Item 1. Business
Introduction
Victor Technologies Group, Inc. (together with its subsidiaries, "Victor Technologies" or the "Company") provides superior branded solutions for cutting, gas control and specialty welding, continuing a heritage of designing innovative products that evolve as a result of carefully listening to end users and anticipating their needs. This singular focus, built upon creating new and better solutions, is reflected in the vision statement, “Innovation to Shape the WorldTM.” Our products are used in a wide variety of applications and industries where steel is cut and welded, including steel fabrication, manufacturing of transportation and mining equipment, construction projects, such as offshore oil and gas rigs, repair and maintenance of manufacturing equipment and facilities, and shipbuilding. We market our products under a widely recognized portfolio of brands, many of which are the leading brand in their segment, including Victor®, Victor® Thermal Dynamics®, Victor® Arcair®, Victor® Turbo Torch®, Tweco®, Thermal Arc®, Stoody®, Firepower® and Cigweld®. We sell our products primarily through over 3,300 industrial distributor accounts, including large industrial gas manufacturers, in over 50 countries.
On October 31, 2013, the Company acquired all of the outstanding capital stock of Gas Arc Group Ltd. ("Gas-Arc"), a privately held manufacturer of gas control equipment based in the United Kingdom. Gas-Arc's portfolio includes branded gas control products that meet specialty gas application requirements as well as cutting and welding equipment for the industrial, laboratory and medical gas control markets.
On February 12, 2014, Victor Technologies Holdings, Inc., the parent company of Victor Technologies Group, Inc., entered into a definitive agreement to sell the Company to Colfax Corporation (“Colfax”), a global manufacturer of gas- and fluid-handling and fabrication technology products. The all cash transaction values Victor Technologies at approximately $947 million, including the assumption of debt, and is subject to customary closing conditions.
As used in this Annual Report on Form 10-K, the terms “Victor Technologies Group, Inc.,” “Victor Technologies,” “the Company,” “we,” “our,” or “us,” mean Victor Technologies Group, Inc. and its subsidiaries.
Our Industry
We believe that steel production is the leading indicator for market demand in the cutting and welding products industry. We estimate that the global cutting and welding industry is an approximately $15.9 billion market consisting of three main product categories and several subcategories: (1) cutting products consisting of gas cutting equipment, gas control regulators, plasma cutting systems, and carbon arc gouging products; (2) welding products consisting of welding equipment and arc accessories; and (3) filler metals and hardfacing alloys. We primarily target the gas equipment, plasma cutting systems and arc accessories product segments, which we believe account for approximately 6%, 6% and 7% of the global cutting and welding market, respectively. We also participate as a specialty player in certain geographic areas in filler metals and hardfacing alloys, which we estimate constitutes approximately 57% of the market, and welding equipment, which comprises approximately 24% of the market. We believe that approximately 42% of the global market is located in the Asia-Pacific region, approximately 31% is located in the Americas and the remaining approximately 27% represents sales in Europe, the United Kingdom, the Middle East, Russia and Africa.
Our Company
Our portfolio includes some of the most globally recognized and well-established brands in the cutting and welding industry. Many of our brands have a long history dating back several decades. Victor is a leading brand of gas cutting and welding torches and gas control equipment and celebrated its 100th anniversary in 2013. Tweco brand arc accessories are well-known for technical innovation, reliability and excellent product performance over their 70-year history. As one of the original two plasma brands, Victor Thermal Dynamics has been synonymous with plasma cutting since systems of this type were first developed in 1957. Cigweld, which was established in 1922, is the leading brand of cutting and welding equipment in Australia. Stoody, the leading brand of hardfacing wires and electrodes in the United States, was established in 1921. We believe our well established brand names and reputation for product quality have fostered strong brand loyalty among our customers, which generates repeat business and improves our ability to win new business as well as expand market share.
In November 2012, we announced the realignment of our brand portfolio unifying all our cutting and gas control products under the Victor brand. In September 2013, we continued our brand consolidation initiative unifying all our specialty welding products and arc accessories under the Tweco brand. As a result of these changes we now have the most innovative array of advanced gas control, cutting and welding solutions in the market.
During 2013, we generated approximately 83% of our net sales from products either consumed in the everyday cutting and welding process or from torches and related accessories, which are frequently replaced due to the high level of wear and tear experienced during use. These items generally have low prices and are not considered capital expenditures by our customers, providing us with a consistent recurring sales base. We also benefit from a well-balanced mix of sales by end-market and geography. In 2013,
approximately 57% of our net sales came from the United States and approximately 43% came from international markets, including approximately 23% from the Asia Pacific region, primarily Australia and China.
The acquisition of Gas-Arc, a leader in the design and manufacturing of specialty gas and industrial gas control products based in the United Kingdom, enables us to expand our presence in Europe and leverage strengths in the high purity and medical gas control markets globally.
Our Products
We offer products in each of the main categories and subcategories of the cutting and welding industry. Our diverse product base ensures that we are not dependent on any one category or subcategory.
Cutting & Gas Control Products
Gas Cutting & Gas Control Equipment (Approximately 35% of 2013 net sales). The advantage of gas equipment over other types of cutting equipment is that it does not require an external electrical power supply to operate, thereby providing the user with a versatile and portable source for cutting and heating in both workshop and outdoor locations. Our gas cutting equipment products include cutting torches, tips and nozzles. Gas control products regulate and control the flow of gases to the cutting torch and are also used in stand-alone applications beyond cutting, and include products such as regulators, manifolds, flow meters and flashback arrestors. All of the above are sold under the Victor, Cigweld and Victor Turbo Torch brand names. We believe Victor is the most recognized brand name in the gas equipment market and is viewed as an innovation and quality leader. Strong recognition of the Victor brand drives customer loyalty and repeat product purchases. The typical price range of these products is approximately $40 to $400. The design of gas equipment varies among manufacturers leading to a strong preference for “product styles.” Gas equipment products are used frequently in harsh environments, which necessitate a high rate of replacement as well as a high quality product.
Plasma Cutting Systems (Approximately 18% of 2013 net sales). Plasma cutting is a process whereby electricity from a power source and gas delivered through a plasma torch are used to cut steel and other metals. Plasma cutting is used in the fabrication, construction and repair of both steel and nonferrous metal products, including automobiles and related assemblies, manufactured appliances, ships, railcars and heating, ventilation and air-conditioning products, as well as for general maintenance. Advantages of the plasma cutting process over other methods include faster cutting speeds, cleaner cuts and the ability to cut ferrous and nonferrous alloys with minimum heat distortion to the metal being cut. Our high technology products associated with automated cutting have gained market share, and we expect these share gains to continue as we continue to introduce innovative new products.
Our plasma cutting products include power supplies, torches and related consumable parts that are sold under the Victor Thermal Dynamics brand name. On average, manual and automated plasma torches sell for approximately $350 and $1,000, respectively, while manual and automated power supplies sell for approximately $1,800 and $25,000, respectively. Both our manual and automated plasma systems utilize patented consumable parts, which provide a significant source of ongoing revenue.
Carbon Arc Gouging Products (Approximately 6% of 2013 net sales). The gouging process physically removes metal utilizing the intense heat of an electric arc between an electrode and the work piece and using compressed air to blow away the molten material. It is used for cutting metals and more typically to prepare an area for welding. The product category is sold under the Victor Arcair brand and consists of manual gouging torches, automated gouging systems and consumable parts named “carbons” which are rapidly consumed during the process. On average, the typical price range of torches and consumable products is approximately $25 to $1,800, while automated gouging systems sell in a range of price from $4,500 to $16,000.
Welding Products
Specialty Welding Equipment (Approximately 9% of 2013 net sales). The traditional arc welding process uses a welding power supply to deliver an electric arc through a welding torch, gun or electrode holder that melts filler metals to the parent material to form a weld. We offer a wide range of welding equipment, including electric power sources, wire feeders, engine drives and plasma welding equipment. These products are sold under the Tweco, Thermal Arc and Cigweld brand names and use Tweco accessories and Victor regulators. Our inverter and transformer-based electric arc power supplies typically range in price from approximately $100 to $5,000. Our plasma welding and engine-driven power supplies typically range in price from approximately $5,000 to $10,000 and from approximately $1,200 to $10,000, respectively.
Arc Accessories (Approximately 14% of 2013 net sales). Our arc accessories include manual and robotic semiautomatic welding guns and related consumables, ground clamps, electrode holders, cable connectors and assemblies that are sold under the Tweco brand name. Our arc welding guns typically range in price from approximately $90 to $400. Arc welding is the most common method of welding and is used for a wide variety of manufacturing and construction applications, including the production of ships, railcars, farm and mining equipment and offshore oil and gas rigs. Customers tend to select arc accessories based on a preference for a certain look and feel that develops as a result of repeated usage over an extended period of time. This preference drives brand loyalty which, in turn, drives recurring sales of arc accessory products.
Filler Metals and Hardfacing Alloys
Filler Metals and Hardfacing Alloys (Approximately 18% of 2013 net sales). Filler metals are used to join metals during electric arc welding or brazing processes. Hardfacing alloys are welding consumables applied to impart wear and corrosion resistance by applying a protective coating either during the manufacturing or construction process or as maintenance to extend the life of an existing metal surface, such as a bulldozer blade. Our filler metals and hardfacing alloys include structural wires, hardfacing wires and electrodes that are sold under the Cigweld and Stoody brand names. Our filler metals and hardfacing alloys typically range in price from approximately $0.90 to $30.00 per pound. There are three basic types of filler metals and hardfacing alloys: stick electrodes, solid wire and flux cored wire. We believe that the filler metal and hardfacing alloys market is mature and that products sold in this product segment generally generate lower profit margins than products sold in the gas equipment, arc accessories and plasma equipment markets.
Customers
We sell most of our products through a network of national and multinational industrial gas distributors including Airgas, Inc. and Praxair, Inc., as well as a large number of other independent cutting and welding distributors, wholesalers and dealers. For the year ended December 31, 2013, our sales to customers in the United States represented 57% of our sales. Our largest distributor, Airgas, Inc., accounted for approximately 11%, 10% and 12% of our net sales in 2013, 2012 and 2011, respectively. Furthermore, our top five distributors represented 27%, 27% and 29% of our net sales in 2013, 2012 and 2011, respectively.
International Business
We had international sales, which included exports from the U.S. and sales by our non-U.S. operations, of $210.1 million, $222.3 million and $217.6 million for the years ended December 31, 2013, 2012 and 2011, respectively, which represented approximately 43% of our net sales in 2013 and approximately 45% of our net sales in 2012 and 2011. Our international sales are affected by fluctuations in foreign currency exchange rates as well as economic conditions and other risks associated with international trade. See “Management's Discussion and Analysis of Financial Condition and Results of Operations - Quantitative and Qualitative Disclosures about Market Risk.” Approximately 15% of our international sales for the year ended December 31, 2013 were sales of products manufactured at our U.S. facilities and exported to international customers in transactions primarily denominated in U.S. dollars. Our remaining international sales consisted of products manufactured at our international manufacturing facilities and sold by our international subsidiaries.
Sales and Brand Management
The sales and brand management organization oversees all sales and marketing activities, including strategic product pricing, promotion, and marketing communications. It is the responsibility of sales and brand management to profitably grow our sales, market share and margins in each region. The organization pursues these objectives through new product introductions, programs and promotions, price management and the implementation of distribution strategies to penetrate new markets.
Sales and brand management is organized into three regions: Americas, Asia Pacific and Europe/Rest of World (“RoW”). The Americas is comprised of the United States, Canada, Mexico and Latin and South America; Asia Pacific includes South Pacific (primarily Australia and New Zealand) and South and North Asia. Europe/RoW is comprised of the United Kingdom, Europe, the Middle East, Russia and Africa. In 2013, the Americas comprised approximately 69% of our net sales; Asia Pacific comprised approximately 23%; and Europe/RoW comprised approximately 8%. All product lines are sold throughout these regions although there is some variance in the mix among the regions.
The sales and brand management organizations consist of sales, brand management, marketing services and customer care personnel in each region. Members of the sales and brand management teams manage our relationships with our customers and channel partners who include distributors, wholesalers and retail customers. They provide feedback from the customers on product and service needs of the end-user customers, take our product lines to market, and provide technical and after sales service support. A national accounts team manages our largest accounts globally.
Raw Materials
Our principal raw materials, which include copper, brass, steel and plastic, are widely available and need not be specially manufactured for our use. Certain of the raw materials used in the hardfacing alloy products, such as cobalt and chromium, are available primarily from sources outside the United States, some of which are located in countries that may be subject to economic and political conditions that could affect pricing and disrupt supply. Although we have historically been able to obtain adequate supplies of these materials at acceptable prices, restrictions in supply or significant increases in the prices of copper and other raw materials could adversely affect our business. The price of copper and steel fluctuate widely.
We also purchase certain manufactured products that we either use in our manufacturing processes or resell. These products include electronic components, circuit boards, semiconductors, motors, engines, pressure gauges, springs, switches, lenses, forgings, filler metals and chemicals. Some of these products are purchased from international sources and thus our cost can be affected by foreign currency fluctuations. We believe our sources of such products are adequate to meet foreseeable demand at acceptable prices.
Research, Development and Technical Support
We have development and sustaining engineering groups for each of our product lines. The development engineering group primarily performs process and product development work to develop new products to meet our customer needs. The sustaining engineering group provides technical support to the operations and sales groups for established products. As of December 31, 2013, we employed approximately 95 people in our development and sustaining engineering groups, including engineers, designers, technicians and graphic service support. Our engineering costs consist primarily of salaries and benefits for engineering personnel and materials. Expenditures related to research for new product development for the years ended 2013, 2012 and 2011 were $4.5 million, $4.6 million and $4.2 million, respectively.
Patents, Licenses and Trademarks
Our products are sold under a variety of trademarks and trade names. We own trademark registrations or have filed trademark applications for all of our trade names that we believe are material to the operation of our businesses. As of December 31, 2013, we had 263 issued patents and 199 pending patents and from time to time we acquire licenses from owners of patents to apply such patents to our operations. We do not believe any single patent or license is material to the operation of our businesses taken as a whole.
Competition
We believe we have three types of competitors: (1) three full-line welding equipment and filler metal manufacturers (Lincoln Electric Company; ESAB, a subsidiary of Colfax and several divisions of Illinois Tool Works, Inc., including the ITW Miller and ITW Hobart Brothers divisions); (2) many single-line, brand-specific competitors; and (3) a number of low-priced, small, specialty competitors. Our large competitors offer a wide portfolio of product lines with an emphasis on filler metals and welding power supplies and lines of specialty products. Their position as full-line suppliers and their ability to offer complete product solutions, filler metal volume, sales force relationships and fast delivery are their primary competitive strengths. Our single-line, brand-specific competitors emphasize product expertise, a specialized focused sales force, quick customer response time and flexibility to special needs as their primary competitive strengths. The low-priced manufacturers primarily use low overhead, low market prices and direct selling to capture a portion of price-sensitive customers’ discretionary purchases. International competitors have been less effective in penetrating the U.S. domestic markets due to product specifications, lack of brand recognition and their relative inability to access the welding distribution market channel.
We expect to continue to see price pressure in the segments of the market where little product differentiation exists. The trends of improved performance at lower prices in the power source market and further penetration of the automated market are also expected to continue. Internationally, the competitive profile is similar, with overall lower market prices, more fragmented competition and a weaker presence of larger U.S. manufacturers.
We compete on the performance, functionality, price, brand recognition, customer service and support and availability of our products. We believe we compete successfully through the strength of our brands, by focusing on technology development and offering innovative industry-leading products in our specialty product areas.
Employees
As of December 31, 2013, we employed 1,941 people, 511 of whom were engaged in sales, marketing and administrative activities and 1,430 of whom were engaged in manufacturing or other operating activities. None of our U.S. workforce is represented by labor unions, while most of the manufacturing employees in our international operations are represented by labor unions. We believe that our employee relations are satisfactory. We have not experienced any significant work stoppages.
Available Information
Copies of our Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 are available free of charge through our web site (www.victortechnologies.com) as soon as reasonably practicable after we electronically file the materials with or furnish them to the Securities and Exchange Commission.
Item 1A.
Item 1A. Risk Factors
You should carefully consider each of the risks and uncertainties we describe below and all of the other information in this report. The risks and uncertainties we describe below are not the only ones we face. Additional risks and uncertainties of which we are currently unaware or that we currently believe to be immaterial may also adversely affect our business.
Risks Relating to Our Business
Our business is cyclical and is affected by global economic conditions, particularly those affecting steel-related construction and fabrication activities, as well as other factors that are outside of our control, any of which may have a material adverse effect on our business, results of operations and financial condition.
The success of our business is directly affected by general economic conditions and other factors beyond our control. The end users of our products are engaged in commercial construction, oil and gas industry related construction and maintenance, general manufacturing and steel shipbuilding. The demand for our products, and therefore the results of our operations, are related to the level of production in these end-user industries. Specifically, our sales volumes are closely tied to the levels of steel related construction and fabrication activities. Steel production and shipments declined precipitously in late 2008 and into early 2009. In the fourth quarter of 2008, global economic conditions, particularly in the United States, began to deteriorate and severely deteriorated throughout much of 2009. In the United States, steel production declined 36.3% during 2009 from 2008 levels according to the World Steel Association, and global steel production excluding China declined 20.5%. Our net sales were adversely impacted by such conditions. Our business has been and continues to be adversely impacted by such conditions. According to the World Steel Association, world steel production grew 4.8% in 2013 as compared to 2012, 1.4% in 2012 compared to 2011, and 6.8% in 2011 compared to 2010, and demand for our products has varied during these periods. The duration and extent of any reduced demand, along with further potential declines in demand for our products, is uncertain. We believe the volatility in these global economic factors could have further adverse impacts on our operating results and financial condition.
Europe has continued to experience economic difficulties and economic conditions continue to be negatively affected by the European sovereign debt crisis. If economic or credit market conditions worsen, the global economic recovery slows further, the economic downturn in Europe expands beyond Europe or we are unable to successfully anticipate and respond to changing economic and credit market conditions, our business, financial condition and results of operations could be materially and adversely affected.
Our future operating results may be adversely affected by fluctuations in the prices and availability of raw materials.
We purchase a large amount of commodity raw materials, particularly copper, brass and steel. At times, pricing and supply can be volatile due to a number of factors beyond our control, including global demand, general economic and political conditions, mine closures and labor unrest in various countries, activities in the financial commodity markets, labor costs, competition, import duties and tariffs and currency exchange rates. This volatility can significantly affect our raw material costs. An environment of volatile raw material prices, competitive conditions and declining economic conditions can adversely affect our profitability if we fail to, or are unable to, adjust our sales prices appropriately to recover the change in the costs of materials.
The timing of and the extent to which we will realize changes in material costs and the impact on our profits are uncertain. We typically enter into fixed-price purchase commitments with respect to a portion of our material purchases for purchase volumes of three to six months. To the extent that our arrangements to lock in supplier costs do not adequately keep in check cost increases and we are unable to pass on any price increases to our customers, our profitability could be adversely affected. Certain of the raw materials used in our hardfacing alloy products, such as cobalt and chromium, are available primarily from sources outside the United States. Restrictions in the supply of cobalt, chromium and other raw materials could adversely affect our operating results. In addition, certain of our customers rely heavily on raw materials, and fluctuations in prices of raw materials for these customers could negatively affect their operations and orders for our products and, as a result, our financial performance. Dramatic declines in global economic conditions may also create hardships for our suppliers and potentially disrupt their supply of raw materials to us.
We may not be able to implement our cost-reduction initiatives on the anticipated timetable or successfully, which may adversely affect us.
We have undertaken and will continue to undertake cost-reduction initiatives in response to global competitive conditions. These include our ongoing continuous improvement initiatives, redesigning products and manufacturing processes, re-evaluating the location of certain manufacturing operations and the sourcing of vendor purchased components. There can be no assurance that these initiatives will provide the anticipated cost savings from such activities or that we will realize such cost savings on the anticipated timetable. The failure of our cost-reduction efforts to yield sufficient cost reductions or delay in realization may have an adverse effect on our business.
Our international sales and operations face special risks.
Approximately 43% of our consolidated net sales for 2013 were derived from outside of the United States. We have international operations located in Australia, Canada, China, England, Italy, Malaysia and Mexico. International sales and operations are subject to a number of special risks, including:
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currency exchange rate fluctuations;
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differing protections of intellectual property;
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trade barriers;
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regional economic uncertainty;
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labor unrest;
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governmental currency exchange controls;
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differing (and possibly more stringent) labor regulation;
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governmental expropriation;
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domestic and foreign customs, tariffs and taxes;
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current and changing regulatory environments;
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difficulty in obtaining distribution support;
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difficulty in staffing and managing widespread operations;
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terrorist activities and the U.S. and international response thereto;
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restrictions on the transfer of funds into or out of a country;
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export duties and quotas;
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differences in the availability and terms of financing;
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violations by non-US contractors of labor and wage standards and resulting adverse publicity;
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violations of the Foreign Corrupt Practices Act, the U.K. Bribery Act, economic sanctions regimes (including those administered by the Office of Foreign Asset Control of the Department of the U.S. Treasury) and other international laws and regulations; and
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political instability and unrest.
Our products are used in metal fabrication operations to cut and join metal parts. Certain metal fabrication operations, as well as manufacturing operations generally, are moving from the United States to international locations where labor costs are lower. Selling products into international markets and maintaining and expanding international operations require significant coordination, capital and resources. If we fail to adequately address these developments, we may be unable to grow or maintain our sales and profitability. Also, in some foreign jurisdictions, we may be subject to laws that limit the right and ability of entities organized or operating in those jurisdictions to pay dividends or remit earnings to affiliated companies unless specified conditions are met. These factors may adversely affect our financial condition.
We are subject to currency fluctuations and face risks arising from the imposition of exchange controls and currency devaluations.
We sell our products to distributors located in over 50 countries. During the years ended December 31, 2013, 2012 and 2011, approximately 43%, 45% and 45%, respectively, of our consolidated net sales were derived from markets outside the United States. Strengthening of the U.S. dollar exchange rate against other currencies increases the cost of our products to international purchasers and may adversely affect our sales.
For our operations conducted in foreign countries, transactions are typically denominated in various foreign currencies. The costs of our operations in these international locations are also denominated in those local currencies. Because our financial statements are stated in U.S. dollars, changes in currency exchange rates between the U.S. dollar and other currencies have had, and will continue to have, an impact on our reported financial results. In addition, some sale transactions pose foreign currency exchange settlement risks. For 2013 and 2012, the Australian dollar represented approximately 16% and 19%, respectively, of our total net sales and approximately 37% and 43%, respectively, of our international net sales. Our Australian operations typically maintain 60 to 90 day forward purchase commitments for U.S. dollars to reduce the risk of an adverse currency exchange movement in connection with U.S. denominated materials purchases.
We also face risks arising from the imposition of currency exchange controls and currency devaluations. Exchange controls may limit our ability to convert foreign currencies into U.S. dollars or to remit dividends and other payments by our international subsidiaries or operations located or doing business in a country imposing controls. Currency devaluations result in a diminished value of funds denominated in the currency of the country instituting the devaluation. Actions of this nature, if they occur or continue for significant periods of time, could have an adverse effect on our financial condition.
Our ability to use net operating loss carryforwards could be limited in the future.
As of December 31, 2013, we had U.S. net operating loss carryforwards of approximately $95.5 million from the years 2003 through 2010 available to offset future federal taxable income. Similarly, we had net operating loss carryforwards to offset state taxable income in varying amounts. Our federal net operating loss carryforwards will expire between the years 2022 and 2030. As a result of changes in our stock ownership in 2010, we estimate that the use of our federal net operating loss carryforwards will be limited to $17.0 million per year with unused limitation amounts available for use in subsequent years. In addition, this limitation is increased by any gains realized that were inherent on assets owned when we were acquired by Irving Place Capital in December 2010, See Note 1 to the audited financial statements. However, future change of control transactions or other transactions could further limit our use of net operating loss carryforwards. There is also no assurance that the Internal Revenue Service (“IRS”) or other taxing authorities will not challenge our determination of net operating loss carryforwards and limit them. Limitations on our ability to use net operating loss carryforwards to offset future taxable income could reduce the benefit of our net operating loss carryforwards by requiring us to pay federal and state income taxes earlier than we otherwise would be required, and causing part of our net operating loss carryforwards to expire without our having fully utilized them. An ownership change could also limit our use of other credits, such as foreign tax credits, in future years. These various limitations resulting from an ownership change could have a material adverse effect on our cash flow and results of operations. We cannot predict the extent to which our net operating loss carryforwards will be limited or the ultimate impact of other limitations that may be caused by an ownership change, which will depend on various factors.
Fluctuations in labor costs may adversely affect our business and our profitability
Labor costs can be volatile due to a number of factors beyond our control, including inflation, general economic and political conditions and labor unrest in various countries. This volatility can significantly affect our labor costs. Continuing increases in inflation and material increases in the cost of labor would diminish our competitive advantage and, unless we are able pass on these increased labor costs to our customers by increasing prices, our profitability and results of operations could be materially and adversely affected.
We rely in large part on independent distributors for sales of our products and the continued consolidation of distributors, loss of key distributors or the increased purchases by our distributors from our competitors could materially harm our business.
We depend on more than 3,300 independent distributors to sell our products and provide service and after-market support to our ultimate customers. Distributors play a significant role in determining which of our products are stocked at their branch locations and the prices at which they are sold, which impacts how accessible our products are to end users of our products. Almost all of the distributors with whom we do business offer competing products and services to end users. There is a trend toward consolidation of these distributors, which has been escalating in recent years. Our largest distributor - Airgas, Inc. - accounted for 11%, 10% and 12% of our net sales in 2013, 2012 and 2011, respectively. Recent economic events or future similar events could undermine the economic viability of some of our distributors. These events could also cause our competitors to introduce new economic inducements and pricing arrangements that may cause our distributors to increase purchases from our competitors and reduce purchases from us. The continued consolidation of these distributors, the loss of certain key distributors or an increase in the distributors’ purchase of our competitors’ products for sale to end users could adversely affect our results of operations.
Our business is highly competitive, and increased competition could reduce our sales, earnings or profitability.
We offer products in highly competitive markets. We compete on the performance, functionality, price, brand recognition, customer service and support and availability of our products. We compete with companies of various sizes, some of which have greater financial and other resources than we do. Increased competition could force us to lower our prices or to offer additional product features or services at a higher cost to us, which could reduce our net sales or net earnings or adversely affect our profitability.
The greater financial resources of certain of our competitors may enable them to commit larger amounts of capital in response to changing market conditions. Certain competitors may also have the ability to develop product innovations that could put us at a disadvantage. In addition, some of our competitors have achieved substantially more market penetration in certain segments of those markets in which we operate. If we are unable to compete successfully against other manufacturers in our marketplace, we could lose customers, and our sales may decline. There can also be no assurance that customers will continue to regard our products favorably, that we will be able to develop new products that appeal to customers, that we will be able to improve or maintain our profit margins or that we will be able to continue to compete successfully in maintaining or increasing our market share.
Failure to enhance existing products and develop new products may adversely impact our financial results.
Our financial and strategic performance depends partially on providing new and enhanced products to the global marketplace. We may not be able to develop or acquire innovative products or otherwise obtain intellectual property in a timely and effective manner in order to maintain and grow our position in global markets. Furthermore, we cannot be sure that new products or product improvements will be met with customer acceptance or contribute positively to our financial results. We may not be able to continue to support the levels of research and development activities and expenditures necessary to improve and expand our products. Competitors may be able to direct more capital and other resources to new or emerging technologies to respond to changes in customer requirements.
If we cannot adequately enforce or protect our intellectual property rights, our competitive position will suffer, and we may incur significant additional costs in defending our use of intellectual property rights.
We own a number of patents, trademarks and licenses related to our products and rights under patents owned by others. While no single patent, trademark or license is material to the operation of our business as a whole, our ability to enforce our intellectual property rights in the United States and in other countries is critical to our competitive position and our ability to continue to bring new and enhanced products to the marketplace. We rely upon patent, trademark and trade secret laws in the United States and similar laws in other countries, as well as agreements with our employees, customers, suppliers and other third parties, to establish and maintain our intellectual property rights. Third parties may challenge, infringe upon or otherwise circumvent our intellectual property rights, which could adversely impact our competitive position. Further, the enforceability of our intellectual property rights in various foreign countries is uncertain. Accordingly, in certain countries, we may be unable to protect our intellectual property rights against unauthorized third-party copying or use, which could harm our competitive position and could adversely affect our results of operations.
Third parties also may claim that we or our customers are infringing upon their intellectual property rights. Defending those claims and contesting the validity of third parties’ asserted intellectual property rights can be time consuming and costly. Claims of intellectual property infringement also might require us to redesign affected products, enter into costly settlement or license agreements or pay costly damage awards, or face a temporary or permanent injunction prohibiting us from manufacturing, marketing or selling certain of our products.
We are subject to risks caused by changes in interest rates.
Changes in benchmark interest rates (e.g., the London Interbank Offered Rate (“LIBOR”)) will impact the interest cost component associated with our variable interest rate debt. Our variable rate debt includes any borrowings under our asset-backed credit facility with General Electric Capital Corporation (the "Working Capital Facility"). Changes in interest rates would affect our cost of future borrowings and potentially increase our interest expense. Significant increases in interest rates would adversely affect our financial condition and results of operations if we have balances outstanding on our Working Capital Facility during the year.
We are subject to risks caused by disruptions in the credit markets.
The Working Capital Facility is provided under an agreement with General Electric Capital Corporation, which will expire in 2016. Our operations may be funded through daily borrowings and repayments from and to our lender under the Working Capital Facility. Our ability to access this facility will be affected by the amount and value of our assets which are used to determine the borrowing base under the facility. The temporary or permanent loss of the use of the Working Capital Facility or the inability to replace this facility when it expires could have a material adverse effect on our business and results of operations.
Credit availability for our suppliers and customers has been reduced due to the disruptions in the credit markets and the general global economic environment. This decreased availability for our customers and suppliers may have an adverse effect on the demand for our products, the collection of our accounts receivable and our ability to timely fulfill our commitments.
If our relationships with our employees were to deteriorate, we could be adversely affected.
Currently, in our U.S. operations (where none of our employees are represented by a labor union) and in our international operations (where the majority of our employees is represented by labor unions), we believe we have maintained a positive working environment. Although we focus on maintaining a productive relationship with our employees, we cannot ensure that unions, particularly in the United States, will not attempt to organize our employees or that we will not be subject to work stoppages, strikes or other types of conflicts with our employees or organized labor in the future. Any such event could have a material adverse effect on our ability to operate our business and serve our customers and could materially impair our relationships with key customers and suppliers, which could damage our business, results of operations and financial condition.
If we are unable to retain and hire key employees, we could be adversely affected.
Our ability to provide high-quality products and services for our customers and to manage the complexity of our business is dependent on our ability to retain and to attract skilled personnel in the areas of product engineering, manufacturing, sales, brand management and finance. Our businesses rely heavily on key personnel in the engineering, design, formulation and manufacturing of our products. Our success is also dependent on the management and leadership skills of our senior management team. As with
all of our employees, we focus on maintaining a productive relationship with our key personnel. However, we cannot ensure that our employees will remain with us indefinitely. The loss of a key employee and the inability to find an adequate replacement could materially impair our relationship with key customers and suppliers, which could damage our business, results of operations and financial condition.
If we are unable to successfully identify and integrate acquisitions, our results of operations could be adversely affected.
As part of our growth strategy, we may seek to identify and complete acquisitions that meet our strategic and financial return criteria. However, there can be no assurance that we will be able to locate suitable candidates or acquire them on acceptable terms or, because of limitations imposed by the agreements governing our indebtedness, including the Indenture and the credit agreement governing the Working Capital Facility, that we will be able to finance future acquisitions. Acquisitions involve special risks, including, without limitation, the potential assumption of unanticipated liabilities and contingencies, difficulty in assimilating the operations and personnel of the acquired businesses, disruption of our existing business, dissipation of our limited management resources, and impairment of relationships with employees and customers of the acquired business as a result of changes in ownership and management. While we believe that strategic acquisitions can improve our competitiveness and profitability, these activities could have a material adverse effect on our business, financial condition and operating results.
If we fail to implement our business strategy, our business, financial condition and results of operations could be materially and adversely affected.
Our future financial performance and success are dependent in large part upon our ability to implement our business strategy successfully. Our business strategy envisions several initiatives, including diversifying our business into new channels and markets, focusing on new product development, implementing productivity and cost reduction programs and pursuing strategic acquisitions. We may not be able to implement our business strategy successfully or achieve the anticipated benefits of our business plan. If we are unable to do so, our long-term growth and profitability may be adversely affected. Even if we are able to implement some or all of the initiatives of our business plan successfully, our operating results may not improve to the extent we anticipate, or at all.
A material disruption at any of our manufacturing facilities could adversely affect our ability to generate sales and meet customer demand.
If operations at our manufacturing facilities were to be disrupted as a result of significant equipment failures, natural disasters, power outages, fires, explosions, terrorism, adverse weather conditions, labor disputes or other reasons, our financial performance could be adversely affected as a result of our inability to meet customer demand for our products. Interruptions in production could increase our costs and reduce our sales. Any interruption in production capability could require us to make substantial capital expenditures to remedy the situation, which could negatively affect our profitability and financial condition. We maintain property damage insurance which we believe to be adequate to provide for reconstruction of facilities and equipment, as well as business interruption insurance to mitigate losses resulting from any production interruption or shutdown caused by an insured loss. However, any recovery under our insurance policies may not offset the lost sales or increased costs that may be experienced during the disruption of operations, which could adversely affect our financial performance.
Our products involve risks of personal injury and property damage, which expose us to potential liability.
Our business exposes us to possible claims for personal injury or death and property damage resulting from the products that we sell. We maintain insurance for loss (excluding attorneys’ fees and expenses) through a combination of self-insurance retentions and excess insurance coverage. We are not insured against punitive damage awards, and we are not currently insured for liability from manganese-induced illness. We monitor claims and potential claims of which we become aware and establish reserves for the self- insurance amounts based on our liability estimates for such claims. We cannot give any assurance that existing or future claims will not exceed our estimates for self-insurance or the amount of our excess insurance coverage. In addition, we cannot give any assurance that insurance will continue to be available to us on economically reasonable terms or that our insurers would not require us to increase our self-insurance amounts. Claims brought against us that are not covered by insurance or that result in recoveries in excess of insurance coverage could have a material adverse effect on our results of operations and financial condition. Moreover, despite any insurance coverage, any accident or incident involving our products could negatively affect our reputation among customers, suppliers, lenders, investors and the public. This may make it more difficult for us to operate our business and compete effectively.
We are subject to various environmental laws and regulations and may incur costs that have a material adverse effect on our financial condition as a result of violations of or liabilities under environmental laws and regulations.
Our operations are subject to federal, state, local and international laws and regulations relating to the protection of the environment, including those governing the discharge of pollutants into the air and water, the generation, handling, storage, use, management, transportation and disposal of, or exposure to, hazardous materials resulting from the manufacturing process and employee health and safety. Permits are required for our operations and these permits are subject to renewal, modification and, in certain circumstances, revocation. As an owner and operator of real property and a generator of hazardous waste, we may also be subject
to liability for the remediation of contaminated sites. Environmental, health and safety laws and regulations, and the interpretation and enforcement thereof are subject to change and have tended to become stricter over time. While we are not currently aware of any outstanding material claims or obligations, we could incur substantial costs, including cleanup costs, fines and civil or criminal sanctions, and third-party property damage or personal injury claims, as a result of violations of or liabilities under environmental laws or noncompliance with environmental permits required at our facilities, which, as a result, could have a material adverse effect on our business, financial condition and operating results.
Contaminants have been detected at some of our present and former sites, and we have been named as a potentially responsible party at certain Superfund sites to which we may have sent hazardous waste materials. See Item 3, Legal Proceedings. While we are not currently aware of any contaminated or Superfund sites as to which material outstanding claims or obligations exist, the discovery of additional contaminants or the imposition of additional cleanup obligations at these or other sites could result in significant liability. In addition, the ultimate costs under environmental laws and the timing of these costs are difficult to predict. Liability under some environmental laws relating to contaminated sites, including the Comprehensive Environmental Response, Compensation, and Liability Act and analogous state laws, can be imposed retroactively and without regard to fault. Further, one responsible party could be held liable for all costs at a site. Thus, we may incur material liabilities related to the investigation and remediation of contaminated sites under existing environmental laws and regulations or environmental laws and regulations that may be adopted in the future, which, as a result, could have a material adverse effect on our business, financial condition and operating results.
Our information technology infrastructure could be subject to service interruptions, data corruption, cyber-based attacks or network security breaches, which could result in the disruption of operations or the loss of data confidentiality.
We rely on information technology networks and systems, including the Internet, to process, transmit and store electronic information, and to manage or support a variety of business processes and activities, including procurement, manufacturing, distribution, invoicing and collection. These technology networks and systems may be susceptible to damage, disruptions or shutdowns due to failures during the process of upgrading or replacing software, databases or components, power outages, hardware failures or computer viruses. In addition, our efforts to avoid or mitigate the impact of cyber-based attacks and security breaches may not be successful in avoiding a material breach, which could result in unauthorized disclosure of confidential information or damage to our information technology networks and systems. If these information technology systems suffer severe damage, disruption or shutdown and business continuity plans do not effectively resolve the issues in a timely manner, our business, financial condition and results of operations could be materially adversely affected.
Item 1B.
Item 1B. Unresolved Staff Comments
None.
Item 2.
Item 2. Properties
We operate manufacturing facilities in the United States, Mexico, China, Malaysia, the United Kingdom and Italy, and our principal distribution facilities are located in the United States, the United Kingdom, Australia and Canada. We consider our plants and equipment to be modern and well maintained and believe our plants have sufficient capacity to meet future anticipated expansion needs.
We lease a 19,500 square-foot facility located in St. Louis, Missouri, that houses our executive offices, as well as some of our centralized services.
The following table describes the location and general character of our principal properties as of December 31, 2013:
* All of the above facilities are leased, except for the Diss, United Kingdom properties which are owned. We also have additional assembly and warehouse facilities located in Australia, Indonesia and the United Kingdom, .
(1)
In October 2012, we moved our operations from our former facility in Ningbo, which covered 114,716 square feet.
(2)
In 2013, we sold our owned manufacturing facility in Melbourne and ceased manufacturing operations. Certain assembly activities, as well as the corporate offices of our Cigweld subsidiary remain at the leased facility in Melbourne. See Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations - Recent Developments."
(3)
In connection with the relocation of manufacturing operations formerly located at our West Lebanon facility, we exercised our option under the lease agreement to reduce the leased space at the facility from approximately 160,000 square feet to 51,520 square feet, effective December 1, 2012. We currently maintain engineering, technical services and returned goods functions and a small assembly operation at this facility.
Item 3.
Item 3. Legal Proceedings
Our operations are subject to federal, state, local and international laws and regulations relating to the protection of the environment, including those governing the discharge of pollutants into the air and water, the generation, handling, storage, use, management, transportation and disposal of, or exposure to, hazardous materials and employee health and safety.
As an owner or operator of real property, we may be required to incur costs relating to the investigation and remediation of contamination at properties, including properties at which we dispose waste, and environmental conditions could lead to claims for personal injury, property damage or damages to natural resources. We are aware of environmental conditions at a property that we previously owned, which is undergoing remediation. Based on continuing due diligence and monitoring of this property, we do not believe the cost of such remediation would be reasonably likely to have a material adverse effect on our business, financial conditions or results of operations.
Certain environmental laws, including, but not limited to, the Comprehensive Environmental Response, Compensation, and Liability Act and analogous state laws, provide for liability without regard to fault for investigation and remediation of spills or other releases of hazardous materials. Under such laws, liability for the entire cleanup can be imposed upon any of a number of responsible parties. Such laws may apply to conditions at properties presently or formerly owned or operated by us or our subsidiaries or by their predecessors or previously owned or operated by unaffiliated business entities. We have in the past and may in the future be named a potentially responsible party at off-site disposal sites to which we have sent waste. In January 2014, the U.S. Environmental Protection Agency (the "EPA") issued Special Notice Letters to over 400 entities, including the Company, alleging that they, along with over 100 potentially responsible parties ("PRPs") who received General Notice Letters in November 2011, are PRPs at the Chemetco Superfund site in Hartford, Illinois. As a PRP, we may be responsible to pay a portion of the costs of developing a Remedial Investigation and Feasibility Study ("RI/FS") for this site and the ultimate cleanup of hazardous materials located at this site. Based on currently known facts and circumstances relating to this site, including the amount of materials contributed by the Company, the number of other PRPs who will likely share in any RI/FS and cleanup costs and their respective contributions, and the ongoing investigation into other potential PRPs who contributed materials to this site, the Company does not have sufficient facts on which it may estimate its liability related to this site. The Company believes this matter will not have a material adverse effect on its results of operations, financial position or cash flows. It is possible that additional information may be determined and other future developments may arise that expand the scope and cost of remediation at this site and that, as a result, the Company could incur obligations that may be material.
All other legal proceedings and actions involving us are of an ordinary and routine nature and are incidental to our operations. Management believes that such proceedings are not, individually or in the aggregate, reasonably likely to have a material adverse effect on our business or financial condition or on the results of operations.
Item 4.
Item 4. Mine Safety Disclosures
Not applicable.
PART II
Item 5.
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
There is no established public trading market for our common stock. As of December 31, 2013, we had 1,000 shares of common stock outstanding, all of which were held by Holdings, our parent company. Except as discussed below, during 2013 and 2012, we did not declare or pay a dividend on our common stock. On March 6, 2012, we declared a cash dividend in the amount of $93,507,863, or $93,507.863 per share of common stock, and we paid such dividend to Holdings on March 12, 2012. See "Selected Financial Data - Acquisition Leading to Fresh Start Accounting" and “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Long-Term Debt” included in Item 6
Item 6. Selected Financial Data
Acquisition Leading to Fresh Start Accounting
On December 3, 2010 (“Acquisition Date”), pursuant to an Agreement and Plan of Merger dated as of October 5, 2010 (the “Merger Agreement”), Razor Merger Sub Inc. (“Merger Sub”), a newly formed Delaware corporation, merged with and into Thermadyne, with Thermadyne surviving as a direct, wholly-owned subsidiary of Razor Holdco Inc., a Delaware corporation (the "Merger" or the “Acquisition”). Razor Holdco Inc. was renamed Thermadyne Technologies Holdings, Inc. (“Technologies”).
Effective May 21, 2012, Thermadyne changed its name to Victor Technologies Group, Inc. (“Victor Technologies” or the "Company"). Thermadyne Technologies, the parent company of Victor Technologies, accordingly changed its name to Victor Technologies Holdings, Inc. ("Holdings").
Holdings’ sole asset is its 100% ownership of the stock of Victor Technologies. Affiliates of Irving Place Capital (“IPC”), a private equity firm based in New York, along with its co-investors, hold 84.1% of the outstanding common stock on a fully diluted basis of Holdings, and certain members of Victor Technologies' management hold the remaining equity capital.
Acquisition and Fair Value Adjustments
The Acquisition resulted in a 100% change in ownership of Victor Technologies and is accounted for in accordance with United States accounting guidance for business combinations. Accordingly, the assets acquired and liabilities assumed were recorded at fair value as of December 3, 2010. The provisional amounts recognized for assets acquired and liabilities assumed as of December 3, 2010 was determined by management with the assistance of an externally prepared valuation study of inventories, property, plant and equipment, intangible assets, goodwill, and capital and operating leases. The Company finalized purchase accounting in 2011 and, given the impact to the Balance Sheet, has retrospectively adjusted the 2010 amounts. The adjustments arising out of the finalization of the amounts recognized for assets acquired and liabilities assumed do not impact cash flows. However, such adjustments resulted in decreases to amortization of intangibles totaling $0.5 million in 2011.
The selected financial data for the years ended December 31, 2013, 2012 and 2011, the period from December 3, 2010 through December 31, 2010, the period from January 1, 2010 through December 2, 2010, and the year ended December 31, 2009, respectively, set forth below has been derived from our audited consolidated financial statements for such years. The selected financial data should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the notes thereto, in each case included elsewhere herein.
(1)
Prior to 2011, stock compensation expense (gain) had been classified as a financing activity in the statement of cash flows and have been reclassified to operating activities in the amounts of $25 for the period from December 3, 2010 through December 31, 2010, $682 for the period from January 1, 2010 through December 2, 2010, and $(579) for the fiscal year ended December 31, 2009.
(2)
Total debt at December 31, 2010 includes the Senior Subordinated Notes due 2014, which were redeemed with the use of the trusteed assets on February 1, 2011.
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Overview
We provide superior branded solutions for cutting, gas control and specialty welding, continuing a heritage of designing innovative products that evolve as a result of carefully listening to end users and anticipating their needs. This singular focus, built upon creating new and better solutions, is reflected in the vision statement, “Innovation to Shape the WorldTM.” Our products are used in a wide variety of applications and industries where steel is cut and welded, including steel fabrication, manufacturing of transportation and mining equipment, construction projects, such as offshore oil and gas rigs, repair and maintenance of manufacturing equipment and facilities, and shipbuilding. We design, manufacture and sell products in six principal categories: (1) gas equipment; (2) plasma power supplies, torches and consumable parts; (3) carbon arc gouging projects and consumable parts; (4) welding equipment; (5) arc accessories, including torches, consumable parts and accessories; and (6) filler metals and hardfacing alloys. We operate our business in one reportable segment.
Historically, demand for our products has been cyclical because many of the end users of our products are themselves in highly cyclical industries, such as commercial construction, steel shipbuilding, petrochemical construction and general manufacturing.
The demand for our products and, therefore, our results of operations are related to the level of production in these end-user industries.
The availability and the cost of the components of our manufacturing processes, and particularly raw materials, are key determinants in achieving future success in the marketplace as well as profitability. The principal raw materials we use in manufacturing our products are copper, brass, steel and plastic, which are widely available. Certain other raw materials used in our hardfacing alloy products, such as cobalt and chromium, are available primarily from sources outside the United States. Historically, we have been able to obtain adequate supplies of raw materials at acceptable prices, but with increasing volatility.
Our operating profit is also affected by the mix of the products we sell, as margins are generally higher on torches and their replacement parts, as compared to power supplies and filler metals.
For the year ended December 31, 2013, approximately 57% of our sales were made to customers in the U.S. Approximately 15% of our international sales are U.S. export sales and are denominated in U.S. dollars. The U.S. dollar exchange rate remained relatively stable in 2013 as compared to the major currencies in which we conduct business. A weakening of the U.S. dollar increases our international sales and certain of our international manufacturing costs as translated into U.S. dollars and also may serve to increase our export sales. Similarly, the strengthening of the U.S. dollar against other currencies is expected to have the opposite effects on our international sales and certain of our manufacturing costs.
Recent Developments
On February 12, 2014, Victor Technologies entered into a definitive agreement to sell the Company to Colfax, a global manufacturer of gas- and fluid-handling and fabrication technology products. The all cash transaction values Victor Technologies at approximately $947 million, including the assumption of debt, and is subject to customary closing conditions.
Results of Operations
2013 Compared to 2012
The following is a discussion of the results of operations for the years ended December 31, 2013 and 2012, respectively (amounts included in tables are based in thousands).
Net sales
Net sales for the year ended December 31, 2013 decreased $9.3 million as compared to the prior year, with approximately $9.8 million related to decreased volumes and a $6.1 million decrease attributable to foreign currency translation, partially offset by a $6.6 million increase in net sales associated with price increases.
Gross margin
For the year ended December 31, 2013, gross margin increased 2.9% or, as a percentage of net sales, 1.6 percentage points as compared to prior year. In 2013, the Company recorded a $1.4 million credit to cost of sales related to the last-in first-out (“LIFO”) inventory method. Additionally in 2013, related to the Gas-Arc acquisition, the Company expensed $0.6 million related to the roll-out of a portion of the fair value adjustments of inventories recorded under the first-in-first-out inventory method. Also in 2013, the Company recorded a $0.2 million inventory charge for stranded inventory due to restructuring and recorded $0.1 million in severance expense. In 2012, the Company recorded a $3.3 million credit to cost of sales for LIFO partially offset by $1.7 million in severance expense. Excluding these items, adjusted gross margin as a percentage of net sales was 37.9% in 2013 as compared to 35.9% in 2012. The remaining increase is due to the beneficial impact of manufacturing efficiencies arising from our Victor
Continuous Improvement ("VCI") program to lower costs and improve efficiency, as well as the impact of higher sales price increases.
Selling, general and administrative expenses
For the year ended December 31, 2013, selling, general and administrative costs increased $1.3 million over the prior year. This increase is primarily a result of increased pension plan expense and incentive compensation expense.
Interest, net
Interest expense for the years ended December 31, 2013 and 2012 were $33.6 million and $32.1 million, respectively. The increase in interest expense reflects the effect of $15.5 million of incremental average debt in 2013 of $359.1 million as compared to 2012 of $343.6 million. The increase in incremental average debt for the year 2013 was the result of borrowings under the Working Capital Facility of $22.3 million in December 2013 and the addition of $100.0 million of Senior Secured Notes issued in March 2012, which was partially offset by paying down $33.0 million of the Notes in December 2013.
Income tax provision
An income tax provision of $2.9 million was recorded on pretax income of $25.2 million for 2013 versus an income tax provision of $8.1 million on pretax income of $29.7 million for 2012. The tax provisions for 2013 and 2012 included deferred U.S. income tax expenses recorded on certain foreign earnings in addition to the foreign taxes payable currently on those earnings. Operating loss carryovers utilized in 2013 again offset a major portion of U.S. income taxes currently payable, allowing the Company to release a portion of its valuation allowances. In addition, for the first time in several years, the Company was able to claim Foreign Tax Credits.
2012 Compared to 2011
The following is a discussion of the results of operations for the years ended December 31, 2012 and 2011, respectively (amounts included in tables are based in thousands).
Net sales
Net sales for the year ended December 31, 2012 increased $8.7 million as compared to the prior year, with approximately $9.7 million associated with price increases and $0.1 million attributable to favorable foreign currency translation, partially offset by lower sales volumes of $1.1 million.
Gross margin
For the year ended December 31, 2012, gross margin as a percentage of net sales increased 3.9% as compared to prior year. In 2012, the Company recorded a $3.3 million credit to cost of sales related to the last-in first-out (“LIFO”) inventory method as compared to a $2.8 million charge to costs of sales in 2011. Also in 2012, the Company recorded $1.7 million in severance expense primarily related to one-time cost reduction efforts. Additionally, in 2011 related to the Acquisition, the Company expensed $3.3 million related to the roll-out of a portion of the fair value adjustments of inventories recorded under the first-in first-out inventory method. Additional items that impacted 2011 activity included $1.9 million of restructuring-related inventory write-offs and idle facilities costs and a $0.5 million charge providing for a legal settlement related to prior year exposures. Excluding these items, adjusted gross margin as a percentage of net sales was 35.9% in 2012 as compared to 34.1% in 2011. This remaining increase in adjusted gross margin is primarily due to lower depreciation expense in 2012 as certain fixed assets became fully depreciated and the beneficial impact of manufacturing efficiencies arising from our Victor Continuous Improvement ("VCI") program to lower costs and improve efficiency.
Selling, general and administrative expenses
For the year ended December 31, 2012, selling, general and administrative costs increased $1.5 million over the prior year. This increase is primarily a result of planned headcount additions and related expenses, mostly in the sales and marketing areas, and one-time costs associated with the Company's name change. These increases are partially offset by a reduction in incentive compensation.
Interest, net
Interest expense for the years ended December 31, 2012 and 2011 were $32.1 million and $24.5 million, respectively. The increase in interest expense reflects the effect of $69 million of incremental average debt in 2012 as compared to 2011 and a higher effective interest rate of 9.0% in 2012 as compared to 8.6% in 2011. The increase in the average debt resulted from the issuance of $100 million in Senior Secured Notes in March 2012.
Income tax provision
An income tax provision of $8.1 million was recorded on pretax income of $29.7 million for 2012 versus an income tax provision of $7.8 million on pretax income of $14.6 million for 2011. The tax provisions for 2012 and 2011 included deferred U.S. income tax expenses recorded on certain foreign earnings in addition to the foreign taxes payable currently on those earnings. Increased U.S. taxable income in 2012 led to a higher utilization of tax loss carryforwards. As a result, the Company had a larger release of valuation allowances than last year thereby reducing the consolidated effective tax rate. The currently payable income tax provision for 2012 and 2011 relates primarily to earnings in foreign countries. Operating loss carryovers offset substantially all U.S. income taxes currently payable.
Restructuring
Program implemented in 2013
During 2013, the Company committed to a restructuring plan that included exit activities at its Melbourne, Australia manufacturing location. These exit activities, which were completed in 2013, impacted approximately 45 employees and were intended to reduce the Company’s fixed cost structure and better align its Asia-Pacific manufacturing and distribution footprint.
The following provides a summary of the total restructuring costs incurred during 2013:
Employee termination benefits primarily include severance payments to employees impacted by exit activities as well as pension curtailment and settlement losses. Other restructuring costs include expenses to relocate certain individuals and equipment to other manufacturing locations and employee training costs.
Programs implemented prior to 2013
In 2011, the Company committed to restructuring plans that include exit activities at manufacturing sites in West Lebanon, New Hampshire and Pulau Indah, Selangor, Malaysia. These exit activities impacted approximately 188 employees and were intended to reduce the Company’s fixed cost structure and better align its global manufacturing and distribution footprint.
The following provides a summary of restructuring costs incurred during the years ended December 31, 2013, 2012 and 2011, respectively, and the total expected restructuring costs associated with these activities by major type of cost:
Employee termination benefits primarily include severance and retention payments to employees impacted by exit activities. Other restructuring costs include changes to the lease terms of the impacted facility, expense to relocate certain individuals and equipment to other manufacturing locations and employee training costs.
Liquidity and Capital Resources
The Company’s cash flows from operating, investing and financing activities, as reflected in the Consolidated Statement of Cash Flows, are summarized in the following table (amounts included in the table are based in thousands):
Principal uses of cash have been and will continue to be for working capital, debt service obligations and capital expenditures. The Company expects to fund ongoing requirements for working capital from operating cash flow and borrowings under the Working Capital Facility.
2013 Cash Flows versus 2012 Cash Flows
Operating Activities. Net cash provided by operating activities was $46.8 million for the year ended December 31, 2013, compared to net cash provided by operating activities of $33.1 million for the year ended December 31, 2012. This increase in the 2013 period resulted primarily from efforts to reduce inventory levels at year-end and higher accruals for incentive compensation and rebates in 2013 compared to 2012, which was partially offset by slower collections of accounts receivable in the 2013 period than in the 2012 period, due to deteriorating economic conditions in Europe.
Investing Activities. Net cash used in investing activities was $34.5 million for the year ended December 31, 2013, compared to $16.7 million for the year ended December 31, 2012. This increase primarily resulted from cash paid in October 2013 of $32.8 million related to the acquisition of Gas-Arc, which was partially offset by proceeds from the sale of property, plant and equipment related to assets held for sale in Australia.
Financing Activities. During 2013, the Company prepaid $33.0 million of Senior Secured Notes due 2017, including a bond redemption premium of $1.0 million. Borrowings outstanding under the Working Capital Facility were $22.3 million and financing fees paid in connection with amending the Working Capital Facility were $0.2 million.
2012 Cash Flows versus 2011 Cash Flows
Operating Activities. Net cash provided by operating activities for 2012 was $33.1 million as compared to $7.1 million in 2011. This increase in cash was driven largely by higher net income, lower uses of cash for working capital and an $8.7 million payment of interest on the Senior Subordinated Notes in 2011 related to the defeasance of the Notes.
Investing Activities. Investing activities used $16.7 million and $15.7 million of cash for the years ended December 31, 2012 and 2011, respectively. The acquisition of Robotronic Oy in 2012 used cash of $3.5 million. Capital spending, primarily for manufacturing equipment purchases, comprised the majority of the remaining amount of cash used for investing activities in 2012 and 2011.
Financing Activities. During 2012, the Company issued an additional $100.0 million of Senior Secured Notes due 2017, and paid $5.2 million of consent fees to bondholders as well as $4.4 million of financing fees in conjunction with the Notes offering. The Company used the proceeds to pay a cash dividend of $93.5 million to its parent company to allow it to redeem a portion of its outstanding Series A preferred stock. In the same period in 2011, the Company used Trusteed Assets of $183.7 million to retire $176.1 million of Senior Subordinated Notes outstanding.
Long-Term Debt
Senior Secured Notes due 2017
On December 3, 2010, we issued $260.0 million in aggregate principal of the existing notes. The net proceeds from this issuance, together with funds received from the equity investments made by affiliates of IPC, its co-investors and certain members of our management, were used to finance the Acquisition, to redeem the Senior Subordinated Notes due 2014 and to pay the transaction related expenses. On March 6, 2012, we issued $100 million in aggregate principal amount of Additional Notes at par plus accrued but unpaid interest since December 15, 2011. The Original Notes and the Additional Notes are treated as a single series under the Indenture and are therefore subject to the same terms, conditions and rights under the Indenture. We used the net proceeds from the sale of the Additional Notes and cash on hand to pay a cash dividend of $93.5 million to Holdings, our parent company, to allow it to redeem a portion of its outstanding Series A preferred stock and to pay fees and expenses related to this offering and the related Consent Solicitation required to amend the Indenture in connection with this offering. We made a cash payment of $20 per $1,000 in principal amount of Original Notes, or a total aggregate payment of $5.2 million, to Holders of such notes in connection with the solicitation of consents to amend the Indenture and the issuance of the Additional Notes.
The notes are fully and unconditionally guaranteed, jointly and severally, by each of our existing and future domestic subsidiaries and by our Australian subsidiaries, Victor Technologies Australia Pty Ltd. and Cigweld Pty Ltd. The existing notes and guarantees are secured, subject to permitted liens and except for certain excluded assets, on a first priority basis by substantially all of our and the guarantors’ current and future property and assets (other than accounts receivable, inventory and certain other related assets that secure, on a first priority basis, our and the guarantors’ obligations under our Working Capital Facility), including the capital stock of each of our subsidiaries (other than immaterial subsidiaries), which, in the case of non-guarantor international subsidiaries, is limited to 65% of the voting stock and 100% of the non-voting stock of each first-tier international subsidiary, and on a second priority basis by substantially all the collateral that secures the Working Capital Facility on a first priority basis.
The notes and the guarantees rank equal in right of payment with any of our and the guarantors’ senior indebtedness, including indebtedness under the Working Capital Facility. The notes and the guarantees rank senior in right of payment to any of our and the guarantors’ existing and future indebtedness that is expressly subordinated to the notes and the guarantees and are effectively senior to any unsecured indebtedness to the extent of the value of the collateral for the notes and the guarantees. The notes and the guarantees are effectively junior to our and the guarantors’ obligations under the Working Capital Facility to the extent our and the guarantors’ assets secure such obligation on a first priority basis and are effectively junior to any secured indebtedness that is either secured by assets that are not collateral for the notes and the guarantees or secured by a prior lien in the collateral for the notes and the guarantees, in each case, to the extent of the value of the assets securing such indebtedness.
On or after December 15, 2013, we may redeem the notes, in whole or part, at redemption prices set forth in the Indenture (expressed as a percentage of principal amount of notes to be redeemed) ranging from 106.75% to 100%, depending on the date of redemption. At any time prior to December 15, 2013, the Company could redeem, subject to applicable notice and other requirements:
•
during each twelve-month period commencing with the issue date, up to 10% of the original aggregate principal amount of notes issued under the Indenture (including additional notes) at a redemption price of 103%;
•
all or a part of the notes at a redemption price equal to 100% of the principal amount of notes to be redeemed plus a “make-whole” premium, as determined in accordance with the Indenture; and
•
on one or more occasions, at our option, up to 35% of the original aggregate principal amount of notes issued under the Indenture (including additional notes), at a redemption price of 109% of the aggregate principal amount thereof, with the net cash proceeds of one or more equity offerings of the Company or any of its direct or indirect parents to the extent such proceeds are received by or contributed to the Company.
In addition to the applicable redemption prices, for each redemption the Company must also pay accrued and unpaid interest and special interest, if any, to, but excluding, the applicable redemption date. If we sell certain assets or experiences specific kinds of changes of control, we must offer to repurchase the notes.
On December 12, 2013, the Company redeemed $33.0 million, or 9.17%, of outstanding principal amount of Senior Secured Notes at a price of 103%, plus accrued and unpaid interest, recognizing a loss of $2.5 million.
The notes contain customary covenants and events of default, including covenants that, among other things, limit the Company's and its restricted subsidiaries’ ability to incur additional indebtedness; pay dividends on, repurchase or make distributions in respect of its capital stock or make other restricted payments; make certain investments; sell, transfer or otherwise convey certain assets; create liens; designate our future subsidiaries as unrestricted subsidiaries; consolidate, merge, sell or otherwise dispose of all or substantially all of our assets; and enter into certain transactions with our affiliates.
Upon a change of control, as defined in the Indenture, each holder of the existing notes has the right to require us to purchase the existing notes at a purchase price in cash equal to 101% of the principal, plus accrued and unpaid interest.
The Indenture contains certain covenants of us and the guarantors that limit the payments of dividends, incurrence of additional indebtedness and guarantees, issuance of disqualified stock and preferred stock, transactions with affiliates and a merger, consolidation or sale of all or substantially all of our assets. As of December 31, 2013, we were in compliance with all applicable covenants.
Senior Subordinated Notes due 2014
On February 1, 2011, the Company utilized $183.7 million of Trusteed Assets to redeem in full $176.1 million of the Senior Subordinated Notes due 2014 plus a call premium and accrued interest. The Trust to fund the redemption was established at the time of the Acquisition.
Working Capital Facility
On December 3, 2010, Victor Technologies entered into a Fourth Amended and Restated Credit Agreement (the “GE Agreement”) with General Electric Capital Corporation as lender and administrative agent (the “Working Capital Facility”). The Working Capital Facility provides for borrowings not to exceed $60.0 million, including up to $10.0 million for letters of credit and swingline loans, subject to borrowing base capacity. Provided that no default is then existing or would arise therefrom, Victor Technologies has the option to increase commitments under the Working Capital Facility by up to $25.0 million.
On October 30, 2013, the Company entered into an amendment (the "Amendment") to the Fourth Amended and Restated Credit Agreement, dated as of December 3, 2010 (the "Credit Agreement") with General Electric Capital Corporation. Pursuant to the terms of the Amendment, (i) the Gas-Arc acquisition was specifically designed as a "Permitted Acquisition" (as defined in the Credit Agreement), (ii) the Company modified certain covenants applicable to it, including those relating the investments and prepayments or redemptions of other indebtedness, to provide for greater flexibility going forward and (iii) the maturity date with respect to the Credit Agreement was extended by one year. Transaction related costs of $0.2 million were incurred in connection with the Amendment. The Company remains in compliance with all debt covenants. The Working Capital Facility expires on December 2016.
The Indenture governing the Senior Secured Notes limits the aggregate principal amount outstanding at any one time under the Working Capital Facility to the greater of $60.0 million or the borrowing under the borrowing base capacity determined as:
•
85% of the aggregate book value of eligible accounts receivable consisting of the receivables from U.S., Canadian, and Australian-based customers; plus
•
the lesser of (a) 85% of the aggregate net orderly liquidation value of eligible inventory consisting of the U.S. and Australian-based inventories (subject to certain reserves and adjustments) multiplied by a percentage representing the net orderly liquidation value of the book value of such inventory and (b) 65% of the aggregate book value of the sum of the eligible inventory.
For the first six months following the closing date of the Acquisition, borrowings under the Working Capital Facility bore interest at a rate per annum of LIBOR, plus 2.75%. Thereafter, the applicable margins under the Working Capital Facility will adjust based on average excess borrowing availability under the Working Capital Facility. If the average excess borrowing availability is greater than or equal to $25.0 million, the applicable interest rate will be LIBOR plus 2.75%. If the average excess borrowing availability is less than $25.0 million, the applicable margin will be LIBOR plus 3.0%. Victor Technologies has the option to have borrowings bear interest at a base rate plus applicable margins as set forth in the GE Agreement.
Commitment fees are payable in respect of unutilized commitments at (i) 0.75% per annum if outstanding loans and letters of credit are less than 50% of the aggregate amount of such commitments or (ii) 0.50% if the outstanding loans and letters of credit are greater than 50% of the aggregate amount of such commitments.
If at any time the aggregate amount of outstanding loans (including swingline loans), unreimbursed letter of credit drawings and undrawn letters of credit under the Working Capital Facility exceeds the lesser of (i) the aggregate commitments under the Working Capital Facility and (ii) the borrowing base, the Company will be required to repay outstanding loans and then cash collateralize letters of credit in an aggregate amount equal to such excess, with no reduction of the commitment amount.
All obligations under the Working Capital Facility are unconditionally guaranteed by Holdings and substantially all of the Company’s existing and future, direct and indirect, wholly-owned domestic subsidiaries and its Australian subsidiaries Victor Technologies Australia Pty Ltd. and Cigweld Pty Ltd. The Working Capital Facility is secured, subject to certain exceptions, by substantially all of the assets of the guarantors and Holdings, including a first priority security interest in substantially all accounts receivable and other rights to payment, inventory, deposit accounts, cash and cash equivalents and a second priority security interest in all assets other than the Working Capital Facility collateral.
The Working Capital Facility has a minimum fixed charge coverage ratio test of 1.10 to 1 if the excess availability under the Facility is less than $9.0 million (which minimum amount will be increased or decreased proportionally with any increase or decrease in the commitments thereunder). In addition, the Working Capital Facility includes negative covenants that limit the Company’s ability and the ability of Holdings and certain subsidiaries to, among other things: incur, assume or permit to exist additional indebtedness or guarantees; grant liens; consolidate, merge or sell all or substantially all of the Company’s assets; transfer or sell assets and enter into sale and leaseback transactions; make certain loans and investments; pay dividends, make other distributions or repurchase or redeem the Company’s or Holdings’ capital stock; and prepay or redeem certain indebtedness.
At December 31, 2013, borrowings outstanding under the Working Capital Facility were $22.3 million and the unused availability, net of $1.1 million in outstanding letters of credit, was $22.7 million.
The Company's weighted average interest rate on its short-term borrowings was 4.00% for the year ended December 31, 2013. There were no borrowings under the Working Capital Facility during the year ended December 31, 2012. The Company’s weighted average interest rate on its short-term borrowings was 4.78% for the year ended December 31, 2011.
In connection with the Additional Notes offering, GE Capital Corporation agreed to amend the credit agreement to allow the Company, among other things, to issue the Additional Notes and use the net proceeds as described above. The amendment became effective concurrently with the consummation of the offering of Additional Notes on March 6, 2012.
Contractual Obligations and Commercial Commitments
In the normal course of business, we enter into contracts and commitments that obligate us to make payments in the future. The table below sets forth our significant future obligations by time period as of December 31, 2013 (amounts included in the table are based in thousands).
At December 31, 2013, we had outstanding letters of credit totaling $1.1 million under the Working Capital Facility. See Note 18 - Employee Benefit Plans to the consolidated financial statements for the Company’s obligation with respect to its pension and post-retirement benefit plans and Note 14 - Income Taxes regarding amounts potentially payable for uncertain tax positions.
Liquidity
Our ability to make scheduled payments on our indebtedness, including the notes, and to fund our operations will depend on our ability to generate cash in the future. Our historical financial results have been, and our future financial results are expected to be, subject to substantial fluctuations, and will depend upon general economic conditions and financial, competitive, legislative, regulatory and other factors that are beyond our control. We may not be able to maintain a level of cash flows from operating activities sufficient to permit us to pay the principal and interest on the notes or our other indebtedness.
If our cash flows and capital resources are insufficient to meet our indebtedness service obligations or fund our other liquidity needs, we may need to refinance all or a portion of our debt, seek additional equity capital, reduce or delay scheduled expansions and capital expenditures or sell material assets or operations. We may be unable to pay our indebtedness or refinance it on commercially reasonable terms, or at all, or to fund our liquidity needs. Any refinancing of any of our indebtedness could be at higher interest rates and may require us to comply with more onerous covenants, which could further restrict our business operations. The terms of existing or future debt instruments, including the indenture governing the notes, may limit or prevent us from taking any of these actions.
If for any reason we are unable to meet our debt service obligations under any of our debt, we would be in default under the terms of the agreements governing such outstanding indebtedness. If such a default were to occur, the lenders under such debt could elect to declare such amounts outstanding immediately due and payable, and in the case of the Working Capital Facility, the lenders would not be obligated to continue to advance funds under the Working Capital Facility. If the amounts outstanding under our debt were accelerated, it could cause an event of default under other indebtedness or allow other indebtedness to be accelerated. We cannot assure that our assets will be sufficient to repay in full the funds owed to the banks or to holders of notes if any indebtedness were accelerated.
We may from time to time repurchase or otherwise retire our debt or take other steps to reduce our debt or otherwise improve our balance sheet. These actions may include open market repurchases of any notes outstanding, prepayments of our term loans or other retirements or refinancing of outstanding debt. The amount of debt that may be repurchased or otherwise retired, if any, would be decided upon at the sole discretion of our Board of Directors and will depend on market conditions, trading levels of our debt from time to time, our cash position and other considerations.
Market Risk and Risk Management Policies
Our earnings and cash flows are subject to exposure to changes in the prices of certain commodities, particularly copper, brass and steel. Our earnings and cash flows are also impacted by fluctuations in foreign currency exchange rates as well as changes in the interest rates on our debt arrangements. Our Working Capital Facility related interest costs are subject to change with changes in LIBOR. See “Quantitative and Qualitative Disclosures About Market Risk” below for further discussion.
Effect of Inflation and Deflation; Seasonality
In an environment of increasing raw materials costs wherein we are increasing prices, we may not be able to increase prices quickly enough. Our agreements with customers require 60 to 90 days notice and various administrative procedures are necessary to implement the changes. To the extent we are unable to maintain our sales prices to our customers, or to react as quickly as the market may change, our profitability could be adversely affected. Conversely, in an environment of decreasing raw materials prices and recessionary economic pressures, competitive conditions can cause sales price discounting before we can recover the higher costs of previously purchased materials.
In an environment of increasing raw material prices, competitive conditions can affect how much of the price increases we can recover in the form of higher unit sales prices. To the extent we are unable to pass on any price increases to our customers, our profitability could be adversely affected. Furthermore, restrictions in the supply of cobalt, chromium and other raw materials could adversely affect our operating results. In addition, some of our customers rely heavily on raw materials, and to the extent there are fluctuations in prices, it could affect orders for our products and our financial performance. Our general operating expenses, such as salaries, employee benefits and facilities costs, are subject to normal inflationary pressures.
Our operations are generally subject to mild seasonal increases in the second and third calendar quarters and decreases in the fourth calendar quarter.
Critical Accounting Policies
Our consolidated financial statements are based on the selection and application of significant accounting policies, some of which require management to make estimates and assumptions. We review these estimates and assumptions periodically to assess their reasonableness. If necessary, these estimates and assumptions may be changed and updated. The Successor accounting entity formed on December 3, 2010 adopted accounting policies consistent with the Predecessor. We believe the following are the more critical judgmental areas in the application of our accounting policies that affect our financial condition and results of operations.
Accounts Receivable and Allowances
We maintain an allowance for doubtful accounts for estimated collection losses and adjustments. We estimate this allowance based on our knowledge and review of historical receivables, write-off trends and reserve trends, the financial condition of our customers and other pertinent information. If the financial condition of our customers deteriorates or an unfavorable trend in receivable collections is experienced in the future, additional allowances may be required.
Inventory
Inventories are a significant asset, representing 15% of total assets at December 31, 2013. They are valued at the lower of cost or market, with our U.S. subsidiaries using the last-in, first-out (LIFO) method, which represents 68% of consolidated inventories, and our international subsidiaries using the first-in, first-out (FIFO) method, which represents 32% of consolidated inventories.
We regularly apply judgment in valuing our inventories by assessing the net realizable value of our inventories based on current expected selling prices, as well as factors such as obsolescence and excess stock. We provide write-downs as judged necessary. If we do not achieve our expectations of the net realizable value of our inventory, future losses may occur.
Property, Plant and Equipment
Prior to the date of the Acquisition on December 3, 2010, property, plant and equipment were carried at historical cost and depreciated using the straight-line method. At December 3, 2010, property, plant and equipment were adjusted to fair value based on the premise of continued use. Management, with assistance from an asset appraisal firm, estimated the fair value of equipment by determining new reproduction cost, utilizing the historical original cost of each equipment asset and adjusting cost to such date using industry trend factors and consumer price indices. Once new reproduction cost was established, considerations were made for depreciation, which reflected the estimated economic life of the asset, remaining economic useful life and used equipment trends. The average estimated lives utilized in calculating depreciation are as follows: buildings-25 years, and machinery and equipment-3 to 10 years. Property, plant and equipment recorded under capital leases are depreciated based on the lesser of the lease term or the underlying asset’s useful life. Impairment losses are recorded on long-lived assets when events and circumstances indicate the assets might be impaired and the undiscounted cash flows estimated to be generated by those assets are less than their carrying amounts. Land was valued based on comparable sales.
Intangible Assets
Goodwill and trademarks have indefinite lives, with the exception of trademarks obtained in the 2013 and 2012 acquisitions of Gas-Arc and Robotronic Oy, respectively. Other intangibles assets are amortized on a straight-line basis over their estimated useful lives, which range from 3 to 20 years. See Note 7 - Intangible Assets.
For acquisitions, goodwill is calculated as of the date of the acquisition, measured as the excess of the consideration transferred over the fair value of the net identifiable assets (including intangible assets) acquired and the liabilities assumed.
Goodwill and trademarks are tested for impairment annually, as of December 1st, or more frequently if events occur or circumstances change that would, more likely than not, reduce the fair value of the reporting unit below its carrying value. The impairment analysis is performed on a consolidated enterprise level based on one reporting unit. The Company has determined that no impairment of goodwill or trademarks existed at December 1, 2013.
Unforeseen events and changes in circumstances and market conditions, including general economic and competitive conditions, could cause actual results to vary significantly from management’s estimates.
Revenue Recognition
We sell a majority of our products through distributors with standard terms of sale of FOB shipping point or FOB destination. Under all circumstances, revenue is recognized when persuasive evidence of an arrangement exists, the seller’s price is fixed and determinable, and collectability is reasonably assured.
We sponsor a number of annual incentive programs to augment distributor sales efforts including certain rebate programs and sales and market share growth incentive programs. Rebate programs established by the Company are communicated to distributors at the beginning of the year and are earned by qualifying distributors based on increases in purchases of identified product categories and based on relative market share of the Company’s products in the distributor’s service area. We accrue the estimated costs throughout the year and the costs associated with these sales programs are recorded as a reduction of revenue. Rebates are paid periodically during the year.
Terms of sale generally include 30-day payment terms, return provisions and standard warranties for which reserves, based upon estimated warranty liabilities from historical experience, are recorded. For a product that is returned due to issues outside the scope of the Company’s warranty agreements, restocking charges will generally be assessed.
Research and Development Costs
Research and development is conducted in connection with new product development with costs of approximately $4.5 million and $4.6 million in 2013 and 2012, respectively. The costs relate to materials used in the development process and allocated engineering personnel costs and are reflected in SG&A expenses as incurred.
Income Taxes
We establish provisions for taxes to take into account the effects of timing differences between financial and tax reporting. These differences relate primarily to the excess of the Acquisition accounting valuation over the tax basis of our primary operating subsidiary, net operating loss carryforwards, fixed assets, intangible assets and post-employment benefits.
We record a valuation allowance when, in our assessment, it is more likely than not that a portion or all of our deferred tax assets will not be realized. In making this assessment we consider the scheduled reversal of deferred tax liabilities, tax planning strategies and projected future taxable income. At December 31, 2013, a valuation allowance has been recorded against a portion of our deferred tax assets which consist primarily of U.S. net operating loss carryovers. The amount of the deferred tax assets considered realizable could change in the future if our assessment of future taxable income or tax planning strategies changes.
A substantial portion of the earnings of our foreign subsidiaries are included in our U.S. income tax return under I.R.C. Section 956. This requires the earnings of a foreign subsidiary which guarantees the borrowings of its U.S. parent to be included in U.S. income. Upon actual distribution of those earnings previously taxed under I.R.C. Section 956, we are not subject to U.S. income taxes but may be subject to withholding taxes payable in the foreign jurisdiction. See Note 14 - Income Taxes to the consolidated financial statements.
For the undistributed earnings of non-U.S. subsidiaries not subject to I.R.C. Section 956, no provision is made for U.S. income taxes. These earnings are permanently invested or otherwise indefinitely retained for continuing international operations. Determination of the amount of taxes that might be paid on these undistributed earnings is not practicable.
As of December 31, 2013, we had U. S. federal net operating loss carryforwards of approximately $95.5 million from the years 2003 through 2010 available to offset future federal taxable income. Similarly, we had state net operating loss carryforwards to offset state taxable income in varying amounts. While such net operating loss carryforwards are subject to expiration and limitations as discussed under “Risk Factors-Risks Relating to Our Business-, future change of control transactions or other transactions could further limit our use of net operating loss carryforwards," we currently expect to utilize net operating loss carryforwards to offset a substantial portion of our federal and state taxable income over the next few years.
We are periodically audited by U.S. and foreign tax authorities regarding the amount of taxes due. In evaluating issues raised in such audits, reserves are provided for exposures as appropriate. To the extent we were to prevail in matters for which accruals have been established or be required to pay amounts in excess of reserves, the effective tax rate in a given financial statement period may be impacted.
Factors That May Affect Future Results
For a discussion of factors that may affect future results see the “Risk Factors” section.
Recently Issued Accounting Standards
In July 2013, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2013-11, "Income Taxes (Topic 740)" ("ASU 2013-11"). ASU 2013-11 is intended to clarify the presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. An unrecognized tax benefit, or a portion of an unrecognized tax benefit, should be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward, except in certain circumstances. To the extent a carryforward is not available at the reporting date or the tax law of the applicable jurisdiction does not require the entity to use, and the entity does not intend to use, the deferred tax asset for such purpose, the unrecognized tax benefit should be presented in the financial statements as a liability. ASU No. 2013-11 is effective prospectively to all unrecognized tax benefits that exists at the effective date for fiscal years beginning after December 15, 2013, with early adoption permitted. The adoption of ASU 2013-11 is not expected to have a material impact on the Company's consolidated financial statements.
In February 2013, the FASB issued ASU No. 2013-02, "Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income." ASU 2013-02 requires an entity to disclose either on the face of or in the notes to the financial statements the effects of reclassifications out of accumulated other comprehensive income ("AOCI"). For items reclassified out of AOCI and into net income in their entirety, an entity must disclose the effect of the reclassification on each affected net income item. For items that are not reclassified in their entirety into net income, an entity must provide a cross reference to the required U.S. GAAP disclosures. This ASU does not change the items currently reported in other comprehensive income and is effective for annual periods beginning after December 15, 2012 and interim periods within those years. The adoption of these provisions does not impact the Company's financial condition or results of operations.
The Company has determined that all other recently issued accounting pronouncements will not have a material impact on its consolidated financial position, results of operations and cash flows, or do not apply to its operations.
Item 7A.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Our primary financial market risks relate to fluctuations in commodity prices, currency exchange rates and interest rates.
Copper, brass and steel constitute a significant portion of our raw material costs. These commodities are subject to price fluctuations which we may not be able to recover and maintain historical margins depending upon competitive pricing conditions at the time.
When feasible, we attempt to establish fixed price purchase commitments with suppliers to provide stability in our materials component costs for periods of three to six months. We have not experienced and do not anticipate constraints on the availability of these commodities.
Approximately 72% of total net sales are denominated in U.S. dollars. The balance of the remaining sales are conducted in foreign currencies consisting primarily of Australian dollars and Euros. Our exposure to foreign currency transactions is partially mitigated through our manufacturing locations in Australia, Italy and Malaysia for sales into those regions. However, we recently sold our manufacturing facility in Australia and discontinued the operations. Additionally, we enter into forward foreign exchange rate contracts with two major commercial banks as counterparties for periods extending from four to six months principally to offset a portion of the currency fluctuations in transactions denominated in the Australian Dollar and the Euro. We also engage in forward foreign exchange rate contracts with respect to the Mexican Peso to limit foreign exchange risks relative to our Mexican manufacturing costs. However, our financial results could still be significantly affected by changes in foreign currency exchange rates in the international markets. We are most susceptible to a strengthening U.S. dollar, which would have a negative effect on our export sales and a negative effect on the translation of local currency financial statements into U.S. dollars, our reporting currency.
We are exposed to changes in interest rates through our Working Capital Facility, which has LIBOR based variable interest rates. At December 31, 2013, borrowings outstanding under this Facility were $22.3 million. A hypothetical 100 basis point change in LIBOR would result in a change in interest expense of approximately $10 thousand annually for each $1 million of outstanding indebtedness under the Facility.
Item 8.
Item 8. Financial Statements and Supplementary Data
The financial statements that are filed as part of this Annual Report on Form 10-K are set forth in the Index to Consolidated Financial Statements in Item 15 of this Report.
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A.
Item 9A. Controls and Procedures
(a) Evaluation of Disclosure Controls and Procedures
The Company's management maintains disclosure controls and procedures that are designed to provide reasonable assurances that information required to be disclosed in the reports we file or submit, or otherwise would be required to file or submit, under the Securities Exchange Act of 1934 (the “Exchange Act”) is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms. These controls and procedures are also designed to ensure that such information is accumulated and communicated to our management, including our principal executive and principal financial officer, or persons performing similar functions as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating disclosure controls and procedures, we have recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objective. Management is required to apply judgment in evaluating its controls and procedures.
Under the supervision of and with the participation of management, including the Chief Executive Officer and the Chief Financial Officer, the Company conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures, as such term is defined in Rules 13a-15(e) and 15d-15(e) of the Exchange Act, as of December 31, 2013. Based on this evaluation, the Chief Executive Officer and the Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective as of December 31, 2013.
(b) Management’s Assessment of Internal Control Over Financial Reporting
The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). Under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and the Chief Financial Officer, the Company conducted an evaluation of the effectiveness of internal control over financial reporting as of December 31, 2013 based on the 1992 Framework in “Internal Control - Integrated Framework” issued by the Committee of Sponsoring Organizations of the Treadway Commission ("COSO"). Based on the Company’s evaluation under such framework, management concluded that the Company’s internal control over financial reporting was effective as of December 31, 2013.
This Annual Report on Form 10-K does not include an attestation report of our registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by our registered public accounting firm
pursuant to rules of the Securities and Exchange Commission that permit us to provide only management’s report in this Annual Report on Form 10-K.
(c) Changes in Internal Control Over Financial Reporting
There have been no changes in the Company’s internal control over financial reporting that occurred during the fourth quarter of 2013 that materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
Item 9B.
Item 9B. Other Information
None.
PART III
Item 10.
Item 10. Directors, Executive Officers and Corporate Governance
Executive Officers and Directors
The following table sets forth information with respect to the individuals who are currently serving as the members of our Board of Directors (the “Board of Directors” or the “Board”) as well as information relating to our executive officers:
Name
Age
Position(s)
Michael A. McLain
Chairman and Director
Martin Quinn
Chief Executive Officer and Director
Jeffrey S. Kulka
Executive Vice President and Chief Financial Officer
Terry A. Moody
Executive Vice President - Global Operations
Jeff J. Ertel
Executive Vice President - Human Resources
E. Lee Qualls
Executive Vice President and Chief Marketing Officer
Nick H. Varsam
Senior Vice President, General Counsel and Corporate Secretary
James O. Egan
Director
Douglas R. Korn
Director
Eric K. Schwalm
Director
Set forth below is biographical information regarding our directors and executive officers:
Michael A. McLain became a director and Chairman of the Board immediately upon completion of the Merger on December 3, 2010. In March 2012, Mr. McLain was appointed as a Senior Advisor for IPC’s industrial practice. He has been an advisor to IPC since October 2008 and has had extensive experience working with private equity-backed companies. Mr. McLain was formerly President, Chief Executive Officer and Director of Aearo Technologies Inc., a leading industrial and consumer safety company, from 1998 through April 2008 when Aearo was purchased by 3M Corporation. IPC was the primary shareholder of Aearo Technologies from 2004 to 2006. Prior to this he served as President and Chief Executive Officer of DowBrands, Inc., a large manufacturer of household consumer products that was sold to S. C. Johnson and Son, Inc. in 1998. He is currently a Chairman of Chromalox, Inc. and a Director of PlayCore Holdings, Inc., which are IPC portfolio companies, as well as Timex Corporation. Mr. McLain’s extensive experience in the industrial products and consumer products industries, together with his previous experience with IPC portfolio companies, make him a valuable member of the Board of Directors in providing strategic and operational counsel to management as well as critical guidance on working collaboratively with our principal stockholder to grow the value of our business and enhance our products’ brand strength and technologies.
Martin Quinn has been with us for over 29 years, since joining a predecessor company in 1984. He was appointed President in August 2009, Chief Executive Officer in April 2011 and became one of our directors immediately upon completion of the Merger on December 3, 2010. From April 2005 to August 2009, he served as our Executive Vice President of Global Sales. From 1999 to March 2005, Mr. Quinn served as Vice President Marketing and Sales-Asia Pacific. Prior to that, he was Managing Director-Asia. He was previously employed by Newsteel Pty. Ltd and Readymix Concrete Pty Ltd. He currently serves on the finance committee of the American Welding Society. Mr. Quinn’s in-depth knowledge of all elements of our business, developed over his more than 29 years’ experience in every aspect of managing the Company, from running manufacturing facilities to building businesses from scratch in Asia, and leadership of the Company bring the knowledge and successful hands-on experience critical to helping the Board of Directors establish and oversee the execution of the Company’s strategic business plans and priorities.
Jeffrey S. Kulka joined us in October 2011 as Executive Vice President and Chief Financial Officer. Mr. Kulka most recently served as Senior Vice President and Chief Financial Officer of Harlan Laboratories, Inc., a private equity backed, $400 million global provider of preclinical research tools and services to the pharmaceutical, biotechnology, agrochemical, industrial chemical and food industries. Prior to joining Harlan in 2009, Mr. Kulka served as Senior Vice President, Chief Financial Officer and Treasurer of Aearo Technologies Inc., until it was acquired by 3M in 2008. Prior to joining Aearo, Mr. Kulka spent 10 years with Augat Inc., a global designer and manufacturer of electromechanical components for the electronics industry, in a variety of assignments in domestic and international settings.
Terry A. Moody joined us in July 2007 as Executive Vice President - Global Operations. He was formerly employed for over two years by Videocon Industries, a privately held manufacturer of high end digital products, where he served as the Chief Operating Officer and Senior Vice President of Americas and Europe. Prior to Videocon, he was employed for 11 years with Thomson S.A., the French consumer electronics company, where he served the last three years of his employment as General Manager and Vice
President of Americas Displays. Prior to Thomson, Mr. Moody spent 10 years with N.V. Philips in their consumer electronics division where he completed many domestic and international program assignments.
Jeff Ertel joined us in August 2012 as Executive Vice President - Human Resources. During 2011 and 2012, Mr. Ertel was Vice President Human Resources for Treasury Winery Estates, a $2 billion global winery, overseeing human resources in the Americas. From 1998 until 2011, Mr. Ertel served as Vice President of Human Resources of Nestlé USA, where, as the leader of human resources for Nestle USA's largest division, he established organization development and human capital strategies, was part of multiple acquisition integrations, and managed internal communications. Prior to his promotion to that position, over a 10-year period he held multiple roles in marketing, sales and purchasing for Nestlé. Prior to Nestlé, Mr. Ertel was in sales at Gallo Wines and Hershey Chocolate.
E. Lee Qualls joined us as Executive Vice President and Chief Marketing Officer in July 2012. From July 2007 to April 2012, Mr. Qualls was with Exide Technologies, one of the world's largest producers and recyclers of lead-acid batteries with operations in more than 80 countries. In his most recent position with Exide, he served as Vice President of Marketing and Application Engineering for Exide's transportation and industrial businesses in the Americas. Prior to joining Exide Technologies, he served as Vice President of Global Brand Strategy for Shell Lubricants. He began his marketing career in consumer products with The Coca-Cola Company where he held positions of increasing responsibility domestically and internationally.
Nick H. Varsam joined us in July 2009 as Vice President, General Counsel and Corporate Secretary and became Senior Vice President in April 2013. Prior to joining the Company, he was an attorney specializing in securities transactions and compliance, mergers and acquisitions, and corporate governance for over 20 years. He was a partner with the St. Louis-based law firms Armstrong Teasdale LLP from January 2007 to February 2009 and Blackwell Sanders LLP from July 2006 to December 2006. From 2001 to 2005, he was Vice President, General Counsel and Secretary of Huttig Building Products, Inc., a publicly traded distributor of residential building products. Prior to joining Huttig, he was a partner with the law firm Bryan Cave LLP.
James O. Egan was appointed to our Board of Directors and as Chairman of our Audit Committee in March 2011. Mr. Egan served as a Managing Director of Investcorp International, Inc., an alternative asset management firm specializing in private equity, hedge fund offerings and real estate and technology investments, from 1998 through 2008. Mr. Egan was the partner-in-charge, M&A Practice, U.S. Northeast Region for KPMG LLP from 1997 to 1998 and served as the Senior Vice President and Chief Financial Officer of Riverwood International, Inc. from 1996 to 1997. Mr. Egan began his career with PricewaterhouseCoopers (formerly Coopers & Lybrand) in 1971 and served as partner from 1982 to 1996 and a member of the Board of Partners from 1995 to 1996. He currently serves as a director of PHH Corporation, where he is non-executive chairman of the board and member of the compensation committee, and New York & Company, Inc., where he serves as chairman of the audit committee. Mr. Egan’s more than 40 years of business experience across numerous industries and public and private companies, including 25 years of public accounting experience and 10 years of private equity experience and service on the Board of Directors and board committees of other public and private companies, bring to the Board of Directors a wide range of strategic, operational, financial and governance qualifications and skills to contribute as a director.
Douglas R. Korn became one of our directors immediately upon completion of the Merger on December 3, 2010. Mr. Korn is a Senior Managing Director of IPC, a position he has held since 2008. His areas of investment focus include general industrial businesses and consumer products. From 1999 to 2008, he was a Senior Managing Director of Bear, Stearns & Co. Inc. and a Partner and Executive Vice President of Bear Stearns Merchant Banking, an affiliate of Bear, Stearns & Co. Inc. and the predecessor to IPC. Prior to joining Bear Stearns in January 1999, he was a Managing Director of Eos Partners, L.P., an investment partnership. He has previously worked in private equity with Blackstone Group and in investment banking with Morgan Stanley. He currently serves on the Board of Directors of Chromalox, Inc., CH4 Energy II, LLC and Ironshore, Inc. and is Chairman of the Board of Directors of PlayCore Holdings, Inc., all of which companies are privately held. As a result of these roles and other professional experiences, Mr. Korn possesses particular knowledge and experience in business strategy and corporate oversight, finance and capital structure and design and oversight of management compensation plans, each of which strengthens the Board’s collective qualifications, skills and experience.
Eric K. Schwalm was appointed to our Board of Directors in May 2011. Mr. Schwalm is Vice President and a director and partner of Bain & Company. He joined Bain in 1987 and was promoted to partner in 1993. Mr. Schwalm leads the North American Industrial Practice Group and is an active member of the Consumer Products and Organizational Effectiveness Practice Groups of Bain. Prior to joining Bain, Mr. Schwalm worked in business planning for Ford Motor Company and at Dravo Engineering Company. Mr. Schwalm brings to the Board many years of experience in the development of global industrial end markets and product platforms, and with global organizational development and management systems, which enhances the Board’s strategic oversight capabilities and effectiveness.
The Board of Directors and Committees of the Board
Our Board of Directors is composed of five directors. Each director serves for an annual term and until his successor is elected and qualified. As a result of Irving Place Capital’s control of our parent company, Irving Place Capital has the ability to designate all of our directors and to remove any or all of our directors that it appoints.
Although not formally considered by our Board because our securities are not registered or traded on any national securities exchange, we believe that two of our directors, Mr. Egan and Mr. Schwalm, would be considered “independent” for either Board or Audit or Compensation Committee purposes based upon the listing standards of NASDAQ, the exchange on which our common stock was listed prior to the Merger. We believe our other three directors would not be considered independent because of their relationships with affiliates of Irving Place Capital, which hold 84.1% of the outstanding common stock on a fully diluted basis of Holdings, and employment and other relationships with us, all as described more fully under Item 13 (“Certain Relationships and Related Party Transactions”) of this Annual Report on Form 10-K. Our Board has considered that there are no transactions, relationships or arrangements between the Company and Mr. Egan or Mr. Schwalm and affirmatively determined that Mr. Egan meets the heightened criteria for independence applicable to members of audit committees under SEC rules and NASDAQ listing standards.
Since April 25, 2012, when a former director of the Company and member of the Audit Committee resigned, Mr. Egan has served as the sole member and Chairman of the Audit Committee. The Board of Directors has determined that Mr. Egan qualifies as an “audit committee financial expert” as defined under SEC rules. We also have a Compensation Committee whose sole member and Chairman is Douglas R. Korn. We do not have a Nominating and Corporate Governance Committee. Mr. Korn, along with Michael A. McLain and Martin Quinn, are not considered independent.
Code of Ethics
The Company has adopted a code of ethics applicable to certain members of Company management, including its principal executive officer, principal financial officer, principal accounting officer and controller, or persons performing similar functions. The code of ethics is available on the Company’s website at www.victortechnologies.com. The Company will provide to any person without charge, upon request, a copy of the code of ethics. A request for the code of ethics should be made by writing to the Company’s Secretary, c/o Victor Technologies Group, Inc., 16052 Swingley Ridge Road, Suite 300, Chesterfield, Missouri 63017. The Company intends to satisfy the disclosure requirement under Item 5.05 of Form 8-K regarding the amendment to, or a waiver from, a provision of this code of ethics by posting such information on its website at www.victortechnologies.com.
Audit Committee Report
The information contained in this report shall not be deemed to be “soliciting material” or to be “filed” with the SEC, nor shall such information be incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, except to the extent that we specifically incorporate it by reference in such filing.
Management is responsible for internal control over financial reporting, the financial reporting process and compliance with laws and regulations. Our independent registered public accounting firm is responsible for performing an independent audit of our consolidated financial statements in accordance with standards of the Public Company Accounting Oversight Board (United States) and issuing reports thereon. The Audit Committee’s responsibility is to monitor and oversee this process. Each fiscal year, the Audit Committee devotes the attention it deems necessary and appropriate to each of the matters assigned to it under its charter. The Audit Committee’s duties and responsibilities do not include conducting audits or accounting reviews. Therefore, the Audit Committee has relied on management’s representation that the financial statements have been prepared with integrity and objectivity and in conformity with accounting principles generally accepted in the United States and on the representations of the independent registered public accountants, which are included in its report on the consolidated financial statements. The Audit Committee’s oversight does not provide it with an independent basis to determine that management has maintained appropriate accounting and financial reporting principles or policies, or appropriate internal controls and procedures designed to assure compliance with accounting standards and applicable laws and regulations.
In connection with the preparation of the Company’s consolidated financial statements for the year ended December 31, 2013, the Audit Committee:
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Reviewed and discussed the Company’s audited consolidated financial statements with management;
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Discussed with the Company’s independent registered public accounting firm, KPMG LLP, the matters required to be discussed by Statement on Auditing Standards (“SAS”) No. 61, as amended (AICPA, Professional Standards, Vol. 1. AU section 380), as adopted by the Public Company Accounting Oversight Board in Rule 3200T; and
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Received the written disclosures and the letter from KPMG LLP required by the applicable requirements of the Public Company Accounting Oversight Board regarding KPMG LLP’s communications with the Audit Committee concerning independence, and has discussed with KPMG LLP their independence.
Based upon these reviews and discussions, the Audit Committee recommended to the Board of Directors that the Company’s audited consolidated financial statements be included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013, for filing with the Securities and Exchange Commission.
Audit Committee of the Board of Directors
James O. Egan (Chair and Sole Member)
Item 11.
Item 11. Executive Compensation
Compensation Discussion and Analysis
Introduction
The following Compensation Discussion and Analysis describes our executive compensation program for 2013 and, where we indicate specifically, certain elements of our 2014 program. The Compensation Committee of the Board of Directors, which for purposes of this discussion we refer to as the “Committee,” is responsible for administering, establishing and recommending to the Board of Directors the total compensation package of the named executive officers. Our “named executive officers” for 2013 include Messrs. Quinn, Kulka, Moody, Ertel and Qualls.
Philosophy and Goals of Executive Compensation Program
We recognize that our ability to grow profitably and exceed our customers’ expectations depends on the integrity, knowledge, skill, creativity and work ethic of our employees, and these are core values on which we place the highest value. To that end, we strive to create a work environment that rewards results and commitment, provides meaningful work and advancement opportunities to our employees, and takes into account the changing demands and challenges that our employees face during uncertain economic times.
The primary purposes of the total compensation package we provide to our named executive officers are (i) to attract, retain and motivate highly talented individuals to achieve business success without compromising our core values in a highly competitive marketplace and (ii) to establish a strong link between pay and performance at both the Company and the individual level. Particularly during a time of economic challenges, we believe that hiring and retaining executives with the skill and knowledge necessary to meet the demands that we face is especially important. Because such talent is critical to our future, we must be competitive in attracting and retaining our key executives. As a private company, our compensation decisions with respect to our named executive officers are also based on the goal of achieving performance at levels necessary to provide meaningful returns to the primary stockholder of our parent, Victor Technologies Holdings, Inc. ("Holdings").
The Committee believes our executive compensation program is designed to provide competitive opportunities to our executives, as well as motivate them to achieve the performance goals that our Board of Directors establishes as part of our annual business plan and the strategic initiatives under our long-term strategic plan. We strive to align our compensation program with our business and strategic plans so that we may accomplish the following additional objectives:
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support our position as an industry leader in the cutting, gas control and specialty welding industry;
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motivate and inspire employee behavior that creates a culture of top performance and exceeding customer expectations;
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achieve our operational and strategic business initiatives; and
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increase stockholder value.
With these goals in mind, we measure the success of our compensation program by:
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the Company’s overall business performance, including whether we achieve or surpass our business performance goals;
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the level of active engagement and initiative of our employees;
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the retention and, as the circumstances merit, addition of key employees who are best positioned to help us achieve our business success; and
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our ability to generate greater rewards commensurate with greater individual contributions toward both short-term and long-term performance.
Elements of Executive Compensation Program
For 2013, the key elements are base salary, annual cash incentive awards and one-time grants of options to purchase common stock of our parent company, Victor Technologies Holdings, Inc.
Compensation Element
Key Features
Base salary
Rewards short-term performance by providing fixed amount of compensation for performance of day-to-day executive responsibilities commensurate with level of experience and respective executive position; set at a level that is competitive with external opportunities - but not necessarily based on market or peer group benchmarks or midpoints - and adjusted based on consideration of individual performance, internal pay equity, changes in the executives' role or the nature and scope of his or her responsibilities, and approved increases in compensation across the organization as contemplated in the Company's annual business plan.
Annual cash incentive award
Rewards short-term performance by providing short-term, incentive-based cash payment for achieving financial targets and other business objectives established at start of each year.
Long-term incentive award
Designed to reward long-term performance, build executive stock ownership and retain executives. Long-term incentives are designed primarily as one-time grants of stock options that vest over time and have increasing exercise prices to incentivize employees to increase stockholder value.
Other compensation
Perquisites and matching contributions to the 401(k) plan.
We have designed our executive compensation program and practices so as not to encourage unnecessary or excessive risk-taking. Specifically, we believe that our executive compensation program reflects an appropriate mix of compensation elements and carefully balances current and long-term performance objectives, cash and equity compensation, and risks and rewards associated with executive responsibilities. The following features of our incentive-based compensation program illustrate this point:
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our performance goals and objectives and their associated performance periods reflect a balanced mix of performance measures designed to avoid excessive weight on a certain goal or performance measure or incentives for excessive risk taking;
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our annual incentives provide a defined range of payout opportunities based on percentages of target payouts and do not rely on a single performance metric;
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equity incentive awards are granted in the form of stock options, primarily as one-time grants and in certain limited circumstances, such as a significant increase in responsibilities, as additional compensation with escalating exercise prices and five-year vesting terms, which means that executives have continuing incentives to increase stockholder value and that their awards could decrease significantly in value if our business is not managed successfully for the long term; and
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the Committee retains discretion to adjust compensation based on the quality of Company and individual performance, execution of the Company’s strategic initiatives and adherence to the Company’s Code of Conduct, Code of Ethics and other key policies, among other considerations.
Based on the above combination of program features, we believe that our incentive-based compensation motivates our executives to manage the Company in a manner that does not involve taking risks that are inconsistent with the Company’s best interests.
Base Salary
The base salary for each named executive officer is intended to reflect the external market value of his particular position and responsibilities, adjusted as appropriate to reflect his individual experience, qualifications and contributions, our economic and business environment, and the level of base salary as a percentage of total target and actual compensation. In the past, the Committee generally targeted base salaries at the median base salary level (50th percentile) of the market data it obtained with the assistance of an executive compensation consultant. However, in 2013, 2012 and 2011, the Committee did not believe it was appropriate to establish compensation levels solely or primarily based on benchmarking and instead placed greater emphasis on other factors, particularly the Company’s annual budget and long-term business projections and the CEO’s recommendations (except with respect to the CEO’s own base salary), in determining base salary adjustments. The CEO did not have the authority to determine the other named executive officers’ compensation. However, the Committee gave significant weight to his recommendations, along with the other factors mentioned above, to assist in determining the compensation of the named executive officers, other than the CEO. The CEO’s base salary and other elements of compensation were subject to a separate evaluation and decision by the Board of Directors.
Annual Cash Incentive Awards
The Committee believes that, to meet the objectives of the executive compensation program, a significant portion of the total compensation of the named executive officers should be tied to the achievement of established performance goals for the Company and the individual officer. The Committee uses annual cash incentive awards as a component of compensation to encourage effective performance relative to the Company’s annual business plan priorities and to the overall financial performance of the Company.
The annual performance-based incentive compensation component is offered through the Annual Incentive Plan, in which most salaried employees, including the named executive officers, are eligible to participate. The plan provides our executive officers and other salaried employees an opportunity to earn annual cash awards based on the Company’s financial performance and the employees’ achievement of individual goals. Our named executive officers can earn incentive awards that are based on a percentage of base salary, with the percentage for each officer set at a level the Committee has determined is consistent with his level of accountability and impact on the Company’s operations and with the officer’s employment agreement. At the beginning of each year and after the Board of Directors has approved the Company's annual budget, the Committee establishes the levels of awards and the associated performance goals under the plan. During the first quarter of the following year, the Committee determines whether the goals were met for the recently completed fiscal year, and approves or recommends to the Board for approval the annual incentive awards for the performance year.
For purposes of determining bonus pool funding and allocation of bonus pool funds under the Annual Incentive Plan, in 2013, 2012 and 2011, the Committee established minimum, target and maximum levels of Adjusted EBITDA, based in part on the budget approved by the Board of Directors for the respective year and also on recommendations of the CEO. The Committee believes that Adjusted EBITDA represents an effective and appropriate measure of the Company’s operational and financial performance that best aligns with the Company’s annual budget and long-term strategy and offers an effective, understandable incentive for employees under the plan. “Adjusted EBITDA” is defined as net income (loss) plus interest, net, income tax provision (benefit) and depreciation and amortization, further adjusted to eliminate the expense (income) of certain other noteworthy events that we do not consider to relate to the operating performance of the period presented. These adjustments include, but are not limited to, LIFO adjustments, restructuring and other severance expenses, management fees paid to our sponsor, non-cash stock compensation expense, one-time expenses associated with the Company's name change, due diligence costs related to acquisitions, idle facilities costs in conjunction with restructuring activities, a reserve taken in connection with non-recurring litigation matters, and adjustments designed to present the actual financial performance on a constant currency basis with that of the annual performance target.
EBITDA and Adjusted EBITDA as used for purposes of the Annual Incentive Plan are not necessarily the same as "EBITDA" or "Adjusted EBITDA" as reported in our public disclosures of financial results. All of such measures (together, our “EBITDA Measures”) are supplemental measures of our performance that are not required by, or presented in accordance with, generally accepted accounting principles in the United States (“GAAP”). They are not measurements of our financial performance under GAAP and should not be considered as alternatives to net income, income from continuing operations or any other performance measures derived in accordance with GAAP or as alternatives to cash flow from operating activities as measures of our liquidity. While our EBITDA Measures may not be comparable to similarly titled measures of other companies, these measures are frequently used by securities analysts, investors and other interested parties as measures of financial performance and to compare our performance with the performance of other companies that report EBITDA and Adjusted EBITDA. Adjusted EBITDA, as defined for purposes of the Annual Incentive Plan, reflects management measurements, which focus on operating spending levels and efficiencies; and focus less on non-cash and certain periodic noteworthy items. For these reasons, the Committee believes that Adjusted EBITDA is a measure of our financial performance that more effectively incentivizes our employees for purposes of our annual incentive compensation program.
Historically, there have been no material differences in the Company’s annual incentive award goals among the individual named executive officers. Each named executive officer, along with all other members of our management team, had predetermined annual incentive plan target bonuses and was eligible for a target bonus opportunity based on a percentage of the officer’s base salary. As in prior years, the Board of Directors, with input from the Committee, determined that the level of achievement of the target bonus opportunities for all of the named executive officers in 2013 would be based on the same critical business performance goals, in addition to the Adjusted EBITDA targets, established in connection with the annual business plan for 2013. See “- Executive Compensation for 2012 - Annual Cash Incentive Awards - Decisions and Analysis.”
Long-Term Incentive Awards
In December 2010, Holdings adopted its 2010 Equity Incentive Plan and granted to the named executive officers, along with other key management employees, options (subject to certain vesting requirements) to purchase shares of Holdings common stock on terms and conditions as further set forth in their option award agreements and the 2010 Equity Incentive Plan. See “- Holdings 2010 Equity Incentive Plan” below. In 2012 and 2011, with respect to certain officers, the Board of Directors of Holdings, whose sole asset is 100% of the outstanding capital stock of the Company, granted each of the named executive officers, along with other key management employees, options to purchase shares of common stock as long-term incentive awards and offered each of these
employees the opportunity to invest in the equity of Holdings to align their interests with Holdings’ stockholders. We currently consider these primarily as one-time option grants. There are no current plans for approving long-term equity grants to our named executive officers or other employees on an annual basis. See “- Long-Term Incentive Awards.”
Other Compensation
Perquisites. Historically, we have provided limited perquisites to our named executive officers. During 2013, the only perquisites we provided to named executive officers was a car allowance in the amount of $6,000 for Mr. Quinn.
Company Contributions to 401(k) Plan. Substantially all of our U.S. employees are eligible to participate in the Victor Technologies 401(k) Retirement Plan (the “401(k) Plan”), and we consider this to be a basic benefit. In the past, the Company has made discretionary cash contributions to the 401(k) Plan matching a percentage of the participating employee’s eligible compensation. Matching contributions are subject to service-based vesting requirements. In 2013, the Company provided a matching contribution of 50% of the employee’s contribution (not to exceed 3.0% of eligible compensation).
Key Considerations and Process in Reaching Executive Compensation Decisions
With the objectives and goals referenced above in mind, the Committee considered a number of factors and followed certain processes and policies when determining the key elements of executive compensation each year, as we discuss below.
Analytic Tools and Other Compensation-Related Factors
Use of Market Survey and Peer Group Data. When making compensation decisions, the Committee also considered the compensation of our chief executive officer and the other named executive officers relative to the compensation paid to similarly situated executives at companies that we considered a representative peer group. The Committee was aware of the potential flaws and biases of benchmarking and the use of survey data as an analytic tool in setting compensation for our named executive officers. However, while the Committee did not establish compensation levels solely or primarily based on benchmarking, it believed that information regarding pay practices and levels of compensation at other comparable companies was useful in two respects. First, it recognized that our total compensation package must be competitive in the marketplace to attract and retain our executive officers. Second, it considered this information a useful point of reference to assess the reasonableness of our compensation programs and decisions.
In 2013, the Committee did not retain an external compensation consultant to assist with the executive compensation program and, except in connection with the appointment of Mr. Quinn as the chief executive officer in April 2011, did not obtain or consider data from any group of companies comprising a representative “peer group.”
Internal Equity. Internal equity deals with the perceived worth of a job relative to other jobs within the Company. For the purpose of determining base salaries, the Company has placed a “worth” or “value” on jobs in relation to other jobs through a series of numeric grades that have been created within the Company. The CEO has a target bonus opportunity, as a percentage of his base salary, of 60%, as specified in his employment agreement. The other named executive officers have a title of executive vice president and, for 2013, had a target bonus opportunity of 40% of base salary.
Compensation Planning Work Sheets. In 2013, the Committee did not use compensation planning work sheets, or “tally sheets,” to assist in the evaluation of the compensation of the named executive officers.
Equity Grant Practices. The Committee does not permit backdating or re-pricing of stock options. Grant dates and exercise prices historically were set either on the date the Committee approved the awards or at a future date, e.g., the end of the quarter during which the grants were approved, as determined by the Committee or the Chief Executive Officer with authority that the Committee or the Board delegated to him. The Committee does not time its equity grants in coordination with the release of material nonpublic information.
Employment Agreements. Each of the named executive officers has an employment agreement with the Company pursuant to which his initial base salary was established. The Committee reviews the base salary of all named executive officers at least once a year to determine if an increase or decrease is warranted. These agreements also contain certain other compensation-related provisions, including bonus opportunities expressed as a percentage of their base salaries, payments in the event of certain types of termination of employment, and other benefits. The Committee believes that these agreements encourage the continued attention and dedication of the named executive officers to the Company and motivate them to make decisions and provide insights as to the best interests of the Company and its stockholders without the distractions, uncertainties and risks created by the possible termination of their employment as a result of a change in control or without cause. A description of the material terms of each of these employment agreements, including amendments to certain of these agreements, appear in the section “- Employment Agreements” below.
Accounting and Tax Treatment. The Committee considers the impact of accounting and tax treatment of various forms of compensation, including but not limited to such factors as: (i) the associated compensation expense relating to the grants of long-term equity incentive awards determined in accordance with Financial Accounting Standards Board Accounting Standards Codification Topic 718, Compensation - Stock Compensation (ASC Topic 718); (ii) the applicability of the requirements of
Section 409A of the Internal Revenue Code (regarding nonqualified deferred compensation) to awards under the Company's incentive plans and to the named executive officers’ employment agreements; and (iii) the treatment of equity incentive or other awards as excess parachute payments under Section 280G of the Internal Revenue Code, particularly if the exercisability or vesting of any such award is accelerated as a result of a change in control.
Process of Establishing Key Elements of Compensation
Timing. The Committee sets, or recommends to the Board of Directors, annual levels of the key compensation elements for our named executive officers early in the fiscal year when prior year financial results become known. Also, throughout the year, the Committee monitors management’s performance against the compensation program objectives and targets and, as appropriate, identifies possible future changes to the overall structure and individual elements.
Annual Performance Evaluations of Named Executive Officers Other Than the Chief Executive Officer. The Committee reviews the CEO’s assessment of each of the named executive officers in determining any base salary adjustments for the named executive officers. The Committee also bases a portion of the annual bonuses on the achievement of performance goals, which determinations are made when financial and operating results for the year are reported to the Board of Directors. Each named executive officer also prepares an annual self-evaluation, which is designed to elicit information about financial and management performance. The CEO is primarily responsible for reviewing the self-evaluations of the named executive officers (other than his own), providing input and recommending to the Committee compensation adjustments based on this analysis. While the chief executive officer does not have the authority to determine the other named executive officers’ compensation, the Committee typically gives significant weight to his recommendations, along with the other factors discussed above, in determining the compensation of the named executive officers other than the CEO.
Annual Performance Evaluation of Chief Executive Officer. The process for determining the CEO’s total compensation package is similar to the process for determining base salaries of the other named executive officers. As part of this process, the Committee also reviews information prepared by the Company’s human resources department. However, with respect to the chief executive officer only, each member of the Board provides his individual input on the CEO’s performance during the most recently completed year, which the Committee then evaluates in light of the Company’s overall financial performance and achievement of business plan objectives established at the beginning of the year. Based on feedback from each of the directors, the Committee (i) recommends to the Board adjustments to the CEO’s compensation and (ii) provides feedback to the CEO. The Committee uses all of the above information to develop and recommend to the Board for approval the base salary for the chief executive officer.
Use of Discretion. For 2013, individual bonus amounts for the named executive officers were determined strictly by the level of achievement of pre-established financial and business performance goals. As such, the Committee did not exercise discretion to adjust the amount of individual awards under the Annual Incentive Plan.
Executive Compensation for 2013
Base Salary - Decisions and Analysis
In determining base salary adjustments for the named executive officers for 2013, the Committee considered the recommendations of the CEO with respect to the other named executive officers and the proposed wage and salary increases for all employees as contemplated in the Company’s business plan for 2013 that was submitted to the Board of Directors. In March 2013, the Compensation Committee recommended to the Board, and the Board approved, 2.5% increases in the base salaries of Messrs. Quinn, Kulka, Ertel and Qualls consistent with the budget and business plan approved by the Board of Directors for Company employees generally, and a 4% increase in the base salary of Mr. Moody. The Committee recommended a higher increase for Mr. Moody based on the CEO's recommendation in recognition of Mr. Moody’s leadership of the Company’s successful execution of its North American and Asia Pacific manufacturing consolidation strategy.
Annual Cash Incentive Awards - Decisions and Analysis
In March 2013, the Committee recommended to the Board of Directors, and the Board approved, the funding of the Annual Incentive Plan bonus pool for 2012 in the amount of $5.1 million, or 94% of the target pool, based on the achievement of Adjusted EBITDA of $89.59 million, and the payment of bonuses to the named executive officers based upon the 87.1% payout of the financial performance target and 100% payout of the individual performance targets, which are set forth in the table below, along with actual 2012 results.
As a result, the Committee recommended, and the Board approved, the incentive bonuses earned and awarded for 2012 as set forth in the “Non-Equity Incentive Plan” column of the Summary Compensation Table appearing under “- Summary Compensation” below. Such awards were paid in March 2013.
In March 2013, the Committee also approved the Company’s financial performance targets and individual performance goals for the named executive officers for the funding and payout of annual incentive bonuses under the Annual Incentive Plan with respect to our 2013 fiscal year. As it did in 2012, the Committee set minimum, target and maximum levels of Adjusted EBITDA as targets for the 2013 plan awards, after considering the recommendations of our chief executive officer and the 2013 budget approved by the Board of Directors. The Adjusted EBITDA levels (and the bonus pool funding associated with each level) for 2013 are set forth in the following table:
*Maximum payout percentage for the named executive officers and certain other key management employees.
No bonus pool will be funded and no bonuses will be paid if Adjusted EBITDA falls below the threshold payout level, which is 94.1% of the target payout level. The actual funding of the bonus pool between minimum and target levels and between target and maximum levels is prorated based on the level of Adjusted EBITDA generated.
The Committee approved the following strategic business goals for 2013, which account for up to 20% of the named executive officer’s bonus opportunity (15% in the case of Mr. Quinn) and are identical for each of the named executive officers:
Consistent with plan awards in 2012, allocation to the named executive officers of the funded bonus pool for 2013 is based on a combination of the level of the Company’s financial performance as established by Adjusted EBITDA generation and the above strategic business goals, each expressed as a percentage of their target bonus opportunity (which itself is a percentage of their respective base salaries), as follows:
Named executive officers receive a payment ranging from 40% (42.5% for the CEO) to 100% of the officer's target award opportunity if the Company achieves a financial performance level ranging from 92.2% to 100% of target, and a payment ranging from 100% up to 180% (185% for the CEO) of the target award opportunity if the Company achieves a performance level ranging from 100% to 106.1% of target.
Long-Term Incentive Awards - Decisions and Analysis
No long-term incentive awards were granted to any named executive officer in 2013.
Post Fiscal Year Compensation Actions
Base Salary Adjustments
In March 2014, the Compensation Committee approved base salary increases of 2.5% for Mr. Ertel and Mr. Qualls, 3.0% for Mr. Quinn, 3.25% for Mr. Kulka and 4.0% for Mr. Moody, consistent with the budget and business plan approved by the Board of Directors. The adjusted base salary for each of the named executive officers is as set forth below in “-Employment Agreements.”
Annual Incentive Plan - 2014 Performance Targets, Bonus Funding and Allocation
In March 2014, the Compensation Committee approved the financial performance targets for determining the funding and payout of annual incentive bonuses under our Annual Incentive Plan for the named executive officers with respect to our 2014 fiscal year. Similar to 2013, the annual bonus pool will be funded based on the achievement of threshold, target and maximum levels of Adjusted EBITDA generated in 2014. The actual funding of the bonus pool between the minimum and target and the target and maximum funding levels will be prorated based on the level of Adjusted EBITDA generated. The Adjusted EBITDA levels (and the bonus pool funding associated with each level) for 2014 are set forth in the following table:
*Maximum payout percentage for the named executive officers and certain other key management employees.
Consistent with 2013, allocation to the named executive officers (and to other eligible participants) of the funded bonus pool, if any, generated for 2014 will be based on a combination of the level of the Company’s financial performance as established by Adjusted EBITDA generation and four strategic business goals substantially similar to such goals set for 2013. The quantified strategic business goals for 2014 are set forth in the table below.
Compensation Committee Report
The information contained in this report shall not be deemed to be “soliciting material” or to be “filed” with the SEC, nor shall such information be incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, except to the extent that we specifically incorporate it by reference in such filing.
The Compensation Committee has reviewed and discussed the Compensation Discussion and Analysis required by Item 402(b) of Regulation S-K with management and, based on this review and discussions, recommended to the Board of Directors that the Compensation Discussion and Analysis be included in this Annual Report on Form 10-K.
Compensation Committee of the Board of Directors
Douglas R. Korn (Chair and Sole Member)
Summary Compensation
The following summary compensation table sets forth the compensation earned during fiscal 2013, 2012 and 2011 by our Chief Executive Officer and the other four most highly compensated executive officers who were serving in such capacity as of December 31, 2013. The Company has entered into agreements with each of the named executive officers, which provide for payments under certain termination events. These agreements and the potential and payments thereunder are described in the narratives captioned “ - Employment Agreements” and “ - Potential Payments Upon Termination or Change in Control” below.
(1)
Amounts in this column represent retention bonuses of $100,000 paid to Mr. Quinn and Mr. Moody in connection with the merger.
(2)
The amounts shown in this column represent the aggregate grant date fair values of the stock option awards granted to each of the named executive officers in the years specified computed in accordance with FASB ASC Topic 718. These option awards include options to purchase shares of common stock of Holdings, the Company’s parent, granted under the 2010 Equity Incentive Plan. See “- Grants of Plan-Based Awards” and “- Holdings 2010 Equity Incentive Plan” below. The grant date values assumed that the highest level of performance conditions would be achieved. No stock options were forfeited by any of the named executive officers in fiscal year 2013. The grant date fair values have been determined based on the assumptions and methodologies set forth in Note 16 of the notes to our consolidated financial statements set forth herein. These amounts reflect the value determined by the Company for accounting purposes for these awards and do not reflect whether the recipient has actually realized a financial benefit from the awards. Further information regarding the 2011 awards is included in the “Grants of Plan-Based Awards” table below and the “Outstanding Equity Awards at Fiscal Year End” table below.
(3)
The amounts under this column are annual cash incentive awards earned upon the achievement of performance objectives under the Annual Incentive Plan and, with respect to Mr. Quinn, one-time incentive awards granted pursuant to his employment agreement in connection with his promotion to the office of President.
(4)
The amounts shown as “All Other Compensation” for 2013 consist of the following:
(a)
Represents our matching contributions to the accounts of the named executive officers pursuant to the Company's 401(k) Retirement Plan.
(5)
Mr. Kulka joined the Company in October 2011.
(6)
Mr. Ertel joined the Company in August 2012.
(7)
Mr. Qualls joined the Company in July 2012.
Holdings 2010 Equity Incentive Plan
The following is a summary of the material terms and conditions of the Victor Technologies Holdings, Inc. 2010 Equity Incentive Plan (the “2010 Equity Plan”). This summary is qualified in its entirety by reference to the terms of the 2010 Equity Plan, a copy of which is incorporated by reference as Exhibit 10.40 to this Annual Report on Form 10-K.
The Board of Directors of the Company’s parent, Holdings, adopted the 2010 Equity Plan on December 2, 2010, and the 2010 Equity Plan was approved by the stockholders on the same date. The purpose of the 2010 Equity Plan is to attract, retain and motivate the officers, directors, and employees of Holdings and its subsidiaries and affiliates, and to promote the success of Holdings’ business by providing them with appropriate incentives and rewards through a proprietary interest in the long-term success of Holdings.
The Board of Directors of Holdings, or any committee designated by the Board of Directors of Holdings, administers the 2010 Equity Plan (the board or any such committee, the “Administering Committee”). The Administering Committee has the ability to: select the directors and employees to whom awards will be granted; determine the type and amount of awards to be granted; determine the terms and conditions of awards granted; determine the terms of award agreements to be entered into with participants to whom awards are granted; accelerate or waive vesting of awards and exercisability of awards; extend the term or period of exercisability of any awards; modify the purchase price under any award; or waive any terms or conditions applicable to any awards, subject to the limitations set forth in the 2010 Equity Plan.
Awards under the 2010 Equity Plan are in the form of stock options for shares of common stock of Holdings, par value $0.01 per share, or such other class or kind of shares or other securities resulting from application of the 2010 Equity Plan. Options are designated as either incentive stock options or nonqualified stock options; provided, however, that options granted to directors of Holdings shall be nonqualified stock options. Incentive stock options may be granted only to employees of Holdings or of a “parent corporation” or “subsidiary corporation” (as such terms are defined in Section 424 of the Internal Revenue Code) at the date of grant. The aggregate Fair Market Value (as such term is defined in the Stockholders’ Agreement dated December 3, 2010 among Holdings and the other parties thereto (the “Stockholders’ Agreement”)) (generally determined as of the time the option is granted) of the shares with respect to which incentive stock options are exercisable for the first time by a participant in the 2010 Equity Plan during any calendar year under all plans of Holdings and of any “parent corporation” or “subsidiary corporation” shall not exceed $100,000, or the option shall be treated as a nonqualified stock option. All outstanding options awarded under the 2010 Equity Plan are nonqualified stock options.
The option price is determined by the Administering Committee at the time of grant, but shall not be less than one hundred percent (100%) of the Fair Market Value of a share on the date of grant. In the case of any incentive stock option granted to a Ten Percent Shareholder, the option price shall not be less than one hundred and ten percent (110%) of the Fair Market Value of a share on the date of grant. A “Ten Percent Shareholder” is a person who on any given date owns, either directly or indirectly (taking into account the attribution rules contained in Section 424(d) of the Internal Revenue Code) stock possessing more than ten percent (10%) of the total combined voting power of all classes of stock of Holdings or a subsidiary or affiliate of Holdings.
The term of each option is determined by the Administering Committee at the time of grant, but in no event shall such term be greater than ten years (or, in the case of an incentive stock option granted to a Ten Percent Shareholder, five years). Awards are generally non-transferable other than by will or by the laws of descent and distribution.
Subject to adjustment pursuant to the terms of the 2010 Equity Plan, the maximum number of shares available to participants pursuant to awards under the 2010 Equity Plan is 619,959 shares and the maximum number of shares available for issuance pursuant to (i) Tranche A Options is 251,393.37; (ii) Tranche B Options is 125,696.69; Tranche C Options is 125,696.69; and (iv) options granted after December 2, 2010 is 117,172.25 (which may include Tranche A Options, Tranche B Options or Tranche C Options). In the event that any outstanding award expires, is forfeited, canceled or otherwise terminated without consideration (i.e., shares or cash) therefore, the shares subject to such award, to the extent of any such forfeiture, cancellation, expiration,
termination or settlement for cash shall again be available for awards under the 2010 Equity Plan. If the Administering Committee authorizes the assumption under the 2010 Equity Plan, in connection with any merger, consolidation, acquisition of property or stock, or reorganization, of awards granted under another plan, such assumption will not reduce the maximum number of shares available for issuance under the 2010 Equity Plan.
If a Realization Event (as such term is defined in the Stockholders’ Agreement) occurs after December 2, 2010, unless prohibited by law or unless otherwise provided in the award agreement, the Administering Committee is authorized to make any of the following adjustments in the terms and conditions of outstanding awards: (a) continuation or assumption of outstanding awards under the 2010 Equity Plan by Holdings, the surviving company or its parent; (b) substitution of awards with substantially the same terms for outstanding awards (excluding the consideration payable upon settlement of the awards); (c) accelerated exercisability, vesting and/or lapse of restrictions under outstanding awards immediately prior to the occurrence of a Realization Event; (d) provision that any outstanding awards must be exercised, if exercisable, during a reasonable period of time immediately prior to the Realization Event or such other period as determined by the Administering Committee, and at the end of such period, such awards shall terminate if not exercised; and (e) cancellation of all or any portion of outstanding awards for fair value (in the form of cash, shares, other property or any combination thereof) as determined by the Administering Committee. The fair value of outstanding awards being canceled may equal the excess of the value of the consideration to be paid as part of the Realization Event to holders of the same number of shares subject to the outstanding awards (or, if consideration is not paid, Fair Market Value of the shares subject to the outstanding awards being canceledcanceled) over the aggregate option price or grant price, as applicable, with respect to the awards being canceled.
The Administering Committee may amend, alter, suspend, discontinue or terminate the 2010 Equity Plan or any portion thereof or any award or award agreement thereunder at any time, in its sole discretion, provided, that no action taken by the Administering Committee shall adversely affect the rights granted to any participant under any outstanding awards (other than pursuant to certain terms of the 2010 Equity Plan) without the participant’s written consent. The 2010 Equity Plan, unless sooner terminated by the Administering Committee, will terminate on the tenth anniversary of its adoption.
Grants of Plan-Based Awards
In 2013, the Board of Directors of Holdings granted to key management employees, options to purchase an aggregate of 26,450 shares of common stock of Holdings as long-term incentive awards under the 2010 Equity Incentive Plan. The options vest in equal annual increments during the first five anniversaries from the date of original grant, with vesting accelerated as to all unvested options upon a “Realization Event” (as defined in the Stockholders’ Agreement, discussed below under “Certain Relationships and Related Party Transactions” included in Item 13 of this Report.
Outstanding Equity Awards to the Named Executive Officers at Fiscal Year-End
(1)
No options were exercised by the named executive officers during the year ended December 31, 2013. All stock options listed in the table have a term expiring ten years after the grant date and vest based on service. All options vest at a rate of 20% on each anniversary of the grant date over five years.
Employment Agreements
We have employment agreements with each of Messrs. Quinn, Kulka, Moody, Ertel and Qualls, each of which agreements is described below.
Under the employment agreements with Messrs. Quinn, Kulka, Moody, Ertel and Qualls, “cause” is defined as the following conduct by such executive: (i) an act of (A) willful misconduct, (B) fraud, (C) embezzlement, (D) theft or (E) any other act constituting a felony, in each case causing or that is reasonably likely to cause, material harm, financial or otherwise, to us; (ii) a willful and intentional act or failure to act, which is committed by the executive and which causes or can be expected to imminently cause material injury to us that is not cured by him within 15 days after written notice from the Board of Directors specifying such act or failure to act and requesting a cure; (iii) a willful and material breach of the employment agreement that is not cured by the executive within 15 days after written notice from the Board of Directors specifying the breach and requesting a cure; or (iv) habitual abuse of alcohol, narcotics or other controlled substances which materially impairs the executive’s ability to perform his duties under the employment agreement that is not cured by him within 15 days after written notice from the Board of Directors specifying such circumstances and requesting a cure. No act, or failure to act, will be deemed “willful” unless done, or omitted to be done, by the executive not in good faith and without a reasonable belief that his act, or failure to act, was in our best interest.
We have agreed to indemnify each of the executive officers with which we have an employment agreement to the fullest extent permitted by law.
Martin Quinn. Mr. Quinn’s current base salary is $543,711 per year. Mr. Quinn is eligible to receive an annual incentive award at a target bonus of 60% of base salary (up to a maximum opportunity of 120% of base salary). The actual amount of any annual incentive award is determined by the compensation committee based on the achievement of financial goals and on other critical initiatives in accordance our annual incentive plan. The agreement provides for a car allowance of $500 per month. Mr. Quinn is also entitled to participate in the benefit and health programs, including profit sharing and retirement plans, as well as long-term incentive programs available to our executives.
Mr. Quinn’s employment agreement has an initial term of one year and will renew for one-year periods on each anniversary of the date of the agreement unless terminated earlier. Employment can be terminated for cause, without cause or as a result of non-renewal by us, voluntarily by Mr. Quinn (including by constructive termination) and automatically upon his death or disability. If his employment is terminated, then Mr. Quinn (or his estate) is entitled to payments under his employment agreement. If his employment is terminated because we do not renew the employment period, Mr. Quinn will be entitled to continue to receive his
current base salary for a period of 24 months following the expiration of the employment period. Any payments under his employment agreement that constitute a parachute payment which exceed 2.99 times his base amount will be reduced to 2.99 times the base amount.
Any long-term incentive awards, such as stock options and restricted shares, outstanding at the time of termination of Mr. Quinn’s employment will survive termination in accordance with their applicable terms.
The agreement provides that Mr. Quinn cannot solicit any of our customers or prospective customers or induce any person to terminate employment with us for a period of two years after termination for any reason. In addition, Mr. Quinn cannot engage in, invest in or render services to any entity engaged in the businesses in which we are engaged in any country for a period of one year after termination due to non-renewal, cause or voluntary termination (other than by constructive termination).
Disability is deemed to have occurred if Mr. Quinn is unable to perform the duties of his employment due to mental or physical incapacity for a period of six consecutive months.
Constructive termination is defined in the agreement as the occurrence of any of the following without Mr. Quinn’s consent: (i) our failure to comply with the material terms of the agreement; (ii) a reduction in salary or bonus percentage (that does not apply to similarly situated executives) or a material reduction in his duties; (iii) any purported termination by us of his employment other than for cause; or (iv) if we assign the agreement to a successor of all or substantially all of our business or assets, and the successor fails to assume our obligations under the agreement.
Jeffrey S. Kulka. Mr. Kulka’s current base salary is $354,269 per year. Mr. Kulka is eligible to receive an annual incentive award at a target bonus of 40% of base salary. The actual amount of any annual incentive award is determined by the compensation committee based on the achievement of financial goals and on other critical initiatives in accordance with our annual incentive plan. Mr. Kulka is also entitled to participate in the benefit and health programs, including profit sharing and retirement plans, as well as long-term incentive programs available to our executives.
Mr. Kulka’s employment agreement has an initial term of one year and will renew for one-year periods on each anniversary of the date of the agreement unless terminated earlier. Employment can be terminated for cause, without cause or as a result of non-renewal by us, voluntarily by Mr. Kulka (including by constructive termination) and automatically upon his death or disability. If his employment is terminated, then Mr. Kulka (or his estate) is entitled to payments under his employment agreement. If his employment is terminated because we do not renew the employment period, Mr. Kulka will be entitled to continue to receive his current base salary for a period of 12 months following the expiration of the employment period. Any payments under his employment agreement that constitute a parachute payment which exceed 2.99 times his base amount will be reduced to 2.99 times the base amount.
Any long-term incentive awards, such as stock options and restricted shares, outstanding at the time of termination of Mr. Kulka's employment will survive termination in accordance with their applicable terms.
The agreement provides that Mr. Kulka cannot solicit any of our customers or prospective customers or induce any person to terminate employment with us for a period of one year after termination for any reason. In addition, Mr. Kulka cannot engage in, invest in or render services to any entity engaged in the businesses in which we are engaged in any country for a period of one year after termination due to non-renewal, cause or voluntary termination (other than by constructive termination).
Disability is deemed to have occurred if Mr. Kulka is unable to perform the duties of his employment due to mental or physical incapacity for a period of six consecutive months.
Constructive termination is defined in the agreement as the occurrence of any of the following without Mr. Kulka’s consent: (i) our failure to comply with the material terms of the agreement; (ii) a reduction in salary or bonus percentage (that does not apply to similarly situated executives) or a material reduction in his duties; (iii) any purported termination by us of his employment other than for cause; or (iv) if we assign the agreement to a successor of all or substantially all of our business or assets, and the successor fails to assume our obligations under the agreement.
Terry A. Moody. Mr. Moody’s current base salary is $364,986. Mr. Moody is eligible to receive an annual incentive award at a target bonus of 40% of his base salary. The actual amount of any annual incentive award is determined by the compensation committee based on the achievement of financial goals and on other critical initiatives in accordance with our annual incentive plan. Mr. Moody is also entitled to participate in the benefit and health programs, including profit sharing and retirement plans, available to our executives.
Mr. Moody’s employment agreement had an initial term of two years and now renews for one-year periods on each anniversary of the date of the agreement unless terminated earlier. Employment can be terminated for cause, without cause or as a result of non-renewal by us, voluntarily by Mr. Moody (including by constructive termination) and automatically upon his death or disability. If Mr. Moody’s employment is terminated, then Mr. Moody (or his estate) is entitled to payments under his employment agreement. Any payments under his employment agreement that constitute a parachute payment which exceed 2.99 times his base amount will be reduced to 2.99 times the base amount.
Disability is deemed to have occurred under the agreement if Mr. Moody is disabled within the meaning of Internal Revenue Code Section 409A(a)(2)(C).
Constructive termination is defined under the agreement as the occurrence of any of the following without Mr. Moody’s consent: (i) our failure to substantially comply with the agreement; (ii) reduction in salary or bonus percentage, or a material reduction in his duties; (iii) any purported termination by us of his employment other than for cause; (iv) if we assign the agreement to a successor of all or substantially all of our business or assets, and the successor fails to assume expressly and perform the agreement; or (v) if we relocate our principal offices, or require Mr. Moody to relocate his principal work location, more than 45 miles.
The agreement provides that Mr. Moody cannot induce any person to terminate employment with us for a period of 12 months after termination for any reason. In addition, Mr. Moody cannot engage in, invest in or render services to any entity engaged in the businesses in which we are engaged in any country (i) for a period of 12 months after termination for cause or voluntary termination (other than by constructive termination), or (ii) during the period of time we would be required to make severance payments or payments under a disability plan as a result of termination due to disability, termination without cause or constructive termination.
Jeff J. Ertel, Mr. Ertel's current base salary is $288,922 per year. Mr. Ertel is eligible to receive an annual incentive award at a target bonus of 40% of base salary. The actual amount of any annual incentive award is determined by the compensation committee based on the achievement of financial goals and on other critical initiatives in accordance with our annual incentive plan. Mr. Ertel is also entitled to participate in the benefit and health programs, including profit sharing and retirement plans, as well as long-term incentive programs available to our executives.
Mr. Ertel's employment agreement has an initial term of one year and will renew for one-year periods on each anniversary of the date of the agreement unless terminated earlier. Employment can be terminated for cause, without cause or as a result of non-renewal by us, voluntarily by Mr. Ertel (including by constructive termination) and automatically upon his death or disability. If his employment is terminated, then Mr. Ertel (or his estate) is entitled to payments under his employment agreement. If his employment is terminated because we do not renew the employment period, Mr. Ertel will be entitled to continue to receive his current base salary for a period of nine months following the expiration of the employment period. Any payments under his employment agreement that constitute a parachute payment which exceed 2.99 times his base amount will be reduced to 2.99 times the base amount.
Any long-term incentive awards, such as stock options and restricted shares, outstanding at the time of termination of Mr. Ertel's employment will survive termination in accordance with their applicable terms.
The agreement provides that Mr. Ertel cannot solicit any of our customers or prospective customers or induce any person to terminate employment with us for a period of two years after termination for any reason. In addition, Mr. Ertel cannot engage in, invest in or render services to any entity engaged in the businesses in which we are engaged in any country for a period of one year after termination due to non-renewal, cause or voluntary termination (other than by constructive termination).
Disability is deemed to have occurred if Mr. Ertel is unable to perform the duties of his employment due to mental or physical incapacity for a period of six consecutive months.
Constructive termination is defined in the agreement as the occurrence of any of the following without Mr. Ertel's consent: (i) our failure to comply with the material terms of the agreement; (ii) a reduction in salary or bonus percentage (that does not apply to similarly situated executives) or a material reduction in his duties; (iii) any purported termination by us of his employment other than for cause; or (iv) if we assign the agreement to a successor of all or substantially all of our business or assets, and the successor fails to assume our obligations under the agreement.
E. Lee Qualls. Mr. Qualls' current base salary is $341,453 per year. Mr. Qualls is eligible to receive an annual incentive award at a target bonus of 40% of base salary. The actual amount of any annual incentive award is determined by the compensation committee based on the achievement of financial goals and on other critical initiatives in accordance with our annual incentive plan. Mr. Qualls is also entitled to participate in the benefit and health programs, including profit sharing and retirement plans, as well as long-term incentive programs available to our executives.
Mr. Qualls’ employment agreement has an initial term of one year and will renew for one-year periods on each anniversary of the date of the agreement unless terminated earlier. Employment can be terminated for cause, without cause or as a result of non-renewal by us, voluntarily by Mr. Qualls (including by constructive termination) and automatically upon his death or disability. If his employment is terminated, then Mr. Qualls (or his estate) is entitled to payments under his employment agreement. If his employment is terminated because we do not renew the employment period, Mr. Qualls will be entitled to continue to receive his current base salary for a period of nine months following the expiration of the employment period. Any payments under his employment agreement that constitute a parachute payment which exceed 2.99 times his base amount will be reduced to 2.99 times the base amount.
Any long-term incentive awards, such as stock options and restricted shares, outstanding at the time of termination of Mr. Qualls' employment will survive termination in accordance with their applicable terms.
The agreement provides that Mr. Qualls cannot solicit any of our customers or prospective customers or induce any person to terminate employment with us for a period of two years after termination for any reason. In addition, Mr. Qualls cannot engage in, invest in or render services to any entity engaged in the businesses in which we are engaged in any country for a period of one year after termination due to non-renewal, cause or voluntary termination (other than by constructive termination).
Disability is deemed to have occurred if Mr. Qualls is unable to perform the duties of his employment due to mental or physical incapacity for a period of six consecutive months.
Constructive termination is defined in the agreement as the occurrence of any of the following without Mr. Qualls' consent: (i) our failure to comply with the material terms of the agreement; (ii) a reduction in salary or bonus percentage (that does not apply to similarly situated executives) or a material reduction in his duties; (iii) any purported termination by us of his employment other than for cause; or (iv) if we assign the agreement to a successor of all or substantially all of our business or assets, and the successor fails to assume our obligations under the agreement.
Potential Payments Upon Termination or Change in Control
As noted above, our employment agreements with each of Messrs. Quinn, Kulka, Moody, Ertel and Qualls provide for payments to the officer in the event of termination of employment. The employment agreements of the named executive officers do not contain specific provisions for compensating the officers upon a change in control of the Company. If the Company’s successor following a change of control does not assume the Company’s obligations under the employment agreements or makes certain changes in an officer’s compensation or duties that would be deemed to be a constructive termination, then the officer would be compensated in accordance with the constructive termination provisions of his employment agreement.
The table below sets forth information describing and quantifying certain compensation that would become payable under each named executive officer’s employment agreement if the officer’s employment had terminated on December 31, 2013. The information is based on the officer’s compensation and benefits as of that date. These benefits are in addition to benefits available generally to salaried employees, such as distributions under the 401(k) plan, disability benefits and accrued vacation pay.
Estimated Payments Upon Termination of Employment
(1)
Base salary is paid in accordance with current payroll practices through the end of the pay period in which termination occurs.
(2)
Represents the bonus the officer would have been entitled to receive for the year in which termination occurs, prorated based on the number of days the officer was employed during such year.
(3)
Base salary is paid in accordance with current payroll practices through the end of the month in which termination occurs.
(4)
Represents contributions made by the Company on behalf of the officer under health insurance plans for two years following termination.
(5)
Represents contributions made by the Company on behalf of the officer under health insurance plans for two years following termination, plus a tax gross-up at an assumed tax rate of 40%.
(6)
Base salary is paid in accordance with current payroll practices until the earlier of 180 days and the commencement of any benefits under the Company’s long-term disability insurance.
(7)
Base salary is paid in accordance with current payroll practices for two years following termination. Non-renewal or expiration of the employment agreement of Mr. Quinn is deemed to be a termination without Cause.
(8)
Represents a bonus of 60% of base salary in effect as of the date of termination, in lieu of any bonus or portion of any bonus that the Company may have accrued or Mr. Quinn may have earned under the Annual Incentive Plan for the year in which termination occurred.
(9)
Represents contributions made by the Company on behalf of the officer under certain benefit plans, including health, life and disability insurance, for one year following termination.
(10)
Base salary is paid in accordance with current payroll practices for one year following termination.
(11)
Represents contributions made by the Company on behalf of the officer under health insurance plans for one year following termination, plus a tax gross-up at an assumed tax rate of 40%.
(12)
In certain circumstances, in lieu of the payments shown, the officer may elect to receive a lump sum payment of the present value of such benefits, at a 12% discount.
(13)
In the event of termination without cause or constructive termination, compensation will be reduced by the amount of compensation the officer receives if he obtains other employment during the termination pay period.
(14)
Base salary is paid in accordance with current payroll practices for one year following non-renewal/expiration of the employment agreement.
(15)
Base salary is paid in accordance with current payroll practices for nine months following non-renewal/expiration of the employment agreement.
(16)
Represents contributions made by the Company on behalf of the officer under certain benefit plans, including health, life and disability insurance, for nine months following termination.
The employment agreement for each of the above-named executive officers contains a provision for complying with Section 409A of the Internal Revenue Code relating to deferred payments, including the payment of severance. In addition, the agreements for Messrs. Quinn, Kulka, Moody, Ertel and Qualls limit severance payments, to the extent they are considered “parachute payments” under Section 280G of the Internal Revenue Code, to 299% of the employee’s “base amount” of compensation as defined in Section 280G. See “- Employment Agreements” above.
Each of our named executive officers has been granted stock options in our parent, Holdings, under the 2010 Equity Plan, described above in “Executive Compensation - Holdings 2010 Equity Incentive Plan.” Pursuant to the terms of the 2010 Equity Plan and each named executive officer’s non-qualified stock option award agreement, if a Realization Event occurs, including a change of control of Holdings, all outstanding options not vested or forfeited will become immediately and fully vested, subject to such named executive officer’s continued service to Holdings or its subsidiaries or affiliates. The intrinsic value of equity awards outstanding at December 31, 2013, that would become exercisable or vested in the event a change of control of Holdings occurred as of December 31, 2013, for each of the named executive officers is set forth in the table below. See “- Holdings 2010 Equity Incentive Plan” and the Outstanding Equity Awards at Fiscal Year-End table, above.
Estimated Payments Upon Change in Control
(1)
Based on the fair market value of a share of common stock of Holdings on December 31, 2013 of $62.47, as determined by the Board of Directors of Holdings in accordance with the Stockholders Agreement.
Director Compensation
Each of our non-employee directors, other than Mr. Korn, receives an annual fee of $25,000 and a fee of $3,000 per meeting. For his role as Chairman of the Audit Committee, Mr. Egan also receives an annual fee of $7,500. In connection with his appointment as director in 2011, each of these non-employee directors also received a grant of options to purchase 10,000 shares of common stock of Holdings, comprised of 5,000 Tranche A Options, 2,500 Tranche B Options and 2,500 Tranche C Options, with vesting and other terms identical to those options granted to the named executive officers.
The following table provides information on all cash and equity-based compensation earned, paid or awarded to non-employee directors during 2013, 2012 and 2011.
Non-Employee Director Compensation Table
(1)
Only members of our Board who are neither employees of the Company nor affiliates of Irving Place Capital receive compensation for their service as a director.
(2)
This column reflects the aggregate dollar amount of the annual base fee and annual fees for service on the Board of Directors and, in the case of Mr. Egan, acting as chairperson of the Audit Committee for the years ended December 31, 2013, 2012 and 2011.
(3)
Represents the aggregate grant date fair value under FASB ASC Topic 718. Fair value was determined using the Black-Scholes option-pricing model, based upon the terms of the option grants and the assumptions and methodologies set forth in the notes to our consolidated financial statements set forth herein. These amounts reflect the value determined by the Company for accounting purposes for these awards and do not reflect whether the recipient has actually realized a financial benefit from the awards.
(4)
Appointed to the Board of Directors and as Audit Committee chairperson in March 2011.
(5)
Appointed to the Board of Directors in May 2011.
Compensation Committee Interlocks and Insider Participation
None of our executive officers serves as a director or as a member of the compensation committee or other committee serving an equivalent function, of any other entity that has one or more of its executive officers serving as a member of our Board of Directors or Compensation Committee. None of the current members of our Compensation Committee has ever been an officer or employee of Holdings or any of our subsidiaries. Mr. Korn is a managing director of Irving Place Capital, affiliates of which, along with its co-investors, hold 84.1% of the outstanding common stock on a fully diluted basis of Holdings. See “Certain Relationships and Related Party Transactions” included in Item 13 of this Report.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
We are a wholly-owned subsidiary of Victor Technologies Holdings, Inc., a company whose common stock is owned by IPC/Razor LLC (“Topco”), a holding company and affiliate of Irving Place Capital, and certain members of our management. Upon consummation of the Merger in December 2010, Holdings issued common stock and preferred stock, representing 80% and 20%, respectively, of its equity value to Topco and certain of our executive officers. Following the Merger, Holdings issued additional shares of common stock and preferred stock to other members of our management.
The following table sets forth the percentages of shares of preferred stock and common stock of Holdings that are beneficially owned as of March 28, 2014 by (1) each person who is known to us to be the beneficial owner of more than 5% of such shares, (2) each of our directors and named executive officers and (3) all of our directors and executive officers as a group.
* Represents less than 1%.
(1)
Based on 56,981 shares of preferred stock and 3,552,435 shares of common stock outstanding as of March 28, 2014, and calculated in accordance with Rule 13d-3 under the Securities Exchange Act of 1934, as amended.
(2)
Irving Place Capital Partners III, L.P. may be deemed a beneficial owner of the shares held by IPC/Razor LLC due to its status as Managing Member of IPC/Razor LLC. Irving Place Capital Partners III, L.P. disclaims beneficial ownership of any such shares of which it is not the holder of record. IPC Advisors III, L.P. may be deemed a beneficial owner of the shares held by Irving Place Capital Partners III, L.P. due to its status as General Partner of Irving Place Capital Partners III, L.P. IPC Advisors III, L.P. disclaims beneficial ownership of any such shares of which it is not the holder of record. JDH Management LLC may be deemed a beneficial owner of the shares held by IPC Advisors III, L.P. due to its status as General Partner of IPC Advisors III L.P. JDH Management LLC disclaims beneficial ownership of any such shares of which it is not the holder of record.
(3)
Includes options to purchase 63,236 shares of common stock exercisable within 60 days.
(4)
Includes options to purchase 31,618 shares of common stock exercisable within 60 days.
(5)
Includes options to purchase 18,599 shares of common stock exercisable within 60 days.
(6)
Mr. McLain owns less than one percent of the outstanding equity of IPC/Razor LLC. Mr. McLain disclaims beneficial ownership of the shares of Holdings that are owned by IPC/Razor LLC, except to the extent of his pecuniary interest therein. Includes options to purchase 30,688 shares of common stock exercisable within 60 days.
(7)
Includes options to purchase 6,000 shares of common stock exercisable within 60 days.
(8)
Includes options to purchase 9,299 shares of common stock exercisable within 60 days.
(9)
Includes options to purchase 3,720 shares of common stock exercisable within 60 days.
(10)
Includes options to purchase 7,000 shares of common stock exercisable within 60 days.
(11)
Includes options to purchase 4,000 shares of common stock exercisable within 60 days.
(12)
Mr. Korn is a Senior Managing Director of Irving Place Capital and the President of IPC / Razor LLC. Mr. Korn, by virtue of such positions, may be deemed to share beneficial ownership of shares owned of record by IPC / Razor LLC. However, Mr. Korn does not have investment or voting power with respect to shares owned by IPC / Razor LLC, and he disclaims beneficial ownership of such shares except to the extent of his pecuniary interest therein.
Item 13.
Item 13. Certain Relationships and Related Transactions, and Director Independence
Relationship with Irving Place Capital
Affiliates of Irving Place Capital, along with its co-investors, hold approximately 84.1% of the outstanding common stock on a fully diluted basis of Holdings, which holds 100% of our outstanding equity. Our director Douglas R. Korn is a Senior Managing Director of Irving Place Capital.
Stockholders’ Agreement
Upon consummation of the Merger, Holdings entered into a Stockholders’ Agreement with Topco and our management investors that generally contains the following provisions:
Board of Directors. The Stockholders’ Agreement requires that all holders of securities in Holdings who are parties to the Stockholders’ Agreement shall vote all of the shares of common stock of Holdings owned by them or their affiliates for, or consent in writing with respect to such shares in favor of, the election of the directors designated by Topco. Such directors may only be removed by Topco. Our management investors further agreed to execute any documents necessary in order to effectuate the foregoing, including the ability for Holdings or its nominees to vote our management investors’ shares of common stock directly.
Other rights and restrictions. The Stockholders’ Agreement also includes rights and restrictions relating to the issuance or transfer of shares, including tag-along rights and drag-along rights, preemptive rights, registration rights, repurchase rights after the termination of employment of a management investor, and certain governance provisions.
Management Services Agreement
Upon consummation of the Merger, we entered into a management services agreement with Irving Place Capital Management, L.P., an affiliate of Irving Place Capital, pursuant to which Irving Place Capital Management, L.P. agreed to provide certain advisory and management services to us. Pursuant to the management services agreement, Irving Place Capital Management, L.P. is entitled to receive an aggregate annual advisory fee equal to the greater of (i) $1.5 million or (ii) 2.5% of EBITDA (as defined in the management services agreement) of us and our subsidiaries, paid on a quarterly basis, and reimbursement for reasonable out-of-pocket expenses incurred in the ordinary course by Irving Place Capital Management, L.P. or its affiliates in connection with Irving Place Capital Management, L.P.’s obligations under the management services agreement and the services rendered prior to or subsequent to the date of the management services agreement, including fees and expenses paid to consultants, subcontractors and other third parties in connection with such obligations. In the event of a sale of all or substantially all of our assets to a third party, a change of control, whether by merger, consolidation, sale or otherwise, or, under certain circumstances, a public offering of our or any of our subsidiaries’ equity securities, we will be obligated to pay Irving Place Capital Management, L.P. an amount equal to the sum of the advisory fee that would be payable for the following four fiscal quarters.
In addition, pursuant to the management services agreement, Irving Place Capital Management, L.P. received a transaction fee of $6.5 million in connection with services provided related to the Merger and will receive in connection with any subsequent material corporate transactions we or our subsidiaries enter into, such as an equity or debt offering, acquisition, asset sale, recapitalization, merger, joint venture formation or other business combination, transaction fees equal to (A) with respect to an equity or debt offering, 1% of the gross proceeds of such offering and (B) with respect to such other material corporate transactions, 1% of the transaction value of such transaction. Furthermore, pursuant to the management services agreement, Irving Place Capital Management, L.P. will also receive fees in connection with certain strategic services, which such fees will be determined by Irving Place Capital Management, L.P., provided such fees will reduce the annual advisory fee on a dollar-for-dollar basis. The management services agreement also provides for customary exculpation, indemnification, contribution and expense reimbursement provisions in favor of Irving Place Capital Management, L.P. and its affiliates.
Consulting Agreement
In exchange for strategic advisory assistance in 2010, Holdings entered into a consulting agreement with Michael McLain, our chairman, and other consultants. The aggregate amount paid pursuant to the consulting agreement for services rendered in 2013 was $883,000, of which $150,000 was paid to entities controlled by Mr. McLain. We also paid certain expenses incurred by the consultants. We reduced the fees paid to Irving Place Capital pursuant to the management services agreement by $150,000 for the fees paid to entities controlled by Mr. McLain for services rendered pursuant to the consulting agreement through December 2013, and, as a result, we did not incur any additional cost for such services provided by the entities controlled by Mr. McLain.
Employment Agreements
See “Executive Compensation - Employment Agreements” included in Item 11 of this Report for a description of the employment agreements with our named executive officers.
Procedures with Respect to Review and Approval of Related Person Transactions
The charter of the Audit Committee provides that the Audit Committee is responsible for, among other things, to review and approve all transactions with related persons, including executive officers and directors, as described in Item 404(a) of Regulation S-K. In furtherance of its responsibility under the charter, the Audit Committee reviews, discusses and approves any transactions or courses of dealing with related parties that are significant in size or involve terms or other aspects that differ from those that would likely be negotiated with independent parties. Our Board of Directors continues to review and approve all transactions required to be reported pursuant to Item 404(a) of Regulation S-K. Our Audit Committee considers information presented by our President and Chief Executive Officer, our Executive Vice President and Chief Financial Officer and other officers, as appropriate, regarding the proposed transaction, including whether the terms of the transaction are fair to and in the best interests of the Company, as well as in accordance with applicable law and restrictions under our equity and debt agreements.
Pursuant to the terms of our Stockholders’ Agreement, except for transactions contemplated by such agreement, Holdings will not, nor will it permit any of its subsidiaries (including the Company) to, directly or indirectly, enter into any transaction or agreement, including without limitation the purchase, sale or exchange of property or the rendering of any services, with Topco or any of its affiliates (other than Holdings and its subsidiaries and employees of Holdings and its subsidiaries), except (i) pursuant to the Management Services Agreement described above, (ii) any agreement evidencing investments to be made by Topco or its affiliates in respect of which stockholders who are employees or directors of Holdings or any of its subsidiaries are given preemptive or other participation rights, (iii) the issuance of pro-rata dividends, distributions and redemptions, (iv) transactions with portfolio companies of Topco that are in the ordinary course of business and on arm’s length terms, and if material, have been approved by a majority of disinterested directors of Holdings’ Board of Directors, (v) the payment of reasonable directors’ fees and expenses and the provision of customary indemnification to directors and officers of Holdings and its subsidiaries, (vi) transactions between Holdings and its subsidiaries and Topco and its affiliates contemplated by the Merger Agreement or (vii) any other transaction approved by a majority of disinterested directors of Holdings’ Board of Directors.
The indenture governing our Senior Secured Notes and the credit agreement governing our Working Capital Facility also contain restrictions on our ability to enter into transactions with affiliated persons.
Director Independence
The information called for by this Item 13 with respect to director independence is set forth above under the caption “The Board of Directors and Committees of the Board” included in Item 10 of this Report.
Item 14.
Item 14. Principal Accountant Fees and Services
During 2013 and 2012, KPMG LLP rendered services to us as our independent registered public accounting firm and charged fees for their services as follows:
Audit fees consisted of fees for the audit of our annual consolidated financial statements and review of our quarterly financial statements, as well as services normally provided in connection with statutory and regulatory filings or engagements, comfort letters, consents and assistance with and review of company documents filed with the SEC. Tax fees consisted of fees for tax compliance, tax advice and tax planning services. Other fees consisted of fees related to due diligence services related to acquisitions of businesses.
Our Audit Committee’s policy is to pre-approve all audit and permissible non-audit services provided by our independent registered public accountants. These services may include audit services, audit-related services, tax services and other services. Pre-approval is generally provided for up to one year and any pre-approval is detailed as to the particular service or category of services. The independent registered public accountants and management are required to periodically report to the Audit Committee regarding the extent of services provided by the independent registered public accountants in accordance with this pre-approval. All 2013 and 2012 services were pre-approved by the Audit Committee.
PART IV
Item 15.
Item 15. Exhibits and Financial Statement Schedules
Financial Statements and Schedules
The following documents are filed as part of this report:
All schedules for which provision is made in the applicable accounting regulation of the Commission are not required under the related instructions, are included in the financial statements or are inapplicable and therefore have been omitted.
Exhibits
See “Exhibit Index” immediately following “Signatures,” below, which is hereby incorporated by reference thereto.
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Stockholders of Victor Technologies Group, Inc.
We have audited the accompanying consolidated balance sheets of Victor Technologies Group, Inc. and subsidiaries as of December 31, 2013 and 2012, and the related consolidated statements of operations, comprehensive income, stockholder’s equity, and cash flows for each of the years in the three-year period ended December 31, 2013. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Victor Technologies Group, Inc, and subsidiaries as of December 31, 2013 and 2012, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2013, in conformity with U.S. generally accepted accounting principles.
/s/ KPMG LLP
St. Louis, Missouri
March 31, 2014
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands)
See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
See accompanying notes to consolidated financial statements.
CONSOLIDATED BALANCE SHEETS
(In thousands, except per share data)
See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY
(In thousands, except per share data)
See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
See accompanying notes to consolidated financial statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except per share data)
1. The Company
On December 3, 2010 (“Acquisition Date”), pursuant to an Agreement and Plan of Merger dated as of October 5, 2010 (the “Merger Agreement”), Razor Merger Sub Inc. (“Merger Sub”), a newly formed Delaware corporation, merged with and into Thermadyne, with Thermadyne surviving as a direct, wholly-owned subsidiary of Razor Holdco Inc., a Delaware corporation (“Acquisition”). Razor Holdco Inc. was then renamed Thermadyne Technologies Holdings, Inc. (“Technologies”).
Effective May 21, 2012, Thermadyne changed its name to Victor Technologies Group, Inc. (“Victor Technologies” or the "Company"). Thermadyne Technologies, the parent company of Victor Technologies, accordingly changed its name to Victor Technologies Holdings, Inc. ("Holdings").
Holdings’ sole asset is its 100% ownership of the stock of Victor Technologies. Affiliates of Irving Place Capital (“IPC”), a private equity firm based in New York, along with its co-investors, hold 84.1% of the outstanding common stock on a fully diluted basis of Holdings, and certain members of Victor Technologies' management hold the remaining equity capital.
Victor Technologies, a Delaware corporation, is a designer, manufacturer and supplier of cutting, welding and gas control equipment used in various fabrication, construction and manufacturing operations around the world. The Company’s products are used in a wide variety of applications and industries, where steel is cut and welded, including steel fabrication, manufacturing of transportation and mining equipment, many types of construction such as offshore oil and gas rigs, repair and maintenance of manufacturing equipment and facilities, and shipbuilding. The Company designs, manufactures and sells products in six principal categories: (1) gas equipment; (2) plasma power supplies, torches and consumable parts; (3) carbon arc gouging products; (4) welding equipment; (5) arc accessories, including torches, consumable parts and accessories; and (6) filler metals and hardfacing alloys. The Company markets its products under a portfolio of brands, many of which are the leading brand in their industry, including Victor®, Victor® Thermal Dynamics®, Victor® Arcair®, Victor® Turbo Torch®, Tweco®, Thermal Arc®, Stoody®, Firepower® and Cigweld®. We primarily sell our products through over 3,300 industrial distributor accounts, including large industrial gas manufacturers, in over 50 countries.
2. Significant Accounting Policies
Principles of Consolidation. The consolidated financial statements include the Company’s accounts and those of its subsidiaries. Intercompany balances and transactions have been eliminated in consolidation.
Estimates. Preparation of financial statements in conformity with U.S. generally accepted accounting principles requires certain estimates and assumptions to be made that affect the reported amounts of 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. Any significant unanticipated changes in business or market conditions that vary from current expectations could have an impact on the fair market value of assets and result in a potential impairment loss.
Cash Equivalents. All highly liquid investments purchased with a maturity of three months or less are considered to be cash equivalents.
Accounts Receivable. Accounts receivable are recorded at the amounts invoiced to customers, less an allowance for doubtful accounts. Management estimates the allowance based on a review of the portfolio taking into consideration historical collection patterns, the economic climate and aging statistics based on contractual due dates. Accounts are written off to the allowance once collection efforts are exhausted.
Inventories. Inventories in our domestic subsidiaries are valued at the lower of cost, using the last-in, first-out (“LIFO”) method, or current estimated market. Inventories in our international subsidiaries are valued at the lower of cost, using the first-in, first-out ("FIFO") method, or current estimated market.
Property, Plant and Equipment. Property, plant and equipment acquired in connection with acquisitions are initially recorded at fair market value; all other additions are recorded at cost. Depreciation is calculated using the straight-line method. The average estimated lives utilized in calculating depreciation are as follows: buildings and improvements- 10 to 25 years; and machinery and equipment- 3 to 10 years. Property, plant and equipment recorded under capital leases are depreciated based on the lesser of the lease term or the underlying asset’s useful life. Impairment losses are recorded on long-lived assets when events and circumstances indicate the assets might be impaired and the undiscounted cash flows estimated to be generated by those assets are less than their carrying amounts. Depreciation expense was $12,280, $11,858 and $14,512 for the years ended December 31, 2013, 2012 and 2011, respectively.
Deferred Financing Costs. Loan origination fees and other costs incurred arranging long-term financing are capitalized as deferred financing costs and amortized on an effective interest method over the term of the credit agreement. Deferred financing costs
totaled $18,205 and $19,718 at December 31, 2013 and 2012, respectively, less related accumulated amortization of $6,361 and $4,232.
Goodwill and Intangibles. Goodwill and trademarks have indefinite lives, with the exception of trademarks obtained in the 2013 and 2012 acquisitions of Gas-Arc and Robotronic Oy, respectively. Other intangibles assets are amortized on a straight-line basis over their estimated useful lives, which range from 3 to 20 years. See Note 7 - Intangible Assets.
For acquisitions, goodwill is calculated as of the date of the acquisition, measured as the excess of the consideration transferred over the fair value of the net identifiable assets (including intangible assets) acquired and the liabilities assumed.
Goodwill and trademarks are tested for impairment annually, as of December 1st, or more frequently if events occur or circumstances change that would, more likely than not, reduce the fair value of the reporting unit below its carrying value. The impairment analysis is performed on a consolidated enterprise level based on one reporting unit. The Company has determined that no impairment of goodwill or trademarks existed at December 1, 2013.
Derivatives and Hedging Activities. The Company uses foreign exchange rate derivative instruments in order to reduce exposure to inherent foreign currency fluctuations. While management believes each of these instruments help mitigate various market risks, they are not designated and accounted for as hedges under ASC 815, Derivatives & Hedging, as a result of the extensive recordkeeping requirements of this statement. Accordingly, the gains and losses associated with the change in fair value of similar currency instruments are recorded to selling, general and administrative expense in the period of change. The derivatives are subject to a master netting agreement whereby each currency group of derivatives is netted and the remaining balance, or fair value, is placed on the Consolidated Balance Sheet. The fair value of a derivative asset is recognized within prepaid expenses and other assets, while the fair value of derivative liabilities is recognized within accrued and other liabilities.
Debt. The carrying values of the obligations outstanding under the Working Capital Facility and other long-term obligations, excluding the Senior Secured Notes, approximate fair values since these obligations are fully secured and have varying interest charges based on current market rates. The fair value of the Company’s Senior Secured Notes was 107.0% and 106.5% of face value at December 31, 2013 and 2012, respectively. The fair value of the Senior Secured Notes is measured using the last available trade in each respective year.
Income Taxes. Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the carrying value of assets and liabilities for financial reporting purposes and their tax basis. The measurement of current and deferred tax assets and liabilities is based on provisions of the enacted tax law. The effects of future changes in tax laws or rates are not anticipated. The measurement of deferred tax assets is reduced, if necessary, by the amount of any tax benefits that are not expected to be realized. The Company’s effective tax rate includes the impact of providing U.S. taxes for most of the undistributed foreign earnings because of the applicability of I.R.C. Section 956 for earnings of foreign entities which guarantee the indebtedness of a U.S. parent. See Note 14 - Income Taxes to the consolidated financial statements.
Stock Option Accounting. All share-based payments to employees, including grants of employee stock options, are recognized in the Statements of Operations based on their fair values. See Note 16 - Stock Options and Stock-Based Compensation to the consolidated financial statements.
Revenue Recognition. The Company sells its products with standard terms of sale of FOB shipping point or FOB destination. Revenue is recognized when persuasive evidence of an arrangement exists, the seller’s price is fixed and determinable, and collectability is reasonably assured.
The Company sponsors a number of annual incentive programs to augment distributor sales efforts including certain rebate programs and sales and market share growth incentive programs. Rebate programs established by the Company are communicated to distributors at the beginning of the year and are earned by qualifying distributors based on increases in purchases of identified product categories and based on relative market share of the Company’s products in the distributor’s service area. The estimated rebate costs are accrued throughout the year and recorded as a reduction of revenue. Rebates are paid periodically during the year.
Terms of sale generally include 30-day payment terms, return provisions and standard warranties for which reserves, based upon estimated warranty liabilities from historical experience, have been recorded. For a product that is returned due to issues outside the scope of the Company’s warranty agreements, restocking charges will generally be assessed.
One customer comprised 11%, 10% and 12% of the Company’s global sales for the years ended December 31, 2013, 2012 and 2011, respectively. The Company’s top five distributors comprised 27% , 27% and 29% of its global net sales for the years ended December 31, 2013, 2012 and 2011, respectively.
Product Warranty Programs. Various products are sold with product warranty programs. Provisions for warranty programs are made as the products are sold and adjusted periodically based on current estimates of anticipated warranty costs. The following table provides the activity in the warranty accrual:
Research and Development. Research and development is conducted in connection with new product development and includes costs of materials used in the development process and allocated engineering personnel costs. Research and development costs were approximately $4,500, $4,600 and $4,200 for the years ended December 31, 2013, 2012 and 2011, respectively. These costs are reflected in selling, general & administrative expenses as incurred.
Foreign Currency Translation. Local currencies have been designated as the functional currencies for all operating subsidiaries. Accordingly, assets and liabilities of the international subsidiaries are translated at the rates of exchange at the balance sheet dates. Income and expense items of these subsidiaries are translated at average monthly rates of exchange.
Accumulated Other Comprehensive Income. Accumulated other comprehensive income refers to net income adjusted by gains and losses that, according to GAAP, are excluded from net income and are instead included in stockholders’ equity in the consolidated balance sheets. As shown in the Statement of Comprehensive Income, these items include foreign currency translation adjustments and pension and post-retirement benefit plan adjustments. For the year ended December 31, 2013, these amounts are net of deferred income taxes of $4,646 for cumulative foreign currency translation loss and $3,354 for pension and post-retirement benefit plan gain.
Effect of New Accounting Standards
In July 2013, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2013-11, "Income Taxes (Topic 740)" ("ASU 2013-11"). ASU 2013-11 is intended to clarify the presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. An unrecognized tax benefit, or a portion of an unrecognized tax benefit, should be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward, except in certain circumstances. To the extent a carryforward is not available at the reporting date or the tax law of the applicable jurisdiction does not require the entity to use, and the entity does not intend to use, the deferred tax asset for such purpose, the unrecognized tax benefit should be presented in the financial statements as a liability. ASU No. 2013-11 is effective prospectively to all unrecognized tax benefits that exists at the effective date for fiscal years beginning after December 15, 2013, with early adoption permitted. The adoption of ASU 2013-11 is not expected to have a material impact on the Company's consolidated financial statements.
In February 2013, the FASB issued ASU No. 2013-02, "Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income." ASU 2013-02 requires an entity to disclose either on the face of or in the notes to the financial statements the effects of reclassifications out of accumulated other comprehensive income ("AOCI"). For items reclassified out of AOCI and into net income in their entirety, an entity must disclose the effect of the reclassification on each affected net income item. For items that are not reclassified in their entirety into net income, an entity must provide a cross reference to the required U.S. GAAP disclosures. This ASU does not change the items currently reported in other comprehensive income and is effective for annual periods beginning after December 15, 2012 and interim periods within those years. The adoption of these provisions does not impact the Company's financial condition or results of operations.
3. Acquisitions
Gas-Arc Group Limited. On October 31, 2013, the Company acquired all of the outstanding share capital of Gas Arc Group Ltd., ("Gas-Arc"), a leader in the design and manufacturing of specialty gas and industrial gas control products based in the United Kingdom. The acquisition price was $39,015, of which $32,831 was paid in October 2013, and the remainder paid in January 2014, of $6,184. The acquisition of Gas-Arc enables us to expand our presence in Europe and leverage strengths in the high purity and medical gas control markets globally.
The acquisition is accounted for in accordance with United States accounting guidance for business combinations. Accordingly, the assets acquired and liabilities assumed were recorded at fair value as of October 31, 2013. Transaction related fees and expenditures of $1,871, incurred for advisory, legal, valuation and other professional services were recorded in selling, general and administrative expenses in the Consolidated Financial Statements for the year ended December 31, 2013. The preliminary allocation of purchase price to the assets and liabilities, as of December 31, 2013 has been determined by management with the assistance of externally prepared valuations and studies that have yet to be finalized. Accordingly, the assets acquired and liabilities assumed, as detailed below, are subject to adjustment once the detailed analysis are completed. The adjustments, if any, arising out of the finalization of the allocation of the purchase price will not impact cash flow.
The Company recognized $13,504 of goodwill and $21,506 of other intangible assets associated with the acquisition. The goodwill is not expected to be deductible for tax purposes. The following table summarizes Intangible assets acquired, excluding Goodwill, as of October 31, 2013:
The Company estimated that the customer relationships, tradenames and non-compete agreement have useful lives of twenty-years, four-years and three-years, respectively.
Unaudited Pro Forma Financial Information
The acquisition of Gas-Arc was accounted for using the acquisition method of accounting and accordingly, the Consolidated Financial Statements include the financial position and results of operations from the date of acquisition. The following unaudited proforma financial information presents the Company's consolidated financial information assuming the acquisition of Gas-Arc had taken place on January 1, 2012. For the 12-months ended December 31, 2012, Gas-Arc had net sales of $13,557 and net income of $1,483. For the 10-months ended, and preceding the October 31, 2013 date of acquisition, Gas-Arc had net sales of $11,534 and net income of $3,941. These amounts are presented in accordance with GAAP, consistent with the Company's accounting policies.
2012 Activity
Robotronic Oy. On July 13, 2012, the Company acquired all of the capital stock of Robotronic Oy, the parent company of ProMotion Controls, Inc., a leading maker of advanced, intelligent CNC controllers used in shape-cutting machines. Cash paid at the time of purchase was $3,498. The total purchase price, net of cash acquired and including the outstanding debt of the companies acquired, as well as an earn-out provision based on specified sales targets, was $4,493. The acquisition was financed with cash on hand. The process of assigning fair value to the assets acquired and liabilities assumed was complete as of December 31, 2012. The Company recognized $3,211 of goodwill associated with the acquisition. The goodwill is not expected to be deductible for tax purposes.
4. Allowance for Doubtful Accounts
The composition of allowance for doubtful accounts at December 31 is as follows:
5. Inventories
The composition of inventories at December 31 is as follows:
The Company uses the Dollar-Value LIFO method to calculate the LIFO adjustment. Under this method, the current year calculation recognized an inventory balance greater than the FIFO method primarily due to a decline in raw material prices below base year (December 2010) values. The Company used the Inventory Price Index Computation (IPIC) method for tax purposes as required by IRS regulations. The base year for tax purposes ranges from 1988 to 1990, resulting in a tax LIFO reserve of $18,495.
The carrying value of inventories accounted for by the last-in, first-out (LIFO) inventory method exclusive of the LIFO reserve at December 31, 2013 and 2012 was $70,109 and $76,819, respectively. The remaining inventory amounts are held in international locations and accounted for using the first-in first-out method.
6. Property, Plant, and Equipment
The composition of property, plant and equipment is as follows:
Assets recorded under capitalized leases were $4,703 ($1,639 net of accumulated depreciation) and $6,769 ($3,337 net of accumulated depreciation) at December 31, 2013 and 2012, respectively.
In the fourth quarter of 2013, we sold a facility in Australia. The net proceeds from the sale were $9,887, resulting in a pre-tax gain of $908.
7. Intangible Assets
The composition of intangible assets is as follows:
During the years ended December 31, 2013 and 2012, the Company added intangibles assets related to acquisitions of $21,576 and $2,253, respectively. The intangibles acquired consist of customer relationships, developed technology, trademarks and a covenant not to compete.
The Company recorded amortization expense for intangibles of $6,805, $6,431 and $6,296 for the years ended December 31, 2013, 2012 and 2011, respectively. Amortization expense for each of the next five fiscal years is expected to approximate $7,812.
Customer Relationships
The Company sells primarily to distributors, who sell the products to end users. Management determined the value of customer relationships with the assistance of an asset appraisal firm, using a multi-period excess earnings approach, which estimates fair value based on earnings and the application of a discounted cash flow methodology. In the application of this method, the nature of the customer relationship, historical attrition rates and the estimated future cash flows of existing customers at the appraisal date were considered.
Intellectual Property Bundles (Including Patents)
The fair value of Victor Technologies' patents, underlying trade secrets and product methodology were determined based on a bundled approach utilizing the Relief from Royalty (“RFR”) Method with the assistance of an asset appraisal firm. Under RFR, the value of the intangible assets reflects the savings realized by owning the intangible assets. The premise associated with this valuation technique is that if the intangible assets were licensed to an unrelated party, the unrelated party would pay a percentage of revenue for the use of the assets. The present value of the future cost savings, or relief from royalty, represents the value of the intangible assets.
Victor Technologies’ intellectual property (IP) bundles were grouped into two main product categories: (1) gas equipment, arc accessories, and plasma cutting and (2) welding, filler metals, and hard facing.
Goodwill
For acquisitions, goodwill is measured as the excess of the consideration transferred over the net amounts of the identifiable assets acquired and the liabilities assumed, all measured in accordance with ASC Topic 805.
The change in the carrying amount of goodwill for the years ended December 31, 2013 and 2012 are as follows:
8. Debt and Capital Lease Obligations
The composition of debt and capital lease obligations is as follows:
Interest of $33,151, $31,230 and $33,980 was paid for years ended 2013, 2012 and 2011, respectively.
Senior Secured Notes due 2017
On December 3, 2010, Merger Sub issued $260,000 in aggregate principal of 9% Senior Secured Notes due 2017 (the “Senior Secured Notes” or the “Notes”) under an indenture by and among Victor Technologies, the guarantors of the Senior Secured Notes and U.S. Bank National Association, as trustee and collateral trustee (the “Indenture”). The net proceeds from this issuance, together with funds received from the equity investments made by affiliates of IPC, its co-investors and certain members of Victor Technologies management, were used to finance the Acquisition of Victor Technologies, to redeem the Senior Subordinated Notes due 2014, and to pay the transaction related expenses. The Notes bear interest at a rate of 9% per annum, which is payable semi-annually in arrears on June 15 and December 15, commencing on June 15, 2011. Interest is computed on the basis of a 360-day year comprised of twelve 30-day months. The Notes will mature on December 15, 2017.
The Senior Secured Notes are fully and unconditionally guaranteed, jointly and severally, by each of Victor Technologies’ existing and future domestic subsidiaries and by its Australian subsidiaries Victor Technologies Australia Pty Ltd. and Cigweld Pty Ltd. The Senior Secured Notes and guarantees are secured, subject to permitted liens and except for certain excluded assets, on a first priority basis by substantially all of Victor Technologies’ and the guarantors’ current and future property and assets (other than accounts receivable, inventory and certain other related assets that secure, on a first priority basis, Victor Technologies’ and the guarantors’ obligations under Victor Technologies’ Working Capital Facility (as defined below)), including the capital stock of each subsidiary of Victor Technologies (other than immaterial subsidiaries), which, in the case of non-guarantor international subsidiaries, is limited to 65% of the voting stock and 100% of the non-voting stock of each first-tier international subsidiary, and on a second priority basis, by substantially all the collateral that secures the Working Capital Facility on a first priority basis.
The Senior Secured Notes and the guarantees rank equal in right of payment with any of Victor Technologies' and the guarantors’ senior indebtedness, including indebtedness under the Working Capital Facility. The Notes and the guarantees rank senior in right of payment to any of the Company’s and the guarantors’ existing and future indebtedness that is expressly subordinated to the Notes and the guarantees and are effectively senior to any unsecured indebtedness to the extent of the value of the collateral for the Notes and the guarantees. The Notes and the guarantees will be effectively junior to the Company’s and the guarantors’ obligations under the Working Capital Facility to the extent the Company’s and the guarantors’ assets secure such obligation on a first priority basis and are effectively junior to any secured indebtedness that is either secured by assets that are not collateral for the Notes and the guarantees or secured by a prior lien in the collateral for the Notes and the guarantees, in each case, to the extent of the value of the assets securing such indebtedness.
On or after December 15, 2013, Victor Technologies may redeem all or a part of the Senior Secured Notes at redemption prices set forth in the Indenture (expressed as a percentage of principal amount of Notes to be redeemed) ranging from 106.75% to 100%, depending on the date of redemption. At any time prior to December 15, 2013, the Company could redeem, subject to applicable notice and other requirements:
•
during each twelve-month period commencing with the issue date, up to 10% of the original aggregate principal amount of Notes at a redemption price of 103%;
•
all or a part of the Notes at a redemption price equal to 100% of the principal amount of Notes to be redeemed plus a “make-whole” premium, as determined in accordance with the Indenture; and
•
on one or more occasions, at its option, up to 35% of the original aggregate principal amount of Notes issued, at a redemption price of 109% of the aggregate principal amount of the Notes to be redeemed, with the net cash proceeds of one or more equity offerings of Victor Technologies or any of its direct or indirect parents to the extent such proceeds are received by or contributed to Victor Technologies.
In addition to the applicable redemption prices, for each redemption the Company must also pay accrued and unpaid interest and special interest, if any, to but excluding the applicable redemption date. If the Company sells certain assets or experiences specific kinds of changes of control, it must offer to repurchase the Notes.
On December 12, 2013, the Company redeemed $33,000, or 9.17%, of outstanding principal amount of Senior Secured Notes at a price of 103%, plus accrued and unpaid interest, recognizing a loss of $2,463.
The Senior Secured Notes contain customary covenants and events of default, including covenants that, among other things, limit the Company’s and its restricted subsidiaries’ ability to incur additional indebtedness, pay dividends on, repurchase or make distributions in respect of its capital stock or make other restricted payments, make certain investments, loans or advances, sell, transfer or otherwise convey certain assets, and create liens.
Upon a change of control, as defined in the Indenture, each holder of the Senior Secured Notes has the right to require the Company to purchase the Senior Secured Notes at a purchase price in cash equal to 101% of the principal, plus accrued and unpaid interest.
On March 6, 2012, the Company issued $100,000 in aggregate principal amount of 9% Senior Secured Notes due 2017 (the “Additional Notes”) at par plus accrued but unpaid interest since December 15, 2011. The Additional Notes mature on December 15, 2017 and were issued as “additional notes” pursuant to the Indenture. Prior to the issuance of the Additional Notes, $260,000 aggregate principal amount of 9% Senior Secured Notes due 2017 were outstanding (the “Original Notes” and together with the Additional Notes, the “Notes”). The Indenture provides that the Additional Notes are general senior secured obligations of the Company and are fully and unconditionally guaranteed on a senior secured basis by each of our existing and future domestic subsidiaries (other than immaterial subsidiaries) and certain of our Australian subsidiaries. The Original Notes and the Additional Notes are treated as a single series under the Indenture and are therefore subject to the same terms, conditions and rights under the Indenture.
On February 27, 2012, the Company, the guarantors party to the Indenture and the Trustee entered into the First Supplemental Indenture to amend the terms of the Indenture to modify the restricted payments covenant to increase the restricted payments basket to $100,000 in order to permit the Company to use the proceeds of the Additional Notes to pay a cash dividend of $93,507 to the Company’s parent company to allow it to redeem a portion of its outstanding Series A preferred stock and to pay fees and expenses related to the offering of the Additional Notes and the related consent solicitation required to amend the Indenture in connection with the offering. The First Supplemental Indenture became operative on March 6, 2012 upon the issuance of the Additional Notes, at which time the Company made a cash payment of $20 per $1,000 in principal amount of Original Notes, or a total aggregate payment of $5,200, to Holders of such notes in connection with the solicitation of consents to amend the Indenture. This cash payment, or consent fee, is included as a debt discount in the carrying value of the Notes and is amortized using the effective interest method over the life of the debt.
Working Capital Facility
On December 3, 2010, Victor Technologies entered into a Fourth Amended and Restated Credit Agreement (the “GE Agreement”) with General Electric Capital Corporation as lender and administrative agent (the “Working Capital Facility”). The Working Capital
Facility provides for borrowings not to exceed $60,000, including up to $10,000 for letters of credit and swingline loans, subject to borrowing base capacity. Provided that no default is then existing or would arise therefrom, Victor Technologies has the option to increase commitments under the Working Capital Facility by up to $25,000.
On October 30, 2013, the Company entered into an amendment (the "Amendment") to the Fourth Amended and Restated Credit Agreement, dated as of December 3, 2010 (the "Credit Agreement") with General Electric Capital Corporation. Pursuant to the terms of the Amendment, (i) the Gas-Arc acquisition was specifically designed as a "Permitted Acquisition" (as defined in the Credit Agreement), (ii) the Company modified certain covenants applicable to it, including those relating the investments and prepayments or redemptions of other indebtedness, to provide for greater flexibility going forward and (iii) the maturity date with respect to the Credit Agreement was extended by one year. Transaction related costs of $152 were incurred in connection with the Amendment. The Company remains in compliance with all debt covenants. The Working Capital Facility expires on December 2016.
The Indenture governing the Senior Secured Notes limits the aggregate principal amount outstanding at any one time under the Working Capital Facility to the greater of $60,000 or the borrowing under the borrowing base capacity determined as:
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85% of the aggregate book value of eligible accounts receivable consisting of the receivables from U.S., Canadian, and Australian-based customers; plus
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the lesser of (a) 85% of the aggregate net orderly liquidation value of eligible inventory consisting of the U.S. and Australian-based inventories (subject to certain reserves and adjustments) multiplied by a percentage representing the net orderly liquidation value of the book value of such inventory and (b) 65% of the aggregate book value of the sum of the eligible inventory.
For the first six months following the closing date of the Acquisition, borrowings under the Working Capital Facility bore interest at a rate per annum of LIBOR, plus 2.75%. Thereafter, the applicable margins under the Working Capital Facility will adjust based on average excess borrowing availability under the Working Capital Facility. If the average excess borrowing availability is greater than or equal to $25,000, the applicable interest rate will be LIBOR plus 2.75%. If the average excess borrowing availability is less than $25,000, the applicable margin will be LIBOR plus 3.0%. Victor Technologies has the option to have borrowings bear interest at a base rate plus applicable margins as set forth in the GE Agreement.
Commitment fees are payable in respect of unutilized commitments at (i) 0.75% per annum if outstanding loans and letters of credit are less than 50% of the aggregate amount of such commitments or (ii) 0.50% if the outstanding loans and letters of credit are greater than 50% of the aggregate amount of such commitments.
If at any time the aggregate amount of outstanding loans (including swingline loans), unreimbursed letter of credit drawings and undrawn letters of credit under the Working Capital Facility exceeds the lesser of (i) the aggregate commitments under the Working Capital Facility and (ii) the borrowing base, the Company will be required to repay outstanding loans and then cash collateralize letters of credit in an aggregate amount equal to such excess, with no reduction of the commitment amount.
All obligations under the Working Capital Facility are unconditionally guaranteed by Holdings and substantially all of the Company’s existing and future, direct and indirect, wholly-owned domestic subsidiaries and its Australian subsidiaries Victor Technologies Australia Pty Ltd. and Cigweld Pty Ltd. The Working Capital Facility is secured, subject to certain exceptions, by substantially all of the assets of the guarantors and Holdings, including a first priority security interest in substantially all accounts receivable and other rights to payment, inventory, deposit accounts, cash and cash equivalents and a second priority security interest in all assets other than the Working Capital Facility collateral.
The Working Capital Facility has a minimum fixed charge coverage ratio test of 1.10 to 1 if the excess availability under the Facility is less than $9,000 (which minimum amount will be increased or decreased proportionally with any increase or decrease in the commitments thereunder). In addition, the Working Capital Facility includes negative covenants that limit the Company’s ability and the ability of Holdings and certain subsidiaries to, among other things: incur, assume or permit to exist additional indebtedness or guarantees; grant liens; consolidate, merge or sell all or substantially all of the Company’s assets; transfer or sell assets and enter into sale and leaseback transactions; make certain loans and investments; pay dividends, make other distributions or repurchase or redeem the Company’s or Holdings’ capital stock; and prepay or redeem certain indebtedness.
At December 31, 2013, borrowings outstanding under the Working Capital Facility were $22,336 and the unused availability, net of $1,142 in outstanding letters of credit, was $22,748.
The Company's weighted average interest rate on its short-term borrowings was 4.00% for the year ended December 31, 2013. There were no borrowings under the Working Capital Facility during the year ended December 31, 2012. The Company’s weighted average interest rate on its short-term borrowings was 4.78% for the year ended December 31, 2011.
In connection with the Additional Notes offering, GE Capital Corporation agreed to amend the credit agreement to allow the Company, among other things, to issue the Additional Notes and use the net proceeds as described above. The amendment became effective concurrently with the consummation of the offering of Additional Notes on March 6, 2012.
Covenant Compliance
Failure to comply with the Company’s financial covenants in future periods would result in defaults under the Company’s credit agreements unless covenants are amended or defaults are waived. The most restrictive financial covenant is the “fixed charge coverage” covenant under the Working Capital Facility, which requires cash flow, as defined, to be at least 1.10 of fixed charges, as defined. Compliance is measured quarterly based on the trailing four quarters. A default under the Working Capital Facility would constitute a default under the Senior Secured Notes.
At December 31, 2013, the Company was in compliance with its financial covenants and expects to remain in compliance.
Senior Subordinated Notes Due 2014
On February 1, 2011, the Company utilized $183,685 of Trusteed Assets to redeem in full $176,095 of the Senior Subordinated Notes due 2014 plus a call premium and accrued interest. The Trust to fund the redemption was established at the time of the Acquisition.
9. Derivative Instruments
As part of the Company’s ongoing operations, the Company is exposed to foreign exchange currency rates. To manage these risks, the Company enters into certain foreign exchange rate derivative instruments pursuant to established policies. The Company enters into these instruments with two major commercial banks as counterparties. The Company does not enter into derivatives for trading or speculative purposes.
All derivatives are recognized at fair value on the Company’s Consolidated Balance Sheets. The cash flows from settled derivative contracts are recognized in operating activities in the Company’s Consolidated Statements of Cash Flows. The gains and losses associated with the change in fair value of the instruments are recorded to selling, general and administrative expense in the period of change.
The notional amount of open foreign exchange derivative instruments at December 31, 2013 and 2012 was $21,607 and $15,313, respectively. The fair values of these contracts were not material to the consolidated financial statements as of and for the years ended December 31, 2013 and 2012, respectively.
As of December 31, 2013, the maximum length of time of the foreign exchange rate derivative instruments the Company has entered into is six months.
The maximum amount of loss due to the credit risk of the counterparties, should the counterparties fail to perform according to the terms of the contracts, includes an immaterial collateral deposit and the forfeiture of any unrealized gains. The Company does not expect the counterparties to fail to meet their obligations.
10. Fair Value Measurements
The Company determines fair value utilizing a three-level fair value hierarchy that prioritizes the inputs used to measure fair value. The fair value hierarchy gives the highest priority to quoted market prices (Level 1) and the lowest priority to unobservable inputs (Level 3). The three levels of inputs used to measure fair value are as follows:
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Level 1 - quoted prices in active markets for identical assets or liabilities accessible by the reporting entity.
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Level 2 - observable inputs other than quoted prices included in Level 1, such as quoted prices for similar assets and liabilities in active markets; quoted prices for identical or similar assets and liabilities in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
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Level 3 - unobservable inputs for an asset or liability. Unobservable inputs should only be used to the extent observable inputs are not available.
There were no transfers between Levels 1, 2, or 3 fair value measurements during the years ended December 31, 2013, 2012 and 2011. The Company has various financial instruments, including cash and cash equivalents, short and long-term debt and forward contracts. While these financial instruments are subject to concentrations of credit risk, the Company has minimized this risk by entering into these arrangements with a diversified group of highly-rated counterparties. The Company does not expect any counterparties to fail to meet their obligations.
The fair value of cash and cash equivalents, accounts receivable and accounts payable approximated fair value due to the short-term nature of these instruments at both December 31, 2013 and 2012. See Note 2 - Significant Accounting Policies for the fair value estimate of debt and Note 10 - Derivative Instruments for the fair value of the derivative instruments, which are both considered Level 1 inputs. Also, see Note 18 - Employee Benefits Plans for the fair value of the pension plans' assets.
11. Leases
Future minimum lease payments under leases with initial or remaining non-cancelable lease terms in excess of one year at December 31, 2013 are as follows:
Rent expense under operating leases amounted to $8,985, $10,344 and $9,561 for the years ended December 31, 2013, 2012 and 2011, respectively.
12. Restructuring
Program implemented in 2013
During 2013, the Company committed to a restructuring plan that included exit activities at its Melbourne, Australia manufacturing location. These exit activities, which were completed in 2013, impacted approximately 45 employees and were intended to reduce the Company’s fixed cost structure and better align its Asia-Pacific manufacturing and distribution footprint.
The following provides a summary of the total restructuring costs incurred during 2013:
Employee termination benefits primarily include severance payments to employees impacted by exit activities as well as pension curtailment and settlement losses. Other restructuring costs include expenses to relocate certain individuals and equipment to other manufacturing locations and employee training costs.
The following is a detail of the liabilities associated with the restructuring activities during 2013, which are reported as a component of accrued and other liabilities in the accompanying consolidated balance sheet as of December 31, 2013:
Programs implemented prior to 2013
In 2011, the Company committed to restructuring plans that include exit activities at manufacturing sites in West Lebanon, New Hampshire and Pulau Indah, Selangor, Malaysia. These exit activities impacted approximately 188 employees and were intended to reduce the Company’s fixed cost structure and better align its global manufacturing and distribution footprint.
The following provides a summary of restructuring costs incurred for the years ended December 31, 2013, 2012 and 2011, respectively, and the total expected restructuring costs associated with these activities by major type of cost:
Employee termination benefits primarily include severance and retention payments to employees impacted by exit activities. Other restructuring costs include changes to the lease terms of the impacted facility, expense to relocate certain individuals and equipment to other manufacturing locations and employee training costs.
The following is a rollforward of the liabilities associated with the restructuring activities since the inception of the plan. The liabilities are reported as a component of accrued and other liabilities in the accompanying consolidated balance sheet as of December 31, 2013 and 2012, respectively.
The remaining payments for these exit activities are primarily related to severance benefits for employee terminations expected at the end of June 2014.
13. Income Taxes
Income (loss) before income taxes was allocated under the following jurisdictions:
The provision (benefit) for income taxes is as follows:
The composition of deferred tax assets and liabilities at December 31 is as follows:
Income taxes paid for the years ended December 31, 2013, 2012 and 2011 was $4,107, $8,975 and $8,329, respectively.
The provision for income tax differs from the amount of income taxes determined by applying the applicable U.S. statutory federal income tax rate to pretax income as a result of the following differences:
As a result of the Company’s bankruptcy restructuring in 2003, the Company recognized cancellation of indebtedness income. Under Internal Revenue Code Section 108, this cancellation of indebtedness income is not recognized for income tax purposes, but reduced various tax attributes, primarily the tax basis in the stock of a subsidiary, for which a deferred tax liability was recorded.
As of December 31, 2013, the Company has net operating loss carryforwards from the years 2003 through 2010 available to offset future U.S. taxable income of approximately $95,486. The Company has recorded a related deferred tax asset of $40,853 with a
$1,686 valuation allowance, given the uncertainties regarding utilization of a portion of these net operating loss carryforwards. The net operating losses in the U.S. will expire between the years 2022 and 2030. The Company adopted Accounting Standards Codification (“ASC”) Topic 805, "Business Combinations," effective January 1, 2009, which establishes principles and requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, any non-controlling interest in the acquiree and the goodwill acquired. After adoption of this pronouncement, the benefit of net operating loss carryovers reduces income tax expense as the carryovers are utilized.
The Company’s policy is to include both interest and penalties on uncertain positions and underpayments of income taxes in its income tax provision. Total interest accrued was $317 and $331 as of December 31, 2013 and 2012, respectively. No penalties were accrued for either date by the Company.
A reconciliation of the Company’s Reserve for Uncertain Tax Positions is as follows:
The Company did not make any payments related to the Reserve for Uncertain Tax Positions in 2013. The $255 of reductions for 2013 reduced the 2013 income tax provision expense and the $272 of reductions for 2012 reduced the 2012 income tax provision expense. The Company does not expect to make payments related to the Reserve for Uncertain Tax Positions in the next twelve months.
The Company’s U.S. federal income tax returns for tax years 2010 and beyond remain subject to examination by the Internal Revenue Service. The Company’s state income tax returns for 2009 through 2013 remain subject to examination by various state taxing authorities. The Company’s significant foreign subsidiaries’ local country tax filings remain open to examination as follows: Australia (2009-2013), Canada (2008-2013), United Kingdom (2007-2013) and Italy (2006-2013). No extensions of the various statutes of limitations have currently been granted.
The Company’s foreign subsidiaries have undistributed earnings at December 31, 2013 of approximately $33,360. The Company has recognized the estimated U.S. income tax liability associated with approximately $21,140 of these foreign earnings because of the applicability of I.R.C. Section 956 for earnings of foreign entities which guarantee the indebtedness of a U.S. parent. Upon distribution of those earnings in the form of dividends or otherwise, the Company may be subject to withholding taxes payable to the various foreign countries estimated as $1,216.
14. Contingencies
The Company is party to certain environmental matters, although no claims that would be reasonably likely to have a material adverse effect on the Company's financial condition or results of operations are currently pending. All other legal proceedings and actions involving the Company are of an ordinary and routine nature and are incidental to the operations of the Company. Management believes that such proceedings should not, individually or in the aggregate, have a material adverse effect on the Company’s business or financial condition or on the results of operations.
In January 2014, the U.S. Environmental Protection Agency (the "EPA") issued Special Notice Letters to over 400 entities, including the Company, alleging that they, along with over 100 potentially responsible parties ("PRPs") who received General Notice Letters in November 2011, are PRPs at the Chemetco Superfund site in Hartford, Illinois. As a PRP, we may be responsible to pay a portion of the costs of developing a Remedial Investigation and Feasibility Study ("RI/FS") for this site and the ultimate cleanup of hazardous materials located at this site. Based on currently known facts and circumstances relating to this site, including the amount of materials contributed by the Company, the number of other PRPs who will likely share in any RI/FS and cleanup costs and their respective contributions, and the ongoing investigation into other potential PRPs who contributed materials to this site, the Company does not have sufficient facts on which it may estimate its liability related to this site. The Company believes this matter will not have a material adverse effect on its results of operations, financial position or cash flows. It is possible that additional information may be determined and other future developments may arise that expand the scope and cost of remediation at this site and that, as a result, the Company could incur obligations that may be material.
On April 12, 2012, a Resolution Agreement (the “Agreement”) became binding upon the Company, on behalf of itself and its subsidiaries, and a number of other defendants, which resolved all pending claims related to welding fumes against the Company by all plaintiffs who have signed a release of claims under the Agreement. In connection with the Agreement, the Company did not admit any fault, wrongdoing, or liability with respect to the plaintiffs’ claims. Pursuant to the terms of the Agreement and the releases, each signing plaintiff accepted his or her claim under the Agreement as full and final resolution of his or her welding
fume claims, agreed to execute and deliver valid and binding releases and stipulations of dismissal with prejudice to the defendants, and consented to participate in the structured private resolution program established pursuant to the Agreement. In accordance with the Agreement, on April 20, 2012, the Company paid $500 in full satisfaction of its obligation to fund its portion of this private resolution program, which was established by plaintiffs’ counsel and in an aggregate amount, including contributions from other defendants, of $21,500. The Company’s obligations under the Agreement are limited to its partial funding of the private resolution program, and the Company has no responsibility for or role in staffing, administering, or operating such program.
15. Stock Options and Stock-Based Compensation
Holdings adopted the Victor Technologies Group, Inc. 2010 Equity Incentive Plan (the "2010 Equity Plan") on December 2, 2010. The 2010 Equity Plan provides officers, directors and employees of Holdings and its subsidiaries and affiliates, including the Company, with appropriate incentives and rewards through a proprietary interest in the long-term success of Holdings. The 2010 Equity Plan permits the distribution of up to 619,959 authorized shares of the Holdings’ common stock. Options become exercisable ratably over a five year period and expire ten years after the grant date. The Board of Directors of Holdings administers and determines the terms of all stock awards made under the 2010 Equity Plan.
Stock-based compensation expense for stock option awards is based upon the grant-date fair value using the Black-Scholes option pricing model. The following table shows the weighted-average assumptions used to calculate the fair value of stock option awards using the Black-Scholes option pricing model, as well as the weighted-average fair value of options granted:
Stock compensation cost included in selling, general and administrative expense for the years ended December 31, 2013, 2012 and 2011was $1,289, $963 and$570, respectively. Total stock-based compensation cost related to non-vested awards not yet recognized as of December 31, 2013, was approximately $4,254 and the weighted average period over which this amount is expected to be recognized was approximately 2.2 years.
The Company generally uses historical data to estimate option exercise and employee termination within the valuation model. The expected term of options granted represents the period of time that options granted are expected to be outstanding; the weighted-average expected term for all employee groups is presented in the following table. In calculating the expected term, the Company uses a simplified method for a portion of the grant of options in which the strike price is equal to the stock price. For grants of options with the strike price above the stock price, the Company used the expected life of the option as the expected term. The risk-free rate for periods within the contractual life of the options is based on the U.S. Treasury yield curve in effect at the time of grant. Stock option expense is recognized ratably over the applicable vesting period based on the number of options that are expected to ultimately vest.
Stock option activity for the year ended December 31, 2013 is as follows:
As of December 31, 2013, there were 284,673 options vested. The total intrinsic value of options exercised for the years ended December 31, 2013 and 2012 was $146 and $100, respectively. There were no exercises of options during the year ended December 31, 2011.
Following is a summary of stock options outstanding as of December 31, 2013:
16. Segment Information
The Company’s operations are comprised of several product lines manufactured and sold in various geographic locations. The market channels and end users for products are similar. The production processes are shared across the majority of the products. Management evaluates performance and allocates resources on a combined basis and not as separate business units or profit centers. Accordingly, management has concluded the Company operates in one reportable segment.
Geographic Information
Reportable geographic regions are the Americas, Asia-Pacific and Europe/Rest of World (ROW). Summarized financial information concerning the Company’s geographic segments for its operations is shown in the following tables:
For the years ended December 31, 2013, 2012 and 2011, U.S. sales comprised 83%, 84% and 84% of America’s sales, respectively, while Australia sales comprised 68%, 74% and 74% of Asia-Pacific sales, respectively.
Long-lived assets (excluding goodwill, intangibles and deferred taxes) are as follows:
Product Line Information
The Company sells a variety of products, substantially all of which are used by manufacturing, construction and foundry operations to cut, join and reinforce steel, aluminum and other metals in various applications including construction, oil, gas rig and pipeline construction, repair and maintenance of manufacturing equipment, and shipbuilding. The following table shows sales for each of the Company’s key product lines:
17. Employee Benefit Plans
Defined Contribution Plans:
401(k) Retirement Plan. The Company has a voluntary 401(k) employee benefit plan which covers substantially all eligible domestic employees. The Company matches 50% of an employee's contribution to the plan up to a maximum contribution of 3.0% of the employee's eligible compensation, with a supplemental matching contribution based on financial performance. Total expenses for this plan were $1,065, $1,179 and $961 for the years ended 2013, 2012 and 2011, respectively.
Australian Defined Contribution Plan. The Company’s Australian subsidiary has a defined contribution plan, which covers all of its employees not in its defined benefit plan, except as discussed below. The Company, in accordance with Australian law, contributes 9% of each eligible employee’s compensation to this plan. Total expenses for this plan were $391, $370 and $330 for the years ended 2013, 2012 and 2011, respectively.
Defined Benefit Plans: The Company has defined benefit plans in the U.S., Canada and Australia. The Company’s U.S. subsidiaries historically provided pension benefits through three noncontributory defined benefit pension plans which covered substantially all U.S. employees. The Company froze and combined the three U.S. noncontributory defined benefit pension plans through amendments to such plans effective December 31, 1989, into one plan (the “U.S. Plan”). All former participants of these plans became eligible to participate in the 401(k) Retirement Plan effective January 1, 1990. The Canadian subsidiary has a defined benefit plan which covers substantially all of the Company’s Canadian employees, and continues to provide pension benefits to these employees. The Company’s Australian subsidiary has a Superannuation Fund (the “Fund”) established by a Trust Deed, which provides defined pension benefits to the Company’s Australian employees and was closed to new participants effective July 1, 2000. The Fund’s pension benefits are funded through mandatory participant contributions and the Company’s actuarially determined contributions. Weekly paid or award governed employees that participate in the Fund also get a 3% Company paid contribution into the Fund.
Net periodic costs under the defined benefit plans include the following components:
The following tables provide a reconciliation of benefit obligations, plan assets and status of the defined benefit pension plans as recognized in the consolidated balance sheets for the U.S., Canadian Plans and the Australian Plan for the years ended December 31, 2013 and 2012, respectively.
The defined benefit discount rate assumption is used to determine the benefit obligation and the interest portion of the net periodic pension cost (credit) for the following year. The Company, with the assistance of its actuaries, utilized the Citigroup Pension Discount Curve for its U.S. Plan, Fiera Capital's CIA Method Accounting Discount Rate Curve for its Canadian subsidiary’s plan, and the average 8-year AA rated corporate bond yield for its Australian Plan (the Fund), and applied plan-specific cash flows to determine an appropriate discount rate for each plan.
The defined benefit pension plans’ weighted average asset allocations by category at December 31, 2013 and 2012 are as follows:
The assets of the U.S. defined benefit pension plan are invested in a manner consistent with the fiduciary standards of the Employee Retirement Income Security Act of 1974 (ERISA); namely, (a) the safeguards and diversity to which a prudent investor would adhere must be present and (b) all transactions undertaken on behalf of the Plan must be for the sole benefit of plan participants and their beneficiaries.
The following table sets forth the pension plans’ assets by level within the fair value hierarchy:
Accounting literature classifies the inputs used to measure fair value into the following hierarchy:
Level 1 - Unadjusted quoted prices in active markets for identical assets or liabilities.
Level 2 - Unadjusted quoted prices in active markets for similar assets or liabilities, or unadjusted quoted prices for identical or similar assets or liabilities in markets that are not active, or inputs other than quoted prices that are observable for the asset or liability.
The expected long-term rate of return on plan assets is 7% for the U.S. and Canadian Plans and 5% for the Fund. In setting these rates, the Company considered the historical returns of the plans’ funds, anticipated future market conditions including inflation and the target asset allocation of the plans’ portfolio.
The required funding for the U.S. Plan, the Canadian Subsidiary’s Plan, and the Fund for the year ending year ending December 31, 2013 is approximately $2,442 .
The following table presents the benefits expected to be paid in the next ten fiscal years:
Other Post-retirement Benefits. The Company has a frozen retirement plan covering certain salaried and non-salaried retired employees, which provides post-retirement health care benefits (medical and dental) and life insurance benefits. The plan provided coverage for retirees and active employees who had attained age 62 and completed 15 years of service as of December 31, 2005. Post-retirement health care portion benefits are partially contributory, with retiree contributions adjusted annually as determined based on claim costs. The post-retirement life insurance benefits are noncontributory. The Company recognizes the cost of post-retirement benefits on the accrual basis as employees render service to earn the benefit, and funds the cost of health care in the year incurred. In 2009, the Company terminated its commitments to provide future supplemental medical benefits for certain retirees.
The Company’s post-retirement benefit plans of healthcare and life insurance benefits had accumulated post-retirement benefit obligations of $1,036 and $1,491, at December 31, 2013 and 2012, respectively, discounted at 3.5% and 2.7% at those respective dates. A one-percentage-point increase (decrease) in the assumed health care cost trend rate at December 31, 2013 would increase (decrease) total service and interest cost by $1 and $(1), and increase (decrease) the post-retirement benefit obligation by $21 and $(20). Net periodic post-retirement cost was $12, $41 and $79 for the years ended December 31, 2013, 2012 and 2011, respectively.
18. Certain Relationships and Transactions
Relationship with Irving Place Capital
Victor Technologies is a wholly-owned subsidiary of Holdings. Affiliates of Irving Place Capital, along with its co-investors, held 84.1% and 98.2% of Holdings’ outstanding common stock on a fully diluted basis at December 31, 2013 and 2012, respectively. The Board of Directors of the Company and Holdings includes one IPC member.
IPC has the power to designate all of the members of the Board of Directors of the Company and the right to remove any directors that it appoints.
Management Services Agreement
The Company has entered a management services agreement with IPC. For advisory and management services, IPC will receive annual advisory fees equal to the greater of (i) $1,500 or (ii) 2.5% of EBITDA (as defined under the management services agreement), payable monthly. In the event of a sale of all or substantially all of the Company’s assets to a third-party, a change of control, whether by merger, consolidation, sale or otherwise, or, under certain circumstances, a public offering of the Company’s or any of its subsidiaries’ equity securities, the Company will be obligated to pay IPC an amount equal to the sum of the advisory fee that would be payable for the following four fiscal quarters. Such fees were $2,512, $2,305 and $1,986 for the years ended December 31, 2013, 2012 and 2011, respectively.
In the event of any material corporate transactions, such as an equity or debt offering, acquisition, asset sale, recapitalization, merger, joint venture formation or other business combination, IPC will receive a fee of 1% of the transaction value. IPC will also receive fees in connection with certain strategic services, as determined by IPC, provided such fees will reduce the annual advisory fee on a dollar-for-dollar basis.
Victor Technologies Holdings, Inc. (Holdings)
At December 31, 2013, an aggregate $93,306 in Holdings capital stock was outstanding, which was comprised of 56,981 shares of 8% cumulative preferred stock in the amount of $57,034 and 3,552,435 shares of common stock in the amount of $36,272. On March 6, 2012, the Company paid a cash dividend of $93,507 to Holdings, the sole stockholder of the Company, to allow it to redeem a portion of its outstanding Series A preferred stock, of which payment was funded by the net proceeds from the sale of the Additional Notes and cash on hand. The redemption of Series A preferred stock was completed on March 12, 2012. No further dividends have been declared on either the preferred stock or common stock of Holdings during the years ended December 31, 2013 and 2012.
Holdings’ stock based compensation costs relate to Victor Technologies' employees and were incurred for Victor Technologies' benefit, and accordingly recognized in Victor Technologies' consolidated selling, general & administrative expenses.
19. Quarterly Results of Operations (Unaudited)
The following is a summary of the quarterly results of operations for the years ended December 31, 2013 and 2012.
20. Subsequent Events
Plan of Merger
On February 12, 2014, we announced that we have entered into a definitive agreement to sell Victor to Colfax Corporation (“Colfax”, NYSE: CFX), a global manufacturer of gas- and fluid-handling and fabrication technology products. The all cash transaction values Victor at approximately $947 million, including the assumption of debt, and is subject to customary closing conditions.
21. Condensed Consolidating Financial Statements and Victor Technologies Group, Inc. (Parent) Financial Information
The 9% Senior Secured Notes due 2017 are obligations of, and were issued by, Victor Technologies. Victor Technologies Group, Inc. (parent only) assets at December 31, 2013 are its investments in its subsidiaries and its liabilities are the Senior Secured Notes due 2017. Each guarantor is wholly owned by Victor Technologies. Management has determined the most appropriate presentation is to “push down” the Senior Secured Notes due 2017 to the guarantors in the accompanying condensed financial information, as such entities fully and unconditionally guarantee the Senior Secured Notes due 2017, and these subsidiaries are jointly and severally liable for all payment under these notes. The Senior Secured Notes due 2017 were issued to finance the Acquisition of the Company along with new stockholders’ equity. The guarantor subsidiaries’ cash flow will service the debt.
The following financial information presents the guarantors and non-guarantors of the 9% Senior Secured Notes due 2017 in accordance with Rule 3-10 of Regulation S-X. The condensed consolidating financial information includes the accounts of Victor Technologies Group, Inc. (parent only), and the combined accounts of guarantor subsidiaries and combined accounts of the non-guarantor subsidiaries for the periods indicated. Separate financial statements of the Parent and each of the guarantor subsidiaries are not presented because management has determined such information is not material in assessing the financial condition, cash flows or results of operations of the Company and its subsidiaries. This information was prepared on the same basis as the consolidated financial statements. The Company’s Australian subsidiary is included as a guarantor for all years presented. With respect to the non-guarantor subsidiaries, approximately 80% of the assets and 70% of the sales have been pledged to the guarantor subsidiaries to the holder of the Senior Secured Notes.
VICTOR TECHNOLOGIES GROUP, INC.
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
DECEMBER 31, 2013
(Dollars in thousands)
VICTOR TECHNOLOGIES GROUP, INC.
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
YEAR ENDED DECEMBER 31, 2012
(Dollars in thousands)
VICTOR TECHNOLOGIES GROUP, INC.
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
YEAR ENDED DECEMBER 31, 2011
(Dollars in thousands)
VICTOR TECHNOLOGIES GROUP, INC.
CONDENSED CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME
DECEMBER 31, 2013
(Dollars in thousands)
VICTOR TECHNOLOGIES GROUP, INC.
CONDENSED CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME
YEAR ENDED DECEMBER 31, 2012
(Dollars in thousands)
VICTOR TECHNOLOGIES GROUP, INC.
CONDENSED CONSOLIDATING STATEMENT OF COMPREHENSIVE INCOME
YEAR ENDED DECEMBER 31, 2011
(Dollars in thousands)
VICTOR TECHNOLOGIES GROUP, INC.
CONDENSED CONSOLIDATING BALANCE SHEET
DECEMBER 31, 2013
(Dollars in thousands)
VICTOR TECHNOLOGIES GROUP, INC.
CONDENSED CONSOLIDATING BALANCE SHEET
DECEMBER 31, 2012
(Dollars in thousands)
VICTOR TECHNOLOGIES GROUP, INC.
CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
YEAR ENDED DECEMBER 31, 2013
(Dollars in thousands)
VICTOR TECHNOLOGIES GROUP, INC.
CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
YEAR ENDED DECEMBER 31, 2012
(Dollars in thousands)
VICTOR TECHNOLOGIES GROUP, INC.
CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
YEAR ENDED DECEMBER 31, 2011
(Dollars in thousands)
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.
VICTOR TECHNOLOGIES GROUP, INC.
Date: March 31, 2014
By:
/s/ Jeffrey S. Kulka
Jeffrey S. Kulka
Executive Vice President and Chief Financial Officer
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 and on the dates indicated.
SUPPLEMENTAL INFORMATION TO BE FURNISHED WITH REPORTS FILED PURSUANT TO SECTION 15(d) OF THE ACT BY REGISTRANTS WHICH HAVE NOT REGISTERED SECURITIES PURSUANT TO SECTION 12 OF THE ACT
No annual report relating to the fiscal year ended December 31, 2013 or proxy statement with respect to any annual or other meeting of security holders has been sent to security holders, nor will such information be sent to security holders.
EXHIBIT INDEX
* Management contracts or compensation plans or arrangements in which directors or executive officers are eligible to participate.