength
within a given environ-
ment. Applications range
from measuring the field
strength required during
product immunity tests
to measuring the field
strength generated by
antennas on broadcast
towers to ensure the
safety of those working
in the environment.
ETS-Lindgren’s latest field
probe utilizes a laser
instead of a battery to
power the device.
8
E S C O T E C H N O L O G I E S I N C . 2 0 0 6 A N N U A L R E P O R T
Innovative Antenna
Design Is Key to
Successful Testing.
Antennas are a critical
component in any RF
measurement system.
The type of antenna
required is determined
by the test frequency
and methodology. As
the leading supplier of
measurement antennas,
ETS-Lindgren continues
to bring innovation with
new antenna designs
which offer custom-
ers both improved RF
performance as well as
improved look and feel.
surements and analysis
before going to market.
ETS-Lindgren actively
works with a number
of wireless groups to
develop test standards
addressing both existing
technologies as well
as emerging wireless
technologies such
as Wi-Fi, WiMax and
UWB (ultra wide band).
ETS-Lindgren has pro-
vided more OTA test
facilities than anyone.
ETS-Lindgren Pro-
vides OTA (Over-the-
Air) Wireless Test
Systems. Customers
expect dependable
connections and quality
service when using wire-
less devices. To achieve
maximum performance,
wireless devices must
be designed to optimize
signal strength, signal
directionality and device
sensitivity. ETS-Lindgren
provides products and
turnkey systems needed
by design engineers to
complete required mea-
Automotive Test-
ing Is Needed to Meet
Specific Standards.
All products containing
electronics must meet
specific EM (electro-
magnetic) emission and
immunity standards.
The automotive industry
has developed
additional standards for
both component and
vehicle manufacturers.
ETS-Lindgren’s triplate
is just one of many
products supplied to the
automotive industry that
enables manufacturers to
meet these standards.
Wireless Positioning
Systems Are Provided
by ETS-Lindgren.
Manufacturers testing
wireless devices need to
know the signal strength
and pattern of the
device they are develop-
ing. In addition, this
measurement must be
done at various angles
of the device, creating
a 3D pattern. ETS-
Lindgren provides both
the positioning
equipment and
the software
required to do
these types of
measurements.
MRI Interventional
Suite Is an Emerging
Market. An interven-
tional suite provides
magnetic shielding in a
sterile environment. A
sterile and shielded en-
vironment is significant
because it allows an MR
scan to be performed dur-
ing a surgical procedure,
eliminating the need to
move the patient and
potentially eliminating
the need for multiple
surgeries. ETS-Lindgren
provides customers with
all the critical com-
ponents of the room,
including the specialized
automatic sliding door.
As the leading supplier of
shielding to the MR mar-
ket, this new application
represents a significant
emerging market.
E S C O T E C H N O L O G I E S I N C . 2 0 0 6 A N N U A L R E P O R T
9
Commitment to Communities
D
uring 2006, the Company established the ESCO Technologies Foundation, a public
charity whose primary focus is to assist children and families in need, primarily in
communities where the Company has operations. The Foundation will also grant scholar-
ships to eligible children of ESCO employees. Throughout 2006, the Foundation provided
financial assistance to a number of organizations, some of which are described below.
Our Little Haven (OLH)
is a St. Louis-based charity
dedicated to creating a com-
munity where children are
cherished. The Foundation’s
grant was used for OLH’s
new therapeutic preschool
program, Our Little Academy.
The Foundation also provid-
ed OLH’s school age children
with clothing and school
supplies needed for their
upcoming school year. Dur-
ing the holiday season, cor-
porate employees purchased
toys and clothing, fulfilling
the wish list of each child in
residence at OLH.
Habitat for Humanity
is a national organization
whose goal is to eliminate
substandard housing by
building homes for families
who might not otherwise be
able to afford one. Construc-
tion is done with assistance
from volunteers and the
family who will occupy
each house. This year, the
Foundation contributed to
Habitat homes being built
in three locations: St. Louis,
Missouri; McHenry County,
Illinois and DuPage, Illinois.
In addition to the Founda-
tion’s financial contribution,
a number of DCSI and corpo-
rate employees participated
this past summer in the
construction of a house in
the JeffVanderLou neighbor-
hood of St. Louis.
Port Hueneme South
Oxnard Neighborhood
for Learning in Oxnard,
California was the recipient
of a grant from the Founda-
tion to provide funds for the
district’s mini-grant program
which supports the preschool
experience for children in
the South Oxnard region
whose parents may be strug-
gling to afford preschool.
Any Baby Can, in the
Austin, Texas area, received
a grant from the ESCO
Foundation to further its
mission of ensuring that
children reach their potential
through education, therapy
and family support services.
During the year, several
employees from ETS-Lindgren
in Cedar Park, Texas, held
a fund-raising event where
additional funds were raised
for this organization.
Revitalization 2000,
Inc., focused on the
Ville Neighborhood of
North St. Louis, was
the recipient of a grant
from the Foundation in
support of its work-
training and leadership
programs in collabora-
tive efforts with DeLaSalle
Middle School and Northside
Community Center. In ad-
dition, several employees
from the Company’s DCSI
subsidiary participated in
the organization’s robotics
engineering program. These
employees taught robotics
to DeLaSalle students and
prepared them for “Botball,”
a regional robotics com-
petition at Rose-Hulman
Institute of Technology in
Terre Haute, Indiana.
As the ESCO Technologies
Foundation continues to
grow, it will be able to
extend its reach to even
more charities in need. We
are very excited about the
new Foundation and the
assistance it will provide.
To learn more about the Foundation or how to make a tax deductible contribution, please call
314-213-7277 or send an e-mail to info@escotechnologiesfoundation.org.
10
E S C O T E C H N O L O G I E S I N C . 2 0 0 6 A N N U A L R E P O R T
A 7th grader from St. Louis
DeLaSalle Middle School
demonstrates the opera-
tion of a Botball robot to
a judge at the May 2006
regional robotics competi-
tion at the Rose-Hulman
Institute of Technology in
Terre Haute, Indiana.
Financial Section
ESCO Technologies Inc.
Contents
Report of the Chief Financial Officer
Management’s Discussion and Analysis
Consolidated Statements of Operations
Consolidated Balance Sheets
Consolidated Statements of Shareholders’ Equity
Consolidated Statements of Cash Flow
Notes to Consolidated Financial Statements
Management’s Statement of Financial Responsibility
Management’s Report on Internal Control Over Financial Reporting
Reports of Independent Registered Public Accounting Firm
Five-Year Financial Summary
Shareholders’ Summary
Management and Board of Directors
12
13
25
26
28
29
30
46
47
48
50
51
52
E S C O T E C H N O L O G I E S I N C . 2 0 0 6 A N N U A L R E P O R T
11
Report of the Chief Financial Officer
Fiscal 2006 was a year of significant strategic accomplishment for
our Company in spite of facing some challenging end-market issues
at a few of our operating units.
At the start of the year, we outlined our 2006 financial goals and
objectives, anticipating relatively flat sales and lower EPS primarily
as a result of decreased sales of high margin defense spares and
video security products. The decrease in projected EPS was also
driven by additional investments in engineering, program manage-
ment, and new product development at our Advanced Metering
(AMI) subsidiaries to support our long-term growth objectives.
Also in 2006, we began expensing stock options and amortizing
our software development costs.
Financially, there were a lot of moving parts in 2006 including the
strategic acquisitions of Nexus and Hexagram, and the large AMI
contract award at PG&E. We finished 2006 with total revenue, EBIT
margin, earnings per share, and cash flow generally in line with our
original expectations.
Achieving our 2006 financial goals, along with the AMI acquisitions
and the ramp-up of PG&E, will allow us to continue to increase our
financial flexibility in support of our strategic growth alternatives
during fiscal 2007 and beyond.
To recap 2006, we grew total revenues by 7 percent, with the larg-
est increase coming from our Communications segment which grew
by 13 percent as a result of the acquisitions. The Test business in-
creased sales by 8 percent as this segment’s worldwide end markets
continue to show strength. Filtration revenues increased slightly in
spite of the significant decrease in defense spares compared to the
prior year.
EBIT (1) was lower in 2006 compared to 2005 due to the decreased
sales of defense spares and video security products, changes in the
sales mix of AMI products, along with stock option expensing and
software amortization. Our consolidated EBIT margin (EBIT dollars
as a percent of sales) was 10.4 percent in 2006, versus 14.4 percent
in 2005. EBIT margins were 11.2 percent in Filtration, 11.6 percent
in Test, and 18.1 percent in Communications.
EPS was $1.19 in 2006 versus $1.66 in 2005 reflecting the impact
of the lower EBIT contributions described above.
At September 30, 2006, we had $37 million of cash and no debt
outstanding, compared to the start of the year, when we had $105
million of cash. The $68 million net decrease in cash during 2006
reflects the $92 million spent on acquisitions, the $37 million spent
on capital equipment and software upgrades, net of the $61 million
of cash generated.
On the Governance front, ESCO has a long history of maintain-
ing strong internal financial controls and rigorous management
oversight and we are very proud to say that we remain in full
compliance with the Sarbanes-Oxley Act as of September 30, 2006.
We continue to devote significant efforts across all operating units
to test our financial control systems. These efforts not only fulfill
our obligations under the Act, but reinforce the strong internal
control environment that has long been a part of our operating
culture. When reviewing our external communications, it should
be apparent that full and proper disclosure remains a key part of
our management style, and we intend to continue to be a leader
in transparent financial reporting and adherence to the highest
ethical standards.
We remain steadfastly committed to delivering shareholder value
and are confident that we have the right business platform, product
portfolio, cost structure, growth strategies, and financial flexibility
to make ESCO a compelling investment for the foreseeable future.
Gary E. Muenster
Senior Vice President &
Chief Financial Officer
December 11, 2006
(1) For a reconciliation of EBIT to a GAAP measure, see page 16 of MD&A.
12
E S C O T E C H N O L O G I E S I N C . 2 0 0 6 A N N U A L R E P O R T
Management’s Discussion and Analysis
The following discussion should be read in conjunction with the
consolidated financial statements and notes thereto. The years
2006, 2005 and 2004 represent the fiscal years ended September 30,
2006, 2005 and 2004, respectively, and are used throughout the
document. During 2005, the Company had a 2-for-1 stock split
which was effected as a 100 percent stock dividend and was paid
on September 23, 2005 to shareholders of record as of September 9,
2005. The 2004 common stock and per share amounts have been
adjusted to reflect the stock split.
introduction
ESCO Technologies Inc. and its wholly owned subsidiaries (ESCO,
the Company) are organized into three reporting units: Commu-
nications, Filtration/Fluid Flow, and RF Shielding and Test (Test).
The Company’s business segments are comprised of the following
primary operating entities:
▶ Communications: Distribution Control Systems, Inc. (DCSI),
Hexagram, Inc. (Hexagram), Nexus Energy Software, Inc. (Nexus),
and Comtrak Technologies, L.L.C. (Comtrak),
▶ Filtration/Fluid Flow: PTI Technologies Inc. (PTI), VACCO
Industries (VACCO), and the Filtertek companies (Filtertek),
▶ Test: EMC Group companies consisting primarily of ETS-Lindgren
gases. These engineered filtration products utilize membrane,
precision screen and other technologies to protect critical processes
and equipment from contaminants. Major applications include the
removal of contaminants in fuel, lubrication and hydraulic systems,
various health care applications, industrial processing, satellite
propulsion systems, and oil processing. The Test unit is the industry
leader in providing its customers with the ability to identify,
measure and contain magnetic, electromagnetic and acoustic energy.
The divestiture of the Microfiltration and Separations businesses
(MicroSep) was completed during the third quarter of fiscal 2004.
The MicroSep businesses (previously included in the Filtration/Fluid
Flow segment) included PTI Advanced Filtration Inc. (PTA), PTI
Technologies Limited (PTL) and PTI S.p.A. (PTB). The MicroSep
businesses are accounted for as “discontinued operations” in
fiscal 2004.
ESCO continues to operate with meaningful growth prospects in its
primary served markets and with considerable financial flexibility.
The Company continues to focus on new products that incorporate
proprietary design and process technologies. Management is
committed to delivering shareholder value through internal
growth, ongoing performance improvement initiatives, and
selective acquisitions.
L.P. (ETS) and Lindgren RF Enclosures, Inc. (Lindgren).
highlights of 2006 Operations
The Communications unit is a proven supplier of special purpose
fixed network communications systems for electric, gas and water
utilities, including hardware and software to support advanced
metering applications. DCSI’s Two-Way Automatic Communications
System, known as TWACS®, is currently used for automatic meter
reading (AMR) and related advanced metering functions serving
approximately 200 utilities, as well as having load management
capabilities. Hexagram’s STAR® system, the premier wireless
Advanced Metering Infrastructure (AMI), delivers two-way and
one-way operation on secure licensed radio frequencies for more
than 100 utilities serving electric, gas and water customers.
Nexus provides best-in-class information solutions to more than
85 leading energy companies that add value to existing billing
and metering infrastructure to allow both the utilities and their
customers to better manage energy-driven transactions and decision
making. Comtrak’s SecurVision® product line provides digital video
surveillance and security functions for large commercial enterprises
and alarm monitoring companies. The Filtration/Fluid Flow unit
develops, manufactures and markets a broad range of filtration
products used in the purification and processing of liquids and
▶ Sales, net earnings and earnings per share were $458.9 million,
$31.3 million and $1.19 per share, respectively.
▶ Net cash provided by operating activities was $58.6 million.
▶ At September 30, 2006, cash on hand was $36.8 million with no
debt outstanding.
▶ The Company acquired Hexagram and Nexus for approximately
$92 million in cash.
▶ DCSI’s AMR product sales to TXU Electric Delivery Company (TXU)
increased to $27.1 million in 2006 from $7.2 million in 2005.
▶ In November 2005, DCSI and Hexagram signed agreements to
deliver AMI equipment, software and services to Pacific Gas &
Electric Company (PG&E) for approximately nine million electric
and gas customers over a five year deployment period beginning
in 2007. The total anticipated contract value is expected to be up
to approximately $535 million assuming full deployment.
▶ Successful deployment of upgraded TWACS system software called
“TNG” Versions 1.5 through 1.6.2 at PG&E.
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 13
Management’s Discussion and Analysis
Results of Operations
nET SAlES
The following discussion refers to the Company’s results from
continuing operations, except where noted. The MicroSep
businesses are accounted for as discontinued operations in 2004
in accordance with SFAS No. 144, “Accounting for the Impairment
or Disposal of Long-Lived Assets.” Accordingly, amounts in the
financial statements and related notes for 2004 presented reflect
discontinued operations.
(Dollars in millions)
2006
2005
Fiscal year ended
Change Change
2005
2006
2004 vs. 2005 vs. 2004
Communications
$156.2
138.0
137.8
13.2%
0.1 %
Filtration/Fluid Flow
174.1
171.7
173.9
1.4%
(1.3) %
Test
Total
128.6
119.4
110.4
7.7%
8.2 %
$458.9
429.1
422.1
6.9%
1.7 %
ACQuiSiTiOnS
Communications
The $18.2 million or 13.2% increase in net sales in 2006 as
compared to the prior year was due to: Hexagram and Nexus sales of
$18.6 million and $9.6 million, respectively; partially offset by an
$8.6 million decrease in sales of Comtrak’s video security products;
and $1.5 million of lower shipments of DCSI’s AMR products.
The $1.5 million decrease in sales of DCSI’s AMR products in
2006 as compared to 2005 was due to: an increase in sales to
TXU of $19.9 million and other investor owned utilities (IOUs)
of $3.0 million; offset by $16.2 million of lower AMR product
sales to the electric utility cooperative (COOP) market due to the
decrease in orders received during the second half of fiscal 2005;
and an $8.1 million decrease in sales to Puerto Rico Electric Power
Authority (PREPA) as the contract nears completion.
Comtrak’s sales were $7.5 million, $16.1 million, and $5.6 million
in 2006, 2005 and 2004, respectively. The decrease in sales in
2006 as compared to the prior year was due to an acceleration of
shipments in 2005 to meet the customer’s schedule. The increase
in sales in 2005 versus 2004 was due to a delay in deliveries in
2004 as a result of a significant customer requesting Comtrak to
modify its software operating system to provide enhanced “virus”
protection within the product.
The $0.2 million or 0.1% increase in Communications net sales
in 2005 as compared to the prior year was due to $10.5 million
of higher shipments of SecurVision® products. This increase was
almost entirely offset by a $10.3 million decrease in sales of AMR
products. The decrease in sales of AMR products in 2005 versus
2004 was mainly due to the wind-down of a contract with PPL
Electric Utilities Corporation (PPL). Sales to PPL decreased
$19.3 million in 2005 to $2.4 million from $21.6 million in 2004.
Sales to other IOUs, such as Bangor Hydro-Electric Company,
Idaho Power Company, and PREPA decreased $17.9 million in 2005
versus 2004, and were partially offset by $7.2 million in sales to
TXU and $19.8 million of additional sales to the COOP market and
other customers.
Effective February 1, 2006, the Company acquired the capital stock
of Hexagram for a purchase price of approximately $66 million. The
acquisition agreement also provides for contingent consideration
of up to $6.3 million over a five year period following the acqui-
sition if Hexagram exceeds certain sales targets. Hexagram is a
radio-frequency (RF) fixed network AMR company headquartered in
Cleveland, Ohio. Hexagram broadens the Company’s served market
and provides an RF based AMI system serving primarily gas and
water utilities. Hexagram’s annual revenue over the past three years
has been in the range of $20 million to $35 million. The operating
results for Hexagram, since the date of acquisition, are included
within the Communications unit. The Company recorded approxi-
mately $51 million of goodwill and $3.5 million of trademarks as a
result of the transaction. The Company also recorded $6.6 million
of identifiable intangible assets consisting primarily of patents and
proprietary know-how, customer contracts, and order backlog which
are being amortized on a straight-line basis over periods ranging
from six months to seven years.
Effective November 29, 2005, the Company acquired Nexus
through an all cash for shares merger transaction for approximately
$29 million in cash plus contingent cash consideration over the
four year period following the merger if Nexus exceeds certain
sales targets. Nexus is a software company headquartered in
Wellesley, Massachusetts with annual revenues of approximately
$10 million. Nexus broadens the Company’s served market and
provides software solutions that allow utilities to fully utilize the
information produced by the Company’s AMI systems. The operating
results for Nexus, since the date of acquisition, are included within
the Communications unit. The Company recorded approximately
$24 million of goodwill as a result of the transaction. The Company
also recorded $2.7 million of identifiable intangible assets consisting
of customer contracts and backlog value which are being amortized
on a straight-line basis over periods ranging from one year to
three years.
All of the Company’s acquisitions have been accounted for using
the purchase method of accounting, and accordingly, the respective
purchase prices were allocated to the assets (including intangible
assets) acquired and liabilities assumed based on estimated fair
values at the date of acquisition. The financial results from these
acquisitions have been included in the Company’s financial
statements from the date of acquisition.
14
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
Management’s Discussion and Analysis
Filtration/Fluid Flow
Net sales in 2006 increased $2.4 million or 1.4% compared to 2005
primarily as a result of higher commercial aerospace shipments at
PTI of $5.6 million, a net sales increase at Filtertek of $3.3 million
driven by higher commercial shipments, partially offset by lower
defense spares and T-700 shipments at VACCO of $6.6 million.
Net sales in 2005 decreased $2.2 million or 1.3% compared to 2004
primarily as a result of lower defense spares shipments at VACCO of
$4.3 million, a net sales decrease at Filtertek of $0.5 million driven
by lower automotive shipments, partially offset by higher commercial
and military aerospace shipments at PTI of $2.6 million.
Test
The net sales increase of $9.2 million or 7.7% in 2006 as
compared to the prior year was mainly due to: a $10.2 million
increase in net sales from the Company’s U.S. operations driven
by sales of additional test chambers and higher component sales,
a $0.6 million increase in net sales from the Company’s Asian
operations; partially offset by a $1.6 million decrease in net sales
from the Company’s European operations due to the prior year
completion of several test chamber projects.
The net sales increase of $9.0 million or 8.2% in 2005 as compared
to 2004 was mainly due to: an $11.5 million increase in net sales
from the Company’s U.S. operations driven by the successful
completion of the design on a large aircraft chamber project,
additional test chamber installations, higher component sales,
and the installation of several government shielding projects; a
$4.3 million increase in sales from the Company’s Asian operations;
partially offset by a $6.9 million decrease in net sales from the
Company’s European operations due to the completion of two large
test chamber projects in 2004.
ORDERS AnD BACKlOg
New orders received in 2006 were $479.2 million, resulting in an
order backlog of $253.4 million at September 30, 2006 as compared
to an order backlog of $233.1 million at September 30, 2005. In
2006, the Company recorded $187.5 million of new orders related
to Communications products (including $19.0 million of new
orders and $6.0 million of acquired backlog from Hexagram and
$16.7 million of new orders and $9.0 million of acquired backlog
from Nexus), $172.1 million related to Filtration products, and
$119.6 million related to Test products.
Within the Communications segment, DCSI received $129.3 million,
$105.1 million and $106.3 million of new orders for its AMR
products in 2006, 2005 and 2004, respectively. DCSI received
$19.2 million of new orders from TXU in 2006. In addition, in
November 2005, DCSI signed an agreement to provide equipment,
software and services to PG&E with a potential contract value of up
to approximately $310 million covering up to five million electric
endpoints over a five-year deployment period beginning in 2007.
DCSI received orders totaling $4.2 million from PG&E under this
agreement during 2006. Also, in November 2005, Hexagram entered
into a contract to provide equipment, software and services to
PG&E in support of the gas utility portion of PG&E’s AMI project.
The total potential contract revenue from commencement through
the five-year full deployment is up to approximately $225 million.
Hexagram received orders totaling $0.7 million from PG&E under
this agreement during 2006. See further discussion under “Pacific
Gas & Electric.”
In 2005, the Company recorded $117.2 million of new orders related
to Communications products, $174.4 million related to Filtration
products, and $121.5 million related to Test products.
SElling, gEnERAl AnD ADMiniSTRATiVE EXpEnSES
Selling, general and administrative expenses (SG&A) were
$106.9 million, or 23.3% of net sales in 2006, $84.2 million,
or 19.6% of net sales in 2005, and $77.3 million, or 18.3% of
net sales in 2004.
The increase in SG&A expenses in 2006 as compared to the prior
year was primarily due to: $7.5 million of SG&A expenses related
to Nexus; $6.8 million of SG&A expenses related to Hexagram;
$2.3 million of stock option expense and higher costs related to
engineering and new product development.
The increase in SG&A expenses in 2005 as compared to 2004
was primarily due to an increase of $4.9 million associated with
engineering, marketing and new product development within the
Communications segment in pursuit of the IOU market.
AMORTiZATiOn OF inTAngiBlE ASSETS
Amortization of intangible assets was $6.9 million in 2006,
$2.0 million in 2005 and $2.1 million in 2004. Amortization of
intangible assets in 2006 included $2.7 million of amortization
of acquired intangible assets related to the Hexagram and Nexus
acquisitions, as described in Note 2 to the Consolidated Financial
Statements. The amortization of acquired intangible assets related
to Hexagram and Nexus are included in the Corporate operating
segment’s results. The remaining amortization expenses consist of
other identifiable intangible assets (primarily software, patents and
licenses). In March 2006, the Company began amortizing DCSI’s TNG
software and during 2006, the Company recorded $2.2 million of
amortization related to its TNG software.
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 15
Management’s Discussion and Analysis
OThER (inCOME) AnD EXpEnSES, nET
Other (income) and expenses, net, were $(2.8) million, $(1.6) mil-
lion and $0.6 million in 2006, 2005 and 2004, respectively. Other
(income) and expenses, net, in 2006 consisted primarily of the
following items: $(1.8) million non-cash gain representing the
reversal of a liability related to an indemnification obligation with
respect to a previously divested subsidiary; $(2.3) million of royalty
income; partially offset by a $0.2 million charge related to the
termination of a subcontract manufacturer.
Other (income) and expenses, net, in 2005 consisted primarily
of: $(2.2) million of royalty income; and a $0.5 million charge
related to the termination of a supply agreement with a medical
device customer.
Other (income) and expenses, net, in 2004 consisted primarily
of: $0.8 million of exit costs related to the Puerto Rico facility;
a $(0.6) million gain from the settlement of a claim related to
a former defense subsidiary divested in 1999; and a $0.4 million
charge for the settlement of a claim involving a former defense
subsidiary divested in 1996.
ASSET iMpAiRMEnT — 2005
In June 2005, the Company abandoned its plans to commercialize
certain sensor products within the Filtration/Fluid Flow segment.
This action resulted in an asset impairment charge of $0.8 million
to write off certain patents and a related licensing agreement
to their respective fair market values. The Company ended its
development efforts on this program after it determined that
the market was not developing as quickly as anticipated and the
expected costs and time frame to fully commercialize the products
were not acceptable.
EARningS BEFORE inTEREST AnD TAXES (EBiT)
The Company evaluates the performance of its operating segments
based on EBIT, which the Company defines as earnings from
continuing operations before interest and taxes.
EBIT is not a defined GAAP measure. However, the Company believes
that EBIT provides investors and Management with a valuable and
alternative method for assessing the Company’s operating results.
Management evaluates the performance of its operating segments
based on EBIT and believes that EBIT is useful to investors to
demonstrate the operational profitability of the Company’s business
segments by excluding interest and taxes, which are generally
accounted for across the entire company on a consolidated basis.
EBIT is also one of the measures Management uses to determine
resource allocations and incentive compensation.
16
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
(Dollars in millions)
2006
2005
Fiscal year ended
Change Change
2005
2006
2004 vs. 2005 vs. 2004
Communications
% of net sales
$28.3
38.8
18.1% 28.1% 27.9% (10.0) %
38.4 (27.1) % 1.0 %
0.2 %
Filtration/Fluid Flow
% of net sales
22.4
19.5
21.8 (12.9) %
11.2% 13.1% 12.5% (1.9) %
2.8 %
0.6 %
Test
% of net sales
12.2
8.0 %
11.3
15.0
11.7% 10.2% 10.2% 1.5 % — %
23.0 %
Corporate
(15.2)
(11.4)
(11.8) 33.3 %
(3.4) %
Total
% of net sales
$47.6
62.0
59.7 (23.2) %
10.4% 14.4% 14.1% (4.0) %
3.9 %
0.3 %
The reconciliation of EBIT to a GAAP financial measure is as follows:
(dollars in millions)
2006
2005
2004
EBIT
Add: Interest income
Less: Income taxes
$47.6
1.3
62.0
1.9
59.7
0.8
(17.6)
(20.4)
(22.7)
Net earnings from continuing operations
$31.3
43.5
37.8
Communications
The decrease in EBIT in 2006 as compared to 2005 was due to: a
$7.8 million decrease at DCSI due to changes in product mix (IOU
vs. COOP), charges related to a terminated subcontract manufactur-
er, warranty costs and amortization of TNG software; a $3.8 million
decrease at Comtrak due to lower shipments; a $0.7 million loss at
Nexus due to the timing of customer deployments and additional
SG&A spending related to engineering and new product initiatives;
partially offset by a $1.8 million contribution from Hexagram.
The increase in EBIT in 2005 as compared to the prior year was
due to: a $4.6 million increase at Comtrak due to significantly
higher shipments; partially offset by a $4.2 million decrease at
DCSI, which continued to increase its engineering and new product
development expenditures in order to accommodate the growth in
the AMR/AMI markets, and to further differentiate its technology
from the competition.
Filtration/Fluid Flow
EBIT decreased in 2006 as compared to 2005 primarily due to: a
$4.3 million decrease at VACCO due to significantly lower defense
spares shipments; a $1.4 million decrease at Filtertek partially due
to increasing raw material costs on petroleum based resins; partially
offset by a $2.8 million increase at PTI due to higher shipments
of aerospace products. The 2005 operating results for Filtertek
included a $1.9 million gain related to the termination of a supply
agreement with a medical device customer that was not repeated
in 2006.
Management’s Discussion and Analysis
EBIT increased in 2005 as compared to the prior year primarily
due to: a $2.5 million increase at Filtertek, which included a
$1.9 million gain related to the termination of a supply agreement
with a medical device customer; a $1.4 million increase at PTI due
to higher shipments of aerospace products; partially offset by the
$0.8 million asset impairment charge at PTI; and a $3.3 million
decrease at VACCO due to significantly lower defense spares
shipments. In 2005, Filtertek experienced an increase in its
raw material costs on petroleum based resins which negatively
impacted EBIT.
Test
The increase in EBIT in 2006 as compared to the prior year was
mainly due to: a $2.1 million increase in EBIT from the Company’s
U.S. operations driven by sales of additional test chambers and
higher component sales, a $0.4 million increase in EBIT from the
Company’s European operations, and a $0.3 million increase in EBIT
from the Company’s Asian operations.
EBIT in 2005 included: a $0.9 million increase in EBIT from the
Company’s U.S. operations driven by favorable changes in sales mix
resulting from additional sales of antennas and other components
partially offset by installation cost overruns incurred on certain
government shielding projects, as well as increased material costs
for steel and copper.
Corporate
Corporate office operating charges included in consolidated EBIT
increased by $3.8 million in 2006 as compared to 2005 mainly
due to: $2.7 million of pre-tax amortization of acquired intangible
assets related to Nexus and Hexagram; $2.3 million of pre-tax stock
option expense; partially offset by a $1.8 million non-cash gain
representing the reversal of a liability related to an indemnifica-
tion obligation with respect to a previously divested subsidiary.
Corporate office operating charges included in consolidated EBIT
decreased by $0.4 million in 2005 as compared to 2004. Fiscal 2005
included an increase of $0.5 million for professional fees and 2004
included $0.9 million of severance related costs not repeated in
2005. The “Reconciliation to Consolidated Totals (Corporate)”
in note 15 to the consolidated financial statements represents
Corporate office operating charges.
inTEREST inCOME
Interest income was $1.3 million in 2006, $1.9 million in 2005
and $0.8 million in 2004. The decrease in interest income in 2006
as compared to 2005 was due to lower average cash balances on
hand resulting from the 2006 acquisitions. The increase in interest
income in 2005 as compared to the prior year was due to higher
average cash balances on hand during the year and a $0.2 million
refund of look back interest related to income taxes.
inCOME TAX EXpEnSE
The effective tax rate for continuing operations in 2006 was 36.0%
compared to 31.9% in 2005 and 37.6% in 2004. The increase in
the effective tax rate in 2006 as compared to the prior year was
due to: the effect of the foreign earnings repatriation increased
2006 income tax expense by $2.4 million and the effective rate by
4.8%; the adoption of SFAS 123(R) increased tax expense by $0.7
million and the effective rate by 1.4%; the lower volume of profit
contributions of the Company’s foreign operations (primarily Puerto
Rico due to the lower sales to PREPA) adversely impacted the tax
rate; partially offset by the effect of a favorable change in tax
contingencies not related to the research tax credit which decreased
tax expense by $1.4 million and the effective tax rate by 2.9% and
the net effect of the research tax credit which favorably impacted
tax expense by $2.5 million and the effective tax rate by 5%. The
decrease in the effective tax rate for continuing operations in 2005
as compared to 2004 was due to the timing and volume of profit
contributions of DCSI’s foreign operations (Puerto Rico), which
resulted in a 4.6% favorable adjustment to the Company’s foreign
tax rate differential.
During 2006, the Company determined that state tax expense had
not been accurately recorded in the financial statements for years
2001 through 2005. The effect in any individual prior year was not
material to the Company’s results of operations, financial position
or cash flows. The Company adopted the provisions of SEC Staff
Accounting Bulletin No. 108, “Considering the Effects of Prior Year
Misstatements when Quantifying Misstatements in Current Year
Financial Statements” and recorded $2.4 million as a cumulative
credit adjustment to 2006 beginning retained earnings.
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 17
Management’s Discussion and Analysis
Capital Resources and liquidity
Working capital (current assets less current liabilities) decreased
to $131.4 million at September 30, 2006 from $197.2 million at
September 30, 2005. During 2006, cash and cash equivalents
decreased $67.7 million, primarily due to the $92 million spent
on acquisitions.
The $15.0 million increase in accounts receivable at September 30,
2006 is mainly due to: $8.3 million related to Nexus and Hexagram;
and $5.7 million related to the Filtration segment due to timing
and volume of sales. The $2.3 million increase in inventories at
September 30, 2006 is mainly due to a $4.4 million increase related
to Hexagram, partially offset by a $3.8 million decrease at DCSI.
Accounts payable increased by $10.2 million at September 30,
2006, of which $3.0 million related to Nexus and Hexagram and
$4.6 million related to the timing of vendor payments at DCSI.
Net cash provided by operating activities was $58.6 million,
$68.6 million and $61.0 million in 2006, 2005 and 2004, respec-
tively. The decrease in 2006 is related to lower net earnings in the
current year. The increase in 2005 as compared to 2004 is the result
of higher earnings and lower cash requirements related to MicroSep.
Capital expenditures for continuing operations were $9.1 million,
$8.8 million and $10.8 million in 2006, 2005 and 2004, respec-
tively. Major expenditures included manufacturing equipment and
facility modifications used in the Filtration segment. There were no
commitments outstanding that were considered material for capital
expenditures at September 30, 2006.
At September 30, 2006, intangible assets, net, of $59.2 million
included $45.2 million of capitalized software. Approximately
$40.0 million of the capitalized software balance represents
external development costs on software development called “TNG”
within the Communications segment to further penetrate the IOU
market. TNG is being deployed to efficiently handle the additional
levels of communications dictated by the size of the service
territories and the frequency of reads that are required under
time-of-use or critical peak pricing scenarios to meet the
requirements of large IOUs. At September 30, 2006, the Company
had approximately $5 million of commitments related to TNG
version 1.6.3 which is expected to be spent over the next six
months. The Company expects to spend up to approximately
$10 million in fiscal 2007 on TNG. Amortization of TNG is on a
straight-line basis over seven years and began in March 2006. The
Company recorded $2.2 million in amortization expense related to
TNG during 2006.
At September 30, 2006, the Company had an available net
operating loss (NOL) carryforward for U.S. federal tax purposes
of approximately $15 million. This NOL will expire between 2019
and 2025, and will be available to reduce future Federal income
tax cash payments.
18
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
The closure and relocation of the Filtertek Puerto Rico facility was
completed in March 2004. The Puerto Rico facility is included in
other current assets with a carrying value of $3.6 million at
September 30, 2006. The facility is being marketed for sale.
During 2005, the Company reached a settlement in the defense of
a certain revenue-generating patent used in the Filtration business.
Under the terms of the agreement, the Company received a cash
payment of $1.5 million, and in 2005 the Company recognized a
gain of $0.3 million, after deducting $0.2 million of professional
fees related to the settlement. The unrecognized gain is being
recorded on a straight-line basis in Other (income) and expenses,
net, over the remaining patent life, through 2011.
In 2004, the Company received $2.1 million as final payment on the
note receivable from the sale of the Riverhead, NY, property which
was sold in 1999.
pACiFiC gAS & ElECTRiC
In November 2005, DCSI entered into a contract to provide
equipment, software and services to Pacific Gas & Electric (PG&E)
in support of the electric portion of PG&E’s Advanced Metering
Infrastructure (AMI) project. PG&E’s current AMI project plan
calls for the purchase of TWACS communication equipment for
up to approximately five million electric customers over a five-
year period after the commencement of full deployment. The
total anticipated contract value from commencement through
the five-year full deployment period is expected to be up to
approximately $310 million. PG&E also has the right to purchase
additional equipment and services to support existing and new
customers through the 20-year term of the contract. Equipment
will be purchased by PG&E only upon issuance of purchase orders
and release authorizations. PG&E will continue to have the right to
purchase products or services from other suppliers for the electric
portion of the AMI project. On July 20, 2006, the California Public
Utilities Commission approved PG&E’s AMI project. DCSI has agreed
to deliver to PG&E versions of its newly developed TNG software
as they become available and are tested. Delivery of the final
version for which DCSI has committed is currently anticipated in
the fourth quarter of fiscal 2007. In accordance with U.S. generally
accepted accounting standards, the Company will defer all revenue
related to the DCSI arrangement until all software is delivered
and acceptance criteria have been met. The contract provides for
liquidated damages in the event of DCSI’s late development or
delivery of hardware and software, and includes indemnification
and other customary provisions. The contract may be terminated
by PG&E for default, for its convenience and in the event of a force
majeure lasting beyond certain prescribed periods. The Company
has guaranteed the obligations of DCSI under the contract. If PG&E
terminates the contract for its convenience, DCSI will be entitled to
recover certain costs.
Management’s Discussion and Analysis
In November 2005, Hexagram entered into a contract to provide
equipment, software and services to PG&E in support of the
gas utility portion of PG&E’s AMI project. The total anticipated
contract revenue from commencement through the five-year full
deployment is expected to be approximately $225 million. As with
DCSI’s contract with PG&E, equipment will be purchased only upon
issuance of purchase orders and release authorizations, and PG&E
will continue to have the right to purchase products or services
from other suppliers for the gas utility portion of the AMI project.
On July 20, 2006, the California Public Utilities Commission
approved PG&E’s AMI project. The contract provides for liquidated
damages in the event of late deliveries, includes indemnification
and other customary provisions, and may be terminated by PG&E
for default, for its convenience and in the event of a force majeure
lasting beyond certain prescribed periods. The Company has
guaranteed the performance of the contract by Hexagram.
DiVESTiTuRES
Effective April 2, 2004, the Company completed the sale of PTI
Advanced Filtration Inc. (Oxnard, California) and PTI Technologies
Limited (Sheffield, England) to domnick hunter group plc for
$18.0 million in cash. On June 8, 2004, the Company completed
the sale of PTI S.p.A. (Milan, Italy) to a group of investors
comprised of the subsidiary’s senior management for $5.3 million.
An after-tax gain of $1.6 million related to the sale of these
MicroSep businesses is reflected in the Company’s 2004 results in
discontinued operations. These businesses are accounted for as a
discontinued operation in accordance with SFAS 144, “Accounting
for the Impairment or Disposal of Long-Lived Assets,” and
accordingly, amounts in the financial statements and related
notes for 2004, reflect discontinued operations presentation.
BAnK CREDiT FACiliTY
Effective October 6, 2004, the Company entered into a $100 million
five-year revolving bank credit facility with a $50 million increase
option that has a final maturity and expiration date of October 6,
2009. The credit facility is available for direct borrowings and/or
the issuance of letters of credit, and is provided by a group of six
banks, led by Wells Fargo Bank as agent.
The credit facility requires, as determined by certain financial
ratios, a commitment fee ranging from 17.5 to 27.5 basis points
per annum on the unused portion. The terms of the facility provide
that interest on borrowings may be calculated at a spread over
the LIBOR or based on the prime rate, at the Company’s election.
The credit facility is secured by the unlimited guaranty of the
Company’s material domestic subsidiaries and a 65% pledge of the
material foreign subsidiaries’ share equity. The financial covenants
of the credit facility include limitations on leverage, minimum
consolidated EBITDA and minimum net worth.
At September 30, 2006, the Company had approximately $99.2 mil-
lion available to borrow under the credit facility in addition to
its $36.8 million cash on hand. At September 30, 2006, the Com-
pany had no borrowings, and outstanding letters of credit of
$1.5 million ($0.8 million outstanding under the credit facility).
As of September 30, 2006, the Company was in compliance with
all bank covenants.
Cash flow from operations and borrowings under the bank credit
facility are expected to provide adequate resources to meet the
Company’s capital requirements and operational needs for the
foreseeable future.
COnTRACTuAl OBligATiOnS
The following table shows the Company’s contractual obligations as
of September 30, 2006:
(dollars in millions)
Payments due by period
Contractual
Obligations
Long-Term Debt
Obligation
Capital Lease
Obligations
Operating Lease
Obligations
Purchase
Obligations(1)
Total
Less
than
1 year
1 to 3
years
More
3 to 5
than
years 5 years
Total
$ —
—
—
—
0.9
0.4
0.3
0.2
—
—
22.3
7.1
7.9
4.0
3.3
5.0
5.0
$ 28.2
12.5
—
8.2
—
4.2
—
3.3
(1) A purchase obligation is defined as a legally binding and enforceable agree-
ment to purchase goods and services that specifies all significant terms. Since
the majority of the Company’s purchase orders can be cancelled, they are not
included in the table above. TNG software development costs through version
1.6.3 are included.
The Company has no off balance sheet arrangements outstanding at
September 30, 2006.
ShARE REpuRChASES
In August 2006, the Company’s Board of Directors authorized
an open market common stock repurchase program for up to
1.2 million shares, subject to market conditions and other factors
which covers the period through September 30, 2008. There were
no stock repurchases during fiscal 2006. The Company repurchased
670,072 and 312,400 shares in 2005 and 2004, respectively, under
a previously authorized program.
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 19
Management’s Discussion and Analysis
pEnSiOn FunDing REQuiREMEnTS
Critical Accounting policies
The minimum cash funding requirements related to the Company’s
defined benefit pension plans are zero in 2007, approximately
$1 million in 2008 and approximately $1 million in 2009. The
Company made a voluntary cash contribution of $1.4 million
in 2006.
OThER
Management believes that, for the periods presented, inflation has
not had a material effect on the Company’s results of operations.
The Company is currently involved in various stages of investigation
and remediation relating to environmental matters. Based on
current information available, Management does not believe the
aggregate costs involved in the resolution of these matters will
have a material adverse effect on the Company’s operating results,
capital expenditures or competitive position.
Market Risk Analysis
MARKET RiSK EXpOSuRE
Market risks relating to the Company’s operations result primarily
from changes in interest rates and changes in foreign currency
exchange rates.
At September 30, 2006 and 2005, the Company had no obligations
related to interest rate swaps. During 2004, in conjunction with
the sale of PTI S.p.A., the Company repaid its $8.0 million Euro-
denominated debt, and at the same time, the Company terminated
its $5.0 million interest rate swap obligation, resulting in a cash
payment of $0.1 million by the Company.
The Company is also subject to foreign currency exchange rate risk
inherent in its sales commitments, anticipated sales, anticipated
purchases and assets and liabilities denominated in currencies other
than the U.S. dollar. The foreign currency most significant to the
Company’s operations is the Euro. Net sales to customers outside
of the United States were $103.0 million, $103.8 million, and
$91.5 million in 2006, 2005 and 2004, respectively. The Company
hedges certain foreign currency commitments by purchasing foreign
currency forward contracts. The estimated fair value of open forward
contracts at September 30, 2006 was not material.
The preparation of financial statements in conformity with GAAP
requires Management to make estimates and assumptions in certain
circumstances that affect amounts reported in the accompanying
consolidated financial statements. In preparing these financial
statements, Management has made its best estimates and judgments
of certain amounts included in the financial statements, giving due
consideration to materiality. The Company does not believe there
is a great likelihood that materially different amounts would be
reported under different conditions or using different assumptions
related to the accounting policies described below. However,
application of these accounting policies involves the exercise of
judgment and use of assumptions as to future uncertainties and,
as a result, actual results could differ from these estimates. The
Company’s senior Management discusses the critical accounting
policies described below with the Audit and Finance Committee
of the Company’s Board of Directors on a periodic basis.
The following discussion of critical accounting policies is intended
to bring to the attention of readers those accounting policies which
Management believes are critical to the Consolidated Financial
Statements and other financial disclosure. It is not intended to
be a comprehensive list of all significant accounting policies
that are more fully described in Note 1 of Notes to Consolidated
Financial Statements.
REVEnuE RECOgniTiOn
Communications Unit: Within the Communications unit,
approximately 95% of the unit’s revenue arrangements
(approximately 30% of consolidated revenues) contain software
components. Revenue under these arrangements is recognized
in accordance with Statement of Position 97-2 (SOP 97-2),
“Software Revenue Recognition,” as amended by SOP 98-9,
“Modification of SOP 97-2, Software Revenue Recognition, with
Respect to Certain Transactions.” The application of software
revenue recognition requires judgment, including the determination
of whether a software arrangement includes multiple elements
and estimates of the fair value of the elements, or vendor-specific
objective evidence of fair value (“VSOE”). Changes to the elements
in a software arrangement, and the ability to identify VSOE for
those elements could materially impact the amount of earned
and/or deferred revenue. There have been no material changes to
these estimates for the financial statement periods presented and
the Company believes that these estimates generally should not be
subject to significant variation in the future. The remaining 5% of
the unit’s revenues represent products sold under a single element
arrangement and are recognized when products are delivered to
unaffiliated customers.
20
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
Management’s Discussion and Analysis
Filtration/Fluid Flow Unit: Within the Filtration/Fluid Flow
operating unit, approximately 75% of operating unit revenues
(approximately 30% of consolidated revenues) are recognized when
products are delivered (when title and risk of ownership transfers)
or when services are performed for unaffiliated customers.
Approximately 25% of operating unit revenues (approximately 10%
of consolidated revenues) are recorded under the percentage-of-
completion provisions of SOP 81-1, “Accounting for Performance of
Construction-Type and Certain Production-Type Contracts” because
the Company manufactures complex products for aerospace and
military customers under production contracts. The percentage-
of-completion method of accounting involves the use of various
estimating techniques to project costs at completion. These
estimates involve various assumptions and projections relative
to the outcome of future events over a period of several years,
including future labor productivity and availability, the nature and
complexity of the work to be performed, availability of materials,
the impact of delayed performance, and the timing of product
deliveries. These estimates are based on Management’s judgment
and the Company’s substantial experience in developing these
types of estimates. Changes in underlying assumptions/estimates
may adversely affect financial performance if they increase
estimated project costs at completion, or positively affect financial
performance if they decrease estimated project costs at completion.
Due to the nature of these contracts and the operating unit’s cost
estimating process, the Company believes that these estimates
generally should not be subject to significant variation in the
future. There have been no material changes to these estimates for
the financial statement periods presented. The Company regularly
reviews its estimates to assess revisions in contract values and
estimated costs at completion.
Test Unit: Within the Test unit, approximately 60% of revenues
(approximately 20% of consolidated revenues) are recognized when
products are delivered (when title and risk of ownership transfers)
or when services are performed for unaffiliated customers. Certain
arrangements contain multiple elements which are accounted for
under the provisions of EITF 00-21, “Revenue Arrangements with
Multiple Deliverables.” The application of EITF 00-21 requires
judgment as to whether the deliverables can be divided into more
than one unit of accounting and whether the separate units of
accounting have value to the customer on a stand-alone basis.
Changes to these elements could affect the timing of revenue
recognition. There have been no material changes to these elements
for the financial statement periods presented.
Approximately 40% of the unit’s revenues (approximately 10%
of consolidated revenues) are recorded under the percentage-of-
completion provisions of SOP 81-1, “Accounting for the Performance
of Construction-Type and Certain Production-Type Contracts” due
to the complex nature of the enclosures that are designed and
produced under these contracts. As discussed above, this method
of accounting involves the use of various estimating techniques
to project costs at completion, which are based on Management’s
judgment and the Company’s substantial experience in developing
these types of estimates. Changes in underlying assumptions/
estimates may adversely or positively affect financial performance.
Due to the nature of these contracts and the operating unit’s cost
estimating process, the Company believes that these estimates
generally should not be subject to significant variation in the
future. There have been no material changes to these estimates for
the financial statement periods presented. The Company regularly
reviews its contract estimates to assess revisions in contract values
and estimated costs at completion.
inVEnTORY
Inventories are valued at the lower of cost (first-in, first-out) or
market value. Management regularly reviews inventories on hand
compared to historical usage and estimated future usage and sales.
Inventories under long-term contracts reflect accumulated produc-
tion costs, factory overhead, initial tooling and other related costs
less the portion of such costs charged to cost of sales and any un-
liquidated progress payments. In accordance with industry practice,
costs incurred on contracts in progress include amounts relating
to programs having production cycles longer than one year, and
a portion thereof may not be realized within one year.
inCOME TAXES
The Company operates in numerous taxing jurisdictions and is
subject to examination by various U.S. Federal, state and foreign
jurisdictions for various tax periods. Additionally, the Company has
retained tax liabilities and the rights to tax refunds in connection
with various divestitures of businesses in prior years. The Company’s
income tax positions are based on research and interpretations
of the income tax laws and rulings in each of the jurisdictions in
which the Company does business. Due to the subjectivity of inter-
pretations of laws and rulings in each jurisdiction, the differences
and interplay in tax laws between those jurisdictions, as well as the
inherent uncertainty in estimating the final resolution of complex
tax audit matters, Management’s estimates of income tax liabilities
may differ from actual payments or assessments.
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 21
Management’s Discussion and Analysis
While the Company has support for the positions taken on its
tax returns, taxing authorities are increasingly asserting alternate
interpretations of laws and facts, and are challenging cross
jurisdictional transactions. Cross jurisdictional transactions
between the Company’s subsidiaries involving transfer prices for
products and services, as well as various U.S. federal, state and
foreign tax matters, comprise the Company’s income tax exposures.
Management regularly assesses the Company’s position with regard
to tax exposures and records liabilities for these uncertain tax
positions and related interest and penalties, if any, according
to the principles of SFAS No. 5, “Accounting for Contingencies.”
The Company has recorded an accrual that reflects Management’s
estimate of the likely outcome of current and future audits. A final
determination of these tax audits or changes in Management’s
estimates may result in additional future income tax expense
or benefit.
At the end of each interim reporting period, Management estimates
the effective tax rate expected to apply to the full fiscal year. The
estimated effective tax rate contemplates the expected jurisdiction
where income is earned, as well as tax planning strategies. Current
and projected growth in income in higher tax jurisdictions may
result in an increasing effective tax rate over time. If the actual
results differ from Management’s estimates, Management may
have to adjust the effective tax rate in the interim period such
determination is made.
Income taxes are accounted for under the asset and liability
method. Deferred tax assets and liabilities are recognized for
the future tax consequences attributable to differences between
the financial statement carrying amounts of existing assets and
liabilities and their respective tax bases. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply
to taxable income in the years in which those temporary differences
are expected to be recovered or settled. Deferred tax assets may be
reduced by a valuation allowance if it is more likely than not that
some portion of all of the deferred tax assets will not be realized.
The effect on deferred tax assets and liabilities of a change in
tax rates is recognized in income in the period that includes the
enactment date. The Company regularly reviews its deferred tax
assets for recoverability and establishes a valuation allowance when
Management believes it is more likely than not such assets will not
be recovered, taking into consideration historical operating results,
expectations of future earnings, tax planning strategies, and the
expected timing of the reversals of existing temporary differences.
gOODWill AnD OThER lOng-liVED ASSETS
In accordance with SFAS 142, Management annually reviews
goodwill and other long-lived assets with indefinite useful lives
for impairment or whenever events or changes in circumstances
indicate the carrying amount may not be recoverable. If the
Company determines that the carrying value of the long-lived asset
may not be recoverable, a permanent impairment charge is recorded
for the amount by which the carrying value of the long-lived asset
exceeds its fair value. Fair value is measured based on a discounted
cash flow method using a discount rate determined by Management
to be commensurate with the risk inherent in the Company’s
current business model. The estimates of cash flows and discount
rate are subject to change due to the economic environment,
including such factors as interest rates, expected market returns
and volatility of markets served. Management believes that the
estimates of future cash flows and fair value are reasonable;
however, changes in estimates could result in impairment charges.
SFAS 142 also requires that intangible assets with estimable useful
lives be amortized over their respective estimated useful lives to
their estimated residual values, and reviewed for impairment in
accordance with SFAS 144.
pEnSiOn plAnS AnD OThER pOSTRETiREMEnT BEnEFiT plAnS
The measurement of liabilities related to pension plans and
other post-retirement benefit plans is based on Management’s
assumptions related to future events including interest rates,
return on pension plan assets, rate of compensation increases, and
health care cost trend rates. Actual pension plan asset performance
will either decrease or increase unamortized pension losses that
will affect net earnings in future years. Depending upon the
performance of the equity and bond markets in 2007, the Company
could be required to record a charge to equity. In addition, if the
discount rate was decreased by 25 basis points from 5.75% to
5.50%, the accumulated benefit obligation for the defined benefit
plan would increase by approximately $1.6 million and result in an
additional after-tax charge to shareholders’ equity of approximately
$1.0 million. The discount rate used in measuring the Company’s
pension and postretirement welfare obligations was developed by
matching yields of actual high-quality corporate bonds to expected
future pension plan cash flows (benefit payments). Over 500
Aa-rated, non-callable bonds with a wide range of maturities were
used in the analysis. After using the bond yields to determine the
present value of the plan cash flows, a single representative rate
that resulted in the same present value was developed.
22
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
Management’s Discussion and Analysis
Other Matters
COnTingEnCiES
As a normal incident of the businesses in which the Company
is engaged, various claims, charges and litigation are asserted
or commenced against the Company. Lindgren is involved in a
contract dispute with a prime contractor involving the assertion of
certain construction delay damages of approximately $3.7 million.
The project was completed in 2005. Lindgren vigorously denies
responsibility for this delay and for these damages, and has
asserted a claim against the prime contractor of $0.9 million
based on damages suffered by Lindgren. Lindgren continues to
aggressively defend its position and pursue its right to affirmative
damages however, there can be no assurance of the outcome at this
time. In the opinion of Management, final judgments, if any, which
might be rendered against the Company are adequately reserved,
covered by insurance, or are not likely to have a material adverse
effect on its financial statements.
QuAnTiTATiVE AnD QuAliTATiVE DiSClOSuRES ABOuT MARKET RiSK
Market risks relating to the Company’s operations result primarily
from changes in interest rates and changes in foreign currency
exchange rates. At September 30, 2006 and 2005, the Company
had no obligations related to interest rate swaps. During 2004,
in conjunction with the sale of PTI S.p.A., the Company repaid
its $8.0 million Euro-denominated debt and at the same time, the
Company terminated its $5.0 million interest rate swap obligation
resulting in a cash payment of $0.1 million by the Company. See
further discussion in “Management’s Discussion and Analysis —
Market Risk Analysis” regarding the Company’s market risks.
COnTROlS AnD pROCEDuRES
The Company carried out an evaluation under the supervision of
and with the participation of Management, including the Company’s
Chief Executive Officer and Chief Financial Officer, of the effective-
ness of the design and operation of the Company’s disclosure
controls and procedures as of the end of the period covered by this
report. Based upon that evaluation, the Company’s Chief Executive
Officer and Chief Financial Officer concluded that the Company’s
disclosure controls and procedures are effective excluding the
Hexagram and Nexus acquisitions. Disclosure controls and proce-
dures are controls and procedures that are designed to ensure that
information required to be disclosed in company reports filed or
submitted under the Securities Exchange Act of 1934 is recorded,
processed, summarized and reported within time periods specified
in the Securities and Exchange Commission’s rules and forms. There
have been no significant changes in the Company’s internal controls
or in other factors during the period covered by this report that
have materially affected, or are reasonably likely to materially
affect those controls and procedures.
new Accounting pronouncements
In December 2004, the FASB issued SFAS No. 123(R), “Share-Based
Payment” (SFAS 123(R)). This Statement replaces SFAS No. 123,
“Accounting for Stock-Based Compensation” and supersedes APB
No. 25, “Accounting for Stock Issued to Employees.” SFAS 123(R)
requires all stock-based compensation to be recognized as an
expense in the financial statements and that such cost be measured
according to the fair value of stock options. The Company adopted
the provisions of this Statement in the first quarter of fiscal 2006
on a prospective basis.
In December 2004, the FASB issued FASB Staff Position FAS 109-2,
“Accounting and Disclosure Guidance for the Foreign Earnings
Repatriation Provision within the American Jobs Creation Act of
2004 (FSP 109-2).” The American Jobs Creation Act of 2004, (the
“Act”) provides for a special one-time deduction of 85 percent of
certain foreign earnings repatriated into the U.S. from non-U.S.
subsidiaries through September 30, 2006. During fiscal 2006, the
Company repatriated $39.5 million of foreign earnings which qualify
for the special one-time deduction. Tax expense of $2.4 million was
recorded in fiscal 2006 as a result of this repatriation.
In June 2006, the FASB issued FASB Interpretation No. 48,
“Accounting for Uncertainty in Income Taxes, an Interpretation
of FASB Statement No. 109.” This Interpretation is effective for
ESCO beginning October 1, 2007. This Interpretation prescribes a
recognition threshold and measurement process for the financial
statement recognition and measurement of a tax position taken
or expected to be taken in a tax return. The Company is currently
evaluating the adoption of this Interpretation and does not
currently have an estimate of the impact on the consolidated
financial statements.
In September 2006, the FASB issued SFAS No. 158, “Employer’s
Accounting for Defined Benefit Pension and Other Postretirement
Plans” (SFAS 158), which amends SFAS 87 and SFAS 106 to require
recognition of the overfunded or underfunded status of pension
and other postretirement benefit plans on the balance sheet. Under
SFAS 158, gains and losses, prior service costs and credits, and any
remaining transition amounts under SFAS 87 and SFAS 106 that
have not yet been recognized through net periodic benefit cost will
be recognized in accumulated other comprehensive income, net of
tax effects. The measurement date — the date at which the benefit
obligation and plan assets are measured — is required to be the
Company’s fiscal year-end, which is the date the Company currently
uses. SFAS 158 is effective for publicly held companies for fiscal
years ending after December 15, 2006. The adoption of SFAS 158 is
not expected to have a material impact to the Company’s financial
position or results of operations.
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 23
Management’s Discussion and Analysis
In September 2006, the SEC issued Staff Accounting Bulletin
No. 108, “Considering the Effects of Prior Year Misstatements when
Quantifying Misstatements in Current Year Financial Statements”
(SAB No. 108), which addresses the diversity in practice in
quantifying financial statement misstatements and provides
interpretative guidance regarding the consideration given to prior
year misstatements when determining materiality in current year
financial statements. During 2006, the Company adopted the
provisions of SAB No. 108 and recorded $2.4 million as a cumulative
credit adjustment to 2006 beginning retained earnings.
In September 2006, the FASB issued SFAS No. 157, “Fair Value
Measurements” (SFAS 157), which defines fair value in generally
accepted accounting principles and expands disclosures about
fair value measurements. This Statement is effective for financial
statements issued for fiscal years beginning after November 15,
2007. The adoption of SFAS 157 is not expected to have a material
impact to the Company’s financial position or results of operations.
Forward-looking information
Statements regarding future events and the Company’s future
results that are based on current expectations, estimates, forecasts
and projections about the Company’s performance and the
industries in which the Company operates, the Company’s ability to
utilize NOLs, adequacy of the Company’s credit facility and future
cash flows, estimates of anticipated contract costs and revenues,
the timing, amount and success of claims for research credits,
the success of software development efforts and resulting costs,
acceptance by PG&E of the final version of DCSI’s TNG software,
growth in the AMR market, potential customer contracts, the
anticipated value of the PG&E contract, the outcome of current
litigation, claims and charges, recoverability of deferred tax
assets, continued reinvestment of foreign earnings, the impact of
SFAS 158, future costs relating to environmental matters, share
repurchases, investments, sustained performance improvement,
performance improvement initiatives, growth opportunities, new
product development, the Company’s ability to increase shareholder
value, acquisitions, and the beliefs and assumptions of Management
contained in the Letter to Our Shareholders (pages 1-2), the
Report of the Chief Financial Officer (page 12), and Management’s
Discussion and Analysis and other statements contained herein
which are not strictly historical are considered “forward-looking
statements” within the meaning of the safe harbor provisions of the
federal securities laws. Words such as expects, anticipates, targets,
goals, projects, intends, plans, believes, estimates, variations
of such words, and similar expressions are intended to identify
such forward-looking statements. Investors are cautioned that
such statements are only predictions, speak only as of the date
of this report, and the Company undertakes no duty to update.
The Company’s actual results in the future may differ materially
from those projected in the forward-looking statements due to
risks and uncertainties that exist in the Company’s operations
and business environment including, but not limited to: actions
by the California Public Utility Commission; PG&E’s Board of
Directors or PG&E’s management impacting PG&E’s AMI projects;
the timing and success of DCSI’s software development efforts;
the timing and content of purchase order releases under the PG&E
contracts; and DCSI’s and Hexagram’s successful performance
of the PG&E contracts; the timing and execution of real estate
sales; termination for convenience of customer contracts;
timing and magnitude of future contract awards; weakening
of economic conditions in served markets; the success of the
Company’s competitors; changes in customer demands or customer
insolvencies; competition; intellectual property rights; technical
difficulties; the availability of selected acquisitions; the timing,
pricing and availability of shares offered for sale; delivery delays
or defaults by customers; performance issues with key customers,
suppliers and subcontractors; material changes in the costs of
certain raw materials; the successful sale of the Company’s Puerto
Rico facility; collective bargaining and labor disputes; changes
in laws and regulations including but not limited to changes in
accounting standards and taxation requirements; costs relating to
environmental matters; litigation uncertainty; and the Company’s
successful execution of internal operating plans.
24
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
Consolidated Statements of Operations
(Dollars in thousands, except per share amounts)
Years ended September 30,
Net sales
Costs and expenses:
Cost of sales
Selling, general and administrative expenses
Amortization of intangible assets
Interest income, net
Other (income) and expenses, net
Asset impairment
Total costs and expenses
Earnings before income tax
Income tax expense
Net earnings from continuing operations
Loss from discontinued operations,
net of tax benefit: 2004, $(1,295)
Gain on sale of discontinued operations,
net of tax benefit: 2004, $(1,186)
Net loss from discontinued operations
Net earnings
Earnings per share:
Basic:
Continuing operations
Discontinued operations
Net earnings
Diluted:
Continuing operations
Discontinued operations
Net earnings
Average common shares outstanding (in thousands):
Basic
Diluted
See accompanying notes to consolidated financial statements.
2006
2005
2004
$ 458,865
429,115
422,085
300,309
106,882
6,872
(1,286)
(2,814)
—
281,654
84,241
1,973
(1,900)
(1,550)
790
282,369
77,296
2,122
(844)
578
—
409,963
365,208
361,521
48,902
17,622
31,280
—
—
—
63,907
20,363
43,544
—
—
—
$ 31,280
43,544
$
1.22
—
$
1.22
$
1.19
—
$
1.19
1.71
—
1.71
1.66
—
1.66
60,564
22,748
37,816
(3,737)
1,592
(2,145)
35,671
1.47
(0.09)
1.38
1.42
(0.08)
1.34
25,718
26,386
25,511
26,306
25,803
26,648
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 25
2006
2005
$ 36,819
104,484
83,816
68,819
1,345
50,984
24,251
10,042
4,392
48,645
25,271
8,394
207,257
260,005
5,497
46,089
86,312
1,444
5,493
42,918
76,741
1,108
139,342
126,260
70,588
68,754
143,450
59,202
10,031
59,070
67,190
68,880
21,545
6,152
$ 488,694
423,772
Consolidated Balance Sheets
(Dollars in thousands)
Years ended September 30,
ASSETS
Current assets:
Cash and cash equivalents
Accounts receivable, less allowance for doubtful accounts of
$798 and $585 in 2006 and 2005, respectively
Costs and estimated earnings on long-term contracts, less progress
billings of $4,405 and $7,033 in 2006 and 2005, respectively
Inventories
Current portion of deferred tax assets
Other current assets
Total current assets
property, plant and equipment:
Land and land improvements
Buildings and leasehold improvements
Machinery and equipment
Construction in progress
Less accumulated depreciation and amortization
Net property, plant and equipment
Goodwill
Intangible assets, net
Other assets
See accompanying notes to consolidated financial statements.
26
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
Consolidated Balance Sheets
(Dollars in thousands)
Years ended September 30,
liABiliTiES AnD ShAREhOlDERS’ EQuiTY
Current liabilities:
Short-term borrowings and current maturities of long-term debt
Accounts payable
Advance payments on long-term contracts, less costs incurred
of $19,532 and $10,949 in 2006 and 2005, respectively
Accrued salaries
Accrued other expenses
Total current liabilities
Deferred revenue
Pension obligations
Other liabilities
Long-term debt
Total liabilities
Shareholders’ equity:
Preferred stock, par value $.01 per share, authorized 10,000,000 shares
Common stock, par value $.01 per share, authorized 50,000,000 shares;
Issued 29,030,995 and 28,738,958 shares in 2006 and 2005, respectively
Additional paid-in capital
Retained earnings
Accumulated other comprehensive loss
Less treasury stock, at cost (3,166,026 and 3,175,626 common shares in
2006 and 2005, respectively)
Total shareholders’ equity
See accompanying notes to consolidated financial statements.
2006
2005
$
—
39,496
7,367
13,932
15,100
75,895
7,458
13,143
15,764
—
112,260
—
29,299
6,773
12,024
14,661
62,757
3,134
17,481
9,376
—
92,748
—
290
236,390
193,046
(2,070)
—
287
228,317
159,363
(5,566)
427,656
382,401
(51,222)
(51,377)
376,434
$ 488,694
331,024
423,772
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 27
Consolidated Statements of Shareholders’ Equity
(In thousands)
Years ended September 30,
Common Stock
Amount
Shares
Additional
Paid-In
Capital
Retained
Earnings
Accumulated
Other
Comprehensive
Income (Loss)
Treasury
Stock
Total
Balance, September 30, 2003
13,933
$139
216,506
80,292
(4,982)
(16,566) 275,389
Comprehensive income:
Net earnings
Translation adjustments
Minimum pension liability,
net of tax of $815
Interest rate swap adjustment
net of tax benefit of $(51)
Comprehensive income
Stock options and stock compensation
plans, net of tax benefit of $(1,939)
Purchases into treasury
—
—
—
—
216
—
—
—
—
—
3
—
—
—
—
—
5,205
—
35,671
—
—
—
—
—
—
2,703
—
—
35,671
2,703
(1,514)
—
(1,514)
95
—
95
36,955
—
—
45
5,253
(9,981)
(9,981)
Balance, September 30, 2004
14,149
142
221,711
115,963
(3,698)
(26,502) 307,616
Comprehensive income:
Net earnings
Translation adjustments
Minimum pension liability,
net of tax of $1,372
Comprehensive income
Stock options and stock compensation
plans, net of tax benefit of $(3,032)
Purchases into treasury
100 percent stock dividend
—
—
—
—
—
—
—
—
—
43,544
—
—
—
680
—
—
43,544
680
(2,548)
—
(2,548)
41,676
222
—
14,368
1
6,606
—
144
—
—
—
—
(144)
—
—
—
53
6,660
(24,928)
(24,928)
—
—
Balance, September 30, 2005
28,739
287
228,317
159,363
(5,566)
(51,377) 331,024
SAB 108 Cumulative effect adjustment
—
—
—
2,403
—
—
2,403
Comprehensive income:
Net earnings
Translation adjustments
Minimum pension liability,
net of tax of $(1,103)
Comprehensive income
Stock options and stock compensation
plans, net of tax benefit of $(3,173)
—
—
—
—
—
—
—
—
—
31,280
—
—
—
1,448
—
—
31,280
1,448
2,048
—
2,048
34,776
292
3
8,073
—
—
155
8,231
Balance, September 30, 2006
29,031
$290
236,390
193,046
(2,070)
(51,222) 376,434
See accompanying notes to consolidated financial statements.
28
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
Consolidated Statements of Cash Flow
(Dollars in thousands)
Years ended September 30,
Cash flows from operating activities:
Net earnings
Adjustments to reconcile net earnings to net cash provided by operating activities:
2006
2005
2004
$ 31,280
43,544
35,671
Loss from discontinued operations, net of tax
Gain on sale of discontinued operations, net of tax
Asset impairment
Depreciation and amortization
Stock compensation expense
Changes in operating working capital
Effect of deferred taxes on tax provision
Pension contributions
Change in deferred revenue and costs, net
Other
Net cash provided by operating activities — continuing operations
Net cash used by discontinued operations
Net cash provided by operating activities
Cash flows from investing activities:
Acquisition of businesses, net of cash acquired
Proceeds from divestiture of businesses
Proceeds from note receivable
Capital expenditures — continuing operations
Capital expenditures — discontinued operations
Additions to capitalized software
—
—
—
17,303
4,790
1,162
3,596
(1,350)
1,133
712
58,626
—
58,626
(91,968)
—
—
(9,117)
—
(27,977)
—
—
790
12,184
2,649
(4,634)
15,221
—
396
(1,594)
68,556
—
68,556
—
—
—
(8,848)
—
(8,342)
3,737
(1,592)
—
11,888
1,766
(2,349)
14,056
(900)
—
1,485
63,762
(2,735)
61,027
(294)
23,275
2,120
(10,823)
(1,390)
(8,299)
Net cash provided (used) by investing activities
(129,062)
(17,190)
4,589
Cash flows from financing activities:
Proceeds from long-term debt
Principal payments on long-term debt — continuing operations
Principal payments on long-term debt — discontinued operations
Net decrease in short-term borrowings
Purchases of common stock into treasury
Excess tax benefit from stock options exercised
Proceeds from exercise of stock options
Other
52,000
(52,000)
—
—
—
1,569
2,761
(1,559)
—
(519)
—
—
(24,928)
—
3,037
3,247
378
(516)
(9,024)
(10,000)
(9,981)
—
3,027
1,496
Net cash provided (used) by financing activities
2,771
(19,163)
(24,620)
Net (decrease) increase in cash and cash equivalents
Cash and cash equivalents at beginning of year
Cash and cash equivalents at end of year
Changes in operating working capital:
Accounts receivable, net
Costs and estimated earnings on long-term contracts, net
Inventories
Other current assets and current portion of deferred tax assets
Accounts payable
Advance payments on long-term contracts, net
Accrued expenses
Supplemental cash flow information:
Interest paid
Income taxes paid (including state, foreign & AMT)
See accompanying notes to consolidated financial statements.
(67,665)
104,484
32,203
72,281
$ 36,819
104,484
$ (10,029)
3,047
1,822
737
7,675
594
(2,684)
8,910
(1,916)
(4,358)
(1,856)
(3,156)
2,468
(4,726)
40,996
31,285
72,281
(8,350)
2,187
4,145
(2,405)
(2,485)
3,161
1,398
$
1,162
(4,634)
(2,349)
$
456
10,768
33
6,269
402
4,974
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 29
notes to Consolidated Financial Statements
1. Summary of Significant Accounting policies
A. pRinCiplES OF COnSOliDATiOn
The consolidated financial statements include the accounts of ESCO
Technologies Inc. (ESCO) and its wholly owned subsidiaries (the
Company). All significant intercompany transactions and accounts
have been eliminated in consolidation. Certain prior year amounts
have been reclassified to conform with the 2006 presentation.
B. BASiS OF pRESEnTATiOn
Fair values of the Company’s financial instruments are estimated
by reference to quoted prices from market sources and financial
institutions, as well as other valuation techniques. The estimated
fair value of each class of financial instruments approximated the
related carrying value at September 30, 2006 and 2005.
C. nATuRE OF OpERATiOnS
The Company has three industry operating units: Communications,
Filtration/Fluid Flow and Test. The Communications unit is a proven
supplier of special purpose communications systems for electric,
gas and water utilities, including hardware and software to support
advanced metering applications. The Filtration/Fluid Flow unit
develops, manufactures and markets a broad range of filtration
products used in the purification and processing of liquids and
gases. The Test unit is an industry leader in providing its customers
with the ability to identify, measure and contain magnetic,
electromagnetic and acoustic energy.
D. uSE OF ESTiMATES
The preparation of financial statements in conformity with
accounting principles generally accepted in the United States
of America (GAAP) requires Management to make estimates and
assumptions, including estimates of anticipated contract costs and
revenues utilized in the earnings process, that affect the reported
amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates.
E. REVEnuE RECOgniTiOn
Communications Unit: Within the Communications unit,
approximately 95% of the unit’s revenue arrangements
(approximately 30% of consolidated revenues) contain software
components. Revenue under these arrangements is recognized in
accordance with Statement of Position 97-2 (SOP 97-2), “Software
Revenue Recognition,” as amended by SOP 98-9, “Modification
of SOP 97-2, Software Revenue Recognition, with Respect to
Certain Transactions.” The unit’s software revenue arrangements
generally include multiple products and services, or “elements”
consisting of meter and substation hardware, meter reading system
software, program management support during the deployment
period and software support (post-contract customer support,
“PCS”). These arrangements typically require the Company to
deliver software at the inception of the arrangement while the
30
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
hardware, and program management support are delivered over
the contractual deployment period. Software support is provided
during deployment and subsequent thereto. The software element
included in such arrangements is essential to the functionality
of the hardware and, therefore, the hardware is considered to be
software-related. Hardware is considered a specified element in the
software arrangement and vendor-specific objective evidence of
fair value (“VSOE”) has been established for this element. VSOE for
the hardware element is determined based on the price when sold
separately to customers. These revenue arrangements are divided
into separate units of accounting if the delivered item(s) has
value to the customer on a stand-alone basis, there is objective
and reliable evidence of the fair value of the undelivered item(s)
and delivery/performance of the undelivered item(s) is probable.
For multiple element arrangements, revenue is allocated to the
individual elements based on VSOE of the individual elements.
The application of these principles requires judgment, including
the determination of whether a software arrangement includes
multiple elements and estimates of the fair value of the elements.
The VSOE of the undelivered elements is determined based on
the historical evidence of stand-alone sales of these elements to
customers. Hardware revenues are generally recognized at the time
of shipment or receipt by customer depending upon contract terms.
VSOE generally does not exist for the software element, therefore,
the Company uses the residual method to recognize revenue when
VSOE exists for all other undelivered elements. Under the residual
method, the fair value of the undelivered elements is deferred
and the remaining portion of the arrangement fee is recognized
as revenue.
SOP 97-2 requires the seller of software that includes post-contract
customer support (PCS) to establish VSOE of the undelivered
element of the contract in order to account separately for the PCS
revenue. The Company determines VSOE by a consistent pricing of
PCS and PCS renewals as a percentage of the software license fees
or by reference to contractual renewals, when the renewal terms
are substantive. Revenues for PCS are recognized ratably over
the maintenance term specified in the contract (generally in
12 monthly increments). Revenues for program management support
are recognized when services have been provided. The Company
determines VSOE for program management support based on hourly
rates when services are performed separately.
In November 2005, DCSI and Hexagram entered into arrangements
with a large utility company to provide software, program
management services, training and PCS that includes an option
for the customer to purchase a significant quantity of hardware
over an initial deployment period of approximately five years and
subsequently over the remaining initial contract term of up to
fifteen years. The software, program management services and
training will be delivered over the initial hardware deployment
period of approximately five years. PCS will be provided at no
charge during the first year of the initial deployment period,
after which it will be provided over subsequent annual periods
throughout the contract term if the customer chooses to continue
notes to Consolidated Financial Statements
PCS. Because the program management services are based on a
fixed price per month rather than on a time and materials basis, the
Company is unable to establish VSOE for the program management
services in this arrangement. The Company is able to establish VSOE
for the PCS based on contractual renewal rates that are consistent
with other arrangements and for the training based on pricing
when sold separately. For the DCSI arrangement, the pricing for
the optional hardware includes a discount that the Company has
determined to be more-than-insignificant. In accordance with
applicable software revenue recognition guidance, the Company will
defer all revenue related to the DCSI arrangement until all software
is delivered and acceptance criteria have been met. At that time,
revenue otherwise allocable to the software, program management
services, training and initial bundled PCS will be reduced by the
rate of the significant incremental discount offered on the hardware
products. The portion of the arrangement consideration allocated to
the significant incremental discount will be recognized ratably over
the discount period (up to twenty years) similar to a subscription.
The remaining arrangement consideration will be recognized
ratably over the period the program management services will be
performed (the initial deployment period of approximately five
years). Additional annual fees are payable in each subsequent year
that PCS is provided and will be recognized over the respective PCS
period. The amount paid by the customer for optional purchases of
hardware during the deployment period related to both the DCSI
and Hexagram arrangements will be recognized upon delivery and
acceptance, if applicable, assuming all other revenue recognition
criteria have been met.
Approximately 5% of unit revenues are recognized when products
are delivered (when title and risk of ownership transfers) or when
services are performed for unaffiliated customers. Products include
the SecurVision® digital video surveillance systems.
Filtration/Fluid Flow Unit: Within the Filtration/Fluid Flow
operating unit, approximately 75% of operating unit revenues
(approximately 30% of consolidated revenues) are recognized when
products are delivered (when title and risk of ownership transfers)
or when services are performed for unaffiliated customers.
Approximately 25% of operating unit revenues (approximately 10%
of consolidated revenues) are recorded under the percentage-of-
completion provisions of SOP 81-1, “Accounting for Performance of
Construction-Type and Certain Production-Type Contracts.” Products
accounted for under SOP 81-1 include the design, development
and manufacture of complex fluid control products, quiet valves,
manifolds and systems primarily for the aerospace and military
markets. For arrangements that are accounted for under SOP 81-1,
the Company estimates profit as the difference between total
estimated revenue and total estimated cost of a contract and
recognizes these revenues and costs based on units delivered.
The percentage-of-completion method of accounting involves the
use of various techniques to estimate expected costs at completion.
Test Unit: Within the Test unit, approximately 60% of revenues
(approximately 20% of consolidated revenues) are recognized when
products are delivered (when title and risk of ownership transfers)
or when services are performed for unaffiliated customers. Certain
arrangements contain multiple elements which are accounted for
under the provisions of EITF 00-21, “Revenue Arrangements with
Multiple Deliverables.” The multiple elements generally consist
of materials and installation services used in the construction
and installation of standard shielded enclosures to measure and
contain magnetic and electromagnetic energy. The installation
process does not involve changes to the features or capabilities of
the equipment and does not require proprietary information about
the equipment in order for the installed equipment to perform to
specifications. There is objective and reliable evidence of fair value
for each of the units of accounting, as a result, the arrangement
revenue is allocated to the separate units of accounting based on
their relative fair values. Typically, fair value is the price of the
deliverable when it is regularly sold on a stand-alone basis.
Approximately 40% of the unit’s revenues (approximately 10%
of consolidated revenues) are recorded under the percentage-of-
completion provisions of SOP 81-1, “Accounting for the Performance
of Construction-Type and Certain Production-Type Contracts” due
to the complex nature of the enclosures that are designed and
produced under these contracts. Products accounted for under SOP
81-1 include the construction and installation of complex test
chambers to a buyer’s specifications that provide its customers
with the ability to measure and contain magnetic, electromagnetic
and acoustic energy. As discussed above, for arrangements that are
accounted for under SOP 81-1, the Company estimates profit as the
difference between total estimated revenue and total estimated
cost of a contract and recognizes these revenues and costs based
on either (a) units delivered or (b) contract milestones.
If a reliable measure of output cannot be established (which
applies in less than 8% of Test unit revenues or 2% of consolidated
revenues), input measures (e.g., costs incurred) are used to
recognize revenue. Given the nature of the Company’s operations
related to these contracts, costs incurred represent an appropriate
measure of progress towards completion.
The percentage-of-completion method of accounting involves the
use of various techniques to estimate expected costs at completion.
These estimates are based on Management’s judgment and the
Company’s substantial experience in developing these types
of estimates.
F. CASh AnD CASh EQuiVAlEnTS
Cash equivalents include temporary investments that are readily
convertible into cash, such as Eurodollars, commercial paper and
treasury bills with original maturities of three months or less.
g. ACCOunTS RECEiVABlE
Accounts receivable have been reduced by an allowance for
amounts that the Company estimates are uncollectible in the
future. This estimated allowance is based on Management’s
evaluation of the financial condition of the customer and
historical write-off experience.
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 31
notes to Consolidated Financial Statements
h. COSTS AnD ESTiMATED EARningS On lOng-TERM COnTRACTS
Costs and estimated earnings on long-term contracts represent
unbilled revenues, including accrued profits, accounted for under
the percentage-of-completion method, net of progress billings.
i. inVEnTORiES
Inventories are valued at the lower of cost (first-in, first-out)
or market value. Inventories under long-term contracts reflect
accumulated production costs, factory overhead, initial tooling and
other related costs less the portion of such costs charged to cost of
sales and any unliquidated progress payments. In accordance with
industry practice, costs incurred on contracts in progress include
amounts relating to programs having production cycles longer than
one year, and a portion thereof will not be realized within one year.
J. pROpERTY, plAnT AnD EQuipMEnT
Property, plant and equipment are recorded at cost. Depreciation
and amortization are computed primarily on a straight-line basis
over the estimated useful lives of the assets: buildings, 10-40
years; machinery and equipment, 5-10 years; and office furniture
and equipment, 5-10 years. Leasehold improvements are amortized
over the remaining term of the applicable lease or their estimated
useful lives, whichever is shorter.
K. gOODWill AnD OThER lOng-liVED ASSETS
Goodwill represents the excess of purchase costs over the fair
value of net identifiable assets acquired in business acquisitions.
The Company accounts for goodwill as required by Statement of
Financial Accounting Standards (SFAS) 142, “Goodwill and Other
Intangible Assets.” Management annually reviews goodwill and
other long-lived assets with indefinite useful lives for impairment
or whenever events or changes in circumstances indicate the
carrying amount may not be recoverable. If the Company deter-
mines that the carrying value of the long-lived asset may not be
recoverable, a permanent impairment charge is recorded for the
amount by which the carrying value of the long-lived asset exceeds
its fair value. Fair value is measured based on a discounted cash
flow method using a discount rate determined by Management to
be commensurate with the risk inherent in the Company’s current
business model. Other intangible assets represent costs allocated
to identifiable intangible assets, principally capitalized software,
patents, trademarks, and technology rights. See Note 5 regarding
goodwill and other intangible assets activity.
l. CApiTAliZED SOFTWARE
The costs incurred for the development of computer software that
will be sold, leased, or otherwise marketed are charged to expense
when incurred as research and development until technological
feasibility has been established for the product. Technological
feasibility is typically established upon completion of a detailed
program design. Costs incurred after this point are capitalized
on a project-by-project basis in accordance with SFAS No. 86,
“Accounting for the Costs of Computer Software to be Sold, Leased
32
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
or Otherwise Marketed.” Costs that are capitalized primarily consist
of external development costs. Upon general release of the product
to customers, the Company ceases capitalization and begins
amortization, which is calculated on a project-by-project basis as
the greater of (1) the ratio of current gross revenues for a product
to the total of current and anticipated future gross revenues for
the product or (2) the straight-line method over the estimated
economic life of the product. The Company generally amortizes
the software development costs over a three to seven year period
based upon the estimated future economic life of the product.
Factors considered in determining the estimated future economic
life of the product include anticipated future revenues, and changes
in software and hardware technologies. The carrying values of
capitalized costs are evaluated for impairment on an annual basis
to determine if circumstances exist which indicate the carrying
value of the asset may not be recoverable. If expected cash flows
are insufficient to recover the carrying amount of the asset, then
an impairment loss is recognized to state the asset at its net
realizable value.
M. iMpAiRMEnT OF lOng-liVED ASSETS AnD lOng-liVED ASSETS
TO BE DiSpOSED OF
Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future cash flows
expected to be generated by the asset. If such assets are considered
to be impaired, the impairment to be recognized is measured by
the amount by which the carrying amount of the assets exceeds the
fair value of the assets. Assets to be disposed of are reported at the
lower of the carrying amount or fair value less costs to dispose.
n. inCOME TAXES
Income taxes are accounted for under the asset and liability
method. Deferred tax assets and liabilities are recognized for
the future tax consequences attributable to differences between
the financial statement carrying amounts of existing assets and
liabilities and their respective tax bases. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply
to taxable income in the years in which those temporary differences
are expected to be recovered or settled. Deferred tax assets may be
reduced by a valuation allowance if it is more likely than not that
some portion or all of the deferred tax assets will not be realized.
The effect on deferred tax assets and liabilities of a change in
tax rates is recognized in income in the period that includes the
enactment date. The Company regularly reviews its deferred tax
assets for recoverability and establishes a valuation allowance when
Management believes it is more likely than not such assets will not
be recovered, taking into consideration historical operating results,
expectations of future earnings, tax planning strategies, and the
expected timing of the reversals of existing temporary differences.
O. RESEARCh AnD DEVElOpMEnT COSTS
Company-sponsored research and development costs include
research and development and bid and proposal efforts related
to the Company’s products and services. Company-sponsored
notes to Consolidated Financial Statements
product development costs are charged to expense when incurred.
Customer-sponsored research and development costs incurred
pursuant to contracts are accounted for similar to other program
costs. Customer-sponsored research and development costs refer
to certain situations whereby customers provide funding to
support specific contractually defined research and development
costs. As the Company incurs costs under these specific funding
contracts, the costs are “inventoried” until billed to the customer
for reimbursement, consistent with other program costs. Once
billed/invoiced, these costs are transferred to accounts receivable
until the cash is received from the customer. All research and
development costs incurred in excess of the contractual funding
amount, or costs incurred outside the scope of the contractual
research and development project, are expensed as incurred.
p. FOREign CuRREnCY TRAnSlATiOn
The financial statements of the Company’s foreign operations
are translated into U.S. dollars in accordance with SFAS 52
“Foreign Currency Translation” (SFAS 52). The resulting translation
adjustments are recorded as a separate component of accumulated
other comprehensive income.
Q. EARningS pER ShARE
Basic earnings per share is calculated using the weighted average
number of common shares outstanding during the period. Diluted
earnings per share is calculated using the weighted average number
of common shares outstanding during the period plus shares
issuable upon the assumed exercise of dilutive common share
options and vesting of performance-accelerated restricted shares
using the treasury stock method. On August 5, 2005, the Company’s
Board of Directors approved a 2-for-1 stock split which was effected
as a 100 percent stock dividend and was paid on September 23,
2005 to shareholders of record as of September 9, 2005. The 2004
common stock and per share amounts have been adjusted to reflect
the stock split.
The number of shares used in the calculation of earnings per share
for each year presented is as follows:
(In thousands)
2006
2005
2004
Weighted Average Shares
Outstanding — Basic
Dilutive Options and performance-
accelerated restricted stock
25,718
25,511
25,803
668
795
845
Adjusted Shares — Diluted
26,386
26,306
26,648
Options to purchase 264,430 shares at prices ranging from
$42.99 - $54.88 were outstanding during the year ended
September 30, 2006, but were not included in the respective
computation of diluted EPS because the options’ exercise price
was greater than the average market price of the common shares.
Options to purchase 34,967 shares at prices ranging from $35.18 -
$50.26 were outstanding during the year ended September 30,
2005, but were not included in the respective computation of
diluted EPS because the options’ exercise price was greater than
the average market price of the common shares. Options to
purchase 212,228 shares at prices ranging from $22.68 - $32.33
were outstanding during the year ended September 30, 2004, but
were not included in the respective computation of diluted EPS
because the options’ exercise price was greater than the average
market price of the common shares. These options expire in various
periods through 2013. Approximately 9,000, 36,000 and 14,000
restricted shares were outstanding but unearned at September 30,
2006, 2005 and 2004, respectively, and, therefore, were not
included in the respective years’ computations of diluted EPS.
R. ShARE-BASED COMpEnSATiOn
Prior to October 1, 2005, the Company accounted for its stock
option plans using the intrinsic value method of accounting
provided under APB Opinion No. 25, “Accounting for Stock
Issued to Employees,” (APB 25) and related interpretations, as
permitted by FASB Statement No. 123, “Accounting for Stock-Based
Compensation,” (SFAS 123) under which no compensation expense
was recognized for stock option grants. Accordingly, share-based
compensation for stock options was included as a pro forma
disclosure in the financial statement footnotes for periods prior
to fiscal 2006.
Effective October 1, 2005, the Company adopted the fair value
recognition provisions of FASB Statement No. 123(R), “Share-Based
Payment,” (SFAS 123(R)) using the modified-prospective transition
method. Under this transition method, compensation cost recog-
nized in fiscal 2006 includes:
a) compensation cost for all share-based payments granted through
September 30, 2005, for which the requisite service period had
not been completed as of September 30, 2005, based on the
grant date fair value estimated in accordance with the original
provisions of SFAS 123, and
b) compensation cost for all share-based payments granted
subsequent to September 30, 2005, based on the grant date
fair value estimated in accordance with the provisions of SFAS
123(R). Results for prior periods have not been restated.
As a result of adopting SFAS 123(R) on October 1, 2005, the
Company’s net earnings for the year ended September 30, 2006
were $2.3 million lower than if it had continued to account for
share-based compensation under APB 25.
The Company has various share-based plans which allow the
Company to grant key officers, managers and professional employees
(1) options to purchase shares of the Company’s common stock,
(2) stock appreciation rights with respect to all or any part of
the number of shares covered by the options, or (3) performance-
accelerated restricted shares (restricted shares) and other full
value awards. No stock appreciation rights have been awarded to
date. In addition, the Company provides compensation benefits
to non-employee directors under a non-employee directors
compensation plan.
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 33
notes to Consolidated Financial Statements
S. COMpREhEnSiVE inCOME (lOSS)
SFAS 130, “Reporting Comprehensive Income” requires the Company
to report separately the translation adjustments of SFAS 52
defined above, and changes to the minimum pension liability, as
components of comprehensive income or loss. Management has
chosen to disclose the requirements of this Statement within the
Consolidated Statements of Shareholders’ Equity.
Accumulated other comprehensive loss as shown on the
consolidated balance sheet of $(2.1) million and $(5.6) million
at September 30, 2006 and 2005, respectively, consisted of
$4.5 million and $3.0 million related to currency translation
adjustments; $(6.6) million and $(8.6) million related to the
minimum pension liability, respectively.
T. DEFERRED REVEnuE
Deferred revenue is recorded for products or services that have
not been provided but have been invoiced under contractual
agreements or paid for by a customer, or when products or services
have been provided but the criteria for revenue recognition have
not been met. If there is a customer acceptance provision or there
is uncertainty about customer acceptance, revenue is deferred
until the customer has accepted the product or service. The current
portion of approximately $3.0 million is classified in accrued
expenses on the Consolidated Balance Sheet.
Deferred revenue also includes the long-term portion of unearned
income related to two intellectual property agreements. The
amount is being amortized into income on a straight-line basis
over the remaining patent life through 2011. The current portion of
approximately $0.6 million is classified in accrued expenses on the
Consolidated Balance Sheet.
u. nEW ACCOunTing STAnDARDS
In December 2004, the FASB issued SFAS No. 123(R), “Share-Based
Payment” (SFAS 123(R)). This Statement replaces SFAS No. 123,
“Accounting for Stock-Based Compensation” and supersedes APB
No. 25, “Accounting for Stock Issued to Employees.” SFAS 123(R)
requires all stock-based compensation to be recognized as an
expense in the financial statements and that such cost be measured
according to the fair value of stock options. The Company adopted
the provisions of this Statement in the first quarter of fiscal 2006
on a prospective basis.
In December 2004, the FASB issued FASB Staff Position FAS 109-2,
“Accounting and Disclosure Guidance for the Foreign Earnings
Repatriation Provision within the American Jobs Creation Act of
2004” (FSP 109-2). The American Jobs Creation Act of 2004, (the
“Act”) provides for a special one-time deduction of 85 percent of
certain foreign earnings repatriated into the U.S. from non-U.S.
subsidiaries through September 30, 2006. During fiscal 2006, the
Company repatriated $39.5 million of foreign earnings which qualify
for the special one-time deduction. Tax expense of $2.4 million was
recorded in fiscal 2006 as a result of this repatriation.
34
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
In June 2006, the FASB issued FASB Interpretation No. 48,
“Accounting for Uncertainty in Income Taxes, an Interpretation
of FASB Statement No. 109.” This Interpretation is effective for
ESCO beginning October 1, 2007. This Interpretation prescribes a
recognition threshold and measurement process for the financial
statement recognition and measurement of a tax position taken
or expected to be taken in a tax return. The Company is currently
evaluating the adoption of this Interpretation and does not
currently have an estimate of the impact on the consolidated
financial statements.
In September 2006, the FASB issued SFAS No. 158, “Employer’s
Accounting for Defined Benefit Pension and Other Postretirement
Plans” (SFAS 158), which amends SFAS 87 and SFAS 106 to require
recognition of the overfunded or underfunded status of pension
and other postretirement benefit plans on the balance sheet. Under
SFAS 158, gains and losses, prior service costs and credits, and any
remaining transition amounts under SFAS 87 and SFAS 106 that
have not yet been recognized through net periodic benefit cost will
be recognized in accumulated other comprehensive income, net of
tax effects. The measurement date — the date at which the benefit
obligation and plan assets are measured — is required to be the
Company’s fiscal year-end, which is the date the Company currently
uses. SFAS 158 is effective for publicly-held companies for fiscal
years ending after December 15, 2006. The adoption of SFAS 158 is
not expected to have a material impact to the Company’s financial
position or results of operations.
In September 2006, the SEC issued Staff Accounting Bulletin
No. 108, “Considering the Effects of Prior Year Misstatements when
Quantifying Misstatements in Current Year Financial Statements”
(SAB No. 108), which addresses the diversity in practice in
quantifying financial statement misstatements and provides
interpretative guidance regarding the consideration given to prior
year misstatements when determining materiality in current year
financial statements. During 2006, the Company adopted the
provisions of SAB No. 108 and recorded $2.4 million as a cumulative
credit adjustment to 2006 beginning retained earnings.
In September 2006, the FASB issued SFAS No. 157, “Fair Value
Measurements” (SFAS 157), which defines fair value in generally
accepted accounting principles and expands disclosures about
fair value measurements. This Statement is effective for financial
statements issued for fiscal years beginning after November 15,
2007. The adoption of SFAS 157 is not expected to have a material
impact to the Company’s financial position or results of operations.
2. Acquisitions
Effective February 1, 2006, the Company acquired the capital stock
of Hexagram, Inc. (Hexagram) for a purchase price of approximately
$66 million. The acquisition agreement also provides for contin-
gent consideration of up to $6.25 million over the five year period
following the acquisition if Hexagram exceeds certain sales targets.
Hexagram is an RF fixed network automatic meter reading (AMR)
company headquartered in Cleveland, Ohio. Hexagram broadens
the Company’s served market and provides an RF based AMI system
notes to Consolidated Financial Statements
serving primarily gas and water utilities. Hexagram’s annual revenue
over the past three years has been in the range of $20 million to
$35 million. The operating results for Hexagram, since the date of
acquisition, are included within the Communications unit. The Com-
pany recorded $6.6 million of amortizable identifiable intangible
assets consisting primarily of patents and proprietary know-how,
customer contracts, and order backlog which are being amortized
on a straight-line basis over periods ranging from six months to
seven years.
The following table summarizes the Company’s estimates of the fair
values of the assets acquired and liabilities assumed at the date of
acquisition and includes subsequent adjustments to the allocation
of purchase price.
Hexagram, Inc.
Assets Acquired and Liabilities Assumed
February 1, 2006
(Dollars in thousands)
Cash
Accounts receivable, net
Inventory
Other current assets
Property, plant and equipment
Deferred tax assets
Other assets
Intangible assets:
Trademarks
Patents
Customer contracts
Other
Goodwill
Current liabilities
Deferred tax liabilities
Other long-term liabilities
Aggregate purchase price
$ 2,128
3,267
4,161
276
2,223
735
60
3,485
3,468
2,378
727
10,058
51,202
(4,149)
(3,774)
(116)
$66,071
Effective November 29, 2005, the Company acquired Nexus Energy
Software, Inc. (Nexus) through an all cash for shares merger
transaction for approximately $29 million in cash plus contingent
cash consideration over the four year period following the merger
if Nexus exceeds certain sales targets. Nexus is a software company
headquartered in Wellesley, Massachusetts with annual revenues in
the past in excess of $10 million. Nexus broadens the Company’s
served market and provides software solutions that allow utilities
to fully utilize the information produced by the Company’s AMI
systems. The operating results for Nexus, since the date of acquisi-
tion, are included within the Communications unit. The Company
recorded $2.7 million of identifiable intangible assets consisting
primarily of customer contracts and order backlog which are being
amortized on a straight-line basis over periods ranging from one
year to three years. In connection with the acquisition of Nexus,
the Company acquired approximately $13 million of net operating
loss carryforward that will expire between 2017 and 2025 and is
subject to a Section 382 limitation.
The following table summarizes the Company’s estimates of the fair
values of the assets acquired and liabilities assumed at the date of
acquisition and includes subsequent adjustments to the allocation
of purchase price.
Nexus Energy Software, Inc.
Assets Acquired and Liabilities Assumed
November 29, 2005
(Dollars in thousands)
Cash
Accounts receivable, net
Other current assets
Property, plant and equipment
Deferred tax assets
Other assets
Intangible assets:
Contracts/software
Backlog
Other
Goodwill
Current liabilities
Deferred tax liabilities
Other long-term liabilities
Aggregate purchase price
$ 440
1,701
228
965
4,469
176
1,497
1,064
162
2,723
23,434
(3,862)
(1,095)
(180)
$28,999
All of the Company’s acquisitions have been accounted for using
the purchase method of accounting and accordingly, the respective
purchase prices were allocated to the assets (including intangible
assets) acquired and liabilities assumed based on estimated
fair values at the date of acquisition. The financial results from
these acquisitions have been included in the Company’s financial
statements from the date of acquisition. Pro forma financial
information related to the Nexus and Hexagram acquisitions was
not presented as it was not significant to the Company’s results of
operations. None of the goodwill recorded as part of the Nexus or
Hexagram acquisitions is expected to be deductible for U.S. federal
or state income tax purposes.
3. Discontinued Operations
The MicroSep businesses consisted of PTI Advanced Filtration
Inc., PTI Technologies Limited, and PTI S.p.A. Effective April 2,
2004, the Company completed the sale of PTI Advanced Filtration
Inc. (Oxnard, California) and PTI Technologies Limited (Sheffield,
England) to domnick hunter group plc for $18 million in cash. On
June 8, 2004, the Company completed the sale of PTI S.p.A. (Milan,
Italy) to a group of investors comprised of the subsidiary’s senior
management for $5.3 million. An after-tax gain of $1.6 million
related to the sale of the MicroSep businesses is reflected in the
Company’s 2004 results in discontinued operations.
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 35
notes to Consolidated Financial Statements
The MicroSep businesses are accounted for as a discontinued
operation in accordance with SFAS 144, “Accounting for the
Impairment or Disposal of Long-Lived Assets” (SFAS 144) and,
accordingly, amounts in the financial statements and related notes
for all periods shown, reflect discontinued operations presentation.
The net sales from the MicroSep businesses were $29.4 million
for the year ended September 30, 2004. The pre-tax loss from
operations from the MicroSep businesses was $5.0 million for
the year ended September 30, 2004.
The Company performed its annual evaluation of goodwill for im-
pairment during the fourth quarter of fiscal 2006 and concluded no
impairment existed at September 30, 2006.
The changes in the carrying amount of goodwill attributable to each
business segment for the years ended September 30, 2006 and 2005
are as follows:
(Dollars in millions)
Communications
Filtration/
Fluid Flow
Test
4. Asset impairment
In June 2005, the Company abandoned its plans to commercialize
certain sensor products within the Filtration/Fluid Flow segment.
This action resulted in an asset impairment charge of $0.8 million
to write off certain patents and a related licensing agreement
to their respective fair market values. The Company ended its
development efforts on this program after it determined that
the market was not developing as quickly as anticipated and the
expected costs and time frame to fully commercialize the products
were not acceptable.
5. goodwill and Other intangible Assets
Included on the Company’s Consolidated Balance Sheet at
September 30, 2006 and 2005 are the following intangible
assets gross carrying amounts and accumulated amortization:
(Dollars in millions)
Goodwill:
Gross carrying amount
Less: accumulated amortization
Net
Intangible assets with determinable lives:
Patents
Gross carrying amount
Less: accumulated amortization
Net
Capitalized software
Gross carrying amount
Less: accumulated amortization
Net
Other
Gross carrying amount
Less: accumulated amortization
Net
2006
2005
$ 152.4
8.9
$ 143.5
$ 17.6
13.9
$ 3.7
$ 55.3
10.1
$ 45.2
$ 9.5
2.8
$ 6.7
77.8
8.9
68.9
17.5
13.1
4.4
23.9
6.8
17.1
0.4
0.3
0.1
Intangible assets with indeterminable lives:
Trademarks
$ 3.5
—
Balance as of
September 30, 2005
Acquisitions
$ —
39.8
29.1
(Hexagram and Nexus)
74.6
—
—
Balance as of
September 30, 2006
$74.6
39.8
29.1
Amortization expense related to intangible assets with determinable
lives was $6.9 million, $2.0 million and $2.1 million in 2006,
2005 and 2004, respectively. The increase in amortization expense
in 2006 as compared to the prior year was due to $2.7 million of
amortization related to the Nexus and Hexagram acquired intangible
assets and $2.2 million of amortization related to the Company’s
TNG software. Patents are amortized over the life of the patents,
generally 17 years. Capitalized software is amortized over the
estimated useful life of the software, generally 3-7 years. Estimated
intangible assets amortization for fiscal year 2007 is approximately
$11 million. Estimated intangible asset amortization for fiscal years
2008 through 2011 is estimated at approximately $12 million to
$13 million per year. The increase in intangible asset amortization
is related to the additional costs associated with the TNG software.
6. Accounts Receivable
Accounts receivable, net of the allowance for doubtful accounts,
consist of the following at September 30, 2006 and 2005:
(Dollars in thousands)
Commercial
2006
2005
$81,986
66,871
U.S. Government and prime contractors
1,830
1,948
Total
$83,816
68,819
7. inventories
Inventories consist of the following at September 30, 2006
and 2005:
(Dollars in thousands)
Finished goods
Work in process — including
long-term contracts
Raw materials
Total
2006
2005
$12,834
14,361
13,211
12,512
24,939
21,772
$50,984
48,645
36
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
notes to Consolidated Financial Statements
8. property, plant and Equipment
(Dollars in thousands)
2006
2005
2004
Depreciation expense from continuing operations of property, plant
and equipment for the years ended September 30, 2006, 2005 and
2004 was $10.4 million, $10.1 million and $9.5 million, respectively.
The closure and relocation of the Filtertek Puerto Rico facility
was completed in March 2004. The Puerto Rico facility is included
in other current assets with a carrying value of $3.6 million at
September 30, 2006. The facility is being marketed for sale.
The Company leases certain real property, equipment and machinery
under noncancelable operating leases. Rental expense under these
operating leases for the years ended September 30, 2006, 2005 and
2004 was $7.3 million, $6.3 million and $5.8 million, respectively.
Future aggregate minimum lease payments under operating leases
that have initial or remaining noncancelable lease terms in excess
of one year as of September 30, 2006 are:
(Dollars in thousands)
Years ending September 30:
2007
2008
2009
2010
2011 and thereafter
Total
9. income Tax Expense
$ 7,112
4,789
3,128
2,310
4,935
$22,274
Total income tax expense for the years ended September 30, 2006,
2005 and 2004 was allocated as follows:
(Dollars in thousands)
2006
2005
2004
Federal
Current (including Alternative
Minimum Tax)
$ 3,571
874
14,153
Deferred
State and local:
Current
Deferred
Foreign:
Current
Deferred
Total
10,291
15,313
3,641
2,673
2,414
3,259
(518)
(21)
76
1,213
1,854
1,752
392
(71)
(133)
$ 17,622
20,363
22,748
The actual income tax expense from continuing operations for the
years ended September 30, 2006, 2005 and 2004 differs from the
expected tax expense for those years (computed by applying the
U.S. Federal corporate statutory rate) as follows:
Federal corporate statutory rate
35.0%
35.0%
35.0%
2006
2005
2004
State and local, net of Federal benefits
Foreign — Puerto Rico
Foreign — Other
Foreign earnings repatriation
Research credit
SFAS 123(R)
Change in tax contingencies
Other, net
2.4
0.5
(0.5)
4.8
(5.0)
1.4
(2.9)
0.3
2.4
(4.6)
(1.6)
—
—
—
—
0.7
3.5
(3.1)
—
—
—
—
—
2.2
Effective income tax rate
36.0%
31.9%
37.6%
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and liabilities at September 30,
2006, and 2005 are presented below.
Income tax expense from
continuing operations
$17,622
20,363
22,748
(Dollars in thousands)
2006
2005
Discontinued operations
—
—
(2,481)
Deferred tax assets:
Total income tax expense
$17,622
20,363
20,267
For the year ended September 30, 2006, pretax earnings related to
United States (U.S.) and foreign tax jurisdictions were $43.9 million
and $5.0 million, respectively. For the year ended September 30,
2005, pretax earnings related to U.S. and foreign tax jurisdictions
were $52.5 million and $11.4 million, respectively. For the year
ended September 30, 2004, pretax earnings related to U.S. and
foreign tax jurisdictions was $46.3 million and $9.6 million,
respectively.
The principal components of income tax expense from continuing
operations for the years ended September 30, 2006, 2005 and 2004
consist of:
Inventories, long-term contract accounting,
contract cost reserves and others
$
1,858
Pension and other postretirement benefits
Net operating loss carryforward — domestic
Net operating loss carryforward — foreign
Capital loss carryforward
Other compensation-related costs
and other cost accruals
Research credit carryforward
Total deferred tax assets
Deferred tax liabilities:
3,159
6,981
15,695
1,715
7,381
5,449
5,103
2,895
7,381
18,484
11,687
6,635
—
47,805
46,618
Plant and equipment, depreciation methods,
acquisition asset allocations, and other
(17,028)
(12,926)
Net deferred tax asset before
valuation allowance
Less valuation allowance
Net deferred tax assets
30,777
33,692
(10,276)
(9,096)
$ 20,501
24,596
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 37
notes to Consolidated Financial Statements
Net deferred tax assets are classified in the Consolidated Balance
Sheets as set forth below.
(Dollars in thousands)
2006
2005
Current portion of deferred tax assets
$ 24,251
25,271
Deferred tax liabilities (non-current) —
Included in Other Liabilities
(3,750)
(675)
Net deferred tax assets
$ 20,501
24,596
Management believes that, based on the Company’s historical pretax
income together with the projection of future taxable income, and
after consideration of the valuation allowance, it is more likely than
not that the Company will realize the benefits of the net deferred
tax assets existing at September 30, 2006. In order to realize this
net deferred tax asset, the Company will need to generate future
taxable income of approximately $59 million, of which $15 million
is required to be realized prior to the expiration of the NOL carry-
forward in the United States. The expiration of the NOL carryforward
is between 2019 and 2025. The Company anticipates being able to
utilize the NOL carryforward to reduce future Federal income tax
cash payments.
The Company has established a valuation allowance of $7.4 million
against the capital loss carryforward generated in 2004, as such
loss carryforward may not be realized in future periods. In addition,
the Company has established a valuation allowance against certain
NOL carryforwards in foreign jurisdictions which may not be realized
in future periods. The valuation allowance established against the
foreign NOL carryforwards was $2.9 million and $1.7 million at
September 30, 2006 and 2005, respectively. The Company classifies
its valuation allowance related to deferred taxes on a pro rata basis.
The Company reclassified the current and long-term portion of its
valuation allowance as of September 30, 2005 to be consistent with
the current year presentation.
On October 22, 2004, the President of the United States signed into
law the American Jobs Creation Act of 2004 (the “2004 Jobs Act”).
The 2004 Jobs Act repeals the extraterritorial income exclusion and
provides for (i) a new deduction for domestic manufacturing and
production income, (ii) international tax reforms, (iii) a temporary
incentive for U.S. multinational companies to reinvest foreign
earnings in the U.S., and (iv) numerous other business tax relief
provisions. The foreign earnings repatriation provision provides an
85% dividends received deduction for certain dividends received
from controlled foreign corporations. In addition, in December
2004, the FASB issued FASB Staff Position FAS 109-2, “Accounting
and Disclosure Guidance for the Foreign Earnings Repatriation Provi-
sion within the American Jobs Creation Act of 2004” (2004 Jobs
Act). The Company repatriated $39.5 million of funds to reinvest
in the U.S. under the 2004 Jobs Act. Federal income taxes on the
repatriated amounts were based on the 5.25% effective statutory
rate as provided in the 2004 Jobs Act, plus applicable state income
and foreign withholding taxes. Federal income taxes and applicable
withholding taxes of $2.4 million have been provided for in the
current year provision.
38
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
Under current law, the research credit expired for research
expenditures incurred after December 31, 2005. The Company began
an analysis of available research credits for the period beginning in
2000 and ending with the three month period ended December 31,
2005. The Company expects that these research credit claims will
be approximately $2.5 million.
No deferred taxes have been provided on the accumulated
unremitted earnings of the Company’s foreign subsidiaries as of
September 30, 2006. The Company’s intention is to reinvest these
earnings indefinitely. In the event these foreign entities’ earnings
were distributed, it is estimated that U.S. taxes, net of available
foreign tax credits, of approximately $3.2 million would be due,
which would correspondingly reduce the Company’s net earnings.
During 2006, the Company determined that state tax expense had
not been accurately recorded in the financial statements for years
2001 through 2005. The effect in any individual prior year was not
material to the Company’s results of operations, financial position
or cash flows. The Company adopted the provisions of SEC Staff
Accounting Bulletin No. 108, “Considering the Effects of Prior Year
Misstatements when Quantifying Misstatements in Current Year
Financial Statements” and recorded $2.4 million as a cumulative
credit adjustment to 2006 beginning retained earnings.
The Company operates within multiple taxing jurisdictions and is
subject to audit in these jurisdictions. These audits can involve
complex issues which may require an extended period of time to
resolve. The Company regularly reviews its potential tax liabilities
for tax years subject to audit. Changes in the Company’s potential
tax liability occurred during the year ended September 30, 2006,
and may occur in the future as the Company’s assessment changes
based on examinations in various jurisdictions and/or changes in
tax laws, regulations and case law. Accordingly, the Company’s
estimate of income tax liabilities may differ from actual payments
or assessments.
10. Debt
At September 30, 2006 and 2005, there were no outstanding
borrowings under the revolving credit facility. Effective October 6,
2004, the Company entered into a $100 million five-year revolving
bank credit facility with a $50 million increase option that has a
final maturity and expiration date of October 6, 2009. The credit
facility is available for direct borrowings and/or the issuance of
letters of credit, and is provided by a group of six banks, led by
Wells Fargo Bank as agent. At September 30, 2006, the Company
had approximately $99.2 million available to borrow under the
credit facility in addition to $36.8 million cash on hand. At
September 30, 2006, the Company had outstanding letters of credit
of $1.5 million ($0.8 million outstanding under the credit facility).
On February 1, 2006, the Company borrowed $47 million to partially
fund the acquisition of Hexagram which was subsequently repaid
from the foreign cash repatriation by March 31, 2006. The interest
notes to Consolidated Financial Statements
rate on this debt was approximately 5.3%. During April 2006, the
Company borrowed $5 million which was subsequently repaid prior
to April 30, 2006. The interest rate on this debt was 7.75%.
The credit facility requires, as determined by certain financial
ratios, a commitment fee ranging from 17.5 to 27.5 basis points
per annum on the unused portion. The terms of the facility provide
that interest on borrowings may be calculated at a spread over the
London Interbank Offered Rate (LIBOR) or based on the prime rate,
at the Company’s election. The facility is secured by the unlimited
guaranty of the Company’s material domestic subsidiaries and a 65%
pledge of the material foreign subsidiaries’ share equity. The finan-
cial covenants of the credit facility include limitations on leverage,
minimum consolidated EBITDA and minimum net worth.
During 2006 and 2005, the maximum aggregate short-term
borrowings at any month-end were $47 million and zero,
respectively; the average aggregate short-term borrowings
outstanding based on month-end balances were $3.9 million and
zero, respectively; and the weighted average interest rates were
5.25%, not applicable in 2005, and 1.87% in 2004. The letters
of credit issued and outstanding under the credit facility totaled
$0.8 million and $1.4 million at September 30, 2006, and
2005, respectively.
11. Capital Stock
The 29,030,995 and 28,738,958 common shares as presented in the
accompanying Consolidated Balance Sheets at September 30, 2006
and 2005 represent the actual number of shares issued at the
respective dates. The Company held 3,166,026 and 3,175,626
common shares in treasury at September 30, 2006 and
2005, respectively.
In August 2006, the Company’s Board of Directors authorized
an open market common stock repurchase program for up to
1.2 million shares, subject to market conditions and other factors
which covers the period through September 30, 2008. There were
no stock repurchases during fiscal 2006. The Company repurchased
670,072 and 312,400 shares in 2005 and 2004, respectively, under
a previously authorized program.
Effective October 1, 2005, the Company adopted the fair value
recognition provisions of FASB Statement No. 123(R), “Share-Based
Payment,” (SFAS 123(R)) using the modified-prospective transition
method. Under this transition method, compensation cost recog-
nized in fiscal 2006 includes:
c) compensation cost for all share-based payments granted through
September 30, 2005, for which the requisite service period had
not been completed as of September 30, 2005, based on the
grant date fair value estimated in accordance with the original
provisions of SFAS 123, and
d) compensation cost for all share-based payments granted
subsequent to September 30, 2005, based on the grant date
fair value estimated in accordance with the provisions of SFAS
123(R). Results for prior periods have not been restated.
As a result of adopting SFAS 123(R) on October 1, 2005, the
Company’s net earnings for the year ended September 30, 2006
were $2.3 million lower than if it had continued to account for
share-based compensation under APB 25.
The Company has various share-based plans which allow the
Company to grant key officers, managers and professional employees
(1) options to purchase shares of the Company’s common stock,
(2) stock appreciation rights with respect to all or any part of
the number of shares covered by the options, or (3) performance-
accelerated restricted shares and other stock based awards. No
stock appreciation rights have been awarded to date. In addition,
the Company provides compensation benefits to non-employee
directors under a non-employee directors compensation plan.
During fiscal 2004, the Board of Directors authorized and the
shareholders approved, the 2004 Incentive Compensation Plan,
which states, in part, that on February 5, 2004, there shall be
added to the authorized shares allocated 2,000,000 shares for the
grant of stock options, stock appreciation rights, performance-
accelerated restricted stock, or other full value awards. Of these,
shares up to 600,000 may be utilized for performance-accelerated
restricted stock or other full value awards. At September 30,
2006, the maximum number of full value shares available for issue
under the 2004 Incentive Compensation Plan and the 2001 Stock
Incentive Plan was 600,000 and 330,032 shares, respectively.
12. Share-Based Compensation
Stock Option plans
Prior to October 1, 2005, the Company accounted for its stock
option plans using the intrinsic value method of accounting
provided under APB Opinion No. 25, “Accounting for Stock
Issued to Employees,” (APB 25) and related interpretations, as
permitted by FASB Statement No. 123, “Accounting for Stock-Based
Compensation,” (SFAS 123) under which no compensation expense
was recognized for stock option grants. Accordingly, share-based
compensation for stock options was included as a pro forma
disclosure in the financial statement footnotes for periods prior
to fiscal 2006.
The Company’s stock option awards are generally subject to graded
vesting over a three year service period. All outstanding options
were granted at prices equal to fair market value at the date of
grant. The options granted prior to September 30, 2003 have a
ten-year contractual life from date of issuance, expiring in various
periods through 2013. Beginning in fiscal 2004, the options granted
have a five-year contractual life from date of issuance. Beginning
with fiscal 2006 awards, the Company recognizes compensation cost
on a straight-line basis over the requisite service period for the
entire award. Prior to fiscal 2006, the Company calculated the
pro forma compensation cost using the graded vesting method
(FIN 28 approach).
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 39
notes to Consolidated Financial Statements
The fair value of each option award is estimated as of the date of
grant using a Black-Scholes option pricing model. The weighted
average assumptions for the periods indicated are noted below.
Expected volatility is based on historical volatility of ESCO’s stock
calculated over the expected term of the option. The expected
term was calculated in accordance with Staff Accounting Bulletin
No. 107 using the simplified method for “plain-vanilla” options.
The risk-free rate for the expected term of the option is based on
the U.S. Treasury yield curve in effect at the date of grant. The
fair value of each option grant is estimated on the date of grant
using the Black-Scholes option-pricing model with the following
weighted-average assumptions used for grants in 2006, 2005 and
2004, respectively: expected dividend yield of 0% in all periods;
expected volatility of 28.0%, 23.5% and 21.4%; risk-free interest
rate of 4.6%, 3.9% and 4.2%; and expected term of 3.50 years,
3.58 years and 4.25 years.
Information regarding stock options awarded under the option plans is as follows:
October 1
Granted
Exercised
Cancelled
September 30,
At September 30,
Reserved for future grant
Exercisable
FY2006
FY2005
FY2004
Estimated
Weighted
Avg. price
$20.48
$44.63
Shares
1,324,548
328,080
(232,371)
$15.95
(32,909)
$35.77
Estimated
Weighted
Avg. Price
$ 13.63
$ 35.55
$ 10.94
$ 24.96
Shares
1,356,094
376,200
(388,340)
(19,406)
Estimated
Weighted
Avg. Price
$ 10.89
$ 24.15
$ 10.13
$ 16.26
Shares
1,529,192
291,600
(385,166)
(79,532)
1,387,348
$26.60
1,324,548
$ 20.48
1,356,094
$ 13.63
1,146,741
1,428,032
1,665,238
753,415
$16.46
755,612
$ 12.29
818,824
$ 9.71
The aggregate intrinsic value of options exercised during 2006,
2005 and 2004 was $7.9 million, $12.4 million and $6.2 million,
respectively. The aggregate intrinsic value of stock options out-
standing and exercisable at September 30, 2006 was $32.1 million
and $22.7 million, respectively. The weighted-average contractual
life of stock options outstanding at September 30, 2006 was 3.75
years. The weighted-average fair value of stock options granted in
2006, 2005, and 2004 was $12.17, $11.28, and $6.84, respectively.
Summary information regarding stock options outstanding at
September 30, 2006 is presented below:
Range of
Exercise Prices
$ 4.59 - $10.72
$12.59 - $14.52
$17.16 - $32.32
$35.18 - $42.10
$42.99 - $54.88
Options Outstanding
Number
Outstanding at
Sept. 30, 2006
Weighted-
Average Weighted
Average
Exercise
Price
Remaining
Contractual
Life
215,244
292,912
229,371
327,241
3.0 years
5.5 years
2.7 years
$ 7.21
$13.71
$23.34
3.0 years
$35.29
322,580
4.2 years
$44.74
1,387,348
3.8 years
$26.60
Exercisable Options Outstanding
Range of
Exercise Prices
$ 4.59 - $10.72
$12.59 - $14.52
$17.16 - $32.32
$35.18 - $50.10
Number
Exercisable at
Sept. 30, 2006
215,244
292,912
148,150
97,109
753,415
Weighted
Average
Exercise
Price
$ 7.21
$13.71
$22.88
$35.42
$16.46
performance-accelerated Restricted Share Awards
The performance-accelerated restricted shares (restricted shares)
vest over five years with accelerated vesting if certain performance
targets are achieved. In these cases, if it is probable that the
performance condition will be met, the Company recognizes
compensation cost on a straight-line basis over the shorter
performance period; otherwise, it will recognize compensation
cost over the longer service period. Compensation cost for all
outstanding restricted share awards is being recognized over the
shorter performance period as it is probable the performance
condition will be met. The restricted share award grants were valued
40
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
notes to Consolidated Financial Statements
at the stock price on the date of grant. Pre-tax compensation
expense related to the restricted share awards was $1.5 million,
$1.9 million and $1.4 million for fiscal years ended September 30,
2006, 2005 and 2004, respectively.
Pro forma (Unaudited)
(Dollars in thousands,
except per share amounts)
Net earnings, as reported
The following summary presents information regarding outstanding
restricted share awards as of September 30, 2006 and changes
during the period then ended:
Nonvested at October 1, 2005
Granted
Vested
Cancelled
Weighted
Shares Avg. Price
238,436
$23.78
64,130
$43.02
(118,736)
$17.41
(28,100)
$36.16
Nonvested at September 30, 2006
155,730
$34.33
non-Employee Directors plan
The non-employee directors compensation plan provides to each
non-employee director a retainer of 800 common shares per quarter.
Compensation expense related to the non-employee director grants
was $1.0 million, $0.7 million and $0.4 million for the years ended
September 30, 2006, 2005 and 2004, respectively.
The total share-based compensation cost that has been recognized
in results of operations and included within SG&A was $4.8 million,
$2.6 million and $1.8 million for the years ended September 30,
2006, 2005 and 2004, respectively. The total income tax benefit
recognized in results of operations for share-based compensation
arrangements was $1.2 million, $1.0 million and $0.7 million for
the years ended September 30, 2006, 2005 and 2004, respectively.
The Company has elected to use tax law ordering rules when
calculating the income tax benefit associated with its share-
based payment arrangements. In addition, the Company elected
to use the simplified method of calculating the pool of excess
tax benefits available to absorb tax deficiencies recognized
subsequent to the adoption of SFAS No. 123(R)-3, “Transition
Election related to Accounting for the Tax Effects of Share-Based
Payment Awards.” As of September 30, 2006, there was $8.4 million
of total unrecognized compensation cost related to share-based
compensation arrangements. That cost is expected to be recognized
over a weighted-average period of 3.5 years.
pro Forma net Earnings
The following table provides pro forma net earnings and earnings
per share had the Company applied the fair value method of SFAS
123 for the years ended September 30, 2005 and 2004:
2005
2004
$43,544
35,671
1,165
866
Add: stock-based employee
compensation expense included
in reported net earnings, net of tax
Less: total stock-based employee
compensation expense determined
under fair value based methods, net of tax
(3,476)
(1,910)
Pro forma net earnings
$41,233
34,627
Net earnings per share:
Basic — as reported
Basic — pro forma
Diluted — as reported
Diluted — pro forma
$1.71
1.62
1.66
1.57
1.38
1.34
1.34
1.30
13. Retirement and Other Benefit plans
Substantially all employees are covered by defined contribution
pension plans maintained by the Company for the benefit of its
employees. Effective December 31, 2003, the Company’s defined
benefit plan was frozen and no additional benefits will be accrued
after that date. As a result, the accumulated benefit obligation and
projected benefit obligation are equal. These frozen retirement
income benefits are provided to employees under defined benefit
pay-related and flat-dollar plans, which are noncontributory. The
annual contributions to retirement plans equal or exceed the
minimum funding requirements of the Employee Retirement Income
Security Act or applicable local regulations. In addition to providing
retirement income benefits, the Company provides unfunded
postretirement health and life insurance benefits to certain retirees.
To qualify, an employee must retire at age 55 or later and the
employee’s age plus service must equal or exceed 75. Retiree
contributions are defined as a percentage of medical premiums.
Consequently, retiree contributions increase with increases in the
medical premiums. The life insurance plans are noncontributory
and provide coverage of a flat dollar amount for qualifying
retired employees.
The Company uses a measurement date of September 30 for its
pension and other postretirement benefit plans. The Company has
an accrued benefit liability of $1.8 million and $1.9 million at
September 30, 2006 and 2005, respectively, related to its other
postretirement benefit obligations. All other information related to
its postretirement benefit plans is not considered material to the
Company’s results of operations or financial condition.
The following tables provide a reconciliation of the changes in the
pension plans and fair value of assets over the two-year period
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 41
notes to Consolidated Financial Statements
ended September 30, 2006, and a statement of the funded status
as of September 30, 2006 and 2005:
(Dollars in millions)
2006
2005
2004
Pension Benefits
Pension Benefits
2006
2005
Service cost
Interest cost
(Dollars in millions)
Reconciliation of benefit obligation
Net benefit obligation at beginning of year
$ 50.2
45.0
Service cost
Interest cost
Actuarial (gain) loss
Plan amendments
Plan participant contributions
Gross benefits paid
—
2.6
(2.9)
0.1
—
—
2.6
4.2
—
—
(1.8)
(1.6)
Net benefit obligation at end of year
$ 48.2
50.2
(Dollars in millions)
Pension Benefits
2006
2005
Reconciliation of fair value of plan assets
Fair value of plan assets at beginning of year
$ 32.7
Actual return on plan assets
Employer contributions
Plan participant contributions
Gross benefits paid
31.1
3.0
0.2
—
2.6
1.6
—
(1.8)
(1.6)
Expected return on plan assets
Amortization of service costs
Net actuarial (gain) loss
Net amortization and deferral
Net periodic benefit cost
Defined contribution plans
Total
$ —
2.6
(2.7)
—
0.4
—
0.3
2.9
$ 3.2
—
2.6
(2.9)
—
0.2
—
(0.1)
2.4
2.3
0.6
2.5
(2.9)
—
0.1
—
0.3
1.9
2.2
The following weighted-average assumptions were used to
determine the net periodic benefit cost for the pension plans:
Discount rate
Rate of increase in
compensation levels
Expected long-term rate of
2006
2005
2004
5.25%
6.00%
6.00%
n/A
N/A
4.00%
return on assets
8.25%
8.25%
8.25%
The following weighted-average assumptions were used to
determine the net periodic benefit obligations for the pension plans:
Fair value of plan assets at end of year
$ 35.1
32.7
Employer contributions and benefits paid under the pension plans
include $0.2 million paid from employer assets in 2006 and 2005.
Discount rate
Rate of increase in
compensation levels
2006
2005
5.75%
5.25%
—
—
(Dollars in millions)
Funded Status
Pension Benefits
2006
2005
Funded status at end of year
$(13.1)
(17.5)
Unrecognized prior service cost
Unrecognized net actuarial (gain) loss
Accrued benefit cost
Amounts recognized in the Balance Sheet
consist of:
Accrued benefit cost
Additional minimum liability
Intangible asset
Accumulated other comprehensive income
(before tax effect)
Accrued benefit liability
0.1
10.1
—
13.3
(2.9)
(4.2)
(2.9)
(4.2)
(10.3)
(13.3)
0.1
—
10.2
$ (2.9)
13.3
(4.2)
A decrease of $3.0 million was included in other comprehensive
income during 2006 arising from a change in the additional
minimum liability.
The following table provides the components of net periodic benefit
cost for the plans for the years ended September 30, 2006, 2005
and 2004:
42
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
The assumed rate of increase in compensation levels is not
applicable in 2005 and 2004 as the plan was frozen as of
December 31, 2003.
The asset allocation for the Company’s pension plans at the end
of 2006 and 2005, the Company’s acceptable range and the target
allocation for 2007, by asset category, follows:
Target Acceptable Percentage of Plan
Assets at Year-end
Range
Allocation
Asset Category
Equity securities
Fixed income
Cash/cash equivalents
2007
60%
40%
0%
2006
2005
50-70%
30-50%
0-5%
66%
32%
2%
65%
31%
4%
The Company’s pension plan assets are managed by outside
investment managers and assets are rebalanced when the target
ranges are exceeded. Pension plan assets consist principally
of marketable securities including common stocks, bonds, and
interest-bearing deposits. The Company’s investment strategy
with respect to pension assets is to achieve a total rate of return
(income and capital appreciation) that is sufficient to accomplish
the purpose of providing retirement benefits to all eligible and
future retirees of the pension plans. The Company regularly
monitors performance and compliance with investment guidelines.
notes to Consolidated Financial Statements
EXpECTED CASh FlOWS
15. Business Segment information
Information about the expected cash flows for the pension and
other postretirement benefit plans follows:
(Dollars in millions)
Pension
Benefits
Other
Benefits
Expected Employer Contributions — 2007
$ 0.2
0.1
Expected Benefit Payments
2007
2008
2009
2010
2011
2012-2016
2.2
2.3
2.3
2.4
2.5
$14.3
0.1
0.1
0.1
0.1
0.1
0.6
14. Other Financial Data
Items charged to operations during the years ended September 30,
2006, 2005 and 2004 included the following:
(Dollars in thousands)
2006
2005
2004
Salaries and wages
(including fringes)
$119,286
100,372
93,536
Maintenance and repairs
4,719
3,897
4,326
Research and development
(R&D) costs:
Company-sponsored
$ 20,043
16,829
12,201
Customer-sponsored
6,323
5,687
6,064
Total R&D
$ 26,366
22,516
18,265
Other engineering costs
9,069
7,763
9,636
Total R&D and other
engineering costs
$ 35,435
30,279
27,901
As a % of net sales
7.7%
7.1%
6.6%
The increase in salaries and wages in 2006 compared to the prior
years is mainly due to the current year acquisitions of Nexus and
Hexagram and the addition of personnel at DCSI to support the
near-term sales growth.
Customer-sponsored R&D is defined in note 1(O) of notes to
consolidated financial statements.
A reconciliation of the changes in accrued product warranty
liability for the years ended September 30, 2006, 2005, and 2004
is as follows:
2006
2005
Balance as of October 1
$1,487
2,147
Additions charged to expense
2,357
1,108
2004
1,374
3,206
Deductions
(2,422)
(1,768)
(2,433)
Balance as of September 30
$1,422
1,487
2,147
The Company is organized based on the products and services that
it offers. Under this organizational structure, the Company has
three reporting units: Communications, Filtration/Fluid Flow and
RF Shielding and Test (Test). The Communications unit is a proven
supplier of special purpose fixed network communications systems
for electric, gas and water utilities, including hardware and software
to support advanced metering applications. DCSI’s Two-Way
Automatic Communications System, known as TWACS®, is currently
used for automatic meter reading (AMR) and related advanced
metering functions serving approximately 200 utilities, as well as
having load management capabilities. Hexagram’s STAR® system,
the premier wireless Advanced Metering Infrastructure, delivers two-
way and one-way operation on secure licensed radio frequencies for
more than 100 utilities serving electric, gas and water customers.
Nexus provides best-in-class information solutions to more than 85
leading energy companies that add value to existing billing and
metering infrastructure to allow both the utilities and their
customers to better manage energy-driven transactions and decision
making. Comtrak’s SecurVision® product line provides digital video
surveillance and security functions for large commercial enterprises
and alarm monitoring companies. Filtration/Fluid Flow primary
operations consist of: PTI Technologies Inc. (PTI), VACCO Industries
(VACCO) and Filtertek Inc. (Filtertek). PTI and VACCO develop and
manufacture a wide range of filtration products and are leading
suppliers of filters to the commercial and defense aerospace,
satellite and industrial markets. Filtertek develops and manufactures
a broad range of high-volume, original equipment manufacturer
(OEM) filtration products at its facilities in North America, South
America and Europe. Each of the components of the Filtration/Fluid
Flow segment is presented separately due to differing long-term
economics. Test segment operations represent the EMC Group,
consisting primarily of EMC Test Systems, L.P. (ETS) and Lindgren RF
Enclosures, Inc. (Lindgren). The EMC Group is principally involved in
the design and manufacture of EMC test equipment, test chambers,
and electromagnetic absorption materials. The EMC Group also
manufactures radio frequency (RF) shielding products and compo-
nents used by manufacturers of medical equipment, communications
systems, electronic products, and shielded rooms for high security
data processing and secure communication. Accounting policies of
the segments are the same as those described in the summary of
significant accounting policies in note 1 to the Consolidated
Financial Statements.
In accordance with SFAS 131, the Company evaluates the
performance of its operating units based on EBIT, which is defined
as: Earnings Before Interest and Taxes. Intersegment sales and
transfers are not significant. Segment assets consist primarily of
customer receivables, inventories, capitalized software and fixed
assets directly associated with the production processes of the
segment. Segment depreciation and amortization is based upon
the direct assets listed above.
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 43
notes to Consolidated Financial Statements
nET SAlES
(Dollars in millions)
Year ended September 30,
Communications
PTI
VACCO
Filtertek
Filtration/Fluid Flow subtotal
Test
2006
$156.2
46.4
32.3
95.4
174.1
128.6
2005
138.0
40.7
38.9
92.1
171.7
119.4
Consolidated totals
$458.9
429.1
CApiTAl EXpEnDiTuRES
(Dollars in millions)
2004
137.8
38.1
43.2
92.6
173.9
110.4
422.1
Year ended September 30,
2006
2005
2004
Communications
$ 3.4
PTI
VACCO
Filtertek
Filtration/Fluid Flow subtotal
Test
0.2
1.0
3.8
5.0
0.7
Consolidated totals
$ 9.1
1.9
1.0
0.7
4.0
5.7
1.2
8.8
1.5
1.1
0.6
6.7
8.4
0.9
10.8
No customers exceeded 10% of net sales in the periods presented.
EBiT
(Dollars in millions)
Year ended September 30,
Communications
PTI
VACCO
Filtertek
Filtration/Fluid Flow subtotal
Test
Reconciliation to consolidated
DEpRECiATiOn AnD AMORTiZATiOn
(Dollars in millions)
Year ended September 30,
2006
2005
2004
2006
$ 28.3
6.6
6.1
6.8
19.5
15.0
2005
38.8
3.8
10.4
8.2
22.4
12.2
2004
38.4
2.4
13.7
5.7
21.8
11.3
Communications
$ 5.0
PTI
VACCO
Filtertek
Filtration/Fluid Flow subtotal
Test
Reconciliation to consolidated
totals (Corporate)
1.5
0.7
6.0
8.2
1.3
2.8
2.0
1.5
0.7
6.2
8.4
1.4
1.7
1.7
0.7
6.0
8.4
1.4
0.4
12.2
0.4
11.9
totals (Corporate)
(15.2)
(11.4)
(11.8)
Consolidated totals
$ 17.3
Consolidated EBIT
Add: interest income
47.6
1.3
Earnings before income tax
$ 48.9
62.0
1.9
63.9
59.7
0.8
60.5
gEOgRAphiC inFORMATiOn
net sales
(Dollars in millions)
iDEnTiFiABlE ASSETS
(Dollars in millions)
Year ended September 30,
Communications
PTI
VACCO
Filtertek
Filtration/Fluid Flow subtotal
Test
Reconciliation to consolidated
totals (Corporate assets)
2006
$ 97.9
32.0
15.7
62.9
110.6
50.3
2005
52.4
36.7
19.7
91.5
147.9
80.7
229.9
142.8
Consolidated totals
$488.7
423.8
2004
51.3
39.7
21.8
93.0
154.5
75.1
121.5
402.4
Corporate assets consist primarily of goodwill, deferred taxes,
acquired intangible assets and cash balances.
Year ended September 30,
2006
2005
2004
United States
$355.9
325.3
330.6
Europe
Far East
Other
40.2
36.1
26.7
56.0
29.6
18.2
58.3
18.8
14.4
Consolidated totals
$458.9
429.1
422.1
long-lived assets
(Dollars in millions)
Year ended September 30,
2006
2005
2004
United States
Europe
Other
Consolidated totals
$ 51.3
10.6
6.9
$ 68.8
50.3
10.9
6.0
67.2
53.5
11.6
4.0
69.1
Net sales are attributed to countries based on location of customer.
Long-lived assets are attributed to countries based on location of
the asset.
44
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
notes to Consolidated Financial Statements
16. Commitments and Contingencies
At September 30, 2006, the Company had $1.5 million in letters
of credit outstanding as guarantees of contract performance.
As a normal incidence of the businesses in which the Company
is engaged, various claims, charges and litigation are asserted
or commenced against the Company. Lindgren is involved in a
contract dispute with a prime contractor involving the assertion of
certain construction delay damages of approximately $3.7 million.
The project was completed in 2005. Lindgren vigorously denies
responsibility for this delay and for these damages, and has
17. Quarterly Financial information (unaudited)
asserted a claim against the prime contractor of $0.9 million
based on damages suffered by Lindgren. Lindgren continues to
aggressively defend its position and pursue its right to affirmative
damages however, there can be no assurance of the outcome
at this time. With respect to claims and litigation asserted or
commenced against the Company, it is the opinion of Management,
that final judgments, if any, which might be rendered against the
Company are adequately reserved, covered by insurance, or are not
likely to have a material adverse effect on its financial condition or
results of operation.
(Dollars in thousands, except per share amounts)
First
Quarter
Second
Quarter
Third
Quarter
Fourth
Quarter
Fiscal
Year
2006
Net sales
Net earnings
Basic earnings per share:
Net earnings
Diluted earnings per share:
Net earnings
2005
Net sales
Net earnings
Basic earnings per share:
Net earnings
Diluted earnings per share:
Net earnings
$ 90,586
122,884 123,626
121,769 458,865
2,204
7,343
11,163
10,570
31,280
.09
.29
.43
.41
1.22
$
.08
.28
.42
.40
1.19
$104,375
106,160
108,800
109,780
429,115
10,523
10,427
12,401
10,193
43,544
.41
.41
.49
.40
1.71
$
.40
.40
.47
.39
1.66
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 45
Management’s Statement of Financial Responsibility
The Company’s Management is responsible for the fair presentation
of the Company’s financial statements in accordance with
accounting principles generally accepted in the United States
of America, and for their integrity and accuracy. Management is
confident that its financial and business processes provide accurate
information on a timely basis.
Management, with the oversight of ESCO’s Board of Directors, has
established and maintains a strong ethical climate in which the
Company’s affairs are conducted. Management also has established
an effective system of internal controls that provide reasonable
assurance as to the integrity and accuracy of the financial
statements, and responsibility for the Company’s assets. KPMG LLP,
the Company’s independent accountants, reports directly to the
Audit and Finance Committee of the Board of Directors. The Audit
and Finance Committee has established policies consistent with
newly enacted corporate reform laws for auditor independence. In
accordance with corporate governance listing requirements of the
New York Stock Exchange:
▶ A majority of Board members are independent of the Company
and its Management
▶ All members of the key Board committees — the Audit and
Finance, the Human Resources and Compensation and the
Nominating and Corporate Governance Committees —
are independent
▶ The independent members of the Board meet regularly without
the presence of Management
▶ The Company has a clear code of ethics and conflict of interest
policy to ensure that key corporate decisions are made by
individuals who do not have a financial interest in the outcome,
separate from their interest as Company officials
▶ The charters of the Board committees clearly establish their
respective roles and responsibilities
▶ The Company has an ethics officer and an ombudsman hot line
available to all domestic employees and all foreign employees
have local ethics officers and access to the Company’s ombudsman
The Company has a strong financial team, from its executive
leadership to each of its individual contributors. Management
monitors compliance with its financial policies and practices over
critical areas including internal controls, financial accounting and
reporting, accountability, and safeguarding of its corporate assets.
The internal audit control function maintains oversight over the
key areas of the business and financial processes and controls, and
reports directly to the Audit and Finance Committee. Additionally,
all employees are required to adhere to the ESCO Code of Business
Conduct and Ethics, which is monitored by the ethics officer.
Management is dedicated to ensuring that the standards of financial
accounting and reporting that are established are maintained. The
Company’s culture demands integrity and a commitment to strong
internal practices and policies.
The consolidated financial statements have been audited by KPMG
LLP, whose report is included herein.
Victor L. Richey
Chairman, Chief Executive Officer,
and President
Gary E. Muenster
Senior Vice President
and Chief Financial Officer
46
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
Management’s Report on internal Control Over Financial Reporting
The Company’s Management is responsible for establishing and
maintaining adequate internal control over financial reporting (as
defined in the Securities Exchange Act Rule 13a-15(f)). Our internal
control over financial reporting is designed to provide reasonable
assurance regarding the reliability of financial reporting and the
preparation of financial statements for external purposes in
accordance with generally accepted accounting principles in
the United States of America.
Because of its inherent limitations, any system of internal control
over financial reporting, no matter how well designed, may not
prevent or detect misstatements due to the possibility that a
control can be circumvented or overridden or that misstatements
due to error or fraud may occur that are not detected. Also, because
of changes in conditions, internal control effectiveness may vary
over time.
Management assessed the effectiveness of the Company’s internal
control over financial reporting as of September 30, 2006 using
criteria established in Internal Control — Integrated Framework
issued by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO) and concluded that the Company
maintained effective internal control over financial reporting as of
September 30, 2006 based on these criteria, subject to the scope
limitation with respect to Nexus and Hexagram as discussed in the
following paragraph.
The Company acquired Nexus Energy Software, Inc. (Nexus) on
November 29, 2005 and Hexagram, Inc. (Hexagram) on February 1,
2006. As permitted by SEC guidance, Management excluded from its
assessment of the effectiveness of the Company’s internal control
over financial reporting as of September 30, 2006, Nexus’ and
Hexagram’s internal control over financial reporting. Total assets
related to Nexus as of September 30, 2006 were $3.7 million and
revenues for the ten-month period subsequent to the acquisition
(November 29, 2005 to September 30, 2006) were $9.6 million.
Total assets related to Hexagram as of September 30, 2006 were
$13.1 million and revenues for the eight-month period subsequent
to the acquisition (February 1, 2006 to September 30, 2006) were
$18.6 million.
Our internal control over financial reporting as of September 30,
2006, as well as our assessment of the effectiveness of our internal
control over financial reporting as of September 30, 2006, have
been audited by KPMG LLP, an independent registered public
accounting firm, as stated in the report which is included herein.
Victor L. Richey
Chairman, Chief Executive Officer,
and President
Gary E. Muenster
Senior Vice President
and Chief Financial Officer
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 47
Report of independent Registered public Accounting Firm
The Board of Directors and Shareholders
ESCO Technologies Inc.:
We have audited the accompanying consolidated balance sheets
of ESCO Technologies Inc. and subsidiaries (the Company) as of
September 30, 2006 and 2005, and the related consolidated state-
ments of operations, shareholders’ equity, and cash flows for each
of the years in the three-year period ended September 30, 2006.
These consolidated financial statements are the responsibility of the
Company’s management. Our responsibility is to express an opinion
on these consolidated financial statements 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. An audit also includes assessing the
accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred
to previously present fairly, in all material respects, the financial
position of ESCO Technologies Inc. and subsidiaries as of
September 30, 2006 and 2005, and the results of their operations
and their cash flows for each of the years in the three-year period
ended September 30, 2006, in conformity with U.S. generally
accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements,
the Company adopted Statement of Financial Accounting Standards
No. 123(R), “Share-Based Payment” effective October 1, 2005
and the Company changed its method of quantifying errors in 2006.
We also have audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States),
the effectiveness of ESCO Technologies Inc.’s internal control over
financial reporting as of September 30, 2006, based on criteria
established in the Internal Control — Integrated Framework
issued by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO), and our report dated December 11,
2006, expressed an unqualified opinion on management’s
assessment of, and the effective operation of, internal control
over financial reporting.
St. Louis, Missouri
December 11, 2006
48
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
Report of independent Registered public Accounting Firm
The Board of Directors and Shareholders
ESCO Technologies Inc.:
We have audited management’s assessment, included in the
accompanying Management’s Report on Internal Control Over
Financial Reporting, that ESCO Technologies Inc. (the Company)
maintained effective internal control over the financial reporting
as of September 30, 2006, based on criteria established in the
Internal Control — Integrated Framework issued by the Committee
of Sponsoring Organizations of the Treadway Commission
(COSO). ESCO Technologies Inc.’s management is responsible for
maintaining effective internal control over financial reporting and
for its assessment of the effectiveness of internal control over
financial reporting. Our responsibility is to express an opinion on
management’s assessment and an opinion on the effectiveness of
the Company’s internal control over financial reporting based on
our audit.
We conducted our audit in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards required that we plan and perform the audit to obtain
reasonable assurance about whether effective internal control over
financial reporting was maintained in all material respects. Our
audit included obtaining an understanding of internal control over
financial reporting, evaluating management’s assessment, testing
and evaluating the design and operating effectiveness of internal
control, and performing such other procedures as we considered
necessary in the circumstances. We believe that our audit provides
a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process
designed to provide reasonable assurance regarding the reliability
of financial reporting and the preparation of financial statements
for external purposes in accordance with generally accepted
accounting principles. A company’s internal control over financial
reporting includes those policies and procedures that (1) pertain to
the maintenance of records that, in reasonable detail, accurately
and fairly reflect the transactions and dispositions of the assets of
the company; (2) provide reasonable assurance that transactions are
recorded as necessary to permit preparation of financial statements
in accordance with generally accepted accounting principles, and
the receipts and expenditures of the company are being made only
in accordance with authorizations of management and directors
of the company; and (3) provide reasonable assurance regarding
prevention or timely detection of unauthorized acquisition, use,
or disposition of the company’s assets that could have a material
effect on the financial statements.
Because of its inherent limitations, internal control over
financial reporting may not prevent or detect misstatements. Also,
projections of any evaluation of effectiveness to future periods are
subject to the risk that controls may become inadequate because of
changes in conditions, or that the degree of compliance with the
policies or procedures may deteriorate.
In our opinion, management’s assessment that ESCO Technologies
Inc. maintained effective internal control over financial reporting
as of September 30, 2006, is fairly stated, in all material respects,
based on criteria established in the Internal Control — Integrated
Framework issued by COSO. Also, in our opinion, ESCO Technologies
Inc. maintained, in all material respects, effective internal control
over financial reporting as of September 30, 2006, based on criteria
established in the Internal Control — Integrated Framework issued
by COSO.
The Company acquired Nexus Energy Software, Inc. (Nexus)
on November 29, 2005 and Hexagram, Inc. (Hexagram) on
February 1, 2006, and management excluded from its assessment
of the effectiveness of the Company’s internal control over financial
reporting as of September 30, 2006, Nexus’ and Hexagram’s internal
control over financial reporting. Total assets related to Nexus as
of September 30, 2006 of $3.7 million and revenues for the ten-
month period subsequent to the acquisition (November 29, 2005
to September 30, 2006) of $9.6 million and total assets related to
Hexagram as of September 30, 2006 of $13.1 million and revenues
for the eight-month period subsequent to the acquisition (February 1,
2006 to September 30, 2006) of $18.6 million were included in
the consolidated financial statements of ESCO Technologies Inc.
and subsidiaries as of and for the year ended September 30, 2006.
Our audit of internal control over financial reporting of ESCO
Technologies Inc. also excluded an evaluation of the internal
control over financial reporting of Nexus and Hexagram.
We also have audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States),
the consolidated balance sheets of ESCO Technologies Inc. and
subsidiaries as of September 30, 2006 and 2005, and the related
consolidated statements of operations, shareholders’ equity and
cash flows for each of the years in the three-year period ended
September 30, 2006, and our report dated December 11, 2006,
expressed an unqualified opinion on those consolidated
financial statements.
St. Louis, Missouri
December 11, 2006
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 49
Five-Year Financial Summary
(Dollars in millions, except per share amounts)
2006
2005
2004
2003
2002
For years ended September 30:
Net sales
Net earnings from continuing operations
Net earnings (loss) from discontinued operations
Net earnings (loss) before accounting change
Net earnings (loss)
Earnings (loss) per share:
Basic:
Continuing operations
Discontinued operations
Cumulative effect of accounting change, net of tax
Net earnings (loss)
Diluted:
Continuing operations
Discontinued operations
Cumulative effect of accounting change, net of tax
Net earnings (loss)
As of September 30:
Working capital
Total assets
Long-term debt
Shareholders’ equity
$458.9
31.3
—
31.3
31.3
1.22
—
—
1.22
1.19
—
—
1.19
131.4
488.7
—
$376.4
429.1
43.5
—
43.5
43.5
1.71
—
—
1.71
1.66
—
—
1.66
197.2
423.8
—
331.0
422.1
37.8
(2.1)
35.7
35.7
1.47
(0.09)
—
1.38
1.42
(0.08)
—
1.34
165.2
402.4
0.4
307.6
396.7
26.7
(66.5)
(39.7)
(41.1)
1.05
(2.62)
(0.06)
(1.63)
1.02
(2.53)
(0.06)
(1.57)
120.5
393.4
0.5
275.4
316.6
23.3
(1.6)
21.8
21.8
0.93
(0.06)
—
0.87
0.90
(0.06)
—
0.84
112.6
407.7
0.5
306.3
See notes 2 and 3 of notes to consolidated financial statements for discussion of acquisition and divestiture activity.
Common Stock Market price
ESCO’s common stock and associated preferred stock purchase rights (subsequently referred to as common stock) are listed on the New York
Stock Exchange under the symbol “ESE.” The following table summarizes the high and low prices of the common stock for each quarter of fiscal
2006 and 2005. The prior year amounts have been adjusted to reflect the 2-for-1 stock split which occurred on September 23, 2005.
Quarter
First
Second
Third
Fourth
2006
2005
high
$50.75
52.76
58.03
58.42
low
32.57
43.84
47.65
45.30
High
$39.48
42.43
53.25
56.23
Low
32.25
34.49
35.40
47.18
ESCO historically has not paid cash dividends on its common stock. Management continues to evaluate its cash dividend policy. There are no
current plans to initiate a dividend.
50
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
Shareholders’ Summary
ShAREhOlDERS’ AnnuAl MEETing
inVESTOR RElATiOnS
The Annual Meeting of the shareholders of ESCO Technologies Inc.
will be held at 9:30 a.m. Friday, February 2, 2007, at the Company’s
Corporate headquarters, 9900A Clayton Road, St. Louis, Missouri
63124. Notice of the meeting and a proxy statement were sent to
shareholders with this Annual Report.
Additional investor-related information may be obtained by
contacting the Director of Investor Relations at (314) 213-7277 or
toll free at (888) 622-3726. Information is also available through
the Company’s web site at www.escotechnologies.com or via e-mail
to pmoore@escotechnologies.com.
CERTiFiCATiOnS
TRAnSFER AgEnT AnD REgiSTRAR
Pursuant to New York Stock Exchange (NYSE) requirements, the
Company submitted to the NYSE the annual certifications, dated
February 27, 2006 and March 3, 2005, by the Company’s chief
executive officer that he was not aware of any violations by the
Company of NYSE’s corporate governance listing standards. In
addition, the Company filed with the Securities and Exchange
Commission the certifications by the Company’s chief executive
officer and chief financial officer required under Section 302 of
the Sarbanes-Oxley Act of 2002 as exhibits to the Company’s
Forms 10-K for its fiscal years ended September 30, 2006 and
September 30, 2005.
10-K REpORT
A copy of the Company’s 2006 Annual Report on Form 10-K filed
with the Securities and Exchange Commission is available to
shareholders without charge. Direct your written request to the
Investor Relations Department, ESCO Technologies Inc., 9900A
Clayton Road, St. Louis, Missouri 63124.
The Form 10-K is also available on the Company’s web site at
www.escotechnologies.com.
Shareholder inquiries concerning lost certificates, transfer of shares
or address changes should be directed to:
Registrar and Transfer Company
10 Commerce Drive
Cranford, NJ 07016-3572
1 (800) 368-5948
E-mail: info@rtco.com
CApiTAl STOCK inFORMATiOn
ESCO Technologies Inc. common stock shares (symbol ESE)
are listed on the New York Stock Exchange. There were
approximately 2,500 holders of record of shares of common
stock at September 30, 2006.
inDEpEnDEnT REgiSTERED puBliC ACCOunTing FiRM
KPMG LLP
10 South Broadway, Suite 900
St. Louis, Missouri 63102
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T 51
Management and Board of Directors
EXECuTiVE OFFiCERS
Victor l. Richey
Chairman, Chief Executive
Officer, & President
Alyson S. Barclay
Vice President, Secretary &
General Counsel
OpERATing EXECuTiVES
Bruce E. Butler
President
ETS-Lindgren LP
gary E. Muenster
Senior Vice President &
Chief Financial Officer
CORpORATE STAFF
Charles J. Kretschmer
Vice President
Deborah J. hanlon
Vice President
Human Resources
Sam R. Chapetta
Filtration Group Vice President &
President
PTI Technologies Inc.
William M. giacone
Vice President &
General Manager — Lindgren
ETS-Lindgren LP
Antonio E. gonzalez
President
VACCO Industries
Kent A. Marty
General Manager
Comtrak Technologies, LLC
Sam A. Mazzola
President
Tek Packaging
harvey g. Michaels
President
Nexus Energy Software, Inc.
gary l. Moore
President
Hexagram, Inc.
Bruce A. phillips
President
Distribution Control
Systems, Inc.
Bryan Sayler
Senior Vice President &
General Manager — ETS
ETS-Lindgren LP
Stephen p. Soltwedel
President
Filtertek Inc.
BOARD OF DiRECTORS
William S. Antle iii 1,2
Former Chairman, President &
Chief Executive Officer
Oak Industries, Inc.
James M. McConnell 2
Retired President &
Chief Executive Officer
Instron Corp.
Victor l. Richey 1
Chairman, Chief Executive
Officer, & President
James M. Stolze 2
Vice President &
Chief Financial Officer
Stereotaxis, Inc.
Donald C. Trauscht 1,3,4
(Lead Director)
Chairman
BW Capital Corp.
James D. Woods 3
Chairman Emeritus &
Retired Chief Executive Officer
Baker Hughes Inc.
larry W. Solley 3,4
Retired
Executive Vice President
Emerson Electric Co.
Committee Membership
1 Executive Committee
2 Audit and Finance Committee
3 Human Resources and
Compensation Committee
4 Nominating and Corporate
Governance
52
E S C O T E C h n O l O g i E S i n C . 2 0 0 6 A n n u A l R E p O R T
ESCO Technologies Inc.
9900A Clayton Road
St. Louis, MO 63124
www.escotechnologies.com