UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

FORM 10-Q

Commission file number 001-11499

WATTS WATER TECHNOLOGIES, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

Registrant’s Telephone Number, Including Area Code: (978) 688-1811

(Former Name, Former Address and Former Fiscal year, if changed since last report.)

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   Yes x   No o

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 and large accelerated filer” in Rule 12b-2 of the Exchange Act.

Large Accelerated filer x    Accelerated filer o    Non-Accelerated filer o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o   No x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class		Outstanding at July 27, 2007
Class A Common Stock, $.10 par value		31,390,495
Class B Common Stock, $.10 par value		7,293,880

 

WATTS WATER TECHNOLOGIES, INC. AND SUBSIDIARIES

INDEX

Part I. Financial Information
	Item 1. Financial Statements
		Consolidated Balance Sheets at July 1, 2007 and December 31, 2006 (unaudited)
		Consolidated Statements of Operations for the Second Quarters Ended July 1, 2007 and July 2, 2006 (unaudited)
		Consolidated Statements of Operations for the Six Months Ended July 1, 2007 and July 2, 2006 (unaudited)
		Consolidated Statements of Cash Flows for the Six Months Ended July 1, 2007 and July 2, 2006 (unaudited)
		Notes to Consolidated Financial Statements
	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations
	Item 3.	Quantitative and Qualitative Disclosures About Market Risk
	Item 4.	Controls and Procedures
Part II. Other Information
	Item 1.	Legal Proceedings
	Item 1A.	Risk Factors
	Item 4.	Submission of Matters to a Vote of Security Holders
	Item 6.	Exhibits
	Signatures
	Exhibit Index

 

2

PART I. FINANCIAL INFORMATION

ITEM 1. Financial Statements

WATTS WATER TECHNOLOGIES, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(Amounts in thousands, except share information)

(Unaudited)

		July 1,			December 31,
		2007			2006
ASSETS
CURRENT ASSETS:
Cash and cash equivalents		$	327,437		$	342,979
Investment securities		19,250			11,825
Trade accounts receivable, less allowance for doubtful accounts of $13,968 at July 1, 2007 and $10,543 at December 31, 2006		257,432			228,502
Inventories, net:
Raw materials		116,238			103,587
Work in process		46,195			39,593
Finished goods		188,868			173,236
Total Inventories		351,301			316,416
Prepaid expenses and other assets		21,403			15,842
Deferred income taxes		35,259			26,739
Assets of discontinued operations		10,534			10,079
Total Current Assets		1,022,616			952,382
PROPERTY, PLANT AND EQUIPMENT:
Property, plant and equipment, at cost		408,522			391,923
Accumulated depreciation		(200,661		)	(185,763		)
Property, plant and equipment, net		207,861			206,160
OTHER ASSETS:
Goodwill		362,055			356,090
Other, net		140,278			146,218
TOTAL ASSETS		$	1,732,810		$	1,660,850
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES:
Accounts payable		$	132,870		$	120,954
Accrued expenses and other liabilities		93,972			100,437
Accrued compensation and benefits		36,866			42,593
Current portion of long-term debt		12,734			7,522
Liabilities of discontinued operations		27,483			27,852
Total Current Liabilities		303,925			299,358
LONG-TERM DEBT, NET OF CURRENT PORTION		454,932			441,697
DEFERRED INCOME TAXES		39,294			34,585
OTHER NONCURRENT LIABILITIES		53,563			52,686
MINORITY INTEREST		4,989			5,971
STOCKHOLDERS’ EQUITY:
Preferred Stock, $.10 par value; 5,000,000 shares authorized; no shares issued or outstanding		—			—
Class A Common Stock, $.10 par value; 80,000,000 shares authorized; 1 vote per share; issued and outstanding, 31,390,495 shares at July 1, 2007 and 31,239,111 shares at December 31, 2006		3,139			3,124
Class B Common Stock, $.10 par value; 25,000,000 shares authorized; 10 votes per share; issued and outstanding, 7,293,880 shares at July 1, 2007 and at December 31, 2006		729			729
Additional paid-in capital		374,545			367,795
Retained earnings		458,648			429,555
Accumulated other comprehensive income		39,046			25,350
Total Stockholders’ Equity		876,107			826,553
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY		$	1,732,810		$	1,660,850

 

See accompanying notes to consolidated financial statements.

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WATTS WATER TECHNOLOGIES, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(Amounts in thousands, except per share information)

(Unaudited)

		Second Quarter Ended
		July 1, 2007			July 2, 2006
Net sales		350,422			$	300,175
Cost of goods sold		235,781			193,492
GROSS PROFIT		114,641			106,683
Selling, general & administrative expenses		84,055			73,799
Restructuring and other charges		270			(5,676		)
OPERATING INCOME		30,316			38,560
Other (income) expense:
Interest income		(3,637		)	(891		)
Interest expense		6,744			4,952
Minority interest		(832		)	58
Other		356			(662		)
		2,631			3,457
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES		27,685			35,103
Provision for income taxes		9,992			12,560
INCOME FROM CONTINUING OPERATIONS		17,693			22,543
Income (loss) from discontinued operations, net of taxes		81			(97		)
NET INCOME		$	17,774		$	22,446
BASIC EPS
Income (loss) per share:
Continuing operations		$	.46		$	.69
Discontinued operations		—			—
NET INCOME		$	.46		$	.69
Weighted average number of shares		38,659			32,654
DILUTED EPS
Income (loss) per share:
Continuing operations		$	.45		$	.68
Discontinued operations		—			—
NET INCOME		$	.46		$	.68
Weighted average number of shares		39,027			33,038
Dividends per share		$	.10		$	.09

 

See accompanying notes to consolidated financial statements.

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WATTS WATER TECHNOLOGIES, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(Amounts in thousands, except per share information)

(Unaudited)

		Six Months Ended
		July 1, 2007			July 2, 2006
Net sales		696,514			$	575,125
Cost of goods sold		467,207			372,458
GROSS PROFIT		229,307			202,667
Selling, general & administrative expenses		168,154			142,850
Restructuring and other charges		470			(5,441		)
OPERATING INCOME		60,683			65,258
Other (income) expense:
Interest income		(7,249		)	(1,309		)
Interest expense		13,051			9,144
Minority interest		(1,110		)	142
Other		1,077			(896		)
		5,769			7,081
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES		54,914			58,177
Provision for income taxes		17,174			20,547
INCOME FROM CONTINUING OPERATIONS		37,740			37,630
Income (loss) from discontinued operations, net of taxes		26			(221		)
NET INCOME		$	37,766		$	37,409
BASIC EPS
Income (loss) per share:
Continuing operations		$	.98		$	1.15
Discontinued operations		—			—
NET INCOME		$	.98		$	1.15
Weighted average number of shares		38,615			32,623
DILUTED EPS
Income (loss) per share:
Continuing operations		$	.97		$	1.14
Discontinued operations		—			(.01		)
NET INCOME		$	.97		$	1.13
Weighted average number of shares		39,005			33,015
Dividends per share		$	.20		$	.18

 

See accompanying notes to consolidated financial statements.

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WATTS WATER TECHNOLOGIES, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Amounts in thousands)

(Unaudited)

		Six Months Ended
		July 1,			July 2,
		2007			2006
OPERATING ACTIVITIES
Income from continuing operations		$	37,740		$	37,630
Adjustments to reconcile net income from continuing operations to net cash provided by (used in) continuing operating activities:
Depreciation		14,158			13,703
Amortization		5,566			3,195
Gain on disposal of property, plant and equipment		(33		)	(6,655		)
Stock-based compensation		2,975			1,215
Deferred income tax benefit		(3,200		)	(3,348		)
Other		495			(688		)
Changes in operating assets and liabilities, net of effects from business acquisitions and divestures:
Accounts receivable		(25,953		)	(16,375		)
Inventories		(31,795		)	(24,959		)
Prepaid expenses and other assets		(3,439		)	(3,544		)
Accounts payable, accrued expenses and other liabilities		3,248			10,694
Net cash provided by (used in) continuing operations		(238		)	10,868
INVESTING ACTIVITIES
Additions to property, plant and equipment		(15,098		)	(29,792		)
Proceeds from the sale of property, plant and equipment		464			26,486
Investments in securities		(7,500		)	—
Proceeds from sale of securities		75			—
Increase in other assets		(454		)	(670		)
Business acquisitions, net of cash acquired		(4,627		)	(82,014		)
Net cash used in investing activities		(27,140		)	(85,990		)
FINANCING ACTIVITIES
Proceeds from long-term debt		38,279			339,775
Payments of long-term debt		(22,258		)	(192,393		)
Debt issue costs		—			(2,414		)
Payments of capital leases		(920		)	(3,181		)
Share transactions under employee stock plans		789			810
Tax benefit of stock awards exercised		1,321			251
Dividends		(7,841		)	(6,028		)
Net cash provided by financing activities		9,370			136,820
Effect of exchange rate changes on cash and cash equivalents		3,264			695
Net cash provided by (used in) operating activities of discontinued operations		(798		)	1,213
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS		(15,542		)	63,606
Cash and cash equivalents at beginning of period		342,979			45,758
CASH AND CASH EQUIVALENTS AT END OF PERIOD		$	327,437		$	109,364
NON CASH INVESTING AND FINANCING ACTIVITIES
Acquisition of businesses
Fair value of assets acquired		$	3,461		$	142,104
Cash paid, net of cash acquired		4,627			82,014
(Assets acquired) liabilities assumed		$	(1,166	)	$	60,090
Acquisition of fixed assets under capital lease		$	—		$	15,957
Issuance of stock under management stock purchase plan		$	1,607		$	614
Retirement of variable rate demand bonds with cash collateral		$	—		$	8,900
CASH PAID FOR:
Interest		$	13,710		$	7,832
Taxes		$	21,684		$	19,394

 

See accompanying notes to consolidated financial statements.

6

WATTS WATER TECHNOLOGIES, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

1. Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements.  In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included in the Watts Water Technologies, Inc. Consolidated Balance Sheet as of July 1, 2007, the Consolidated Statements of Operations for the second quarter and six months ended July 1, 2007 and the second quarter and six months ended July 2, 2006, and the Consolidated Statements of Cash Flows for the six months ended July 1, 2007 and the six months ended July 2, 2006.

The balance sheet at December 31, 2006 has been derived from the audited financial statements at that date. The accounting policies followed by the Company are described in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2006. The financial statements included in this report should be read in conjunction with the financial statements and notes included in the Annual Report on Form 10-K for the year ended December 31, 2006. Operating results for the interim period presented are not necessarily indicative of the results to be expected for the year ending December 31, 2007.

The Company operates on a 52-week fiscal year ending on December 31.  Any second quarter ended data contained in this Quarterly Report on Form 10-Q reflects the results of operations for the 13-week period ended on the Sunday nearest June 30 of the respective year.

Certain amounts in the second quarter and first six months of 2006 have been reclassified to permit comparison with the 2007 presentation. These reclassifications had no effect on reported results of operations or stockholders’ equity.

2. Accounting Policies

Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Goodwill and Long-Lived Assets

The changes in the carrying amount of goodwill by geographic segment from December 31, 2006 to July 1, 2007 are as follows:

		North America			Europe			China			Total
		(in thousands)
Carrying amount at the beginning of period		$	198,863		$	147,903		$	9,324		$	356,090
Adjustments to goodwill during the period		(32		)	736			1,756			2,460
Effect of change in exchange rates used for translation		424			2,828			253			3,505
Carrying amount at end of period		$	199,255		$	151,467		$	11,333		$	362,055

 

Other intangible assets include the following and are presented in “Other Assets: Other, net”, in the July 1, 2007 Consolidated Balance Sheet:

		Gross Carrying Amount			Accumulated Amortization
		(in thousands)
Patents		$	13,416		$	(5,740	)
Customer relationships		64,074			(11,022		)
Technology		7,513			(1,760		)
Other		16,304			(5,048		)
Total amortizable intangibles		101,307			(23,570		)
Intangible assets not subject to amortization		50,539			—
Total		$	151,846		$	(23,570	)

 

Aggregate amortization expense for amortized intangible assets for the second quarters of 2007 and 2006 was $2,769,000 and

7

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$1,800,000, respectively, and for the six-month periods of 2007 and 2006 was $5,566,000 and $3,195,000, respectively. Additionally, future amortization expense on amortizable intangible assets approximates $4,740,000 for the remainder of 2007, $8,827,000 for 2008, $8,539,000 for 2009, $8,515,000 for 2010 and $8,078,000 for 2011. Amortization expense is provided on a straight-line basis over the estimated useful lives of the intangible assets. The weighted-average remaining life of total amortizable intangible assets is 11.5 years. Patents, customer relationships, technology and other amortizable intangibles have weighted-average remaining lives of 10.0 years, 9.8 years, 6.8 years and 22.9 years, respectively. Intangible assets not subject to amortization primarily include trademarks and unpatented technology.

Stock-Based Compensation

The Company maintains three stock incentive plans under which key employees and outside directors have been granted outstanding incentive stock options (ISOs) and nonqualified stock options (NSOs) to purchase the Company’s Class A Common Stock. Only one plan, the 2004 Stock Incentive Plan, is currently available for the grant of new equity awards. Stock options granted under prior plans became exercisable over a five-year period at the rate of 20% per year and expire ten years after the date of grant. Under the 2004 Stock Incentive Plan, options become exercisable over a four -year period at the rate of 25% per year and expire ten years after the grant date. ISOs and NSOs granted under the plans may have exercise prices of not less than 100% and 50% of the fair market value of the Common Stock on the date of grant, respectively. The Company’s current practice is to grant all options at fair market value on the grant date.  The Company did not grant any options in the first six months of 2007 or 2006.

The Company also grants shares of restricted stock to key employees and non-employee members of the Company’s Board of Directors under the 2004 Stock Incentive Plan, which vest either immediately or over a three-year period at the rate of one-third per year. The restricted stock awards are amortized to expense on a straight-line basis over the vesting period.  The Company did not grant any restricted stock in the first six months of 2007 or 2006.

The Company also has a Management Stock Purchase Plan that allows for the granting of Restricted Stock Units (RSUs) to key employees.  On an annual basis, key employees may elect to receive a portion of their annual incentive compensation in RSUs instead of cash.  Each RSU provides the key employee with the right to purchase a share of Class A Common Stock at 67% of the fair market value on the date of grant.  RSUs vest annually over a three-year period from the grant date.  An aggregate of 2,000,000 shares of Class A Common Stock may be issued under the Management Stock Purchase Plan.  The Company granted 159,869 RSUs and 87,125 RSUs in the first quarter of 2007 and 2006, respectively.

The fair value of each share issued under the Management Stock Purchase Plan is estimated on the date of grant, using the Black-Scholes-Merton Model, based on the following weighted average assumptions:

		2007		2006
Expected life (years)		3.0		3.0
Expected stock price volatility		35.3	%	25.7	%
Expected dividend yield		1.0	%	1.5	%
Risk-free interest rate		4.8	%	4.5	%

 

The above assumptions were used to determine the weighted average grant-date fair value of RSUs of $16.79 and $13.60 in 2007 and 2006, respectively.

A more detailed description of each of these stock and stock option plans can be found in Note 13 of Notes to Consolidated Financial Statements in our Annual Report on Form 10-K for the year ended December 31, 2006.

Shipping and Handling

The Company’s shipping costs included in selling, general and administrative expense were $10,197,000 and $9,217,000 for the second quarters of 2007 and 2006, respectively, and were $19,659,000 and $17,742,000 for the first six months of 2007 and 2006, respectively.

Research and Development

Research and development costs included in selling, general and administrative expense were $3,755,000 and $3,137,000 for the second quarters of 2007 and 2006, respectively, and were $7,632,000 and $6,309,000 for the first six months of 2007 and 2006, respectively.

Taxes, Other than Income Taxes

Taxes assessed by governmental authorities on sale transactions are recorded on a net basis and excluded from sales, in the Company’s consolidated statement of operations.

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Income Taxes

On January 1, 2007, the Company adopted the provisions of Financial Accounting Standards Board Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (FIN 48). The purpose of FIN 48 is to increase the comparability in financial reporting of income taxes.  FIN 48 requires that in order for a tax benefit to be recorded in the income statement, the item in question must meet the more-likely-than-not (greater than 50% likelihood of being sustained upon examination by the taxing authorities) threshold. The adoption of FIN 48 did not have a material effect on the Company’s financial statements.  No cumulative effect was booked through beginning retained earnings.

As of the adoption date, the Company had gross unrecognized tax benefits of approximately $4,800,000, of which approximately $4,200,000, if recognized, would affect the effective tax rate. The difference between the amount of unrecognized tax benefits and the amount that would impact the effective tax rate consists of the federal tax benefit of state income tax items.   During the first six months of 2007, the Company reduced its unrecognized tax benefits by approximately $600,000 for a tax issue in Italy.  The Company does not expect further significant changes in the amounts of unrecognized tax benefits within the next twelve months.

The Company is currently under audit by the Internal Revenue Service for the 2003 and 2004 tax years.  The expected completion date for this audit is April 2008.  Watts conducts business in a variety of locations throughout the world resulting in tax filings in numerous domestic and foreign jurisdictions.  The Company is subject to tax examinations regularly as part of the normal course of business.  The Company’s major jurisdictions are the U.S., Canada, China, Netherlands, U.K., Germany, Italy and France.  With few exceptions, the Company is no longer subject to U.S. federal, state and local, or non-U.S. income tax examinations for years before 2002.

As of January 1, 2007 and July 1, 2007, the Company had approximately $600,000 of interest related to uncertain tax positions.  The Company accounts for interest and penalties related to uncertain tax positions as a component of income tax expense.

New Accounting Standards

In February 2007, the Financial Accounting Standards Board (FASB) issued Financial Accounting Standards Board Statement (FAS) No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities — including an Amendment to FAS No. 115,” (FAS 159), which permits entities to choose to measure many financial instruments and certain other items at fair value.  FAS 159 is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. Earlier application is encouraged.  The Company does not expect to measure its financial instruments at fair value and therefore does not expect the adoption of FAS 159 to have a material impact on its consolidated financial statements.

In September 2006, FASB issued FAS No. 157, “Fair Value Measurements,” (FAS 157), which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. FAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. Earlier application is encouraged provided that the reporting company has not yet issued financial statements for that fiscal year including financial statements for an interim period within that fiscal year. The Company does not expect the adoption of FAS 157 to have a material impact to its consolidated financial statements.

3. Discontinued Operations

In September 1996, the Company divested its Municipal Water Group businesses, which included Henry Pratt, James Jones Company and Edward Barber and Company Ltd.  The 2007 income is due to reserve adjustments, net of charges, and the 2006 expenses primarily relate to legal and settlement costs associated with the James Jones Litigation, which is described in Part I, Item 1, “Product Liability, Environmental and Other Litigation Matters” of the Company’s Annual Report on Form 10-K for the year ended December 31, 2006.

Condensed operating statements and balance sheets for discontinued operations are summarized below:

		Second Quarter Ended
		July 1, 2007			July 2, 2006
		(in thousands)
Income (expenses)- Municipal Water Group		$	133		$	(159	)
Income (loss) before income taxes		133			(159		)
Income tax (charge) benefit		(52		)	62
Income (loss) from discontinued operations, net of taxes		$	81		$	(97	)

 

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		Six Months Ended
		July 1, 2007			July 2, 2006
		(in thousands)
Income (expenses)- Municipal Water Group		$	43		$	(359	)
Income (loss) before income taxes		43			(359		)
Income tax (charge) benefit		(17		)	138
Income (loss) from discontinued operations, net of taxes		$	26		$	(221	)

 

		July 1, 2007			December 31, 2006
		(in thousands)
Prepaid expenses and other assets		$	494		$	328
Deferred income taxes		10,040			9,751
Assets of discontinued operations		$	10,534		$	10,079
Accrued expenses and other liabilities		27,483			27,852
Liabilities of discontinued operations		$	27,483		$	27,852

 

The assets and liabilities at July 1, 2007 and December 31, 2006 primarily relate to the reserves for the James Jones Litigation.

4. Derivative Instruments

The Company uses foreign currency forward exchange contracts as an economic hedge to reduce the impact of currency fluctuations on certain anticipated intercompany purchase transactions that are expected to occur during the next six months and certain other foreign currency transactions. Realized and unrealized gains and losses on the contracts are recognized in other income/expense. These contracts do not subject the Company to significant market risk from exchange movement because they offset gains and losses on the related foreign currency denominated transactions. At July 1, 2007 and July 2, 2006, unrealized losses on the contracts were approximately $336,000 and $105,000, respectively.

The Company occasionally uses commodity futures contracts to fix the price on a portion of certain raw materials used in the manufacturing process. At July 1, 2007 and July 2, 2006, the Company had no commodity contracts.

5. Restructuring and Other Charges

For the second quarter of 2007, the Company recorded charges of $129,000 in costs of goods sold and $270,000 in restructuring and other charges for accelerated depreciation related to the Company’s relocation and restructuring plan for its 60% owned Chinese joint venture.  The Company also recognized income of $122,000 in minority interest representing the 40% liability of its Chinese joint venture partner in the restructuring plan. For the second quarter of 2006, the Company recorded pre-tax income of $5,676,000 to restructuring and other charges which consisted of a gain of approximately $6,500,000 related to a building sale in Italy partially offset by costs of $824,000 primarily for severance costs related to the Company’s European and Chinese restructuring plans.

For the first six months of 2007, the Company recorded charges of $224,000 in costs of goods sold and $470,000 in restructuring and other charges for accelerated depreciation related to the Company’s relocation and restructuring plan for its 60% owned Chinese joint venture.  The Company also recognized income of $211,000 in minority interest representing the 40% liability of its Chinese joint venture partner in the restructuring plan. For the first six months of 2006, the Company recorded charges of $7,000 in costs of goods sold and pre-tax income of $5,441,000 in restructuring and other charges which consisted of a gain of approximately $6,500,000 related to the sale of a building in Italy, partially offset by costs of $1,059,000 primarily for severance costs related to the Company’s European and Chinese restructuring plans.

In the first six months of 2007, the Company paid approximately $1,530,000 of previously accrued severance costs. At July 1, 2007, the remaining restructuring liability approximated $2,660,000.

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6. Earnings per Share

The following tables set forth the reconciliation of the calculation of earnings per share:

		For the Second Quarter Ended July 1, 2007
		Income			Shares		Per Share Amount
		(Numerator)			(Denominator)
		(amounts in thousands, except share and per share amounts)
Basic EPS
Income from continuing operations		$	17,693		38,658,524		$	.46
Income from discontinued operations		81					—
Net income		$	17,774				$	.46
Effect of dilutive securities
Common stock equivalents					368,546
Diluted EPS
Income from continuing operations		$	17,693				$	.45
Income from discontinued operations		81					—
Net income		$	17,774		39,027,070		$	.46

 

		For the Second Quarter Ended July 2, 2006
		Income			Shares		Per Share Amount
		(Numerator)			(Denominator)
		(amounts in thousands, except share and per share amounts)
Basic EPS
Income from continuing operations		$	22,543		32,653,524		$	.69
Loss from discontinued operations		(97		)			—
Net income		$	22,446				$	.69
Effect of dilutive securities
Common stock equivalents					384,669
Diluted EPS
Income from continuing operations		$	22,543				$	.68
Loss from discontinued operations		(97		)			—
Net income		$	22,446		33,038,193		$	.68

 

		For the Six Months Ended July 1, 2007
		Income			Shares		Per Share Amount
		(Numerator)			(Denominator)
		(amounts in thousands, except share and per share amounts)
Basic EPS
Income from continuing operations		$	37,740		38,615,277		$	.98
Income from discontinued operations		26					—
Net income		$	37,766				$	.98
Effect of dilutive securities
Common stock equivalents					389,283
Diluted EPS
Income from continuing operations		$	37,740				$	.97
Income from discontinued operations		26					—
Net income		$	37,766		39,004,560		$	.97

 

		For the Six Months Ended July 2, 2006
		Income			Shares		Per Share Amount
		(Numerator)			(Denominator)
		(amounts in thousands, except share and per share amounts)
Basic EPS
Income from continuing operations		$	37,630		32,622,658		$	1.15
Loss from discontinued operations		(221		)			—
Net income		$	37,409				$	1.15
Effect of dilutive securities
Common stock equivalents					392,151
Diluted EPS
Income from continuing operations		$	37,630				$	1.14
Loss from discontinued operations		(221		)			(.01		)
Net income		$	37,409		33,014,809		$	1.13

 

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7. Segment Information

Under the criteria set forth in Financial Accounting Standards Board Statement No.131 “Disclosure about Segments of an Enterprise and Related Information”, the Company operates in three geographic segments: North America, Europe, and China. Each of these segments is managed separately and has separate financial results that are reviewed by the Company’s chief operating decision-maker. All intercompany sales transactions have been eliminated. Sales by region are based upon location of the entity recording the sale. The accounting policies for each segment are the same as those described in the summary of significant accounting policies.

The following is a summary of the Company’s significant accounts and balances by segment, reconciled to the consolidated totals:

		North America			Europe			China			Corporate (*)			Consolidated
		(in thousands)
For the quarter ended July 1, 2007
Net sales		$	224,452		$	108,222		$	17,748		$	—		$	350,422
Operating income (loss)		20,216			12,833			4,015			(6,748		)	30,316
Capital expenditures		3,274			3,982			1,608			—			8,864
Depreciation and amortization		4,310			3,294			1,748			—			9,352
For the quarter ended July 2, 2006
Net sales		$	208,249		$	83,857		$	8,069		$	—		$	300,175
Operating income (loss)		25,959			15,608			2,397			(5,404		)	38,560
Capital expenditures		3,048			19,111			532			—			22,691
Depreciation and amortization		4,378			3,446			1,576			—			9,400
As of and for the six months ended July 1, 2007
Net sales		$	442,777		$	223,767		$	29,970		$	—		$	696,514
Operating income (loss)		41,415			27,243			6,064			(14,039		)	60,683
Identifiable assets		1,062,933			532,373			137,504			—			1,732,810
Long-lived assets		99,521			81,234			27,106			—			207,861
Intangibles		73,471			45,268			9,537			—			128,276
Capital expenditures		6,214			6,586			2,298			—			15,098
Depreciation and amortization		8,682			7,800			3,242			—			19,724
As of and for the six months ended July 2, 2006
Net sales		$	404,815		$	156,116		$	14,194		$	—		$	575,125
Operating income (loss)		48,527			25,178			3,412			(11,859		)	65,258
Identifiable assets		799,219			464,890			110,859			—			1,374,968
Long-lived assets		98,979			86,307			30,208			—			215,494
Intangibles		77,859			28,067			5,605			—			111,531
Capital expenditures		6,436			22,292			1,064			—			29,792
Depreciation and amortization		8,807			5,515			2,576			—			16,898

 

*Corporate expenses are primarily for compensation expense, Sarbanes-Oxley compliance, professional fees, including legal and audit expenses, shareholder services and benefit administration costs. These costs are not allocated to the geographic segments as they are viewed as corporate functions that support all segments.

The above operating segments are presented on a basis consistent with the presentation included in the Company’s December 31, 2006 financial statements included in its Annual Report on Form 10-K.

The North American segment consists of U.S. net sales of $208,294,000 and $193,857,000 for the second quarters of 2007 and 2006, respectively, and $412,366,000 and $376,763,000 for the first six months of 2007 and 2006, respectively. The North American segment also consists of U.S. long-lived assets of $92,497,000 and $92,047,000 at July 1, 2007 and July 2, 2006, respectively.

Intersegment sales for the second quarter ended July 1, 2007 for North America, Europe and China were $1,739,000, $1,304,000 and $47,318,000, respectively.  Intersegment sales for the second quarter ended July 2, 2006 for North America, Europe and China were $2,012,000, $673,000 and $18,162,000, respectively.

Intersegment sales for the six months ended July 1, 2007 for North America, Europe and China were $3,782,000, $2,597,000 and $69,338,000, respectively.  Intersegment sales for the six months ended July 2, 2006 for North America, Europe and China were $3,432,000, $1,230,000 and $32,388,000, respectively.

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8. Accumulated Other Comprehensive Income (Loss)

Accumulated other comprehensive income (loss) consists of the following:

		Foreign Currency Translation and Other			Pension Adjustment			Accumulated Other Comprehensive Income (Loss)
		(in thousands)
Balance December 31, 2006		$	38,096		$	(12,746	)	$	25,350
Change in period		3,216			1,482			4,698
Balance April 1, 2007		41,312			(11,264		)	30,048
Change in period		8,436			562			8,998
Balance July 1, 2007		$	49,748		$	(10,702	)	$	39,046
Balance December 31, 2005		$	13,090		$	(7,827	)	$	5,263
Change in period		4,611			—			4,611
Balance April 2, 2006		17,701			(7,827		)	9,874
Change in period		6,841			—			6,841
Balance July 2, 2006		$	24,542		$	(7,827	)	$	16,715

 

Accumulated other comprehensive income (loss) in the consolidated balance sheets as of July 1, 2007 and July 2, 2006 consists primarily of cumulative translation adjustments and unrecognized pension related prior service costs and net actuarial loss.  The Company’s total comprehensive income was as follows:

		Second Quarter Ended
		July 1, 2007			July 2, 2006
		(in thousands)
Net income		$	17,774		$	22,446
Foreign currency translation adjustments and other		8,998			6,841
Total comprehensive income		$	26,772		$	29,287

 

		Six Months Ended
		July 1, 2007			July 2, 2006
		(in thousands)
Net income		$	37,766		$	37,409
Foreign currency translation adjustments and other		12,214			11,452
Total comprehensive income		$	49,980		$	48,861

 

9. Debt

On April 27, 2006, the Company completed a private placement of $225,000,000 of 5.85% senior unsecured notes due April 2016 (the 2006 Note Purchase Agreement). The 2006 Note Purchase Agreement includes operational and financial covenants with which the Company is required to comply, including, among others, maintenance of certain financial ratios and restrictions on additional indebtedness, liens and dispositions. Events of default under the 2006 Note Purchase Agreement include failure to comply with its financial and operational covenants, as well as bankruptcy and other insolvency events. The Company may, at its option, upon notice to the noteholders, prepay at any time all or part of the notes in an amount not less than $1 million by paying the principal amount plus a make-whole amount, which is dependent upon the yield of respective U.S. Treasury Securities. The Company used the net proceeds from the private placement to repay $147,000,000 outstanding under its revolving credit facility. The Company expects to use the balance of the net proceeds to finance future acquisitions and for general corporate purposes. As of July 1, 2007, the Company was in compliance with all covenants related to the 2006 Note Purchase Agreement. The payment of interest on the senior unsecured notes is due semi-annually on April 30th and October 30th of each year. Additionally, the Company amended its 2003 Note Purchase Agreement to reflect the existence of the subsidiary guarantors and to substantially conform certain provisions of the 2003 Note Purchase Agreement to the 2006 Note Purchase Agreement.

On April 27, 2006, the Company amended and restated its unsecured revolving credit facility with a syndicate of banks (as amended, the revolving credit facility). The revolving credit facility provides for multi-currency unsecured borrowings and stand-by letters of credit of up to $350,000,000 and expires in April 2011. Borrowings outstanding under the revolving credit facility bear interest at a fluctuating rate per annum equal to an applicable percentage equal to (i) in the case of Eurocurrency rate loans, the British Bankers Association LIBOR rate plus an applicable percentage of 0.60%, which is determined by reference to the Company’s consolidated leverage ratio and debt rating, or (ii) in the case of base rate loans and swing line loans, the higher of (a) the federal funds rate plus 0.5% and (b) the rate of interest in effect for such day as announced by Bank of America, N.A. as its “prime rate.” For the first six

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months of 2007, the average interest rate under the revolving credit facility for euro-based borrowings was approximately 4.3%. The revolving credit facility includes operational and financial covenants customary for facilities of this type, including, among others, restrictions on additional indebtedness, liens and investments and maintenance of certain leverage ratios. As of July 1, 2007, the Company was in compliance with all covenants related to the revolving credit facility; had $211,882,000 of unused and potentially available credit under the revolving credit facility; had no U.S dollar denominated debt and $104,362,000 of euro-based borrowings outstanding on its revolving credit facility; and had $33,756,000 for stand-by letters of credit outstanding on its revolving credit facility.

Effective July 1, 2005, the Company entered into a three-year interest rate swap with a counter party for a notional amount of €25,000,000, which was outstanding under the revolving credit facility.  The Company swapped three-month EURIBOR plus 0.6% for a fixed rate of 3.02%. At July 2, 2006, the fair value of the swap was approximately $793,000, which was recorded as a reduction of interest expense for the second quarter of 2006. The swap was terminated on October 3, 2006.

On December 28, 2005, the closing date of the Dormont Manufacturing Company (Dormont) acquisition, Dormont had long-term debt outstanding of $8,900,000 in the form of two series of taxable variable rate demand bonds (1998 Series with $1,500,000 outstanding and the 2000 Series with $7,400,000 outstanding) which, due to the provisions of the trust agreements, could only be redeemed at dates subsequent to the closing.  Each of these bonds was secured by a letter of credit from a bank, which maintained a security interest in the assets of Dormont.  As a condition of the purchase and to gain the bank’s consent to the sale of Dormont to the Company, Dormont’s former owners were required to establish a cash collateral account for the bonds in an amount equal to the potential obligation of Dormont to the bank under the letter of credit reimbursement agreements. The entire obligation under the bonds approximated $9,096,000, which represented the $8,900,000 in bond principal plus interest and related fees.  At closing, a portion of the Dormont purchase price was placed in a cash collateral account as a guarantee of payment.  The Company recorded this escrow deposit in prepaid expenses and other assets at December 31, 2005. The 1998 series bonds were repaid in full on January 17, 2006 and the 2000 series bonds were repaid in full on February 1, 2006 by the former owners using the cash collateral account.

10.  Contingencies and Environmental Remediation

As disclosed in Part I, Item 1, “Product Liability, Environmental and Other Litigation Matters” of the Company’s Annual Report on Form 10-K for the year ended December 31, 2006, the Company is a party to litigation described as the James Jones Litigation and is also engaged in certain environmental remediation. This disclosure reported that the Relator had appealed the ruling of the California Superior Court for Los Angeles County that dismissed the claims of the remaining Phase II cities.  On June 29, 2007, the Relator’s appeal of the Phase II cities ruling was dismissed by the California Court of Appeal, but this appeal could be filed again at the end of the Armenta v. James Jones case in the trial court.  This disclosure also reported that in the insurance coverage case with Zurich American Insurance Company, Zurich had appealed the denial of its motion to set aside as void the November 22, 2002 and August 6, 2004 summary adjudication indemnity payment orders.  Zurich’s appeal was dismissed on March 5, 2007, and, on June 13, 2007, the California Supreme Court declined to review this dismissal.  There have been no other material developments with respect to the Company’s contingencies and environmental remediation proceedings during the quarter and six months ended July 1, 2007.

11.  Employee Benefit Plans

The Company sponsors funded and unfunded defined benefit pension plans covering substantially all of its domestic employees. Benefits are based primarily on years of service and employees’ compensation. The funding policy of the Company for these plans is to contribute an annual amount that does not exceed the maximum amount that can be deducted for federal income tax purposes.

In September 2006, the FASB issued FAS No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans — an amendment of FASB Statements No. 87, 88, 106 and 132(R)” (FAS 158). This statement requires balance sheet recognition of the overfunded or underfunded status of pension and postretirement benefit plans. In addition, the measurement date (the date as of which plan assets and the benefit obligations are measured) is required to be the Company’s fiscal year end. Except for the measurement date provisions, which are not effective until fiscal years ending after December 15, 2008, the provisions of FAS 158 were effective for fiscal years ending after December 15, 2006 and, as such, were adopted during 2006.

The Company has early-adopted the measurement date provisions of FAS 158 effective January 1, 2007. The Company’s pension plans previously used a September 30 measurement date. All plans are now measured as of December 31, consistent with the Company’s fiscal year end. The non-cash effect of the adoption of the measurement date provisions of FAS 158 increased stockholders’ equity by approximately $100,000 and decreased long-term liabilities by approximately $129,000. There was no effect on the Company’s results of operations.

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The components of net periodic benefit cost are as follows:

		Second Quarter Ended
		July 1, 2007			July 2, 2006
		(in thousands)
Service cost—benefits earned		$	945		$	887
Interest costs on benefits obligation		1,068			945
Expected return on assets		(1,071		)	(875		)
Prior service cost amortization		50			71
Net actuarial loss amortization		231			303
Net periodic benefit cost		$	1,223		$	1,331

 

		Six Months Ended
		July 1, 2007			July 2, 2006
		(in thousands)
Service cost—benefits earned		$	1,890		$	1,774
Interest costs on benefits obligation		2,136			1,890
Expected return on assets		(2,142		)	(1,750		)
Prior service cost amortization		100			142
Net actuarial loss amortization		462			606
Net periodic benefit cost		$	2,446		$	2,662

 

The information related to the Company’s pension funds cash flow is as follows:

		Six Months Ended
		July 1, 2007			July 2, 2006
		(in thousands)
Employer contributions		$	78		$	3,162

 

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