UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)
x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
	For the Quarterly Period Ended July 31, 2006
	OR
o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
	For the transition period from         to

Commission file number 1-12557

CASCADE CORPORATION

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (503) 669-6300

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer o

Accelerated filer x

Non-accelerated filer o

 

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

The number of shares outstanding of the registrant’s common stock as of August 24, 2006 was 12,602,201.

Forward-Looking Statements

This Form 10-Q, including “Management’s Discussion and Analysis of Financial Condition and Results of Operations” (Item 2) contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. All statements other than statements of historical fact are statements that could be deemed forward-looking statements, including any projections of revenue, gross margin, expenses, earnings or losses from operations, synergies or other financial items; any statements of plans, strategies, and objectives of management for future operations; any statements regarding future economic conditions or performance; any statements of expectation or belief; and any statements of assumptions underlying any of the foregoing. The risks, uncertainties, and assumptions referred to above include, but are not limited to:

·                  Competitive factors in, and the cyclical nature of, the materials handling industry;

·                  Fluctuations in lift truck orders or deliveries;

·                  Availability and cost of raw materials;

·                  General business and economic conditions in North America, Europe, Asia Pacific and China;

·                  Actions by foreign governments;

·                  Assumptions relating to pension and other post-retirement costs;

·                  Foreign currency fluctuations;

·                  Pending litigation;

·                  Environmental matters;

·                  Effectiveness of our capital expenditures and cost reduction initiatives.

We undertake no obligation to publicly revise or update forward-looking statements to reflect events or circumstances that arise after the date of this report.

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PART I—FINANCIAL INFORMATION

Item 1. Financial Statements

CASCADE CORPORATION

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited — in thousands, except per share amounts)

 

		Three Months Ended						Six Months Ended
		July 31						July 31
		2006			2005			2006			2005
Net sales		$	119,376		$	114,966		$	237,150		$	229,481
Cost of goods sold		81,023			78,396			162,108			155,423
Gross profit		38,353			36,570			75,042			74,058
Selling and administrative expenses		19,897			18,927			39,749			37,045
Loss (gain) on disposition of assets		45			1			(617		)	(27		)
Amortization		305			767			607			943
Operating income		18,106			16,875			35,303			36,097
Interest expense		493			698			1,025			1,448
Interest income		(527		)	(170		)	(882		)	(277		)
Other expense (income)		(287		)	65			(321		)	(137		)
Income before provision for income taxes		18,427			16,282			35,481			35,063
Provision for income taxes		6,504			5,532			12,524			12,105
Net income		$	11,923		$	10,750		$	22,957		$	22,958
Basic earnings per share		$	0.95		$	0.87		$	1.83		$	1.87
Diluted earnings per share		$	0.91		$	0.84		$	1.75		$	1.79
Basic weighted average shares outstanding		12,569			12,302			12,555			12,266
Diluted weighted average shares outstanding		13,074			12,856			13,133			12,808

 

The accompanying notes are an integral part of the consolidated financial statements.

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CASCADE CORPORATION

CONSOLIDATED BALANCE SHEETS

(Unaudited - in thousands, except per share amounts)

		July 31			January 31
		2006			2006
ASSETS
Current assets:
Cash and cash equivalents		$	43,849		$	35,493
Marketable securities		22,004			23,004
Accounts receivable, less allowance for doubtful accounts of $1,521 and $1,415		78,336			67,020
Inventories		54,849			56,996
Deferred income taxes		3,550			3,232
Prepaid expenses and other		5,564			5,373
Total current assets		208,152			191,118
Property, plant and equipment, net		76,452			75,374
Goodwill		79,753			78,820
Deferred income taxes		12,803			11,851
Other assets		4,014			4,120
Total assets		$	381,174		$	361,283
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Notes payable to banks		$	4,389		$	4,741
Current portion of long-term debt		12,593			12,681
Accounts payable		22,475			25,124
Accrued payroll and payroll taxes		9,091			8,710
Accrued environmental expenses		979			984
Income taxes payable		337			2,373
Other accrued expenses		10,371			11,543
Total current liabilities		60,235			66,156
Long-term debt, net of current portion		12,500			12,500
Accrued environmental expenses		6,261			6,951
Deferred income taxes		3,959			4,009
Other liabilities		12,934			12,261
Total liabilities		95,889			101,877
Commitments and contingencies (Note 8)
Shareholders’ equity:
Common stock, $.50 par value, 20,000 authorized shares; 12,600 and 12,536 shares issued and outstanding		6,300			6,268
Additional paid-in capital		24,282			21,590
Retained earnings		243,055			223,867
Accumulated other comprehensive income		11,648			7,681
Total shareholders’ equity		285,285			259,406
Total liabilities and shareholders’ equity		$	381,174		$	361,283

 

The accompanying notes are an integral part of the consolidated financial statements.

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CASCADE CORPORATION
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY
(Unaudited—in thousands, except per share amounts)

													Accumulated
							Additional						Other			Year-To-Date
		Common Stock					Paid-In			Retained			Comprehensive			Comprehensive
		Shares		Amount			Capital			Earnings			Income (Loss)			Income (Loss)
Balance at January 31, 2006		12,536		$	6,268		$	21,590		$	223,867		$	7,681
Net income		—		—			—			22,957			—			$	22,957
Dividends ($0.30 per share)		—		—			—			(3,769		)	—			—
Common stock issued		64		32			692			—			—			—
Excess tax benefit from exercise of share-based compensation awards		—		—			118			—			—			—
Share-based compensation		—		—			1,882			—			—			—
Translation adjustment		—		—			—			—			3,967			3,967
Balance at July 31, 2006		12,600		$	6,300		$	24,282		$	243,055		$	11,648		$	26,924

 

The accompanying notes are an integral part of the consolidated financial statements.

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CASCADE CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited—in thousands)

		Six Months Ended
		July 31
		2006			2005
Cash flows from operating activities:
Net income		$	22,957		$	22,958
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		7,494			8,339
Share-based compensation		1,882			369
Deferred income taxes		(1,363		)	(298		)
Gain on disposition of assets		(617		)	(27		)
Changes in operating assets and liabilities:
Accounts receivable		(9,586		)	(4,377		)
Inventories		3,557			(3,167		)
Prepaid expenses and other		(802		)	(1,071		)
Accounts payable and accrued expenses		(4,544		)	(5,183		)
Income taxes payable and receivable		(2,092		)	51
Other assets and liabilities		(491		)	1,024
Net cash provided by operating activities		16,395			18,618
Cash flows from investing activities:
Capital expenditures		(6,248		)	(5,287		)
Sales of marketable securities		7,100			10,150
Purchases of marketable securities		(6,100		)	(24,050		)
Proceeds from disposition of assets		1,607			190
Net cash used in investing activities		(3,641		)	(18,997		)
Cash flows from financing activities:
Cash dividends paid		(3,769		)	(2,947		)
Payments on long-term debt		(88		)	(228		)
Notes payable to banks, net		(530		)	(115		)
Common stock issued under share-based compensation plans		724			1,812
Excess tax benefit from exercise of share-based compensation awards		118			720
Net cash used in financing activities		(3,545		)	(758		)
Effect of exchange rate changes		(853		)	(2,923		)
Change in cash and cash equivalents		8,356			(4,060		)
Cash and cash equivalents at beginning of period		35,493			30,482
Cash and cash equivalents at end of period		$	43,849		$	26,422
Supplemental disclosure of cash flow information:
See Note 10 to the consolidated financial statements

 

The accompanying notes are an integral part of the consolidated financial statements.

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CASCADE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Note 1—Description of Business

Cascade Corporation is an international company engaged in the manufacture of materials handling products that are widely used on industrial fork lift trucks and, to a lesser extent, construction, mining and agricultural vehicles. Accordingly, our sales are largely dependent on sales of lift trucks and on the sales of replacement parts. Our sales are made throughout the world. We are headquartered in Fairview, Oregon, employing approximately 1,900 people and maintaining operations in 15 countries outside the United States.

Note 2—Interim Financial Information

The accompanying consolidated financial statements for the interim periods ended July 31, 2006 and 2005 are unaudited. In the opinion of management, the accompanying consolidated financial statements reflect normal recurring adjustments necessary for a fair statement of the financial position, results of operations and cash flows for those interim periods. Results of operations for the interim periods are not necessarily indicative of the results to be expected for the full year, and these financial statements do not contain the detail or footnote disclosures concerning accounting policies and other matters that would be included in full fiscal year financial statements. Therefore, these statements should be read in conjunction with our audited financial statements included on Form 10-K in our Annual Report for the fiscal year ended January 31, 2006.

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Note 3—Segment Information

Our operating units have similar economic characteristics and attributes, including similar products, distribution patterns and classes of customers. As a result, we aggregate our operating units into four geographic operating segments related to the manufacturing, distribution and servicing of material handling load engagement products primarily for the lift truck industry. We evaluate performance of each of our operating segments based on operating income before interest, miscellaneous income/expense and income taxes. The accounting policies of the operating segments are the same as those described in the summary of significant accounting policies contained in Note 2 of our consolidated financial statements included in our Form 10-K for the fiscal year ended January 31, 2006.

Revenues and operating results are classified according to the region of origin. Property, plant and equipment are attributed to the geographic location in which they are located. Net sales, operating results and other financial information by geographic region were as follows (in thousands):

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		Three Months Ended July 31
2006		North America			Europe			Asia Pacific			China			Eliminations			Consolidation
Net sales		$	65,847		$	33,827		$	12,319		$	7,383		$	—		$	119,376
Transfers between areas		6,510			432			76			1,704			(8,722		)	—
Net sales and transfers		$	72,357		$	34,259		$	12,395		$	9,087		$	(8,722	)	$	119,376
Gross profit		$	26,081		$	6,273		$	2,979		$	3,020		$	—		$	38,353
Selling and administrative		11,503			5,548			2,130			716			—			19,897
Loss (gain) on disposition of assets		5			45			(6		)	1			—			45
Amortization		89			208			—			8			—			305
Operating income		$	14,484		$	472		$	855		$	2,295		$	—		$	18,106
Property, plant and equipment		$	33,951		$	35,586		$	1,501		$	5,414					$	76,452
Capital expenditures		$	1,724		$	645		$	73		$	555					$	2,997
Depreciation expense		$	2,065		$	1,162		$	108		$	70					$	3,405

 

2005		North America			Europe			Asia Pacific			China			Eliminations			Consolidation
Net sales		$	61,793		$	35,297		$	12,024		$	5,852		$	—		$	114,966
Transfers between areas		5,382			881			82			1,429			(7,774		)	—
Net sales and transfers		$	67,175		$	36,178		$	12,106		$	7,281		$	(7,774	)	$	114,966
Gross profit		$	24,063		$	6,691		$	3,478		$	2,338		$	—		$	36,570
Selling and administrative		10,897			5,383			1,960			687			—			18,927
Loss (gain) on disposition of assets		(1		)	1			1			—			—			1
Amortization		37			723			—			7			—			767
Operating income		$	13,130		$	584		$	1,517		$	1,644		$	—		$	16,875
Property, plant and equipment		$	35,334		$	37,184		$	1,563		$	3,330					$	77,411
Capital expenditures		$	1,980		$	1,158		$	78		$	57					$	3,273
Depreciation expense		$	2,002		$	1,649		$	101		$	90					$	3,842

 

		Six Months Ended July 31
2006		North America			Europe			Asia Pacific			China			Eliminations			Consolidation
Net sales		$	132,462		$	67,048		$	23,456		$	14,184		$	—		$	237,150
Transfers between areas		12,504			837			168			3,371			(16,880		)	—
Net sales and transfers		$	144,966		$	67,885		$	23,624		$	17,555		$	(16,880	)	$	237,150
Gross profit		$	52,039		$	11,617		$	5,728		$	5,658		$	—		$	75,042
Selling and administrative		22,971			11,400			4,078			1,300			—			39,749
Loss (gain) on disposition of assets		9			(617		)	(10		)	1			—			(617		)
Amortization		178			415			—			14			—			607
Operating income		$	28,881		$	419		$	1,660		$	4,343		$	—		$	35,303
Capital expenditures		$	3,727		$	992		$	144		$	1,385					$	6,248
Depreciation expense		$	4,106		$	2,433		$	212		$	136					$	6,887

 

2005		North America			Europe			Asia Pacific			China			Eliminations			Consolidation
Net sales		$	123,410		$	72,001		$	22,937		$	11,133		$	—		$	229,481
Transfers between areas		11,472			1,566			173			2,639			(15,850		)	—
Net sales and transfers		$	134,882		$	73,567		$	23,110		$	13,772		$	(15,850	)	$	229,481
Gross profit		$	48,055		$	14,985		$	6,629		$	4,389		$	—		$	74,058
Selling and administrative		21,325			10,878			3,758			1,084			—			37,045
Loss (gain) on disposition of assets		(1		)	21			(47		)	—			—			(27		)
Amortization		74			855			—			14			—			943
Operating income		$	26,657		$	3,231		$	2,918		$	3,291		$	—		$	36,097
Capital expenditures		$	3,246		$	1,750		$	174		$	117					$	5,287
Depreciation expense		$	3,976		$	3,034		$	207		$	179					$	7,396

 

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Note 4—Goodwill

The change in the amount of goodwill between July 31, 2006 and January 31, 2006 related entirely to fluctuations in foreign currency. We have no goodwill recorded in China. The following table provides a breakdown of goodwill by geographic region (in thousands):

 

Note 5—Marketable Securities

Marketable securities consist of auction rate and variable rate demand notes issued by various state agencies throughout the United States. We classify these securities as available-for-sale securities. These securities are insured either through third party agencies, reinsured through the U.S. government, or secured by a letter of credit from a bank. The specific identification method is used to determine the cost of securities sold. There are no realized or unrealized gains or losses related to our marketable securities. These securities are long-term instruments maturing through 2040, however, the interest rates and maturities are reset approximately every month, at which time we can sell the securities. Accordingly, we have classified these securities as current assets in our consolidated balance sheets.

Note 6—Inventories

Inventories stated at the lower of average cost or market are presented below by major class (in thousands).

 

Note 7—Share-Based Compensation Plans

We have granted two types of awards, stock options and stock appreciation rights (SARS), under our share-based compensation plans to officers, key managers and directors. Stock options provide the holder the right to purchase our common shares at an established price. SARS provide the holder the right to receive an amount, payable in our common shares, equal to the excess of the market value of our common shares on the date of exercise (“intrinsic value”) over the base price at the time the right was granted. The base price may not be less than the market price of our common shares on the date of grant. The prices for all awards are established by our Board of Directors’ Compensation Committee at the time the awards are granted. All awards vest ratably over a four year period and have a term of ten years.

We have reserved 1,400,000 shares of common stock under our stock option plan. As of July 31, 2006 a total of 615,000 shares have been issued upon the exercise of stock options.  No additional stock options can be granted under the terms of the plan. The SARS plan provides for the issuance of 750,000 shares of common stock upon the exercise of SARS of which 34,000 shares have been issued at July 31, 2006. We issue new common shares upon the exercise of all awards.

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A summary of the plans’ status at July 31, 2006 together with changes during the six months then ended are presented in the following table (in thousands, except per share amounts):

		Stock Options					Stock Appreciation Rights
				Weighted Average					Weighted Average
		Outstanding		Exercise Price			Outstanding		Exercise Price
		Awards		Per Share			Awards		Per Share
Balance at January 31, 2006		841		$	14.10		1,019		$	29.83
Granted		—		—			255		37.05
Exercised		(52	)	15.80			(37	)	25.93
Forfeited		(25	)	17.76			(115	)	31.51
Balance at July 31, 2006		764		$	13.87		1,122		$	31.43

 

Prior to May 1, 2005 we accounted for stock options under Accounting Principles Board Opinion No. 25 (APB 25), “Accounting for Stock Issued to Employees,” which permitted the use of intrinsic value accounting. No stock-based compensation cost was reflected in net income for stock options, as all options granted had an exercise price equal to the market price of the underlying common stock on the date of grant.

We accounted for SARS using variable plan accounting under Financial Interpretation No. (FIN) 28, “Accounting for Stock Appreciation Rights and Other Variable Stock Option or Award Plans,”  Accordingly, we recorded deferred compensation as a reduction of shareholders’ equity, equal to the excess of the market value of our common stock on the balance sheet date or date of exercise over the base price at the date of grant. The deferred compensation was recognized as an expense over the vesting period based on the periods in which the officers and directors performed services.

In our second quarter of fiscal 2006, we adopted Statement of Financial Accounting Standards (SFAS) No. 123 (revised 2004), “Share-Based Payment” (123R). This standard is a revision of SFAS 123, “Accounting for Stock-Based Compensation” and supersedes APB 25 and FIN 28. SFAS 123R addresses the accounting for share-based compensation in which we receive employee services in exchange for our equity instruments. Under SFAS 123R, we are required to recognize compensation cost for share-based compensation issued to or purchased by employees, net of estimated forfeitures, under share-based compensation plans using a fair value method. We adopted SFAS 123R using the modified prospective method as of May 1, 2005. Accordingly, no prior periods were restated. Under this method, we recorded compensation expense for all awards granted after the date of adoption and for the unvested portion of previously granted awards that remained outstanding as of the beginning of the period of adoption.

The following table illustrates the pro forma effect on net income and earnings per share if we had recorded compensation expense based on the fair value method for all share-based compensation awards (in thousands, except per share amounts):

		Three Months Ended July 31						Six Months Ended July 31
		2006			2005			2006			2005
Net income - as reported		$	11,923		$	10,750		$	22,957		$	22,958
Add: SARS amortization, net of taxes of $80		—			—			—			(148		)
Net income excluding SARS amortization		11,923			10,750			22,957			22,810
Deduct: total stock-based compensation, net of income tax benefits of $140 determined under fair value based method		—			—			—			(297		)
Net income - pro forma		$	11,923		$	10,750		$	22,957		$	22,513
Basic earnings per share - as reported		$	0.95		$	0.87		$	1.83		$	1.87
Basic earnings per share - pro forma		$	0.95		$	0.87		$	1.83		$	1.84
Diluted earnings per share - as reported		$	0.91		$	0.84		$	1.75		$	1.79
Diluted earnings per share - pro forma		$	0.91		$	0.84		$	1.75		$	1.76

 

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We calculate share-based compensation cost using the Black-Scholes option pricing model. The range of assumptions used to compute share-based compensation are as follows:

		Granted in Fiscal 2007 Grant		Granted Prior to Fiscal 2007
Risk-free interest rate		5.0%		2.3 – 4.1%
Expected volatility		41%		40 – 42%
Expected dividend yield		1.6%		1.1 – 2.8%
Expected life (in years)		6		5 – 6
Weighted average fair value at date of grant		$15.24		$4.16 – 17.86

 

The following table presents all share-based compensation costs recognized in our statements of income (in thousands):

		Three Months Ended July 31						Six Months Ended July 31
		2006			2005			2006			2005
Method used to account for share-based compensation		Fair Value			Fair Value			Fair Value			Fair Value / Intrinsic
Share-based compensation under SFAS 123R		$	951		$	597		$	1,882		$	597
Share-based compensation under FIN 28		—			—			—			(228		)
		$	951		$	597		$	1,882		$	369
Tax benefit recognized		$	265		$	177		$	514		$	97

 

As of July 31, 2006, there was $11.6 million of total unrecognized compensation cost related to nonvested share-based compensation awards granted under the plans. That cost is expected to be recognized over a weighted average period of 3 years. The following table represents as of July 31, 2006 the share-based compensation costs to be recognized in future periods (in thousands) for awards granted to date:

Fiscal year		Amount
2007		$	2,151
2008		4,087
2009		3,336
2010		1,734
2011		305
		$	11,613

 

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Note 8—Commitments and Contingencies

Environmental Matters

We are subject to environmental laws and regulations, which include obligations to remove or mitigate environmental effects of past disposal and release of certain wastes and substances at various sites. We record liabilities for affected sites when environmental assessments indicate probable cleanup and the costs can be reasonably estimated. Our liabilities for environmental costs, other than for costs of assessments themselves, are generally determined after the completion of investigations and studies or our commitment to a formal plan of action, such as an approved remediation plan, and are based on our best estimate of undiscounted future costs using currently available technology, applying current regulations, as well as our own historical experience regarding environmental cleanup costs. The reliability and precision of the cost estimates are affected by numerous factors, such as different stages of site evaluation and reevaluation of the degree of remediation required. We adjust our liabilities as new remediation requirements are defined, as information becomes available permitting reasonable estimates to be made and to reflect new and changing facts.

It is reasonably possible that changes in estimates will occur in the near term and the related adjustments to environmental liabilities may have a material impact on our net income and operating cash flows. Unasserted claims are not currently reflected in our environmental liabilities. It is also reasonably possible that these changes or claims may also have a material impact on our net income and operating cash flows if asserted. We cannot estimate the impact of these potential changes or claims at this time.

Our specific environmental matters consist of the following:

Fairview, Oregon

In 1996, the Oregon Department of Environmental Quality issued two Records of Decision affecting our Fairview, Oregon manufacturing facility. The Records of Decision required us to initiate remedial activities related to the cleanup of groundwater contamination at and near the facility. Remediation activities have been conducted since 1996 and current estimates provide for some level of activity to continue through 2021. Costs of certain remediation activities at the facility are shared with The Boeing Company, with Cascade paying 70% of these costs. We have accrued a liability for the ongoing remediation activities at our Fairview facility of $6.2 million and $6.7 million at July 31, 2006 and January 31, 2006, respectively.

Springfield, Ohio

In 1994, we entered into a consent order with the Ohio Environmental Protection Agency, which required the installation of remediation systems for the cleanup of groundwater contamination at our Springfield, Ohio facility. The current estimate is that the remediation activities will continue through 2013. Our accrued liability for ongoing remediation activities at our Springfield facility was $1.1 million at both July 31, 2006 and January 31, 2006.

Insurance Litigation

On April 22, 2002, the Circuit Court of the State of Oregon for Multnomah County entered judgment in our favor in an action originally brought in 1992 against several insurers to recover various expenses incurred in connection with environmental litigation and related proceedings. The judgment was against two non-settling insurers. We subsequently reached a settlement of all claims with one of the insurers in return for a payment of $1.3 million, which we received October 22, 2004. The trial court judgment against the remaining insurer, Employers Reinsurance Corp. (ERC), is in the amount of approximately $800,000. The judgment also requires ERC to defend us in suits alleging liability because of groundwater contamination emanating from our Fairview, Oregon plant and requires ERC to pay approximately 3.1% of any costs incurred after March 1, 1997 on account of such contamination. We appealed the judgment to the Oregon Court of Appeals contending ERC should pay a larger share of our expenses from both before and after March 1, 1997, together with additional interest and attorneys fees.

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On May 17, 2006, the Oregon Court of Appeals ruled in our favor and reversed the trial court judgment in part. The Court of Appeals ruling would obligate ERC to pay 100% of our unreimbursed environmental expenses up to its policy limits, plus increased interest and attorneys fees. We estimate the Court of Appeals ruling could result in an eventual recovery of up to $14.0 million, in addition to the increased interest and attorneys fees and unreimbursed costs of environmental defense. However, any determination of our ultimate recovery is subject to possible discretionary review of the Court of Appeals decision by the Oregon Supreme Court as well as further proceedings at the trial court level. We have not recorded any amounts that may be recovered from ERC in our consolidated financial statements.

Legal Proceedings

We are subject to legal proceedings, claims and litigation, in addition to the environmental matters previously discussed, arising in the ordinary course of business. While the outcome of these matters is currently not determinable, management does not expect the ultimate costs to be material to our consolidated financial position, result of operations, or cash flows.

Lease Guarantee

We sold our hydraulic cylinder division to Precision Hydraulic Cylinders, Inc. (Precision) on January 15, 2002. Under the terms of the sale, we assigned to Precision an operating lease related to a manufacturing facility in Beulaville, North Carolina. We are a guarantor on the lease in the event Precision fails to comply with the lease terms. The lease requires payments by Precision of approximately $21,000 per month through November 2007. The total value of the lease guarantee using undiscounted cash flows was approximately $336,000 at July 31, 2006.

Note 9—Earnings Per Share

The following table presents the calculation of basic and diluted earnings per share (in thousands, except per share amounts):

		Three Months Ended July 31						Six Months Ended July 31
		2006			2005			2006			2005
Basic earnings per share:
Net income		$	11,923		$	10,750		$	22,957		$	22,958
Weighted average shares of common stock outstanding		12,569			12,302			12,555			12,266
		$	0.95		$	0.87		$	1.83		$	1.87
Diluted earnings per share:
Net income		$	11,923		$	10,750		$	22,957		$	22,958
Weighted average shares of common stock outstanding		12,569			12,302			12,555			12,266
Dilutive effect of stock options and stock appreciation rights		505			554			578			542
Diluted weighted average shares of common stock outstanding		13,074			12,856			13,133			12,808
		$	0.91		$	0.84		$	1.75		$	1.79

 

Basic earnings per share is based on the weighted average number of common shares outstanding for the period. Diluted weighted average common shares includes the incremental shares that would be issued upon the assumed exercise of stock options and stock appreciation rights. For both the three and six month periods ended July 31, 2006 unexercised SARS totaling 772,500 awards were excluded from the calculation of diluted earnings per share because they were antidilutive. No unexercised SARS were excluded from the calculation of diluted earnings per share for the three or six month periods ended July 31, 2005. All stock options were included in our calculation of diluted earnings per share because they were dilutive.

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Note 10—Supplemental Cash Flow Information

The following table presents information that supplements the consolidated statements of cash flow (in thousands):

		For the Six Months Ended July 31
		2006			2005
Cash paid during the period for:
Interest		$	1,016		$	1,439
Income taxes		$	15,862		$	12,088
Supplemental disclosure of noncash information:
Deferred compensation from stock appreciation rights		$	—		$	(4,734	)

 

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Note 11—Benefit Plans

The following table represents the net periodic cost related to our defined benefit plans in Canada, England and France and our postretirement benefit plan in the United States (in thousands):

		Defined Benefit						Postretirement Benefit
		Three Months Ended July 31						Three Months Ended July 31
		2006			2005			2006			2005
Net periodic benefit cost:
Service cost		$	22		$	46		$	34		$	32
Interest cost		128			109			114			109
Expected return on plan assets		(125		)	(105		)	—			—
Recognized net actuarial loss		36			29			92			87
		$	61		$	79		$	240		$	228

 

		Defined Benefit						Postretirement Benefit
		Six Months Ended July 31						Six Months Ended July 31
		2006			2005			2006			2005
Net periodic benefit cost:
Service cost		$	43		$	97		$	68		$	64
Interest cost		253			228			228			217
Expected return on plan assets		(248		)	(219		)	—			—
Recognized net actuarial loss		71			61			184			173
		$	119		$	167		$	480		$	454

 

Note 12—Recent Accounting Pronouncements

In November 2004, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 151 (SFAS 151), “Inventory Costs, an amendment of ARB No. 43, Chapter 4.” This statement amends the guidance in ARB No. 43, Chapter 4, “Inventory Pricing”, to clarify the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage). Paragraph 5 of ARB No. 43, Chapter 4, previously stated that “….under some circumstances, items such as idle facility expense, excessive spoilage, double freight, and re-handling costs may be so abnormal as to require treatment as current period charges…” SFAS 151 requires that those items be recognized as current-period charges regardless of whether they meet the criterion of “so abnormal.” In addition, this statement requires that allocation of fixed production overhead to the costs of conversion be based on the normal capacity of the production facilities. The provisions of SFAS 151 were effective for us on February 1, 2006. The adoption of SFAS 151 did not have a material impact on our financial position or results of operations.

In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections — a replacement of APB Opinion No. 20 and FASB Statement No. 3” (“SFAS 154”). SFAS 154 changes the requirements for the accounting for and reporting of a change in accounting principle. This statement applies to all voluntary changes in accounting principle. It also applies to changes required by an accounting pronouncement in the unusual instance that the pronouncement does not include specific transition provisions. SFAS 154 requires the application of a change in accounting principle be applied to prior accounting periods presented as if that principle had always been used. When a pronouncement includes specific transition provision, those provisions should be followed. SFAS 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. The adoption of SFAS 154 at the beginning of fiscal 2007 did not have an effect on our consolidated financial statements.

In June 2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes.” This interpretation clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial

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statements in accordance with FASB Statement No. 109, “Accounting for Income Taxes.” FASB Interpretation No. 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. It also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. We are currently evaluating the impact of FASB Interpretation No. 48 on our financial statements. Application of this interpretation is required for our financial statements for the fiscal year ended January 31, 2008.

Note 13—Warranty Obligations

We record a liability on our consolidated balance sheet for costs related to warranties with the sales of our products. This liability is estimated through historical customer claims, product failure rates, material usage and service delivery costs incurred in correcting a product failure. Our warranty obligations, which are recorded in other accrued expenses on the consolidated balance sheets, were as follows (in thousands):

		2006			2005
Balance at January 31		$	1,665		$	1,911
Accruals for warranties issued during the period		1,385			1,065
Accruals for pre-existing warranties		(29		)	52
Settlements during the period		(1,285		)	(1,063		)
Balance at July 31		$	1,736		$	1,965

 

Note 14—Accumulated Other Comprehensive Income (Loss)

The following table presents the changes in and the components of accumulated other comprehensive income (in thousands):

		Accumulated Other Comprehensive Income (Loss)
		Translation Adjustment			Minimum Pension Liability Adjustment			Total
Balance at January 31, 2006		$	10,667		$	(2,986	)	$	7,681
Translation adjustment		3,967			—			3,967
Balance at July 31, 2006		$	14,634		$	(2,986	)	$	11,648

 

Note 15—Gain on Sale of Assets

During the first quarter of fiscal 2007, we recognized a $715,000 gain on the sale of our manufacturing facility in Hoorn, The Netherlands. We had closed this facility in fiscal 2006.

Note 16—Subsequent Event

On September 5, 2006, our Board of Directors authorized a share repurchase program of up to $80 million over a two year period. Repurchases will be made on an on-going basis based on market conditions, relevant securities laws and other factors. It is anticipated that a majority of the share repurchases will be funded through cash flow from operations and existing cash balances. The Board also authorized increasing our revolving credit facility from $25 million to $125 million to provide short-term funding, if needed, for the share repurchase program and to fund our planned expansion into the construction attachment market.

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Our businesses globally manufacture and distribute material handling load engagement products primarily for the lift truck industry. We operate in four geographic segments: North America, Europe, Asia Pacific and China. All references to fiscal periods are defined as periods ending in the year ended January 31, 2006 (fiscal 2006) and the year ending January 31, 2007 (fiscal 2007).

COMPARISON OF SECOND QUARTER OF FISCAL 2007 AND FISCAL 2006

Consolidated Summary

Net income for the second quarter of fiscal 2007 increased 11% to $11.9 million ($0.91 per diluted share) from $10.8 million ($0.84 per diluted share) for the second quarter of fiscal 2006. Net sales for the second quarter of fiscal 2007 were $119.4 million or 4% greater than the second quarter of fiscal 2006. Excluding the effect of foreign currency fluctuations, net sales in North America, Asia Pacific and China grew 6%, 3% and 23%, respectively, in the second quarter of fiscal 2007 as compared to the same quarter of the prior year. The increased sales levels in North America are generally reflective of a change in product mix and higher selling prices. The increased sales in Asia Pacific and China reflect higher volumes of business in these geographic regions. Net sales in Europe decreased 7% in the current year due to lower sales of both OEM and attachment products.

The gross margin percentage of 32% in the second quarter of fiscal 2007 was consistent with the prior year. On a consolidated basis the effect of any price increases over the last year have been offset by increases in material and other costs.

Selling and administrative costs increased by 5% in the second quarter of fiscal 2007 over the comparable quarter of the prior year. Excluding foreign currency changes, costs increased 3% over the second quarter of the prior year. This is primarily due to general increases in expense levels and higher share-based compensation costs, which increased from $597,000 in the second quarter of fiscal 2006 to $951,000 in the second quarter of fiscal 2007. We adopted the new accounting standard for share-based compensation, Statement of Financial Account Standards No. 123R “Share-based Payment”, in the second quarter of fiscal 2006. Selling and administrative costs as a percentage of net sales were 17% and 16% for the second quarter of fiscal 2007 and 2006, respectively.

North America

 

North America net sales increased $4.1 million or 7% in the second quarter of fiscal 2007 over the same quarter of fiscal 2006. Currency changes accounted for 1% of the increase in sales. These results reflect a change in product mix and the impact of price increases implemented in the last three quarters of fiscal 2006. Fiscal 2007 second quarter results include the full effect of these increases, whereas the prior year results include only a portion of the increases made in the prior year.

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Our experience has been that changes in the level of our net sales do not correspond directly to the percentage changes in lift truck industry shipments, but industry statistics do provide an indication of the direction of business activity. North American lift truck industry shipments in the second quarter of fiscal 2007 were 4% lower than the second quarter of fiscal 2006.

Gross margin percentages increased modestly from 39% to 40% for the second quarter of fiscal 2007. Price increases in fiscal 2006 were made to offset material cost increases.

Selling and administrative costs for the second quarter of fiscal 2007 increased 6% over the same quarter of the prior year. The two primary reasons for the increase are an additional $267,000 of share-based compensation costs and the effect of currency changes.

Europe

 

Net sales in Europe for the second quarter of fiscal 2007 decreased $1.5 million or 4% over the same quarter of fiscal 2006. Excluding currency changes sales decreased 7%. This decrease is a continuation of a trend we experienced in the first quarter. While some of the decline is a result of loss in market share for certain products, based on recent orders, it appears the decline also reflects the timing of certain major account orders.

Industry lift truck shipments in Europe increased 10% for the second quarter compared to the prior year. The expansion of the Eastern European market continued to be strong in the second quarter. While this market is still only about 10% of the total European market, it does present us an opportunity to expand our operations into a new emerging market. We have expanded our presence in this market by adding additional sales staff and allocating additional sales resources to focus on capturing a significant portion of this market growth.

The gross margin percentage in Europe declined from 19% for the second quarter of fiscal 2006 to 18% for the second quarter of fiscal 2007. The decreased margin is primarily due to a larger percentage of sales of OEM products which carry lower margins. Second quarter fiscal 2006 margins were negatively effected by $275,000 of costs related to the closure of our manufacturing facility in Hoorn, The Netherlands. Initiatives we are pursuing to increase margins include the evaluation of sourcing options for raw materials, further rationalization of existing European facilities and improvements in manufacturing processes.

Selling and administrative costs in Europe increased 3% for the second quarter of fiscal 2007 as compared to the second quarter of fiscal 2006 due to currency changes.

In addition to the previously mentioned initiatives, we are continuing our efforts to improve overall product quality and on-time delivery and reduce administrative costs through streamlining of support functions. We plan to see gradual improvement in gross margins and operating income through the remainder of fiscal 2007.

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In the second quarter of fiscal 2006 we recorded additional amortization expense for intangible assets related to our fiscal 2004 acquisition in Italy. Current year results do not include these additional expenses.

Asia Pacific

 

 

Asia Pacific, excluding China, posted a net sales increase of 2% in the second quarter of fiscal 2007 over fiscal 2006. Excluding the effect of foreign currencies, net sales increased 3%. This increase reflects additional sales in both Korea and Japan.

 

Gross margin percentages in this region decreased from 29% to 24%. The decrease is due to higher material costs which could not be passed on to customers through higher sales prices. To some degree, the change in gross margin is also a result of increased sales of lower margin OEM products. We are continuing to pursue opportunities to recover this lost margin but do not anticipate significant improvements in the near future.

 

Selling and administrative costs increased 9% for the second quarter of fiscal 2007 due primarily to additional personnel and travel costs to support corporate initiatives.

 

China

 

Net sales in China increased 26% in the second quarter of fiscal 2007, including a 3% increase for currency changes. We continue to benefit from a strong economy and lift truck market in China for all products. Lift truck industry shipments in China increased 42% in the second quarter of fiscal 2007.

Gross margin percentages increased to 41% in the second quarter of fiscal 2007 from 40% in the prior year. We have seen a trend of either constant or increasing margins for most products sold in China. The exception to that trend is for OEM products for which we are currently experiencing higher material costs on steel imported into the country. We have identified a local steel supplier and expect to begin realizing the benefits of this lower cost steel in the second half of fiscal 2007.

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We plan to open a global purchasing office in China in the last half of fiscal 2007 to continue our efforts for sourcing lower cost material, components and parts for use in both China and our other manufacturing facilities throughout the world.

Selling and administrative costs have increased 4% in the second quarter of fiscal 2007 due to additional costs needed to support the expansion of our operations in China and currency changes.

Non-Operating Items

The effective tax rate increased from 34% in the prior year to 35% in the second quarter of fiscal 2007. The change was primarily related to an increase in valuation allowances for pre-tax losses in Europe. Valuation allowances increased $465,000 and $306,000 in the second quarter of fiscal 2007 and 2006, respectively.

Lift Truck Market Outlook

Based on our review of preliminary industry data the following is the general lift truck market outlook for the remainder of fiscal 2007:

·                  The market in North America will remain flat through the remainder of the year.

·                  Europe will continue to grow but at a more modest rate than experienced for the first two quarters.

·                  The market in Asia Pacific will continue to grow at approximately the same rate through the remainder of the year.

·                  The market in China will continue to experience robust growth through the remainder of the year.

COMPARISON OF THE FIRST SIX MONTHS OF FISCAL 2007 AND FISCAL 2006

Consolidated Summary

Net income for the first six months of fiscal 2007 of $23.0 million ($1.75 per diluted share) was consistent with the $23.0 million ($1.79 per diluted share) for the first six months of fiscal 2006. Net sales for the first six months of fiscal 2007 were $237.2 million or 3% greater than the first six months of fiscal 2006. Excluding the effect of foreign currency fluctuations, net sales in North America, Asia Pacific and China grew 6%, 6%, and 25%, respectively in the first six months of fiscal 2007 as compared to the same period of the prior year. Net sales in Europe decreased 5% in the first six months of fiscal 2007.

The gross margin percentage in the first six months of fiscal 2007 of 32% was consistent with the prior year. Although the trends in geographic regions might be slightly different, on a consolidated level the margins have remained constant as increases in sales, primarily through price increases, have essentially offset the effect of increasing material and other costs.

Selling and administrative costs increased by 7% in the first six months of fiscal 2007 over the comparable period of the prior year. The effect of foreign currency changes on selling and administrative costs in the current year as compared to the prior year was not material. The increase is due primarily to higher share-based compensation costs in the current year. Total share-based compensation costs were $1.9 million and $369,000 in the first six months of fiscal 2007 and 2006, respectively. Selling and administrative costs as a percentage of net sales were 17% and 16% for the first six months of fiscal 2007 and 2006, respectively.

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North America

 

North America net sales were up $9.1 million or 7% in the first six months of fiscal 2007 over the same period of fiscal 2006 primarily due to a change in product mix and higher selling prices implemented to cover higher material costs. Changes in currencies made up 1% of the overall sales increase.

Historically, we have found that changes in the level of our net sales do not correspond directly to the percentage changes in lift truck industry shipments, but industry statistics do provide an indication of the direction of business activity. North American lift truck industry shipments for the first six months of fiscal 2007 as compared to the first six months of fiscal 2006 increased only 1%.

Gross margins for the first six months of fiscal 2007 in North America were consistent with the prior year. As previously noted our margins have remained constant as any increase in selling prices has been offset by the effect of increases in material costs.

Selling and administrative costs for the first six months of fiscal 2007 increased 8% over the same period of the prior year. Currency changes accounted for 2% of this increase. The increase is due primarily to share-based compensation costs which increased from $298,000 in the first six months of fiscal 2006 to $1.5 million in the first six months of fiscal 2007. We have been recording share-based compensation costs under SFAS 123R since the second quarter of fiscal 2006. Prior year share-based compensation costs were lower because in the first quarter of fiscal 2006 we used mark-to-market accounting to account for certain share-based awards. This resulted in income of $212,000 being recorded in the first quarter due to a quarter to quarter drop in the market price of our common stock.

Europe

 

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