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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
(mark one)
☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2005
☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to .
Commission file number 1-11406
KADANT INC.
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction of incorporation or organization)
52-1762325
(I.R.S. Employer Identification No.)
One Acton Place, Suite 202
Acton, Massachusetts
(Address of principal executive offices)
01720
(Zip Code)
Registrant’s telephone number, including area code: (978) 776-2000
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
Common Stock, $.01 par value
Name of Each Exchange on Which Registered
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐ No ☒
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☒
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes ☒ No ☐
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of
the registrant’s knowledge, in definitive proxy or information statements incorporated by reference into Part III of this Form 10-K or any amendment to this Form
10-K. ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer” in
Rule 12b-2 of the Exchange Act.
Large accelerated filer ☐ Accelerated filer ☒ Non-accelerated filer ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
The aggregate market value of the voting and non-voting common equity held by nonaffiliates of the registrant as of July 2, 2005, was approximately
$301,325,000.
As of March 1, 2006, the registrant had 13,576,764 shares of Common Stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s definitive proxy statement pursuant to Regulation 14A promulgated under the Securities Exchange Act of 1934, as amended, to be
used in connection with the registrant’s 2006 Annual Meeting of Shareholders are incorporated by reference into Part III of this Form 10-K.
Table of Contents
Item 1.
Business
Item 1A.
Risk Factors
Item 1B.
Unresolved Staff Comments
Item 2.
Properties
Item 3.
Legal Proceedings
Kadant Inc.
Annual Report on Form 10-K
for the Fiscal Year Ended December 31, 2005
Table of Contents
PART I
Item 4.
Submission of Matters to a Vote of Security Holders
PART II
Item 5.
Market for the Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities
Item 6.
Selected Financial Data
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
Item 8.
Financial Statements and Supplementary Data
Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Item 9A.
Controls and Procedures
Item 9B.
Other Information
Item 10.
Directors and Executive Officers of the Registrant
Item 11.
Executive Compensation
PART III
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Item 13.
Certain Relationships and Related Transactions
Item 14.
Principal Accountant Fees and Services
Item 15.
Exhibits and Financial Statement Schedules
PART IV
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Kadant Inc.
Forward-Looking Statements
PART I
2005 Annual Report
This Annual Report on Form 10-K and the documents that we incorporate by reference in this Report include forward-looking statements within the
meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and Section 27A of the Securities Act of 1933, as amended. These forward-looking
statements are not statements of historical fact, and may include statements regarding possible or assumed future results of operations. Forward-looking
statements are subject to risks and uncertainties and are based on the beliefs and assumptions of our management, using information currently available to our
management. When we use words such as “believes,” “expects,” “anticipates,” “intends,” “plans,” “estimates,” “should,” “likely,” “will,” “would,” or similar
expressions, we are making forward-looking statements.
Forward-looking statements are not guarantees of performance. They involve risks, uncertainties, and assumptions. Our future results of operations may
differ materially from those expressed in the forward-looking statements. Many of the important factors that will determine these results and values are beyond
our ability to control or predict. You should not put undue reliance on any forward-looking statements. We undertake no obligation to publicly update any
forward-looking statement, whether as a result of new information, future events, or otherwise. For a discussion of important factors that may cause our actual
results to differ materially from those suggested by the forward-looking statements, you should read carefully the section captioned “Risk Factors” in Part I,
Item 1A, of this Report.
Item 1. Business
General Development of Business
The Company was incorporated in Delaware in November 1991 to be the successor-in-interest to several papermaking equipment businesses of Thermo
Electron Corporation (Thermo Electron). In November 1992, we completed an initial public offering of a portion of our outstanding common stock. On July 12,
2001, the Company changed its name to Kadant Inc. from Thermo Fibertek Inc. In August 2001, Thermo Electron disposed of its remaining equity interest in
Kadant by means of a stock dividend to its shareholders. In May 2003, we moved the listing of our common stock to the New York Stock Exchange, where it
continues to trade under the symbol “KAI.”
The terms “we,” “us,” “our,” “Registrant,” or “Company” in this Report refer to Kadant Inc. and its consolidated subsidiaries.
Description of Our Business
We are a leading supplier of equipment used in the global papermaking and paper recycling industries and also a manufacturer of granules made from
papermaking byproducts. Our continuing operations consist of one reportable operating segment, Pulp and Papermaking Systems, and two separate product lines:
Fiber-based Products and Casting Products. In classifying operational entities into a particular segment, we considered how our management assesses
performance and makes operating decisions, and aggregated businesses with similar economic characteristics, products and services, production processes,
customers, and methods of distribution. In addition, prior to its sale, we operated a composite building products business (the composites business), which is
presented as a discontinued operation in the accompanying consolidated financial statements. On October 21, 2005, our Kadant Composites LLC subsidiary sold
substantially all of its assets, comprising the composites business, to LDI Composites Co. for approximately $11.1 million in cash and the assumption of $1.4
million of liabilities resulting in an immaterial gain on the sale. The sale price is subject to a post-closing adjustment.
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Kadant Inc.
Pulp and Papermaking Systems
2005 Annual Report
Our Pulp and Papermaking Systems segment has a long and well-established history of developing, manufacturing, and marketing equipment for the global
papermaking and paper recycling industries. Some of our businesses or their predecessor companies have been in operation for approximately 100 years. Our
customer base includes major global paper manufacturers and, with our equipment found in most of the world’s pulp and paper mills, we believe we have one of
the largest installed bases of equipment in the pulp and paper industry. We manufacture our products in nine countries in Europe, North and South America, and
Asia and license certain products for manufacture in South America and Asia.
On May 11, 2005, we acquired all the outstanding stock of The Johnson Corporation (Kadant Johnson), a leading supplier of fluid-handling systems and
equipment, including steam and condensate systems, components, and controls. These products are used primarily in the dryer section of the papermaking process
and during the production of corrugated boards, metals, plastics, rubber, textiles, and food. Kadant Johnson was a privately held company based in Three Rivers,
Michigan, with approximately 575 employees and annual revenues of approximately $76 million in calendar 2004. The purchase price for the acquisition was
approximately $101.5 million in cash, subject to a post-closing adjustment, and $4.7 million of acquisition-related costs. In addition to the consideration paid at
closing, we issued a letter of credit to the sellers for $4.0 million related to certain tax assets of Kadant Johnson, the value of which we expect to realize. This
amount is subject to adjustment based on The Johnson Corporation’s final tax return for 2005, and is due over the next five years as follows: 15% per year in
2006, 2007, 2008 and 2009, and 40% in 2010. The parties also agreed to an earn-out provision, based on the achievement of certain revenue targets between the
closing date of May 11, 2005 and July 1, 2006, which could increase the purchase price by up to $8.0 million. This contingent consideration will be accounted for
as an increase in goodwill, if and when the revenue targets are achieved. Based on our current forecasts, we do not believe that a significant payout under the
earn-out provision is likely.
On January 21, 2006, on behalf of our wholly foreign owned enterprise formed in China, we entered into an Asset Purchase Agreement with Jining Huayi
Light Industry Machinery Co., Ltd. (Huayi) to acquire substantially all the assets of Huayi, a supplier of stock-preparation equipment in China, for approximately
$20 million, subject to adjustment. We expect to finance the acquisition through a combination of cash and borrowings, in China or under our existing $25 million
revolver, which is part of our credit facility entered into in May 2005. The closing of the acquisition is subject to customary closing conditions, including
regulatory approvals and the approval of our board of directors and Huayi’s board of directors and shareholders. The closing is expected to occur in the second
quarter of 2006. Huayi’s unaudited revenues were approximately $15.0 million in 2005.
Our Pulp and Papermaking Systems segment consists of the following product lines: stock-preparation systems and equipment, paper machine accessory
equipment, water-management systems, and, since the May 2005 acquisition of Kadant Johnson, fluid-handling systems.
Stock-preparation systems and equipment
We develop, manufacture, and market complete custom-engineered systems and equipment, as well as standard individual components, for pulping, de-
inking, screening, cleaning, and refining recycled and virgin fibers to prepare them for entry into the paper machine during the production of recycled paper. Our
principal stock-preparation products include:
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Recycling and approach flow systems: Our equipment includes pulping, screening, cleaning, and de-inking systems that blend pulp mixtures and
remove contaminants, such as ink, glue, metals, and other impurities, to prepare them for entry into the paper machine during the production of
recycled paper.
Virgin pulping process equipment: Our equipment includes pulp washing, evaporator, recausticizing, and condensate treatment systems used to
remove lignin, concentrate and recycle process chemicals, and remove condensate gases.
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Kadant Inc.
Paper machine accessory equipment
2005 Annual Report
We develop, manufacture, and market a wide range of doctor systems and related consumables that continuously clean papermaking rolls to keep paper
machines running efficiently; doctor blades made of a variety of materials to perform functions including cleaning, creping, web removal, and application of
coatings; and profiling systems that control moisture, web curl, and gloss during paper production. Our principal paper machine accessory products include:
–
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–
Doctor systems and holders: Our doctor systems clean papermaking rolls to maintain the efficient operation of paper machines by placing a blade
against the roll at a constant and uniform pressure. A doctor system consists of the structure supporting the blade and the blade holder. A large paper
machine may have as many as 100 doctor systems.
Profiling systems: We offer profiling systems that control moisture, web curl, and gloss during paper production.
Doctor blades: We manufacture doctor blades made of a variety of materials including metal, bi-metal, or synthetic materials that perform a variety
of functions including cleaning, creping, web removal, or the application of coatings. A typical doctor blade has a life ranging from eight hours to
two months, depending on the application.
Water-management systems
We develop, manufacture, and market water-management systems and equipment used to continuously clean paper machine fabrics, drain water from pulp
mixtures, form the sheet or web, and filter the process water for reuse. Our principal water-management systems include:
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Shower and fabric-conditioning systems: Our shower and fabric-conditioning systems assist in the removal of contaminants that collect on paper
machine fabrics used to convey the paper web through the forming, pressing, and drying sections of the paper machine. The average paper machine
has between 3 and 12 fabrics. These fabrics can easily become contaminated with fiber, fillers, pitch, and dirt that can have a detrimental effect on
paper machine performance and paper quality. Our shower and fabric-conditioning systems assist in the removal of these contaminants.
Formation systems: We supply structures that drain, purify, and recycle process water from the pulp mixture during paper sheet and web formation.
Water-filtration systems: We offer a variety of filtration systems and strainers that remove contaminants from process water before reuse and recover
reusable fiber for recycling back into the pulp mixture.
Fluid-handling systems
We develop, manufacture and market rotary joints, precision unions, steam and condensate systems, components, and controls used primarily in the dryer
section of the papermaking process and during the production of corrugated boxboard, metals, plastics, rubber, textiles, and food. Our principal fluid-handling
systems include:
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Rotary joints: Our mechanical devices, used with rotating shafts, allow the transfer of pressurized fluid from a stationary source into and out of
rotating machinery for heating, cooling, or the transfer of fluid power.
Syphons: Our devices, installed primarily inside the rotating cylinders of paper machines, are used to force steam once it has cooled into a liquid
state (condensate) out of the drying cylinders through rotary joints located on either end.
TurbulatorR tube bars: Our steel or stainless steel axial bars, installed on the inside of dryers, are used to induce turbulence in the condensate layer to
improve the uniformity and rate of heat transfer (drying rate) of the dryers.
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2005 Annual Report
–
Engineered steam and condensate systems: Our systems control the flow of steam from the boiler to the paper drying cylinders, collect condensed
steam, and return it to the boiler to improve energy-efficiency during the paper drying process.
Fiber-Based and Casting Products
Our Fiber-based Products business produces biodegradable, absorbent granules from papermaking byproducts for use primarily as carriers for agricultural,
home lawn and garden, and professional lawn, turf and ornamental applications, as well as for oil and grease absorption. In addition, our Casting Products
business manufactures grey and ductile iron castings.
Discontinued Operation
Prior to October 2005, we produced composite building products, including decking and railing systems and roof tiles, made from recycled fiber, plastic,
and other material, which were marketed through distributors primarily to the building industry. On October 21, 2005, our Kadant Composites LLC subsidiary
sold substantially all of its assets, comprising the composites business, to LDI Composites Co. (the Buyer) for approximately $11.1 million in cash and the
assumption of $1.4 million of liabilities resulting in an immaterial gain on the sale. The sale price is subject to a post-closing adjustment.
As part of the sale transaction, Kadant Composites LLC retained the warranty obligations associated with products manufactured prior to the sale date.
Kadant Composites LLC deposited $3.5 million of the sale proceeds into a special escrow fund to satisfy these warranty claims. This fund will be administered by
the Buyer for five years or until the funds are exhausted, after which time Kadant Composites LLC will administer any remaining covered warranty claims. Based
on the claims submitted to the Buyer for reimbursement through year-end 2005, the remaining balance in the special escrow fund would be reduced to
approximately $2.3 million. Based on the claims activity and payments processed after year-end 2005, we anticipate that the special escrow fund will be utilized
and Kadant Composites LLC will assume claims processing in 2006. As of December 31, 2005, the accrued warranty reserve associated with the composites
business was $5.3 million. All future activity associated with this warranty reserve will continue to be classified in the results of the discontinued operation in our
consolidated financial statements.
Research and Development
We develop a broad range of products for all facets of the markets we serve. We focus our research and development efforts on the technological
advancement of our stock-preparation, paper machine accessory, fluid-handling, and water-management products.
Our research and development expenses from continuing operations were $4.9 million, $3.1 million, and $4.3 million in 2005*, 2004, and 2003,
respectively.
Raw Materials
Raw materials, components, and supplies for our significant products are available either from a number of different suppliers or from alternative sources
that we believe could be developed without a material adverse effect on our business.
* Unless otherwise noted, references to 2005, 2004, and 2003 in this Annual Report on Form 10-K are for the fiscal years ended December 31, 2005, January 1,
2005, and January 3, 2004, respectively.
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Kadant Inc.
2005 Annual Report
The raw material used in the manufacture of our fiber-based granules is obtained from two paper recycling mills. The mills have the exclusive right to
supply papermaking byproducts to our existing granulation plant in Green Bay, Wisconsin, under a contract which expires in December 2007 and is renewable
every two years by mutual agreement. Although we believe that our relationship with the mills is good, the mills may not agree to renew the contract upon its
expiration. Due to manufacturing changes at the mills, we recently had some difficulty obtaining sufficient raw material to operate at optimal production levels.
We are working with the mills to ensure a stable supply of raw material. To date, we have been able to meet all of our customer delivery requirements, but there
can be no assurance that we will be able to meet future delivery requirements. If the mills were unable or unwilling to supply us sufficient fiber, we would be
forced to find an alternative supplier for this raw material.
Patents, Licenses, and Trademarks
We protect our intellectual property rights by applying for and obtaining patents when appropriate. We also rely on technical know-how, trade secrets, and
trademarks to maintain our competitive position.
Pulp and Papermaking Systems
We have numerous U.S. and foreign patents, including foreign counterparts to our U.S. patents, expiring on various dates ranging from 2006 to 2024. We
maintain a worldwide network of licensees and cross-licensees of products with other companies serving the pulp, papermaking, converting, and paper recycling
industries.
Fiber-Based Products
We currently hold several U.S. patents, expiring on various dates ranging from 2008 to 2021, related to various aspects of the processing of fiber-based
granules and the use of these materials in the agricultural, professional turf, home lawn and garden, general absorption, oil and grease absorption, and catbox filler
markets. We also have foreign counterparts to these U.S. patents in Canada.
Seasonal Influences
Pulp and Papermaking Systems
There are no material seasonal influences on this segment’s sales of products and services.
Fiber-Based and Casting Products
Our fiber-based granular products business experiences fluctuations in sales, usually in the third quarter, when sales decline due to the seasonality of the
agricultural and home lawn and garden markets.
Working Capital Requirements
There are no special inventory requirements or credit terms extended to customers that would have a material adverse effect on our working capital.
Dependency on a Single Customer
No single customer accounted for more than 10% of our consolidated revenues or more than 10% of the Pulp and Papermaking Systems segment’s
revenues in any of the past three years. Revenues from China were $29.2 million, $29.4 million, and $31.1 million in 2005, 2004, and 2003, respectively.
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Kadant Inc.
Backlog
2005 Annual Report
Our backlog of firm orders for the Pulp and Papermaking Systems segment was $52.5 million and $34.2 million at year-end 2005 and 2004, respectively.
We anticipate that substantially all of the backlog at December 31, 2005, will be shipped or completed during the next 12 months. Some of these orders may be
canceled by the customer upon payment of a cancellation fee.
Competition
We face significant competition in each of our principal markets. We compete primarily on the basis of quality, price, service, technical expertise, and
product performance and innovation. We believe the reputation that we have established for quality products and in-depth process knowledge provides us with a
competitive advantage. In addition, a significant portion of our business is generated from our existing worldwide customer base. To maintain this base, we have
emphasized technology, service, and a problem-solving relationship with our customers.
We are a leading supplier of stock-preparation equipment used for the preparation of recycled and virgin fibers in the production of recycled paper. Several
major competitors supply various pieces of equipment for this process. Our principal competitors in this market are Voith Paper GmbH, Groupe Laperriere &
Verrault Inc., Metso Corporation, and Maschinenfabrik Andritz AG. We compete in this market primarily on the basis of technical expertise, product innovation,
and price. Other competitors specialize in segments within the white- and brown-paper markets.
We are a leading supplier of specialty accessory equipment for paper machines. Our principal global competitors in this market are Joh. Clouth GmbH &
Co. KG and Metso Corporation. Because of the high capital costs of paper machines and the role of our accessories in maintaining the efficiency of these
machines, we generally compete in this market on the basis of service, technical expertise, performance, and price.
We are a leading supplier of fluid-handling systems and equipment, offering global sales and service, application expertise, and an extensive rotary joint
product line. There are numerous competitors in this market, including Deublin Company, Barco Company, Christian Maier GmbH & Co. KG, and Duff-Norton
Company. In addition, due to the highly fragmented nature of the rotary joint market, we compete with numerous local competitors. We generally compete based
on process knowledge, technical competency, product and service quality, and price.
Various competitors exist in the formation, shower and fabric-conditioning systems, and filtration systems markets. Principal competitors are IBS-Paper
Performance Group in formation and shower and fabric conditioning systems and Asten/Johnson Foils in formation tables. In addition, a variety of smaller
companies compete within the shower and fabric-conditioning systems and filtration systems markets. In each of these markets, we generally compete on the
basis of process knowledge, application experience, product quality, service, and price.
Environmental Protection Regulations
We believe that our compliance with federal, state, and local environmental protection regulations will not have a material adverse effect on our capital
expenditures, earnings, or competitive position.
Employees
As of December 31, 2005, we had approximately 1,400 employees worldwide.
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Kadant Inc.
Financial Information
2005 Annual Report
Financial information concerning our segment and product lines is summarized in Part IV, Item 15, Exhibits and Financial Statement Schedules, Note 11,
which begins on page F-1 of this Report.
Financial information about exports by domestic operations and about foreign operations is summarized in Part IV, Item 15, Exhibits and Financial
Statement Schedules, Note 11, which begins on page F-1 of this Report.
Available Information
We file annual, quarterly, and current reports, proxy statements, and other documents with the Securities and Exchange Commission (SEC) under the
Exchange Act. The public may read and copy any materials that we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, D.C.
20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. Also, the SEC maintains a
website that contains reports, proxy and information statements, and other information regarding issuers, including us, that file electronically with the SEC. The
public can obtain any documents that we file with the SEC at www.sec.gov. We also make available free of charge through our website at www.kadant.com our
Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to these Reports filed with or furnished
pursuant to Section 13(a) or 15(d) of the Exchange Act, as soon as reasonably practicable after we electronically file these materials with, or furnish them to, the
SEC. We are not including the information contained in our website as part of this Report nor are we incorporating the information on our website into this Report
by reference.
Executive Officers of the Registrant
The following table summarizes certain information concerning individuals who are our executive officers as of March 1, 2006:
Name
William A. Rainville
Edward J. Sindoni
Thomas M. O’Brien
Jonathan W. Painter
Edwin D. Healy
Sandra L. Lambert
Eric T. Langevin
Rudolf A. Leerentveld
Michael J. McKenney
Age Present Title (Fiscal Year First Became Executive Officer)
64 Chairman of the Board, President, and Chief Executive Officer (1991)
61 Executive Vice President and Chief Operating Officer (2006)
54 Executive Vice President and Chief Financial Officer (1994)
47 Executive Vice President (1997)
68 Vice President (2002)
50 Vice President, General Counsel, and Secretary (2001)
43 Vice President (2006)
49 Vice President (2005)
44 Vice President, Finance and Chief Accounting Officer (2002)
Mr. Rainville has been president and chief executive officer since our incorporation in 1991, a member of our board of directors since 1992, and chairman
of our board since 2001. Prior to our spinoff in 2001, Mr. Rainville also held various managerial positions with Thermo Electron, including chief operating
officer, recycling and resource recovery, a position he held since 1998, and for more than five years prior to that, senior vice president. Prior to joining Thermo
Electron, Mr. Rainville held positions at Drott Manufacturing, Paper Industry Engineering, and Sterling Pulp and Paper.
Mr. Sindoni was named an executive vice president and chief operating officer in March 2006 and is responsible for global operations. He served as a
senior vice president from 2001 to 2006 with responsibility for our paper machine accessory equipment and water-management systems businesses. From 1992 to
2001, he served as a vice president. Prior to joining us in 1987, he had a 21-year career with the General Electric Company.
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2005 Annual Report
Mr. O’Brien has been an executive vice president since 1998 and our chief financial officer since 2001. He served as our treasurer from 2001 to February
2005 and also as vice president, finance, from 1991 to 1998. Prior to joining us, Mr. O’Brien held various finance positions at Racal Interlan, Inc., Prime
Computer, Compugraphic Corporation, and the General Electric Company.
Mr. Painter has been an executive vice president since 1997 and president of our composite building products business from 2001 until its sale in 2005. He
served as our treasurer and treasurer of Thermo Electron from 1994 until 1997. Prior to 1994, Mr. Painter held various managerial positions with us and at
Thermo Electron.
Mr. Healy has been a vice president since October 2002 and is responsible for our stock-preparation equipment business. He also served as the president of
our Kadant Black Clawson Inc. subsidiary from 2000 to mid-2003. He held various managerial positions at Kadant Black Clawson following its acquisition in
1997 and before that, served as the president of our Fiberprep Inc. subsidiary from 1988 to 1997. Prior to joining us, Mr. Healy had a 29-year career with Bird,
Escher, Wyss and its predecessor, Bird Machinery.
Ms. Lambert has been a vice president and our general counsel since 2001, and our secretary since our incorporation in 1991. Prior to joining us, she was a
vice president and secretary of Thermo Electron since 1999 and 1990, respectively, and before that was a member of Thermo Electron’s legal department.
Mr. Langevin was named a vice president in March 2006, with responsibility for our paper machine accessory equipment and water-management systems
businesses. Mr. Langevin has been president of our Kadant Web Systems subsidiary since 2001, and before that served as its senior vice president and vice
president of operations. Prior to that, Mr. Langevin managed several product groups and departments within Kadant Web Systems after joining us in 1986 as a
product development engineer.
Mr. Leerentveld has been a vice president since June 2005 and has served as the president of our Kadant Johnson Inc. subsidiary, acquired in May 2005.
Prior to its acquisition, Mr. Leerentveld served as president of The Johnson Corporation since 1998, and before that held various managerial positions within The
Johnson Corporation; Feda, Inc.; and EDCS, International Investment Fund.
Mr. McKenney has been our vice president, finance and chief accounting officer since January 2002, and served as our corporate controller since 1997.
Mr. McKenney was controller of Kadant AES, our division acquired from Albany International Inc., from 1993 to 1997. Prior to 1993, Mr. McKenney held
various financial positions at Albany International.
Item 1A. Risk Factors
In connection with the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995, we wish to caution readers that the following
important factors, among others, in some cases have affected, and in the future could affect, our actual results and could cause our actual results in 2006 and
beyond to differ materially from those expressed in any forward-looking statements made by us, or on our behalf.
Our business is dependent on the condition of the pulp and paper industry.
We sell products primarily to the pulp and paper industry, which is a cyclical industry. Generally, the financial condition of the global pulp and paper
industry corresponds to the condition of the general economy, as well as to a number of other factors, including pulp and paper production capacity relative to
demand. In recent years, the industry in certain geographic regions, notably North America, has been in a prolonged downcycle, resulting in depressed pulp and
paper prices, decreased spending, mill closures, consolidations, and bankruptcies, all of which have adversely affected our business. As paper companies
consolidate in response to market weakness, they frequently reduce capacity and postpone or even cancel capacity addition or expansion projects. These cyclical
downturns can cause our sales to decline and adversely affect our profitability.
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2005 Annual Report
Our business is subject to economic, currency, political, and other risks associated with international sales and operations.
During 2005, approximately 60% of our sales were to customers outside the United States, principally in Europe and Asia. International revenues are
subject to a number of risks, including the following:
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agreements may be difficult to enforce and receivables difficult to collect through a foreign country’s legal system;
foreign customers may have longer payment cycles;
foreign countries may impose additional withholding taxes or otherwise tax our foreign income, impose tariffs, or adopt other restrictions on foreign
trade; and
the protection of intellectual property in foreign countries may be more difficult to enforce.
Although we seek to charge our customers in the same currency in which our operating costs are incurred, fluctuations in currency exchange rates may
affect product demand and adversely affect the profitability in U.S. dollars of products we provide in international markets where payment for our products and
services is made in their local currencies. Any of these factors could have a material adverse impact on our business and results of operations.
A significant portion of our international sales has, and may in the future, come from China. An increase in revenues, as well as our proposed acquisition of
a manufacturing and assembly facility in China, will expose us to increased risk in the event of changes in the policies of the Chinese government, political
unrest, unstable economic conditions, or other developments in China or in U.S.-China relations that are adverse to trade, including enactment of protectionist
legislation or trade restrictions. Orders from customers in China, particularly for large systems that have been tailored to a customer’s specific requirements,
involve increased credit risk due to payment terms that are applicable to doing business in China. In addition, the timing of these orders is often difficult to
predict.
We are subject to intense competition in all our markets.
We believe that the principal competitive factors affecting the markets for our products include quality, price, service, technical expertise, and product
innovation. Our competitors include a number of large multinational corporations that may have substantially greater financial, marketing, and other resources
than we do. As a result, they may be able to adapt more quickly to new or emerging technologies and changes in customer requirements, or to devote greater
resources to the promotion and sale of their services and products. Competitors’ technologies may prove to be superior to ours. Our current products, those under
development, and our ability to develop new technologies may not be sufficient to enable us to compete effectively. Competition, especially in China, could
increase if new companies enter the market or if existing competitors expand their product lines or intensify efforts within existing product lines.
Our debt may adversely affect our cash flow and may restrict our investment opportunities.
On May 9, 2005, we entered into a Credit Agreement, consisting of a $60 million five-year term loan and a $25 million revolver. On May 11, 2005, we
borrowed $60 million to fund the acquisition of Kadant Johnson under the term loan. We may also obtain additional long-term debt and working capital lines of
credit to meet future financing needs, which would have the effect of increasing our total leverage.
Our leverage could have negative consequences, including:
–
–
–
–
–
increasing our vulnerability to adverse economic and industry conditions,
limiting our ability to obtain additional financing,
limiting our ability to pay dividends on or repurchase our capital stock,
limiting our ability to acquire new products and technologies through acquisitions or licensing, and
limiting our flexibility in planning for, or reacting to, changes in our business and the industries in which we compete.
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2005 Annual Report
Our indebtedness bears interest at floating rates pursuant to the terms of the Credit Agreement. As a result, our interest payment obligations on this
indebtedness will increase if interest rates increase. To reduce the exposure to floating rates, we have converted 60% of the term loan to a fixed rate of interest
through an interest rate swap.
Our ability to satisfy our obligations and to reduce our total debt depends on our future operating performance and on economic, financial, competitive, and
other factors beyond our control. Our business may not generate sufficient cash flows to meet these obligations or to successfully execute our business strategy. If
we are unable to service our debt and fund our business, we may be forced to reduce or delay capital expenditures or research and development expenditures, seek
additional financing or equity capital, restructure or refinance our debt, or sell assets. We may not be able to obtain additional financing or refinance existing debt
or sell assets on terms acceptable to us or at all.
Restrictions in our Credit Agreement may limit our activities.
Our Credit Agreement contains, and future debt instruments to which we may become subject may contain, restrictive covenants that limit our ability to
engage in activities that could otherwise benefit us, including restrictions on our ability and the ability of our subsidiaries to:
incur additional indebtedness,
pay dividends on, redeem, or repurchase our capital stock,
make investments,
create liens,
sell assets,
enter into transactions with affiliates, and
consolidate, merge, or transfer all or substantially all of our assets and the assets of our subsidiaries.
–
–
–
–
–
–
–
We are also required to meet specified financial ratios under the terms of our Credit Agreement. Our ability to comply with these financial restrictions and
covenants is dependent on our future performance, which is subject to prevailing economic conditions and other factors, including factors that are beyond our
control such as foreign exchange rates, interest rates, changes in technology, and changes in the level of competition.
Our failure to comply with any of these restrictions or covenants may result in an event of default under our Credit Agreement, which could permit
acceleration of the debt under that instrument and require us to repay that debt before its scheduled due date.
If an event of default occurs, we may not have sufficient funds available to make the required payments under our indebtedness. If we are unable to repay
amounts owed under our Credit Agreement, those lenders may be entitled to foreclose on and sell the collateral that secures our borrowings under the agreement.
Our Kadant Composites LLC subsidiary is responsible for certain continued warranty obligations associated with its former composites business, even though it
has disposed of this business.
On October 21, 2005, Kadant Composites LLC sold its composites business. As part of the transaction, Kadant Composites LLC retained the warranty
obligation associated with products manufactured prior to the sale date. Our consolidated results will continue to be impacted by these warranty obligations and
we may be unable to accurately predict the potential liabilities related to these product warranties. In 2003 and 2004, Kadant Composites LLC experienced a
significant increase in warranty claims and warranty expense related to its composite decking products including, but not limited to, contraction of certain deck
boards and excessive oxidation that affects the integrity of the plastic used in some of its decking products. Included in the increased warranty expense was the
cost of exchanging material held by its distributors with new material that, we believe, is not susceptible to this oxidation issue, and our best estimate of future
potential costs related to valid claims arising from installed products. In 2005, Kadant Composites LLC experienced a higher-than-expected level of warranty
claims associated with previously identified product issues. Although Kadant Composites LLC increased the warranty provisions accordingly, the reserve
established may not be sufficient if Kadant
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2005 Annual Report
Composites LLC incurs warranty claims higher than anticipated. It is reasonably possible that the ultimate settlement of such warranty claims may exceed the
amount of the warranty reserve. In addition, there can be no assurance that other problems will not develop. A continued high level of warranty claims or
expenses would have an adverse impact on the warranty reserve and would adversely affect our consolidated results.
Our inability to successfully integrate Kadant Johnson into our business could have a material adverse effect on our business.
On May 11, 2005, we acquired Kadant Johnson. The integration of Kadant Johnson into our business will involve the merger of employees, products, and
services over multiple U.S. and international locations. We may not be successful in integrating this business into our current structure, or in obtaining the
anticipated cost savings or synergies from the acquisition. To meet our quarterly certification requirements and in anticipation of incorporating Kadant Johnson
into our 2006 Sarbanes-Oxley compliance process, we will also be performing a detailed review of Kadant Johnson’s internal control structure to ensure that its
controls over financial reporting are consistent with our policies and procedures. Given the multi-location structure of the Kadant Johnson business, this review
will take significant time and effort, similar to our Sarbanes-Oxley compliance efforts in 2004, and will involve significant cost. During this process, we may
identify control deficiencies in addition to those disclosed elsewhere in this periodic report. Our ability to realize the value of the goodwill and other intangibles
recorded for this acquisition will depend on the future cash flows of the Kadant Johnson business. If these future cash flows are below what we anticipated, we
may incur future impairment losses associated with goodwill and intangibles, which could have a material adverse effect on our results of operations.
Our inability to successfully complete the acquisition of a manufacturing and assembly plant in China could adversely affect our business.
Our strategy includes the ability to manufacture components and equipment in low-cost regions such as China. We recently entered into an Asset Purchase
Agreement to acquire a Chinese supplier of stock-preparation equipment. This acquisition is subject to a number of conditions, including the negotiation and
signing of a definitive purchase agreement and satisfaction of customary conditions and regulatory approvals, and there is no assurance that we will be able to
complete this acquisition on favorable terms or on a timely basis. Our inability to successfully complete the acquisition would delay the implementation of our
strategy to manufacture parts and components for stock-preparation equipment in a low-cost region, and could adversely affect our ability to compete cost-
effectively in Asia and other markets.
In anticipation of completing this acquisition, we have terminated our efforts to construct an assembly and manufacturing facility outside Beijing. We may
not be able to recoup our expenses to date associated with the formation of our subsidiary to operate this facility, such as the design and construction of the
facility, and other costs incurred in connection with this effort.
Our inability to successfully identify and complete acquisitions or successfully integrate any new or previous acquisitions could have a material adverse effect on
our business.
Our strategy includes the acquisition of technologies and businesses that complement or augment our existing products and services. Promising
acquisitions are difficult to identify and complete for a number of reasons, including competition among prospective buyers and the need for regulatory, including
antitrust, approvals. We do incur costs from time to time associated with potential acquisitions, which are deferred during the due diligence phase. Future
operating results could be negatively impacted in any quarter in which we determine that a potential acquisition will not close and such associated costs are
expensed. Any acquisition we may complete may be made at a substantial premium over the fair value of the net assets of the acquired company. We may not be
able to complete future acquisitions, integrate any acquired businesses successfully into our existing businesses, make such businesses profitable, or realize
anticipated cost savings or synergies, if
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2005 Annual Report
any, from these acquisitions. In addition, we have previously acquired several companies and businesses and, as a result, we have recorded significant goodwill
and intangible assets on our balance sheet. Any future impairment losses identified will be recorded as reductions to operating income, which could have a
material adverse effect on our results of operations. Our ability to realize the value of the goodwill and intangibles that we have recorded will depend on the
future performance and cash flows of these businesses, which will depend, in part, on how well we have integrated these businesses.
Our inability to obtain the anticipated benefits from the restructuring of our Kadant Lamort subsidiary would have a negative effect on our future operating
results.
In an effort to improve operating performance at our Kadant Lamort subsidiary in France, we approved a restructuring of that subsidiary on November 18,
2004. This restructuring is intended to strengthen Kadant Lamort’s competitive position in the European paper industry. We accrued a restructuring charge of $9.2
million in the fourth quarter of 2004 for severance and other termination costs in connection with the workforce reduction. If we are unable to obtain the
anticipated benefits from this restructuring, our future operating results would be negatively impacted.
Natural gas is a significant cost in the manufacture of our fiber-based granular products, and our results from operations will be adversely affected by continued
high natural gas costs.
We use natural gas in the production of our fiber-based granular products the price of which increased dramatically at the end of 2005. We seek to manage
our exposure to natural gas price fluctuations by entering into short-term forward contracts to purchase specified quantities of natural gas from a supplier. We may
not be able to effectively manage our exposure to natural gas price fluctuations. Continued high costs of natural gas will adversely affect our consolidated results
if we are unable to effectively manage our exposure or pass these costs on to customers in the form of surcharges.
We are dependent on two mills for the raw material used in our fiber-based granules, and we may not be able to obtain raw material on commercially reasonable
terms.
We are dependent on two paper mills for the fiber used in the manufacture of our fiber-based granular products. These mills have the exclusive right to
supply the papermaking byproducts used in the manufacturing process. Due to manufacturing changes at the mills, we recently had some difficulty obtaining
sufficient raw material to operate at optimal production levels. We are working with the mills to ensure a stable supply of raw material. To date, we have been
able to meet all of our customer delivery requirements, but there can be no assurance that we will be able to meet future delivery requirements. Although we
believe our relationship with the mills is good, the mills could decide not to renew the contract when it expires at the end of 2007, or may not agree to renew on
commercially reasonable terms. If the mills were unable or unwilling to supply us sufficient fiber, we would be forced to find an alternative supply for this raw
material. We may be unable to find an alternative supply on commercially reasonable terms or could incur excessive transportation costs if an alternative supplier
were found, which would increase our manufacturing costs and might prevent prices for our products from being competitive.
Our inability to protect our intellectual property could have a material adverse effect on our business. In addition, third parties may claim that we infringe their
intellectual property, and we could suffer significant litigation or licensing expense as a result.
We place considerable emphasis on obtaining patent and trade secret protection for significant new technologies, products, and processes because of the
length of time and expense associated with bringing new products through the development process and into the marketplace. Our success depends in part on our
ability to
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Kadant Inc.
2005 Annual Report
develop patentable products and obtain and enforce patent protection for our products both in the United States and in other countries. We own numerous U.S.
and foreign patents, and we intend to file additional applications, as appropriate, for patents covering our products. Patents may not be issued for any pending or
future patent applications owned by or licensed to us, and the claims allowed under any issued patents may not be sufficiently broad to protect our technology.
Any issued patents owned by or licensed to us may be challenged, invalidated, or circumvented, and the rights under these patents may not provide us with
competitive advantages. A patent relating to our fiber-based granular products expired in the second quarter of 2004. As a result, we could be subject to increased
competition in this market, which could have an adverse effect on this business. In addition, competitors may design around our technology or develop competing
technologies. Intellectual property rights may also be unavailable or limited in some foreign countries, which could make it easier for competitors to capture
increased market share. We could incur substantial costs to defend ourselves in suits brought against us or in suits in which we may assert our patent rights against
others. An unfavorable outcome of any such litigation could have a material adverse effect on our business and results of operations. In addition, as our patents
expire, we rely on trade secrets and proprietary know-how to protect our products. We cannot be sure the steps we have taken or will take in the future will be
adequate to deter misappropriation of our proprietary information and intellectual property.
We seek to protect trade secrets and proprietary know-how, in part, through confidentiality agreements with our collaborators, employees, and consultants.
These agreements may be breached, we may not have adequate remedies for any breach, and our trade secrets may otherwise become known or be independently
developed by our competitors.
Third parties may assert claims against us to the effect that we are infringing on their intellectual property rights. We could incur substantial costs and
diversion of management resources in defending these claims, which could have a material adverse effect on our business, financial condition, and results of
operations. In addition, parties making these claims could secure a judgment awarding substantial damages, as well as injunctive or other equitable relief, which
could effectively block our ability to make, use, sell, distribute, or market our products and services in the United States or abroad. In the event that a claim
relating to intellectual property is asserted against us, or third parties not affiliated with us hold pending or issued patents that relate to our products or technology,
we may seek licenses to such intellectual property or challenge those patents. However, we may be unable to obtain these licenses on commercially reasonable
terms, if at all, and our challenge of the patents may be unsuccessful. Our failure to obtain the necessary licenses or other rights could prohibit the sale,
manufacture, or distribution of our products and, therefore, could have a material adverse effect on our business, financial condition, and results of operations.
Fluctuations in our quarterly operating results may cause our stock price to decline.
Given the nature of the markets in which we participate and the effect of Staff Accounting Bulletin (SAB) No. 104, “Revenue Recognition,” we may not be
able to reliably predict future revenues and profitability, and unexpected changes may cause us to adjust our operations. A large proportion of our costs are fixed,
due in part to our significant selling, research and development, and manufacturing costs. Thus, small declines in revenues could disproportionately affect our
operating results. Other factors that could affect our quarterly operating results include:
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–
–
–
–
–
–
failure of our products to pass contractually agreed upon acceptance tests, which would delay or prohibit recognition of revenues under SAB
No. 104;
failure of a customer, particularly in China, to comply with an order’s contractual obligations;
adverse changes in demand for and market acceptance of our products;
competitive pressures resulting in lower sales prices of our products;
adverse changes in the pulp and paper industry;
delays or problems in our introduction of new products;
our competitors’ announcements of new products, services, or technological innovations;
contractual liabilities incurred by us related to guarantees of our product performance;
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2005 Annual Report
–
–
increased costs of raw materials or supplies, including the cost of energy; and
changes in the timing of product orders.
Anti-takeover provisions in our charter documents, under Delaware law, and in our shareholder rights plan could prevent or delay transactions that our
shareholders may favor.
Provisions of our charter and bylaws may discourage, delay, or prevent a merger or acquisition that our shareholders may consider favorable, including
transactions in which shareholders might otherwise receive a premium for their shares. For example, these provisions:
–
–
–
–
–
–
authorize the issuance of “blank check” preferred stock without any need for action by shareholders;
provide for a classified board of directors with staggered three-year terms;
require supermajority shareholder voting to effect various amendments to our charter and bylaws;
eliminate the ability of our shareholders to call special meetings of shareholders;
prohibit shareholder action by written consent; and
establish advance notice requirements for nominations for election to our board of directors or for proposing matters that can be acted on by
shareholders at shareholder meetings.
In addition, our board of directors has adopted a shareholder rights plan intended to protect shareholders in the event of an unfair or coercive offer to
acquire our company and to provide our board of directors with adequate time to evaluate unsolicited offers. Preferred stock purchase rights have been distributed
to our common shareholders pursuant to the rights plan. This rights plan may have anti-takeover effects. The rights plan will cause substantial dilution to a person
or group that attempts to acquire us on terms that our board of directors does not believe are in our best interests and those of our shareholders and may
discourage, delay, or prevent a merger or acquisition that shareholders may consider favorable, including transactions in which shareholders might otherwise
receive a premium for their shares.
Item 1B. Unresolved Staff Comments
Not applicable.
Item 2. Properties
We believe that our facilities are in good condition and are suitable and adequate for our present operations. We do not anticipate significant difficulty in
obtaining lease renewals or alternate space as needed. The location and general character of our principal properties as of December 31, 2005, are as follows:
Pulp and Papermaking Systems
We own approximately 1,351,000 square feet and lease approximately 146,000 square feet, under leases expiring on various dates ranging from 2006 to
2011, of manufacturing, engineering, and office space. Our principal engineering and manufacturing facilities are located in Vitry-le-Francois, France; Auburn,
Massachusetts; Theodore, Alabama; Queensbury, New York; Mason, Ohio; Three Rivers, Michigan; Guadalajara, Mexico; Summerstown, Ontario, Canada; Sao
Paulo, Brazil; Weesp, The Netherlands; Bury, England; Hindas, Sweden; and Wuxi, China.
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Kadant Inc.
Other
2005 Annual Report
We lease approximately 6,000 square feet in Acton, Massachusetts, for our corporate headquarters under a lease expiring in December 2006. We own
approximately 26,000 square feet and lease approximately 15,000 square feet, under a lease expiring in January 2007, of manufacturing and office space located
in Green Bay, Wisconsin. We also own 33,000 square feet of manufacturing and office space in Springport, Michigan.
Item 3. Legal Proceedings
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable.
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Kadant Inc.
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters, and
Issuer Purchases of Equity Securities.
Market Price of Common Stock
PART II
2005 Annual Report
On May 14, 2003, our common stock began trading on the New York Stock Exchange under the symbol KAI. Prior to that date, our common stock was
traded on the American Stock Exchange.
The following table sets forth the high and low sales prices of our common stock for 2005 and 2004, as reported in the consolidated transaction reporting
system.
Quarter
First
Second
Third
Fourth
Holders of Common Stock
2005
2004
High
$21.22
22.65
23.18
20.54
Low
$18.15
17.02
18.27
16.50
High
$23.49
23.30
23.15
20.90
Low
$19.17
18.08
17.72
17.81
As of February 28, 2006, we had approximately 5,796 holders of record of our common stock. This does not include holdings in street or nominee name.
The closing market price on the New York Stock Exchange for our common stock on February 28, 2006, was $18.89 per share.
Dividend Policy
We have never declared or paid cash dividends and we do not at this time expect to pay cash dividends in the foreseeable future because our policy has
been to use earnings to finance expansion and growth. Payment of dividends will rest within the discretion of the board of directors and will depend upon, among
other factors, our earnings, capital requirements, and financial condition. Our ability to pay dividends is further restricted by the terms of our Credit Agreement.
Issuer Purchases of Equity Securities
The following table provides information about purchases by us of our common stock during the fourth quarter of 2005:
Period
10/2/05 – 10/31/05
11/1/05 – 11/30/05
12/1/05 – 12/31/05
Total:
Issuer Purchases of Equity Securities
Total Number
of Shares
Purchased
–
204,000
–
204,000
Average Price Paid
per Share
$
$
–
18.04
–
18.04
Total Number of
Shares Purchased as
Part of Publicly
Announced Plans (1)
–
204,000
–
204,000
Approximate Dollar Value
of Shares that May Yet
Be Purchased
Under the Plans
$
$
$
11,623,747
7,944,105
7,944,105
(1) On May 6, 2005, our board of directors authorized the repurchase of up to $15 million of our equity securities in the open market or in negotiated
transactions for the period from May 18, 2005 through May 18, 2006. As of December 31, 2005, we had repurchased 1,200 shares of our common stock for
$25 thousand in the second quarter of 2005, 171,500 shares of our common stock for $3.4 million in the third quarter of 2005, and 204,000 shares of our
common stock for $3.7 million in the fourth quarter of 2005 under this authorization.
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Kadant Inc.
Item 6. Selected Financial Data
(In thousands, except per share amounts)
Statement of Operations Data
Revenues
Income from Continuing Operations Before Cumulative Effect of Change in
Accounting Principle
Loss from Discontinued Operation, Net of Tax
Income Before Cumulative Effect of Change in Accounting Principle
Cumulative Effect of Change in Accounting Principle, Net of Tax
Net Income (Loss)
Basic Earnings (Loss) per Share:
Continuing Operations Before Cumulative Effect of Change in Accounting
Principle
Discontinued Operation
Cumulative Effect of Change in Accounting Principle
Net Income (Loss)
Diluted Earnings (Loss) per Share:
Continuing Operations Before Cumulative Effect of Change in Accounting
Principle
Discontinued Operation
Cumulative Effect of Change in Accounting Principle
Net Income (Loss)
Balance Sheet Data (f)
Working Capital (g,h)
Total Assets
Long-Term Obligations
Shareholders’ Investment
2005 Annual Report
2005
2004 (b)
2003 (a)
2002
(a,c,d)
2001(a,d,e)
$243,713
$194,966
$191,507
$ 177,113
$219,226
9,865
(2,988)
6,877
–
6,877
.71
(.21)
–
.50
.70
(.21)
–
.49
$
$
$
$
$
$
$
$
$
$
5,753
(5,099)
654
–
654
13,123
(1,306)
11,817
–
$ 11,817
8,280
(2,326)
5,954
(32,756)
$ (26,802)
12,522
(2,540)
9,982
–
9,982
$
.41
(.36)
–
.05
.40
(.35)
–
.05
$
$
$
$
.96
(.09)
–
.87
.94
(.09)
–
.85
$
$
$
$
.64
(.18)
(2.53)
(2.07)
.63
(.18)
(2.49)
(2.04)
$
$
$
$
1.02
(.21)
–
.81
1.02
(.21)
–
.81
$ 75,446
355,811
46,500
207,625
$ 113,650
285,237
–
212,461
$ 114,935
271,713
–
211,758
$ 83,855
231,517
580
181,257
$167,451
367,654
119,267
183,557
(a)
(b)
(c)
Restated to reflect the composite building products business as a discontinued operation.
Reflects $9.5 million of pre-tax restructuring and other costs.
Reflects $2.4 million of pre-tax restructuring and other costs, the redemption and repurchase of $118.1 million of the Company’s 4 1/2% subordinated
convertible debentures, resulting in a pre-tax gain of $50.0 thousand, and cumulative effect of a change in accounting principle of $32.8 million associated
with the adoption of Statement of Financial Accounting Standards No. 142.
(d) Annual results were revised to reclassify extraordinary gains from the Company’s redemption and repurchase of its debentures in accordance with
(e)
(f)
(g)
(h)
Statement of Financial Accounting Standards No. 145.
Reflects $0.7 million of pre-tax restructuring costs and the repurchase of $34.9 million of the Company’s 4 1/2% subordinated convertible debentures,
resulting in a pre-tax gain of $1.1 million.
Includes the composite building products business, which is reflected as a discontinued operation.
Includes the 2001 redemption of common stock of a subsidiary for $13.1 million.
Includes $7.4 million, $8.1 million, $12.2 million, $10.1 million, and $9.0 million in 2005, 2004, 2003, 2002, and 2001, respectively, associated with the
discontinued operation.
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2005 Annual Report
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Reference is made throughout this Management’s Discussion and Analysis of Financial Condition and Results of Operations to Notes included in the
Consolidated Financial Statements, beginning on page F-1 of this Report.
Overview
Industry Background
Our continuing operations are comprised of one reportable operating segment: Pulp and Papermaking Systems (Papermaking Systems), and two product
lines, Fiber-based Products and Casting Products. Through our Pulp and Papermaking Systems segment, we develop, manufacture, and market a range of
equipment and products for the domestic and international papermaking and paper recycling industries. We have a large, stable customer base that includes most
of the world’s major paper manufacturers. As a result, we have one of the largest installed bases of equipment in the pulp and paper industry. Our installed base
provides us with a spare parts and consumables business that yields higher margins than our capital equipment business, and which, we believe, is less susceptible
to the cyclical trends in the paper industry.
Through our Fiber-based Products line, we manufacture and sell granules derived from pulp fiber for use as carriers for agricultural, home lawn and
garden, and professional lawn, turf and ornamental applications, as well as for oil and grease absorption. We also manufacture and sell grey and ductile iron
castings through our Casting Products business.
Prior to the sale of the composites business, we produced composite building products, including decking and railing systems and roof tiles, made from
recycled fiber, plastic, and other material, which were marketed through distributors primarily to the building industry. On October 21, 2005, our Kadant
Composites LLC subsidiary (Kadant Composites LLC) sold substantially all of its assets, comprising the composites business, to LDI Composites Co. (the Buyer)
for approximately $11.1 million in cash and the assumption of $1.4 million of liabilities resulting in an immaterial gain on sale. The sale price is subject to a post-
closing adjustment.
As part of the sale transaction, Kadant Composites LLC retained the warranty obligations associated with products manufactured prior to the sale date.
Kadant Composites LLC deposited $3.5 million of the sale proceeds into a special escrow fund to satisfy these warranty claims. This fund will be administered by
the Buyer for five years or until the funds are exhausted, after which time Kadant Composites LLC will administer any remaining covered warranty claims. Based
on the claims submitted to the Buyer for reimbursement through year-end 2005, the remaining balance in the special escrow fund would be reduced to
approximately $2.3 million. Based on the claims activity and payments processed after year-end 2005, we anticipate that the special escrow fund will be utilized
and Kadant Composites LLC will assume claims processing in 2006. As of December 31, 2005, the accrued warranty reserve associated with the composites
business was $5.3 million. All future activity associated with this warranty reserve will continue to be classified in the results of the discontinued operation in the
accompanying consolidated financial statements.
International Sales
During 2005, approximately 60% of our sales were to customers outside the United States, principally in Europe and Asia. We generally seek to charge our
customers in the same currency in which our operating costs are incurred. However, our financial performance and competitive position can be affected by
currency exchange rate fluctuations affecting the relationship between the U.S. dollar and foreign currencies. We seek to reduce our exposure to currency
fluctuations through the use of forward currency exchange contracts. We may enter into forward contracts to hedge certain firm purchase and sale commitments
denominated in currencies other than our subsidiaries’ functional currencies. These contracts hedge transactions principally denominated in U.S. dollars.
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2005 Annual Report
Application of Critical Accounting Policies and Estimates
The discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the United States. The preparation of these consolidated financial statements requires us
to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of our
consolidated financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results may differ from these estimates
under different assumptions or conditions.
Critical accounting policies are defined as those that entail significant judgments and uncertainties, and could potentially result in materially different
results under different assumptions and conditions. We believe that our most critical accounting policies upon which our financial condition depends, and which
involve the most complex or subjective decisions or assessments, are those described below. For a discussion on the application of these and other accounting
policies, see Note 1 in the Notes to Consolidated Financial Statements.
Revenue Recognition. We enter into arrangements with customers that have multiple deliverables, such as equipment and installation, and we recognize
revenues and profits on certain long-term contracts using the percentage-of-completion method of accounting.
–
–
Percentage-of-Completion. Revenues recorded under the percentage-of-completion method of accounting were $55.6 million in 2005, $43.7 million
in 2004, and $49.3 million in 2003. The percentage of completion is determined by comparing the actual costs incurred to date to an estimate of total
costs to be incurred on each contract. If a loss is indicated on any contract in process, a provision is made currently for the entire loss. Our contracts
generally provide for billing of customers upon the attainment of certain milestones specified in each contract. Revenues earned on contracts in
process in excess of billings are classified as unbilled contract costs and fees, and amounts billed in excess of revenues are classified as billings in
excess of contract costs and fees. The complexity of the estimation process under the percentage-of-completion method affects the amounts reported
in our consolidated financial statements. A number of internal and external factors affect our percentage-of-completion and cost of sales estimates,
including labor rate and efficiency variances, estimates of warranty costs, estimated future material prices from vendors, and customer specification
and testing requirements. In addition, we are exposed to the risk, primarily relating to our orders in China, that a customer will not comply with the
order’s contractual obligations to take delivery of the equipment. This risk is reduced somewhat by such customer’s forfeiture of their deposit on the
order. The contractual obligations relating to the order may be difficult to enforce through a foreign country’s legal system, which could result in a
significant credit exposure in the period or periods that were to be affected by the breach of contract. Although we make every effort to ensure the
accuracy of our estimates in the application of this accounting policy, if our business conditions were to be different, or if we were to use different
assumptions, it is possible that materially different amounts could be reported as revenues in our consolidated financial statements.
SAB No. 104. Under Staff Accounting Bulletin (SAB) No. 104, “Revenue Recognition,” when the terms of sale include customer acceptance
provisions, and compliance with those provisions cannot be demonstrated until customer acceptance, revenues are recognized upon such acceptance.
When a sale arrangement involves multiple elements (e.g., installation), we consider the guidance in Emerging Issues Task Force (EITF) No. 00-21
“Revenue Arrangements with Multiple Deliverables.” Such transactions are evaluated to determine whether the deliverables in the arrangement
represent separate units of accounting. If equipment and installation do not meet the separation criteria under EITF No. 00-21, revenues for products
sold that require installation, for which the installation is essential to functionality or is not deemed inconsequential or perfunctory, are recognized
upon completion of installation. Revenues for products sold where installation is not essential to functionality, and is deemed inconsequential or
perfunctory, are recognized upon shipment, with estimated installation costs accrued. We provide a reserve for the estimated warranty and installation
costs at the time revenue is
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Kadant Inc.
2005 Annual Report
recognized, as applicable. To the extent that installation becomes a significant component of our business in the future, the judgment associated with
the determination of revenue recognition will increase. The complexity of all issues related to the assumptions, risks, and uncertainties inherent in the
application of SAB No. 104 affects the amounts reported as revenues in our consolidated financial statements. Under SAB No. 104, we may not be
able to reliably predict future revenues and profitability due to the difficulty of estimating when installation will be performed or when we will meet
the contractually agreed upon performance tests, which can delay or prohibit recognition of revenues. The determination of when we install the
equipment or fulfill the performance guarantees is largely dependent on our customers, their willingness to allow installation of the equipment or
performance of the appropriate tests in a timely manner, and their cooperation in addressing possible problems that would impede achievement of the
performance guarantee criteria. Unexpected changes in the timing related to the completion of installation or performance guarantees could cause our
revenues and earnings to be significantly affected.
Inventories. We value our inventory at the lower of the actual cost (on a first-in, first-out; last-in, first-out; or weighted average basis) or market value and
include materials, labor, and manufacturing overhead. We regularly review inventory quantities on hand and compare these amounts to historical and forecasted
usage of and demand for each particular product or product line. We record a charge to cost of revenues for excess and obsolete inventory to reduce the carrying
value of the inventories to net realizable value. Inventory writedowns have historically been within our expectations and the provisions established. A significant
decrease in demand could result in an increase in the amount of excess inventory quantities on hand, resulting in a charge for the writedown of that inventory in
that period. In addition, our estimates of future product usage or demand may prove to be inaccurate, resulting in an understated or overstated provision for excess
and obsolete inventory. Therefore, although we make every effort to ensure the accuracy of our forecasts of future product usage and demand, any significant
unanticipated changes in demand or technological developments could have a significant impact on the value of our inventory and our reported operating results.
Valuation of Goodwill and Intangible Assets. We evaluate the recoverability of goodwill and indefinite-lived intangible assets annually in the fourth quarter,
or more frequently if events or changes in circumstances, such as a decline in sales, earnings, or cash flows, or material adverse changes in the business climate,
indicate that the carrying value of an asset might be impaired. We completed our annual impairment tests in the fourth quarter of 2005 using estimates from our
long-range forecasts. Intangible assets subject to amortization are evaluated for impairment if events or changes in circumstances indicate that the carrying value
of an asset might be impaired. No adjustment was required to the carrying value of our goodwill or intangible assets based on the analysis performed.
Goodwill is considered to be impaired when the net book value of a reporting unit exceeds its estimated fair value. Fair values are primarily established
using a discounted cash flow methodology (specifically, the income approach). The determination of discounted cash flows is based on our long-range forecasts.
The revenue growth rates included in the forecasts are our best estimates based on current and anticipated market conditions, and the profit margin assumptions
are projected based on current and anticipated cost structures. Our judgments and assumptions regarding the determination of the fair value of an intangible asset
or goodwill associated with an acquired business could change as future events impact such fair values. Any future impairment loss could have a material adverse
affect on our long-term assets and operating expenses in the period in which impairment is determined to exist.
Accounts Receivable. We exercise judgment in determining our allowance for bad debts, which is based on our historical collection experience, current
trends, credit policies, specific customer collection issues, and accounts receivable aging categories. In determining this allowance, we look at historical writeoffs
of our receivables. We also look at current trends in the credit quality of our customer base as well as changes in our credit policies. We perform ongoing credit
evaluations of our customers and adjust credit limits based upon payment history and each customer’s current creditworthiness. We continuously monitor
collections and payments from our customers. In addition, in some instances we utilize letters of credit as a way to mitigate
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Kadant Inc.
2005 Annual Report
credit exposure. While actual bad debts have historically been within our expectations and the provisions established, we cannot guarantee that we will continue
to experience the same rate of bad debts that we have in the past, especially in light of business conditions in the paper industry. A significant change in the
liquidity or financial position of any of our customers could result in the uncollectibility of the related accounts receivable and could adversely affect our
operating cash flows in that period.
Warranties. In the Papermaking Systems segment, we offer warranties of various durations to our customers depending upon the specific product and terms
of the customer purchase agreement. We typically negotiate terms regarding warranty coverage and length of warranty depending on the products and their
applications. Our standard mechanical warranties require us to repair or replace a defective product during the warranty period at no cost to the customer. We
record an estimate for warranty-related costs at the time of sale based on our actual historical return rates and repair costs, as well as other analytical tools for
estimating future warranty claims. These estimates are revised for variances between actual and expected claims rates. While our warranty costs have historically
been within our expectations and the provisions established, we cannot guarantee that we will continue to experience the same warranty return rates or repair
costs that we have in the past.
On October 21, 2005, Kadant Composites LLC sold its composites business, presented as a discontinued operation in the accompanying consolidated
financial statements. As part of the transaction, Kadant Composites LLC retained the warranty obligation associated with products manufactured prior to the sale
date. Our consolidated results will continue to be impacted by any adjustments to this warranty obligation, which will continue to be presented within the
discontinued operation. This warranty obligation relates to a standard limited warranty provided to the original owner of our decking and roofing products,
limited to repair or replacement of the defective product or a refund of the original purchase price. Prior to the sale of the composites business, we recorded an
estimate for warranty-related costs at the time of sale based on our actual historical return rates and repair costs, as well as other analytical tools for estimating
future warranty claims. These estimates are revised for variances between actual and expected claims rates. Our analysis of expected warranty claims rates
includes detailed assumptions associated with potential product returns, including the type of product sold, temperatures at the location of installation, density of
boards, and other factors. Certain assumptions, such as the effect of weather conditions and high temperatures on the product installed, include inherent
uncertainties that are subject to fluctuation which could impact our future warranty provisions. Due to the highly subjective nature of these assumptions, we have
recorded our best estimate of the cost of expected warranty claims. It is reasonably possible that the ultimate settlement of such claims may exceed the amount
recorded, if we incur warranty return rates higher than we anticipated.
A significant increase in warranty return rates or costs to repair our products would lead to an increase in the warranty provision and could have a material
adverse impact on our consolidated results for the period or periods in which such returns or additional costs occur.
Income Taxes. We estimate the degree to which tax assets and loss carryforwards will result in a benefit based on expected profitability by tax jurisdiction,
and provide a valuation allowance for tax assets and loss carryforwards that we believe will more likely than not go unused. If it becomes more likely than not the
tax asset or loss carryforward will be used, we would reverse the related valuation allowance. Our tax valuation allowance totaled $2.5 million at year-end 2005.
Should our actual future taxable income by tax jurisdiction vary from our estimate, additional allowances or reversals thereof may be necessary.
We provide a liability for future income tax payments in the worldwide tax jurisdictions in which we operate. Should tax return positions that we expect are
sustainable not be sustained upon audit, we could be required to record an incremental tax provision for such taxes. Should previously unrecognized tax benefits
be sustained, a reduction in our tax provision would result.
Industry and Business Outlook
Our products are primarily sold to the pulp and paper industry. The paper industry had been in a prolonged downcycle for the past several years. While the
performance of paper producers, especially in North America,
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Kadant Inc.
2005 Annual Report
has been gradually improving over the past year, the industry is continuing to experience sluggish demand. The profitability of paper producers is still being
negatively affected by higher operating costs, especially higher energy costs. We believe paper companies remain cautious about increasing their capital and
operating spending in the current market environment. We expect, however, if the market recovers, paper companies will increase their capital and operating
spending, which would have a positive effect on paper company suppliers, such as Kadant, although the timing of such effect is difficult to predict. We continue
to concentrate our efforts on several initiatives intended to improve our operating results, including: (i) integrating the Kadant Johnson acquisition, (ii) penetrating
new markets outside the paper industry, (iii) completing our acquisition of a stock-preparation production plant in China, and (iv) increasing aftermarket sales. In
addition, we continue to focus our efforts on managing our operating costs, capital expenditures, and working capital.
In an effort to improve operating performance at our Kadant Lamort subsidiary in France, we approved a restructuring of that subsidiary in 2004 intended
to strengthen Kadant Lamort’s competitive position in the European paper industry. We accrued a restructuring charge for severance and other termination costs
in connection with the workforce reduction of $9.2 million in the fourth quarter of 2004. We completed the the restructuring actions in 2005 and as a result of
these actions, we estimate that our Kadant Lamort subsidiary will be profitable in 2006.
We continue to pursue market opportunities outside North America. In the last several years, China has become a significant market for our stock-
preparation equipment. To capitalize on this growing market, we plan to acquire a manufacturing and assembly facility in China for this equipment and related
products, as well as for certain of our accessories and water-management products in the future. Revenues from China are primarily derived from large capital
orders, the timing of which is often difficult to predict. Our customers in China have experienced delays in obtaining financing for their capital addition and
expansion projects due to efforts by the Chinese government to control economic growth, which are reflected in a slowdown in financing approvals in China’s
banking system. This has caused delays in receiving orders and, as a result, will delay our recognizing revenue on these projects to periods later than originally
anticipated. We plan to use our new facility in China as a base for increasing our aftermarket business, which we believe will be more predictable.
Our 2006 guidance reflects expected revenues and earnings per share from continuing operations, which excludes the results from our discontinued
operation. For the first quarter of 2006, we expect to earn, from continuing operations, between $.17 to $.19 per diluted share, on revenues of $70 to $72 million.
For the full year, we expect to earn from continuing operations between $1.15 to $1.25 per diluted share, on revenues of $290 to $300 million.
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Kadant Inc.
Results of Operations
2005 Compared to 2004
2005 Annual Report
The following table sets forth our consolidated statement of operations expressed as a percentage of total revenue for the years ending December 31, 2005
and January 1, 2005.
Revenues
Costs and Operating Expenses:
Cost of revenues
Selling, general, and administrative expenses
Research and development expenses
Restructuring and other costs (income), net
Operating Income
Interest Income (Expense), Net
Income from Continuing Operations Before Income Taxes and Minority Interest
Provision for Income Taxes
Income from Continuing Operations
Loss from Discontinued Operation
Net Income
Revenues
December 31,
2005
100%
January 1,
2005
100%
61
31
2
–
94
6
–
6
2
4
(1)
3%
61
29
1
5
96
4
–
4
1
3
(3)
–%
Revenues increased to $243.7 million in 2005 from $195.0 million in 2004, an increase of $48.7 million, or 25%. Revenues in 2005 include a $47.9
million, or 25%, increase from recently acquired Kadant Johnson, and the favorable effects of currency translation of $2.0 million, or 1%, due to a weaker U.S.
dollar relative to most of the functional currencies in countries in which we operate.
Revenues from our Papermaking Systems segment and other businesses for the years ending December 31, 2005 and January 1, 2005 are as follows:
(In thousands)
Revenues:
Pulp and Papermaking Systems
Other
December 31,
2005
January 1,
2005
$
$
232,615
11,098
243,713
$ 188,320
6,646
$ 194,966
Pulp and Papermaking Systems. Revenues for the Papermaking Systems segment increased to $232.6 million in 2005 compared with $188.3 million in
2004, an increase of $44.3 million, or 24%. The increase in revenues in 2005 includes $45.5 million, or 24%, from recently acquired Kadant Johnson, which
comprises our fluid-handling product line, and a 1% increase from the favorable effect of currency translation.
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Revenues at the Papermaking Systems segment by product line were as follows:
(In millions)
Product Line:
Accessories
Stock-Preparation Equipment
Fluid-Handling
Water-Management
Other
2005 Annual Report
2005
2004
$ 58.8
98.2
45.5
28.3
1.8
$232.6
$ 62.7
95.4
–
28.8
1.4
$188.3
Increase
(Decrease)
$
$
(3.9)
2.8
45.5
(0.5)
0.4
44.3
Increase
(Decrease)
Excluding
Effect of
Currency
Translation
$
$
(4.7)
2.0
45.5
(0.8)
0.3
42.3
Revenues from the segment’s accessories product line decreased by $3.9 million, or 6%, in 2005, including a $0.8 million increase from the favorable
effect of currency translation. Excluding the effect of currency translation, revenues from the segment’s accessories product line decreased $4.7 million, or 7%,
due to a $2.9 million, or 7%, decrease in sales in North America and a $1.8 million, or 8%, decrease in sales in Europe. The decrease in sales was due to weaker
demand in both North America and Europe, as well as a significant amount of unscheduled downtime by one of our largest customers in the U.S.
Revenues from the segment’s stock-preparation equipment product line increased by $2.8 million, or 3%, in 2005, including a $0.8 million increase from
the favorable effect of currency translation. Excluding the effect of currency translation, revenues from the stock-preparation equipment product line increased
$2.0 million, or 2%, due to a $5.8 million, or 16%, increase in sales in North America due to strong demand for our capital equipment, offset in part by a $4.1
million, or 12%, decrease in Europe due to weak demand.
Revenues from the recently acquired fluid-handling product line were $45.5 million in 2005.
Revenues from the segment’s water-management product line decreased $0.5 million, or 2%, in 2005, including a $0.3 million increase from the favorable
effect of currency translation. Excluding the effect of currency translation, revenues from the segment’s water-management product line decreased by $0.8
million, or 3%, due primarily to a $1.3 million, or 22%, decrease in sales in Europe due to a decrease in large capital orders and lower levels of mill spending.
Other. Revenues from our Fiber-based Products business increased $2.0 million, or 29%, in 2005 to $8.6 million from $6.6 million in 2004 due to stronger
sales of Biodac®, our line of biodegradable granular products. Revenues from our newly acquired Casting Products business were $2.5 million in 2005.
Gross Profit Margin
Gross profit margin for the years ending December 31, 2005 and January 1, 2005 were as follows:
Gross Profit Margin:
Pulp and Papermaking Systems
Other
December 31,
2005
January 1,
2005
39%
28%
39%
39%
36%
39%
Gross profit margin was 39% in 2005 and 2004. The gross profit margin at the Papermaking Systems segment remained constant at 39% in 2005 and 2004.
The inclusion of the fluid-handling product line from May 2005 contributed to a 3% increase in gross profit margins in 2005, largely offset by lower margins at
our stock-
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Kadant Inc.
2005 Annual Report
preparation product line in 2005. The lower margins at our stock-preparation product line in 2005 primarily resulted from a higher proportion of sales of lower-
margin capital equipment in North America, which reduced gross margins by 1%, as well as lower gross profit margins in Europe at our Kadant Lamort
subsidiary, which also reduced gross margins by 1%. The gross profit margin in Other decreased to 28% in 2005 from 36% in 2004 due to the inclusion of lower
margins from the Casting Products business and lower margins in our Fiber-based granular product line due to an increase in the cost of natural gas used in the
production of our fiber-based granules. We expect the gross profit margin in the Fiber-based granular product line to continue to be negatively affected by
significantly higher costs of natural gas used in the manufacturing process.
Operating Expenses
Selling, general, and administrative expenses as a percentage of revenues were 31% and 29% in 2005 and 2004, respectively. Selling, general, and
administrative expenses increased $18.3 million, or 32%, to $74.6 million in 2005 from $56.3 million in 2004. This increase included a $9.0 million, or 37%,
increase in general and administrative expenses and a $9.3 million, or 29%, increase in selling expenses.
The increase in general and administrative expenses included $9.9 million of general and administrative expenses from recently acquired Kadant Johnson
and a $1.0 million increase associated with a gain which lowered general and administrative expenses in 2004. The gain of $1.0 million in the first quarter of
2004 resulted from the renegotiation of a series of agreements with one of our licensees. These increases were offset in part by a $1.3 million decrease due to
expense reductions at the Papermaking Systems segment, a $0.7 million decrease in severance costs associated with our European operations, and a $0.5 million
decrease in bad debt expense.
The increase in selling expenses was due primarily to $9.1 million associated with recently acquired Kadant Johnson and a $0.4 million increase from the
unfavorable effect of foreign currency translation.
Research and development expenses as a percentage of revenues were 2% and 1% in 2005 and 2004, respectively. Research and development expenses
increased $1.8 million to $4.9 million in 2005 compared to $3.1 million in 2004 due to the inclusion of $1.0 million of research and development expenses
associated with Kadant Johnson and a $0.8 million increase in research and development projects at the Papermaking Systems segment.
Restructuring and Other Costs (Income)
During 2005, we recorded restructuring income of $0.1 million, which included $0.2 million of restructuring costs and $0.3 million of curtailment gain.
The restructuring costs of $0.2 million in 2005 included $0.1 million of income resulting from the reduction in the estimated restructuring costs associated with
the Kadant Lamort restructuring initiated in 2004 and $0.3 million in restructuring costs associated with 2005 restructuring actions. The 2005 restructuring costs
include $0.2 million of severance and associated costs related to the reduction of 14 full-time positions in the U.S. and $0.1 million for equipment relocation
costs, both in our Papermaking Systems segment. We estimate annualized savings of $0.6 million in selling, general, and administrative expenses and $0.8
million in cost of revenues from these restructuring actions. The $0.3 million curtailment gain in 2005 resulted from a reduction in the accrued liability for Kadant
Lamort’s pension plan associated with the Kadant Lamort restructuring initiated in 2004.
During 2004, we recorded restructuring costs of $9.5 million, which were accounted for in accordance with Statement of Financial Accounting Standards
(SFAS) No. 112. Restructuring costs of $9.2 million related to severance and other termination costs for 97 employees across all functions at the Papermaking
Systems segment’s Kadant Lamort subsidiary. These actions were taken in an effort to strengthen Kadant Lamort’s competitive position in the European paper
industry. In addition, we recorded restructuring costs of $0.3 million, related to severance costs for 11 employees at one of the Papermaking Systems segment’s
U.S. subsidiaries. We estimate annualized savings of $5.6 million ($3.6 million in cost of revenues and $2.0 million in selling, general, and administrative
expenses) from these restructuring actions when fully implemented (see Note 8 to the consolidated financial statements).
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Kadant Inc.
Interest Income
2005 Annual Report
Interest income was $1.5 million in 2005 and 2004. During 2005, the increase in interest income due to higher prevailing interest rates was largely offset by
the decrease in average cash balances primarily resulting from the May 2005 acquisition of Kadant Johnson.
Interest Expense
Interest expense increased to $2.1 million in 2005 from $23 thousand in 2004 primarily due to interest expense associated with the $60.0 million in
borrowings entered into in May 2005 to fund the Kadant Johnson acquisition.
Income Taxes
Our effective tax rate was 28% and 30% in 2005 and 2004, respectively. The 28% effective tax rate in 2005 included a 6% non-recurring tax benefit
resulting from a payment of $0.9 million received from our former parent company under a tax agreement and a 1% non-recurring tax benefit resulting from a
reduction of $0.1 million in tax reserves. The 30% effective tax rate in 2004 was lower than the statutory federal income tax rate primarily due to a reorganization
of several of our foreign subsidiaries that resulted in a more tax-efficient corporate structure. We expect our effective tax rate to be approximately 35% in 2006.
Minority Interest
Minority interest expense in 2005 and 2004 represents minority investors’ share of earnings in our majority-owned subsidiaries.
Income from Continuing Operations
Income from continuing operations increased to $9.9 million in 2005 from $5.8 million in 2004, an increase of $4.1 million, or 71%. This increase includes
a $1.9 million increase from the inclusion of Kadant Johnson and a $6.1 million increase due to the decrease in after-tax restructuring costs.
Loss from Discontinued Operation
On October 21, 2005, our Kadant Composites LLC subsidiary (Kadant Composites LLC) sold substantially all of its assets, comprising the composites
business, to LDI Composites Co. As part of the sale transaction, Kadant Composites LLC retained the warranty obligations associated with products
manufactured prior to the sale date. All future activity associated with this warranty reserve will continue to be classified in the results of the discontinued
operation.
Loss from discontinued operation decreased to $3.0 million in 2005 from $5.1 million in 2004, a decrease of $2.1 million due primarily to a $1.2 million
pre-tax decrease in warranty costs and a decrease in operating costs prior to the sale.
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Kadant Inc.
2004 Compared to 2003
2005 Annual Report
The following table sets forth our consolidated statement of operations expressed as a percentage of total revenue for the years ending January 1, 2005 and
January 3, 2004.
Revenues
Costs and Operating Expenses:
Cost of revenues
Selling, general, and administrative expenses
Research and development expenses
Restructuring and other costs (income), net
Operating Income
Interest Income (Expense), Net
Income from Continuing Operations Before Income Taxes and Minority Interest
Provision for Income Taxes
Income from Continuing Operations
Loss from Discontinued Operation
Net Income
Revenues
January 1,
2005
100%
January 3,
2004
100%
61
29
1
5
96
4
–
4
1
3
(3)
–%
61
26
2
–
89
11
–
11
4
7
(1)
6%
Revenues increased to $195.0 million in 2004 from $191.5 million in 2003, an increase of $3.5 million, or 2%. Revenues in 2004 include the favorable
effects of currency translation of $7.5 million, or 4%, due to a weaker U.S. dollar relative to most of the functional currencies in countries in which we operate.
Revenues from our Papermaking Systems segment and other businesses for the years ending January 1, 2005 and January 3, 2004 are as follows:
(In thousands)
Revenues:
Pulp and Papermaking Systems
Other
January 1,
2005
January 3,
2004
$ 188,320 $ 185,708
5,799
$ 194,966 $ 191,507
6,646
Pulp and Papermaking Systems. Revenues for the Papermaking Systems segment increased to $188.3 million in 2004 compared with $185.7 million in
2003, an increase of $2.6 million, or 1%. The increase in revenues in 2004 includes a 4% increase from the favorable effect of currency translation.
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Kadant Inc.
Revenues at the Papermaking Systems segment by product line were as follows:
(In millions)
Product Line:
Accessories
Stock-Preparation Equipment
Water-Management
Other
2005 Annual Report
2004
2003
$ 62.7
95.4
28.8
1.4
$188.3
$ 60.8
93.9
29.5
1.5
$185.7
Increase
(Decrease)
$
$
1.9
1.5
(0.7)
(0.1)
2.6
Decrease
Excluding
Effect of
Currency
Translation
$
$
(1.4)
(2.1)
(1.3)
(0.1)
(4.9)
Revenues from the segment’s accessories product line increased by $1.9 million, or 3%, in 2004, including a $3.3 million increase from the favorable effect
of currency translation. Excluding the effect of currency translation, revenues from the segment’s accessories product line decreased $1.4 million, or 2%, due to a
$3.3 million, or 14%, decrease in sales in Europe due to weaker demand partially offset by a $1.9 million, or 5%, increase in sales in North America. Revenues
from the segment’s stock-preparation equipment product line increased by $1.5 million, or 2%, in 2004, including a $3.6 million increase from the favorable
effect of currency translation. Excluding the effect of currency translation, revenues from the stock-preparation equipment product line decreased $2.1 million, or
2%, due to a $2.4 million, or 7%, decrease in sales in Europe due to weaker demand. Revenues from the segment’s water-management product line decreased
$0.7 million, or 2%, in 2004, including a $0.6 million increase from the favorable effect of currency translation. Excluding the effect of currency translation,
revenues from the segment’s water-management product line decreased by $1.3 million, or 4%, due primarily to a $1.8 million, or 7%, decrease in sales in North
America.
Other. Revenues from our Fiber-based Products business increased to $6.6 million in 2004 from $5.8 million in 2003, an increase of $0.8 million, or 15%,
due to stronger sales of Biodac®, our line of biodegradable granular products.
Gross Profit Margin
Gross profit margin for the years ending January 1, 2005 and January 3, 2004 were as follows:
Gross Profit Margin:
Pulp and Papermaking Systems
Other
January 1,
2005
January 3,
2004
39%
36%
39%
39%
37%
39%
Gross profit margin was 39% in 2004 and 2003. The gross profit margin at the Papermaking Systems segment remained constant at 39% in 2004 and 2003.
The gross profit margin in Other decreased to 36% in 2004 from 37% in 2003 due to an increase in the cost of natural gas used in the production of our fiber-
based granules.
Operating Expenses
Selling, general, and administrative expenses as a percentage of revenues were 29% and 26% in 2004 and 2003, respectively. Selling, general, and
administrative expenses increased $5.9 million, or 12%, to $56.3 million in 2004 from $50.4 million in 2003. This increase included a $3.3 million, or 16%,
increase in general and administrative expenses and a $2.6 million, or 9%, increase in selling expenses. The increase in general and
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Kadant Inc.
2005 Annual Report
administrative expenses includes a $1.1 million increase in the costs associated with the implementation of the internal control requirements of the Sarbanes-
Oxley Act, a $1.0 million increase in bad debt expense, which in part was due to recoveries of $0.3 million in 2003, a $0.7 million increase from the unfavorable
effect of foreign currency translation at the Papermaking Systems segment, a $0.4 million increase in severance costs associated with our European operations,
and a $0.4 million increase associated with several projects under way to further streamline our international organization. Also included in general and
administrative expenses, offsetting the expenses noted above, was a gain of approximately $1.0 million in the first quarter of 2004, which resulted from
renegotiating a series of agreements with one of our licensees. The increase in selling expenses includes a $1.4 million increase from the unfavorable effect of
foreign currency translation.
Research and development expenses as a percentage of revenues were 1% and 2% in 2004 and 2003, respectively. Research and development expenses
decreased $1.2 million to $3.1 million in 2004 compared to $4.3 million in 2003 due to the timing of research and development projects at the Papermaking
Systems segment.
Restructuring and Other Costs (Income)
During 2004, we recorded restructuring costs of $9.5 million, which were accounted for in accordance with Statement of Financial Accounting Standards
(SFAS) No. 112. Restructuring costs of $9.2 million related to severance and other termination costs for 97 employees across all functions at the Papermaking
Systems segment’s Kadant Lamort subsidiary. These actions were taken in an effort to strengthen Kadant Lamort’s competitive position in the European paper
industry. In addition, we recorded restructuring costs of $0.3 million related to severance costs for 11 employees at one of the Papermaking Systems segment’s
U.S. subsidiaries. We estimate annualized savings of $5.6 million ($3.6 million in cost of revenues and $2.0 million in selling, general, and administrative
expenses) from these restructuring actions when fully implemented (see Note 8 to the consolidated financial statements).
During 2003, we recorded net restructuring and other income of $23 thousand. Restructuring costs of $0.6 million, which were accounted for in accordance
with SFAS No. 112, related to severance costs for seven employees across all functions at the Papermaking Systems segment’s Kadant Lamort subsidiary. These
actions were taken in an effort to improve profitability and were in response to a continued weak market environment and reduced demand for our products.
Annual savings from these actions, included primarily in cost of revenues, were approximately $0.4 million. We recorded a gain of $0.6 million from the sale of
property, for approximately $0.9 million in cash, at the same subsidiary.
Interest Income
Interest income increased to $1.5 million in 2004 from $1.0 million in 2003 primarily due to higher prevailing interest rates.
Income Taxes
Our effective tax rate was 30% and 38% in 2004 and 2003, respectively. The 30% effective tax rate in 2004 was lower than the statutory federal income tax
rate primarily due to a reorganization of several of our foreign subsidiaries that resulted in a more tax-efficient corporate structure. The 38% effective tax rate in
2003 exceeded the statutory federal income tax rate primarily due to the impact of state income taxes and nondeductible expenses.
Minority Interest
Minority interest expense in 2004 and 2003 represents minority investors’ share of earnings in our majority-owned subsidiaries.
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Kadant Inc.
Income from Continuing Operations
2005 Annual Report
Income from continuing operations decreased to $5.8 million in 2004 from $13.1 million in 2003, a decrease of $7.3 million, or 56%, due primarily to the
increase in pre-tax restructuring costs of $9.5 million in 2004 compared to 2003.
Loss from Discontinued Operation
Loss from discontinued operation increased to $5.1 million in 2004 from $1.3 million in 2003, an increase of $3.8 million primarily due to a $4.8 million
pre-tax increase in warranty costs. We experienced a substantial increase in warranty claims in 2004 compared to 2003. The claims were associated with
contraction of certain decking products and with a new problem concerning excessive oxidation that affected the integrity of the plastic used in some of our
decking products. As a result of the increased claims and our estimate of future claims, we increased our warranty expense to $6.7 million in 2004 compared to
$1.9 million in 2003. Included in the increased warranty expense is the cost of exchanging material held by our distributors with new material and our best
estimate of costs related to future potential valid claims arising from the installed product.
Liquidity and Capital Resources
Consolidated working capital was $75.4 million at December 31, 2005, compared with $113.7 million at January 1, 2005. Included in working capital are
cash and cash equivalents of $40.8 million at December 31, 2005, compared with $82.1 million at January 1, 2005. At December 31, 2005, $24.3 million of cash
and cash equivalents was held by our foreign subsidiaries.
2005
Cash provided by operating activities was $17.7 million in 2005, including $19.1 million provided by continuing operations and $1.4 million used by the
discontinued operation. The cash provided by operating activities in 2005 was primarily the result of $9.9 million of income from continuing operations, a non-
cash charge of $6.9 million for depreciation and amortization expense, and a decrease in inventory of $4.4 million, offset in part by a decrease in accounts
payable, which used cash of $4.5 million. The cash used by the discontinued operation of $1.4 million resulted primarily from the net loss of $3.0 million due
primarily to the pre-tax warranty provision of $5.5 million and a decrease in accounts payable of $1.1 million due to payments made prior to the sale date. These
items were offset in part by a decrease in accounts receivable due to collections made prior to the sale date, which provided cash of $1.2 million and an increase
in other current liabilities of $1.8 million due primarily to an increase in payments owed to the Buyer as reimbursement for claims paid on behalf of Kadant
Composites LLC.
Cash used for investing activities was $100.9 million in 2005, including $106.4 million used by continuing operations and $5.5 million provided by the
discontinued operation. We used cash of $103.6 million in 2005 to acquire the stock of The Johnson Corporation. We used $3.2 million in 2005 to purchase
property, plant, and equipment. We also used cash of $1.1 million in 2005 to acquire the remaining minority interest in one of our Kadant Johnson subsidiaries.
The cash provided by discontinued operation of $5.5 million relates primarily to the unrestricted cash proceeds received from the sale of the majority of the assets
of the discontinued operation.
Our financing activities provided cash of $50.1 million in 2005 related entirely to our continuing operations. In 2005, we received proceeds of $60.0
million from a term loan we entered into to fund a portion of the purchase price for Kadant Johnson. We also increased our short- and long-term obligations by
$4.0 million, which represents additional consideration for Kadant Johnson to be paid over the next five years. During 2005, we purchased 486,400 shares of our
common stock on the open market for $9.1 million and repaid $5.5 million of long-term obligations.
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Kadant Inc.
2004
2005 Annual Report
Cash provided by operating activities was $13.2 million in 2004, including $12.9 million from continuing operations and $0.3 million from the
discontinued operation. The cash provided by operating activities in 2004 was primarily the result of $5.8 million of income from continuing operations, a non-
cash charge of $3.6 million for depreciation and amortization expense, and an increase in provision for warranty obligations of $2.7 million, offset in part by a
decrease in accounts payable, which used cash of $2.6 million. The cash provided by the discontinued operation of $0.3 million relates primarily to a non-cash
charge for depreciation and amortization expense of $0.9 million and an increase in other current liabilities which provided cash of $3.7 million due primarily to
an increase in accrued warranty. In addition, a decrease in inventory provided cash of $1.4 million and an increase in accounts payable provided cash of $0.6
million. These items were offset in part by a net loss of $5.1 million due primarily to the pre-tax warranty provision of $6.7 million and an increase in accounts
receivable of $1.1 million.
Cash used for investing activities was $3.5 million in 2004, including $3.2 million used by continuing operations and $0.3 million used by the discontinued
operation. During 2004, we purchased property, plant, and equipment for $2.2 million and paid $1.9 million in acquisition-related costs for Kadant Johnson, offset
in part by proceeds of $1.3 million received from the sale of property, plant, and equipment. The cash used by the discontinued operation of $0.3 million relates
primarily to the purchase of property, plant, and equipment.
Our financing activities used cash of $5.4 million in 2004, related entirely to our continuing operations. During 2004, we purchased 509,000 shares of our
common stock on the open market for $10.3 million and repaid $0.6 million of long-term obligations. In addition, in 2004 we received proceeds of $5.5 million
from the issuance of common stock in connection with our employee stock option and stock purchase plans.
Additional Liquidity and Capital Resources
We completed our acquisition of Kadant Johnson on May 11, 2005 for $101.5 million in cash, subject to a post-closing adjustment, and $4.7 million of
acquisition-related costs. In addition to the cash consideration, we issued a letter of credit to the sellers for $4.0 million, subject to adjustment, related to certain
tax assets of Kadant Johnson, the value of which we expect to realize. The parties also agreed to an earn-out provision, based on the achievement of certain
revenue targets between the closing date (May 11, 2005) and July 1, 2006, which could increase the purchase price by up to $8.0 million. Based on our current
forecasts, we do not believe that a significant payout under the earn-out provision is likely.
To fund $60 million of the purchase price, we entered into a term loan and revolving credit facility (the Credit Agreement) effective as of May 9, 2005 in
the aggregate principal amount of up to $85 million, including a $25 million revolver. The Credit Agreement includes a $60 million term loan, which is repayable
in quarterly installments over a five-year period. The aggregate principal amount to be repaid each year is as follows: $9 million, $10.5 million, $13.5 million,
$15 million, and $7.5 million in 2006, 2007, 2008, 2009, and 2010, respectively. Interest on the revolving loan and the term loan accrues and is payable quarterly
in arrears at one of the following rates selected by us: (a) the prime rate plus an applicable margin initially set at 0% for 2005, and up to 0.25% thereafter or, (b) a
eurocurrency rate plus an applicable margin initially set at 1% for 2005, and between 0.625% and 1.25% thereafter. The applicable margin is determined based
upon our total debt to earnings before interest, taxes, depreciation and amortization (EBITDA) ratio, as defined in the Credit Agreement.
Our obligations under the Credit Agreement may be accelerated upon the occurrence of an event of default under the Credit Agreement, which include
customary events of default including, without limitation, payment defaults, defaults in the performance of affirmative and negative covenants, the inaccuracy of
representations or warranties, bankruptcy- and insolvency-related defaults, defaults relating to such matters as ERISA, uninsured judgments and the failure to pay
certain indebtedness, and a change-of-control default.
In addition, the Credit Agreement contains negative covenants applicable to us and our subsidiaries, including financial covenants requiring us to comply
with a maximum consolidated leverage ratio of 3.0, which is lowered to 2.5 in certain circumstances, and a minimum consolidated fixed charge coverage ratio of
1.5. Pursuant
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Kadant Inc.
2005 Annual Report
to an amendment to the Credit Agreement effective December 28, 2005, this maximum consolidated leverage ratio is increased to 2.75 in the quarter in which we
complete the proposed acquisition of a manufacturer of stock preparation equipment in China and in the following quarter. In addition to the financial covenants,
we are also required to comply with covenants related to restrictions on liens, indebtedness, fundamental changes, dispositions of property, making certain
restricted payments (including dividends and stock repurchases), investments, transactions with affiliates, sale and leaseback transactions, swap agreements,
changing our fiscal year, negative pledges, arrangements affecting subsidiary distributions, and entering into new lines of business. As of December 31, 2005, we
were in compliance with these covenants.
The loans under the Credit Agreement are guaranteed by certain of our domestic subsidiaries and secured by a pledge of 65% of the stock of our first-tier
foreign subsidiaries and our subsidiary guarantors pursuant to a guarantee and pledge agreement effective May 9, 2005 in favor of JPMorgan Chase Bank, N.A.,
as agent on behalf of the lenders.
In May 2004, our board of directors authorized the repurchase of up to $30.0 million of our equity securities in the open market or in negotiated
transactions through May 18, 2005. We repurchased 460,400 and 109,700 shares of our common stock for $9.4 million and $2.0 million in 2004 and 2005,
respectively, under this authorization. We also repurchased an additional 48,600 shares of our common stock for $0.9 million in 2004 under a previous
authorization.
On May 6, 2005, our board of directors authorized the repurchase of up to $15.0 million of our equity securities in the open market or in negotiated
transactions for the period from May 18, 2005 through May 18, 2006. As of December 31, 2005, we had repurchased 376,700 shares of our common stock for
$7.1 million under this authorization.
On October 22, 2004, the American Jobs Creation Act of 2004 (the Act) was signed into law. The Act created a temporary incentive for U.S. multinationals
to repatriate accumulated income earned outside the U.S. at an effective tax rate of 5.25%. After evaluating the effect of the law on our unremitted foreign
earnings, we have determined that due to various factors, there is no benefit to us. Therefore, it will remain our practice to reinvest indefinitely the earnings of our
international subsidiaries, except in instances in which we can remit such earnings without a significant associated tax cost. Through December 31, 2005, we have
not provided U.S. income taxes on approximately $53.5 million of unremitted foreign earnings. We believe that any U.S. tax liability due upon remittance of such
earnings would be immaterial due to the availability of U.S. foreign tax credits generated from such remittance. The related foreign tax withholding, which would
be required if we remitted the foreign earnings to the U.S., would be approximately $2.3 million.
On January 21, 2006, on behalf of our wholly foreign owned enterprise formed in China, we entered into an Asset Purchase Agreement with Jining Huayi
Light Industry Machinery Co., Ltd. (Huayi) to acquire substantially all the assets of Huayi, a supplier of stock-preparation equipment in China, for approximately
$20 million, subject to adjustment. We expect to finance the acquisition through a combination of cash and borrowings, in China or under our existing $25 million
revolver, which is part of our credit facility entered into in May 2005, with a consortium of banks with JPMorganChase Bank as administrative agent. The closing
of the acquisition is subject to customary closing conditions, including regulatory approvals and the approval of our board of directors and Huayi’s board of
directors and shareholders. The closing is expected to occur in the second quarter of 2006.
On October 21, 2005, Kadant Composites LLC sold its composites business, presented as a discontinued operation in the accompanying consolidated
financial statements. As part of the transaction, Kadant Composites LLC retained the warranty obligation associated with products manufactured prior to the sale
date. At December 31, 2005, the warranty reserve for the composites business was $5.3 million. Our liquidity and consolidated results will continue to be
impacted by future cash payments for warranty claims and any adjustments to this warranty obligation. Adjustments to our results for these items will continue to
be classified within the results for the discontinued operation in our consolidated financial statements.
Although we currently have no material commitments for capital expenditures, we plan to make expenditures during 2006 for property, plant, and
equipment of approximately $4.1 million.
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Kadant Inc.
2005 Annual Report
Contractual Obligations and Other Commercial Commitments
The following table summarizes the Company’s known contractual obligations and commercial commitments to make future payments or other
consideration pursuant to certain contracts as of December 31, 2005, as well as an estimate of the timing in which these obligations are expected to be satisfied.
Detailed information concerning these obligations and commitments can be found in Notes 2, 7 and 8 to our consolidated financial statements.
(In millions)
Contractual Obligations: (a)
Long-term debt obligations
Operating lease obligations
Kadant Johnson acquisition consideration (b)
Commercial Commitments: (c)
Letters of credit
Total (d)
Less than
1 Year
Payments Due by Period or Expiration of Commitment
4-5
Years
After
5 Years
1-3
Years
$
$
9.0
1.9
0.6
12.4
23.9
$ 24.0
1.5
1.2
2.5
$ 29.2
$ 22.5
0.1
2.2
–
$ 24.8
$
$
–
–
–
–
–
Total
$ 55.5
3.5
4.0
14.9
$ 77.9
(a) We have purchase obligations related to the acquisition of raw material made in the ordinary course of business that may be terminated with minimal notice
(b)
(c)
(d)
and are excluded from this analysis.
In addition to the consideration paid at closing for Kadant Johnson, we issued a letter of credit to the sellers for $4.0 million related to certain tax assets of
Kadant Johnson, the value of which we expect to realize. This amount is subject to adjustment based on The Johnson Corporation’s final tax return for
2005. The table above excludes contingent consideration of $8.0 million associated with the Kadant Johnson acquisition. The parties agreed in the purchase
agreement to an earn-out provision, based on the achievement of certain revenue targets between the closing date of May 11, 2005 and July 1, 2006, which
could increase the purchase price by up to $8.0 million. Based on our current forecasts, we do not believe that a significant payout under the earn-out
provision is likely.
In the ordinary course of business, we are required to issue limited performance guarantees, which do not require letters of credit, relating to our equipment
and systems. We typically limit our liability under these guarantees to amounts that would not exceed the value of the contract. We believe that we have
adequate reserves for any potential liability in connection with such guarantees. These guarantees are not included in this table.
This table excludes $4.8 million of accrued restructuring costs and $7.4 million of other long-term liabilities related primarily to pension plans, as these
liabilities are not subject to fixed payment terms. We expect that the accrued restructuring costs will be paid in 2006.
Provisions in financial guarantees or commitments, debt or lease agreements, or other arrangements could trigger a requirement for an early payment,
additional collateral support, amended terms, or acceleration of maturity.
We do not have special-purpose entities nor do we use off-balance-sheet financing arrangements.
In the future, our liquidity position will be primarily affected by the level of cash flows from operations and the amount of cash expended on debt
repayments, capital projects, stock repurchases, or additional acquisitions, if any. We believe that our existing resources, together with the cash available from our
credit facility and the cash we expect to generate from continuing operations, are sufficient to meet the capital requirements of our current operations for the
foreseeable future.
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Kadant Inc.
2005 Annual Report
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
We are exposed to market risk from changes in interest rates and foreign currency exchange rates, which could affect our future results of operations and
financial condition. We manage our exposure to these risks through our regular operating and financing activities. We entered into a “receive-variable and pay-
fixed” swap agreement in 2005 to hedge a portion of our variable rate long-term debt. Additionally, we use short-term forward contracts to manage certain
exposures to foreign currencies. We enter into forward foreign exchange contracts to hedge firm purchase and sale commitments denominated in currencies other
than our subsidiaries’ local currencies. We do not engage in extensive foreign currency hedging activities; however, the purpose of our foreign currency hedging
activities is to protect our local currency cash flows related to these commitments from fluctuations in foreign exchange rates. Our forward foreign exchange
contracts principally hedge transactions denominated in U.S. dollars. Gains and losses arising from forward contracts are recognized as offsets to gains and losses
resulting from the transactions being hedged. We do not use financial instruments for trading purposes.
Interest Rates
Our cash and cash equivalents are sensitive to changes in interest rates. Interest rate changes would result in a change in interest income due to the
difference between the current interest rates on cash and cash equivalents and the variable rates to which these financial instruments may adjust in the future. A
10% decrease in year-end interest rates would have resulted in a negative impact on our net income of $0.1 million in both 2005 and 2004.
A portion of our outstanding debt of $55.5 million as of year-end 2005 is sensitive to changes in interest rates. We hedged $33.3 million of the debt with a
“receive-variable pay-fixed” swap agreement. The fair value of the swap agreement is sensitive to changes in the 4-year Treasury bill rate. A 10% decrease in the
year-end 4-year Treasury bill rate would have resulted in an increase of unrealized losses of $0.3 million as of year-end 2005. The remaining unhedged portion of
the debt totaling $22.2 million as of year-end 2005 is sensitive to changes in interest rates. As of year-end 2005, the interest rate on the unhedged portion of the
debt was based on LIBOR. A 10% increase in the year-end LIBOR rate would have resulted in a negative impact on our net income of $0.1 million in 2005.
Currency Exchange Rates
We generally view our investment in foreign subsidiaries in a functional currency other than our reporting currency as long-term. Our investment in foreign
subsidiaries is sensitive to fluctuations in foreign currency exchange rates. The functional currencies of our foreign subsidiaries are principally denominated in
euros, British pounds sterling, Mexican pesos, Canadian dollars, Chinese renminbi and Brazilian reals. The effect of changes in foreign exchange rates on our net
investment in foreign subsidiaries is reflected in the “accumulated other comprehensive items” component of shareholders’ investment. A 10% depreciation in
functional currencies at year-end 2005 and 2004, relative to the U.S. dollar, would have resulted in a reduction in shareholders’ investment of $6.7 million and
$5.0 million, respectively.
The fair value of forward foreign exchange contracts is sensitive to fluctuations in foreign currency exchange rates. The fair value of forward foreign
exchange contracts is the estimated amount that we would pay or receive upon termination of the contracts, taking into account the change in foreign currency
exchange rates. A 10% depreciation in year-end 2005 and 2004 foreign currency exchange rates related to our contracts would have resulted in an increase in
unrealized losses on forward foreign exchange contracts of $0.3 million in both 2005 and 2004. Since we use forward foreign exchange contracts as hedges of
firm purchase and sale commitments, the unrealized gain or loss on forward foreign currency exchange contracts resulting from changes in foreign currency
exchange rates would be offset by corresponding changes in the fair value of the hedged items.
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2005 Annual Report
Item 8. Financial Statements and Supplementary Data
This data is submitted as a separate section to this Report. See Item 15, “Exhibits and Financial Statement Schedules.”
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Not applicable.
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Our management, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness
of our disclosure controls and procedures as of December 31, 2005. The term “disclosure controls and procedures,” as defined in Securities Exchange Act Rules
13a-15(e) and 15d-15(e), means controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company
in the reports that it files or submits under the Exchange Act is recorded, processed, summarized, and reported, within the time periods specified in the SEC’s
rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be
disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including
its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Management recognizes that any
controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management
necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based upon the evaluation of our disclosure
controls and procedures as of December 31, 2005, our Chief Executive Officer and Chief Financial Officer concluded that as of December 31, 2005, our
disclosure controls and procedures were effective at the reasonable assurance level.
Evaluation of Changes in Internal Controls over Financial Reporting
In May 2005 we acquired The Johnson Corporation (Kadant Johnson), a private company with internal control procedures that had not been designed for
public company reporting. Prior to our acquisition, Kadant Johnson’s independent certified public accountants identified material weaknesses in Kadant Johnson’s
controls over the inventory reserve calculation and financial close procedures. Kadant Johnson adjusted their inventory obsolescence reserve before the
acquisition date by restating prior periods to increase their reserve in compliance with our policy and generally accepted accounting principles. In addition, we
added internal control procedures to ensure that Kadant Johnson’s disclosure controls, as they relate to Kadant’s consolidated financial reporting, were adequate
and in compliance with our policies and procedures. As a result, we made a number of changes to internal controls over financial reporting (as such term is
defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, as amended) during 2005 including:
-
-
-
-
reviewing and strengthening Kadant Johnson’s tax accounting process,
reviewing and strengthening Kadant Johnson’s intercompany reconciliation process,
enhancing the documentation relating to Kadant Johnson’s reserve calculations for accounts receivable and warranties to comply with its policies,
and
accelerating and improving Kadant Johnson’s financial close procedures.
Other than the changes resulting from our acquisition of Kadant Johnson outlined above, there have not been any changes in our internal control over
financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, as amended) during the fiscal quarter ended
December 31, 2005 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
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Kadant Inc.
2005 Annual Report
Management’s Report on Internal Control over Financial Reporting
We are continuing the process of evaluating Kadant Johnson’s internal controls and, as of the date of this report, have not yet completed our evaluation. As
permitted, we will be excluding this acquisition from our reporting under Section 404 of the Sarbanes-Oxley Act of 2002 at December 31, 2005.
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Securities
Exchange Act Rules 13a-15(f) and 15d-15(f). Our management assessed the effectiveness of our internal control over financial reporting as of December 31,
2005, excluding the internal controls at Kadant Johnson. In making this assessment, our management used the criteria set forth in “Internal Control – Integrated
Framework” issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on our assessment, management believes that,
as of December 31, 2005 our internal control over financial reporting, excluding the internal controls at Kadant Johnson, is effective based on the criteria issued
by COSO.
Because of inherent limitations, internal control over financial reporting may not prevent or detect misstatements. 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.
Our independent registered public accountants, Ernst & Young LLP, have issued an audit report on our assessment of our internal control over financial
reporting, which is included herein on page F-3.
Item 9B. Other Information
Not applicable.
Item 10. Directors and Executive Officers of the Registrant
PART III
The information concerning directors is included under the heading “Election of Directors” in our 2006 proxy statement for our 2006 Annual Meeting of
Shareholders and is incorporated in this Report by reference. The information concerning executive officers is included under the heading “Executive Officers of
the Registrant” in Item 1 of Part I of this Report.
The information required under Item 405 of Regulation S-K is included under the heading “Stock Ownership–Section 16(a) Beneficial Ownership
Reporting Compliance” in our 2006 proxy statement and is incorporated in this Report by reference.
The information required under Item 406 of Regulation S-K is included under the heading “Election of Directors – Corporate Governance – Code of
Business Conduct and Ethics” in our 2006 proxy statement and is incorporated in this Report by reference.
Item 11. Executive Compensation
This information is included under the heading “Executive Compensation” in our 2006 proxy statement and is incorporated in this Report by reference.
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Kadant Inc.
2005 Annual Report
Item 12. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters
Except for the information concerning equity compensation plans, this information is included under the heading “Stock Ownership” in our 2006 proxy
statement and is incorporated in this Report by reference.
The following table provides information about the securities authorized for issuance under our equity compensation plans as of December 31, 2005:
Equity Compensation Plan Information
Plan Category
Equity compensation plans approved by security
holders
Equity compensation plans not approved by security
holders (3)
Total
(a)
Number of Securities
to be Issued upon
Exercise of
Outstanding Options,
Warrants, and
Rights
1,377,168(1)
322,204
1,699,372(1)
(b)
Weighted-Average
Exercise Price of
Outstanding Options,
Warrants, and
Rights
$
$
$
16.30(1)
13.73
15.82(1)
(c)
Number of Securities
Remaining Available for
Future Issuance Under
Equity Compensation
Plans (Excluding
Securities Reflected in
Column (a))
486,439(2)
12,002
498,441(2)
(1)
(2)
(3)
Excludes an aggregate of 263,950 shares of common stock issuable under our employees’ stock purchase plan in connection with current and future
offering periods under the plan. Excludes 2,569 shares reserved for issuance pursuant to our deferred compensation plan for directors.
Includes 263,950 shares of common stock issuable under our employees’ stock purchase plan in connection with current and future offering periods under
the plan.
The material features of our 2001 employee equity incentive plan are described in Part IV, Item 15, Exhibits and Financial Statement Schedules, Note 3,
which begins on page F-1 of this Report.
Item 13. Certain Relationships and Related Transactions
This information is included under the heading “Certain Relationships and Related Transactions” in our 2006 proxy statement and is incorporated in this
Report by reference.
Item 14. Principal Accountant Fees and Services
This information is included under the heading “Independent Auditors” in our 2006 proxy statement and is incorporated in this Report by reference.
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Kadant Inc.
Item 15. Exhibits and Financial Statement Schedules
The following documents are filed as part of this Report:
(1)
Consolidated Financial Statements (see Index on Page F-1 of this Report):
PART IV
2005 Annual Report
Report of Independent Registered Public Accounting Firm on Consolidated Financial Statements and Schedule
Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting
Consolidated Statement of Operations
Consolidated Balance Sheet
Consolidated Statement of Cash Flows
Consolidated Statement of Comprehensive Income and Shareholders’ Investment
Notes to Consolidated Financial Statements
(2)
Consolidated Financial Statement Schedule (see Index on Page F-1 of this Report):
Schedule II: Valuation and Qualifying Accounts
All other schedules are omitted because they are not applicable or not required, or because the required information is shown either in the
consolidated financial statements or in the notes thereto.
(3)
Exhibits filed herewith or incorporated in this Report by reference are set forth in the Exhibit Index on page 34. This list of exhibits identifies each
management contract or compensatory plan or arrangement required to be filed as an exhibit to this Report.
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Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its
behalf by the undersigned, thereunto duly authorized.
Date: March 16, 2006
KADANT INC.
By: /s/ WILLIAM A. RAINVILLE
William A. Rainville
Chairman of the Board, Chief Executive Officer,
and President
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the
Registrant and in the capacities indicated, on March 16, 2006.
Signature
By: /s/ WILLIAM A. RAINVILLE
William A. Rainville
Title
Chairman of the Board, Chief Executive Officer, and President
By: /s/ THOMAS M. O’BRIEN
Executive Vice President, Chief Financial Officer
Thomas M. O’Brien
By: /s/ MICHAEL J. MCKENNEY
Vice President, Finance and Chief Accounting Officer
By: /s/ JOHN M. ALBERTINE
By: /s/ JOHN K. ALLEN
Michael J. McKenney
John M. Albertine
John K. Allen
By: /s/ THOMAS C. LEONARD
By: /s/ FRANCIS L. MCKONE
Thomas C. Leonard
Francis L. McKone
Director
Director
Director
Director
39
Table of Contents
Exhibit
Number
2.1
2.2
2.3
3.1
3.2
4.1
10.1*
10.2*
10.3
10.4
Exhibit Index
Description of Exhibit
Purchase Agreement among the Registrant, Johnson Acquisition Corp., The Johnson Corporation and the principal shareholders of Johnson
identified in the Purchase Agreement (filed as Exhibit 99.2 to the Registrant’s Current Report on Form 8-K [File No. 1-11406] filed with the
Commission on April 12, 2005 and incorporated in this document by reference). (1)
Purchase Agreement dated October 21, 2005, among the Registrant, Kadant Composites LLC subsidiary, LDI Composites Co., a Minnesota
corporation, and Liberty Diversified Industries, Inc., a Minnesota corporation, and parent corporation of the Buyer (filed as Exhibit 99.1 to the
Registrant’s Current Report on Form 8-K [File No. 1-11406] filed with the Commission on October 27, 2005 and incorporated in this
document by reference). (1)
Asset Purchase Agreement dated January 21, 2006 on behalf of the Kadant Jining Light Machinery Co. Ltd. by the Registrant (as Buyer) and
Jining Huayi Light Industry Machinery Co., Ltd., (as Seller). (1)
Restated Certificate of Incorporation of the Registrant (filed as Exhibit 3.1 to the Registrant’s Quarterly Report on Form 10-Q for the quarter
ended June 30, 2001 [File No. 1-11406] and incorporated in this document by reference).
Amended and Restated Bylaws of the Registrant (filed as Exhibit 3.2 to the Registrant’s Quarterly Report on Form 10-Q for the quarter ended
June 30, 2001 [File No. 1-11406] and incorporated in this document by reference).
Rights Agreement, dated as of July 16, 2001, between the Registrant and American Stock Transfer & Trust Company, which includes as
Exhibit A the Form of Certificate of Designations, as Exhibit B the Form of Rights Certificate, and as Exhibit C the Summary of Rights to
Purchase Preferred Stock (filed as Exhibit 4.1 to the Registrant’s Current Report on Form 8-K [File No. 1-11406] filed with the Commission
on July 17, 2001, and incorporated in this document by reference).
Form of Indemnification Agreement between the Registrant and its directors and officers (filed as Exhibit 10.1 to the Registrant’s Quarterly
Report on Form 10-Q for the quarter ended June 30, 2001 [File No. 1-11406] and incorporated in this document by reference).
Form of Executive Retention Agreement between the Registrant and its executive officers – each executive officer has a two-year agreement,
except Mr. William A. Rainville, who has a three-year agreement, and Mr. Michael J. McKenney, Mr. Eric T. Langevin, and Mr. Daniel J.
Walsh, each of whom have a one-year agreement (filed as Exhibit 10.2 to the Registrant’s Quarterly Report on Form 10-Q for the quarter
ended June 30, 2001 [File No. 1-11406] and incorporated in this document by reference).
Plan and Agreement of Distribution, dated as of August 3, 2001, between the Registrant and Thermo Electron Corporation (filed as Exhibit
99.3 to the Registrant’s Current Report on Form 8-K [File No. 1-11406] filed with the Commission on August 6, 2001, and incorporated in this
document by reference).
First Amendment to Plan and Agreement of Distribution, dated as of December 27, 2001, between the Registrant and Thermo Electron
Corporation (filed as Exhibit 10.4 to the Registrant’s Annual Report on Form 10-K for the year ended December 29, 2001 [File No. 1-11406]
and incorporated in this document by reference).
40
Table of Contents
Exhibit Index
Exhibit
Number
10.5
10.6*
10.7*
10.8*
10.9*
10.10*
10.11*
10.12*
10.13*
10.14
10.15
Description of Exhibit
Tax Matters Agreement, dated as of August 8, 2001, between the Registrant and Thermo Electron Corporation (filed as Exhibit 99.4 to the
Registrant’s Current Report on Form 8-K [File No. 1-11406] filed with the Commission on August 6, 2001, and incorporated in this document by
reference).
Amended and Restated Nonqualified Stock Option Plan of the Registrant (filed as Exhibit 10.6 to the Registrant’s Annual Report on Form 10-K
for the year ended December 28, 2002 [File No. 1-11406] and incorporated in this document by reference).
Amended and Restated Equity Incentive Plan of the Registrant (filed as Exhibit 10.7 to the Registrant’s Annual Report on Form 10-K for the year
ended December 28, 2002 [File No. 1-11406] and incorporated in this document by reference).
Amended and Restated Deferred Compensation Plan for Directors of the Registrant (filed as Exhibit 10.5 to the Registrant’s Quarterly Report on
Form 10-Q for the quarter ended July 3, 1999 [File No. 1-11406] and incorporated in this document by reference).
Amended and Restated Directors’ Stock Option Plan of the Registrant (filed as Exhibit 10.6 to the Registrant’s Quarterly Report on Form 10-Q
for the quarter ended July 3, 1999 [File No. 1-11406] and incorporated in this document by reference).
Amended and Restated Directors Restricted Stock Plan (filed as Exhibit 10.10 to the Registrant’s Annual Report on Form 10-K for the year ended
January 3, 2004 [File No. 1-11406] and incorporated in this document by reference).
2001 Employee Equity Incentive Plan of the Registrant (filed as Exhibit 10.11 to the Registrant’s Annual Report on Form 10-K for the year ended
December 28, 2002 [File No. 1-11406] and incorporated in this document by reference).
Form of Nonqualified Stock Option Agreement for employees and executive officers of the Registrant (filed as Exhibit 10.12 to the Registrant’s
Annual Report on Form 10-K for the year ended January 1, 2005 [File No. 1-11406] and incorporated in this document by reference).
Summary of Non-employee Director Compensation of the Registrant (filed as Exhibit 10.13 to the Registrant’s Annual Report on Form 10-K for
the year ended January 1, 2005 [File No. 1-11406] and incorporated in this document by reference).
Credit Agreement among the Registrant, the Foreign Subsidiary Borrowers from time to time parties thereto, the several banks and other financial
institutions or entities from time to time parties thereto, and JPMorgan Chase Bank, N.A., as Administrative Agent, dated May 9, 2005 (filed as
Exhibit 99.1 to the Registrant’s Current Report on Form 8-K [File No. 1-11406] filed with the Commission on May 11, 2005 and incorporated in
this document by reference). (1)
First Amendment to Credit Agreement dated May 9, 2005 among the Registrant, the Foreign Subsidiary Borrowers from time to time parties
thereto, the several lenders from time to time parties thereto, and JP Morgan Chase Bank, N.A., as Administrative Agent, dated October 21, 2005
(filed as Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q for the quarter ended October 1, 2005 [File No. 1-11406] and
incorporated in this document by reference).
41
Table of Contents
Exhibit Index
Exhibit
Number
10.16
10.17
10.18
10.19*
10.20*
21
23.1
31.1
31.2
32
Description of Exhibit
Second Amendment to Credit Agreement dated May 9, 2005 among the Registrant, the Foreign Subsidiary Borrowers from time to time parties
thereto, the several lenders from time to time parties thereto, and JP Morgan Chase Bank, N.A., as Administrative Agent, effective December
28, 2005 (filed as Exhibit 99.1 to the Registrant’s Current Report on Form 8-K [File No. 1-11406] filed with the Commission on January 4,
2006 and incorporated in this document by reference).
Guarantee and Pledge Agreement, dated May 9, 2005, in favor of JPMorgan Chase Bank, N.A., as agent on behalf of the lenders (filed as
Exhibit 99.2 to the Registrant’s Current Report on Form 8-K [File No. 1-11406] filed with the Commission on May 11, 2005 and incorporated in
this document by reference). (1)
International Swap Dealers Association, Inc. Master Agreement dated May 25, 2005 between the Registrant and Citizens Bank of
Massachusetts and Swap Confirmation dated May 18, 2005 (filed as Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q for the
quarter ended July 2, 2005 [File No. 1-11406] and incorporated in this document by reference).
Form of Restricted Stock Agreement for award of restricted shares to non-employee directors (filed as Exhibit 99.1 to the Registrant’s Current
Report on Form 8-K [File No. 1-11406] filed with the Commission on June 13, 2005 and incorporated in this document by reference).
Employment Agreement dated April 7, 2005 between the Registrant and Rudolf A. Leerentveld.
Subsidiaries of the Registrant.
Consent of Independent Registered Public Accounting Firm.
Certification of the Principal Executive Officer of the Registrant Pursuant to Rule 13a-15(e) and Rule 15d-14(a) of the Securities Exchange Act
of 1934, as amended.
Certification of the Principal Financial Officer of the Registrant Pursuant to Rule 13a-15(e) and Rule 15d-14(a) of the Securities Exchange Act
of 1934, as amended.
Certification of the Chief Executive Officer and the Chief Financial Officer of the Registrant pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
*Management contract or compensatory plan or arrangement.
(1)
The schedules to this document have been omitted from this filing pursuant to Item 601(b)(2) of Regulation S-K. The Company will furnish copies of any
of the schedules to the U.S. Securities and Exchange Commission upon request.
42
Table of Contents
Kadant Inc.
Annual Report on Form 10-K
Index to Consolidated Financial Statements and Schedule
The following Consolidated Financial Statements of the Registrant and its subsidiaries are required to be included in Item 8:
Report of Independent Registered Public Accounting Firm on Consolidated Financial Statements and Schedule
Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting
Consolidated Statement of Operations for the years ended December 31, 2005, January 1, 2005, and January 3, 2004
Consolidated Balance Sheet as of December 31, 2005 and January 1, 2005
Consolidated Statement of Cash Flows for the years ended December 31, 2005, January 1, 2005, and January 3, 2004
Consolidated Statement of Comprehensive Income and Shareholders’ Investment for the years ended December 31, 2005, January 1, 2005, and
January 3, 2004
Notes to Consolidated Financial Statements
Page
F-2
F-3
F-4
F-5
F-6
F-7
F-8
The following Consolidated Financial Statement Schedule of the Registrant and its subsidiaries is filed as part of this Report as required to be included in
Item 15(a):
Schedule II – Valuation and Qualifying Accounts
F-1
Page
F-42
Table of Contents
Report of Independent Registered Public Accounting Firm
on Consolidated Financial Statements and Schedule
To the Board of Directors and Shareholders of Kadant Inc.:
We have audited the accompanying consolidated balance sheets of Kadant Inc. and subsidiaries as of December 31, 2005 and January 1, 2005, and the
related consolidated statements of operations, comprehensive income and shareholders’ investment, and cash flows for each of the three years in the period ended
December 31, 2005. Our audits also included the financial statement schedule listed in the index at Item 15(2). These financial statements and schedule are the
responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule 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 financial statements referred to above present fairly, in all material respects, the consolidated financial position of Kadant Inc. and
subsidiaries at December 31, 2005 and January 1, 2005, and the consolidated results of its operations and its cash flows for each of the three years in the period
ended December 31, 2005 in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when
considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Kadant
Inc.’s internal control over financial reporting as of December 31, 2005, based on criteria established in Internal Control-Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 10, 2006 expressed an unqualified opinion thereon.
Boston, Massachusetts
March 10, 2006
/s/ Ernst & Young LLP
F-2
Table of Contents
Report of Independent Registered Public Accounting Firm
on Internal Control over Financial Reporting
To the Board of Directors and Shareholders of Kadant Inc.:
We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control over Financial Reporting, that Kadant
Inc. maintained effective internal control over financial reporting as of December 31, 2005, based on criteria established in Internal Control—Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Kadant 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 require 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 that 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.
As indicated in the accompanying Management’s Report on Internal Control over Financial Reporting, management’s assessment of and conclusion on the
effectiveness of internal control over financial reporting did not include the internal controls of Kadant Johnson, which is included in the 2005 consolidated
financial statements of Kadant Inc. and constituted 42% and 53% of total assets and net assets, respectively, as of December 31, 2005 and 20% and 27% of
revenues and net income, respectively, for the year then ended. Our audit of internal control over financial reporting of Kadant Inc. also did not include an
evaluation of the internal control over financial reporting of Kadant Johnson.
In our opinion, management’s assessment that Kadant Inc. maintained effective internal control over financial reporting as of December 31, 2005, is fairly
stated, in all material respects, based on the COSO criteria. Also, in our opinion, Kadant Inc. maintained, in all material respects, effective internal control over
financial reporting as of December 31, 2005, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance
sheets of Kadant Inc. and subsidiaries as of December 31, 2005 and January 1, 2005, and the related consolidated statements of operations, comprehensive
income and shareholders’ investment, and cash flows for each of the three years in the period ended December 31, 2005 of Kadant Inc. and subsidiaries and our
report dated March 10, 2006 expressed an unqualified opinion thereon.
Boston, Massachusetts
March 10, 2006
/s/ Ernst & Young LLP
F-3
Table of Contents
Kadant Inc.
(In thousands, except per share amounts)
Revenues (Note 11)
Costs and Operating Expenses:
Cost of revenues
Selling, general, and administrative expenses
Research and development expenses
Restructuring and other costs (income), net (Note 8)
Consolidated Statement of Operations
Operating Income
Interest Income
Interest Expense (Note 6)
Income from Continuing Operations Before Provision for Income Taxes and Minority Interest Expense
Provision for Income Taxes (Note 5)
Minority Interest Expense
Income from Continuing Operations
Loss from Discontinued Operation (net of income tax benefit of $1,608, $2,966, and $800 in 2005, 2004, and 2003,
respectively; Note 9)
Net Income
Basic Earnings (Loss) per Share (Note 12)
Continuing Operations
Discontinued Operation
Net Income
Diluted Earnings (Loss) per Share (Note 12)
Continuing Operations
Discontinued Operation
Net Income
Weighted Average Shares (Note 12)
Basic
Diluted
2005 Financial Statements
2005
$243,713
2004
$194,966
2003
$191,507
149,744
74,617
4,887
(118)
229,130
14,583
1,505
(2,114)
13,974
3,925
184
9,865
(2,988)
6,877
.71
(.21)
.50
.70
(.21)
.49
$
$
$
$
$
119,200
56,334
3,077
9,515
188,126
6,840
1,468
(23)
8,285
2,524
8
5,753
116,539
50,402
4,268
(23)
171,186
20,321
965
(49)
21,237
8,070
44
13,123
(5,099)
654
(1,306)
$ 11,817
.41
(.36)
.05
.40
(.35)
.05
$
$
$
$
.96
(.09)
.87
.94
(.09)
.85
$
$
$
$
$
13,829
14,104
14,071
14,398
13,659
13,959
The accompanying notes are an integral part of these consolidated financial statements.
F-4
Consolidated Balance Sheet
Table of Contents
Kadant Inc.
(In thousands, except share amounts)
Assets
Current Assets:
Cash and cash equivalents
Accounts receivable, less allowances of $2,221 and $1,678
Unbilled contract costs and fees
Inventories
Other current assets
Assets of discontinued operation (Note 9)
Total Current Assets
Property, Plant, and Equipment, at Cost, Net
Other Assets (Note 3)
Intangible Assets
Goodwill
Total Assets
Liabilities and Shareholders’ Investment
Current Liabilities:
Current maturities of long-term obligations (Note 6)
Accounts payable
Accrued payroll and employee benefits
Billings in excess of contract costs and fees
Accrued restructuring costs (Note 8)
Accrued warranty costs
Other current liabilities
Liabilities of discontinued operation (Note 9)
Total Current Liabilities
Other Long-Term Liabilities (Note 3)
Long-Term Obligations (Note 6)
Minority Interest
Commitments and Contingencies (Note 7)
Shareholders’ Investment (Notes 3 and 4):
Preferred stock, $.01 par value, 5,000,000 shares authorized; none issued
Common stock, $.01 par value, 150,000,000 shares authorized; 14,604,520 shares issued
Capital in excess of par value
Retained earnings
Treasury stock at cost, 1,055,756 and 689,407 shares
Deferred compensation
Accumulated other comprehensive items (Note 13)
Total Liabilities and Shareholders’ Investment
The accompanying notes are an integral part of these consolidated financial statements.
F-5
2005 Financial Statements
2005
2004
$ 40,822
41,822
11,603
35,115
11,969
14,030
155,361
32,907
6,856
36,262
124,425
$ 355,811
$
9,000
20,229
14,002
8,032
4,781
2,836
14,436
6,599
79,915
20,726
46,500
1,045
–
146
97,297
136,050
(24,254)
(124)
(1,490)
207,625
$ 355,811
$ 82,089
30,022
10,258
27,316
13,394
15,650
178,729
17,064
11,342
3,694
74,408
$285,237
$
–
21,327
11,261
1,257
10,026
3,582
10,048
7,578
65,079
7,697
–
–
–
146
98,450
129,173
(18,158)
(50)
2,900
212,461
$285,237
Table of Contents
Kadant Inc.
Consolidated Statement of Cash Flows
2005 Financial Statements
(In thousands)
Operating Activities
Net income
Loss from discontinued operation (Note 9)
Income from continuing operations
Adjustments to reconcile income from continuing operations to net cash provided by operating activities:
$
Depreciation and amortization
Provision for (reversal of) losses on accounts receivable
Minority interest expense
Gain on sale of property, plant, and equipment
Deferred income tax expense (Note 5)
Other items
Changes in current accounts, net of effects of acquisition:
Accounts receivable
Unbilled contract costs and fees
Inventories
Other current assets
Accounts payable
Other current liabilities
Net cash provided by continuing operations
Net cash (used in) provided by discontinued operation
Net cash provided by operating activities
Investing Activities
Acquisition, net of cash acquired (Note 2)
Acquisition costs capitalized (paid), net
Acquisition of minority interest in subsidiary
Purchases of property, plant, and equipment
Proceeds from sale of property, plant, and equipment
Other
Net cash used in continuing operations
Net cash provided by (used in) discontinued operation
Net cash used in investing activities
Financing Activities
Proceeds from issuance of short and long-term obligations (Note 6)
Increase in short and long-term obligations (Note 2)
Purchase of Company common stock
Repayment of long-term obligations (Note 6)
Net proceeds from issuance of Company common stock (Note 3)
Payment of debt issuance costs
Net cash provided by (used in) continuing operations
Net cash provided by (used in) discontinued operation
Net cash provided by (used in) financing activities
Exchange Rate Effect on Cash of Continuing Operations
Change in Cash from Discontinued Operation
(Decrease) Increase in Cash and Cash Equivalents from Continuing Operations
Cash and Cash Equivalents at Beginning of Year
Cash and Cash Equivalents at End of Year
See Note 1 for supplemental cash flow information.
The accompanying notes are an integral part of these consolidated financial statements.
F-6
2005
6,877
2,988
9,865
6,931
185
184
(166)
1,511
1,459
(35)
(493)
4,362
542
(4,465)
(817)
19,063
(1,360)
17,703
(103,614)
1,563
(1,129)
(3,245)
507
(501)
(106,419)
5,548
(100,871)
60,000
4,000
(9,116)
(5,522)
1,393
(652)
50,103
–
50,103
(2,498)
(5,704)
(41,267)
82,089
$ 40,822
Revised –
See Note 1
2004
$
654
5,099
5,753
3,604
656
8
(149)
199
363
453
921
1,665
397
(2,630)
1,693
12,933
316
13,249
–
(1,916)
(318)
(2,189)
1,306
(90)
(3,207)
(314)
(3,521)
–
–
(10,261)
(598)
5,493
–
(5,366)
–
(5,366)
3,315
–
7,677
74,412
$ 82,089
Revised –
See Note 1
2003
$ 11,817
1,306
13,123
3,954
(342)
44
(674)
2,899
834
2,701
(4,322)
2,276
(632)
4,058
1,644
25,563
(2,521)
23,042
–
–
–
(2,006)
1,000
(255)
(1,261)
(1,971)
(3,232)
–
–
–
(567)
5,108
–
4,541
–
4,541
5,671
17
30,039
44,373
$ 74,412
Table of Contents
Kadant Inc.
(In thousands)
Comprehensive Income
Net Income
Other Comprehensive Items (Note 13):
Consolidated Statement of Comprehensive Income and
Shareholders’ Investment
Foreign currency translation adjustment
Deferred gain (loss) on hedging instruments (net of tax of $133, $59 and ($96) in 2005, 2004, and 2003,
respectively)
Shareholders’ Investment
Common Stock, $.01 Par Value:
Balance at beginning of year
Activity under employees’ and directors’ stock plans
Balance at end of year
Capital in Excess of Par Value:
Balance at beginning of year
Activity under employees’ and directors’ stock plans
Tax benefit related to employees’ and directors’ stock plans
Balance at end of year
Retained Earnings:
Balance at beginning of year
Net income
Balance at end of year
Treasury Stock, at Cost:
Balance at beginning of year
Purchases of Company common stock
Activity under employees’ and directors’ stock plans
Balance at end of year
Deferred Compensation:
Balance at beginning of year
Issuance of restricted stock under directors’ stock plans (Note 3)
Amortization of deferred compensation
Balance at end of year
Accumulated Other Comprehensive Items (Note 13):
Balance at beginning of year
Other comprehensive items
Balance at end of year
2005 Financial Statements
2005
2004
2003
$
6,877
$
654
$ 11,817
(4,564)
5,326
10,843
$
$
174
(4,390)
2,487
146
–
146
$
$
113
5,439
6,093
(158)
10,685
$ 22,502
$
143
3
146
140
3
143
98,450
(1,276)
123
97,297
94,454
3,288
708
98,450
98,567
(5,374)
1,261
94,454
129,173
6,877
136,050
128,519
654
129,173
116,702
11,817
128,519
(18,158)
(9,116)
3,020
(24,254)
(8,788)
(10,261)
891
(18,158)
(20,901)
–
12,113
(8,788)
(50)
(352)
278
(124)
(31)
(200)
181
(50)
(27)
(122)
118
(31)
2,900
(4,390)
(1,490)
$207,625
(2,539)
5,439
2,900
$212,461
(13,224)
10,685
(2,539)
$ 211,758
The accompanying notes are an integral part of these consolidated financial statements.
F-7
Table of Contents
Kadant Inc.
1. Nature of Operations and Summary of Significant Accounting Policies
Notes to Consolidated Financial Statements
2005 Financial Statements
Nature of Operations
Kadant Inc.’s (the Company) continuing operations include one operating segment, Pulp and Papermaking Systems (Papermaking Systems), and two
separate product lines, Fiber-based Products and Casting Products. Through its Papermaking Systems segment, the Company develops, manufactures, and
markets a range of equipment and products for the global papermaking and paper recycling industries. The Company’s principal products in this segment include
custom-engineered stock-preparation systems and equipment for the preparation of wastepaper for conversion into recycled paper; paper machine accessory
equipment and related consumables important to the efficient operation of paper machines; water-management systems essential for draining, purifying, and
recycling process water; and fluid-handling systems used primarily in the dryer section of the papermaking process and during the production of corrugated
boxboard, metals, plastics, rubber, textiles, and food. Through its Fiber-based Products line, the Company manufactures and sells granules derived from pulp fiber
primarily for use as agricultural carriers and for home lawn and garden applications. The Company also manufactures and sells grey and ductile iron castings
through its Casting Products business.
On October 21, 2005, the Company’s Kadant Composites LLC subsidiary sold substantially all of the assets, comprising its composite building products
business (composites business), to LDI Composites Co. for approximately $11,127,000 in cash and the assumption of $1,444,000 of liabilities, subject to a post-
closing adjustment. The composites business is classified as a discontinued operation in the accompanying consolidated financial statements for all periods
presented. As part of the sale transaction, Kadant Composites LLC retained the warranty obligations associated with products manufactured prior to the sale date.
As of December 31, 2005, the accrued warranty reserve associated with the composites business was $5,276,000. All future activity associated with this warranty
reserve will continue to be classified in the results from the discontinued operation in the accompanying consolidated financial statements.
Company History and Former Relationship with Thermo Electron Corporation
The Company was incorporated in November 1991 to be the successor-in-interest to several papermaking equipment businesses of Thermo Electron
Corporation (Thermo Electron). In November 1992, the Company completed an initial public offering of a portion of its common stock. On July 12, 2001, the
Company changed its name to Kadant Inc. from Thermo Fibertek Inc. Thermo Electron disposed of its remaining equity interest in the Company by means of a
dividend to Thermo Electron shareholders on August 8, 2001 (Spinoff Date). On May 14, 2003, the Company began trading on the New York Stock Exchange
under the ticker symbol “KAI.” Previously, the Company’s common stock traded on the American Stock Exchange under the same symbol.
Principles of Consolidation
The accompanying consolidated financial statements include the accounts of the Company and its wholly and majority-owned subsidiaries. All material
intercompany accounts and transactions have been eliminated.
Fiscal Year
The Company has adopted a fiscal year ending the Saturday nearest December 31. References to 2005, 2004, and 2003 are for the fiscal years ended
December 31, 2005, January 1, 2005, and January 3, 2004, respectively. The Company’s Kadant Lamort subsidiary, based in France, has a fiscal year ending on
November 30 to allow sufficient time for the Company to consolidate the financial statements of that business.
F-8
Table of Contents
Kadant Inc.
1. Nature of Operations and Summary of Significant Accounting Policies (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
Use of Estimates and Critical Accounting Policies
The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities, 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.
Critical accounting policies are defined as those that entail significant judgments and estimates, and could potentially result in materially different results
under different assumptions and conditions. The Company believes that the most critical accounting policies upon which its financial condition depends, and
which involve the most complex or subjective decisions or assessments, concern revenue recognition, accounts receivable, inventories, warranty obligations, and
the valuation of intangible assets and goodwill. A discussion on the application of these and other accounting policies is included in Note 1.
Although the Company makes every effort to ensure the accuracy of the estimates and assumptions used in the preparation of its consolidated financial
statements or in the application of accounting policies, if business conditions were different, or if the Company used different estimates and assumptions, it is
possible that materially different amounts could be reported in the Company’s consolidated financial statements.
Revenue Recognition
The Company recognizes revenue under Securities and Exchange Commission (SEC) Staff Accounting Bulletin (SAB) No. 104, “Revenue Recognition.”
Revenue is generally recognized when products are delivered or services are performed. The Company includes in revenue amounts invoiced for shipping and
handling with the corresponding costs reflected in cost of revenues. When the terms of the sale include customer acceptance provisions, and compliance with
those provisions cannot be demonstrated until customer acceptance, revenues are recognized upon such acceptance.
Due to the significance of the Company’s capital goods and spare parts businesses, most of the Company’s revenue is recognized in accordance with the
accounting policies in the preceding paragraph. However, when a sale arrangement involves multiple elements (e.g., installation), the Company considers the
guidance in Emerging Issues Task Force (EITF) 00-21, “Revenue Arrangements with Multiple Deliverables.” Such transactions are evaluated to determine
whether the deliverables in the arrangement represent separate units of accounting. If equipment and installation do not meet the separation criteria under EITF
00-21, revenues for products sold that require installation for which the installation is essential to functionality, or is not deemed inconsequential or perfunctory,
are recognized upon completion of installation. Revenues for products sold where installation is not essential to functionality, and is deemed inconsequential or
perfunctory, are recognized upon shipment with estimated installation costs accrued.
In addition, revenues and profits on certain long-term contracts are recognized using the percentage-of-completion method. Revenues recorded under the
percentage-of-completion method were $55,590,000 in 2005, $43,742,000 in 2004, and $49,256,000 in 2003. The percentage of completion is determined by
comparing the actual costs incurred to date to an estimate of total costs to be incurred on each contract. If a loss is indicated on any contract in process, a
provision is made currently for the entire loss. The Company’s contracts generally provide for billing of customers upon the attainment of certain milestones
specified in each contract. Revenues earned on contracts in process in excess of billings are classified as unbilled contract costs and fees, and amounts billed in
excess of revenues earned are classified as billings in excess of contract costs and fees in the accompanying balance sheet. There are no significant amounts
included in the accompanying balance sheet that are not expected to be recovered from existing contracts at current contract values, or that are not expected to be
collected within one year, including amounts that are billed but not paid under retainage provisions.
F-9
Table of Contents
Kadant Inc.
1. Nature of Operations and Summary of Significant Accounting Policies (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
Warranty Obligations
The Company provides for the estimated cost of product warranties, primarily using historical information and repair costs at the time product revenue is
recognized. In the Papermaking Systems segment, the Company typically negotiates the terms regarding warranty coverage and length of warranty depending on
the products and applications. While the Company engages in extensive product quality programs and processes, the Company’s warranty obligation is affected
by product failure rates, repair costs, service delivery costs incurred in correcting a product failure, and supplier warranties on parts delivered to the Company.
Should actual product failure rates, repair costs, service delivery costs, or supplier warranties on parts differ from the Company’s estimates, revisions to the
estimated warranty liability would be required. The changes in the carrying amount of product warranties are as follows:
(In thousands)
Balance at Beginning of Year
Provision charged to income
Usage
Other, net (a)
Balance at End of Year
2005
$ 3,582
1,214
(2,009)
49
$ 2,836
2004
$ 3,661
2,663
(2,946)
204
$ 3,582
(a)
Includes $232 of acquired warranty obligation in 2005 and the effects of currency translation.
See Note 9 for warranty information related to the discontinued operation.
Stock-Based Compensation Plans and Pro Forma Stock-Based Compensation Expense
The Company applies Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations in
accounting for its stock-based compensation plans. Accordingly, no accounting recognition is given to stock options granted at fair market value until they are
exercised. Upon exercise, net proceeds, including tax benefits realized, are credited to shareholders’ investment.
As permitted by Statement of Financial Accounting Standards (SFAS) No. 123, “Accounting for Stock-based Compensation,” the Company has elected to
continue to apply APB Opinion No. 25 to account for its stock-based compensation plans through year-end 2005. No stock-based employee compensation cost
related to stock option awards is reflected in net income, as all options granted under the plans had an exercise price equal to the market value of the underlying
common stock on the date of grant. Had compensation cost for awards granted after 1994 under the Company’s stock-based compensation plans been determined
based on the fair value at the grant dates consistent with the method set forth under SFAS No. 123, the effect on certain of the
F-10
Table of Contents
Kadant Inc.
1. Nature of Operations and Summary of Significant Accounting Policies (continued)
Notes to Consolidated Financial Statements
Company’s financial results would have been as follows:
(In thousands, except per share amounts)
Income from Continuing Operations
Loss from Discontinued Operation
Net Income As Reported
Deduct: Total stock-based employee compensation expense determined under the fair-value-based method for all
awards, net of tax
Pro forma net income (loss)
Basic Earnings (Loss) per Share:
As reported:
Income from continuing operations
Net income
Pro forma:
Income from continuing operations
Net income (loss)
Diluted Earnings (Loss) per Share:
As reported:
Income from continuing operations
Net income
Pro forma:
Income from continuing operations
Net income (loss)
2005 Financial Statements
2005
$ 9,865
(2,988)
6,877
2004
$ 5,753
(5,099)
654
2003
$13,123
(1,306)
11,817
(561)
$ 6,316
(2,173)
$(1,519)
(2,043)
$ 9,774
$
$
$
$
$
$
$
$
.71
.50
.67
.46
.70
.49
.66
.45
$
$
$
$
$
$
$
$
.41
.05
.25
(.11)
.40
.05
.25
(.11)
$
$
$
$
$
$
$
$
.96
.87
.81
.72
.94
.85
.79
.70
The weighted average fair value per share of options granted was $8.07 and $8.38 in 2005 and 2004, respectively. There were no options granted in 2003.
The fair value of each option grant was estimated on the grant date using the Black-Scholes option-pricing model, assuming an expected dividend yield of zero
with the following weighted-average assumptions:
Volatility
Risk-Free Interest Rate
Expected Life of Options
2005
42%
4.0%
5 years
2004
44%
2.7%
5 years
The Black-Scholes option-pricing model was developed for use in estimating the fair value of traded options, which have no vesting restrictions and are
fully transferable. In addition, option-pricing models require the input of highly subjective assumptions, including expected stock price volatility. Because the
Company’s employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input
assumptions can materially affect the fair value estimate, in management’s opinion, the existing models do not necessarily provide a reliable single measure of the
fair value of its employee stock options.
F-11
Table of Contents
Kadant Inc.
1. Nature of Operations and Summary of Significant Accounting Policies (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
Income Taxes
In accordance with SFAS No. 109, “Accounting for Income Taxes,” (SFAS 109) the Company recognizes deferred income taxes based on the expected
future tax consequences of differences between the financial statement basis and the tax basis of assets and liabilities, calculated using enacted tax rates in effect
for the year in which the differences are expected to be reflected in the tax return. A tax valuation allowance is established, as needed, to reduce net deferred tax
assets to the amount expected to be realized. In the event it becomes more likely than not that some or all of the deferred tax asset allowances will not be needed,
the valuation allowance will be adjusted.
Prior to the spinoff from Thermo Electron, the Company and Thermo Electron were parties to a tax allocation agreement under which the Company and its
subsidiaries, except its foreign operations, its Fiberprep subsidiary, and in 2000, its Kadant Composites Inc. subsidiary, were included in the consolidated federal
and certain state income tax returns filed by Thermo Electron. The tax allocation agreement provided that, in years in which these entities had taxable income, the
Company would pay to Thermo Electron amounts comparable to the taxes it would have paid if the Company had filed separate tax returns. The tax allocation
agreement terminated as of the Spinoff Date, at which time the Company and Thermo Electron entered into a tax matters agreement. The tax matters agreement
requires, among other things, that the Company file its own income tax returns for tax periods beginning immediately after the Spinoff Date. In addition, the tax
matters agreement requires that the Company indemnify Thermo Electron, but not the shareholders of Thermo Electron, against liability for taxes resulting from
(a) the conduct of the Company’s business following the distribution or (b) the failure of the distribution to Thermo Electron shareholders of shares of the
Company’s common stock or of Viasys Healthcare Inc. (another Thermo Electron spinoff) common stock to continue to qualify as a tax-free spinoff under
Section 355 of the Internal Revenue Code as a result of certain actions that the Company takes following the distribution. Thermo Electron has agreed to
indemnify the Company against taxes resulting from the conduct of Thermo Electron’s business prior to and following the distribution, or from the failure of the
distribution of shares of the Company’s common stock to Thermo Electron shareholders to continue to qualify as a tax-free spinoff other than as a result of some
actions that the Company may take following the distribution. Although not anticipated, if any of the Company’s post-distribution activities cause the distribution
to become taxable, the Company could incur liability to Thermo Electron and/or various taxing authorities, which could adversely affect the Company’s results of
operations, financial position, and cash flows.
Earnings (Loss) per Share
Basic earnings (loss) per share have been computed by dividing net income (loss) by the weighted average number of shares outstanding during the year.
Except where the effect would have been antidilutive to income from continuing operations, diluted earnings (loss) per share have been computed assuming the
exercise of stock options, as well as their related income tax effects.
Cash and Cash Equivalents
At year-end 2005 and 2004, the Company’s cash equivalents included investments in money market funds and other marketable securities of its domestic
and foreign subsidiaries, which had maturities of three months or less at the date of purchase. The carrying amounts of cash equivalents approximate their fair
values due to the short-term nature of these instruments.
F-12
Table of Contents
Kadant Inc.
1. Nature of Operations and Summary of Significant Accounting Policies (continued)
Notes to Consolidated Financial Statements
Supplemental Cash Flow Information
(In thousands)
Cash Paid for Interest
Cash Paid for Income Taxes
Non-Cash Investing Activities (Note 2):
Fair Value of Assets Acquired
Cash Paid for Acquired Business
Obligation to be Paid for Acquired Business
Liabilities Assumed of Acquired Business
Non-Cash Financing Activities:
Issuance of Restricted Stock
2005 Financial Statements
2005
$
$
2,096
2,422
2004
$
37
$2,411
2003
$
61
$4,870
$ 158,694
(106,146)
(4,000)
$ 48,548
$
$
–
–
–
–
$
$
–
–
–
–
$
352
$ 200
$ 122
In 2005, the Company separately disclosed the operating, investing, and financing portions of the cash flows attributable to its discontinued operation,
which in prior periods were reported on a combined basis as a single amount.
Inventories
Inventories are stated at the lower of cost (on a first-in, first-out; last-in, first-out; or weighted average basis) or market value and include materials, labor,
and manufacturing overhead. The components of inventories are as follows:
(In thousands)
Raw Materials and Supplies
Work in Process
Finished Goods (includes $328 and $611 at customer locations)
2005
$19,971
5,605
9,539
$35,115
2004
$12,849
6,047
8,420
$27,316
The Company periodically reviews its quantities of inventories on hand and compares these amounts to the expected usage of each particular product or
product line. The Company records as a charge to cost of revenues any amounts required to reduce the carrying value of inventories to net realizable value.
The last-in, first-out inventory method is used to value approximately 15% of inventory at year-end 2005. If the first-in, first-out method had been used, it
would have increased inventory by $88,000 as of year-end 2005.
Property, Plant, and Equipment
The costs of additions and improvements are capitalized, while maintenance and repairs are charged to expense as incurred. The Company provides for
depreciation and amortization primarily using the straight-line method over the estimated useful lives of the property as follows: buildings, 10 to 40 years;
machinery and
F-13
Table of Contents
Kadant Inc.
1. Nature of Operations and Summary of Significant Accounting Policies (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
equipment, 2 to 10 years; and leasehold improvements, the shorter of the term of the lease or the life of the asset. Property, plant, and equipment consists of the
following:
(In thousands)
Land
Buildings
Machinery, Equipment, and Leasehold Improvements
Less: Accumulated Depreciation and Amortization
2005
$ 4,719
28,146
52,803
85,668
52,761
$32,907
2004
$ 2,769
20,341
45,114
68,224
51,160
$17,064
Depreciation and amortization expense was $5,019,000, $2,931,000, and $3,281,000 in 2005, 2004, and 2003, respectively.
Intangible Assets
Intangible assets in the accompanying balance sheet includes the costs of acquired intellectual property, tradename, patents, customer relationships, non-
compete agreements and other specifically identifiable intangible assets. An intangible asset of $8,100,000 associated with the acquisition of the Johnson
tradename has an indefinite life and is not being amortized. The remaining intangible assets are amortized using the straight-line method over periods ranging
from 3 to 20 years with a weighted-average amortization period of 15 years. The intangible asset lives have been determined based on the anticipated period over
which the Company will derive future cash flow benefits from the intangible assets. The Company has considered the effects of legal, regulatory, contractual,
competitive, and other economic factors in determining these useful lives.
Acquired intangible assets are as follows:
(In thousands)
December 31, 2005
Customer relationships
Intellectual property
Tradename
Non-compete agreements
Distribution Network
Licensing agreements
January 1, 2005
Intellectual property
Non-compete agreements
Gross
$15,700
13,057
8,100
3,119
2,400
400
$42,776
$ 5,217
3,079
$ 8,296
Accumulated
Amortization
$
$
$
$
(674)
(3,074)
–
(2,663)
(90)
(13)
(6,514)
(2,251)
(2,351)
(4,602)
Net
$15,026
9,983
8,100
456
2,310
387
$36,262
$ 2,966
728
$ 3,694
Amortization of acquired intangible assets was $1,912,000 in 2005 and $673,000 in 2004 and 2003. The estimated future amortization expense of acquired
intangible assets is $2,624,000 in 2006; $2,449,000 in 2007; $2,266,000 in 2008; $2,217,000 in 2009 and 2010, and $16,389,000 thereafter.
F-14
Table of Contents
Kadant Inc.
1. Nature of Operations and Summary of Significant Accounting Policies (continued)
Notes to Consolidated Financial Statements
Goodwill
The changes in the carrying amount of goodwill in 2005 and 2004 are as follows:
(In thousands)
Balance at Beginning of Year
Increase due to Kadant Johnson acquisition (Note 2)
Increase due to Purchase of Minority Interest in Subsidiary
Currency Translation Adjustment
2005 Financial Statements
2005
$ 74,408
50,467
861
(1,311)
$124,425
2004
$73,536
–
–
872
$74,408
Goodwill as of year-end 2005 and 2004 relates entirely to the Company’s Pulp and Papermaking Systems segment.
During the third quarter of 2005, the Company acquired the remaining minority interest in one of its Kadant Johnson subsidiaries for $1,129,000 in cash,
and recorded $861,000 of goodwill.
Impairment of Long-Lived Assets
The Company evaluates the recoverability of goodwill and intangible assets with indefinite useful lives annually in the fourth quarter, or more frequently if
events or changes in circumstances, such as a decline in sales, earnings, or cash flows, or material adverse changes in the business climate, indicate that the
carrying value of an asset might be impaired. The Company completed its annual impairment test in the fourth quarter of 2005 using the estimates from its long-
range forecasts. No adjustment was required to the carrying value of its goodwill or other indefinite-lived intangible assets based on the analysis performed.
The Company assesses its long-lived assets other than goodwill and indefinite-lived intangible assets for impairment whenever facts and circumstances
indicate that the carrying amounts may not be fully recoverable. To analyze recoverability, the Company projects undiscounted net future cash flows over the
remaining lives of such assets. If these projected cash flows were to be less than the carrying amounts, an impairment loss would be recognized, resulting in a
write-down of the assets with a corresponding charge to earnings. The impairment loss would be measured based upon the difference between the carrying
amounts and the fair values of the assets.
Foreign Currency Translation
All assets and liabilities of the Company’s foreign subsidiaries are translated at year-end exchange rates, and revenues and expenses are translated at
average exchange rates for each quarter in accordance with SFAS No. 52, “Foreign Currency Translation.” Resulting translation adjustments are reflected in the
“accumulated other comprehensive items” component of shareholders’ investment (see Note 13). Foreign currency transaction gains and losses are included in
the accompanying consolidated statement of operations and are not material for the three years presented.
Derivatives
The Company uses derivative instruments primarily to reduce its exposure to changes in currency exchange rates and interest rates. When the Company
enters into a derivative contract, the Company makes a determination as to whether the transaction is deemed to be a hedge for accounting purposes. For contracts
deemed to be a hedge, the Company formally documents the relationship between the derivative instrument and the risk being
F-15
Table of Contents
Kadant Inc.
1. Nature of Operations and Summary of Significant Accounting Policies (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
hedged. In this documentation, the Company specifically identifies the asset, liability, forecasted transaction, cash-flow, or net investment that has been
designated as the hedged item, and evaluates whether the derivative instrument is expected to reduce the risks associated with the hedged item. To the extent these
criteria are not met, the Company does not use hedge accounting for the derivative.
SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended, requires that all derivatives be recognized on the balance
sheet at fair value. For derivatives designated as cash flow hedges, the related gains or losses on these contracts are deferred as a component of accumulated other
comprehensive items. These deferred gains and losses are recognized in the period in which the underlying anticipated transaction occurs. For derivatives
designated as fair value hedges, the unrealized gains and losses resulting from the impact of currency exchange rate movements are recognized in earnings in the
period in which the exchange rates change and offset the currency gains and losses on the underlying exposures being hedged. The Company performs an
evaluation of the effectiveness of the hedge both at inception and on an ongoing basis. The ineffective portion of a hedge, if any, and changes in the fair value of a
derivative not deemed to be a hedge, are recorded in the consolidated statement of operations.
The Company entered into a five-year interest rate swap agreement in 2005 to hedge a portion of its variable rate debt and has designated this agreement as
a cash-flow hedge of the underlying obligation. The fair value of the interest rate swap agreement is included in other assets and in accumulated other
comprehensive items (net of tax). The Company has structured this interest rate swap agreement to be 100% effective and as a result, there is no current impact to
earnings resulting from hedge ineffectiveness.
The Company uses forward currency exchange contracts primarily to hedge certain operational (“cash flow” hedges) and balance sheet (“fair value”
hedges) exposures resulting from fluctuations in currency exchange rates. Such exposures primarily result from portions of the Company’s operations and assets
that are denominated in currencies other than the functional currencies of the businesses conducting the operations or holding the assets. The Company enters into
forward currency exchange contracts to hedge anticipated product sales and recorded accounts receivable made in the normal course of business, and accordingly,
the hedges are not speculative in nature. The fair value of these contracts at year-end 2005 and 2004, and the net impact of the related gains and losses on its
results of operations, including the effect of the underlying hedged items, were not material in any period presented.
Recent Accounting Pronouncements
Share-Based Payment
On December 16, 2004, the Financial Accounting Standards Board (FASB) issued SFAS No. 123 (revised 2004), “Share-Based Payment” (SFAS 123R).
SFAS 123R replaces SFAS No. 123, “Accounting for Stock-Based Compensation” (SFAS 123), supersedes APB Opinion No. 25, “Accounting for Stock Issued to
Employees,” and amends SFAS No. 95 “Statement of Cash Flows.” SFAS 123R requires all share-based payments to employees, including grants of employee
stock options, to be recognized in the financial statements based on their fair values. The Company is required to adopt SFAS 123R on January 1, 2006. The pro
forma disclosures previously permitted under SFAS 123 will no longer be an alternative to financial statement recognition. As permitted by SFAS 123, prior to
January 1, 2006, the Company accounted for share-based payments to employees using APB Opinion No. 25’s intrinsic value method and, as such, recognized no
compensation cost for employee stock options. The Company will apply the “modified prospective application” under SFAS 123R. Based on the unvested options
outstanding as of December 31, 2005, the Company expects that the adoption of this standard will result in additional compensation expense of approximately
$353,000 in 2006. Compensation expense would also be impacted by any options granted in the future.
F-16
Table of Contents
Kadant Inc.
1. Nature of Operations and Summary of Significant Accounting Policies (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
Inventory Costs
In November 2004, the FASB issued SFAS No. 151, “Inventory Costs, an amendment of ARB No. 43, Chapter 4,” which requires that abnormal amounts
of idle facility expense, freight, handling costs and wasted material be recognized as current-period charges. This Statement also introduces the concept of
“normal capacity” and requires the allocation of fixed production overheads to inventory based on the normal capacity of the production facilities. Unallocated
overheads must be recognized as an expense in the period in which they are incurred. The Company is required to adopt SFAS No. 151 on January 1, 2006 and
does not expect the adoption to have a material effect on its consolidated financial statements.
Reclassifications
Certain reclassifications have been made to the prior years’ presentations to conform to the 2005 presentation.
2. Acquisition
On May 11, 2005, the Company acquired all the outstanding stock of The Johnson Corporation (Kadant Johnson), a leading supplier of fluid-handling
systems and equipment, including steam and condensate systems, components, and controls. These products are used primarily in the dryer section of the
papermaking process and during the production of corrugated boards, metals, plastics, rubber, textiles, and food. Kadant Johnson was a privately held company
based in Three Rivers, Michigan, with approximately 575 employees and annual revenues in 2004 of $76,092,000. The acquisition of Kadant Johnson allows the
Company to offer Kadant Johnson’s complementary products and extends the Company’s technology-based offerings in the paper industry, while allowing it to
capitalize on Kadant Johnson’s significant aftermarket business. The purchase price for the acquisition was $101,458,000 in cash, subject to a post-closing
adjustment, and $4,688,000 of acquisition-related costs, of which $1,916,000 was paid in 2004 and $2,772,000 was incurred in 2005. In addition to the cash
consideration, the Company issued a letter of credit to the sellers for $4,000,000 related to certain tax assets of Kadant Johnson, the value of which the Company
expects to realize. This amount is subject to adjustment based on The Johnson Corporation’s final tax return for 2005. This additional consideration, of which
$600,000 is included in other current liabilities and $3,400,000 is included in other long-term liabilities in the accompanying consolidated balance sheet, is due
over the next five years as follows: 15% per year in 2006, 2007, 2008, and 2009, and 40% in 2010.
The parties also agreed in the purchase agreement to an earn-out provision, based on the achievement of certain revenue targets between the closing date
(May 11, 2005) and July 1, 2006, which could increase the purchase price by up to $8,000,000. This contingent consideration will be accounted for as an increase
in goodwill if and when the revenue targets are achieved. Based on current forecasts, the Company does not believe that a significant payout under the earn-out
provision is likely.
To fund a portion of the purchase price, the Company entered into a term loan and revolving credit facility (see Note 6 for further discussion).
Pursuant to the purchase agreement, at the closing of the acquisition $12,750,000 of the purchase price was deposited into an escrow fund, primarily to
secure certain indemnification obligations of the sellers. On the 18-month anniversary of the closing, the balance of the escrow fund in excess of $2,000,000 and
amounts held for unresolved claims will be distributed to the sellers. The remainder of the escrow fund will be held until the fifth anniversary of the closing to
satisfy certain tax, environmental, and certain other indemnity claims.
F-17
Table of Contents
Kadant Inc.
2. Acquisition (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
The following table summarizes the purchase method of accounting for the acquisition and the estimated fair values of the assets acquired and the liabilities
assumed (in thousands):
Allocation of Purchase Price as of December 31, 2005:
Cash and Cash Equivalents
Accounts Receivable, Net
Notes Receivable
Inventory
Other Current Assets
Property, Plant, and Equipment
Long-Term Deferred Tax Assets
Other Assets
Intangible Assets
Goodwill
Total Assets Acquired
Accounts Payable
Other Current Liabilities
Short- and Long-Term Debt
Long-Term Deferred Tax Liabilities
Other Liabilities
Minority Interest
Total Liabilities Assumed
Net Assets Acquired
Consideration:
Cash
Debt
Short- and Long-Term Obligations
Acquisition Costs
Total Consideration
$
4,071
17,742
5,577
13,276
5,492
18,551
8,381
657
34,480
50,467
$ 158,694
6,751
$
15,567
3,286
17,087
4,727
1,130
48,548
$ 110,146
$
41,458
60,000
4,000
4,688
$ 110,146
The total consideration of $110,146,000 for Kadant Johnson, net of cash acquired of $4,071,000, was $106,075,000. Shortly after the closing date, the
Company received $2,461,000 in cash related to the settlement of certain of Kadant Johnson’s net assets acquired, which had the effect of reducing the
“acquisition, net of cash acquired” amount in investing activities to $103,614,000 in the accompanying consolidated statement of cash flows.
The acquisition was recorded under the purchase method of accounting and the operating results of Kadant Johnson have been included in the
accompanying consolidated financial statements from the acquisition date of May 11, 2005. The allocation of the purchase price was based on estimates of the
fair value of the net assets acquired and is subject to adjustment upon finalization of the purchase price allocation. The estimated fair values of current assets,
excluding inventory, and current liabilities approximate their historical costs in the hands of the seller on the date of acquisition due to their short-term nature.
Inventory and property, plant, and equipment were recorded at estimated fair values based primarily on cost and market approaches.
F-18
Table of Contents
Kadant Inc.
2. Acquisition (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
The following are the identifiable intangible assets acquired and the respective periods over which the assets will be amortized on a straight-line basis:
(In thousands)
Intellectual property
Customer relationships
Distribution network
Tradename
Licensing agreements
Non-compete agreements
* approximate weighted-average lives
Amount
$ 7,840
15,700
2,400
8,100
400
40
$34,480
Life
11 years*
17 years*
17 years
Indefinite
20 years
3 years
The amounts assigned to identifiable intangible assets acquired were based on their respective fair values determined as of the acquisition date by an
outside valuation consultant, using income and cost approaches. As part of the acquisition, the Company acquired the Johnson tradename valued at $8,100,000.
The Company has no plan or intention to stop using the Johnson tradename and does not foresee any legal, regulatory, contractual, competitive, economic, or
other factors that would limit the remaining useful life of the Johnson tradename and therefore, has assigned it an indefinite useful life.
The excess of the purchase price over the tangible and identifiable intangible assets was recorded as goodwill and amounted to approximately $50,467,000,
none of which is deductible for tax purposes. The Company’s acquisitions have historically been made at prices above the fair value of the acquired assets,
resulting in goodwill, due to the expectation of synergies of combining the businesses. The synergies expected as a result of the Kadant Johnson acquisition
include the use of the Company’s existing infrastructure such as its sales force, distribution channels and customer relations to expand sales of Kadant Johnson’s
products; use of Kadant Johnson’s infrastructure to cost effectively expand sales of the Company’s products; and elimination of duplicative functions. In
accordance with current accounting standards, the goodwill will not be amortized and will be tested for impairment annually (in the fourth quarter of the
Company’s fiscal year) as required by Statement of Financial Accounting Standards (SFAS) No. 142, “Goodwill and Other Intangible Assets.”
The Company is evaluating potential restructuring actions that may be undertaken at Kadant Johnson. Such actions may include rationalizing product lines
and consolidating facilities. The Company will record the cost of restructuring actions at Kadant Johnson as an increase to goodwill when decisions are made as
to the extent of such actions. The Company expects to finalize its restructuring plan no later than one year following completion of the Kadant Johnson
acquisition.
The following condensed consolidated statement of operations is presented as if the acquisition of Kadant Johnson had been made at the beginning of the
periods presented. This information is not necessarily indicative of what the actual condensed combined statement of operations of the Company and Kadant
Johnson would have been for the periods presented, nor does it purport to represent the future combined results of operations of the Company and Kadant
Johnson.
F-19
Notes to Consolidated Financial Statements
Table of Contents
Kadant Inc.
2. Acquisition (continued)
(In thousands)
Revenues
Operating Income *
Income from Continuing Operations
Loss from Discontinued Operation
Net Loss
Basic Earnings (Loss) per Share:
Income from Continuing Operations
Net Loss
Diluted Earnings (Loss) per Share:
Income from Continuing Operations
Net Loss
2005 Financial Statements
2005
$272,778
3,912
462
(2,988)
$ (2,526)
$
$
$
$
.03
(.18)
.03
(.18)
2004
$271,058
10,339
4,902
(5,099)
(197)
$
$
$
$
$
.35
(.01)
.34
(.01)
* Included in operating income in 2005 was $11.0 million in one-time bonuses and approximately $3.1 million in acquisition-related costs that Kadant Johnson
incurred prior to the acquisition.
3. Employee Benefit Plans
Stock-Based Compensation Plans
General
The Company maintains stock-based compensation plans primarily for its key employees and directors, although the plans permit awards to others
expected to make significant contributions to the future of the Company. The plans authorize the compensation committee of the Company’s board of directors
(the board committee) to award a variety of stock and stock-based incentives, such as restricted stock, nonqualified and incentive stock options, stock bonus
shares, or performance-based shares. The award recipients and the terms of awards, including price, granted under these plans are determined by the board
committee. Outstanding options granted under these plans prior to 2001 are nonqualified options that are exercisable immediately, but are subject to provisions
similar to vesting that restrict transfer and afford the Company the right to repurchase the shares at the exercise price upon certain events. The restrictions and
repurchase rights for these options generally lapse over five to ten years and the terms of the options may range from five to twelve years. Options granted under
these plans starting in 2001 and after are nonqualified options that vest over three years and are not exercisable until vested. To date, all options have been granted
at an exercise price equal to the fair market value of the Company’s common stock on the date of grant. Upon a change-of-control, as defined in the plans, all
options or other awards become fully vested and all restrictions lapse.
Restricted Stock
In April 2005 and April 2004, the Company awarded 7,500 shares and 10,000 shares, respectively, of its restricted common stock with an aggregate value
of $137,000 and $200,000, respectively, to its outside directors pursuant to its amended and restated Directors’ Restricted Stock Plan. In June 2005, the Company
awarded 10,000 shares of its restricted common stock with an aggregate value of $215,000 to its outside directors under its stock-based incentive plan on terms
identical to the Directors’ Restricted Stock Plan. The shares are restricted
F-20
Table of Contents
Kadant Inc.
3. Employee Benefit Plans (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
from resale for five years from the date of award. The Company has recorded the fair value of the restricted stock awards as deferred compensation in the
accompanying consolidated balance sheet, and amortizes these amounts over the vesting period.
Stock Options
The Company had 234,000 options available for grant under these plans at December 31, 2005. A summary of the Company’s stock option activity is as
follows:
(Shares in thousands)
Options Outstanding, Beginning of Year
Granted
Exercised
Forfeited
Options Outstanding, End of Year
Options Exercisable
2005
2004
2003
Number
of
Shares
1,771
140
(88)
(124)
1,699
1,528
Weighted
Average
Exercise
Price
$ 16.39
19.17
13.22
29.67
$ 15.82
$ 15.28
Number
of
Shares
2,135
8
(297)
(75)
1,771
1,565
Weighted
Average
Exercise
Price
$ 16.52
19.84
12.50
35.95
$ 16.39
$ 16.52
Number
of
Shares
2,736
–
(499)
(102)
2,135
1,404
A summary of the status of the Company’s stock options at December 31, 2005, is as follows:
Range of
Exercise Prices
$ 4.38 – $ 9.40
11.62 – 16.00
18.07 – 28.15
37.70 – 57.25
93.33 – 110.80
$ 4.38 – $110.80
Employee Stock Purchase Plan
Options Outstanding
Options Exercisable
Number
of Shares
(In thousands)
76
1,371
192
58
2
1,699
Weighted
Average
Remaining
Contractual
Life
2.0 years
2.9 years
5.6 years
3.0 years
2.0 years
3.2 years
Weighted
Average
Exercise
Price
7.35
$
13.95
20.13
54.11
103.68
$ 15.82
Number
of Shares
(In thousands)
63
1,369
46
48
2
1,528
Weighted
Average
Remaining
Contractual
Life
1.9 years
2.9 years
3.3 years
2.9 years
2.0 years
2.9 years
Weighted
Average
Exercise
Price
$ 16.26
–
12.12
31.18
$ 16.52
$ 17.76
Weighted
Average
Exercise
Price
7.34
$
13.95
22.41
53.57
104.13
$ 15.28
Substantially all of the Company’s full-time U.S. employees are eligible to participate in its employee stock purchase plan. Under the plan, shares of the
Company’s common stock may be purchased at a 15% discount from the fair market value at the beginning or end of the purchase period, whichever is lower.
Shares purchased under the plan are subject to a one-year resale restriction and are purchased through payroll deductions of up to 10% of each participating
employee’s gross wages. For the 2005, 2004, and 2003 plan years, the Company issued 14,775 shares, 15,152 shares, and 20,179 shares, respectively, of its
common stock under this plan.
F-21
Table of Contents
Kadant Inc.
3. Employee Benefit Plans (continued)
401(k) Savings Plan
Notes to Consolidated Financial Statements
2005 Financial Statements
The majority of the Company’s U.S. subsidiaries participate in the Company’s 401(k) retirement savings plan. Contributions to the plan are made by both
the employee and the Company. Company contributions are based upon the level of employee contributions. The Company contributed and charged to expense
$603,000, $634,000, and $595,000 related to the 401(k) plan in 2005, 2004, and 2003, respectively.
Profit-Sharing Plan
One of the Company’s U.S. subsidiaries has adopted a profit-sharing plan under which the Company annually contributes approximately 10% of the
subsidiary’s pre-tax income before profit-sharing expense. All contributions are immediately vested. Another of the Company’s U.S. subsidiaries has a profit
sharing plan that requires a minimum annual Company contribution of 3% of eligible employee compensation and allows for an additional contribution of up to
12% of eligible compensation at the discretion of the Company. Minimum annual contributions of 3% of gross compensation vest immediately while
contributions in excess of 3% of gross compensation vest ratably over seven years. For these plans, the Company contributed and charged to expense
approximately $1,436,000, $431,000, and $359,000 in 2005, 2004, and 2003, respectively.
Defined Benefit Pension Plan and Post-Retirement Welfare Benefits Plan
The Company’s Kadant Web Systems subsidiary has a noncontributory defined benefit retirement plan. Benefits under the plan are based on years of
service and employee compensation. Funds are contributed to a trustee as necessary to provide for current service and for any unfunded projected benefit
obligation over a reasonable period. Effective December 31, 2005, this plan was closed to new participants. This same subsidiary has a post-retirement welfare
benefits plan (included in the table below in “Other Benefits”). No future retirees are eligible for this post-retirement welfare benefits plan, and the plans include
limits on the subsidiary’s contributions.
The Company’s Kadant Lamort subsidiary sponsors a defined benefit pension plan, which is included in the table below in “Other Benefits.” Benefits
under this plan are based on years of service and projected employee compensation.
The Company’s Kadant Johnson subsidiary also offers a post-retirement welfare benefit plan (included in the table below in “Other Benefits”) to its U.S.
employees upon attainment of eligible retirement age.
F-22
Table of Contents
Kadant Inc.
3. Employee Benefit Plans (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
The following table summarizes the change in the benefit obligation; the change in plan assets; the funded status; and reconciliation to the amounts
recognized in the balance sheets for the pension benefits and other benefits plans. The measurement date for all items set forth below is the last day of the fiscal
year presented.
(In thousands)
Change in Benefit Obligation:
Benefit obligation at beginning of year
Benefit obligation acquired
Service cost
Interest cost
Curtailment gain
Actuarial loss (gain)
Benefits paid
Effect of currency translation
Benefit obligation at end of year
Change in Plan Assets:
Fair value of plan assets at beginning of year
Actual return on plan assets
Employer contribution
Benefits paid
Fair value of plan assets at end of year
Unfunded status
Unrecognized net actuarial loss (gain)
Unrecognized prior service cost (income)
Effect of currency translation
Net amount recognized
Amounts Recognized in the Balance Sheet Consist of:
Prepaid benefit cost (a)
Accrued benefit cost (b)
Net amount recognized
Accumulated benefit obligation as of year-end
(a) Included in other assets in the accompanying consolidated balance sheet.
(b) Included in other long-term liabilities in the accompanying consolidated balance sheet.
F-23
Pension Benefits
2005
2004
Other Benefits
2005
2004
$17,244
–
715
1,007
–
688
(702)
–
$18,952
$16,874
866
–
(702)
$17,038
$ (1,914)
3,023
60
–
$ 1,169
$ 1,169
–
$ 1,169
$15,787
$16,266
–
640
967
–
2
(631)
–
$17,244
$16,470
1,035
–
(631)
$16,874
$ (370)
1,797
106
–
$ 1,533
$ 1,533
–
$ 1,533
$14,530
$ 3,309
4,535
295
336
(828)
(206)
(421)
(280)
$ 6,740
$
–
–
421
(421)
$
–
$(6,740)
(37)
(405)
–
$(7,182)
$
–
(7,182)
$(7,182)
$ 1,326
$ 2,802
–
107
144
–
303
(278)
231
$ 3,309
$
–
–
278
(278)
$
–
$(3,309)
689
(463)
16
$(3,067)
$
–
(3,067)
$(3,067)
$ 2,018
Table of Contents
Kadant Inc.
3. Employee Benefit Plans (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
The weighted-average assumptions used to determine the benefit obligation as of year-end were as follows:
Discount rate
Rate of compensation increase
(In thousands)
Components of Net Periodic Benefit Cost:
Service cost
Interest cost
Expected return on plan assets
Recognized net actuarial loss
Amortization of prior service cost (income)
Net periodic benefit cost
Pension Benefits
Other Benefits
2005
5.75%
4.00%
2004
6.00%
4.00%
2005
4.95%
2.00%
2004
4.95%
2.50%
2005
Pension Benefits
2004
2003
2005
Other Benefits
2004
$
715
1,007
(1,404)
–
46
364
$
$
640
967
(1,370)
–
47
284
$
$
625
1,026
(1,268)
48
46
477
$
$ 295
336
–
36
(58)
$ 609
$ 107
144
–
36
(58)
$ 229
2003
$ 98
158
–
40
(41)
$ 255
The weighted-average assumptions used to determine net periodic benefit cost were as follows:
Discount rate
Expected long-term return on plan assets
Rate of compensation increase
Pension Benefits
Other Benefits
2005
2004
2003
6.00%
8.50%
4.00%
6.25%
8.50%
4.00%
6.75%
8.75%
5.00%
2005
5.25%
–
2.00%
2004
4.82%
–
2.50%
2003
5.21%
–
1.50%
In developing the overall expected long-term return on plan assets assumption, a building block approach was used in which rates of return in excess of
inflation were considered separately for equity securities, debt securities, and other assets. The excess returns were weighted by the representative target
allocation and added along with an appropriate rate of inflation to develop the overall expected long-term return on plan assets assumption. The Company
believes this determination is consistent with SFAS No. 87, “Employers’ Accounting for Pensions.”
Assumed weighted-average healthcare cost trend rates* as of year-end were as follows:
Healthcare cost trend rate assumed for next year
Ultimate healthcare cost trend rate
Year that the assumed rate reaches ultimate rate
* See Information and Assumptions for the Post-Retirement Welfare Benefits Plan at the end of Note 3 for more detail.
F-24
2005
7.65%
4.72%
2011
2004
11.00%
0.00%
2012
Table of Contents
Kadant Inc.
3. Employee Benefit Plans (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
Assumed healthcare cost trend rates can have a significant effect on the amounts reported for healthcare benefits. A one-percentage point change in
assumed healthcare cost trend rates would have the following effects:
(In thousands)
Effect on total of service and interest cost components—(expense) income
Effect on post-retirement benefit obligation
Plan Assets
1 Percentage
Point Increase
(96)
$
(703)
$
1 Percentage
Point Decrease
75
$
564
$
For the Kadant Web Systems noncontributory defined benefit retirement plan, the weighted-average asset allocation at December 31, 2005, and January 1,
2005, by asset category, is as follows:
Asset Category
Equity securities
Debt securities
Other
Total
2005
46%
44%
10%
100%
2004
55%
35%
10%
100%
Kadant Web Systems has developed an investment policy for the noncontributory defined benefit retirement plan. The investment strategy is to emphasize
total return, that is, the aggregate return from capital appreciation and dividend and interest income. The primary objective of the investment management for the
plan’s assets is the emphasis on consistent growth, specifically, growth in a manner that protects the plan’s assets from excessive volatility in market value from
year to year. The investment policy takes into consideration the benefit obligations, including timing of distributions.
The primary objective for the plan is to provide long-term capital appreciation through investment in equity and debt securities. The following target asset
allocation has been established for the plan:
Asset Category
Equity securities
Debt securities
Other
Total
Minimum
Neutral
Maximum
40%
30%
5%
50%
40%
10%
100%
60%
50%
15%
All equity securities must be drawn from recognized securities exchanges. Debt securities must be weighted to reflect a portfolio average maturity of not
more than ten years, with average benchmark duration of five years. The credit quality must equal or exceed high investment grade quality (“BAA” or better).
Cash Flows
Contributions
No cash contributions are expected for the Kadant Web Systems noncontributory defined benefit retirement plan in 2006. For the remaining pension and
post-retirement welfare benefits plans, no cash contributions other than funding current benefit payments are expected in 2006.
F-25
Table of Contents
Kadant Inc.
3. Employee Benefit Plans (continued)
Estimated Future Benefit Payments
Notes to Consolidated Financial Statements
2005 Financial Statements
The following benefit payments, which reflect future service as appropriate, are expected to be paid. The benefit payments are based on the same
assumptions used to measure the Company’s benefit obligation at year-end 2005.
(In thousands)
2006
2007
2008
2009
2010
2011-2015
Pension
Benefits
$ 772
889
898
927
1,058
5,783
Other
Benefits
$ 478
362
360
394
417
2,591
Information and Assumptions for the Post-Retirement Welfare Benefits Plan
Kadant Web Systems post-retirement welfare benefits plan
All eligible retirees are currently participating in the Kadant Web Systems post-retirement welfare benefits plan, with no future retirees eligible to
participate. Effective September 1, 2003, Kadant Web Systems capped its monthly contribution to the plan at $358 per participant. For the majority of the retirees
in the plan, no healthcare cost trend rate is assumed, as the Company cap applies. For the remainder, the healthcare cost trend rate is assumed to be 11% in 2005,
decreasing to an ultimate rate of 0% in 2012.
On December 8, 2003, Medicare reform legislation was enacted, providing a Medicare prescription drug benefit beginning in 2006 and federal subsidies to
employers who provide drug coverage to retirees. As Kadant Web Systems did not apply for the subsidy for the plan year beginning January 1, 2006, and plans
being offered in 2006 do not at this time appear likely to contribute to a change in expected participation of prescription drug coverage use, no change in
assumptions has been adopted.
Kadant Johnson post-retirement welfare benefits plan
All eligible retirees are currently participating in the Kadant Johnson post-retirement welfare benefits plan. Kadant Johnson pays 75% of all plan costs for
retirees with a retirement date prior to January 1, 2005, and 50% of all plan costs for retirees with a retirement date after January 1, 2005, with no limits on its
contributions up to annual employee and plan stop loss limitations. The medical healthcare cost trend rate is assumed to be 8% in 2005, decreasing to an ultimate
rate of 5% in 2011.
On December 8, 2003, Medicare reform legislation was enacted, providing a Medicare prescription drug benefit beginning in 2006 and federal subsidies to
employers who provide drug coverage to retirees. Kadant Johnson applied for the federal subsidy during the fourth quarter of 2005. The effect of the anticipated
subsidy was recognized as of December 31, 2005. The accumulated post-retirement benefit obligation decreased by $1,005,000 and was recognized as an
actuarial gain in accordance with FASB Staff Position No. 106-2.
The following subsidy payments are expected to be received:
(In thousands)
2006
2007
2008
2009
2010
2011-2015
F-26
Expected
Part D
Subsidy
32
$
33
34
37
39
227
Table of Contents
Kadant Inc.
3. Employee Benefit Plans (continued)
Other Retirement Plans
Notes to Consolidated Financial Statements
2005 Financial Statements
Certain of the Company’s subsidiaries offer other retirement plans. The majority of these subsidiaries offer defined contribution plans. Company
contributions to these plans are based on formulas determined by the Company. For these plans, the Company contributed and charged to expense approximately
$751,000, $323,000, and $265,000 in 2005, 2004, and 2003, respectively.
4. Preferred and Common Stock
Preferred Stock
The Company’s Certificate of Incorporation authorizes up to 5,000,000 shares of preferred stock, $.01 par value per share, for issuance by the Company’s
board of directors without further shareholder approval. The board of directors has also designated 15,000 shares of such preferred stock as Series A junior
participating preferred stock for issuance under the Company’s Shareholder Rights Plan (see below). No such preferred stock has been issued by the Company.
Common Stock
The Company has a Shareholder Rights Plan under which one right was distributed at the close of business on August 6, 2001 for each share of the
Company’s common stock outstanding at that time. The rights plan is designed to provide shareholders with fair and equal treatment in the event of an unsolicited
attempt to acquire the Company. The rights were attached to the Company’s outstanding common stock at the time of distribution and are not separately
transferable or exercisable. The rights will become exercisable if a person acquires 15 percent or more of the Company’s common stock, or a tender or exchange
offer is commenced for 15 percent or more of the Company’s common stock, unless, in either case, the transaction was approved by the Company’s board of
directors. If the rights become exercisable, each right will initially entitle the Company’s shareholders to purchase .0001 of a share of the Company’s Series A
junior participating preferred stock, $.01 par value, at an exercise price of $75. In addition, except with respect to transactions approved by the Company’s board
of directors, if the Company is involved in a merger or other transaction with another company in which it is not the surviving corporation, or the Company sells
or transfers 50 percent or more of its assets or earning power to another company, each right (other than rights owned by the acquirer) will entitle its holder to
purchase $75 worth of the common stock of the acquirer at half the market value at that time. The Company is entitled to redeem the rights at $.001 per right at
any time prior to the tenth business day (or later, if so determined by the board of directors) after the acquisition of 15 percent or more of the Company’s common
stock. Unless the rights are redeemed or exchanged earlier, they will expire on July 16, 2011.
At December 31, 2005, the Company had reserved 2,200,382 unissued shares of its common stock for possible issuance under stock-based compensation
plans.
F-27
Table of Contents
Kadant Inc.
5. Income Taxes
Notes to Consolidated Financial Statements
2005 Financial Statements
The components of income from continuing operations before provision for income taxes and minority interest expense are as follows:
(In thousands)
Domestic
Foreign
The components of the provision for income taxes for continuing operations are as follows:
(In thousands)
Current Provision:
Federal
Foreign
State
Deferred Provision:
Federal
Foreign
State
The income tax provision (benefit) included in the accompanying statement of operations is as follows:
(In thousands)
Continuing Operations
Discontinued Operation
2005
$ 9,510
4,464
$13,974
2004
$12,791
(4,506)
$ 8,285
2003
$14,124
7,113
$21,237
2005
2004
2003
(5)
$
2,758
(339)
2,414
2,197
(1,538)
852
1,511
$ 3,925
$ 2,712
(797)
410
2,325
1,307
(1,560)
452
199
$ 2,524
$1,985
2,991
195
5,171
2,151
(89)
837
2,899
$8,070
2005
$ 3,925
(1,608)
$ 2,317
2004
$ 2,524
(2,966)
$ (442)
2003
$8,070
(800)
$7,270
The Company generally receives a tax deduction upon the exercise of nonqualified stock options by employees equal to the difference between the market
price and the exercise price of the Company’s common stock on the date of exercise. The current provision for income taxes does not reflect $123,000, $708,000,
and $1,261,000 of such benefits from the exercise of stock options that have been allocated to capital in excess of par value in 2005, 2004, and 2003, respectively.
F-28
Table of Contents
Kadant Inc.
5. Income Taxes (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
The provision for income taxes for continuing operations in the accompanying statement of operations differs from the provision calculated by applying the
statutory federal income tax rate of 35% to income from continuing operations before provision for income taxes and minority interest expense due to the
following:
(In thousands)
Provision for Income Taxes at Statutory Rate
Increases (Decreases) Resulting From:
State income taxes, net of federal tax
U.S. tax cost (benefit) of foreign affiliate dividends
Foreign tax cost of foreign affiliate dividends
Foreign tax rate differential
Tax reimbursement from former parent
Extraterritorial income exclusion
Change in valuation allowance
Nondeductible expense
Other
Net deferred tax asset (liability) in the accompanying balance sheet consists of the following:
(In thousands)
Deferred Tax Asset (Liability):
Operating loss carryforwards
Reserves and accruals
Foreign and alternative minimum tax credits
Inventory basis difference
Research and development
Allowance for doubtful accounts
Other
Deferred Tax Asset, Gross
Less: Valuation Allowance
Deferred Tax Asset, Net
Intangible assets
Fixed assets basis difference
Reserves and accruals
Revenue recognition
Other
Deferred Tax Liability
Net Deferred Tax Asset (Liability)
2005
$ 4,891
2004
$ 2,900
334
45
144
(1,544)
(882)
(25)
429
876
(343)
$ 3,925
560
332
411
(1,259)
–
(221)
(385)
291
(105)
$ 2,524
2003
$7,433
671
(224)
–
(544)
–
(97)
224
185
422
$8,070
2005
2004
$ 9,046
6,603
6,153
1,230
855
404
527
24,818
(2,537)
22,281
(18,875)
(4,309)
(571)
(214)
(80)
(24,049)
$ (1,768)
$ 1,125
3,975
4,389
1,768
1,797
382
290
13,726
(239)
13,487
(2,922)
(860)
(773)
(427)
(74)
(5,056)
$ 8,431
The deferred tax asset and liability are presented in the accompanying balance sheet within other current assets, other assets, other current liabilities and
other long-term liabilities based on when the tax benefits are expected to be realized and on a net basis by tax jurisdiction.
F-29
Table of Contents
Kadant Inc.
5. Income Taxes (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
The Company has established valuation allowances related to foreign net operating loss carryforwards and foreign tax credits. The valuation allowance at
December 31, 2005 was $2,537,000. The increase in the valuation allowance of $2,298,000 related primarily to an increase of $1,759,000 for foreign net
operating loss carryforwards acquired with the Johnson acquisition. In the event the tax assets related to these acquired foreign net operating loss carryforwards
are realized and the corresponding valuation allowance is no longer required, goodwill of the acquired business will be reduced accordingly.
At year-end 2005, the Company had domestic and foreign net operating loss carryforwards of $13,524,000 and $11,287,000, respectively, and foreign tax
credits of $4,999,000. The domestic net operating loss carryforwards will expire in 2024 and their use is limited to future taxable earnings from the Company’s
domestic subsidiaries. Of the foreign net operating loss carryforwards, $1,616,000 expires in the years 2008 through 2019, and the remainder do not expire. The
foreign tax credits expire beginning in 2012.
The Company has not recognized a deferred tax liability for the difference between the book basis and the tax basis of its investment in the stock of its
domestic subsidiaries, related primarily to unremitted earnings of subsidiaries, because it does not expect this basis difference to become subject to tax at the
parent level. The Company believes it can implement certain tax strategies to recover its investment in its domestic subsidiaries tax-free.
On October 22, 2004, the American Jobs Creation Act of 2004 (the Act) was signed into law. The Act created a temporary incentive for U.S. multinationals
to repatriate accumulated income earned outside the U.S. at an effective tax rate of 5.25%. After evaluating the effect of the law on our unremitted foreign
earnings, the Company has determined that due to various factors, there is no benefit to the Company. Therefore, it will remain the Company’s practice to reinvest
indefinitely the earnings of our international subsidiaries, except in instances in which we can remit such earnings without a significant associated tax cost.
Through December 31, 2005, the Company has not provided U.S. income taxes on approximately $53,500,000 of unremitted foreign earnings. The Company
believes that any U.S. tax liability due upon remittance of such earnings would be immaterial due to the availability of U.S. foreign tax credits generated from
such remittance. The related foreign tax withholding, which would be required if the Company remitted the foreign earnings to the U.S., would be approximately
$2,300,000.
The Company’s Chinese subsidiary that was part of the Kadant Johnson acquisition has a tax holiday in China, which reduces the income tax in that
country. The holiday expires in 2007. Based on the currently enacted regular corporate income tax rate in China, the benefit to the Company of the tax holiday for
year-end 2005 was approximately $111,000, or $.01 per diluted share.
The Company operates within multiple tax jurisdictions and could be subject to audit in these jurisdictions. These audits can involve complex issues, which
may require an extended period of time to resolve and may cover multiple years. In management’s opinion, adequate provisions for income taxes have been made
for all years subject to audit.
6. Long-Term Obligations and Other Financing Arrangements
Long-term obligations at year-end 2005 and 2004 are as follows:
(In thousands)
Variable Rate Term Loan, due from 2006 to 2010
Less: Current Maturities
Long-Term Obligations
F-30
2005
$55,500
9,000
$46,500
2004
$
–
–
–
$
Table of Contents
Kadant Inc.
6. Long-Term Obligations and Other Financing Arrangements (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
The Company repaid long-term obligations of $5,522,000 in 2005, including $4,500,000 associated with its term loan outlined below and $1,022,000
related to liabilities of recently acquired Kadant Johnson. In 2004, the Company repaid long-term obligations of $598,000, which related to liabilities from two
acquisitions made in 2000 and 1999.
To fund a portion of the purchase price for the acquisition of Kadant Johnson, the Company entered into a term loan and revolving credit facility (the Credit
Agreement) effective May 9, 2005 in the aggregate principal amount of up to $85,000,000, including a $25,000,000 revolver. The Credit Agreement is among the
Company, as Borrower; the Foreign Subsidiary Borrowers from time to time parties thereto; the several banks and other financial institutions or entities from time
to time parties thereto; and JPMorgan Chase Bank, N.A., as Administrative Agent. On May 11, 2005, the Company borrowed $60,000,000 under the term loan
facility, which is repayable in quarterly installments over a five-year period. The aggregate principal amount to be repaid each year is as follows: $9,000,000,
$10,500,000, $13,500,000, $15,000,000, and $7,500,000 in 2006, 2007, 2008, 2009, and 2010, respectively.
Interest on the revolving loan and the term loan accrues and is payable quarterly in arrears at one of the following rates selected by the Company: (a) the
prime rate plus an applicable margin initially set at 0% for 2005, and up to 0.25% thereafter, or (b) a eurocurrency rate plus an applicable margin initially set at
1% for 2005, and between 0.625% and 1.25% thereafter. The applicable margin is determined based upon the Company’s total debt to earnings before interest,
taxes, depreciation and amortization (EBITDA) ratio. The weighted average interest rate was 5.25% at December 31, 2005.
In connection with the Credit Agreement, the Company agreed to pay a commitment fee, payable quarterly, at an initial rate of 0.25% per annum of the
unused amount of revolving credit commitments, subject to adjustment based upon the Company’s total debt to EBITDA ratio (resulting in a per annum rate of
between 0.175% and 0.275%). The unused portion of the revolving credit facility totaled $14,577,000 as of December 31, 2005.
Debt issuance costs were approximately $652,000 and are included in other assets in the accompanying consolidated balance sheet. These costs are being
amortized to interest expense over five years based on the effective-interest method. As of December 31, 2005, the unamortized debt issuance costs were
approximately $516,000.
The obligations of the Company under the Credit Agreement may be accelerated upon the occurrence of an event of default under the Credit Agreement,
which includes customary events of default including, without limitation, payment defaults, defaults in the performance of affirmative and negative covenants, the
inaccuracy of representations or warranties, bankruptcy- and insolvency-related defaults, defaults relating to such matters as ERISA, uninsured judgments and the
failure to pay certain indebtedness, and a change-of-control default.
In addition, the Credit Agreement contains negative covenants applicable to the Company and its subsidiaries, including financial covenants requiring the
Company to comply with a maximum consolidated leverage ratio of 3.0, which is lowered to 2.5 in certain circumstances, and a minimum consolidated fixed
charge coverage ratio of 1.5. Pursuant to an amendment to the Credit Agreement effective December 28, 2005, this maximum consolidated leverage ratio is
increased to 2.75 in the quarter in which we complete the proposed acquisition of a manufacturer of stock preparation equipment in China (see Note 15 for further
discussion) and in the following quarter. In addition to the financial covenants, the Company is also required to comply with covenants related to restrictions on
liens, indebtedness, fundamental changes, dispositions of property, making certain restricted payments (including dividends and stock repurchases), investments,
transactions with affiliates, sale and leaseback transactions, swap agreements, changing the Company’s fiscal year, negative pledges, arrangements affecting
subsidiary distributions, and entering into new lines of business. As of December 31, 2005, the Company was in compliance with these covenants.
F-31
Table of Contents
Kadant Inc.
6. Long-Term Obligations and Other Financing Arrangements (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
The loans under the Credit Agreement are guaranteed by certain domestic subsidiaries of the Company and secured by a pledge of 65% of the stock of the
Company’s first-tier foreign subsidiaries and the Company’s subsidiary guarantors pursuant to a guarantee and pledge agreement effective May 9, 2005 in favor
of JPMorgan Chase Bank, N.A., as agent on behalf of the lenders.
The Company entered into a swap agreement (the Swap Agreement), which was effective May 17, 2005, to convert $36,000,000 of the principal balance of
the $60,000,000 term loan from a floating rate to a fixed rate of interest. The Swap Agreement has a five-year term, the same quarterly payment dates as the
hedged portion of the term loan, and reduces proportionately in line with the amortization of the term loan. Under the Swap Agreement, the Company will receive
a three-month LIBOR rate and pay a fixed rate of interest of 4.125%. The net effect on interest expense for the hedged portion of the term loan ($36,000,000) is
that the Company will pay a fixed interest rate of up to 5.375% (the sum of the 4.125% fixed rate under the Swap Agreement and the applicable margin of up to
1.25% on the term loan). The guarantee provisions and the default and financial covenants, as well as certain restrictions on the payment of dividends included in
the Credit Agreement, as amended, restated, modified or replaced from time to time, also apply to the Swap Agreement.
The Swap Agreement has been designated as a cash flow hedge and is carried at fair value with unrealized gains or losses reflected within other
comprehensive items. As of December 31, 2005, the unrealized gain associated with the Swap Agreement was $510,000, which is included in other assets and
accumulated other comprehensive items (net of tax) in the accompanying consolidated balance sheet. Management believes that any credit risk associated with
the Swap Agreement is remote based on the creditworthiness of the financial institution issuing the Swap Agreement.
7. Commitments and Contingencies
Operating Leases
The Company occupies office and operating facilities under various operating leases. The accompanying consolidated statement of operations includes
expenses from operating leases of $2,960,000, $2,620,000, and $2,444,000 in 2005, 2004, and 2003, respectively. The future minimum payments due under
noncancelable operating leases as of December 31, 2005, are $1,890,000 in 2006; $1,027,000 in 2007; $453,000 in 2008; $86,000 in 2009; $50,000 in 2010; and
$16,000 thereafter. Total future minimum lease payments are $3,522,000.
Letters of Credit
Outstanding letters of credit, principally relating to performance bonds and customer deposit guarantees, totaled $14,918,000 at December 31, 2005.
Acquisition Contingencies
In connection with the Kadant Johnson acquisition, the Company issued a letter of credit to the sellers for $4,000,000 related to certain tax assets of Kadant
Johnson, the value of which the Company expects to realize. This amount is subject to adjustment based on The Johnson Corporation’s final tax return for 2005.
This additional consideration, of which $600,000 is included in other current liabilities and $3,400,000 is included in other long-term liabilities in the
accompanying consolidated balance sheet, is due over the next five years. The parties also agreed in the purchase agreement to an earn-out provision, based on
the achievement of certain revenue targets between the closing date (May 11, 2005) and July 1, 2006, which could increase the purchase price by up to
$8,000,000. This contingent consideration will be accounted for as an increase in goodwill if and
F-32
Table of Contents
Kadant Inc.
7. Commitments and Contingencies (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
when the revenue targets are achieved. Based on current forecasts, the Company does not believe that a significant payout under the earn-out provision is likely.
Contingencies
In the ordinary course of business, the Company is at times required to issue limited performance guarantees, some of which do not require the issuance of
letters of credit to customers in support of these guarantees, relating to its equipment and systems. The Company typically limits its liability under these
guarantees to amounts that would not exceed the value of the contract. The Company believes that it has adequate reserves for any potential liability in connection
with such guarantees.
Indemnification
The Company is required to indemnify Thermo Electron, but not its shareholders, against liability for taxes arising from the Company’s conduct of
business after the spinoff, or the failure of certain distributions to continue to qualify as a tax free spinoff, as described in Note 1 “Income Taxes.”
8. Restructuring and Other Costs (Income), Net
In an effort to improve operating performance at the Papermaking Systems segment’s Kadant Lamort subsidiary in France, the Company approved a
restructuring of that subsidiary on November 18, 2004. This restructuring was initiated to strengthen Kadant Lamort’s competitive position in the European paper
industry. Under French law, the restructuring required consultation with Kadant Lamort’s workers’ council, which consists of elected employees supported by
trade union representatives, before implementation. The restructuring primarily included the reduction of 97 full-time positions across all functions in France and
was implemented in 2005. The Company accrued a restructuring charge, in accordance with SFAS No. 112, for severance and other termination costs in
connection with the workforce reduction of $9,235,000 in the fourth quarter of 2004 and reduced the estimate by $71,000 in 2005. The Company realized a
curtailment gain of $364,000 in 2005 resulting in a reduction in the accrued liability associated with Kadant Lamort’s pension plan. In addition, during 2004, the
Company recorded restructuring costs of $280,000, which were accounted for in accordance with SFAS No. 112, related to severance costs of 11 employees at
one of the Papermaking Systems segment’s U.S. subsidiaries.
During 2005, the Company recorded restructuring income of $118,000, including $246,000 of restructuring costs and $364,000 of curtailment gain
associated with the Kadant Lamort restructuring initiated in the fourth quarter of 2004. The restructuring costs of $246,000 in 2005 include $71,000 of income
related to a reduction in the estimated restructuring costs associated with the Kadant Lamort restructuring initiated in 2004 and $317,000 of restructuring costs
associated with the Company’s 2005 restructuring actions. The 2005 restructuring costs include $221,000 of severance and associated costs related to the
reduction of 14 full-time positions in the U.S. and $96,000 for equipment relocation costs, both in our Papermaking Systems segment.
During 2003, the Company recorded net restructuring and other income of $23,000, including $626,000 of restructuring costs and $649,000 of other
income as detailed below. During 2003, the Company recorded restructuring costs of $626,000, which were accounted for in accordance with SFAS No. 112,
related to severance costs for seven employees across all functions at the Papermaking Systems segment’s Kadant Lamort subsidiary. This action was taken in an
effort to improve profitability and was in response to a continued weak market environment and reduced demand for the Company’s products. During the second
quarter of 2003, the Company recognized a gain of $649,000 from the sale of property for approximately $921,000 in cash at the same subsidiary.
F-33
Table of Contents
Kadant Inc.
Notes to Consolidated Financial Statements
2005 Financial Statements
8. Restructuring and Other Costs (Income), Net (continued)
A summary of the changes in accrued restructuring costs is as follows:
(In thousands)
2003 Restructuring Plan
Provision
Usage
Currency translation
Balance at January 3, 2004
Usage
Balance at January 1, 2005
2004 Restructuring Plan
Provision
Usage
Currency translation
Balance at January 1, 2005
Reserve reduction
Usage
Currency translation
Balance at December 31, 2005
2005 Restructuring Plan
Provision
Usage
Balance at December 31, 2005
Severance
and Other
$
$
626
(476)
50
200
(200)
–
$ 9,515
(23)
534
10,026
(71)
(4,158)
(1,139)
$ 4,658
$
$
317
(194)
123
The specific restructuring measures and associated estimated costs are based on the Company’s best judgments under prevailing circumstances. The
Company believes that the restructuring reserve balance is adequate to carry out the restructuring activities formally identified and committed to as of
December 31, 2005. Due to the lengthy restructuring process in France and the long notification periods, the related cash payments associated with the Lamort
restructuring, which was initiated at the end of 2004, will extend into the first half of 2006. For the remaining restructuring activities, the Company anticipates
that all actions will be completed within a 12-month period.
9. Discontinued Operation
On October 21, 2005, our Kadant Composites LLC subsidiary (Kadant Composites LLC) sold substantially all of its assets to LDI Composites Co. (the
Buyer) for approximately $11,127,000 in cash and the assumption of $1,444,000 of liabilities resulting in a $46,000 gain. The sale price is subject to a post-
closing adjustment. A portion of the sale price, $629,000, was deposited in an escrow fund until May 1, 2007, and another $629,000 will be held by the Buyer for
one year to satisfy certain indemnification obligations.
As part of the sale transaction, Kadant Composites LLC retained the warranty obligations associated with products manufactured prior to the sale date.
Kadant Composites LLC deposited $3,500,000 of the sale proceeds into a special escrow fund to satisfy these warranty claims. This fund will be administered by
the Buyer for five
F-34
Table of Contents
Kadant Inc.
9. Discontinued Operation (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
years or until the funds are exhausted, after which time Kadant Composites LLC will administer any remaining covered warranty claims. Based on the claims
submitted to the Buyer for reimbursement through year-end 2005, the remaining balance in the special escrow fund would be reduced to approximately
$2,330,000. Based on the claims activity and payments processed after year-end 2005, the Company anticipates that the special escrow fund will be utilized and
Kadant Composites LLC will assume claims processing in 2006. As of year-end 2005, the accrued warranty reserve associated with the composites business was
$5,276,000. All future activity associated with this warranty reserve will continue to be classified in the results of the discontinued operation in the Company’s
consolidated financial statements.
Operating results for the composites business are as follows:
(In thousands)
Revenues
Operating Loss
Interest Income
Loss Before Income Tax Benefit (including $46 gain on disposal in 2005)
Benefit for Income Taxes
Loss from Discontinued Operation
2005
$15,960
(4,649)
53
(4,596)
1,608
$ (2,988)
2004
$16,957
(8,065)
–
(8,065)
2,966
$ (5,099)
2003
$12,035
(2,106)
–
(2,106)
800
$ (1,306)
The major classes of assets and liabilities of the discontinued operation included in the accompanying consolidated balance sheet are as follows:
(In thousands)
Cash and cash equivalents
Restricted cash
Accounts receivable, less allowances
Other accounts receivable
Inventories
Deferred tax asset
Other current assets
Property, plant, and equipment, at cost, net
Other assets
Total Assets
Accounts payable
Accrued payroll and employee benefits
Accrued warranty costs
Other current liabilities
Other liabilities
Total Liabilities
Net Assets
2005
$ 5,743
4,145
–
1,545
–
2,110
–
–
487
14,030
19
103
5,276
1,201
–
6,599
$ 7,431
2004
$
39
–
2,252
–
4,035
1,963
18
6,760
583
15,650
1,446
537
4,327
368
900
7,578
$ 8,072
The current deferred tax asset was $2,110,000 and $1,963,000 at year-end 2005 and 2004, respectively. The increase in current deferred tax asset of
$147,000 in 2005 primarily relates to the increase in warranty reserve.
F-35
Table of Contents
Kadant Inc.
9. Discontinued Operation (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
The restricted cash of $4,145,000 at year-end 2005 represents the portion of the sale proceeds placed in escrow and associated interest. Other accounts
receivable of $1,545,000 at year-end 2005 includes $629,000 of the sales price held by the Buyer for one year to satisfy certain indemnification obligations and
$916,000 of estimated post-closing adjustments owed from the Buyer. Included in other current liabilities is $1,170,000 of warranty claims owed to the Buyer
from the special escrow fund as reimbursement for claims paid on Kadant Composites LLC’s behalf through year-end 2005.
As part of the sale transaction, Kadant Composites LLC retained the warranty obligations associated with products manufactured prior to the sale date.
Through the sale date of October 21, 2005, Kadant Composites LLC offered a standard limited warranty to the original owner of its decking and roofing products,
limited to repair or replacement of the defective product or a refund of the original purchase price.
Prior to the sale of the composites business, Kadant Composites LLC recorded an estimate for warranty-related costs at the time of sale based on its actual
historical return rates and repair costs, as well as other analytical tools for estimating future warranty claims. These estimates are revised for variances between
actual and expected claims rates. Kadant Composites LLC’s analysis of expected warranty claims rates includes detailed assumptions associated with potential
product returns, including the type of product sold, temperatures at the location of installation, density of boards, and other factors. Certain assumptions, such as
the effect of weather conditions and high temperatures on the product installed, include inherent uncertainties that are subject to fluctuation which could impact
our future warranty provisions. Due to the highly subjective nature of these assumptions, Kadant Composites LLC has recorded its best estimate of the cost of
expected warranty claims. It is reasonably possible that the ultimate settlement of such claims may exceed the amount recorded.
In 2003 and 2004, Kadant Composites LLC experienced a significant increase in warranty claims and warranty expense related to its composite decking
products including, but not limited to, contraction of certain deck boards and excessive oxidation that affects the integrity of the plastic used in some of its
decking products. As a result of the increase in claims received and its estimate for future potential claims, Kadant Composites LLC increased its warranty
expense to $6,696,000 in 2004 compared to $1,873,000 in 2003. Included in this increased warranty expense was the cost of exchanging material held by the
composites business’ distributors with new material and its best estimate of costs related to future potential valid claims arising from installed products. In 2005,
Kadant Composites LLC experienced a higher-than-expected level of warranty claims associated with previously identified product issues. As a result of the high
level of claims, Kadant Composites LLC recorded a warranty provision of $5,525,000 in 2005. Although Kadant Composites LLC increased the warranty
provisions accordingly, the reserve established may not be sufficient if it incurs warranty claims higher than anticipated. It is reasonably possible that the ultimate
settlement of such warranty claims may exceed the amount of the warranty reserve. In addition, there can be no assurance that other problems will not develop. A
continued high level of warranty claims or expenses would have an adverse impact on the warranty reserve and would adversely affect our consolidated results.
The changes in the carrying amount of product warranties are as follows:
(In thousands)
Balance at Beginning of Year
Provision charged to income
Usage
Balance at End of Year
F-36
2005
$ 4,327
5,525
(4,576)
$ 5,276
2004
$
869
6,696
(3,238)
$ 4,327
Table of Contents
Kadant Inc.
10. Fair Value of Financial Instruments
Notes to Consolidated Financial Statements
2005 Financial Statements
The Company’s financial instruments consist mainly of cash and cash equivalents, accounts receivable, current maturities of long-term obligations,
accounts payable, long-term obligations, forward foreign exchange contracts and a swap agreement. The carrying amounts of accounts receivable, current
maturities of long-term obligations, and accounts payable approximate fair value due to their short-term nature. The carrying amounts of long-term obligations
approximate fair value as the obligations bear a variable rate of interest, which adjusts quarterly based on prevailing market rates.
The carrying amount and fair value of the Company’s financial instruments are as follows:
(In thousands)
Long-term obligations
Forward foreign exchange contracts (payable) receivable
Swap agreement
2005
2004
Carrying
Amount
$46,500
(79)
$
510
$
Fair
Value
$46,500
(79)
$
510
$
Carrying
Amount
–
$
210
$
–
$
Fair
Value
$
–
$210
–
$
The notional amounts of forward foreign exchange contracts outstanding totaled $3,766,000 and $2,582,000 at year-end 2005 and 2004, respectively. The
fair value of such contracts is the estimated amount that the Company would receive upon termination of the contracts, taking into account the change in foreign
currency exchange rates, which is recorded in the accompanying consolidated balance sheet in accordance with SFAS No. 133 (see Note 1).
The notional amount of the swap agreement was $33,300,000 at year-end 2005. The fair value of the agreement is the estimated amount that the contract
could be settled for in the open market based on prevailing market interest rates at year-end 2005.
11. Business Segment and Geographical Information
The Company has combined its operating entities into one reportable operating segment, Papermaking Systems, and two separate product lines, Fiber-
based Products and Casting Products, which are reported in Other. In classifying operational entities into a particular segment, the Company aggregated
businesses with similar economic characteristics, products and services, production processes, customers, and methods of distribution.
The Company’s Papermaking Systems segment develops, manufactures, and markets stock-preparation systems and equipment, paper machine accessory
equipment, and water-management systems for the pulp and paper industries worldwide. Principal products manufactured by this segment include: custom-
engineered systems and equipment for the preparation of wastepaper for conversion into recycled paper; paper machine accessory equipment and related
consumables important to the efficient operation of paper machines; water-management systems essential for draining, purifying, and recycling process water;
and fluid-handling systems used primarily in the dryer section of the papermaking process and during the production of corrugated boxboard, metals, plastics,
rubber, textiles, and food. Revenues from the stock-preparation systems and equipment product line were $98,226,000, $95,352,000, and $93,899,000 in 2005,
2004, and 2003, respectively. Revenues from the paper machine accessory equipment product line were $58,794,000, $62,655,000, and $60,780,000 in 2005,
2004, and 2003, respectively. Revenues from the water-management systems product line were $28,325,000, $28,822,000, and $29,507,000 in 2005, 2004, and
2003, respectively. Revenues from the recently acquired fluid-handling product line were $45,450,000 in 2005.
The Fiber-based Products line produces biodegradable absorbent granules from papermaking byproducts. These granules are primarily used as carriers for
agricultural, home lawn and garden, and professional lawn, turf and ornamental applications, as well as for oil and grease absorption. Revenues from the Fiber-
based Products business were $8,599,000, $6,646,000, and $5,799,000 in 2005, 2004, and 2003, respectively. Revenues from the recently acquired Casting
Products business were $2,499,000 in 2005.
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Table of Contents
Kadant Inc.
11. Business Segment and Geographical Information (continued)
Notes to Consolidated Financial Statements
(In thousands)
Business Segment Information
Revenues:
Pulp and Papermaking Systems (a)
Other (c)
Income from Continuing Operations Before Provision for Income Taxes and Minority Interest Expense:
Pulp and Papermaking Systems (b)
Corporate and Other (c,d)
Total operating income
Interest income (expense), net
Total Assets:
Pulp and Papermaking Systems
Corporate and Other (c,d)
Total Assets from Continuing Operations
Total Assets from Discontinued Operation
Depreciation and Amortization:
Pulp and Papermaking Systems
Corporate and Other (c)
Capital Expenditures:
Pulp and Papermaking Systems
Corporate and Other (c)
Geographical Information
Revenues (e):
United States
France
Other
Transfers among geographic areas (f)
Long-lived Assets (g):
United States
France
England
Other
Export Revenues Included in United States Revenues Above (h)
F-38
2005 Financial Statements
2005
2004
2003
$232,615
11,098
$243,713
$188,320
6,646
$194,966
$185,708
5,799
$191,507
$ 18,685
(4,102)
14,583
(609)
$ 13,974
$331,347
10,434
341,781
14,030
$ 355,811
$
$
$
$
6,227
704
6,931
2,683
562
3,245
$147,714
49,601
62,184
(15,786)
$243,713
$ 22,454
2,401
2,494
6,632
$ 33,981
$ 44,958
$ 11,781
(4,941)
6,840
1,445
8,285
$
$196,248
73,339
269,587
15,650
$285,237
$
$
$
$
3,136
468
3,604
1,968
221
2,189
$120,545
53,155
31,918
(10,652)
$194,966
$ 10,966
3,340
2,111
962
$ 17,379
$ 35,733
$ 23,440
(3,119)
20,321
916
$ 21,237
$ 217,211
39,224
256,435
15,278
$271,713
$
$
$
$
3,468
486
3,954
1,754
252
2,006
$ 118,929
52,563
29,896
(9,881)
$191,507
$ 11,511
3,203
1,963
2,045
$ 18,722
$ 39,337
Table of Contents
Kadant Inc.
11. Business Segment and Geographical Information (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
Revenues from China were $29.2 million, $29.4 million, and $31.1 million in 2005, 2004, and 2003, respectively.
Includes restructuring and other costs (income), net of ($0.1) million, $9.5 million, and ($23) thousand in 2005, 2004, and 2003, respectively (see Note 8).
(a)
(b)
(c) Other includes the results from the Fiber-based Products business and the Casting Products business.
(d)
(e)
(f)
(g)
(h)
Primarily cash and cash equivalents.
Revenues are attributed to countries based on selling location.
Transfers among geographic areas are accounted for at prices that are representative of transactions with unaffiliated parties.
Includes property, plant, and equipment, net, and other long-term tangible assets.
In general, export revenues are denominated in U.S. dollars.
12. Earnings (Loss) per Share
Basic and diluted earnings (loss) per share were calculated as follows:
(In thousands, except per share amounts)
Income from Continuing Operations
Loss from Discontinued Operation
Net Income
Basic Weighted Average Shares
Effect of Stock Options
Diluted Weighted Average Shares
Basic Earnings (Loss) per Share:
Continuing Operations
Discontinued Operation
Net Income per Basic Share
Diluted Earnings (Loss) per Share:
Continuing Operations
Discontinued Operation
Net Income per Diluted Share
2005
$ 9,865
(2,988)
$ 6,877
13,829
275
14,104
$
$
$
$
.71
(.21)
.50
.70
(.21)
.49
2004
$ 5,753
(5,099)
$
654
14,071
327
14,398
$
$
$
$
.41
(.36)
.05
.40
(.35)
.05
2003
$13,123
(1,306)
$11,817
13,659
300
13,959
$
$
$
$
.96
(.09)
.87
.94
(.09)
.85
Options to purchase 235,800 shares, 231,200 shares, and 329,500 shares of common stock were not included in the computation of diluted earnings per
share for 2005, 2004, and 2003, respectively, because the options’ exercise prices were greater than the average market price for the common stock, and the effect
would have been antidilutive.
13. Comprehensive Income
Comprehensive income combines net income and other comprehensive items, which represent certain amounts that are reported as components of
shareholders’ investment in the accompanying consolidated balance sheet, including foreign currency translation adjustments, and deferred gains and losses on
the swap agreement and forward foreign currency contracts.
F-39
Table of Contents
Kadant Inc.
13. Comprehensive Income (continued)
Notes to Consolidated Financial Statements
2005 Financial Statements
Accumulated other comprehensive items in the accompanying consolidated balance sheet consist of the following:
(In thousands)
Cumulative Translation Adjustment
Deferred Gain on Hedging Instruments
14. Unaudited Quarterly Information
2005 (In thousands, except per share amounts)
Revenues
Gross Profit
Income from Continuing Operations
(Loss) Income from Discontinued Operation
Net Income
Basic Earnings (Loss) per Share:
Continuing Operations
Discontinued Operation
Net Income per Basic Share
Diluted Earnings (Loss) per Share:
Continuing Operations
Discontinued Operation
Net Income per Diluted Share
2004 (In thousands, except per share amounts) (a)
Revenues
Gross Profit
Income (Loss) from Continuing Operations
Loss from Discontinued Operation
Net Income (Loss)
Basic Earnings (Loss) per Share:
Continuing Operations
Discontinued Operation
Net Income (Loss) per Basic Share
Diluted Earnings (Loss) per Share:
Continuing Operations
Discontinued Operation
Net Income (Loss) per Diluted Share
2005
$(1,801)
311
$(1,490)
2004
$2,763
137
$2,900
2003
$(2,563)
24
$(2,539)
First
$50,744
18,762
3,087
(363)
$ 2,724
$
$
$
$
.22
(.02)
.20
.22
(.03)
.19
First
$47,500
19,467
3,334
(606)
$ 2,728
$
$
$
$
.23
(.04)
.19
.23
(.04)
.19
Second
$65,086
24,701
3,147
207
$ 3,354
$
$
$
$
.23
.01
.24
.22
.02
.24
Second
$52,652
20,397
3,983
(240)
$ 3,743
$
$
$
$
.28
(.02)
.26
.27
(.01)
.26
Third
$64,799
26,242
2,634
(2,252)
382
$
$
$
$
$
.19
(.16)
.03
.19
(.16)
.03
Third
$48,883
19,162
3,205
(3,698)
$ (493)
$
$
$
$
.23
(.27)
(.04)
.22
(.25)
(.03)
Fourth
$ 63,084
24,264
997
(580)
417
$
$
$
$
$
.07
(.04)
.03
.07
(.04)
.03
Fourth (b)
$ 45,931
16,740
(4,769)
(555)
$ (5,324)
$
$
$
$
(.34)
(.04)
(.38)
(.34)
(.04)
(.38)
(a) Quarterly results have been restated to reflect the composite building products business as a discontinued operation (see Note 9).
(b)
Includes $9.5 million of pre-tax restructuring costs (see Note 8).
F-40
Table of Contents
Kadant Inc.
15. Subsequent Event
Notes to Consolidated Financial Statements
2005 Financial Statements
On January 21, 2006, the Company, on behalf of its wholly foreign owned enterprise formed in China (the Kadant WFOE), entered into an Asset Purchase
Agreement (the Purchase Agreement) with Jining Huayi Light Industry Machinery Co., Ltd. (Huayi) to acquire substantially all the assets of Huayi for
approximately $20,000,000, subject to adjustment. Huayi is a supplier of stock-preparation equipment in China, with unaudited revenues of approximately
$15,000,000 in 2005. Pursuant to the Purchase Agreement, at the closing 20% of the purchase price, or approximately $4,000,000, will be issued in escrow in the
form of a standby letter of credit to secure certain post-closing and indemnification obligations of the sellers. The letter of credit may be drawn upon by the sellers
over the next 18 months as certain obligations are satisfied.
The closing of the acquisition contemplated by the Purchase Agreement is subject to customary closing conditions, including regulatory approvals and the
approval of Huayi’s board of directors and shareholders, as well as the Company’s board of directors. The closing is expected to occur in the second quarter of
2006. The Company expects to finance the acquisition through a combination of cash and borrowings, in China or under its existing $25,000,000 revolver, which
is part of the Company’s credit facility entered into in May 2005 with a consortium of banks with JPMorganChase Bank as administrative agent.
F-41
Table of Contents
Description
Allowance for Doubtful Accounts
Year Ended December 31, 2005
Year Ended January 1, 2005
Year Ended January 3, 2004
Description
Accrued Restructuring Costs (b)
Year Ended December 31, 2005
Year Ended January 1, 2005
Year Ended January 3, 2004
Kadant Inc.
Schedule II
Valuation and Qualifying Accounts
(In thousands)
Balance at
Beginning
of Year
$ 1,678
$ 1,650
$ 2,634
Provision
Charged to
Expense
(Reversed
to Income)
$
$
$
185
656
(342)
Accounts
Recovered
Accounts
Written
Off
$
$
$
29
43
21
$ (479)
$ (627)
$ (865)
Other (a)
$
$
$
808
(44)
202
Balance at
Beginning
of Year
Provision
Charged to
Expense
Activity
Charged to
Reserve
$ 10,026
200
$
28
$
$
$
$
246
9,515
626
$ (4,352)
(223)
$
(504)
$
Currency
Translation
$ (1,139)
534
$
50
$
Balance
at End
of Year
$2,221
$1,678
$1,650
Balance
at End
of Year
$ 4,781
$10,026
200
$
(a)
(b)
Includes $912 of allowance for doubtful accounts acquired in 2005 from Kadant Johnson and the effect of foreign currency translation.
The nature of the activity in this account is described in Note 8 to the consolidated financial statements.
F-42
Exhibit 2.3
Asset Purchase Agreement
Between
Jining Huayi Light Industry Machinery Co., Ltd.
(as Seller)
and
Kadant Jining Light Machinery Co. Ltd.
(as Buyer)
Table of Contents
Article
Preamble
Heading
Article 1
Object of Sale and Purchase, Liabilities and Facilities
Article 2
Assignability, Consents and Release of Mortgages
Article 3
Transfer of Intellectual Property and Production Know-how
Article 4
Employment of Staff
Article 5
Non-Competition and Secrecy
Article 6
Purchase Price
Article 7
Payment Schedule
Article 8
Huayi’s Representations and Warranties
Article 9
Kadant WFOE’s Representations and Warranties
Article 10 Breach of Representation or Warranties and Indemnification
Article 11 Cooperation / Actions Necessary to Complete Transaction/Post-closing Covenants
Article 12 Risks and Benefits
Article 13 Closing and Conditions of Closing
Article 14 Effectiveness of the Agreement
Article 15 Termination
Article 16 Force Majeure
Article 17 Miscellaneous
Schedule 1 Purchased Assets
(a) Fixed Assets
(b) Inventory
(c) Customer Deposits
(d) Mortgaged Assets
(e) Intellectual Property
Schedule 2 Purchased Business
(a) Customer Lists
(b) Assigned Contracts
(c) Financial Statements
Schedule 3 List of Huayi Employees
Schedule 4 Leases to Third Parties
2
Schedule 5 List of Employees with 10 Years or Less to Retirement
Schedule 6 Regulations on Internal Retirement
Schedule 7 List of Shareholders
Schedule 8 Methodology to Determine Obsolete Inventory
Annex 1 Form of Land-use Right and Building Transfer Agreement
Annex 2 Agreement on Cancellation of Mortgage
Annex 3 Form of Shareholder Non-competition and Confidentiality Agreement
Annex 4 Standby Letter of Credit
3
This agreement (hereinafter the “Agreement”) is made and entered into on the 21st day of January, 2006 by and among
Kadant Jining Light Machinery Co. Ltd. , a wholly foreign owned enterprise established and existing under PRC laws and regulations with its registered
address at No. 99 Jidian Road 1, High and New Technologies Industry Development Zone, Jining, Shandong 272023, People’s Republic of China (“China”)
(“Kadant WFOE”)
and
Jining Huayi Light Industry Machinery Company, a Chinese limited liability company with its legal address at No. 99 Jidian Road 1, High and New
Technologies Industry Development Zone, Jining, Shandong 272023, China.
(“Huayi”)
Preamble
Whereas, Huayi is a manufacturer of machinery for paper mills and compound fertilizer companies in Shandong and has established a market and sales network
throughout China;
Whereas, Kadant Inc. (“Kadant”) is a Delaware corporation with its address One Acton Place, Suite 202, Acton, Massachusetts 01720 United States of America
(“USA”). Kadant is a major US manufacturing company and one of its product lines is the manufacture of stock-preparation systems and equipment (“Products”)
used in the worldwide pulp and paper industry;
Whereas, Huayi desires to sell all of the related assets and business of Jining Huayi;
Whereas, Kadant intends to relocate its existing wholly foreign owned enterprise established in Beijing (“Kadant Beijing WFOE”) to purchase and acquire from
Huayi the assets and business herein at the terms and subject to the conditions contained herein.
4
Therefore, the Parties agree as follows:
Article 1
Object of Sale and Purchase, Liabilities and Facilities
1.1
Subject to due fulfillment of all Conditions Of Closing (as hereinafter defined) Kadant WFOE agrees to buy from Huayi and Huayi agrees to sell to
Kadant WOFE with effect from and as of the Closing Date (as hereinafter defined) the following assets and business (hereinafter collectively referred to
as “Purchased Assets and Business”), which are composed of:
(a)
Huayi Main Assets – Huayi Main Assets shall include the following items:
•
•
•
•
•
•
All related land use rights relating to the properties located in Jining High & New Tech Industries Development Zone and Yanzhou and the
buildings located thereon (Hereinafter collectively referred to as “Facilities”); property, plant and equipment, including factory equipment,
office furniture, vehicles and transportation equipment, leasehold improvements, tooling, dies, molds and related tooling located on the
Facilities (Hereinafter collectively referred to as “Fixed Assets”; A list of the Fixed Assets as described herein and their approximate values
is attached as Schedule 1(a) attached hereto); Detailed information regarding the transfer of land use right and building for each Facility
will be provided in Land-use Right and Building Transfer Agreement which is attached hereto as Annex 1.
finished goods, work-in-progress and raw materials inventory (Hereinafter collectively referred to as “Inventory”;
Intellectual property and other intangible assets, including all registered and unregistered patents, trademarks, trade names, domain names,
trade secrets, copyrights, licenses, product designs, service marks, logos, manufacturing processes, production know-how and any other
intellectual or intangible asset owned or used by Huayi (Hereinafter collectively referred to as “Intellectual Property”) as listed in Schedule
1 (e) hereto;
all customer deposits relating to contracts assumed by or assigned to Kadant WFOE pursuant to Article 1.2 hereto or for which shipment of
equipment has not been made as of the Closing Date (as defined below) (all such customer deposits shall be listed on the date hereof on
Schedule 1 (c) hereto); and
all assets located on the Facilities;
all other assets owned by Huayi and used in the operation of the Purchased Assets and Business whether located on the Facilities or
elsewhere.
The Parties agree that notwithstanding the foregoing, the following assets of Huayi shall be retained by Huayi: (i) cash and cash equivalents (excluding
customer deposits) and (ii) accounts receivable outstanding on the Closing Date.
5
(b)
Huayi Business – Huayi Business shall include the following items:
•
•
•
A list of all of the persons, whether individual, legal or other nature, to whom Huayi has sold or otherwise supplied products, directly or
indirectly, after January 1st, 2004 until the Closing Date (individually, a “Customer” and collectively the “Customers”), including related
information as to the unit and currency volume of such sales, the type of products so sold or supplied, the method of distribution and other
relevant marketing and product information for each Customer (hereinafter the “Customer List”) as set forth in the Schedule entitled
“Customer List” which is listed as Schedule 2 (a) hereto and shall be consistently updated by Huayi from signing this Agreement and the
updated version be delivered to Kadant WFOE at the Closing Date;
Subject to all consents required from third persons, whether individual, legal or governmental authority, in form and manner so as to be
effective under PRC law at the Closing Date, all rights, claims, benefits and interests of Huayi in and to all contracts and agreements in
relation to delivery of products to Customers, in relation to distribution and agency for products and in relation to supply of raw materials
which are not fulfilled by either of the contractual parties thereto at the Closing Date as set forth in Schedule entitled “Assigned Contracts”
which shall be consistently updated by Huayi and be delivered by Huayi to Kadant WFOE on Closing and which have specifically been
accepted by Kadant WFOE’s legal representative or authorized person on Closing by making a written mark “accepted by Kadant WFOE”
in the Schedule entitled “Assigned Contracts” pursuant to Article 12.2 (collectively the “Assigned Contracts”) and which is listed as
Schedule 2 (b) hereto
Books and records, including, without limitation, all files, invoices (or copies in case Huayi is required by applicable law to retain the
original invoice), forms, accounts, correspondence, production records, technical, accounting, manufacturing and procedural manuals,
studies, reports or summaries and other books and records relating to the Huayi Business and the Purchased Assets, and all documentation
relating to Huayi’s Production Know-how, which has been reduced to writing or other tangible medium (collectively the “Business
Records”).
6
1.2
Liabilities:
The Parties agree Huayi remains responsible for all responsibilities, obligations, accounts payable which shall mean any amounts owed for goods or
services delivered or performed prior to the Closing (hereinafter “Accounts Payable”), the obligations of Huayi arising out of leases of the Facilities to
third parties as listed on Schedule 4, warranties, undertakings, guarantees and liabilities (actual or contingent) including, but not limited to any taxes or
levies relating to, associated with or arising from the Purchased Assets and Businesses or otherwise to be borne by Huayi, except those liabilities specially
identified by the Parties in Schedule 2 and existing on Closing Date.
Taxes and fees arising from the transfer of the Huayi Assets shall be borne by the Parties in accordance with PRC law.
Subject to all consents required from third persons, whether individual, legal or governmental authority, in form and manner so as to be effective under
PRC law at the Closing Date, Kadant WFOE shall assume all liabilities and obligations of Huayi arising under the terms of the Assigned Contracts (that
Kadant WFOE has accepted on Closing as set out in Article 1.1 (b) and 2.1) but only to the extent such liabilities and obligations arise or accrue after the
Closing Date in the ordinary and normal course of business and are consistent with the representations, warranties, covenants, obligations and agreements
set forth in this Agreement, provided, however, that Kadant WFOE shall not assume or be responsible for any such liabilities or obligations which arise
from breaches thereof or defaults thereunder by Huayi, including, without limitation, any liabilities, guarantees or warranties in relation to products or
services delivered by Huayi under said Assigned Contracts prior to Closing Date, all of which liabilities and obligations shall remain and rest with Huayi
as set out above in this Article.
Article 2
Assignability, Consents and Release of Mortgages
2.1
The contracts listed in the Schedule 2 (to be updated at closing) “Assigned Contracts” shall be delivered by Huayi to Kadant WFOE on Closing as set
forth in Article 1.1. In case such contracts or agreements have only been concluded orally, the terms and conditions thereof shall be detailed in the
Schedule “Assigned Contracts” as well. Before Closing Huayi shall have taken all actions necessary to assign all Assigned Contracts to Kadant WFOE
including to obtain all consents, approvals, authorizations and other requirements (collectively “Consents”) necessary for the legally effective transfer of
such contracts and, in case such contracts have
7
been concluded by Huayi only orally, said Consents shall include the confirmation of the consenting party of the contractual terms and conditions of such
contracts. In addition, Huayi shall from the Effectiveness Date (as hereinafter defined) provide Kadant WFOE with copies, if any, of such contracts.
In the event that specific contracts on the Assigned Contracts list cannot, despite the best efforts of the Parties, be assigned before Closing then this will
not delay Closing but such specific contracts will continue to be conducted in the name of Huayi for a transition period until the contracts expire or are re-
negotiated. Huayi will act only as an invoicing entity for the purposes of such specific contracts and shall outsource the execution of the contracts to
Kadant WFOE at a cost equal to the invoiced amount. Kadant WFOE agrees that it shall 1) indemnify Huayi in respect of any liabilities related to such
services provided by Kadant WFOE in the post-closing period; and 2) make up any tax costs incurred by such arrangement.
The Schedule entitled “Mortgaged Assets” attached hereto in Schedule 1 sets forth a list of all Purchased Assets, which are mortgaged to or otherwise
encumbered by third party rights (hereinafter the “Mortgaged Assets”). Both Parties agree that the mortgage over the Mortgaged Assets shall be cancelled
in accordance with the Agreement on Cancellation of Mortgage signed among Huayi, Kadant WFOE and relevant bank. Such Agreement is attached
hereto as Annex 2. Huayi undertakes to deliver and transfer to Kadant WFOE, on Closing, the Mortgaged Assets free of any such third party rights as
well as proof satisfactory to Kadant WFOE that any such third party rights have been cancelled with the competent authorities and the related entitled
third parties.
Transfer of Intellectual Property, and Production Know-How
Article 3
For any registered (or registered application for) Intellectual Property as described in the Schedule “Intellectual Property” in Schedule 1, Huayi shall enter
into assignment contract with Kadant and deliver all necessary documents to Kadant WFOE vest legal ownership and to allow Kadant WFOE to register
the Intellectual Property in its name. Kadant shall be responsible to go through with the transfer formalities and pay relevant fees. Huayi shall cooperate
with Kadant WFOE in such regard with reasonable efforts, including by signing any transfer instrument or other documents that may be required
statutorily or by the competent authorities for such purposes.
2.2
3.1
3.2
In the event the Intellectual Property transfers cannot be registered by the time the other conditions of Closing are completed then this shall not delay
Closing but the registration will need to be done promptly by Huayi and Kadant.
8
3.3
Further if the Intellectual Property is not registered by Closing then Huayi will grant to Kadant WFOE a worldwide exclusive and royalty free license to
use the Intellectual Property until registered in Kadant WFOE’s name. Huayi will also agree to enforce the patents against third parties infringement if
requested by Kadant WFOE at Kadant WFOE’s expense.
Huayi shall give reasonable assistance to Kadant as Kadant or Kadant WFOE requires to understand the production know-how included in “Intellectual
Property” as set out in Article 1.1, as requested by Kadant or Kadant WFOE at any time during the one-year period following the Closing Date.
Article 4
Employment of Staff
4.1
Kadant WFOE agrees to take over all of the employees actively employed by Huayi on the Closing Date and who are willing to join the Kadant WFOE.
A list of the Huayi Employees is attached hereto as Schedule 3. All employees who shall join the Kadant WFOE shall before Closing enter into:
(a)
new labor contracts with Kadant WFOE for a duration of not less than the remaining term of their employment contracts with Huayi, containing
confidentiality provisions acceptable to Kadant WFOE.
Kadant WFOE will recognize Huayi Employee’s prior service with Jining Huayi (for purposes of calculating the severance payment required in
compliance with Chinese law and relevant applicable regulations of Shandong province) in the event the employee is terminated after the Closing
Date.
4.2
4.3
Kadant WFOE shall increase the salaries of the factory workers in amounts determined in its sole discretion after such Employees have joined Kadant
WFOE. Although the Parties agree Kadant WFOE shall have no obligation to change the salaries of the other employees, Kadant WFOE undertakes that
the salary of other employees will not be decreased on or after the Closing Date, unless their positions or responsibilities are changed.
Kadant WFOE will agree to provide an allowance to employees with 10 years or less to retirement identified in Schedule 5 who are notified after the
Closing Date by Kadant WFOE that their services are no longer necessary, provided that employees who are Shareholders shall
9
be required to sign Annex 3 as a condition to receiving such allowance. During the period from notification until the employee’s retirement date,
Employees in Schedule 5(a) shall receive an amount equal to an average of 700 RMB/month in gross, Employees in Schedule 5(b) shall receive an
average of 900 RMB/month in gross. Employees shall not be entitled to such any other salary or other wage compensation. The allowance will be
calculated individually consistent with the formula in relation to Jining Huayi’s currently applicable regulations on internal retirement which is attached
hereto as Schedule 6. Kadant WFOE will pay social insurance and housing allowance in accordance with Chinese law.
Article 5
Non-Competition and Secrecy
5.1
After the Closing Date and for a period of 10 years for Huayi and for a period of 3 years the Shareholders (listed on Schedule 7 attached hereto) shall not
directly or indirectly:
(a)
(b)
(c)
(d)
(e)
engage in manufacturing businesses related to the machinery and parts manufacture, sales and sevices related business that competes with the
Kadant or the Huayi Business (the “Machinery Business”);
make use of the Intellectual Property other than to transfer such to Kadant WFOE;
establish or acquire an enterprise or other business unit which competes with the Machinery Business;
compete, directly or indirectly, through employment, ownership or otherwise in any other manner with the Machinery Business; or
establish or invest in any facilities to produce, distribute or sell or which provide after-sales service, installation or other services for the
Machinery Business.
such non-competition being applicable to People’s Republic of China including Hong Kong SAR, Macao SAR, Taiwan (hereinafter the “Territory”).
The Shareholders as listed in Schedule 7 and Huayi shall enter into non-compete and confidentiality agreements in the form of Annex 3 hereto. The non-
competition agreements shall provide that Kadant shall be entitled to make a deduction against a breaching party’s share of the Escrow Fund.
In order to secure the non-competition as per Article 5.1 Huayi and the Shareholder undertake to amend Huayi’s current business scope so as to exclude
the Huayi Business as of the Closing Date, and to deliver to Kadant WFOE, on Closing, a certified copy of Huayi’s accordingly revised articles of
association and business license.
10
In the event that this Agreement does not become effective in specified term or is terminated, or the Closing does not complete then Huayi shall be
entitled to revise its business scope to its original wording. Kadant shall provide all necessary assistance.
5.2
Obligation of Secrecy
(a)
(b)
(c)
(d)
Kadant WFOE, Huayi and the Shareholders acknowledge that in connection with their association with the Huayi Business, they have
confidential information pertaining to the Huayi Business. Kadant WFOE, Huayi and the Shareholders each undertake to keep strictly
confidential both, all Intellectual Property as well as all information of a confidential nature pertaining to the business of Huayi (hereinafter
collectively the “Confidential Information”), and that none of Kadant WFOE, Huayi, the Shareholders or their affiliates will disclose, directly or
indirectly, any Confidential Information to any person or entity, except to only use such Confidential Information to the extent as this is
indispensably required for the due performance of this Agreement. Kadant WFOE, Huayi and the Shareholders commit themselves to prevent
unauthorized third parties from getting access to such Confidential Information and documents related thereto.
If the transfer of some Confidential Information to third parties is indispensably required for the due performance of this Agreement then Kadant
WFOE, Huayi and/or the Shareholders shall do so only with the prior express written consent of the other parties. In addition, Kadant WFOE,
Huayi and the Shareholders shall in any such case keep account of the whereabouts of the said Confidential Information and shall deliver to
Kadant WFOE promptly at any time that Kadant WFOE may so request, all memoranda, notes, records (including electronic data records), report
and other documents (and all copies thereof) relating to the Confidential Information which they may then possess or have within their control.
The obligation of secrecy set out in Article 5.2 herein shall survive any termination of this Agreement and shall remain in place until
November 3rd, 2015.
The foregoing provisions shall not apply to Kadant WFOE, Huayi and the Shareholders to the extent Kadant WFOE or Huayi and/or the
Shareholders proves that
(aa)
the Confidential Information was rightfully disclosed to Kadant WFOE or Huayi and/or the Shareholders after the Closing Date by a
third party through
11
no fault of Kadant WFOE or Huayi and/or the Shareholder and without the third party having any obligation of confidentiality or
restriction of use therefrom; or
the Confidential Information at the time of transfer was already generally known to the public through no fault of Kadant WFOE or
Huayi or the Shareholders; or
the Confidential Information after transfer becomes publicly known other than as a result of a breach of this Agreement or other
confidentiality obligation of Kadant WFOE or Huayi and/or the Shareholders are bound to.
(bb)
(cc)
Kadant WFOE, Huayi and the Shareholders shall, however, not be entitled to make the objection that the Confidential Information had already be
known to it or had been rightfully disclosed by a third party, if the relevant party fail in such case to inform the other Party in writing, by stating
the relevant circumstances, within a period of 2 (two) weeks after transfer of such Confidential Information in case of prior knowledge, or within
a period of 2 (two) weeks after disclosure by a third party.
5.3
In the event of any violation or threatened violation of the covenants contained in this Article 5, in addition to any other remedy available at law or in
equity, the affected party shall (i) have the right and remedy of specific enforcement, including injunctive relief, it being acknowledged and agreed that
any such violation or threatened violation will cause irreparable injury and that monetary damages will not provide an adequate remedy, and (ii) if
successful in its claim again the violating party, be reimbursed by the violating party for the actual costs and expenses incurred in pursuing rights under
this Article 5, including reasonable attorneys’ fees and other litigation expenses incurred.
6.1
The purchase price (hereinafter the “Preliminary Purchase Price”) for the Purchased Assets and Business is RMB 156,161,923.
Article 6
Purchase Price
The Preliminary Purchase Price is comprised of:
Fixed Assets = 94,947,769 RMB, the net book value as of October 14, 2005
Inventory = 19,214,154 RMB, the book value as of January 12, 2006
Huayi Business = 42,000,000 RMB
12
6.2
The Preliminary Purchase Price shall be adjusted upon Closing in accordance with the following stipulations:
Fixed Assets – On Closing the value of the Fixed Assets will be reduced to reflect depreciation and amortization from October 1, 2005 to Closing Date,
using Huayi past practices so long as in accordance with generally accepted accounting principles as applied in China. The Preliminary Purchase Price
shall be adjusted to reflect change of fixed assets. In addition, in the event of any sale (whether or not Kadant WFOE has consented to such sale) or
disposal or destruction or theft of any Fixed Assets from October 1, 2005 to the Closing Date, shall result in an adjustment to the Preliminary Purchase
Price equal to the greater of the (i) value of the fixed asset on Schedule 1 or (ii) the price received by Huayi upon the sale or disposal.
Inventory – The Parties have agreed and valued the Inventory existing as of January 12, 2006 using the methodology set forth on Schedule 8 and exhibits
thereto (the “Initial Inventory Value”). On or within 7 days prior to the Closing Date the Parties shall conduct a physical count of the Inventory then
existing (the “Closing Inventory Value”) and value that inventory using the same methodology and applied in a manner consistent with Schedule 8. The
Preliminary Purchase Price will be adjusted to reflect any changes in the value of the Closing Inventory Value from the Initial Inventory Value.
In addition destruction or theft of the Inventory prior to Closing will result in an adjustment of a relevant amount from the Preliminary Purchase Price.
The Preliminary Purchase Price after being adjusted in accordance with Article 6.2 hereof shall be the “Final Purchase Price”.
Article 7
Payment Schedule
7.1
The Parties agree that the Final Purchase Price shall be paid by Kadant WFOE to Huayi in accordance with the following stipulations:
(a)
(b)
An amount required to cancel the mortgage shall be paid in accordance with Article 13.2(l) hereof and the Agreement on Cancellation of
Mortgage to Kadant WFOE’s special account (Fund to Cancel Mortgage);
An amount equal to the total payments received from customers in connection with Assigned Contracts shall be deducted and paid to Kadant
WFOE;
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(c)
(d)
(c)
(d)
80% of the Final Purchase Price minus (i) the Fund to Cancel Mortgage in Article 7.1(a) and (ii) the amount to be paid to Kadant WFOE In
Article 7.1(b), shall be paid to a bank account designated by Huayi on the Closing Date;
20% of the Final Purchase Price shall be paid through the issuance of a letter of credit issued by JP Morgan Chase, Hong Kong branch (the “LC
Bank”) on the Closing Date (“Escrow Fund”). The Escrow Fund shall be evidenced by a standby letter of credit in the form attached hereto as
Annex 4 (the “Letter of Credit”), and entered into by Huayi, Kadant WFOE and LC Bank. Kadant WFOE shall be solely responsible for the cost
of the Letter of Credit. The Letter of Credit may be drawn upon in installments by Huayi and in the amounts set forth in Article 7.2 hereof, upon
certification in writing, signed and duly authenticated, by both Huayi and Kadant WFOE that one or more of the conditions set forth in Article 7.2
hereof have been satisfied. In the event that Kadant WFOE shall be entitled to any payments against the amounts set aside in Article 7.2 hereof,
the Parties agree that they will execute and sign instructions to the LC Bank to amend and reduce the amount of the Escrow Fund and the Letter
of Credit by such amount.
It shall be a pre-condition to payment of each installment of the Purchase Price that Huayi shall issue qualified “official” Chinese tax authorities
registered invoices, in accordance with the Chinese tax laws, to Kadant WFOE.
Taxes and fees arising from the transfer of the Huayi Assets shall be borne by the Parties in accordance with PRC law. However, Kadant shall be
responsible for VAT arising out of purchasing the Inventory.
7.2
The Escrow Fund shall be payable in installments in the following amounts and upon satisfaction of the conditions set forth below, as follows:
(a)
(b)
Twenty percent (20%) of the Escrow Fund will be held for 18 months from the Closing Date and allocated for breaches of the Shareholder Non-
competition and Confidentiality Agreement (Annex 3). If a Shareholder breaches the Shareholder Non-competition and Confidentiality
Agreement, Kadant WFOE shall be entitled to liquidated damages equal in amount to such Shareholder’s proportionate share of the Escrow Fund
under this Article 7.2(a).
Twenty-five percent (25%) of the Escrow Fund will be held for 12 months from the Closing Date (or such earlier date as Huayi shall have paid
100% of the
14
Accounts Payable) and allocated for non-payment of the Accounts Payable (related to running of the Kadant WFOE business and productions. If
before the end of the 12 months, Huayi shall have paid 100% of the Accounts Payable, the portion of the Escrow Fund allocated under this
Article 7.2(b) shall be released to Huayi. If by the end of the 12 months, 100% of the Accounts Payable existing on the Closing Date are still
unpaid by Huayi, then Kadant WFOE shall be entitled to pay on Huayi’s behalf such unpaid Accounts Payable and be reimbursed from the
portion of the Escrow Fund allocated under this Article 7.2(b). If such allocation is insufficient to pay such unpaid Accounts Payable, Kadant
WFOE shall be reimbursed from the portion of the Escrow Fund allocated under Article 7.2(e) for unforeseen events. Huayi will provide to
Kadant WFOE a list of Accounts Payable existing on the Closing Date.
Ten percent (10%) of the Escrow Fund will be held until Kadant WFOE shall have acquired the environmental document or certificate allowing
its operation issued by the appropriate environmental authority for each of the Facilities and it may contain suggestions or recommendations but
contains no requirement to make compulsory improvements on the existing environmental facilities. Such environmental document or certificate
will be issued within 12 months or the portion of the Escrow Fund allocated under Section 7.2(c) shall be reimbursed to Kadant WFOE.
Thirty percent (30%) of the Escrow Fund will be allocated for warranty claims on equipment sold prior to the Closing Date (“Warranty Claims”).
Fifty percent (50%) of such allocated amount, less the value of any Warranty Claims (consisting of costs of services and equipment) not
previously paid to Kadant WFOE under Article 11.8 hereof, shall be released 9 months after the Closing Date. The remaining fifty percent
(50%) of such allocated amount, less the value of any Warranty Claims not previously paid to Kadant WFOE under Article 11.8 hereof, shall be
released 18 months after the Closing Date.
Fifteen percent (15%) of the Escrow Fund will be allocated for unforeseen claims and held for 12 months after the Closing Date. Kadant WFOE
will be entitled to reimbursement from the portion of the Escrow Fund allocated under this Article 7.2 (e) for amounts owed by Huayi to Kadant
WFOE due to any failure of Huayi to meet any representations, warranties or guarantees given hereunder or unforeseen events relating to the
operation of the Huayi Business by Kadant WFOE, such as permits and licenses, litigation and claims against the business or similar events.
(c)
(d)
(e)
15
The Parties agree that the Letter of Credit shall be amended to reduce the amount of the Letter of Credit by the amounts of any payments owed to Kadant
WFOE under this Article 7.2 prior to any disbursement to Huayi under this Article 7.2. Documents shall be presented to the LC Bank for payment of the
Escrow Fund within one month of demand by either Party.
Article 8
Huayi Representations and Warranties
Huayi represents, warrants and guarantees that the following is true and complete on the date hereof and will be true and complete on the Closing Date, unless
otherwise specified hereinafter:
8.1
Assets
(a)
(b)
(c)
(d)
(e)
(f)
Huayi has good and marketable title to the Huayi Main Assets. The Huayi Main Assets shall be transferred free and clear of all liens and
encumbrances, mortgages, pledges and clear of all claims, charges, security interest, options, rights, restrictions or any other interests or title to
said Purchased Assets and Inventory and all consents, approvals or authorizations are required by any third party or authority for Huayi to transfer
and assign these as contemplated hereunder have been obtained except for Intellectual Property Rights. Huayi has leased a portion of the
Facilities (as described in Schedule 1(a)) to third parties as identified on Schedule1(a). Other than as listed on Schedule4 there exist no leases,
oral or in writing, of any portion of the Facilities (as described in Schedule 1 (a)) to a third party on the date hereof or on the Closing Date.
All Huayi Main Assets will be in normal operating condition at Closing. Huayi will be responsible for all repair and maintenance costs up to
Closing.
The Huayi Main Assets constitute the entire assets dedicated to the Huayi Business, (refer to schedule 1(a)) desirable and required to operate the
Huayi Business including, without limitation, to manufacture Products in the required quality and specification.
The Inventory consists of items of a quality and quantity usable or saleable in the ordinary course of business. From October 14, 2005 until
Closing Huayi shall only create Inventory against sales orders.
The Huayi Main Assets are listed as assets on Huayi’s ledgers, have been treated and managed as assets and used as such by Huayi.
No customs or other duties or levies are due in relation to the Huayi Main Assets.
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8.2
Intellectual Property
(a)
(b)
(c)
(d)
The Schedule entitled “Intellectual Property” in Schedule 1 is true and complete. Agreements in relation to the transfer of the utility models and
trademarks have been duly signed and submitted to Kadant WFOE. In addition Huayi shall provide all necessary assistance to Kadant WFOE to
implement the registration but Huayi does not guarantee the registration.
So far no claims have been asserted against Huayi, which are based upon the allegation that the Huayi Business infringes intellectual property
rights of third parties.
Huayi has not granted a license or transferred the Intellectual Property to any other party.
In case any part of the Intellectual Property is not transferred to Kadant WFOE then Huayi shall grant a worldwide exclusive and royalty free
license to use the Intellectual Property until registered in Kadant WFOE’s name.
8.3
Environmental Matters
(a)
(b)
(c)
(d)
The discharge of Huayi’s wastewater to public disposal system is compliant with applicable standards (except for ammonia and nitrogen) and
evidenced by a relevant certificate issued by the competent authorities.
Jining Huayi’s waste gas has no negative impact on its current production and operation. Huayi has all environmental permits, licenses and
authorizations necessary to conduct the Huayi Business.
Huayi knows of no changes of such provisions or revocation or withdrawal of any licenses being contemplated which would adversely affect the
Business or Kadant WFOE’s operations after the Closing Date.
Huayi, the Facilities and the Fixed Assets (whether owned or leased) are substantially in conformity with all applicable environmental, hazardous
substances and occupation safety laws, rule, regulations and orders.
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8.4
Assigned Contracts
(a)
(b)
The Schedule entitled “Assigned Contracts” in Schedule 2 and the copies of the Contracts provided by Huayi to Kadant WFOE pursuant to
Article 2.1 are true and complete including, without limitation, the terms and conditions of any orally concluded contract as reflected in such
Schedule.
The Assigned Contracts are valid and legally binding, and there exist no (side) agreements, in whatever form or manner, in relation to the subject
matter of said contracts which have not been explicitly outlined in the Schedule entitled “Assigned Contracts” with the contractual partners
thereof. Huayi shall be responsible for any breaches on its part of the Assigned Contracts before Closing.
(c)
The sale price in the Assigned Contracts exceeds the estimated costs of manufacturing pursuant to Huayi’s existing accounting methods.
Huayi represents that no prepayments have been accepted other than the customer deposits listed in Schedule 1 (c). Huayi represents that all
customer deposits and prepayments listed in Schedule 1 (c) shall be transferred to Kadant WFOE. Huayi further represents and covenants that in
the event a customer accidentally pays Huayi for products delivered or services performed by Kadant WFOE after Closing then Huayi shall
immediately remit such funds to Kadant WFOE.
The Consents of Persons to be provided by Huayi to Kadant WFOE on Closing are true and complete.
Huayi is not aware of any valid objections from the contractual parties of the Assigned Contracts in relation to the rights, interests and benefits to
be assigned and transferred by Huayi to Kadant WFOE hereunder, other than those explicitly set forth in the Schedule entitled “Assigned
Contracts”.
(c)
(d)
8.5
Customers List
The Customers List is true and complete. Upon Closing Date, Huayi will transfer any written customer inquiries to Huayi in relation to the supply of
Products or services in connection with the Business to Kadant WFOE and promptly forward any Customers’ offer, invitation to tender, or inquiry for
Products to Kadant WFOE. Huayi will use its best efforts to transfer any telephone inquiries to Kadant WFOE. Huayi has not lost any significant
customer or supplier since January 1, 2005 unless disclosed in Schedule 2(a).
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8.6
Compliance with law and contract
(a)
(b)
Huayi is a corporation duly organized, validly existing and in good standing under the laws of the People’s Republic of China and has all requisite
corporate power and authority to enter into this Agreement and perform its obligations hereunder. This Agreement, the execution and delivery
hereof by Huayi, the sale and transfer of the Purchased Assets as herein provided and the performance by Huayi of its obligations and
undertakings hereunder have been duly authorized and approved by all requisite corporate action. This Agreement and all of the documents and
instruments to which Huayi is a party have been duly executed and delivered by Huayi and constitute the legal, valid and binding obligations of
Huayi, enforceable against Huayi in accordance with their terms. The execution of this Agreement and the consummations of the transactions
contemplated hereby do not violate (i) the provisions of any contract, arrangement or instrument to which Huayi or any of its affiliates is a party
or by which any of them or their assets are bound, (ii) any order, decree or judgment of any court or governmental body having jurisdiction over
Huayi or any of its affiliates, or (iii) any law or regulation applicable to Huayi or any of its affiliates.
There is no suit, claim, action or proceeding now pending or threatened in relation to the Huayi Main Assets or Huayi Business before any court,
administrative or regulatory body, governmental agency, arbitration or mediation panel or similar body, nor are there, to Huayi’s best knowledge,
any grounds therefore, to which Huayi in connection with the Huayi Business and/or the Huayi Main Assets is party or which may result in any
judgment, order, decree, liability, award or other determination which will, or could, have any adverse effect upon any Huayi Main Assets or upon
the operations of Kadant WFOE. No such judgment, order, decree or award has been entered against Huayi or has any such liability been incurred
which has, or could have, such effect. There is no claim, action or proceeding now pending or threatened before any court, grand jury,
administrative or regulatory body, governmental agency, arbitration or mediation panel or similar body which will, prevent or hamper the
consummation of the transactions contemplated by this Agreement.
(c)
Any and all governmental permits and consents required by any authority, or statutorily required, or desirable (if any) to operate the Business are
properly granted, except for the registration of the Intellectual Property.
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(d)
Due performance of this Agreement (except for assignment of the Assigned Contracts) thereof does not lead to any breach of any agreement or
contract, of whichever kind and nature, to which Huayi is a party.
(e)
For the effectiveness of this Agreement no governmental approval or consent will be required other than those set forth in Article 13.1, if any.
8.7
Nothing in connection or associated with the Huayi Main Assets can lead to an objection of any competent authority to grant Kadant WFOE any license,
permit or other authorization required by law, regulations or authorities in charge to operate the Purchased Assets, to fulfill Assigned Contracts and to
conduct Kadant WFOE’s operations, including, without limitation, to manufacture and supply Products.
8.8
Negative covenants
From the date of signing of this Agreement until Closing Date, Huayi will not without the prior written consent of Kadant WFOE
(a)
(b)
(c)
(d)
(e)
(f)
execute, change, amend, or terminate, open orders relating to the Business or any Assigned Contracts or other contracts;
materially alter terms of supply applicable to, or prices charged to, Customers and customers of the Business;
lease out, dispose of, create any encumbrance, lien or other right, of whichever nature and kind, with respect to the Purchased Assets and the
Facilities;
build up Inventory or create Inventory for other than written contractual obligations for the delivery of products in the ordinary course of
business;
cause any events which might result in the representations, warranties and guarantees given by Huayi under this Agreement no longer being true;
act outside of their ordinary course of business or enter into or perform any transactions not within the ordinary course of business.
20
8.09
8.10
Huayi has paid all social contribution requirements for their employees in accordance with applicable PRC law up to the Closing Date.
The Business Records are complete and in good order and do not contain any false or misleading information.
Huayi has delivered to Kadant the financial statements and financial information described on Schedule 2(c) (collectively, the “Financial Statements”).
The Financial Statements are complete and accurate and fairly present in all material respects the financial condition of Huayi as of the dates of the
respective Financial Statements and the results of operations of Huayi for the periods to which the Financial Statements relate, and have been prepared in
accordance with generally accepted accounting principles consistently applied.
From latest financial statement date to the Closing date there has been no material negative changes to Huayi’s business development perspective and
financial status.
8.11
Huayi will duly and timely fulfill all its obligations set out in this Agreement and any Schedule and Annex thereto. Huayi will also promptly fulfill all
obligations in respect of payables in relation to the Huayi Business existing as of Closing and also to pay Kadant WFOE for warranty work carried out by
Kadant WFOE for equipment shipped prior to Closing.
8.12
The Schedules, Annexes, documents and information which have been made available by Huayi to Kadant WFOE hereunder are true and complete.
Huayi has provided Kadant WFOE with all material information in relation to Huayi Main Assets and Huayi Business.
Article 9
Kadant WFOE Representation and Warranties
Kadant WFOE represents, warrants and guarantees:
9.1
9.2
Kadant WFOE and its affiliates will be the only entities invested by Kadant Inc. to manufacture and subcontract stock-preparation equipment for use in
the pulp and paper industry in China for ten years as of November 3rd 2005.
offer employment to the current employees of Huayi in accordance with Article 4.1. In addition Kadant WFOE shall increase the salaries of the Factory
Workers and pay salaries to other employees as per Article 4.2 after such employees have joined Kadant WFOE and to comply with the provisions of
Article 4.3.
21
9.3
9.4
make payment of the purchase price in accordance with the terms and conditions outlined herein.
co-operate in the event the transaction cannot proceed to reverse the relevant actions i.e. having relevant certificates returned to the name of Huayi.
Breach of Representation or Warranties and Indemnification
Article 10
Without prejudice to any other rights of the non-breaching party including, without limitation, the non-breaching party’s right to terminate this Agreement as set
out hereunder, the breaching party agrees to indemnify and hold harmless non-breaching party upon non-breaching party’s first demand from and against all
losses, liabilities, costs, damages, and all claims of whichever kind and nature, asserted by any third party or governmental authority against or incurred by non-
breaching party and resulting from the breach by the breaching party of any of the breaching party’s representations, warranties, guarantees or any other
obligation of the breaching party under this Agreement or in relation to responsibilities and liabilities that according to this Agreement shall remain and/or rest
with the breaching party.
Cooperation / Actions Necessary to Complete Transaction/Post-closing Covenants
Article 11
11.1
11.2
11.3
The Parties shall cooperate in order to enable Kadant WFOE to continue the business relationships with the customers of the Huayi Business, in particular
to introduce Kadant WFOE to the circle of customers commencing from Effectiveness of this Agreement and for six (6) months after the Closing Date.
Huayi agrees to provide all reasonable assistance to implement the transaction as set out in this Agreement.
As of the Closing Date and upon request of Kadant WFOE and Huayi shall sign all documents and issue all declarations, which are necessary, appropriate
or desirable to duly perform the transactions contemplated in this Agreement.
The Parties shall, also after the Closing Date, execute and deliver such documents or instruments and do such other things and acts as may still be
necessary or desirable to perform and fully carry out the terms and purposes of this Agreement.
22
11.4
11.5
11.6
11.7
11.8
Huayi shall assist Kadant WFOE with best efforts to obtain any permits, licenses or other authorizations which may statutorily, or by any competent
authority, be required for Kadant WFOE to operate the Purchased Assets, fulfill the Assigned Contracts, including, without limitation, to manufacture and
deliver Products, and to conduct its operation.
Prior to the Closing Date, Kadant WFOE will explore the possibility of reaching a cooperation agreement with the tenant of the canteen located in the
Facilities. However, in the event that Kadant WFOE is unable to reach a cooperation agreement by the Closing Date, Huayi will be obligated to terminate
the canteen lease and pay any and all compensations for termination, including for decorations before Closing. In that case Kadant WFOE agrees to
contribute half of the compensation for the canteen decorations, however no higher than RMB 200,000. Kadant WFOE shall make the above payment to
Huayi within 5 days after the building title certificate is issued. Kadant WFOE and Huayi agree the canteen operator will have three months time to leave
the premises after termination. Huayi will bear half the foregone rental income.
Huayi has the right to use the name “Huayi” in its corporate name for a period of five (5) years commencing on the Closing Date, for the limited purpose
of collecting accounts receivable and leasing/dispose of remaining assets of Huayi (such remaining assets shall not include inventory); provided however,
that Huayi may not represent that it is the owner or operator of the Kadant WFOE or the Huayi Business and may not take any action that harms the
relationship of Kadant WFOE with its customers. Huayi shall protect and hold harmless Kadant WFOE from all claims arising from their use of the
Huayi name.
It is Kadant’s intent to use the assets acquired from Huayi to continue the business at the Facilities to manufacture stock-preparation equipment for use in
the China pulp and paper industry. Kadant undertakes that Kadant WFOE and its affiliates will be the only entities invested by Kadant to manufacture and
subcontract stock-preparation equipment for use in the pulp and paper industry in China for ten years as of November 3rd 2005.
Kadant WFOE will provide reasonable cooperation and assistance to Huayi upon request in providing services for warranty claims occurring in the
warranty period for sales of equipment arising prior to the Closing Date or in collecting accounts receivable. Huayi will compensate Kadant WFOE for
assistance on issues occurred in the warranty period equal to the cost of the services and equipment provided, payable within 30 days of invoice. In the
event Huayi does not respond to the customer’s satisfaction, Kadant WFOE has the right to respond to the warranty claim and be compensated for the
cost of the services and equipment from Huayi.
23
Article 12
Risks and Benefits
The ownership and title of the Purchased Assets and the risks, benefits and charges relating to operation of the Purchased Assets shall pass to Kadant WFOE with
effect as of the Closing Date.
Article 13
Closing and Conditions of Closing
13.1
The “Closing” means the consummation of the transaction contemplated by this Agreement and shall take place immediately after the last of the
conditions precedent set forth below in Article 13.2 (collectively the “Conditions of Closing”) has been duly fulfilled and Kadant WFOE has made
payment in accordance in with this Agreement. The Closing shall commence at Huayi’s facilities immediately after Effectiveness on a certain date the
Parties may agree upon in writing. The “Closing Date” shall be the calendar day on which the last condition of the Conditions of Closing has been
fulfilled and this fact been confirmed by Kadant WFOE and Huayi in writing. For the avoidance of doubt, the Parties explicitly agree that said
confirmation does not release Huayi or Kadant WFOE from any obligations, representations or warranties as set out in Article 8, Article 9, Article 4 and
Article 6 hereunder.
13.2
On Closing the following conditions precedent shall be duly fulfilled according to the terms of this Agreement:
(a)
(b)
(c)
(d)
Huayi and Kadant WFOE shall not be in breach of any of the terms or provision of this Agreement;
Kadant WFOE has obtained a revised business license issued by Jining AIC, and Kadant WFOE shall have delivered to Huayi a certified copy of
the written resolution of the Kadant WFOE’s board of directors in accordance with Kadant WFOE’s Articles of Association then valid, which
agrees to and approves this Agreement and the stipulations contained therein, and the authorized representative of Kadant WFOE shall have
signed this Agreement;
there has not been any material adverse change in the business, prospects or financial condition of Huayi until the time of Closing;
All Schedules and Annexes have been completed and submitted to Kadant WFOE;
24
(e)
Huayi has delivered to Kadant WFOE the following documents in accordance with this Agreement and both Parties have signed thereon as
detailed herein:
(aa)
(bb)
(cc)
(dd)
(ee)
A certified copy of Huayi’s business license currently valid and in full compliance with Article 5.1;
A certified copy of Huayi’s articles of association currently valid and in full compliance with Article 5.1;
The final version of the Schedule entitled “Customer List”;
The Annex 1 “Land-use Right and Building Transfer Agreement attached hereto (only the draft is attached) has been signed by Huayi
and Kadant WFOE for each Facility;
The Annex 2 “Agreement on Cancellation of Mortgage” attached hereto (only the draft is attached) has been signed by Huayi and
Kadant WFOE and the relevant bank
(ff)
All documents for the transfer and the relevant licenses as per Article 3.1;
(f)
(g)
(h)
(i)
Kadant WFOE and the Employees have entered into and signed employment contracts as provided for in Article 4.1 commencing as of the
Closing Date and Kadant WFOE has received evidence from Huayi that the termination of the Employee’s employment with Huayi has been
recorded with the competent authorities accordingly;
The Shareholders listed in Schedule 7 shall have entered into agreements acknowledging to be bound by this Agreement in particular with respect
of Articles 5 & 10;
The Parties have conducted a physical examination on the Inventory of all Fixed Assets. A related takeover protocol been signed by the Parties;
Kadant WFOE has (i) received the Schedule entitled “Assigned Contracts” which fully complies with the stipulations of this Agreement,
(ii) received the original contracts and agreements, if any, (iii) received all consents required to effectively transfer the Assigned Contracts under
PRC law;
(j)
The Parties have jointly conducted a physical check of the Business Records transferred pursuant to Article 1.1;
25
(k)
(l)
(m)
(n)
(o)
Huayi shall have delivered to Kadant WFOE the Purchased Assets (except for the Intellectual Property) and the Facilities;
Huayi shall have terminated all leases to third parties of all or a portion of the Facilities outstanding on or before the Closing Date as identified on
Schedule 4, and paid all compensations due or liquidated damages arising therefrom (except for canteen as dealt with in Article 11.5);
Upon fulfillment of all other Conditions of Closing other than (o) Kadant WFOE shall transfer sufficient funds to cancel the mortgage to a special
account in accordance with Annex 2;
Upon fulfillment of all other Conditions of Closing, the mortgage over the Mortgaged Asset has been i) cancelled by Huayi and the related bank,
ii) registered by the competent authority and iii) Kadant WFOE has received a related certificate issued by the competent authorities that said
mortgages have been cancelled;
Huayi will issue to qualified “official” Chinese tax authorities, with a copy to Kadant WFOE, registered invoices each time an amount of the
Purchase Price is paid by Kadant WFOE on the Closing Date, or thereafter upon each distribution of Escrow Funds to Huayi pursuant to the
Escrow Agreement. The total amount of said invoices shall aggregate the total amount of the Final Purchase Price. Taxes and fees arising from
the transfer of the Huayi Assets shall be borne by the Parties in accordance with PRC law. However, Kadant shall be responsible for VAT arising
out of purchasing the inventory.
Article 14
Effectiveness of the Agreement
14.1
This Agreement shall become effective on the date this Agreement has been signed by duly authorized representatives of Huayi and Kadant Inc. on behalf
of the Kadant WFOE (hereinafter the “Effectiveness Date” or “Effectiveness”).
14.2 Within 30 days of the Effectiveness Date, the following shall have occurred:
(a)
Kadant WFOE will have received a certified copy of the written resolution of Huayi’s board of directors and of Huayi’s shareholders’ meeting in
accordance with Huayi’s articles of association then valid, which approve this Agreement and the stipulations contained therein;
26
(b)
Huayi will have received a written resolution of Kadant Inc.’s board of directors in accordance with Kadant Inc.’s Certificate of Incorporation
then valid, which agrees to and approves this Agreement and the stipulations contained therein;
Article 15
Termination
15.1
This Agreement and the transactions contemplated hereby may be terminated only at any time prior to Closing:
(a)
(b)
(c)
(d)
(e)
By mutual written consent of Huayi and Kadant WFOE;
Either Party if the Closing shall not have occurred within four months after Effectiveness (hereinafter the “Termination Date”);
By non-breaching party, if there has been a material breach by the other party of any of its representations, warranties, guarantees, covenants, or
obligations;
By Kadant WFOE, if since the Effectiveness Date there has been a material adverse change, in the condition (financial or otherwise), business,
assets, properties, operations or prospects of Huayi or the Huayi Business;
By that Party which is not affected by Force Majeure as set forth in Article 16, if the conditions or consequences of Force Majeure (as hereinafter
defined) significantly prevail for a period in excess of six (6) months and the Party have been unable to find an equitable solution pursuant to
Article 16 hereof within two (2) weeks after the occurrence of the Force Majeure events;
15.2
If this Agreement is terminated pursuant to Article 15.1, written notice thereof shall forthwith be given to the other Party and this Agreement shall
thereafter become null and void and all further obligations of the Parties under this Agreement shall terminate without further liability of the Parties,
except that (i) the obligation of both parties in relation to Confidential Information as set out in Article 5.2 and the obligations of the Parties under Article
17.9 shall survive such termination, and (ii) such termination shall not constitute a waiver by any Party of any claim it may have for damages caused by
reason of, or relieve any Party from liability for, any breach of this Agreement prior to termination under Article 15.1.
27
Article 16
Force Majeure
16.1
“Force Majeure” shall mean all events which are beyond the control of a Party to this Agreement, and which are unforeseen, unavoidable or
insurmountable, and which arise after the Effectiveness Date and which prevent total or partial performance by any Party. Such events shall include
earthquakes, typhoons, flood, fire, war, epidemics, governmentally-imposed travel restrictions or bans, or any other events which cannot be foreseen,
prevented or controlled, including events which are accepted as Force Majeure in general international commercial practice.
16.2
Consequences of Force Majeure
(a)
(b)
(c)
If an event of Force Majeure occurs, a Party’s contractual obligations affected by such an event under this Agreement shall be suspended during
the period of delay caused by the Force Majeure and shall be automatically extended, without penalty, for a period equal to such suspension.
The Party claiming Force Majeure shall promptly inform the other Party in writing and shall furnish within ten (10) days thereafter sufficient
proof of the occurrence and duration of such Force Majeure. The Party claiming Force Majeure shall also use all reasonable endeavors to
terminate the Force Majeure.
In the event of Force Majeure, the Parties shall immediately consult with each other in order to find an equitable solution and shall use all
reasonable endeavors to minimize the consequences of such Force Majeure.
Article 17
Miscellaneous
17.1
Should any provision of this Agreement be or become invalid or unenforceable, the validity of this Agreement shall not be affected thereby. In lieu of the
invalid or unenforceable provision, a fair provision shall apply which, to the extent legally permissible, which comes as close as possible to what the
parties have intended economically.
28
17.2
17.3
17.4
This Agreement is subject to the laws of the People’s Republic of China. Where such laws are silent, internationally accepted principles shall apply.
The headings in this Agreement shall not affect the interpretation thereof.
Each Party shall bear the taxes, if any, relating to the transfer of the Purchased Assets and Businesses contemplated herein as is required by pertinent law.
Each Party shall bear their own costs and expenses incurred in connection with the transactions contemplated herein, regardless of whether the transaction
is consummated.
17.5
All notices to be issued under, or in connection with, this Agreement shall be in the English and Chinese language and sent by registered mail with
acknowledgement with receipt, if to Huayi, to:
Jining Huayi Light Industry Machinery Co., Ltd.
No. 99 Jidian Road 1
Hight-New Technical Industry Developing District
Jining, Shandong 272023 China
Attn: Liu Zhaofu
Chairman of Board
and if to Kadant WFOE, to:
Kadant Jining Light Industry Machinery Co. Ltd.
c/o Kadant Inc.
One Acton Place, Suite 202
Acton, MA 01720 USA
Attn: President
or at such other address as will be notified by either of the Parties in writing to the other prior to sending of a notice.
17.6
All disputes arising between the Parties out of, or in connection with, this Agreement, including, without limitation, its validity and interpretation, shall
be, finally and binding between the Parties, be decided to the exclusion of any state court’s competence by the China International Economic and Trade
Arbitration Commission (hereinafter the “CIETAC”) in accordance with the following principles and the rules of CIETAC then in force. The place of
arbitration shall be Beijing. The arbitration proceedings shall be in English and Chinese the arbitration panel shall refer to the English and Chinese
version of this Agreement only.
29
17.7
17.8
17.9
This Agreement is in substitution for all previous agreements between the Parties hereto (including the Letter of Intent dated July 19, 2005 and
Memorandum of Understanding dated November 3, 2005).
No amendment or variation of this Agreement shall be effective unless in writing and signed by and on behalf of each of the Parties.
Both Parties shall keep this Agreement and the terms and conditions hereunder strictly private and confidential except as may be required by law, any
governmental authority, agreed by the other Party or be required to duly perform the obligations hereunder (e.g. to obtain Consents as required by this
Agreement). However, the agreement from the other Party shall not unreasonably be withheld. Any publication of the transaction contemplated by this
Agreement after Closing shall be made by Kadant WFOE only on its own costs and only after Huayi’s consent, such not unreasonably withheld.
17.10 All Schedules referred to herein, once confirmed by Kadant WFOE and Huayi shall form an integral part of this Agreement.
17.11 None of the Parties shall be entitled to assign or transfer any rights and benefits it is entitled to hereunder without the prior written consent of the other
Party.
17.12 This Agreement shall be written in English and Chinese language and both versions shall be equally valid. Six copies in both English and Chinese, each
party shall hold one set and the others to be used for various approvals.
[REST OF PAGE INTENTIONALLY LEFT BLANK]
30
IN WITNESS WHEREOF, each of the Parties has caused this Agreement to be executed on its behalf by a duly authorized officer as of the date first written
above.
SIGNATURE PAGE
Jining Huayi Light Industry Machinery Company
Place:/Date: Jining January 21, 2006
/s/ Liu Zhaofu
Liu Zhaofu
Chairman of the Board
Kadant WFOE, by Kadant Inc. for and on behalf of Kadant WFOE
Place:/Date: Jining January 21, 2006
By: /s/ Edwin D. Healy
Edwin D. Healy
Vice President
31
Agreement
Assigned Contracts
Accouts Payable
Business Records
Conditions of Closing
Consents
Confidential Information
Closing
Closing Date
Customer(s)
Customer List
CIETAC
Escrow Fund
Effectiveness Date
Fixed Assets
Final Purchase Price
Force Majeure
Huayi
Huayi Main Assets
Huayi Business
Inventory
Intellectual Property
Kadant
Definitions to be found in
(For reference purposes only)
[Preamble]
[Article 1.1(b)]
[Article 1.2]
[Article 1.1(b)]
[Article 12.1]
[Article 2.1]
[Article 5.4]
[Article 12.1]
[Article 12.1]
[Article 1.1(b)]
[Article 1.1(b)]
[Article 16.6]
[Article 7.1]
[Article 13.1]
[Article 1.1(a)]
[Article 6.3]
[Article 15.1]
[Preamble]
[Article 1.1(a)]
[Article 1.1(b)]
[Article 1.1(a)]
[Article 1.1(a)]
[Preamble]
32
Kadant WFOE
Employees
Mortgaged Assets
Preliminary Purchase Price
Purchased Assets and Business
Products
Registration Confirmation
Territory
Termination Date
[Preamble]
[Article 5.1]
[Article 2.2]
[Article 6.1]
[Article 1.1]
[Preamble]
[Article 3.1]
[Article 5.1]
[Article 14.1(b)]
33
EMPLOYMENT AGREEMENT
Exhibit 10.20
THIS EMPLOYMENT AGREEMENT (“Agreement”) is entered into as of April 7, 2005, by and between Kadant Inc., a Delaware corporation with its
principal place of business at One Acton Place, Acton, Massachusetts 01720 (“Kadant”), and Rudolf A. Leerentveld, residing at 988 Treasure Island Drive,
Mattawan, Michigan 49071 (the “Employee”). Kadant and the Employee are referred to together herein as the “Parties.”
Introduction
WHEREAS, Kadant, a Delaware corporation, Johnson Acquisition Corp., a Michigan corporation, The Johnson Corporation, a Michigan corporation (the
“Company”), and certain stockholders of the Company have entered into a Purchase Agreement, dated as of April 7, 2005 (the “Purchase Agreement”), pursuant
to which the Company will be acquired by and become a wholly owned subsidiary of Kadant; and
WHEREAS, after the Closing Date, Kadant desires that the Employee be employed by the Company (the Company being referred to herein in such
capacity as the “Employer”), and the Employee desires such employment, subject to and in accordance with the terms set forth in this Agreement.
NOW, THEREFORE, in consideration of the mutual covenants and promises contained herein, and other good and valuable consideration, the receipt and
adequacy of which is hereby acknowledged, the Parties agree as follows:
1. Term of Employment; Compensation and Benefits.
1.1 Term of Employment. The Employer hereby agrees to employ the Employee, and the Employee hereby accepts employment with the Employer, upon
the terms set forth in this Agreement, for the period commencing on the Closing Date (the “Commencement Date”) and ending on the second anniversary of the
Closing Date (such period, the “Employment Period”), unless sooner terminated in accordance with the provisions of Section 2 hereof. Nothing herein shall be
interpreted to limit the Parties’ ability to continue the employment of the Employee by the Employer on an “at will” basis after the expiration of the Employment
Period; provided that such employment will be on the Employer’s then current terms and conditions of employment for similarly situated employees.
1.2 Duties and Responsibilities. The Employee shall serve as the President of the Company. The Employee shall be subject to the supervision of and shall
have such authority as is delegated to him by the Chief Executive Officer of Kadant or his designee. The Employee hereby accepts such employment and agrees
to undertake the duties and responsibilities inherent in such position and such other duties and responsibilities as the Employer or Kadant shall from time to time
reasonably assign to him consistent with the terms hereof. The Employee agrees to devote his entire business time, attention and energies to the business and
interests of the Employer during the Employment Period. The Employee further agrees to abide by:
(a) the rules, regulations, instructions, personnel practices and policies of Kadant which are generally applicable to all Kadant employees and any changes
therein which may be adopted from time to time by Kadant;
(b) Kadant’s Insider Trading Policy and any changes therein which may be adopted from time to time by Kadant; and
(c) Kadant’s Code of Business Conduct and Ethics and any changes therein which may be adopted from time to time by Kadant.
1.3 Compensation.
(a) Commencing on the Closing Date, the Employer shall pay the Employee as salary for the services and duties performed hereunder Two Hundred
Twenty-five Thousand Dollars ($225,000) per year in accordance with the Employer’s customary payroll procedures then in effect. Such salary shall be subject to
upward adjustment thereafter as determined by the Chief Executive Officer of Kadant, but shall not be less than $225,000 annually during the term of this
Agreement.
(b) The Employer shall pay the Employee an annual bonus of $300,000 per year. Employee must be employed by the Employer as of the last day of
Kadant’s fiscal year to be entitled to and paid the full annual bonus. In case the Employee’s employment is discontinued prior to the last day of Kadant’s fiscal
year, then the bonus to which the Employee shall be entitled shall be pro-rated in proportion to the days in such fiscal year that the Employee was employed under
this Agreement. In case the Employee’s employment is discontinued “For Cause” as defined in Section 2.2 of this Agreement, no bonus payment shall be due.
(c) Effective upon the Closing Date, and provided that the Employee is employed by the Company on the Closing Date, the Compensation Committee of
the Board of Directors of Kadant shall grant to the Employee a nonqualified stock option to purchase 100,000 shares of common stock, $0.01 par value per share
(the “Common Stock”), of Kadant at an exercise price equal to the closing price of the Common Stock on the Closing Date as reported by the New York Stock
Exchange, pursuant to the terms and conditions set forth in the form of Nonqualified Stock Option Agreement attached hereto as Exhibit A.
1.4 Fringe Benefits. The Employee shall be entitled to participate in all benefit programs the Employer establishes and makes available to its executive
officers from time to time, if any, to the extent that the Employee’s position, tenure, salary, age, health and other qualifications make him eligible to participate.
The Employee’s service with the Company or its subsidiaries shall be counted as service with the Employer for the purposes of determining eligibility for,
entitlement to and vesting of benefits under all benefit plans provided by the Employer to its employees as allowed by law.
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1.5 Profit Sharing Plan. The Employer shall make certain periodic contributions on behalf of and for the benefit of the Employee, in accordance with the
provisions of and subject to the limitations set forth in the Company’s Profit Sharing Plan, as may be amended from time to time.
1.6 Reimbursement of Business and Personal Expenses. The Employer shall reimburse the Employee for all reasonable travel, living and other business
expenses incurred or paid by the Employee in connection with, or related to, the performance of his duties, responsibilities or services under this Agreement, upon
presentation by the Employee of documentation, expense statements, vouchers and/or such other supporting information as the Employer may request, in
accordance with Kadant’s travel expense policies and guidelines.
1.7 Appointment as a Vice President of Kadant. The Chief Executive Officer of Kadant intends to recommend to the Board of Directors of Kadant the
appointment of the Employee as a Vice President of Kadant at the regularly scheduled meeting of the Board of Directors of Kadant held concurrently with the
first annual meeting of stockholders of Kadant after the Closing Date. Such appointment is subject to the approval and discretion of the Board of Directors of
Kadant, based upon their assessment of the performance of the Employee and such other factors as they deem appropriate in their sole discretion. Upon such
appointment, the Employee shall be deemed an “officer” of Kadant as such term is defined in Rule 16a-1(f) of the Securities and Exchange Act of 1934, as
amended (the “Act”) and agrees to comply with all reporting requirements of an officer as required by the Act.
2. Employment Termination.
The employment of the Employee by the Employer pursuant to this Agreement shall terminate upon the occurrence of any of the following:
2.1 Expiration of the Employment Period. At the expiration of the Employment Period or such longer period of employment in accordance with Section 1
hereof;
2.2 For Cause. At the election of the Employer, “for cause” (as defined below), immediately upon written notice by the Employer to the Employee. For the
purposes of this Agreement, “for cause” termination shall be deemed to exist upon (a) a good faith finding by the Employer of dishonesty, gross negligence or
willful misconduct related to the performance of the Employee’s duties for the Employer; (b) the conviction of the Employee of, or the entry of a pleading of
guilty or nolo contendere by the Employee to, any crime involving moral turpitude or any felony; (c) the Employee’s habitual drunkenness, or the use, possession,
distribution or being under the influence of alcohol or illegal substances or illegal drugs in the workplace or in a manner otherwise affecting the Employee’s
performance of his duties for the Employer; or (d) the breach by the Employee of Section 4 of this Agreement;
2.3 In the Event of Death or Disability. Thirty days after the death or “disability” (as defined below) of the Employee. As used in this Agreement, the term
“disability” shall mean the inability of the Employee, due to a physical or mental disability, for a period of 180 days, whether or not consecutive, during any 360-
day period to perform the services contemplated under this Agreement. A determination of disability shall be made by a physician satisfactory to
-3-
both the Employee and the Employer, provided that if the Employee and the Employer do not agree on a physician, the Employee and the Employer shall each
select a physician and these two together shall select a third physician, whose determination as to disability shall be binding on all parties;
2.4 Termination without Cause. At the election of the Employer, without cause and for no cause, upon not less than six months’ prior written notice of
termination; provided, however, that the Employer reserves the right to place the Employee on a paid leave during such notice period; or
2.5 Voluntary Termination. At the election of the Employee prior to the expiration of the Employment Period in accordance with Section 1 hereof upon not
less than six months prior written notice of termination or notice equal to the remainder of the Employment Period, whichever is less.
3. Effect of Termination.
3.1 Termination Upon Expiration of Employment or for Cause. In the event the Employee’s employment is terminated upon expiration of the Employment
Period pursuant to Section 2.1 or for cause pursuant to Section 2.2 hereof, the Employer shall pay to the Employee the compensation and benefits otherwise
payable to him under Section 1 through the last day of his actual employment by the Employer. The date upon which the Employee’s employment with the
Employer ceases is referred to herein as the “Employment Termination Date”.
3.2 Termination for Death or Disability. If the Employee’s employment is terminated by death or because of disability pursuant to Section 2.3 hereof, the
Employer shall pay to the estate of the Employee or to the Employee, as the case may be, the compensation which would otherwise be payable to the Employee
through the Employment Termination Date.
3.3 Termination by Employer without Cause. If the Employee’s employment is terminated by the Employer without cause pursuant to Section 2.4 hereof
prior to the expiration of the Employment Period, the Employer shall pay to the Employee (a) a lump sum payment on the Employment Termination Date
equivalent to one year of the Employee’s salary at his salary rate then in effect and (b) if such termination occurs after the end of the fiscal year, the annual bonus
as set forth in Section 1.3(b) hereof.
3.4 Voluntary Termination. If the Employee’s employment is voluntarily terminated by the Employee pursuant to Section 2.5 hereof prior to the expiration
of the Employment Period, the Employer shall pay to the Employee the compensation and benefits otherwise payable to him under Section 1 through the
Employment Termination Date.
4. Non-Compete; Non-Solicitation; Confidential Information; Assignment of Inventions.
The Employee understands and agrees that he shall continue to be subject to that certain Employee Invention, Non-Disclosure, Non-Competition and Non-
Solicitation Agreement dated February 23, 2000 (the “Confidentiality Agreement”), by and between the Employee and the Company. The Employee further
understands and agrees that he is also subject to the following
-4-
provisions set forth in the Purchase Agreement: (a) the confidentiality and non disclosure provisions set forth in Section 9.1 of the Purchase Agreement; (b) the
restrictions on the solicitation or hiring of former employees set forth in Section 9.2 of the Purchase Agreement; and (c) the non competition provisions set forth
in Section 9.3 of the Purchase Agreement. For purposes of this Section 4, in the event the Confidentiality Agreement conflicts with the Purchase Agreement, the
provisions set forth in the Purchase Agreement shall govern. The provisions of this Section 4 shall survive the termination of this Agreement.
5. Entire Agreement.
Except for (i) the Retention Bonus Agreement between the Company and the Employee dated March 31, 2005, (ii) the Agreement between the Company
and the Employee dated April 6, 2005, (iii) the Employee Invention, Non-Disclosure, Non-Competition and Non-Solicitation Agreement between the Company
and the Employee dated February 23, 200, (iv) the Stock Option Agreement between the Company and the Employee dated December 30, 2003 (the “Option
Agreement”) and (v) the Stock Holders Agreement between the Company and the Employee dated December 30, 2003 (the “Stock Holders Agreement”), this
Agreement constitutes the entire agreement between the Parties and supersedes all prior understandings and agreements, written or oral (including, without
limitation, (a) any employment agreement between the Employee and the Company or any of its Affiliates entered into prior to the date hereof and (b) that certain
Agreement, effective as of July 1, 2004, by and between the Employee and the Company), that may have related in any way to the subject matter of this
Agreement. The Employee acknowledges and agrees that the Option Agreement and the Stock Holders Agreement shall be void and of no further force or effect
as of the Commencement Date.
6. Amendment.
This Agreement may be amended or modified only by a written instrument executed by Kadant and the Employee.
7. Governing Law, Forum and Jurisdiction.
This Agreement shall be governed by and construed in accordance with the internal laws of the State of Delaware without reference to the conflict of laws
provisions thereof. Any action, suit or other legal proceeding that is commenced to resolve any matter arising under or relating to any provision of this Agreement
shall be commenced only in a court of the State of Delaware (or, if appropriate, a federal court located within Delaware), and Kadant and the Employee each
consent to the jurisdiction of such a court.
8. Succession and Assignment.
This Agreement shall be binding upon and inure to the benefit of the Parties and their respective successors and permitted assigns. No Party may assign
either this Agreement or any of its rights, interests or obligations hereunder without the prior written approval of the other Party; provided, that Kadant may
assign its rights, interests or obligations hereunder to (a) an Affiliate of Kadant provided that Kadant shall remain responsible to the Employee for such
obligations in the event they are not met by such Affiliate or (b) a person who acquires (whether by stock or merger or otherwise) all or substantially all of the
business or assets of Kadant or the Employer.
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9. Notices.
All notices, requests, demands, claims and other communications hereunder shall be in writing. Any notice, request, demand, claim or other
communication hereunder shall be deemed duly delivered two business days after it is sent by registered or certified mail, return receipt requested, postage
prepaid, or one business day after it is sent via a reputable nationwide overnight courier service, in each case to the intended recipient as set forth below:
If to the Employee:
Rudolf A. Leerentveld
988 Treasure Island Drive
Mattawan, MI 49071
Copy to:
Stan Stek, Esq.
Miller Canfield
99 Monroe Avenue N.W.
Suite 1200
Grand Rapids, MI 49503
If to Kadant:
Kadant Inc.
One Acton Place
Acton, MA 01720
Attention: Chief Executive Officer
Copy to:
Kadant Inc.
One Acton Place
Acton, MA 01720
Attention: General Counsel
Any Party may give any notice, request, demand, claim or other communication hereunder using any other means (including personal delivery, expedited
courier, messenger service, telecopy, telex, ordinary mail or electronic mail), but no such notice, request, demand, claim or other communication shall be deemed
to have been duly given unless and until it actually is received by the individual for whom it is intended. Any Party may change the address to which notices,
request, demand, claims and other communications hereunder are to be delivered by giving the other Party notice in the manner herein set forth.
-6-
10. Miscellaneous.
10.1 No delay or omission by any Party in exercising any right under this Agreement shall operate as a waiver of that or any other right. A waiver or
consent given by any Party to this Agreement on any one occasion shall be effective only in that instance and shall not be construed as a bar or waiver of any right
of such Party on any other occasion.
10.2 The section headings in this Agreement are inserted for convenience only and shall not affect in any way the meaning or interpretation of this
Agreement.
10.3 In case any provision of this Agreement shall be invalid, illegal or otherwise unenforceable, the validity, legality and enforceability of the remaining
provisions shall in no way be affected or impaired thereby. If any restriction set forth in this Agreement is found by any court of competent jurisdiction to be
unenforceable because it extends for too long a period of time or over too great a range of activities or in too broad a geographic area as to which it may be
enforceable, it shall be interpreted to extend only over the maximum period of time, range of activities or geographic area as to which it may be enforceable. The
Parties intend that the provisions in Section 4 of the Agreement shall be deemed to be a series of separate covenants, one for each and every county of each and
every state of the United States of America and each and every political subdivision of each and every country outside the United States of America where those
provisions are intended to be effective.
10.4 The Employee recognizes that his willingness to be bound by the provisions of Section 4 hereof was a critical condition precedent to Kadant’s
willingness to enter into and perform under this Agreement and the Purchase Agreement and that the restrictions contained in Section 4 hereof are necessary for
the protection of the business and goodwill of Kadant and are considered by the Employee to be reasonable for such purpose. The Employee also acknowledges
that the restrictions contained in Section 4 will not materially or unreasonably interfere with the Employee’s ability to earn a living. The Employee agrees that any
breach of this Agreement is likely to cause Kadant substantial and irrevocable damage and that therefore, in the event of any breach of this Agreement, the
Employee agrees that Kadant in addition to such other remedies that may be available at law or in equity, shall be entitled to specific performance and other
injunctive relief without posting a bond.
10.5 This Agreement may be executed in one or more counterparts, each of which shall be deemed an original but all of which together shall constitute one
and the same instrument.
10.6 Capitalized terms used herein and not otherwise defined shall have the meanings ascribed to such terms in the Purchase Agreement.
10.7 In the event the Purchase Agreement is terminated in accordance with Section 10.1 thereof prior to the Commencement Date, this Agreement shall be
null and void and of no further force and effect.
[Remainder of Page Intentionally Left Blank.]
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IN WITNESS WHEREOF, the Parties hereto have executed this Agreement as of the day and year first set forth above.
KADANT INC.
/s/ William A. Rainville
By:
Name: William A. Rainville
Title:
Chairman & CEO
EMPLOYEE:
/s/ Rudolf A. Leerentveld
Rudolf A. Leerentveld
-8-
KADANT INC.
Nonqualified Stock Option Agreement
Exhibit A
1. Grant of Option. This Nonqualified Stock Option Agreement (the “Option Agreement”) contains the terms and conditions of a grant of a nonqualified
stock option (the “Option”) to purchase the shares of the common stock of the Company (the “Option Shares”) made to you pursuant to the stock option plan
identified on the cover page of this Option Agreement (the “Plan”). The date on which your Option was granted by the Company’s Board of Directors is written
on the cover page of this Option Agreement and is called the Grant Date. A copy of the Plan that governs your Option is attached and made a part of this Option
Agreement. This Option is intended to be a non-statutory stock option under the U.S. Internal Revenue Code of 1986, as amended.
2. Exercisability and Vesting of Option. Your Option only may be exercised once your Option Shares have vested. Your Option Shares vest and become
exercisable in three installments for the number of shares listed on the cover page of this Option Agreement under the heading “Shares” and on the vesting dates
written on the cover page of this Option Agreement under the heading “Full Vest”, provided that on each vesting date you have been continuously employed by
the Company or an “Affiliated Employer” since the Grant Date. Your Option Shares will fully vest immediately in the event of a Change in Control, an event that
is defined in the Plan, if the Change in Control occurs before the date on which you cease to be an employee of the Company or an Affiliated Employer. The date
on which you cease to be an employee of the Company or an Affiliated Employer is called your “Employment Termination Date”. An “Affiliated Employer”
means any corporation that more than 50% of its outstanding common stock is owned by the Company. On your Employment Termination Date, all Option
Shares that have not already vested are immediately forfeited to the Company and cancelled.
3. Termination of Option. The date on which your Option terminates or expires is called the “Option Termination Date.” Your Option will terminate when
the first of the following events occurs:
(a) the Expiration Date of the Option, which is seven years from your Grant Date and identified on the cover page of this Option Agreement under the
heading “Expiration”; or
(b) three months after your Employment Termination Date if the Employment Termination Date occurs for any reason other than the reasons named in
Sections 3(c), 3(d) or 3(e); or
(c) one year after your Employment Termination Date if your Employment Termination Date occurs due to your death or disability. For purposes of this
Option Agreement, “disability” means that you are receiving disability benefits under the Company’s Long Term Disability Coverage, as then in effect, on the
Employment Termination Date; or
1
(d) two years after your Employment Termination Date if the Employment Termination Date occurs due to your retirement. For purposes of this Option
Agreement, (i) if you are an outside director of the Company, “retirement” means the date on which you cease to serve as a director of the Company, and (ii) if
you are an employee of the Company or an Affiliated Employer, “retirement” means the termination of your employment after age 55 and the completion of 10
years of continuous service (consisting of at least 20 hours per week) to the Company or an Affiliated Employer; or
(e) the date the Company is dissolved or liquidated.
4. No Assignment of Rights. Except for assignments or transfers by will or the applicable laws of descent and distribution, your rights and interests under
this Option Agreement and the Plan may not be assigned or transferred in whole or in part either directly or by operation of law or otherwise, including without
limitation by way of execution, levy, garnishment, attachment, pledge or bankruptcy, and no such rights or interests shall be subject to any of your obligations or
liabilities. Notwithstanding the foregoing, if you are a director or officer of Kadant Inc. on the date of grant, or subsequently become a director or officer of
Kadant Inc., the Company consents to the transfer of this Option by you to an immediate member of your family, a family trust or family partnership, provided
that you, the Company and the transferee execute a written assignment of this Option in the form specified by the Company and upon terms satisfactory to the
Company prior to such assignment becoming effective.
5. Exercise of Option; Delivery and Deposit of Certificate(s). You (or in the case of your death, your legal representative) may exercise vested Option
Shares in whole or in part by giving written notice to the Company on the form provided by the Company (the “Exercise Notice”) any time before the Option
Termination Date. Your Exercise Notice must be accompanied by full payment for the Option Shares being purchased before it will be considered complete. You
may pay for the Option Shares by any of the following methods:
•
•
•
•
in cash or by certified or bank cashier’s check payable to the order of the Company, in an amount equal to the number of Option Shares being purchased
multiplied by the Exercise Price (the “Exercise Consideration”),
in unrestricted shares of the Company’s common stock (the “Tendered Shares”) with a market value equal to the Exercise Consideration,
by delivery of an unconditional and irrevocable undertaking by a broker to deliver promptly to the Company sufficient funds to pay the Exercise
Consideration, or
any combination of cash, certified or bank cashier’s check or Tendered Shares having a total value equal to the Exercise Consideration.
Tendered Shares that were acquired directly from the Company may be surrendered as all or part of the Exercise Consideration only if you acquired such
Tendered Shares more than six months prior to the date of exercise. As soon as reasonably practicable after receipt of the Exercise Notice and the Exercise
Consideration, the Company will deliver or cause to be delivered to you a certificate or certificates representing the number of Option Shares you purchased,
registered in your name.
2
6. Rights With Respect to Option Shares. Prior to the date the Option is exercised, you shall not be considered to be the holder of the common stock
represented by the Option Shares for any purpose. Upon the issuance to you of a certificate or certificates representing Option Shares, you shall have ownership
of those Option Shares, including the right to vote and receive dividends, subject, however, to the other restrictions and limitations that may be imposed either
pursuant to the Plan and this Option Agreement or which may now or at some date in the future be imposed by the Certificate of Incorporation or the By-Laws of
the Company.
7. Dilution and Other Adjustments. In the event a stock dividend, stock split or combination of shares, or other distribution with respect to holders of
common stock other than normal cash dividends, occurs while the Option is outstanding (after the Grant Date and before the date the Option is exercised), the
committee appointed by the Company’s Board of Directors to administer the Plan (the “Committee”) may in its discretion adjust the number of shares for which
the Option may be exercised and the Exercise Price for the Option to reflect such event. In the event any recapitalization, merger or consolidation involving the
Company, any transaction in which the Company becomes a subsidiary of another entity, any sale or other disposition of all or a substantial portion of the assets
of the Company or any similar transaction, as determined by the Committee, (any of the foregoing, a “covered transaction”) occurs while the Option is
outstanding, the Committee in its discretion may (i) accelerate the exercisability of the Option, (ii) adjust the terms of the Option (whether or not in a manner that
complies with the requirements of Section 424(a) of the Internal Revenue Code of 1986, as amended (the “Code”)), (iii) if there is a survivor or acquiror entity,
provide for the assumption of the Option by such survivor or acquiror or an affiliate thereof or for the grant of one or more replacement options by such survivor
or acquiror or an affiliate thereof, in each case on such terms (which may, but need not, comply with the requirements of Section 424(a) of the Code) as the
Committee may determine, (iv) terminate the Option (provided, that if the Committee terminates the Option, it shall, in connection therewith, either
(A) accelerate the exercisability of the Option prior to such termination, or (B) provide for a payment to the holder of the Option of cash or other property or a
combination of cash or other property in an amount reasonably determined by the Committee to approximate the value of the Option assuming an exercise
immediately prior to the transaction, or (C) if there is a survivor or acquiror entity, provide for the grant of one or more replacement options pursuant to clause
(iii) above), or (v) provide for none of, or any combination of, the foregoing. No fraction of a share or fractional shares shall be purchasable or deliverable under
this Option Agreement.
8. Reservation of Shares. The Company will at all times during the term of this Option Agreement reserve and keep available enough shares of its
common stock to satisfy the requirements of this Option Agreement and shall pay all fees and expenses necessarily incurred by the Company in connection with
this Option Agreement and the issuance of Option Shares.
9. Taxes. The Company, in its sole discretion, will determine whether the Company, any of its subsidiaries, or any other person has incurred or will incur
any liability to withhold any federal, state or local income or other taxes by reason of the grant or exercise of the Option, the issuance of Option Shares to you or
the lapse of any restrictions applicable to the Option Shares. You agree to pay promptly, upon demand by the Company or any of its subsidiaries, to the Company
or such subsidiary, any amount requested by it for the purpose of satisfying such tax
3
liability. If you fail to pay promptly the amount requested, the Company will refuse to issue you the Option Shares and will, without further consent by you, have
the right to deduct such taxes from any payment of any kind otherwise due to you, and may hold back from the Option Shares to be delivered to you on exercise
that number of shares calculated to satisfy all federal, state, local or other applicable taxes required to be withheld in connection with such exercise.
The Company may permit you to satisfy the minimum statutory withholding tax requirement (the “Obligation”) arising from exercise of the Option by
making an election (an “Election”) to have the Company withhold from the number of shares to be issued upon exercise of the Option, or to otherwise tender to
the Company, that number of shares of common stock having a value equal to the amount of the Obligation. The value of the shares to be withheld or tendered
shall be based upon the closing price of the common stock on the date that the amount of the Obligation is determined (the “Tax Date”), as reported by the stock
exchange on which the Company’s shares are then traded. Each Election must be made at the time the Option is exercised or the Tax Date, whichever is later. The
Committee may disapprove of any Election or may suspend or terminate the right to make Elections. An Election is irrevocable.
10. Determination of Rights. Any dispute or disagreement concerning the Plan or this Option Agreement shall be determined by the committee appointed
by the Company’s Board of Directors to administer the Plan (the “Committee”), in its sole discretion, and any decision made by the Committee in good faith shall
be conclusive on you and all other parties. The interpretation, construction and determination of any question by the Committee of any provision of this Option
Agreement or the Plan, or any rule or regulation adopted pursuant to the Plan, shall be final and conclusive on all parties.
11. Limitation of Employment Rights. The Option confers upon you no right to continue in the employ of the Company or an Affiliated Employer or
interferes in any way with the right of the Company or an Affiliated Employer to terminate your employment at any time.
12. Communications. Any communication or notice required or permitted to be given under this Option Agreement will be in writing, and mailed by
registered or certified mail, by express courier or delivered in hand, to the Company addressed to its Stock Option Administrator, Kadant Inc., One Acton Place,
Suite 202, Acton, MA 01720, and to you at the address you most recently have given to the Company.
4
At March 1, 2006, the Registrant owned the following companies:
Kadant Inc.
Subsidiaries of the Registrant
Name
ArcLine Products, Inc.
Kadant Black Clawson Inc.
Kadant Fibergen Inc.
Fibergen Securities Corporation
Kadant GranTek Inc.
Kadant Composites LLC
Kadant International Holdings Inc.
Kadant Asia Holdings Inc.
Kadant Pulp and Paper Equipment (Beijing) Co. Ltd.
Kadant (Gibraltar) Limited
Kadant International LLC
Kadant International LLC Luxembourg SCS (99% of which is owned directly by Kadant (Gibraltar) Limited)
Kadant Luxembourg SarL
Kadant AES Canada Corp.
Kadant Holdings LLC
Kadant Holdings SarL
Kadant UK Holdings Limited
Fibertek U.K. Limited
Kadant U.K. Limited
D.S.T. Pattern Engineering Company Limited
Vickerys Limited
Winterburn Limited
Kadant Mexico LLC
Kadant AES Mexico, S.A. de C.V.
Kadant Lamort
Kadant BC Lamort UK
Kadant Cyclotech AB
Kadant Lamort AB
Kadant Lamort GmbH
Kadant Lamort S.A.
Kadant Lamort S.r.l.
Kadant Johnson Inc.
Kadant Johnson Argentina S.r.l. (1% owned by Kadant Johnson Export Corporation)
Kadant Johnson Canada Inc.
Kadant Johnson China-TZ Holding Inc.
Kadant Johnson China-WX Holding Inc.
Kadant Johnson (Wuxi) Technology Ltd.
Kadant Johnson Export Corporation
Kadant Johnson Europe B.V.
Kadant Johnson Deustchland GmbH
Kadant Johnson France B.V.
Kadant Johnson Scandinavia AB
Kadant Johnson Schweiz AG
Kadant Johnson Systems International Ltd.
Kadant Johnson Systems International S.r.l.
Kadant Johnson Corporation Nederland B.V.
Kadant Services GmbH
Johnson Corporation (JoCo) Limited
Johnson Diagnosys Ltd.
Johnson-Fluiten S.r.l.
Johnson Nederland B.V.
Johnson Norway AS
The Johnson Corporation Europe B.V.
Kadant Johnson Latin America Holding Inc.
Kadant Johnson Latin America S.A.
Kadant Johnson Northeast Inc.
Kadant Johnson Southeast Asia Pty., Ltd.
Johnson Australia Pty., Ltd.
Johnson Corp. Asia Pacific Pty., Ltd.
Kadant Johnson Southeast LLC
Kadant Johnson Systems Inc.
Kadant Johnson Technical Services Inc.
Johnson Services Wisconsin Corp.
Specialty Castings Inc.
Tengzhou Feixuan Rotary Joint Manufacturing Co., Ltd.
Kadant Web Systems Inc.
Fiberprep Inc. (31.05% of which shares are owned directly by Kadant Lamort)
Fiberprep Securities Corporation
Johnson Acquisition Corp.
Exhibit 21
Percent of
Ownership
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
100
50
100
100
100
100
100
100
90
100
100
60
100
100
100
100
100
100
100
100
100
State or Jurisdiction
of Incorporation
New York
Delaware
Delaware
Massachusetts
Delaware
Delaware
Delaware
Mauritius
China
Gibraltar
Delaware
Luxembourg
Luxembourg
Nova Scotia
Delaware
Luxembourg
England
England
England
England
England
England
Delaware
Mexico
France
England
Sweden
Sweden
Germany
Spain
Italy
Michigan
Argentina
Canada
Michigan
Michigan
China
Michigan
Netherlands
Germany
Netherlands
Sweden
Switzerland
England
Italy
Netherlands
Germany
England
Netherlands
Italy
Netherlands
Norway
Netherlands
Michigan
Brazil
Michigan
Australia
Australia
Australia
Louisiana
Michigan
Michigan
Michigan
Michigan
China
Massachusetts
Delaware
Massachusetts
Michigan
Consent of Independent Registered Public Accounting Firm
Exhibit 23.1
We consent to the incorporation by reference in the Registration Statements (Forms S-8 Nos. 33-67190, 33-67192, 33-67194, 33-83718, 33-80751, 333-
80509, 333-48498, 333-65206, 333-102223 and 333-102224) of Kadant Inc., of our reports dated March 10, 2006, with respect to the consolidated financial
statements and schedule of Kadant Inc., Kadant Inc. management’s assessment of the effectiveness of internal control over financial reporting, and the
effectiveness of internal control over financial reporting of Kadant Inc., included in the Annual Report (Form 10-K) for the year ended December 31, 2005.
/s/ Ernst & Young LLP
Boston, Massachusetts
March 10, 2006
CERTIFICATION
Exhibit 31.1
I, William A. Rainville, certify that:
1.
2.
3.
4.
I have reviewed this Annual Report on Form 10-K for the year ended December 31, 2005 of Kadant Inc.;
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial
condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange
Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the
registrant and have:
a)
b)
c)
d)
Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure
that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities,
particularly during the period in which this report is being prepared;
Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision,
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;
Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness
of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal
quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect,
the registrant’s internal control over financial reporting; and
5.
The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the
registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):
a)
b)
All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely
to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over
financial reporting.
Date: March 16, 2006
/s/ William A. Rainville
William A. Rainville
Chief Executive Officer
CERTIFICATION
Exhibit 31.2
I, Thomas M. O’Brien, certify that:
1.
2.
3.
4.
I have reviewed this Annual Report on Form 10-K for the year ended December 31, 2005 of Kadant Inc.;
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial
condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange
Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the
registrant and have:
a)
b)
c)
d)
Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure
that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities,
particularly during the period in which this report is being prepared;
Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision,
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 ;
Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness
of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal
quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect,
the registrant’s internal control over financial reporting; and
5.
The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the
registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):
a)
b)
All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely
to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over
financial reporting.
Date: March 16, 2006
/s/ Thomas M. O’Brien
Thomas M. O’Brien
Chief Financial Officer
CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO SECTION 906
OF THE SARBANES-OXLEY ACT OF 2002
Exhibit 32
Pursuant to 18 U.S.C. Section 1350, the undersigned, William A. Rainville, Chief Executive Officer, and Thomas M. O’Brien, Chief Financial Officer, of Kadant
Inc., a Delaware corporation (the “Company”), do hereby certify, to our best knowledge and belief, that:
The Annual Report on Form 10-K for the year ended December 31, 2005 of the Company fully complies with the requirements of Section 13(a) or 15(d) of the
Securities Exchange Act of 1934 and the information contained in this Annual Report fairly presents, in all material respects, the financial condition and results of
operations of the Company.
Dated: March 16, 2006
/s/ William A. Rainville
William A. Rainville
Chief Executive Officer
/s/ Thomas M. O’Brien
Thomas M. O’Brien
Chief Financial Officer