10-Q 1 c73372e10vq.txt FORM 10-Q FORM 10-Q SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ---------- [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 2002 OR [ ] 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 333-84903-1 J.L. FRENCH AUTOMOTIVE CASTINGS, INC. (Exact name of Registrant as specified in its charter) DELAWARE 13-3983670 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 4508 IDS CENTER MINNEAPOLIS, MINNESOTA 55402 (Address of principal executive offices) (Zip Code) (612) 332-2335 (Registrant's telephone number, including area code) NOT APPLICABLE (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days. Yes X No ----- ----- The number of shares outstanding of the Registrant's common stock at December 31, 2002 was 11,554 shares of Class A common stock, 7,124 shares of Class A-1 common stock, 20,660 shares of Class B common stock, 5,165 shares of Class C common stock, 7,054 shares of Class D-1 common stock, 7,314 shares of Class D-2 common stock, 3,592 shares of Class E common stock, 14,248 shares of Class P common stock, 65,118,328 shares of Class Q-1 common stock and 11,592,672 shares of Class Q-2 common stock. J.L. FRENCH AUTOMOTIVE CASTINGS, INC. QUARTERLY FINANCIAL STATEMENTS TABLE OF CONTENTS

2 ITEM 1 - FINANCIAL INFORMATION J.L. FRENCH AUTOMOTIVE CASTINGS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (AMOUNTS IN THOUSANDS - UNAUDITED)

The accompanying notes are an integral part of these condensed consolidated financial statements. 3 J.L. FRENCH AUTOMOTIVE CASTINGS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (AMOUNTS IN THOUSANDS - UNAUDITED)

The accompanying notes are an integral part of these condensed consolidated financial statements. 4 J.L. FRENCH AUTOMOTIVE CASTINGS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS - UNAUDITED)

The accompanying notes are an integral part of these condensed consolidated financial statements. 5 J.L. FRENCH AUTOMOTIVE CASTINGS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS - UNAUDITED)

The accompanying notes are an integral part of these condensed consolidated financial statements. 6 J.L. FRENCH AUTOMOTIVE CASTINGS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. The accompanying condensed consolidated financial statements have been prepared by J.L. French Automotive Castings, Inc. ("French" or the "Company") without audit. The information furnished in the condensed consolidated financial statements includes normal recurring adjustments and reflects all adjustments which are, in the opinion of management, necessary for a fair presentation of such financial statements. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. Although the Company believes that the disclosures are adequate to make the information presented not misleading, it is suggested that these condensed consolidated financial statements be read in conjunction with the audited financial statements and the notes thereto included in the Company's Form 10-K for the year ended December 31, 2001. Sales and operating results for the three and six months ended June 30, 2002 are not necessarily indicative of the results to be expected for the full year. 2. The following presents comprehensive income (loss), defined as changes in the stockholders' deficit except changes related to transactions with stockholders of the Company, for the three and six month periods ended June 30, 2002 and 2001 (in thousands):

The minimum pension liability relates to the excess of the unfunded accumulated benefit obligation over the unrecognized prior service cost. 3. At June 30, 2002, the Company had an interest rate swap agreement on $75 million of long-term debt. The swap agreement, which expires in December 2003, has been designated as, and meets the criteria for cash flow hedges. Initial adoption of SFAS No. 133 resulted in the recording of a liability for the fair value of the swap agreement of $2.0 million, with the offset recorded in equity as a component of accumulated other comprehensive loss, net of taxes of $1.2 million. At June 30, 2002, the fair value of the interest rate swap was a liability of $3.1 million and $3.4 million at December 31, 2001. 4. In June 2001, the Financial Accounting Standards Board ("FASB") issued Statements of Financial Accounting Standards No. 141, Business Combinations ("SFAS No. 141") and No. 142, Goodwill and Other Intangible Assets ("SFAS No. 142"). SFAS No. 141 requires all business combinations initiated after June 30, 2001 to be accounted for using the purchase method. Under SFAS No. 142, goodwill and intangible assets with indefinite lives are no longer amortized but are reviewed annually, or more frequently if impairment indicators arise, for impairment. Separable intangible assets that are not deemed to have indefinite lives will continue to be amortized over their useful lives. 7 SFAS No. 142 provides for a six-month transitional period from the effective date of adoption for the Company to perform an assessment of whether there is an indication that goodwill is impaired. To the extent that an indication of impairment exists, the Company must perform a second test to measure the amount of the impairment. The Company has completed the initial assessment as required by SFAS No. 142, and has determined that the carrying value exceeded the fair value. The Company is currently in the process of planning the second phase of this evaluation to measure the amount of impairment. Management expects that upon completion of this evaluation, the Company will record a pre tax non-cash charge of between $150 million and $205 million as the cumulative effect of a change in accounting principle in the statement of operations, although there can be no assurance that the actual amount will not be outside this range. As required by SFAS No. 142, the charge will be recorded in the first quarter of fiscal year 2002 once the second phase of the impairment test is completed. The impairment test is required to be completed and the final adjustments will be made by December 31, 2002. The adjustment will have no impact on the Company's cash flows. The following table summarizes the effect of the non-amortization provisions of goodwill of SFAS No. 142 on periods prior to January 1, 2002:

In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets ("SFAS No. 144"). SFAS No. 144 supercedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of ("SFAS No. 121"). SFAS No. 144 primarily addresses significant issues relating to the implementation of SFAS No. 121 and develops a single accounting model for long-lived assets to be disposed of, whether previously held and used or newly acquired. The Company adopted the provisions of SFAS No. 144 on January 1, 2002, and it had no material impact on results of operations. In April 2002, the FASB issued SFAS 145, Rescission of FASB Statements SFAS 4, 44 and 64, Amendment of FASB Statement No. 13 and Technical Corrections ("SFAS No. 145"). SFAS No. 145 rescinds Statement No. 4, Reporting Gains and Losses from Extinguishments of Debt, and an amendment of that Statement, FASB Statement No. 64, Extinguishments of Debt Made to Satisfy Sinking-Fund Requirements. SFAS No. 145 also rescinds FASB Statement No. 44, Accounting for Intangible Assets of Motor Carriers. SFAS No. 145 amends FASB Statement No. 13, Accounting for Leases, ("SFAS No. 13") to eliminate an inconsistency between the required accounting for sale-leaseback transactions and the required accounting for certain lease modifications that have economic effects that are similar to sale leaseback transactions. SFAS No. 145 also amends other existing authoritative pronouncements to make various technical corrections, clarify meanings, or describe their applicability under changed conditions. The provision of SFAS No. 145 related to SFAS No. 13 should be applied to transactions occurring after May 15, 2002. Early application of the provisions of this Statement is encouraged. The Company does not expect the adoption of SFAS No. 145 will have a significant impact on its consolidated results of operations, financial position or cash flows. In June 2002, the FASB issued Statement No. 146, Accounting for Costs Associated with Exit or Disposal Activities. This Statement requires recording costs associated with exit or disposal activities at their fair values when a liability has been incurred. Under previous guidance, certain exit costs were accrued upon management's commitment to an exit plan, which is generally before an actual liability 8 has been incurred. Adoption of this Statement is required with the beginning of fiscal year 2003. The Company has not yet completed its evaluation of the impact of adopting this Statement. 5. At June 30, 2002, the Company had deferred tax assets which included $40.5 million related to its federal net operating loss carryforward that expires between 2018 and 2021. Management has established a valuation allowance for a majority of the state tax credit and state operating loss carryforwards and all of the foreign net operating loss carryforwards as management is unable to conclude that it is more likely than not that sufficient taxable income will be generated in the necessary jurisdictions to realize these tax benefits. Management has concluded that a valuation allowance is not necessary for the remaining deferred tax assets as projections show that these assets will be realized prior to the carryforward expiration period. The Company will continue to evaluate the need for a valuation allowance, and at such time it is determined that it is more likely than not that such deferred tax assets would not be realizable, a valuation allowance will be recorded. 6. Inventories consisted of the following (in thousands):

7. In March 2002, the Company entered into an agreement to sell five machines and lease the machines back, applying the provisions of Statement of Financial Accounting Standards No. 98, Accounting for Leases. Upon the commencement of the lease term on March 27, 2002, the assets were removed from the Company's balance sheet in accordance with accounting for the machines as an operating lease. All of the assets sold in the transaction were purchased during the first quarter of 2002. Net proceeds from the transaction were approximately $4.6 million. The transaction resulted in a gain of approximately $200,000, which will be deferred and amortized over the lease term. As of June 30, 2002, the present value of the future minimum lease payments was approximately $3.1 million. 8. Long-term senior debt consisted of the following (in thousands):

The Company and certain of its direct and indirect subsidiaries have a senior credit facility that provides a tranche A term loan, a tranche B term loan and revolving credit facility which provides for total borrowings and letters of credit of $90 million. As of June 30, 2002, there were outstanding borrowings under the revolving credit facility of $62.3 million and outstanding letters of credit of $27.5 million. 9 As of June 30, 2002, rates on borrowings under the senior credit facility varied from 4.9% to 7.2%. Borrowings under the tranche B term loan are due and payable on October 21, 2006. The senior credit facility is secured by all of the assets of and guaranteed by all material present and future subsidiaries of the Company, in each case with exceptions for certain foreign subsidiaries and to the extent permitted by applicable law ("Guarantors"). The Company's senior credit facility includes certain restrictive financial covenants. In July, November, and December 2002, the Company and its lenders amended the senior credit facility to amend the financial covenants to accommodate the new financing discussed below. On December 27, 2002, the Company incurred the following indebtedness: (i) $95.0 million of a Tranche C term loan, which resulted in net proceeds of $90.3 million. The Tranche C term loan is part of the Company's senior credit facility and matures in October 2006. The loan bears interest at the greater of 11% or prime plus 6%, payable quarterly. There are no scheduled principal payments until maturity. All principal payments are subject to an exit fee of 5% of such principal payment. (ii) $96.4 million of secured second lien term loan, which resulted in net proceeds of $94.0 million. The second lien term loan bears 12% cash interest, payable quarterly, and 7% deferred interest. The principal and deferred interest are due on December 31, 2007. The term loan is secured by a second lien on substantially all domestic assets of the Company. The Company also issued warrants to acquire 5% of the fully diluted stockholders equity of the Company to the lenders of the second lien term loan (See Note 10). Concurrently with the debt issuances, the Company issued 65.1 million shares of Class Q-1 and 11.6 million shares of Class Q-2 common stock (see Note 10) to a partnership owned by certain stockholders of the Company for total proceeds of $1 million. The net proceeds from the debt and stock issuances described above, were used to retire all tranche A term loan balances ($125.4 million), repay $16.6 million of the tranche B term loan, reduce borrowings under the revolving credit facility by $33.8 million and pay transaction related costs of $9.5 million. In connection with the financing described above, the Company also amended its senior credit facility to extend the revolving credit facility availability until June 30, 2006. The Company's senior credit facility, as amended, and the secured second lien notes include certain restrictive financial covenants including minimum interest coverage and maximum leverage ratios. Under the terms of the amended senior credit facility, the revolving credit is available until June 2006. Interest on the revolving credit is at prime plus 3.0% or LIBOR plus 4.0% and on the tranche B term loan is prime plus 3.50% or LIBOR plus 4.50%. Further the principal payments on the tranche B term loan are subject to an exit fee of 1% in 2003, 2% in 2004 and 3% in 2005. In addition to the senior debt included in the table above, the Company also has outstanding $175 million of senior subordinated notes. These notes mature in May 2009 and bear interest at 11 1/2%. The Company did not make an interest payment on the notes of approximately $10.1 million on December 2, 2002, the scheduled payment date. Such payment was made by the Company on December 27, 2002, within the thirty day grace period allowed by the indenture governing the notes. Other long-term debt consists principally of obligations under capital leases and term loans of the Company's foreign subsidiaries. 10 9. Supplemental cash flow information (in thousands):

10. In December 2002, the Company amended its certificate of incorporation to authorize the issuance of 97,845,000 shares of Class Q-1 common stock and 12,000,000 shares of Class Q-2. On December 27, 2002, the Company issued 65,118,328 shares of Class Q-1 common stock and 11,592,672 shares of Class Q-2 common stock for $1.0 million. Pursuant to the amended certificate of incorporation the Class Q common stock is entitled to 99.9% of any equity distributions. Class Q-1 shares are voting shares and Class Q-2 shares are non-voting. In connection with the issuance of the secured second lien notes described in Note 8, the Company issued warrants to acquire 4,041,458 shares of Class Q common stock at an exercise price of $.01 per share. The warrants are exercisable anytime through December 2009. Following is a summary of activity in the accumulated deficit account for the six months ended June 30, 2002 and 2001 (in thousands):

The Company accrued dividends of $2.4 million on the outstanding Class P common stock for the six months ended June 30, 2002 and June 30, 2001 and these dividends are included in other non-current liabilities. In addition, as of June 30, 2002, the Company had accrued $1.9 million in Class A-1 common stock dividends, which are payable in stock and are included in additional paid-in capital. 11. As a result of the acquisition of Nelson Metal Products Corporation in 1999, the Company identified certain customer contract commitments that existed at the acquisition date that will result in future losses. At December 31, 2001, the liability for those losses was $8.9 million. For the six months ended June 30, 2002, the liability was reduced by $4.4 million due to sales of products subject to those contracts. In addition to the utilization during the six months ended June 30, 2002, the reserve was reduced by approximately $800,000 due to cost reductions and reductions in estimated future shipments of certain loss contract parts. The reserve for loss contracts at June 30, 2002 consisted of a $2.0 million current liability and $2.5 million of long-term liability. 12. In October 2002, certain of the Company's stockholders purchased trade accounts receivable from the Company to provide additional liquidity. The total discount for all trade receivables purchased by the stockholders was approximately $15,000. The maximum amount purchased by the stockholders was approximately $4.2 million. All trade receivables purchased by the stockholders were collected by October 25, 2002. In December 2002, the Company issued approximately $9.9 million of the secured second lien term loan to a partnership owned by certain stockholders of the Company (See Note 8). 11 13. On December 31, 2002, the Company's board of directors approved the closure of the Company's Grandville, Michigan facility. The Company has not yet determined the amount of the restructuring charge it will record related to the closure of this facility, but expects to record the charge in the fourth quarter of 2002. 14. The following consolidating financial information presents statement of operations, balance sheet and cash flow information related to the Company's businesses. Each Guarantor is a direct wholly owned domestic subsidiary of the Company and has fully and unconditionally guaranteed the 11 1/2% senior subordinated notes issued by J.L. French Automotive Castings, Inc., on a joint and several basis. The Non-Guarantor Companies are the Company's foreign subsidiaries, which include JLF UK, Ansola and JLF Mexico. Separate financial statements and other disclosures concerning the Guarantors have not been presented because management believes that such information is not material. 12 14. Condensed consolidating guarantor and non-guarantor financial information (continued): J.L. FRENCH AUTOMOTIVE CASTINGS, INC. CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS AND RETAINED EARNINGS FOR THE THREE MONTHS ENDED JUNE 30, 2002 (AMOUNTS IN THOUSANDS)

13 14. Condensed consolidating guarantor and non-guarantor financial information (continued): J.L. FRENCH AUTOMOTIVE CASTINGS, INC. CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS AND RETAINED EARNINGS FOR THE SIX MONTHS ENDED JUNE 30, 2002 (AMOUNTS IN THOUSANDS)

14 14. Condensed consolidating guarantor and non-guarantor financial information (continued): J.L. FRENCH AUTOMOTIVE CASTINGS, INC. CONDENSED CONSOLIDATING BALANCE SHEET AS OF JUNE 30, 2002 (AMOUNTS IN THOUSANDS)

15 14. Condensed consolidating guarantor and non-guarantor financial information (continued): J.L. FRENCH AUTOMOTIVE CASTINGS, INC. CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS FOR THE SIX MONTHS ENDED JUNE 30, 2002 (AMOUNTS IN THOUSANDS)

16 14. Condensed consolidating guarantor and non-guarantor financial information (continued): J.L. FRENCH AUTOMOTIVE CASTINGS, INC. CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS AND RETAINED EARNINGS FOR THE THREE MONTHS ENDED JUNE 30, 2001 (AMOUNTS IN THOUSANDS)

17 14. Condensed consolidating guarantor and non-guarantor financial information (continued): J.L. FRENCH AUTOMOTIVE CASTINGS, INC. CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS AND RETAINED EARNINGS FOR THE SIX MONTHS ENDED JUNE 30, 2001 (AMOUNTS IN THOUSANDS)

18 14. Condensed consolidating guarantor and non-guarantor financial information (continued): J.L. FRENCH AUTOMOTIVE CASTINGS, INC. CONDENSED CONSOLIDATING BALANCE SHEET AS OF DECEMBER 31, 2001 (AMOUNTS IN THOUSANDS)

19 14. Condensed consolidating guarantor and non-guarantor financial information (continued): J.L. FRENCH AUTOMOTIVE CASTINGS, INC. CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS FOR THE SIX MONTHS ENDED JUNE 30, 2001 (AMOUNTS IN THOUSANDS)

20 ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION GENERAL The Company ordinarily begins working on products awarded for new or redesigned platforms two to five years prior to initial vehicle production. During such period, French incurs (1) costs related to the design and engineering of such products, (2) costs related to production of the tools and dies used to manufacture the products and (3) start-up costs associated with the initial production of such product. In general, design and engineering costs are expensed in the period in which they are incurred. Costs incurred in the production of the tools and dies are generally capitalized and reimbursed by the customer prior to production. Start-up costs, which are generally incurred 30 to 60 days immediately prior to and immediately after production, are expensed as incurred. The contracts the Company enters into typically: (1) range from one year to the life of the platform, (2) are on a sole-source basis, (3) do not require the purchase by the customer of any minimum number of units, (4) are at fixed prices subject to annual price reductions or renegotiations and (5) provide for price adjustments related to changes in the cost of aluminum. The Company's sales are dependent on its customers' production schedules which, in turn, are dependent on retail sales of new automobiles and light trucks. COMPARISON OF THE THREE MONTHS ENDED JUNE 30, 2002 TO THE THREE MONTHS ENDED JUNE 30, 2001 Sales -- Sales for the second quarter of 2002 increased by approximately $8.6 million to $146.4 million from $137.8 million in the second quarter of 2001. North American light vehicle production was 7.2% higher in the second quarter of 2002 compared with the second quarter of 2001. The increase in the North American production increased the Company's sales by approximately $8.2 million. In addition, sales from the Company's European subsidiaries increased approximately $4.5 million in the second quarter as a result of new business and by approximately $0.5 million as a result of changes in foreign currency exchange rates. These increases were offset by $4.4 million resulting from resourcing of certain low margin components by a customer. Cost of Sales -- Cost of sales for the second quarter of 2002 was $122.6 million or 83.7% of sales compared to $114.0 million or 82.7% of sales in the second quarter of 2001. Reduced utilization of loss contract reserves adversely impacted cost of sales by $4.5 million in the quarter, or approximately 3.7% of sales. In addition, higher aluminum prices, while not impacting gross profit dollars, impacted costs by approximately 2.0% of sales. Higher depreciation expense, incentive accruals, lower prices to the Company's customers and ramp up costs associated with new business adversely impacted costs by approximately 1.2% of sales. Cost reductions on manufacturing supplies, utilities, freight and maintenance offset the increases described above by 5.9% of sales. S, G & A Expenses -- Selling, general and administrative expenses decreased by $1.0 million to $7.2 million in the second quarter of 2002 from $8.2 million in the second quarter of 2001. The decrease was the result of continued cost reductions including labor cost reductions. Amortization Expense -- The adoption of SFAS No. 142, which resulted in the discontinuation of goodwill amortization effective January 1, 2002, decreased amortization expense by approximately $2.2 million to $0.6 million in the second quarter of 2002 from $2.8 million in the second quarter of 2001. Interest Expense -- Interest expense for the second quarter of 2002 was $11.9 million, a decrease of $1.9 million from the second quarter of 2001. The decrease was due principally to lower weighted average interest rates during the second quarter of 2002. 21 Income Taxes -- The provision for income taxes for the second quarter of 2002 was $1.4 million or 34% of pre tax income. In the second quarter of 2001, the Company recorded a tax provision of $0.9 million, despite a pre tax loss of $1.1 million. The provision was the result of non-income based state taxes. COMPARISON OF THE SIX MONTHS ENDED JUNE 30, 2002 TO THE SIX MONTHS ENDED JUNE 30, 2001 Sales -- Sales for the six months ended June 30, 2002 were $281.1 million, compared to $272.4 million for the six months ended June 30, 2001, an increase of $8.7 million or 3.2%. Approximately $14.7 million of the increase was the result of the increase in North American light vehicle production. Total light vehicle production increased approximately 5.6% in the first half of 2002 as compared to the prior year. Sales from the Company's European subsidiaries increased approximately $5.5 million in the first six months of 2002 as compared to the same period in 2001. The increases were partially offset by $9.4 million resulting from resourcing of certain low margin components by a customer. Cost of Sales -- Cost of sales for the first six months of 2002 was $237.1 million or 84.4% of sales compared to $232.1 million or 85.2% of sales in the first six months of 2001. Reduced utilization of loss contract reserves adversely impacted cost of sales by $7.0 million for six months, or approximately 1.8% of sales. In addition, higher aluminum prices, while not impacting gross profit dollars, impacted costs by approximately 0.5% of sales. Higher depreciation expense, incentive accruals, lower prices to the Company's customers and ramp up costs associated with new business adversely impacted costs by approximately 0.8% of sales. Cost reductions on manufacturing supplies, utilities, freight and maintenance offset the increases described above by 3.9% of sales. S, G & A Expenses --Selling, general and administrative expenses were $14.5 million for the first half of 2002 compared to $16.0 million for the first half of 2001, a decrease of $1.5 million. The decrease was the result of the Company's continuing cost reduction program as well as labor reductions. Amortization Expense --The adoption of SFAS No. 142, which resulted in the discontinuation of goodwill amortization effective January 1, 2002 decreased amortization expense by approximately $4.5 million to $1.2 million in the first half of 2002 from $5.7 million in the first half of 2001. Interest Expense --Interest expense for the first half of 2002 was $23.8 million compared to $28.0 million in the prior year, a decrease of $4.2 million. The decrease was due to lower weighted average interest rates during the 2002 period. Income Taxes -- The provision for income taxes for the first half of 2002 was $1.8 million, or 40% of pre tax income. The effective rate differed from the federal statutory rate of 35% as a result of state and foreign income taxes. In the 2001 period, the Company recorded a tax benefit of $2.1 million or 22.0% of the pre tax loss. The benefit is less than the statutory rate as a result of non-deductible goodwill amortization. LIQUIDITY AND CAPITAL RESOURCES Sources of Cash The Company's principal sources of cash are cash flow from operations, commercial borrowings and sale of equity securities. For the six months ended June 30, 2002 and 2001, the Company generated cash from operations of $3.9 million and $8.8 million, respectively. Cash generated from operations before changes in working capital items was $26.6 million for 2002 period compared to $19.1 million in 2001. Increases in working capital used cash of $22.6 million during the first half of 2002 compared to $10.3 million in the comparable 2001 period. In connection with the April 1999 recapitalization, the Company entered into a senior credit facility that provided for aggregate borrowings of approximately $370.0 million. On October 15, 1999, the Company amended and restated the senior credit facility in connection with the acquisitions of Nelson to provide for 22 an additional $100.0 million of available borrowings. On November 30, 2000, the senior credit facility was amended to defer certain principal repayments scheduled for 2001 to future years and to amend certain restrictive covenants included in the senior credit facility. On July 19, 2002, the senior credit facility was amended to adjust certain restrictive covenants. As of June 30, 2002, interest rates on borrowings under the senior credit facility varied from 4.9% to 7.2%. Borrowings under the tranche A term loan are due and payable April 21, 2005 and borrowings under the tranche B term loan are due and payable on October 21, 2006. The revolving credit facility is available until April 21, 2005. The senior credit facility is secured by all of the assets of and guaranteed by all of the material present and future subsidiaries of the Company, in each case with exceptions for certain foreign subsidiaries and to the extent permitted by applicable law. In May 1999, the Company completed an offering of $175.0 million of 11 1/2% senior subordinated notes due 2009. The net proceeds of the offering of approximately $169.6 million and $0.4 million of cash on hand were used to retire all of the borrowings under the subordinated bridge financing facility, $2.5 million of borrowings under the tranche A term loan and $37.5 million of borrowings under the tranche B term loan of the senior credit facility. The Company did not make an interest payment on the notes of approximately $10.1 million on December 2, 2002, the scheduled payment date. Such payment was made by the Company on December 27, 2002, within the thirty day grace period allowed by the indenture governing the notes. In connection with the October 1999 acquisition of Nelson, the Company borrowed $30.0 million from Tower Automotive, Inc. ("Tower") through the issuance of a 7 1/2% convertible subordinated promissory note due October 14, 2009. In November 2000, Tower exchanged its 7 1/2% convertible subordinated promissory note for a total of 7,124 shares of Class A-1 common stock. The Class A-1 common stock accrues pay-in-kind dividends at an annual rate of 7 1/2%. The dividends are payable, at the sole election of the holder, in either (i) shares of Class A-2 common stock equal to the amount of the dividend to be paid divided by $4,211 or (ii) shares of Class A common stock equal to the amount of the dividend to be paid divided by $5,897. As of September 30, 2002, the Company has accrued $1.9 million in Class A-1 dividends which are included in additional paid-in capital. On May 24, 2000, the Company sold an aggregate of 4,191 shares of the Company's common stock to certain existing stockholders for approximately $17.9 million, the proceeds of which were used to repay indebtedness incurred in connection with the Nelson acquisition. On November 30, 2000, the Company sold 14,248 shares of nonvoting Class P common stock to certain existing stockholders for an aggregate of $60 million. The Class P common stock accrued dividends at an annual rate of 8% and the dividends are payable in cash at the time of redemption of the Class P common stock. On December 27, 2002, the Company incurred the following indebtedness: (i) $95.0 million of a Tranche C term loan, which resulted in net proceeds of $90.3 million. The Tranche C term loan is part of the Company's senior credit facility and matures in October 2006. The loan bears interest at the greater of 11% or prime plus 6%, payable quarterly. There are no scheduled principal payments until maturity. All principal payments are subject to an exit fee of 5% of such principal payment. (ii) $96.4 million secured second lien term loan, which resulted in net proceeds of $94.0 million. The second lien term loan bears 12% cash interest, payable quarterly, and 7% deferred interest. The principal and deferred interest are due on December 31, 2007. The term loan is secured by a second lien on substantially all domestic assets of the Company. The Company also issued warrants to acquire 5% of the fully diluted stockholders equity of the Company to the lenders of the second lien term loans. 23 Concurrently with the debt issuances, the Company issued 65.1 million shares of Class Q-1 and 11.6 million shares of Class Q-2 common stock to a partnership owned by certain stockholders of the Company for total proceeds of $1 million. The net proceeds from the debt and stock issuances described above, were used to retire all tranche A term loan balances ($125.4 million), repay $16.6 million of the tranche B term loan, reduce borrowings under the revolving credit facility by $33.8 million and pay transaction related costs of $9.5 million. In connection with the financing described above, the Company also amended its senior credit facility to extend the revolving credit facility availability until June 30, 2006. The Company's senior credit facility, as amended, and the secured second lien notes include certain restrictive financial covenants including minimum interest coverage and maximum leverage ratios. After giving effect to the indebtedness incurred as described above, the Company's senior credit facility consists of: (A) a $132.7 million tranche B term loan that matures in October 2006, bears interest at prime plus 3.5% or LIBOR plus 4.5% and has no scheduled principal repayments until maturity; (B) a $95.0 million tranche C term that matures in October 2006, bears interest at 11% and has no scheduled principal repayments until maturity; and (C) a $90.0 million revolving credit facility. After giving effect to the financing transactions described above, borrowings under the revolving credit facility totaled $55.0 million as of December 27, 2002. Net cash provided by financing activities totaled $21.7 million for the first half of 2002 compared with net cash provided by financing activities of $8.9 million in the comparable 2001 period. Uses of Cash Net cash used in investing activities was $12.1 million during the first half of 2002 compared to $21.7 million during the comparable 2001 period. Capital expenditures totaled $12.1 million in the first half of 2002 and $21.7 million in the comparable 2001 period and were primarily for equipment purchases related to new or replacement programs. In the first half of 2002, the Company entered into a sale leaseback on certain equipment in the amount of $4.6 million at the Glasgow facility. The purchase of this equipment also took place in the first quarter, resulting in essentially no net cash flows. The Company expects that capital expenditures will be approximately $35.0 million in 2002. Liquidity The Company has a substantial amount of leverage. After giving effect to the financing transactions on December 27, 2002 as described above, the Company has outstanding indebtedness of approximately $578.9 million. In addition, cash interest expense will approximate $57.8 million annually. However, the December 27, 2002 financing transactions eliminated all scheduled senior debt principal repayments until 2006. After giving effect to the financing, the Company had borrowing availability under its revolving credit facility and cash on hand of approximately $35.0 million. The Company believes that cash generated from operations together with available borrowings under its senior credit facility will provide sufficient liquidity and capital resources to fund working capital, debt service obligations and capital expenditures for the foreseeable future. The assumptions underlying this belief include, among other things, that there will be no material adverse developments in either the Company's business or the automotive market in general. There can be no assurances, however, that these assumed events will occur. For example, the general slowdown in the U.S. economy that resulted in lower automotive and light truck production during 2001 had a negative impact on the Company's operations. 24 SEASONALITY The Company typically experiences decreased sales and operating income during the third calendar quarter of each year due to production shutdowns at OEMs for model changeovers and vacations. EFFECTS OF INFLATION Inflation affects the Company in two principal ways. First, a portion of the Company's debt is tied to prevailing short-term interest rates which may change as a result of inflation rates, translating into changes in interest expense. Second, general inflation can impact material purchases, labor and other costs. While the contracts with customers provides for pass through increases in the price of aluminum. The Company does not have the ability to pass through inflation-related cost increases for labor and other costs. In the past few years, however, inflation has not significantly affected the operating results. MARKET RISK The Company is exposed to various market risks arising from adverse changes in market rates and prices, such as foreign currency exchange and interest rates. The Company does not enter into derivatives or other financial instruments for trading or speculative purposes. The strategy for management of currency risk relies primarily upon conducting operations in such countries' respective currencies and the Company may, from time to time, engage in hedging programs intended to reduce its exposure to currency fluctuations. The counterparties are major financial institutions. Interest rate risk is managed by balancing the amount of fixed and variable debt. For fixed rate debt, interest rate changes affect the fair market value of such debt but do not impact earnings or cash flows. Conversely for variable rate debt, interest rate changes generally do not affect the fair market value of such debt, but do impact future earnings and cash flows, assuming other factors are held constant. At June 30, 2002, all of the Company's debt other than the outstanding notes was variable rate debt. Holding other variables constant (such as foreign exchange rates and debt levels), a one percentage point change in interest rates would be expected to have an estimated impact on pre-tax earnings and cash flows for the next year of approximately $2.9 million. The Company has entered into an interest rate swap agreement with a bank having a notional amount of $75 million to reduce the impact of changes in interest rates on the floating rate long-term debt. This agreement effectively changes the interest rate exposure on $75 million of floating rate debt from a LIBOR base rate to a fixed base rate of 4.8%. The interest rate swap agreement matures December 31, 2003. The Company is exposed to credit loss in the event of nonperformance by the other parties to the interest rate swap agreement. However, the Company does not anticipate nonperformance by the counterparties. The fair value of the interest rate swap as of June 30, 2002 was a liability of $3.1 million, which is recorded in the June 30, 2002 balance sheet. A portion of the Company's sales is derived from manufacturing operations in the UK, Spain and Mexico. The results of operations and the financial position of the operations in these countries are principally measured in their respective currency and translated into U.S. dollars. The effects of foreign currency fluctuations in such countries are somewhat mitigated by the fact that expenses are generally incurred in the same currencies in which sales are generated. The reported income of these operations will be higher or lower depending on a weakening or strengthening of the U.S. dollar against the respective foreign currency. Certain of the Company's assets are located in foreign countries and are translated into U.S. dollars at currency exchange rates in effect as of the end of each period, with the effect of such translation reflected as a separate component of stockholders' investment. Accordingly, the consolidated stockholders' investment will fluctuate depending upon the weakening or strengthening of the U.S. dollar against the respective foreign currency. 25 NEW ACCOUNTING PRONOUNCEMENTS In June 2001, the Financial Accounting Standards Board ("FASB") issued Statements of Financial Accounting Standards No. 141, Business Combinations ("SFAS No. 141") and No. 142, Goodwill and Other Intangible Assets ("SFAS No. 142"). SFAS No. 141 requires all business combinations initiated after June 30, 2001 to be accounted for using the purchase method. Under SFAS No. 142, goodwill and intangible assets with indefinite lives are no longer amortized but are reviewed annually, or more frequently if impairment indicators arise, for impairment. Separable intangible assets that are not deemed to have indefinite lives will continue to be amortized over their useful lives. The Company applied the provisions of SFAS No. 142 beginning January 1, 2002. SFAS No. 142 provides for a six-month transitional period from the effective date of adoption for the Company to perform an assessment of whether there is an indication that goodwill is impaired. To the extent that an indication of impairment exists, the Company must perform a second test to measure the amount of the impairment. The Company has completed the initial assessment as required by SFAS No. 142, and has determined that the carrying value exceeded the fair value. The Company is currently in the process of planning the second phase of this evaluation to measure the amount of impairment. Management expects that upon completion of this evaluation, the Company will record a pre-tax non-cash charge of between $150 million and $205 million as the cumulative effect of a change in accounting principle in the statement of operations, although there can be no assurance that the actual amount will not be outside this range. As required by SFAS No. 142, the charge will be recorded in the first quarter of fiscal year 2002 once the second phase of the impairment test is completed. The impairment test is required to be completed and the final adjustments made by December 31, 2002. In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets ("SFAS No. 144"). SFAS No. 144 supercedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of ("SFAS No. 121"). SFAS No. 144 primarily addresses significant issues relating to the implementation of SFAS No. 121 and develops a single accounting model for long-lived assets to be disposed of, whether previously held and used or newly acquired. The Company adopted the provisions of SFAS No. 144 on January 1, 2002, and it had no material impact on results of operations. In April 2002, the FASB issued SFAS 145, Rescission of FASB Statements SFAS 4, 44 and 64, Amendment of FASB Statement No. 13 and Technical Corrections ("SFAS No. 145"). SFAS No. 145 rescinds Statement No. 4, Reporting Gains and Losses from Extinguishments of Debt, and an amendment of that Statement, FASB Statement No. 64, Extinguishments of Debt Made to Satisfy Sinking-Fund Requirements. SFAS No. 145 also rescinds FASB Statement No. 44, Accounting for Intangible Assets of Motor Carriers. SFAS No. 145 amends FASB Statement No. 13, Accounting for Leases, ("SFAS No. 13") to eliminate an inconsistency between the required accounting for sale-leaseback transactions and the required accounting for certain lease modifications that have economic effects that are similar to sale leaseback transactions. SFAS No. 145 also amends other existing authoritative pronouncements to make various technical corrections, clarify meanings, or describe their applicability under changed conditions. The provision of SFAS No. 145 related to SFAS No. 13 should be applied to transactions occurring after May 15, 2002. Early application of the provisions of this Statement is encouraged. The Company does not expect the adoption of SFAS No. 145 will have a significant impact on its consolidated results of operations, financial position or cash flows. In June 2002, the FASB issued Statement No. 146, Accounting for Costs Associated with Exit or Disposal Activities. This Statement requires recording costs associated with exit or disposal activities at their fair values when a liability has been incurred. Under previous guidance, certain exit costs were accrued upon management's commitment to an exit plan, which is generally before an actual liability has been incurred. Adoption of this Statement is required with the beginning of fiscal year 2003. The Company has not yet completed its evaluation of the impact of adopting this Statement. 26 CRITICAL ACCOUNTING POLICIES In December 2001, the SEC requested that all registrants list their most "critical accounting policies" in their periodic reports under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations." The SEC indicated that a "critical accounting policy" is one which is both important to the portrayal of their financial condition and results and requires management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. Management believes that the following accounting policies fit this definition: Revenue Recognition. The Company typically enters into contracts to provide products for the life of a platform for automotive original equipment manufacturers. Revenue is recognized when the product is shipped from the Company's facility as that is the time that title passes to the customer and the selling price is fixed. The Company establishes reserves as appropriate for any pricing related disputes. Reserve for Doubtful Accounts. Senior management reviews the accounts receivable aging on a monthly basis to determine if any receivables will potentially be uncollectable. Detailed reviews are conducted on any accounts significantly in arrears or of material amounts. After all attempts to collect the receivable have failed, the receivable is written off against the reserve. Based on the information available, management believes the reserve for doubtful accounts as of June 30, 2002 was adequate. However, no assurances can be given that actual write-offs will not exceed the recorded reserve. Loss Contracts. The Company is committed under certain existing agreements to supply products to its customers at selling prices which are not sufficient to cover the costs to produce such product. These agreements were part of an acquisition made by the Company. In such situations, the Company records a liability for the estimated future amount of losses. Such losses are recognized at the time that the loss is probable and reasonably estimatable and are recorded at the minimum amount necessary to fulfill the obligation to the customer. Losses are estimated based upon information available at the time of the estimate, including future production volume estimates, length of the program and selling price and product information, and adjusted as new facts are determined. Any change in the estimate will result in a change in period income. Valuation of Long-Lived Assets and Investments. The Company periodically reviews the carrying value of its long-lived assets and investments for continued appropriateness. This review is based upon its projections of anticipated future cash flows. While management believes that its estimates of future cash flows are reasonable, different assumptions regarding such cash flows could materially affect the valuations. If the sum of the expected future cash flows (undiscounted and without interest charges) were less than the carrying amount of goodwill and other long-lived assets, the Company would recognize an impairment loss. The Company uses a probability weighted cash flow estimation approach to deal with situations in which alternative courses of action to recover the carrying amount of a long-lived asset are under consideration or a range is estimated for the amount of possible future cash flows. In 2001, the current and historical operating and cash flow losses of certain operating segments combined with forecasts that demonstrate continuing losses prompted us to assess the recoverability of the goodwill and other long-lived assets of these operating segments. Based on the assessment, the carrying value of goodwill of Inyecta Alum, S.A. de C.V., or "JLF Mexico," exceeded its fair value. Accordingly, the Company recorded an impairment charge of approximately $4.0 million to write down the goodwill during the fourth quarter of 2001. FORWARD-LOOKING STATEMENTS All statements, other than statements of historical fact, included in this Form 10-Q, including without limitation the statements under "Management's Discussion and Analysis of Financial Condition and Results of Operations" are, or may be deemed to be, forward-looking statements within the meaning of Section 27A of the Securities Act and Section 21E of the Securities Exchange Act of 1934, as amended. When used in this Form 10-Q, the words "anticipate," "believe," "estimate," "expect," "intends," and similar expressions, as they relate to the Company, are intended to identify forward-looking statements. Such forward-looking statements are based on the beliefs of the Company's management as well as on assumptions made by and 27 information currently available to the Company at the time such statements were made. Various economic and competitive factors could cause actual results to differ materially from those discussed in such forward-looking statements, including factors which are outside the control of the Company, such as risks relating to: (i) the Company's ability to develop or successfully introduce new products; (ii) general economic or business conditions affecting the automotive industry; (iii) increased competition in the automotive components supply market; and (iv) the Company's failure to complete or successfully integrate additional strategic acquisitions. All subsequent written and oral forward-looking statements attributable to the Company or persons acting on behalf of the Company are expressly qualified in their entirety by such cautionary statements. ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK See "Market Risk" section of Item 2: Management's Discussion and Analysis of Financial Condition and Results of Operations. 28 PART II. OTHER INFORMATION J.L. FRENCH AUTOMOTIVE CASTINGS, INC. AND SUBSIDIARIES Item 1. Legal Proceedings: None. Item 2. Change in Securities: None. Item 3. Defaults Upon Senior Securities: None. Item 4. Submission of Matters to a Vote of Security Holders: None. Item 5. Other Information: None. Item 6. Exhibits and Reports on Form 8-K: (a) Exhibits: 10.1 Amended Certificate of Incorporation of J.L. French Automotive Castings, Inc. 10.2 Second Amendment, dated as of July 15, 2002, to the Amended and Restated Credit Agreement dated as of October 15, 1999. 10.3 Third Amendment, dated as of November 19, 2002, to the Amended and Restated Credit Agreement dated as of October 15, 1999. 10.4 Fourth Amendment, dated as of November 22, 2002, to the Amended and Restated Credit Agreement dated as of October 15, 1999. 10.5 Fifth Amendment, dated as of December 26, 2002, to the Amended and Restated Credit Agreement dated as of October 15, 1999. 10.6 Securities Purchase Agreement, dated December 27, 2002, $96,410,256.41 19% Senior Secured Notes due December 31, 2007. 10.7 Amendment No. 3, dated December 27, 2002, to the Investor Stockholders Agreement dated April 21, 1999. 10.8 Amendment No. 2, dated December 27, 2002, to Registration Agreement and Joinder and Rights Agreement dated April 21, 1999. (b) Reports on Form 8-K: During the quarter for which this report is filed, the Company filed the following Form 8-K Current Reports with the Securities and Exchange Commission: None. 29 SIGNATURE Pursuant to the requirements 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. J.L. FRENCH AUTOMOTIVE CASTINGS, INC. Date: January 16, 2003 By /s/ Mark S. Burgess --------------------------------------- Mark S. Burgess Vice President, Chief Financial Officer 30 I, David S. Hoyte, certify that: 1. I have reviewed this quarterly report on Form 10-Q of J.L. French Automotive Castings, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; January 16, 2003 /s/ David S. Hoyte --------------------------------------- David S. Hoyte Chief Executive Officer 31 I, Mark S. Burgess, certify that: 1. I have reviewed this quarterly report on Form 10-Q of J.L. French Automotive Castings, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; January 16, 2003 /s/ Mark S. Burgess --------------------------------------- Mark S. Burgess Chief Financial Officer

JL FRENCH AUTOMOTIVE CASTING INC 10-Q