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HomeMy WebLinkAboutFinancial Statement .", r,l fJR/cEWA1fRHousE(roPERS II Insituform Technologies USA, Inc. Financial Statements December 31, 2006 and 2005 .:...... F\ I Insituform Technologies USA, Inc. Index December 31,2006 and 2005 Page(s) Report of Independent Auditors.. ...... ..... ....... ..... ............ ..... .......... .............. ................ ... .... ...... ........ ......... 1 Financial Statements Balance Sheets.......... ............... ........ ............................... ..... ...... ......... .... ................. .................... ..... ........... 2 Statements of Income................... ...... .......................... ........ ....... .............. ............ ........... ..................... ....... 3 Statements of Stockholder's Equity ......... ............. ............. ............ ........................................ ....................... 4 Statements of Cash Flows ....... ....... ...... ............. ........ ......... .................... ........ ....................... .......... ............. 5 Notes to Financial Statements..... ............... ........................................ ...................... ....... ...... .... .............. 6-15 fJR/cEWA1fRHOUsF@JPERS II ~,; PricewaterhouseCoopers LLP 800 Market Street St. Louis MO 63101-2695 Telephone (314) 2068500 Facsimile (314) 206 8514 Report of Independent Auditors To the Board of Directors and Shareholders of Insituform Technologies, Inc. r'\i In our opinion, the accompanying balance sheets and the related statements of income, of stockholder's equity and of cash flows present fairly, in all material respects, the financial position of Insituform Technologies USA, Inc., a wholly owned subsidiary of Insituform Technologies, Inc., (the "Company"), at December 31, 2006 and 2005, and the results of its operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America. 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. ~ t..J-f February 23, 2007 f\! 1 r\ The accompanying notes are an integral part of these financial statements. 2 f\ The accompanying notes are an integral part of these financial statements. 3 r The accompanying notes are an integral part of these financial statements. 4 The accompanying notes are an integral part of these financial statements. 5 J Insituform Technologies USA, Inc. Notes to Financial Statements December 31, 2006 and 2005 (' i 1. Description of Business Insituform Technologies USA, Inc. (the "Company") is a wholly owned subsidiary of Insituform Technologies, Inc. ("Insituform" or the "Parent"). The Company specializes in trench less technologies to rehabilitate, maintain and install underground pipes, primarily using the Insituform@ cured-in-place-pipe ("Insituform CIPP") process and operates solely in the United States of America. The Insituform CIPP process utilizes a custom-manufactured tube, or iiner, made of synthetic fiber which is saturated with a thermosetting resin and cured by heat, forming a new rigid pipe within a pipe. 2. Summary of Significant Accounting Policies Accounting Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Certain prior period amounts have been reclassified to conform to current presentation. Significant Customers The Company did not have any customers representing 10% or more of the Company's revenues for the year ended December 31, 2006. r\ Cash and Cash Equivalents The Company classifies highly liquid investments with original maturities of 90 days or less as cash equivalents. Allowance for Doubtful Accounts Management makes estimates of the uncollectibility of accounts receivable. The Company records a reserve for specific accounts to reduce receivables, including contract retainage, to the amount that is expected to be collected. The specific reserves are reevaluated and adjusted as additional information is received. After all attempts to collect the receivable have failed, the receivable is written off against the reserve. Contract Retainage The collection of receivables on construction contracts typically involves contractual provisions which provide for the contract owner to withhold retainage, typically 5% to 10% of the contract amount. Retainage on active contracts is classified as a current asset regardless of the term of the contract. These amounts are typically paid within one year after completion of the contract. Inventories Inventories are stated at the lower of cost (first-in, first-out) or market. Actual cost is used to value raw materials and supplies. Standard cost, which approximates actual cost, is used to value work- in-process, finished goods and construction materials. Standard cost includes direct labor, raw materials, and manufacturing overhead based on practical capacity. r\ Goodwill The Company accounts for its goodwill in accordance with Statement of Financial Accounting Standard No. 142, Goodwill and Other Intangible Assets, which requires that goodwill not be 6 r' Insituform Technologies USA, Inc. Notes to Financial Statements December 31,2006 and 2005 -, amortized but should be tested for impairment annually, or more frequently if circumstances indicate potential impairment. The carrying value of goodwill is assessed for recoverability by management based on an analysis of future expected cash flows from the underlying operations of the Company. The Company is part of a reporting unit at the Parent company level for goodwill impairment purposes. Management retained an independent party to perform a valuation of the reporting unit based on such cash flow information. The Company did not identify any goodwill as being impaired as of December 31, 2006 and 2005, based on the annual impairment analysis. Property and Equipment Property and equipment is recorded at cost. Depreciation on property and equipment is computed using the straight-line method. Estimated useful lives are as follows: Years Buildings and improvements Machinery and equipment Furniture and fixtures Automobiles and trucks 5-40 4-10 3-10 3-10 Upon retirement or sale, the cost of assets disposed of, and the related accumulated depreciation, are removed from the accounts and any resulting gain or loss is reflected in operations. Expenditures for repairs and maintenance costs are expensed as incurred, while expenditures that increase the value or extend the life of the assets are capitalized. r: The Company reviews fixed assets to assess recoverability from future operations whenever events and circumstances indicate that the carrying value may not be recoverable. Impairment losses are recognized in operating results when expected undiscounted future cash flows are less than the carrying value of the assets used or disposed of by sale. If impairment is indicated, the asset value is written down to fair value. Fair Value of Financial Instruments The Company's financial instruments consist primarily of cash and cash equivalents, trade receivables, and trade payables. The book values of these instruments are not materially different from their respective fair values. r Revenues Revenues include construction revenues recognized using the percentage-of-completion method of accounting in the ratio of costs incurred to estimated final costs. Contract costs include all direct material and labor costs and those indirect costs related to contract performance, such as indirect labor, supplies, tools and equipment costs. Since the financial reporting of these contracts depends on estimates, which are assessed continually during the term of these contracts, recognized revenues and profit are subject to revisions as the contract progresses to completion. Revisions in profit estimates are reflected in the period in which the facts that give rise to the revision become known. Factors that can contribute to changes in estimates of contract profitability include, without limitation, site conditions that differ from those assumed in the original bid, the availability and skill level of workers in the geographic location of the project, the availability and proximity of materials, inclement weather and timing and coordination issues inherent in the projects. Contract costs are recorded as incurred and revisions in contract revenue and cost estimates are reflected in the accounting period when known. When estimates indicate that a loss will be incurred on a contract upon completion, a provision for the expected loss is recorded in the period in which the loss becomes evident. Revenue from change orders, extra work, variations in 7 ,~ Insituform Technologies USA, Inc. Notes to Financial Statements December 31,2006 and 2005 r> the scope of work and claims are recognized when realization is reasonably assured, and at estimated recoverable amounts. Equity-Based Compensation Effective for 2006, the Company records expense for equity-based compensation awards, including stock appreciation rights, restricted shares of common stock, performance awards, stock options and stock units based on the fair value recognition provisions contained is SFAS 123(R), Share Based Payment. Fair value of stock option awards is determined using an option pricing model that is based on established principles of financial economic theory. Fair value of restricted share and deferred stock unit awards is determined using the Company's closing stock price on the grant date. Assumptions regarding volatility, expected term, dividend yield and risk-free rate are required for valuation of stock option awards. Volatility and expected term assumptions are based on the Company's historical experience. The risk-free rate is based on a U.S. Treasury note with a maturity similar to the option award's expected term. Discussion of the Company's implementation of SFAS 123(R) is described in Note 9. {' Taxes on Income The Company is included in Insituform's tax return as part of a consolidated group and is jointly and severally liable for taxes of the consolidated group. Insituform allocates taxes to the individual entities based on a pre-tax income (loss) analysis by entity. Based on an allocation from Insituform, the Company had an effective tax rate of 39.4% for the years ended 2006 and 2005, comprised primarily of federal and state statutory rates and other permanent items. Via the allocation from Insituform, the Company provides for estimated income taxes payable or refundable on current year income tax returns, as well as the estimated future taxes attributable to temporary differences and carryforwards, based upon enacted tax laws and tax rates, pursuant to FAS No. 109, Accounting for Income Taxes. All current and deferred taxes are settled through the Due from Parent account included in the accompanying balance sheet. New Accounting Pronouncement In July 2006, the Financial Accounting Standards Board issued FASB Interpretation No. 48 (FIN 48"), Accounting for Uncertainty in Income Taxes, which describes a comprehensive model for the measurement, recognition presentation and disclosure of uncertain tax positions in the financial statements. Under the interpretation, the financial statements will reflect expected future tax consequences of such positions presuming the tax authorities' full knowledge of the position and all relevant facts, but without considering time values. While there can be assurances, the Company does not anticipate a material impact from the adoption of FIN 48, based on the Company's current assessment, which was still in progress at December 31, 2006. 8 t} Insituform Technologies USA, Inc. Notes to Financial Statements December 31,2006 and 2005 (\ 3. Costs and Estimated Earnings on Uncompleted Contracts Costs and estimated earnings on uncompleted contracts consist of the following at December 31, 2006 and 2005: (in thousands) 2006 2005 Costs incurred on uncompleted contracts $ 38,040 $ 28,153 Estimated earnings 5,492 4,455 43,532 32,608 Less - billings to date (39,698) (29,639) $ 3,834 $ 2,969 Included in the accompanying balance sheet Costs and estimated earnings in excess of billings $ 4,419 $ 3,293 Billings in excess of costs and estimated earnings (585) (324) $ 3,834 $ 2,969 Costs and estimated earnings in excess of billings represent work performed, which either due to contract stipulations or lacking required contractual documentation, could not be billed. Substantially all unbilled amounts are expected to be billed and collected within one year. r 4. Property and Equipment Property and equipment consists of the following at December 31, 2006 and 2005: 2005 $ 741 1,296 7,990 204 10,803 449 21 ,483 (12,156) $ 9,327 Depreciation expense for the years ended December 31, 2006 and 2005 was approximately $2.4 million and $1.9 million, respectively. r 9 .. Insituform Technologies USA, Inc. Notes to Financial Statements December 31, 2006 and 2005 (\ 5. Other Assets Other assets are comprised primarily of intangible assets related to license costs, which are being amortized over their estimated useful lives. Intangible assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable. Such impairment tests are based on a comparison of undiscounted cash flows to the recorded value of the assets. If impairment is indicated, the asset value is written down to its fair market value. The Company believes no impairment existed at December 31,2006 and 2005. The Company recognized amortization expense of $0.1 million for each of the years ended December 31, 2006 and 2005. 6. Accounts Payable and Accrued Expenses Accounts payable and accrued expenses consist of the following at December 31, 2006 and 2005: (in thousands) 2006 Accounts payable - trade $ 2,207 Payroll liabilities 575 Other accrued expenses 6,360 $ 9,142 ~ 7. Due from Parent f 2005 $ 2,628 518 5,839 $ 8,985 The Due from Parent account presented in the accompanying balance sheets represents net cash owed from Insituform as of December 31, 2006 and 2005. All customer cash receipts, vendor cash payments, amounts allocated from Insituform to the Company, income taxes attributable to the Company and funding of the Company's payroll are recorded through the Due from Parent intercompany account. All current and deferred taxes are also settled through the Due from Parent account included in the accompanying balance sheet. Certain charges are allocated by Insituform to the Company. The charges included within operating expenses and other expense, net for the years ended December 31, 2006 and 2005 approximated $5.7 million and $1.1 million and $5.4 million and $1.9 million, respectively. The operating expenses allocated by Insituform include costs related to information technology, legal counsel, bonus incentive compensation, corporate accounting, payroll, office facilities and supplies. The other expense, net amounts include interest expense of $1.4 million and $1.7 million for 2006 and 2005 allocated to the Company related to the Revolving Credit Facility and Senior Notes Agreements of the Parent. Debt related to these agreements is recorded by the Parent and is not pushed down to the Company. Total borrowings outstanding, as recorded by the Parent, under the Revolving Facility were $15.5 million at December 31, 2006 and under the Senior Notes Agreements were $80.7 million and $96.4 million at December 31,2006 and 2005, respectively. (' In February 2006, Insituform entered into a new agreement with Bank of America, N.A. pursuant to which Insituform procured a new revolving credit facility, which provides a borrowing capacity of $35.0 million, any portion of which may be used for the issuance of standby letters of credit. The credit facility requires Insituform to pay interest at variable rates based on, among other things, Insituform's consolidated leverage ratio. Insituform is also required to pay the bank a quarterly fee on the unused portion of the credit facility. The credit facility is subject to the same restrictive covenants and default provisions as Insituform's Series A Senior Notes and the Series 2003-A 10 Insituform Technologies USA, Inc. Notes to Financial Statements December 31,2006 and 2005 r\ Senior Notes. The new facility does not require a minimum cash balance. In addition, Insituform also agreed to comply with various other requirements, including financial reporting requirements, as well as a requirement to maintain its principal depository account at Bank of America, N.A. The new credit facility matures on April 30, 2008. Insituform was in compliance with each of their debt covenants as of December 31, 2006. 8. Commitments and Contingencies Leases Insituform leases a number of its administrative operations facilities under noncancellable operating leases expiring at various dates through 2020. In addition, Insituform leases certain construction, automotive and computer equipment on a multi-year, monthly or daily basis. Insituform's rental expense in 2006 and 2005 was $18.5 million and $19.4 million, respectively. At December 31, 2006, Insituform's future minimum lease payments required under the noncancellable operating leases were as follows (in thousands): Minimum Lease Year Payments 2007 $ 13,636 2008 11,346 2009 7,062 r\j 2010 2,639 , , 2011 1,215 Thereafter 1,592 $ 37,490 Litigation Insituform is a party in legal proceedings and potential claims arising in the ordinary course of its business. Management does not believe these matters will materially effect the Company's or Insituform's financial statements. Guarantees Insituform has entered into several contractual joint ventures to develop joint bids on contracts. In these cases, Insituform could be required to complete the partners' portion of the contract if the partner is unable to complete its portion. Insituform is at risk for any amounts for which they could not complete the work and for which a third party contractor could not be located to complete the work for the amount awarded in the contract. Insituform has not experienced material adverse results from such arrangements and foresees no future material adverse impact on financial position, results of operations or cash flows. As a result, neither Insituform nor the Company has recorded a liability on the balance sheet associated with this risk. rJi 11 ~ Insituform Technologies USA, Inc. Notes to Financial Statements December 31,2006 and 2005 r, 9. Stock-Based Compensation On January 1,2006, the Company adopted Statement of Financial Accounting Standards No. 123(R), Share Based Payment. This standard revised the measurement, valuation and recognition of financial accounting and reporting standards for equity-based compensation plans contained in SFAS No. 123, Accounting for Stock Based Compensation. The new standard requires companies to expense the value of employee stock options and similar equity-based compensation awards based on fair value recognition provisions determined on the grant date. The Company adopted SFAS No. 123(R) using the modified prospective transition method, which requires the application of the accounting standard on January 1, 2006, the effective date of the standard for the Company. In accordance with the modified prospective transition method, the Company's consolidated financial statements for prior periods have not been restated to reflect, and do not include, the impact of SFAS No. 123(R). The Company will continue to include tabular, pro forma disclosures in accordance with SFAS No. 148, Accounting for Stock Based Compensation - Transition and Disclosure, for all periods prior to January 1, 2006. The fair value of each option award was estimated on the grant date using the Black-Scholes option pricing model. Assumptions regarding volatility, expected term, dividend yield and risk-rate are required for the Black-Scholes model. Volatility and expected term assumptions are based on the Company's historical experience. The risk-free rate is based on a U.S. treasury note with a maturity similar to the option award's expected term. The assumptions for volatility, expected term, dividend yield and risk-free rate for stock option awards in 2006 and 2005 are presented in the table below: (> i 2006 2005 Volatility Expected term (years) Dividend yield Risk-free rate Turnover 41.7% 4.8 0.0% 4.3% 2.3% 44.0% 5.6 0.0% 4.0% 3.3% Stock options generally have terms of seven to ten years and are required to have an exercise price equal to the market value of the underlying common stock on the date of grant. A summary of option activity in 2006 follows: Weighted Weighted Average Average Remaining Aggregate Exercise Contractual Intrinsic Shares Price Life Value Outstanding at December 31, 2005 59,006 $ 20.18 Granted 15,300 19.41 Exercised (18,369) 15.96 Forfeited/Expires (9,126) 22.41 Outstanding at December 31, 2006 46,811 $ 21.15 4.9 $ 254,611 Exercisable at December 31, 2006 33,111 $ 22.50 4.6 $ 145,419 f" 12 ,. ~ Insituform Technologies USA, Inc. Notes to Financial Statements December 31,2006 and 2005 r OPtions Outstanding Options Exercisable Weighted Average Weighted Weighted Remaining Average Aggregate Average Aggregate Number . Contractual Exercise Intrinsic Number exercise Intrinsic Outstanding Term (Yrs) Price Value Exercisable Price Value . $ . $ . $ . $ 27,450 5.2 17.19 237,857 13,750 16.50 128,665 19,361 4.6 26.77 16,754 19,361 26.77 16,754 46,811 4.9 $ 21.15 $ 254,611 33,111 $ 22.50 $ 145,419 Range of Exercise Price $4 to $10 $10.01 to $20 $20.01 and above Total outstanding The intrinsic values above are based on Insituform's closing stock price of $25.86 on December 29, 2006. The weighted-average grant-date fair value of options awarded during 2006 was $8.13. During 2006, the Company collected $0.3 million from stock option exercises that had a total intrinsic value of $0.2 million. The tax benefit from stock option exercises was recorded by the Parent in additional paid-in capital on the Parent's consolidated balance sheet and as an adjustment from operating activity and as a cash flow from financing activities on the Parent's consolidated statements of cash flows. Under the fair value provisions of SFAS 123(R), the Company recorded pretax expense of approximately $0.1 million related to stock option awards in the year ended December 31, 2006. Unrecognized pretax expense of approximately $35,000 related to stock options is expected to be recognized over the weighted average remaining service period of 0.9 years for awards outstanding at December 31, 2006. r. Restricted Stock Restricted shares of Insituform's common stock are awarded from time to time to executive officers and certain key employees of the Company. Restricted shares are generally subject to a three-year service restriction, and may not be sold or transferred during the restricted period. Restricted stock compensation is recorded based on the stock price on the grant date and charged to expense ratably through the restriction period. Forfeitures cause the reversal of all previous expense recorded as a reduction of current period expense. The following table summarizes information about restricted stock activity during the years ended December 31, 2006 and 2005: 2006 2005 Weighted Weighted Average Average Grant Date Grant Date Shares Fair Value Shares Fair Value 2,200 $ 14.65 5,000 $ 15.65 1,800 19.41 2,200 14.65 (5,000) 15.65 4,000 $ 16.79 2,200 $ 14.65 Outstanding, beginning of period Granted Vested Forfeited Outstanding, end of period r:~1 13 '-.. Insituform Technologies USA, Inc. Notes to Financial Statements December 31, 2006 and 2005 r\ Expense associated with grants of restricted stock and the effect of related forfeitures are presented below (in thousands): 2006 2005 Restricted stock expense $ 15 $ 15 Forfeitures Restricted stock expense, net 15 15 T ax benefit (5) (5) Net expense $ 10 $ 10 Prior Year Equity Compensation Expense Prior to January 1, 2006, the Company applied the recognition and measurement principles of Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations in accounting for stock options. The following table illustrates the effect on net income and earnings per share in the year ended December 31, 2005 had the Company applied the fair value recognition provisions of SFAS No. 123, Accounting for Stock Based Compensation, to equity-based compensation (in thousands, except per-share data): o Net income, as reported Add: Total equity-based compensation (benefit) expense included in net income, net of related tax effects Deduct: Total equity-based compensation expense determined under fair value method for all awards, net of related tax effects Pro forma net loss $ 2005 807 10 $ (66) 751 10. Retirement Plans The Company's parent, Insituform, sponsors a 401 (k) retirement plan that covers all employees who meet certain eligibility requirements. Under the 401 (k) section of the retirement plan, participants may elect to contribute up to 50% of their annual compensation (not to exceed limits established by the Internal Revenue Code) each plan year as "pre-tax" contributions. Insituform provides a matching contribution equal to 100% of employee contributions up to 3% of compensation plus one-half of employee contributions greater than 3%, but not exceeding 5% of compensation. Totallnsituform contributions, including related to the Company, to the 401 (k) plan were approximately $1.8 million and $2.1 million for the years ended December 31, 2006 and 2005, respectively. 11. Subsequent Events r\i On March 29, 2007, Insituform announced plans to exit its tunneling business in an effort to improve Insituform's overall financial performance and to better align operations with Insituform's long-term strategic initiatives. Insituform currently expects to complete its exit of the tunneling business by the end of 2008. Insituform ceased bidding new tunneling contracts on the announcement date. Insituform's overall disposal strategy involves the run-off and completion of all tunneling projects awarded, prior to this date. Insituform expects the on-site work related to 14 t:. Insituform Technologies USA, Inc. Notes to Financial Statements December 31,2006 and 2005 r\ existing jobs to be substantially completed within the next twelve months. Insituform will seek a buyer, or buyers, for Affholder, Inc. and/or it's significant assets. As a result of the exit and disposal activities relating to the closure of its tunneling business, Insituform will incur pre-tax cash charges of up to approximately $8 million, which will include . approximately $4.5 million relating to property, equipment and vehicle lease terminations and buyouts, approximately $2.5 million relating to employee termination benefits and retention incentives and approximately $1 million of other ancillary expenses. These costs will be recorded as incurred in accordance with generally accepted accounting principles. As a result of Insituform's decision to exit the tunneling business, it concluded on March 29, 2007 that certain assets related to that business were impaired, including goodwill. Insituform will recognize a pre-tax, non-cash charge of approximately $9 million during the first quarter of 2007 to reflect the impairment of goodwill and intangible assets. In addition, Insituform will incur pre-tax, non-cash impairment charges of up to approximately $4 million for equipment and other assets during the first and second quarters of 2007. The total amount of cash and non-cash costs expected to be incurred in connection with Insituform's exit of the tunneling business is currently estimated to be approximately $21 million on a pre-tax basis. No amounts related to the tunneling business are included in the accompanying ITI USA financial statements. f"', " 15 ~ Insituform Teduwlogies, ltlG INSITUFORM TECHNOLOGIES USA, INC. * OFFICERS AND DIRECTORS AS OF AUGUST 15, 2007 :Q~CtORS Thomas E. Voss man David F. Morris /"""\ #0' r Alfred L. Woods Interim Chief Executive Officer Thomas E. Vossman Senior Vice President and Chief Operating Officer David F. Morris Senior Vice President, Chief Administrative Officer and Secretar David A. Martin Vice President & Chief Financial Officer H. Douglas Thomas Vice President Timothy R. Minahan Vice President Tim Tousignant Vice President Lynn Osborn Vice President AndrewP. Hay Vice President and Treasurer Joann Smith Assistant Secreta Denise L. Carroll Assistant Secreta Tod O'Donoghue Assistant Secreta Elizabeth A. Kovaly Assistant Secreta Business Address for Officers and Directors: 17988 Edison Avenue Chesterfield, MO 63005 r ~ * A wholly owned subsidiary of Insituform Technologies, Inc.