Enersys - Form 10-K
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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 


 

FORM 10-K

 


 

x Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the fiscal year ended March 31, 2006 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: 001-32253

 


 

ENERSYS

(Exact name of registrant as specified in its charter)

 


 

Delaware   23-3058564

(State of Incorporation or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

 

2366 Bernville Road

Reading, Pennsylvania 19605

(Address of principal executive offices)

 

Registrant’s telephone number, including area code: 610-208-1991

 


 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class   Name of each exchange on which registered
Common Stock, $0.01 par value   New York Stock Exchange

 

Securities registered pursuant to Section 12(g) of the Act: None

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    ¨  YES    x  NO

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    ¨  YES    x  NO

 

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.    x  YES    ¨  NO

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  x

 

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 Securities Exchange Act of 1934.

 

Large accelerated filer ¨   Accelerated filer x   Non-accelerated filer ¨

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).     ¨  YES    x  NO

 

Aggregate market value of the voting and non-voting common stock held by nonaffiliates at October 2, 2005: $194,497,255 (based upon its closing transaction price on the New York Stock Exchange on September 30, 2005).

 

Common Stock outstanding at June 1, 2006:   Common Stock 46,643,204 shares

 


 

DOCUMENTS INCORPORATED BY REFERENCE

 

Portions of the registrant’s definitive Proxy Statement for its Annual Meeting of Stockholders to be held on July 20, 2006 are incorporated by reference in Part III of this Annual Report.

 



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CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

 

The Private Securities Litigation Reform Act of 1995 (the “Reform Act”) provides a safe harbor for forward-looking statements made by or on behalf of EnerSys. EnerSys and its representatives may, from time to time, make written or verbal forward-looking statements, including statements contained in the Company’s filings with the Securities and Exchange Commission and its reports to stockholders. Generally, the inclusion of the words “believe,” “expect,” “intend,” “estimate,” “anticipate,” “will,” and similar expressions identify statements that constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 and that are intended to come within the safe harbor protection provided by those sections. All statements addressing operating performance, events, or developments that EnerSys expects or anticipates will occur in the future, including statements relating to sales growth, earnings or earnings per share growth, and market share, as well as statements expressing optimism or pessimism about future operating results, are forward-looking statements within the meaning of the Reform Act. The forward-looking statements are and will be based on management’s then-current views and assumptions regarding future events and operating performance, and are applicable only as of the dates of such statements.

 

Forward-looking statements involve risks, uncertainties and assumptions. Although we do not make forward-looking statements unless we believe we have a reasonable basis for doing so, we cannot guarantee their accuracy. Actual results may differ materially from those expressed in these forward-looking statements due to a number of uncertainties and risks, including the risks described in this Annual Report on Form 10-K and other unforeseen risks. You should not put undue reliance on any forward-looking statements. These statements speak only as of the date of this Annual Report on Form 10-K, and we undertake no obligation to update or revise these statements to reflect events or circumstances occurring after the date of this Annual Report on Form 10-K.

 

Our actual results may differ materially from those contemplated by the forward-looking statements for a number of reasons, including the following factors:

 

    general cyclical patterns of the industries in which our customers operate;

 

    the extent to which we cannot control our fixed and variable costs;

 

    the raw material in our products may experience significant fluctuations in market price;

 

    certain raw materials constitute hazardous materials that may give rise to costly environmental and safety claims;

 

    legislation in the European Union and elsewhere regarding the restriction of the use of certain hazardous substances in electrical and electronic equipment (“RoHS”);

 

    risks involved in foreign operations such as disruption of markets, changes in import and export laws, currency restrictions and currency exchange rate fluctuations;

 

    our ability to raise our selling prices to our customers when our product costs increase;

 

    the extent to which we are able to efficiently utilize our global manufacturing facilities and optimize their capacity;

 

    general economic conditions in the markets in which we operate;

 

    competitiveness of the battery markets in the Americas, Europe and Asia;

 

    our timely development of competitive new products and product enhancements in a changing environment and the acceptance of such products and product enhancements by customers;

 

    our ability to adequately protect our proprietary intellectual property, technology and brand names;

 

    unanticipated litigation proceedings to which we might be subject;

 

    changes in our market share in the business segments and regions where we operate;

 

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    our ability to implement our cost reduction initiatives successfully and improve our profitability;

 

    unanticipated quality problems associated with our products;

 

    our ability to implement business strategies, including our acquisition strategy, and restructuring plans;

 

    our acquisition strategy may not be successful in locating advantageous targets;

 

    our ability to successfully integrate any assets, liabilities, customers, systems and management personnel we acquire into our operations and our ability to realize related revenue synergies and cost savings within expected time frames;

 

    our debt and debt service requirements which may restrict our operational and financial flexibility, as well as imposing unfavorable interest and financing costs;

 

    adverse changes in our short- and long-term debt levels under our credit facilities;

 

    our exposure to fluctuations in interest rates on our variable-rate debt;

 

    our inability to attract and retain qualified personnel;

 

    credit risk associated with our customers, including risk of insolvency and bankruptcy;

 

    our ability to successfully recover in the event of a disaster affecting our infrastructure; and

 

    terrorist acts or acts of war, whether in the United States or abroad, could cause damage or disruption to our operations, our suppliers, channels to market or customers, or could cause costs to increase, or create political or economic instability, any of which could have a material adverse effect on our business.

 

This list of factors that may affect future performance is illustrative, but by no means exhaustive. Accordingly, all forward-looking statements should be evaluated with the understanding of their inherent uncertainty.

 

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EnerSys

Annual Report on Form 10-K

For the Fiscal Year Ended March 31, 2006

 

Index

 

               Page

PART I

    
     Cautionary Note Regarding Forward-Looking Statements    A-2
     Item 1.    Business    A-5
     Item 1A    Risk Factors    A-11
     Item 1B    Unresolved Staff Comments    A-16
     Item 2.    Properties    A-17
     Item 3.    Legal Proceedings    A-18
     Item 4.    Submission of Matters to a Vote of Security Holders    A-18

PART II

    
     Item 5.   

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

   A-18
     Item 6.   

Selected Financial Data

   A-19
     Item 7.   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   A-20
     Item 7A.   

Quantitative and Qualitative Disclosures About Market Risk

   A-43
     Item 8.   

Financial Statements and Supplementary Data

   A-45
     Item 9.   

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

   A-87
     Item 9A.   

Controls and Procedures

   A-87
     Item 9B.   

Other Information

   A-87

PART III

    
     Item 10.   

Directors and Executive Officers of the Registrant

   A-87
     Item 11.   

Executive Compensation

   A-87
     Item 12.   

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

   A-87
     Item 13.   

Certain Relationships and Related Transactions

   A-87
     Item 14.   

Principal Accountant Fees and Services

   A-87

PART IV

    
     Item 15.   

Exhibits and Financial Statement Schedules

   A-88
         

Signatures

   A-92

 

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PART I

 

ITEM 1. BUSINESS

 

Overview

 

EnerSys (the “Company,” “we,” or “us”) is the world’s largest manufacturer, marketer and distributor of industrial batteries. We also manufacture, market and distribute related products such as chargers, power equipment and battery accessories, and we provide related after-market and customer-support services for industrial batteries. Industrial batteries generally are characterized as reserve power batteries or motive power batteries.

 

Reserve power batteries also are known as network, standby or stationary power batteries and are used primarily for backup power applications to ensure continuous power supply in case of main (primary) power failure or outage. Reserve power batteries are used primarily to supply standby direct current (“DC”) operating power for:

 

    telecommunications systems, such as wireless, wireline and internet access systems, central and local switching systems, satellite stations and radio transmission stations;

 

    uninterruptible power systems (“UPS”) applications for computer and computer-controlled systems, including process control systems;

 

    specialty power applications, including security systems and recreational vehicles;

 

    switchgear and electrical control systems used in electric utilities and energy pipelines; and

 

    commercial and military aircraft, submarines and tactical military vehicles.

 

Motive power batteries are used to provide power for electric material handling and ground handling equipment, primarily electric industrial forklift trucks. They compete primarily with propane- and diesel-powered internal combustion engines used principally in the following applications:

 

    electric industrial forklift trucks in distribution and manufacturing facilities;

 

    ground support equipment used at airports, including baggage tuggers, pushback tractors and belt loaders; and

 

    mining equipment, including scoops, coal haulers, shield haulers, underground forklifts, shuttle cars and locomotives.

 

History

 

EnerSys and its predecessor companies have been manufacturers of industrial batteries for over 100 years. Morgan Stanley Capital Partners teamed with the management of Yuasa, Inc. in late 2000 to acquire from Yuasa Corporation (Japan) its reserve power and motive power battery businesses in North and South America. We were incorporated in October 2000 for the purpose of completing the Yuasa, Inc. acquisition from Yuasa Corporation (Japan). On January 1, 2001, we changed our name from Yuasa, Inc. to EnerSys to reflect our focus on the energy systems nature of our businesses. In early 2002, we acquired the reserve power and motive power business of the Energy Storage Group, or ESG, of Invensys plc.

 

Today, our reserve power batteries are marketed and sold principally under the PowerSafe, DataSafe and Genesis brands. Our motive power batteries are marketed and sold principally under the Hawker, Exide, Fiamm Motive Power, Uranio and General brands. We also manufacture and sell related direct current—DC—power products including chargers, electronic power equipment and a wide variety of battery accessories. Our battery products span a broad range of sizes, configurations and electrical capacities, enabling us to meet a wide variety of customer applications.

 

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In August 2004, EnerSys completed an initial public offering (the “IPO”) and issued 12,500,000 shares of our common stock at a value of $12.50 per share. The Company’s Registration Statement (SEC File No. 333-115553) for its IPO was declared effective by the Securities and Exchange Commission on July 26, 2004. The Company’s common stock commenced trading on the New York Stock Exchange on July 30, 2004, under the trading symbol “ENS.” At the completion of the offering, we had 45,945,559 shares of common stock outstanding, which included 11,014,421 shares that were outstanding prior to the IPO, 22,431,138 shares of common stock converted from preferred shares, and 12,500,000 new shares issued in the IPO. The net proceeds from the offering were approximately $139.2 million. The net proceeds and $1.7 million of other corporate funds were used to prepay the entire principal and accrued interest and prepayment penalty on our senior second lien term loan ($123.0 million) and to prepay a portion ($17.9 million) of our $380.0 million senior secured term loan B.

 

In August 2004, in order to take advantage of the Company’s lower leverage and lower market borrowing costs, we amended our senior secured credit agreement and reduced our borrowing rates on the senior secured term loan B by 0.50%. The existing term loans ($361.1 million plus accrued interest) were paid off and simultaneously new term loans of $365.0 million were borrowed.

 

In June 2005, the Company acquired the motive power battery business of FIAMM, S.p.A. (FIAMM). This acquisition complements our existing European motive power business.

 

In October 2005, the Company acquired Gerate-und Akkumulatorwerk Zwickau GmbH (GAZ), based in Zwickau, Germany. GAZ is a producer of specialty nickel-based batteries utilized primarily in the energy, rail, telecommunications and uninterruptible power supply (UPS) industries worldwide.

 

In February 2006, the Company purchased a controlling interest in Modular Energy Devices, Inc. (“ModEnergy”), a development stage company that produces large format lithium-ion rechargeable batteries utilized in aerospace and defense applications as well as specialized standby power and commercial applications. This investment provides a foothold in the emerging lithium-ion segment of the industrial battery market and supplements our already broad line of battery offerings.

 

Fiscal Year Reporting

 

In this Report, when we refer to our fiscal years, we say “fiscal” and the year number, as in “fiscal 2006”, which refers to our fiscal year ended March 31, 2006. The Company reports interim financial information for 13-week periods, except for the first quarter, which always begins on April 1, and the fourth quarter, which always ends on March 31. The four fiscal quarters in fiscal 2006 ended on July 3, 2005, October 2, 2005, January 1, 2006, and March 31, 2006, respectively. The four fiscal quarters in fiscal 2005 ended on July 4, 2004, October 3, 2004, January 2, 2005, and March 31, 2005. Financial information about segments and geographic areas is incorporated by reference to note 20 of our consolidated financial statements.

 

Recent Developments

 

In May 2006, we purchased the assets of Alliant Techsystems’ (NYSE:ATK) lithium primary battery business, located at its Power Sources Center (PSC) in Horsham, PA. PSC has been producing state-of-the-art lithium power sources for over 40 years, primarily for aerospace and defense applications. It is a leader in ambient temperature lithium reserve and active primary batteries, having produced over 30 million batteries for different weapon platforms of the US military. As part of the transaction, ATK has signed a 5-year supply agreement for all of its requirements for products produced at PSC. This business is expected to generate approximately $10 million in revenue during its first 12 months of operations. With this acquisition, we will be able to leverage our recent investment in lithium-ion rechargeable batteries to provide a wider offering of these products to our customers. PSC will now be known as EnerSys Advanced Systems.

 

On May 4, 2006, we settled several related litigation matters. As a result of this settlement, we received net proceeds of approximately $2.8 million after giving effect to related legal fees and expenses.

 

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On April 15, 2002, Exide Technologies filed for protection under Chapter 11 of the U.S. Bankruptcy Code in the United States Bankruptcy Court for the District of Delaware. During the course of its Chapter 11 proceedings, Exide Technologies sought to reject certain agreements related to the 1991 sale of Exide Technologies’ industrial battery business to Yuasa, including the trademark licensing agreement, which grants us the right, among other things, to use the “Exide” trade name. We opposed Exide Technologies’ attempt to reject these agreements. On April 3, 2006, the Court found in favor of Exide Technologies and ruled that after a transition period of up to two (2) years, the specifics of which are to be determined at a future hearing, the trademark will revert back to Exide Technologies. We respectfully disagree with the Court’s decision and have appealed this ruling. At this time, we believe that, if we are unsuccessful in our appeal, the termination of the license will not have a material effect on our financial results.

 

Our Customers

 

We serve over 10,000 customers in over 100 countries, on a direct basis or through our distributors. No single customer accounts for more than 6% of our revenues.

 

Reserve Power

 

Our reserve power customers consist of regional customers as well as global customers. These customers are in diverse markets ranging from telecom to UPS, electric utilities, security systems, emergency lighting and personal mobility. In addition, we sell our aerospace and defense products to numerous countries, including the governments of the U.S., Germany and the U.K. and to major defense and aviation original equipment manufacturers, which we refer to as OEM.

 

Motive Power

 

Our motive power customers include a large, diversified customer base. We are not overly dependent on any particular end market or geographic region. These customers include materials handling equipment dealers, OEMs and end users of such equipment. End users include manufacturers, distributors, warehouse operators, retailers, airports, mine operations and railroads.

 

Distribution and Services

 

Reserve Power

 

We distribute, sell and service reserve power products globally through a combination of company-owned offices, independent manufacturers’ representatives and distributors managed by our regional sales managers. With our global manufacturing locations and regional warehouses, we believe we are well positioned to meet our customers’ delivery and servicing requirements. We have targeted our approach to meet local market conditions, which we believe provides the best possible service for our regional customers and our global accounts.

 

Motive Power

 

We distribute, sell and service our motive power products throughout the world, principally through company-owned sales and service facilities, as well as through independent manufacturers’ representatives. We believe we are one of the only battery manufacturers in the motive power battery industry that operates a primarily company-owned service network. This company-owned network allows us to offer high-quality service, including preventative maintenance programs and customer support. Our warehouses and service locations enable us to respond quickly to customers in the markets we serve. The extensive industry experience of our sales organization results in strong long-term customer relationships.

 

Manufacturing and Raw Materials

 

We manufacture and assemble reserve power and motive power batteries and related products at manufacturing facilities located across the Americas, Europe and Asia. We believe that our global approach to

 

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manufacturing has significantly helped us increase our market share during the past several years. With a view toward projected demand, we strive to optimize and balance capacity at our battery manufacturing facilities located throughout the world, while simultaneously minimizing our product cost. By taking a global view of our manufacturing requirements and capacity, we are better able to anticipate potential capacity bottlenecks and equipment and capital funding needs.

 

The primary raw materials used to manufacture our products include lead, plastics, steel and copper. We purchase lead from a number of leading suppliers throughout the world. Because lead is traded on the world’s commodity markets and its price fluctuates daily, we enter into hedging arrangements from time to time for a portion of our projected requirements to reduce the volatility of these fluctuations.

 

Competition

 

The industrial battery market is highly competitive and has experienced substantial consolidation both among competitors who manufacture and sell industrial batteries and among customers who purchase industrial batteries. Our competitors range from development stage companies to major domestic and international corporations. We also compete with other energy storage technologies. We compete primarily on the basis of reputation, product quality, reliability of service, delivery and price. We believe that our products and services are competitively priced.

 

Reserve Power

 

We believe we have one of the largest market shares for reserve power products on a worldwide basis. We compete principally with Exide Technologies, GS Yuasa, C&D Technologies, FIAMM and East Penn Manufacturing.

 

Motive Power

 

We believe we have the largest market share for motive power products on a worldwide basis. Our principal competitor, on a global basis, is Exide Technologies. On a regional basis, East Penn Manufacturing and C&D Technologies compete with us in North America, Hoppecke competes with us in Europe, and JSB, Shinkobe, GS Yuasa and Hitachi compete with us in Asia.

 

Warranties

 

Warranties for our products vary by geography and product and are competitive with other suppliers of these types of products. Generally, our reserve power products’ warranties range from one- to twenty-years and our motive power products’ warranties range from one- to seven-years. The length of our warranties is sometimes extended to reflect varied regional characteristics and competitive influences. In some cases, we may extend the warranty period to include a pro rata period, which is typically based around the design life of the product and the application served. Our warranties generally cover defects in workmanship and materials and are limited to specific usage parameters.

 

Intellectual Property

 

We have numerous patents and patent licenses in the United States and other jurisdictions but do not consider any patent to be material to our business. From time to time, however we apply for patents on new inventions and designs, but we believe that the growth of our business will depend primarily upon the quality of our products and our relationships with our customers, rather than the extent of our patent protection.

 

Although other manufacturers may possess certain thin-plate pure-lead technology (“TPPL”), we believe we are the only manufacturer of products using TPPL technology in the markets we serve. Some aspects of this technology may be patented in the future. In any event, we believe that a significant capital investment would be required by any party desiring to produce products using TPPL technology for these markets.

 

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We own or possess exclusive and non-exclusive licenses and other rights to use a number of trademarks in various jurisdictions. We have obtained registrations for many of these trademarks in the United States and other jurisdictions. Our various trademark registrations currently have a duration of approximately one to 10 years, varying by mark and jurisdiction of registration and may be renewable. We endeavor to keep all of our material registrations current. We believe that many such rights and licenses are important to our business by helping to develop strong brand-name recognition in the marketplace. Some of the significant (registered and unregistered) trademarks that we use include: Armasafe+, Chloride, Cobra, Cyclon, DataSafe, Deserthog, Energy Plus, Envirolink, ESB, Espace, Exide, Exide-Ironclad, Express, FIAMM Motive Power, GBC, Genesis, Genesis NP, Genesis Pure Lead, Hawker, HUP, Hybernator, Liberator, LifeGuard, LifePlus, Loadhog, Oasis, Odyssey, Oldham, Perfect, PowerGuard, PowerLease, Powerline, PowerPlus, PowerSafe, Smarthog, Superhog, Supersafe, Titan PowerTech, Urano, Varta, Waterless and Workhog.

 

See “Recent Developments:” above and “Litigation—Exide Litigation” for information concerning currently pending litigation involving our continuing right to use the Exide trademark.

 

Seasonality

 

Our business generally does not experience significant monthly or quarterly fluctuations in net sales as a result of weather or other trends that can be directly linked to seasonality patterns. However, our second fiscal quarter normally experiences moderate reductions in net sales as compared to our first fiscal quarter for that year, due to summer manufacturing shutdowns of our customers and holidays primarily in the United States and Western Europe. In fiscal 2004 and 2005 the impact of this seasonal weakness was mitigated to a significant degree by strengthening currencies, primarily the euro, where we conduct slightly more than half of our business. However, in fiscal 2006, our second quarter was slightly higher than the first quarter. Our fourth fiscal quarter normally experiences the highest sales of any fiscal quarter within a given year. Many reserve power telecommunications customers tend to perform extensive service and engage in higher battery replacement and maintenance activities in the first calendar quarter of a year, which is our fourth fiscal quarter. In addition, many of our largest industrial customers are on a calendar fiscal year basis and many tend to purchase their durable goods more heavily in that quarter than any other within the calendar year.

 

Product and Process Development

 

Our product and process development efforts are focused on the creation and optimization of new battery products using existing technologies, which, in certain cases, differentiate our stored energy solutions from our competition’s. We allocate our resources to the following key areas:

 

    the design and development of new products;

 

    optimizing and expanding our existing product offering;

 

    waste reduction;

 

    production efficiency and utilization;

 

    capacity expansion, without additional facilities; and

 

    quality attribute maximization.

 

Employees

 

At March 31, 2006, we had approximately 7,500 employees. Of these employees, approximately 3,200, almost all of whom work in our European facilities, were covered by collective bargaining agreements. The average term of these agreements is one to two years, with the longest term being three and one-half years. These agreements expire over the period from 2006 to 2009.

 

We consider our employee relations to be good. We have not experienced any significant labor unrest or disruption of production.

 

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Environmental Matters

 

In the manufacture of our products throughout the world, we process, store, dispose of and otherwise use large amounts of hazardous materials, especially lead and acid. As a result, we are subject to extensive and changing environmental, health and safety laws and regulations governing, among other things: the generation, handling, storage, use, transportation and disposal of hazardous materials; remediation of polluted ground or water; emissions or discharges of hazardous materials into the ground, air or water; and the health and safety of our employees. Compliance with these laws and regulations results in ongoing costs. Failure to comply with these laws and regulations, or to obtain or comply with required environmental permits, could result in fines, criminal charges or other sanctions by regulators. From time to time we have had instances of alleged or actual noncompliance that have resulted in the imposition of fines, penalties and required corrective actions. Our ongoing compliance with environmental, health and safety laws, regulations and permits could require us to incur significant expenses, limit our ability to modify or expand our facilities or continue production and require us to install additional pollution control equipment and make other capital improvements. In addition, private parties, including current or former employees, could bring personal injury or other claims against us due to the presence of, or their exposure to, hazardous substances used, stored, transported or disposed of by us or contained in our products.

 

Certain environmental laws assess liability on owners or operators of real property for the cost of investigation, removal or remediation of hazardous substances at their current or former properties or at properties at which they have disposed of hazardous substances. These laws may also assess costs to repair damage to natural resources. We may be responsible for remediating damage to our properties that was caused by former owners. Soil and groundwater contamination has occurred at some of our current and former properties and may occur or be discovered at other properties in the future. We currently are investigating and monitoring soil and groundwater contamination at certain of our properties, and we may be required to conduct these operations at other properties in the future. In addition, we have been and in the future may be liable to contribute to the cleanup of locations owned or operated by other persons to which we or our predecessor companies have sent wastes for disposal, pursuant to federal and other environmental laws. Under these laws, the owner or operator of contaminated properties and companies that generated, disposed of or arranged for the disposal of wastes sent to a contaminated disposal facility can be held jointly and severally liable for the investigation and cleanup of such properties, regardless of fault.

 

Seven of our facilities in the United States and Europe are certified to ISO 14001 standards. ISO 14001 is a globally recognized, voluntary program that focuses on the implementation, maintenance and continual improvement of an environmental management system and the improvement of environmental performance.

 

Manchester, England

 

We currently have identified three potentially significant environmental issues at our Manchester, England battery facility: lead slag piles that may pose a health risk are located in the vicinity of a public footpath on the property; the potential restoration of the Manchester, Bolton and Bury Canal by British Waterways may lead to sampling and/or remediation obligations with respect to the canal and surrounding areas located on our property; and there may be multiple and as yet unidentified areas of soil and groundwater contamination at the facility. We believe we have a right to be indemnified by the previous owner for these potential environmental liabilities in excess of amounts accrued and submitted a notice of claim to the previous owner in May 2003 regarding these issues. No government or third-party lawsuits, regulatory actions or orders have been filed with respect to this site to date, and all our actions at this site to date are voluntary. The only action that has been taken at this site is the testing of the footpath area. To date, the previous owner has assumed full responsibility for this testing. We originally established a reserve for this facility at £3.5 million, and as of March 31, 2006 it amounted to approximately $6.0 million. This reserve was set up under purchase accounting. Based on the information available at this time, we believe these reserves are sufficient to satisfy these environmental liabilities.

 

Sumter, South Carolina

 

We currently are responsible for certain cleanup obligations at the former Yuasa battery facility in Sumter, South Carolina. This battery facility was closed in 2001 and is separate from our current metal fabrication facility

 

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in Sumter. Remediation issues related to lead contamination in the soil were addressed pursuant to a 1998 Consent Order with the State of South Carolina, and we believe this matter to be closed. We are subject to ongoing storm water inspection requirements under a 2000 Consent Order based on suspected lead contamination. We also are in ongoing discussions with the State of South Carolina regarding alleged trichloroethylene (TCE) and other volatile organic compound (VOC) contamination in the groundwater that predates our ownership of this facility. There may be other unidentified contaminants in the soil or groundwater that also predate our ownership of this facility. We believe we are insured against losses arising out of the alleged VOC contamination pursuant to our environmental insurance policy for U.S. facilities and filed a notice of claim with our insurance carrier in October 2002 regarding this contamination. In July 2004, we received written confirmation from our insurance carrier that we are insured against losses over $500,000 with respect to the investigation of this VOC contamination. We also believe we will be indemnified by the former owner of the facility for environmental liabilities at this facility in excess of amounts accrued and submitted a notice of claim to them in 2002 regarding these issues. We have established a reserve for this facility and, as of March 31, 2006, it amounted to approximately $2.2 million. Based on current information, we believe these reserves are adequate to satisfy our environmental liabilities at this facility.

 

Quality Systems

 

We utilize a global strategy for quality management systems, policies and procedures, the basis of which is the ISO 9001:2000 standard, which is a worldwide recognized quality standard. We believe in the principles of this standard and reinforce this by requiring mandatory compliance for all manufacturing, sales and service locations that are registered to the ISO 9001 standard. This strategy enables us to provide effective products and services to meet our customers’ needs.

 

Available Information

 

We file annual, quarterly and current reports, proxy statements and other information with the Securities and Exchange Commission (the “SEC”). These filings are available to the public on the Internet at the SEC’s website at http://www.sec.gov. You may also read and copy any document we file with the SEC at the SEC’s public reference room, located at 100 F Street, N.E., Room 1580, Washington, D.C. 20549. Please call the SEC at 1-800-SEC-0330 for further information on the public reference room.

 

Our Internet address is http://www.enersys.com. We make available free of charge on http://www.enersys.com our annual, quarterly and current reports, and amendments to those reports, as soon as reasonably practicable after we electronically file such material with, or furnish it to, the SEC.

 

ITEM 1A. RISK FACTORS

 

The following risks and uncertainties, as well as others described in this Annual Report on Form 10-K, could materially adversely affect our business, results of operations and financial conditions. Security holders are cautioned that these and other factors may affect future performance and cause actual results to differ from those which may, from time to time, be anticipated. See “Cautionary Note Regarding Forward-Looking Statements.”

 

We operate in an extremely competitive industry and are subject to continual pricing pressure.

 

We compete with a number of major international manufacturers and distributors, as well as a large number of smaller, regional competitors. Due to excess capacity in some sectors of our industry, consolidation among industrial battery purchasers and the financial difficulties being experienced by several of our competitors, we have been subjected to continual and significant pricing pressures. These pricing pressures have prevented us from fully passing through to customers increased costs. We anticipate heightened competitive pricing pressure as Chinese and other foreign producers, able to employ labor at significantly lower costs than producers in the U.S. and Western Europe, expand their export capacity and increase their marketing presence in our major U.S. and European markets. Several of our competitors have strong technical, marketing, sales, manufacturing, distribution and other resources, as well as significant name recognition, established positions in the market and

 

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long-standing relationships with original equipment manufacturers and other customers. In addition, certain of our competitors own lead smelting facilities which, during periods of lead cost increases or price volatility, may provide a competitive pricing advantage and reduce their exposure to volatile raw material costs. Our ability to maintain and improve our operating margins has depended, and continues to depend, on our ability to control and reduce our costs. We cannot assure you that we will be able to continue to reduce our operating expenses, to raise or maintain our prices or increase our unit volume, in order to maintain or improve our operating results.

 

Cyclical industry conditions of our customers have adversely affected and may continue to adversely affect our results of operations.

 

Our operating results are affected by the general cyclical pattern of the industries in which our major customer groups operate and the overall economic conditions in which we and our customers operate. For example, the significant capital expenditures made by the telecommunications industry during the period from fiscal 1999 through fiscal 2001, as numerous companies expanded their systems and installed standby backup battery power systems, drove demand for our reserve power products. As the telecommunications industry dramatically reduced the building of new systems in response to massive overcapacity, the demand for our reserve power products for this important application declined significantly. Both our reserve power and motive power segments are heavily dependent on the end-user markets they serve, such as telecommunications, UPS and electric industrial forklift trucks. A weak capital expenditure environment in these markets has had, and can be expected to have, a material adverse effect on our results of operations.

 

Our raw materials costs are volatile and expose us to significant movements in our product costs.

 

We employ significant amounts of lead, plastics, steel, copper and other materials in our manufacturing processes. We estimate that raw material costs account for approximately half of our cost of goods sold. Lead is our most significant raw material. The costs of these raw materials, particularly lead, are volatile and beyond our control.

 

Volatile raw material costs can significantly affect our operating results and make period-to-period comparisons extremely difficult. We cannot assure you that we will be able to hedge the costs of our raw material requirements at a reasonable level or pass on to our customers the increased costs of our raw materials.

 

Our operations expose us to the risk of material environmental, health and safety liabilities, costs, and litigation.

 

In the manufacture of our products throughout the world, we process, store, dispose of and otherwise use large amounts of hazardous materials, especially lead and acid. As a result, we are subject to extensive and changing environmental, health and safety laws and regulations governing, among other things: the generation, handling, storage, use, transportation and disposal of hazardous materials; remediation of polluted ground or water; emissions or discharges of hazardous materials into the ground, air or water; and the health and safety of our employees. Compliance with these laws and regulations results in ongoing costs. Failure to comply with these laws or regulations, or to obtain or comply with required environmental permits, could result in fines, criminal charges or other sanctions by regulators. From time to time we have had instances of alleged or actual noncompliance that have resulted in the imposition of fines, penalties and required corrective actions. Our ongoing compliance with environmental, health and safety laws, regulations and permits could require us to incur significant expenses, limit our ability to modify or expand our facilities or continue production and require us to install additional pollution control equipment and make other capital improvements. In addition, private parties, including current or former employees, could bring personal injury or other claims against us due to the presence of, or exposure to, hazardous substances used, stored or disposed of by us or contained in our products.

 

Certain environmental laws assess liability on owners or operators of real property for the cost of investigation, removal or remediation of hazardous substances at their current or former properties or at properties at which they have disposed of hazardous substances. These laws may also assess costs to repair

 

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damage to natural resources. We may be responsible for remediating damage to our properties that was caused by former owners. Soil and groundwater contamination has occurred at some of our current and former properties and may occur or be discovered at other properties in the future. We are currently investigating and monitoring soil and groundwater contamination at certain of our properties, and we may be required to conduct these operations at other properties in the future. In addition, we have been and in the future may be liable to contribute to the cleanup of locations owned or operated by other persons to which we or our predecessor companies have sent wastes for disposal, pursuant to federal and other environmental laws. Under these laws, the owner or operator of contaminated properties and companies that generated, disposed of or arranged for the disposal of wastes sent to a contaminated disposal facility can be held jointly and severally liable for the investigation and cleanup of such properties, regardless of fault.

 

We cannot assure you that we have been or at all times will be in compliance with environmental laws and regulations or that we will not be required to expend significant funds to comply with, or discharge liabilities arising under, environmental laws, regulations and permits, or that we will not be exposed to material environmental, health or safety litigation.

 

Recent legislation in the European Union could adversely affect our results of operations.

 

The European Union has directed that new electrical and electronic equipment not contain certain hazardous substances, including lead and cadmium, beginning July 1, 2006. Because battery accessories and chargers are subject to this directive (commonly known as RoHS), our compliance with the directive will directly impact our manufacturing of these products and could cause certain of our existing inventory to be obsolete. In addition, certain other jurisdictions outside the European Union have implemented, or plan to implement, similar restrictions with various compliance dates. We cannot assure you that we will meet all restrictions by the required dates. Inventory obsolescence and our failure to comply could each have an adverse effect on our financial results.

 

We are exposed to exchange rate risks, and our net income and financial condition may suffer due to currency translations.

 

We invoice foreign sales and service transactions in local currencies and translate net sales using actual exchange rates during the period. We translate our non-U.S. assets and liabilities into U.S. dollars using current rates as of the balance sheet date. Because a significant portion of our revenues and expenses are denominated in foreign currencies, changes in exchange rates between the U.S. dollar and foreign currencies, primarily the euro and British pound, may adversely affect our revenue, cost of revenue and operating margins. For example, foreign currency depreciation against the U.S. dollar will reduce the value of our foreign revenues and operating earnings as well as reduce our net investment in foreign subsidiaries.

 

Most of the risk of fluctuating foreign currencies is in our European operations, which comprised over half of our net sales during the last two fiscal years. The euro is the dominant currency in our European operations.

 

The translation impact from currency fluctuations on net sales and operating earnings in the Americas and Asia is minimal, as a substantial majority of these net sales and operating earnings are in dollars or are closely correlated to the dollar.

 

Foreign currency depreciation will make it more expensive for our non-U.S. subsidiaries to purchase certain of our raw material commodities that are priced globally in U.S. dollars, while the related revenue will decrease when translated to U.S. dollars. Significant movements in foreign exchange rates can have a material impact on our results of operations and financial condition. We periodically engage in hedging of our foreign currency exposure, but cannot assure you that we can successfully hedge all of our foreign currency exposure or do so at a reasonable cost.

 

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Our international operations may be adversely affected by actions taken by foreign governments or other forces or events over which we may have no control.

 

We currently have significant manufacturing and distribution facilities outside of the U.S., including in the United Kingdom, France, Germany, China, Mexico, Poland, Czech Republic, Spain, Italy and Canada. We may face political instability and economic uncertainty, cultural and religious differences and difficult labor relations in our foreign operations. We also may face barriers in the form of long-standing relationships between potential customers and their existing suppliers, national policies favoring domestic manufacturers and protective regulations including exchange controls, restrictions on foreign investment or the repatriation of profits or invested capital, changes in export or import restrictions and changes in the tax system or rate of taxation in countries where we do business. We cannot assure you that we will be able to successfully develop and expand our international operations and sales or that we will be able to overcome the significant obstacles and risks of our international operations.

 

Our failure to introduce new products and product enhancements and broad market acceptance of new technologies introduced by our competitors could adversely affect our business.

 

Many new energy storage technologies have been introduced over the past several years. In addition, recent advances in fuel cell and flywheel technology have been introduced for use in selected applications that compete with the end uses for industrial batteries. For certain important and growing markets, such as aerospace and defense, lithium-based battery technologies have large and growing market share. Our ability to achieve significant and sustained penetration of key developing markets, including aerospace and defense, will depend upon our success in developing or acquiring these and other technologies, either independently, through joint ventures or through acquisitions. If we fail to develop or acquire, and manufacture and sell, products that satisfy our customers’ demands, or we fail to respond effectively to new product announcements by our competitors by quickly introducing competitive products, then market acceptance of our products could be reduced and our business could be adversely affected. We cannot assure you that our lead-acid products will remain competitive with products based on new technologies.

 

We may not be able adequately to protect our proprietary intellectual property and technology.

 

We rely on a combination of copyright, trademark, patent and trade secret laws, non-disclosure agreements and other confidentiality procedures and contractual provisions to establish, protect and maintain our proprietary intellectual property and technology and other confidential information. Certain of these technologies, especially in thin-plate pure-lead—TPPL—technology, are important to our business and are not protected by patents. Despite our efforts to protect our proprietary intellectual property and technology and other confidential information, unauthorized parties may attempt to copy or otherwise obtain and use our intellectual property and proprietary technologies.

 

We may lose our right to use the Exide trademark.

 

On April 15, 2002, Exide Technologies filed for protection under Chapter 11 of the U.S. Bankruptcy Code in the United States Bankruptcy Court for the District of Delaware. During the course of its Chapter 11 proceedings, Exide Technologies sought to reject certain agreements related to the 1991 sale of Exide Technologies’ industrial battery business to Yuasa, including the trademark licensing agreement, which grants us the right, among other things, to use the “Exide” trade name. We opposed Exide Technologies’ attempt to reject these agreements. On April 3, 2006, the Court found in favor of Exide Technologies and ruled that after a transition period of up to two (2) years, the specifics of which are to be determined at a future hearing, the trademark will revert back to Exide Technologies. We respectfully disagree with the Court’s decision and have appealed this ruling. As with any litigation, we cannot assure you that we will be successful and will retain the right to this trademark. Further, we cannot give you any assurances as to the transition period that will ultimately be imposed on us by the Court if our appeal is unsuccessful.

 

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Relocation of our customers’ operations could adversely affect our business.

 

The trend by a number of our North American and Western European customers to move manufacturing operations and expand their businesses into Asia and other low labor-cost markets may have an adverse impact on our business. As our customers in traditional manufacturing-based industries seek to move their manufacturing operations to lower-cost territories, there is a risk that these customers will source their energy storage products from competitors located in those territories and will cease or reduce the purchase of products from our manufacturing plants. We cannot assure you that we will be able to compete effectively with manufacturing operations of energy storage products in those territories, whether by establishing or expanding our manufacturing operations in those lower-cost territories or acquiring existing manufacturers.

 

We may fail to implement our cost reduction initiatives successfully and improve our profitability.

 

We must continue to implement cost reduction initiatives to achieve additional cost savings in future periods. We cannot assure you that we will be able to achieve all of the cost savings that we expect to realize from current or future initiatives. In particular, we may be unable to implement one or more of our initiatives successfully or we may experience unexpected cost increases that offset the savings that we achieve. Given the continued competitive pricing pressures experienced in our industry, our failure to realize cost savings would adversely affect our results of operations.

 

Quality problems with our products could harm our reputation and erode our competitive position.

 

The success of our business will depend upon the quality of our products and our relationships with customers. In the event that our products fail to meet our customers’ standards, our reputation could be harmed, which would adversely affect our marketing and sales efforts. We cannot assure you that our customers will not experience quality problems with our products.

 

We offer our products under a variety of brand names, the protection of which is important to our reputation for quality in the consumer marketplace.

 

We rely upon a combination of trademark, licensing and contractual covenants to establish and protect the brand names of our products. We have registered many of our trademarks in the U.S. Patent and Trademark Office and in other countries. In many market segments, our reputation is closely related to our brand names. Monitoring unauthorized use of our brand names is difficult, and we cannot be certain that the steps we have taken will prevent their unauthorized use, particularly in foreign countries where the laws may not protect our proprietary rights as fully as in the U.S. We cannot assure you that our brand names will not be misappropriated or utilized without our consent or that such actions will not have a material adverse effect on our reputation and on our results of operations.

 

We may fail to implement our plans to make acquisitions.

 

As part of our business strategy, we have grown, and plan to continue growing, by acquiring other product lines, technologies or facilities that complement or expand our existing business. We may be unable to implement this part of our business strategy and may not be able to make acquisitions to continue our growth. There is significant competition for acquisition targets in the industrial battery industry. We may not be able to identify suitable acquisition candidates or negotiate attractive terms. In addition, we may have difficulty obtaining the financing necessary to complete transactions we pursue. In that regard, our credit facilities restrict the amount of additional indebtedness that we may incur to finance acquisitions and place other restrictions on our ability to make acquisitions. Our failure to execute our acquisition strategy could have a material adverse effect on our business. The amounts we may pay for acquisitions are subject to limits on individual transactions and aggregate limits over the term of the credit facilities—until 2011 under the senior secured credit facility. Our individual transaction limits are $25.0 million cash and $75.0 million total (cash and company stock), and our aggregate limits are $100.0 million cash and $200.0 million total. Our ability to incur additional indebtedness

 

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also is restricted such that any significant acquisitions that could not be financed through cash generated from operations would need to be financed through issuance of additional company common stock. Exceeding any of these limitations would require the consent of our lenders. We cannot assure you that our acquisition strategy will be successful.

 

Any acquisitions that we complete may dilute your ownership interest in EnerSys, may have adverse effects on our financial condition and results of operations and may cause unanticipated liabilities.

 

Future acquisitions may involve the issuance of our equity securities as payment, in part or in full, for the businesses or assets acquired. Any future issuances of equity securities would dilute your ownership interests. In addition, future acquisitions might not increase, and may even decrease, our earnings or earnings per share and the benefits derived by us from an acquisition might not outweigh or might not exceed the dilutive effect of the acquisition. We also may incur additional debt or suffer adverse tax and accounting consequences in connection with any future acquisitions.

 

The failure of critical computer systems could seriously affect our sales and operations.

 

We operate a number of critical computer systems throughout our business that can fail for a variety of reasons. If such a failure were to occur, then we may not be able to sufficiently recover from the failure in time to avoid the loss of data or adversely impact certain of our operations that are dependent on such system. This could result in lost sales and the inefficient operation of our facilities for the duration of such a failure.

 

Our significant indebtedness could adversely affect our financial condition.

 

As of March 31, 2006, we had $402.5 million of total consolidated debt. This level of debt could:

 

    increase our vulnerability to adverse general economic and industry conditions, including interest rate fluctuations, because a significant portion of our borrowings bear, and will continue to bear, interest at floating rates;

 

    require us to dedicate a substantial portion of our cash flow from operations to debt service payments, which would reduce the availability of our cash to fund working capital, capital expenditures or other general corporate purposes, including acquisitions;

 

    limit our flexibility in planning for, or reacting to, changes in our business and industry;

 

    restrict our ability to introduce new products or new technologies or exploit business opportunities;

 

    place us at a disadvantage compared with competitors that have proportionately less debt;

 

    limit our ability to borrow additional funds in the future, if we need them, due to financial and restrictive covenants in our debt agreements; and

 

    have a material adverse effect on us if we fail to comply with the financial and restrictive covenants in our debt agreements.

 

This list of factors that may affect future performance is illustrative, but by no means exhaustive. Accordingly, all forward-looking statements should be evaluated with the understanding of their inherent uncertainty.

 

ITEM 1B. UNRESOLVED STAFF COMMENTS

 

Not applicable

 

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ITEM 2. PROPERTIES

 

Set forth below is certain information, as of June 1, 2006, with respect to our principal properties. The primary function of the listed facilities is manufacturing of industrial batteries, unless otherwise noted.

 

Location


  

Function/Products Produced


   Size
(sq. feet utilized)


     Owned/Leased

North America:

                

Reading, PA

  

Corporate Offices

   109,000      Owned

Warrensburg, MO

  

Reserve Power Batteries

   376,000      Owned

Hays, KS

  

Reserve Power Batteries

   351,000      Owned

Richmond, KY

  

Motive and Reserve Power Batteries

   277,000      Owned

Monterrey, Mexico

  

Reserve and Motive Power Batteries

   181,000      Owned

Tijuana, Mexico

  

Reserve Power Batteries

   156,000      Owned

Ooltewah, TN

  

Motive Power Batteries

   100,750      Owned

Richmond, KY

  

Distribution Center, Motive and Reserve Power Batteries and Components

   95,500      Owned

Cleveland, OH

  

Motive Power Chargers

   66,000      Owned

Saddlebrook, NJ

  

Distribution Center, Motive and Reserve Power Batteries

   58,500      Leased

Sumter, SC

  

Metal fabrication, Motive and Reserve Power

   52,000      Owned

Chino, CA

  

Distribution Center, Reserve Power Batteries

   46,400      Leased

Sumter, SC

  

Distribution Center, Motive and Reserve Power Batteries, Manufacturing Closed

   40,000      Owned

Santa Fe Springs, CA

  

Distribution Center, Motive and Reserve Power Batteries

   35,000      Leased

Brampton, Canada

  

Distribution Center, Motive and Reserve Power Batteries

   30,400      Leased

Burr Ridge, IL

  

Distribution Center, Motive and Reserve Power Batteries

   25,000      Leased

Norcross, GA

  

Distribution Center, Motive and Reserve Power Batteries

   23,600      Leased

Kansas City, MO

  

Distribution Center, Motive Power Batteries

   19,700      Leased

Dallas, TX

  

Distribution Center, Motive Power Batteries

   19,500      Leased

Horsham, PA

  

Lithium Battery Products

   15,000      Leased

Warrington, PA

  

Distribution Center, Motive Power Batteries

   15,000      Leased

 

Europe:

Arras, France

  

Reserve and Motive Power Batteries

   486,000      Owned

Manchester, England

  

Reserve Power Batteries

   284,000      Owned

Newport, Wales

  

Reserve Power Batteries

   233,000      Owned

Montecchio, Italy

  

Motive Power Batteries

   207,000      Leased

Hagen, Germany

  

Reserve and Motive Power Batteries

   185,000      Owned/Leased

Bielsko-Biala, Poland

  

Motive Power Batteries

   172,000      Leased

Herstal, Belgium

  

Distribution Center, Motive and Reserve Power Batteries

   58,700      Leased

Zwickau, Germany

  

Ni Cad / Specialty Batteries

   57,000      Leased

Zamudio, Spain

  

Assembly and distribution, Reserve and Motive Power Batteries

   55,000      Owned

Brebieres, France

  

Motive Power Chargers

   41,000      Leased

Hostimice, Czech Republic

  

Metal fabrication, Motive and Reserve Power Batteries

   29,000      Leased

Brussels, Belgium

  

Distribution Center, Motive Power Batteries

   15,400      Leased

 

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Location


  

Function/Products Produced


   Size
(sq. feet utilized)


     Owned/Leased

Asia

                

Shenzhen, China

  

Reserve Power Batteries

   176,000      Owned

Jiangsu, China

  

Reserve and Motive Power Batteries

   130,000      Owned

Sydney, Australia

  

Assembly and Distribution, Motive and Reserve Power Batteries

   13,000      Leased

 

ITEM 3. LEGAL PROCEEDINGS

 

Exide Litigation

 

When we acquired Yuasa’s North and South American industrial battery business in 2000, we acquired the worldwide right to use the Exide trademark on industrial batteries. Yuasa had acquired an exclusive, perpetual, worldwide and transferable license to use the Exide name on industrial batteries in 1991 when it bought Exide Technologies’ industrial battery business.

 

On April 15, 2002, Exide Technologies filed for protection under Chapter 11 of the U.S. Bankruptcy Code in the United States Bankruptcy Court for the District of Delaware. During the course of its Chapter 11 proceedings, Exide Technologies sought to reject certain agreements related to the 1991 sale of Exide Technologies’ industrial battery business to Yuasa, including the trademark license referred to above. We opposed Exide Technologies’ attempt to reject these agreements. On April 3, 2006, the Court found in favor of Exide Technologies and ruled that after a transition period of up to two (2) years, the specifics of which are to be determined at a future hearing, the trademark will revert back to Exide Technologies. We respectfully disagree with the Court’s decision and have appealed this ruling.

 

Other Litigation

 

From time to time, we are involved in litigation incidental to the conduct of our business. We do not expect that any of this litigation, individually or in the aggregate, will have a material adverse effect on our financial condition, results of operations or cash flow.

 

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

 

No matters were submitted to the vote of stockholders through the solicitation of proxies or otherwise during the fiscal ended March 31, 2006.

 

PART II

 

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER REPURCHASES OF EQUITY SECURITIES

 

Market Information

 

The Company’s common stock has been listed on the New York Stock Exchange under the symbol “ENS” since it began trading on July 30, 2004. Prior to that time, there had been no public market for our common stock. The following table sets forth, on a per share basis for the periods presented, the range of high, low and closing prices of the Company’s common stock.

 

Quarter Ended


   High Price

   Low Price

   Closing Price

July 3, 2005

   $14.00    $9.00    $13.66

October 2, 2005

   $15.36    $12.46    $15.17

January 1, 2006

   $15.54    $12.98    $13.04

March 31, 2006

   $15.70    $12.11    $13.80

 

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Holders of Record

 

As of June 1, 2006, there were approximately 181 record holders of common stock of the Company. Because many of such shares are held by brokers and other institutions on behalf of stockholders, the Company is unable to estimate the total number of stockholders represented by these record holders.

 

Dividends

 

We never have paid or declared any cash dividends on our common stock and we have certain restrictions from doing so by our senior secured credit agreement. We currently intend to retain any earnings for future growth and, therefore, do not expect to pay any cash dividends in the foreseeable future.

 

Recent Sales of Unregistered Securities

 

During the fiscal year ended March 31, 2006, we did not issue any unregistered securities.

 

Recent Purchases Equity Securities

 

During the fourth quarter of fiscal year 2006, we did not purchase any of our common stock.

 

ITEM 6. SELECTED FINANCIAL DATA

 

The following tables set forth certain selected consolidated financial and operating data. The summary consolidated financial data presented below for the five-year period ended March 31, 2006, and the balance sheet data at March 31, 2002, 2003, 2004, 2005 and 2006, have been derived from our consolidated financial statements which have been audited by Ernst & Young LLP, our independent registered public accounting firm. This information should be read in conjunction with the consolidated financial statements and the related notes thereto, and Management’s Discussion and Analysis of Results of Operations and Financial Condition, each included elsewhere, herein.

 

    Fiscal Year Ended March 31,

 
    2002

    2003

    2004

    2005

    2006

 
    (In thousands, except share data)  

Consolidated Statement of Operations: (1) 

                                       

Net sales

  $ 339,340     $ 859,643     $ 969,079     $ 1,083,862     $ 1,283,265  

Cost of goods sold

    271,596       653,998       722,825       828,447       1,006,467  
   


 


 


 


 


Gross profit

    67,744       205,645       246,254       255,415       276,798  

Operating expenses

    53,514       150,691       171,294       179,015       199,900  

Charges relating to restructuring, bonuses and uncompleted acquisitions

    63,345       —         21,147       —         8,553  
   


 


 


 


 


Operating earnings (loss)

    (49,115 )     54,954       53,813       76,400       68,345  

Interest expense

    13,294       20,511       20,343       23,275       24,900  

Charges relating to a settlement agreement, write-off of deferred financing costs and a prepayment penalty

    —         —         30,974       6,022       —    

Other expense (income), net

    1,744       (764 )     (5,297 )     (2,639 )     (1,358 )
   


 


 


 


 


Earnings (loss) before income taxes

    (64,153 )     35,207       7,793       49,742       44,803  

Income tax expense (benefit)

    (22,171 )     12,355       2,957       17,359       14,077  
   


 


 


 


 


Net earnings (loss)

  $ (41,982 )   $ 22,852     $ 4,836     $ 32,383     $ 30,726  

Series A convertible preferred stock dividends

    13       24,057       24,689       8,155       —    
   


 


 


 


 


Net (loss) earnings available to common stockholders

  $ (41,995 )   $ (1,205 )   $ (19,853 )   $ 24,228     $ 30,726  
   


 


 


 


 


Net earnings (loss) per share

                                       

Basic

  $ (3.81 )   $ (0.11 )   $ (1.80 )   $ 0.67     $ 0.66  

Diluted

    (3.81 )     (0.11 )     (1.80 )     0.65       0.66  

Weighted average shares outstanding

                                       

Basic

    11,014,421       11,014,421       11,014,421       36,416,358       46,226,582  

Diluted

    11,014,421       11,014,421       11,014,421       37,046,697       46,788,363  

 

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     Fiscal Year Ended March 31,

 
     2002

    2003

    2004

    2005

    2006

 
     (In thousands)  

Consolidated cash flow data: (1) 

                                        

Net cash provided by operating activities

   $ 21,068     $ 55,438     $ 39,192     $ 29,353     $ 42,872  

Net cash used in investing activities

     (335,951 )     (12,923 )     (26,981 )     (28,991 )     (76,876 )

Net cash (used in) provided by financing activities

     314,795       (8,209 )     (39,989 )     3,213       27,905  

Other operating data:

                                        

Capital expenditures

   $ 12,944     $ 23,623     $ 28,580     $ 31,828     $ 39,665  
     As of March 31,

 
     2002

    2003

    2004

    2005

    2006

 
     (In thousands)  

Balance Sheet Data:

                                        

Cash and cash equivalents

   $ 9,075     $ 44,296     $ 17,207     $ 21,341     $ 15,217  

Working capital

     104,418       135,356       135,320       182,177       211,434  

Total assets

     978,889       1,075,808       1,153,943       1,194,761       1,263,948  

Total debt

     253,394       252,162       511,303       375,457       402,490  

Preferred stock

     7       7       7       —         —    

Total stockholders’ equity

   $ 414,847     $ 465,747     $ 239,302     $ 437,650     $ 445,188  

(1) Includes the results of operations of ESG for the full years for fiscal 2003, fiscal 2004, fiscal 2005 and fiscal 2006, but only for nine days in fiscal 2002.

 

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following discussion and analysis of our results of operations and financial condition for the fiscal years ended March 31, 2004, 2005, and 2006, should be read in conjunction with Selected Consolidated Financial Data and our audited consolidated financial statements and the notes to those statements. Our discussion contains forward-looking statements based upon current expectations that involve risks and uncertainties, such as our plans, objectives, opinions, expectations, anticipations and intentions and beliefs. Actual results and the timing of events could differ materially from those anticipated in those forward-looking statements as a result of a number of factors. See “Cautionary Note Regarding Forward-Looking Statements” and “Business” sections elsewhere in this Report on Form 10-K. In the following discussion and analysis of results of operations and financial condition, certain financial measures may be considered “non-GAAP financial measures” under Securities and Exchange Commission rules. These rules require supplemental explanation and reconciliation, which is provided in this Annual Report on Form 10-K. EnerSys’ management uses non-GAAP measures in their analysis of the Company’s performance. These measures, as used by EnerSys, adjust net earnings determined in accordance with GAAP to reflect changes in financial results associated with our IPO, and the elimination of highlighted charges recorded during the periods presented. Management believes presentations of financial measures reflecting these adjustments provide useful supplemental information in evaluating the operating results of our business. These disclosures should not be viewed as a substitute for net earnings determined in accordance with GAAP, nor are they necessarily comparable to non-GAAP performance measures that may be presented by other companies.

 

Overview

 

We are the world’s largest manufacturer, marketer and distributor of industrial batteries. We also manufacture, market and distribute related products such as chargers, power equipment and battery accessories, and we provide related after-market and customer-support services for industrial batteries. We market and sell our products globally in more than 100 countries to over 10,000 customers through a network of distributors, independent representatives and an internal sales force.

 

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We have two business segments: reserve power and motive power. Revenue and expense classifications by segment are as follows:

 

    Reserve power batteries are used to provide backup power for the continuous operation of critical telecommunications and UPS during power disruptions, and for other specialty applications including aerospace and defense.

 

    Motive power batteries are used to power mobile manufacturing, warehousing and other ground handling equipment, primarily electric industrial forklift trucks.

 

We evaluate business segment performance based primarily upon operating earnings, exclusive of highlighted charges. All corporate and centrally incurred regional costs are allocated to the business segments based principally on net sales. We evaluate business segment cash flow and financial position performance based primarily upon capital expenditures and primary working capital levels. Primary working capital for this purpose is trade accounts receivable, plus inventories, minus trade accounts payable and the resulting net amount is divided by the trailing three month net sales (annualized) for the respective business segment or reporting location, to derive a primary working capital percentage ratio. Although we monitor the three elements of primary working capital (receivables, inventory and payables), our primary focus is on the total amount. Primary working capital was $330.4 million (yielding a primary working capital percentage ratio of 23.4%) at March 31, 2006, and $282.4 million (yielding a primary working capital percentage ratio of 24.7%) at March 31, 2005. The 1.3 percentage point decrease in the ratio during fiscal 2006 was primarily due to a lower level of inventory and a higher level of accounts payable, relative to sales. We closely manage our level of working capital due to the significant impact it has on cash flow and, as a result, our level of debt. Lastly, on a consolidated basis, we review short- and long-term debt levels, on a daily basis, with corresponding leverage ratios monitored, primarily using debt to EBITDA ratios, excluding highlighted charges. EBITDA is earnings before interest, income taxes, depreciation and amortization. Highlighted charges are expenses not normally incurred in the day-to-day operations of our business and, in our opinion, are not indicative of our core operating performance. Examples include charges incurred in fiscal 2004 associated with the costs of uncompleted acquisition attempts, an omnibus settlement with Invensys and costs in connection with a recapitalization transaction, charges incurred in fiscal 2005 associated with the write-off of unamortized deferred finance costs and a prepayment penalty on the repayment of our senior secured lien term loan in connection with our IPO, and charges incurred in fiscal 2006 for restructuring associated with cost reduction programs. See “Credit Facilities and Leverage” for a discussion of the use of EBITDA-non-GAAP.

 

We operate and manage our business in three primary geographic regions of the world—the Americas, Europe and Asia. Our business is highly decentralized with manufacturing locations throughout the world. Over half of our net sales for fiscal 2004, 2005 and 2006 were generated outside of North America. More than half of our manufacturing capacity is located outside of the U.S. Our management structure and financial reporting systems, and associated internal controls and procedures, are all consistent with our two business segments and three geographic regions in which we operate. We report on a March 31 fiscal year.

 

Our financial results are largely driven by the following factors:

 

    general cyclical patterns of the industries in which our customers operate;

 

    changes in our market share in the business segments and regions where we operate;

 

    changes in our selling prices and, in periods when our product costs increase, our ability to raise our selling prices to pass such cost increases through to our customers;

 

    the extent to which we are able to efficiently utilize our global manufacturing facilities and optimize their capacity;

 

    the extent to which we can control our fixed and variable costs, including those for our raw materials, manufacturing and distribution, operating activities and interest; and

 

    changes in our short- and long-term debt levels and changes in the floating interest rates under our credit facilities.

 

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Due to competitive pressures, we have been subjected to continual and significant pricing pressures over the past several years. We anticipate heightened competitive pricing pressure as Chinese and other foreign producers, able to employ labor at significantly lower costs than producers in the U.S. and Western Europe, expand their export capacity and increase their marketing presence in our major U.S. and European markets. Our ability to maintain and improve our operating margins has depended, and continues to depend, on our ability to control our costs and maintain our pricing. Particularly over the past two fiscal years (2005 and 2006), we have experienced significant increases in many of our commodity costs. The LME price for lead alone, which approximates 21% of our total cost of goods sold, has increased approximately 75% since the beginning of fiscal year 2005. We estimate that selling price increases have resulted in the recovery of approximately 40%, on a cumulative basis since the beginning of fiscal 2005, of the higher costs of our commodities. Our selling price increases approximate 2% of net sales for both fiscal 2005 and fiscal 2006. Our business strategy in this environment of high commodity costs is to improve profitability by cost savings and pricing actions, as well as to tightly control operating cash flow and capital spending.

 

Our Corporate History

 

There have been several key stages in the development of our business, which explain to a significant degree our results of operations over the past three years.

 

We were formed in late 2000 by Morgan Stanley Capital Partners (currently Metalmark Capital), and the management of Yuasa, Inc. to acquire the industrial battery business of Yuasa Corporation (Japan) in North and South America. Our results of operations for the past five fiscal years have been significantly affected by our acquisition of ESG on March 22, 2002 and to a lesser extent, by FIAMM on June 1, 2005. The ESG acquisition more than doubled our size. Our results of operations for fiscal 2003 and thereafter, include ESG for the full fiscal years. Our results of operations for fiscal 2006 include FIAMM from its June 1, 2005 acquisition date.

 

Our successful integration of ESG provided global scale in both the reserve and motive power markets. The ESG acquisition also provided us with a further opportunity to reduce costs and improve operating efficiency that, among other initiatives, led to closing underutilized manufacturing plants, distribution facilities, sales offices and eliminating other redundant costs, including staff. FIAMM complements our existing European motive power business and also provided us with opportunities to reduce costs and improve operating efficiency.

 

In August 2004, EnerSys completed an initial public offering (the “IPO”) and issued 12,500,000 shares of our common stock at a value of $12.50 per share. The Company’s common stock commenced trading on the New York Stock Exchange on July 30, 2004, under the trading symbol “ENS.” At the completion of the offering, we had 45,945,559 shares of common stock outstanding, which included 11,014,421 shares that were outstanding prior to the IPO, 22,431,138 shares of common stock converted from preferred shares, and 12,500,000 new shares issued in the IPO. The net proceeds from the offering were approximately $139.2 million. The net proceeds and $1.7 million of other corporate funds were used to prepay the entire principal and accrued interest and prepayment penalty on our senior second lien term loan ($123.0 million) and to prepay a portion ($17.9 million) of our $380.0 million senior secured term loan B.

 

In August 2004, in order to take advantage of the Company’s lower leverage and lower market borrowing costs, we amended our senior secured credit agreement and reduced our borrowing rates on the senior secured term loan B by 0.50%. The existing term loans ($361.1 million plus accrued interest) were paid off and simultaneously new term loans of $365.0 million were borrowed.

 

Our historical consolidated financial statements for fiscal 2003 and 2004 show our result of operations as a private company. In fiscal 2005 and fiscal 2006, the cost of complying with our new public company reporting obligations (and other costs associated with a public company) was approximately $3 million and $10 million, respectively. The significant increase in fiscal 2006 costs was due primarily to our compliance with the requirements of Sarbanes-Oxley Section 404.

 

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Critical Accounting Policies and Estimates

 

The Company’s significant accounting policies are described in the notes to the consolidated financial statements included in this Annual Report. In preparing our financial statements, management is required to make estimates and assumptions that, among other things, affect the reported amounts of assets, liabilities, sales and expense. These estimates and assumptions are most significant where they involve levels of subjectivity and judgment necessary to account for highly uncertain matters or matters susceptible to change, and where they can have a material impact on our financial condition and operating performance. We discuss below the more significant estimates and related assumptions used in the preparation of our consolidated financial statements. If actual results were to differ materially from the estimates made, the reported results could be materially affected.

 

Asset Impairment Determinations

 

As a result of the adoption of Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets,” goodwill is no longer amortized. The Company tests for the impairment of its goodwill and trade names at least annually and whenever events or circumstances occur indicating that a possible impairment has been incurred. The Company utilizes financial projections of its reporting segments, certain cash flow measures, as well as its market capitalization in its determination of the fair value of these assets.

 

With respect to our other long-lived assets other than goodwill and indefinite lived intangible assets, we are required to test for impairment whenever events or circumstances indicate that the carrying value of an asset may not be recoverable. We apply Statement of Financial Accounting Standards No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” in order to determine whether or not an asset was impaired. This standard requires an impairment analysis when indicators of impairment are present. If such indicators are present, the standard indicates that if the sum of the future expected cash flows from the asset, undiscounted and without interest charges, is less than the carrying value, an asset impairment must be recognized in the financial statements. The amount of the impairment is the difference between the fair value of the asset and the carrying value of the asset.

 

In making future cash flow analyses of goodwill and other long-lived assets, the Company makes assumptions relating to the following:

 

    The intended use of assets and the expected future cash flows resulting directly from such use;

 

    Industry specific economic conditions;

 

    Competitor activities and regulatory initiatives; and

 

    Client and customer preferences and patterns.

 

We believe that an accounting estimate relating to asset impairment is a critical accounting estimate because the assumptions underlying future cash flow estimates are subject to change from time to time and the recognition of an impairment could have a significant impact on our financial statements.

 

Litigation and Claims

 

The Company is a party to various legal actions and investigations including, among others, employment matters, compliance with government regulations, federal and state employment laws, including wage and hour laws, contractual disputes and other matters, including matters arising in the ordinary course of business. These claims may be brought by, among others, the government, clients, customers and employees. Management considers the measurement of litigation reserves as a critical accounting estimate because of the significant uncertainty in some cases relating to the outcome of potential claims or litigation and the difficulty of predicting the likelihood and range of potential liability involved, coupled with the material impact on our results of operations that could result from litigation or other claims. In determining legal reserves, management considers, among other issues:

 

    Interpretation of contractual rights and obligations;

 

    The status of government regulatory initiatives, interpretations and investigations;

 

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    The status of settlement negotiations;

 

    Prior experience with similar types of claims;

 

    Whether there is available insurance; and

 

    Advice of counsel.

 

Environmental Loss Contingencies

 

Accruals for environmental loss contingencies (i.e., environmental reserves) are recorded when it is probable that a liability has been incurred and the amount can reasonably be estimated. Management views the measurement of environmental reserves as a critical accounting estimate because of the considerable uncertainty surrounding estimation, including the need to forecast well into the future. We are involved in legal proceedings under state, federal and local environmental laws in connection with our operations and companies that we have acquired. The estimation of environmental reserves is based on the evaluation of currently available information, prior experience in the remediation of contaminated sites and assumptions with respect to government regulations and enforcement activity, changes in remediation technology and practices, and financial obligations and credit worthiness of other responsible parties and insurers.

 

Warranty

 

We record a warranty reserve for possible claims against our product warranties, which generally run for a period of one- to twenty-years for our reserve power batteries and for a period of one-year to seven-years for our motive power batteries. The assessment of the adequacy of the reserve includes a review of open claims and historical experience.

 

Management believes that the accounting estimate related to the warranty reserve is a critical accounting estimate because the underlying assumptions used for the reserve can change from time to time and warranty claims could potentially have a material impact on our results of operations.

 

Allowance for Doubtful Accounts

 

We encounter risks associated with sales and the collection of the associated accounts receivable. We record a provision for accounts receivable that are considered to be uncollectible. In order to calculate the appropriate provision, management analyzes the creditworthiness of specific customers and the aging of customer balances. Management also considers general and specific industry economic conditions, industry concentration and contractual rights and obligations.

 

Management believes that the accounting estimate related to the allowance for doubtful accounts is a critical accounting estimate because the underlying assumptions used for the allowance can change from time to time and uncollectible accounts could potentially have a material impact on our results of operations.

 

Inventory Obsolescence

 

We record an inventory obsolescence reserve for obsolete, excess and slow-moving inventory. In calculating our inventory obsolescence reserve, management analyzes historical data regarding customer demand within specific product categories and makes assumptions regarding economic conditions within customer specific industries, as well as style and product changes. Management believes that its accounting estimate related to inventory obsolescence is a critical accounting estimate because customer demand in certain of our businesses can be variable and changes in our reserve for inventory obsolescence could have a material affect on our results of operations.

 

Critical accounting estimates and assumptions related to our inventory obsolescence reserve are evaluated periodically as conditions warrant, and changes to such estimates are recorded as new information or changed conditions require revision.

 

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Pension Plans

 

We use certain assumptions in the calculation of the actuarial valuation of our defined benefit plans. These assumptions include the weighted average discount rate, rates of increase in compensation levels and expected long-term rates of return of assets. If actual results are less favorable than those projected by us, additional expense may be required.

 

Critical accounting estimates and assumptions related to the actuarial valuation of our defined benefit plans are evaluated periodically as conditions warrant and changes to such estimates are recorded as new information or changed conditions require revision.

 

Income Taxes

 

We account for income taxes in accordance with SFAS No. 109, Accounting for Income Taxes, which requires that deferred tax assets and liabilities be recognized using enacted tax rates for the effect of temporary differences between book and tax bases on recorded assets and liabilities. SFAS No. 109 also requires that deferred tax assets be reduced by a valuation allowance, if it is more likely than not that some portion or all of the deferred tax assets will not be recognized.

 

We evaluate on a quarterly basis the reliability of our deferred tax assets by assessing our valuation allowance and by adjusting the amount of such allowance, if necessary. The factors used to assess the likelihood of realization are our forecast of future taxable income and available tax planning strategies that could be implemented to realize the net deferred tax assets.

 

Derivative Financial Instruments

 

The Company has entered into interest rate swap agreements and option agreements to manage risk on a portion of its long-term floating-rate debt. The Company has entered into lead forward purchase contracts to manage risk of the cost of lead. The Company has entered into foreign exchange forward contracts to manage risk on foreign currency exposures. The agreements are with major financial institutions, and the Company believes the risk of nonperformance by the counterparties is negligible. The counterparties to certain of these agreements are lenders under the Credit Agreement and liabilities related to these agreements are covered under the security provisions of the Credit Agreement. The Company does not hold or issue derivative financial instruments for trading or speculative purposes. SFAS No. 133, as amended, establishes accounting and reporting standards for derivative instruments and hedging activities. The Company recognizes all derivatives as either assets or liabilities in the accompanying balance sheet and measures those instruments at fair value. Changes in the fair value of those instruments are reported in accumulated other comprehensive income (loss) if they qualify for hedge accounting or in earnings if they do not qualify for hedge accounting. Derivatives qualify for hedge accounting if they are designated as hedge instruments and if the hedge is highly effective in achieving offsetting changes in the fair value of cash flow of the asset or liability hedged. Effectiveness is measured on a regular basis by comparing the overall changes in the expected cash flows on the lead and foreign currency forward contracts with the changes in the expected all-in cash outflow required for the lead and foreign currency purchases. This analysis is performed on the initial purchases each month that cover the quantities hedged. Accordingly, gains and losses from changes in derivative fair value are deferred until the underlying transaction occurs. Interest expense on the debt is adjusted to include the payments made or received under such interest rate swap agreements. Inventory and cost of goods sold is adjusted to include the payments made or received under such lead and foreign currency forward contracts. Any deferred gains or losses associated with derivative instruments, which on infrequent occasions may be terminated prior to maturity are recognized in earnings in the period in which the underlying hedged transaction is recognized. In the event a designated hedged item is sold, extinguished or matures prior to the termination of the related derivative instrument, such instrument would be closed and the resulting gain or loss would be recognized in earnings.

 

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Market and Economic Conditions

 

Our operating results are directly affected by the general cyclical pattern of the industries in which our major customer groups operate. Both our reserve power and motive power segments are heavily dependent on the end markets they serve, and our results of operations will vary depending on the capital expenditure environment in these markets. In addition, general economic conditions in the U.S. and international markets in which we and our customers operate also affect demand for our products. Sales of our motive power products, for example, depend significantly on demand for new electric industrial forklift trucks, which in turn depends on end-user demand for additional motive capacity in their distribution and manufacturing facilities. The overall economic conditions in the markets we serve can be expected to have a material effect on our results of operations.

 

In fiscal 2004, market and economic conditions generally were stable and began improving, particularly in the second half of the fiscal year in the Americas and Asia. In fiscal 2004, excluding highlighted charges, earnings and operating cash flow increased as sales (excluding the effect of foreign currency translation) increased approximately 4%, the euro strengthened on average for the year by 18% against the dollar and cost reduction programs yielded additional savings. In fiscal 2005, economic growth and the market for industrial batteries were up significantly in the Americas, very strong in Asia, and showed modest growth in Europe. In fiscal 2006 market and economic conditions remained strong in all regions, however we experienced significant cost pressure on our raw material costs, primarily lead. See “Quarterly Information.”

 

Over the last three fiscal years, the costs of our raw materials (of which lead is our primary material) have risen significantly. We estimate that our average pure lead based cost (excluding premiums) per pound, as it affects our operating results, has risen from $0.23 in fiscal 2004 to $0.36 in fiscal 2005 and to $0.41 in fiscal 2006. Since the cost of purchased lead is not reflected in our cost of goods sold for two to three months after purchase, we compare our actual cost to London Metal Exchange (“LME”) prices that are in effect two to three months prior to the income statement period being shown. On this basis, average LME prices per period were $0.23, $0.40 and $0.44 in fiscal 2004, 2005 and 2006, respectively, as they would have been reflected in our operating results. Our estimated incremental lead cost (due to increased price) in fiscal 2006 over fiscal 2005 was approximately $23 million; the incremental cost in fiscal 2005 was approximately $44 million over fiscal 2004.

 

We have implemented a series of selling price increases to offset some of the impact of these rising commodity costs. We believe we recovered approximately 40% of the cumulative increase in commodity costs since the beginning of fiscal 2005. These selling price increases approximate 2% of net sales for both fiscal 2005 and 2006 respectively. We will continue to aggressively pursue price increases in fiscal 2007, but cannot assure you that our customers will accept future price increases.

 

Cost savings programs are and have been a continuous element of our business strategy and are directed primarily at further reductions in plant manufacturing (labor and overhead) and raw materials costs. Numerous individual cost savings opportunities are identified and evaluated by management with a formal selection and approval process that results in an ongoing list of cost savings projects to be implemented. In certain cases, projects are either modified or abandoned during their respective implementation phases. In order to realize cost savings benefits for a majority of these initiatives, costs are incurred either in the form of capital expenditures, funding the cash obligations of previously recorded restructuring expenses or current period expenses.

 

Components of Revenue and Expense

 

Net sales include: the invoiced amount for all products sold and services provided; freight costs, when paid for by our customers; less all related allowances, rebates, discounts and sales, value-added or similar taxes.

 

Cost of goods sold includes: the cost of material, labor and overhead; the cost of our service businesses; freight; warranty and other costs such as distribution centers; obsolete or slow moving inventory provisions; and certain types of insurance.

 

For fiscal 2005 and 2006, we estimate that materials costs comprised approximately one-half of cost of goods sold. The largest single raw material cost is lead, which comprised approximately 21% of cost of goods sold in fiscal 2006.

 

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We employ significant amounts of lead, plastics, steel, copper and other materials in our manufacturing processes. The costs of these raw materials, particularly lead, are volatile and beyond our control. Incremental lead costs were approximately $44 million in fiscal 2005 and $23 million in fiscal 2006 as a result of price increases experienced during that year. Lead is our single largest raw material item and the price of lead recently has experienced significant volatility. The highest price for lead during fiscal 2005 was $0.479 per pound on December 31, 2004. The highest price for lead during fiscal 2006 was $0.657 per pound on February 2, 2006, and the highest price for lead since the end of fiscal 2006 was $0.597 per pound on May 11, 2006. Lead, plastics, steel and copper in the aggregate represent our principal raw materials costs. Volatile raw materials costs can significantly affect our operating results and make period-to-period comparisons difficult. The costs of commodity raw materials such as lead, steel and copper have increased significantly in recent periods. We attempt to control our raw materials costs through strategic purchasing decisions. Where possible, we pass along some or all of our increased raw materials costs to our customers. The following table shows certain average commodity prices for fiscal 2004, 2005 and 2006, which have not been adjusted for the timing of the impact on our financial results:

 

     2004

   2005

   2006

Lead $/lb.(1)

   $ 0.277    $ 0.417    $ 0.473

Steel $/lb.(2)

     0.169      0.267      0.255

Copper $/lb.(1)

     0.931      1.361      1.901

(1) Source: London Metal Exchange (“LME”)
(2) Source: Nucor Corporation

 

Labor and overhead are primarily attributable to our manufacturing facilities. Overhead includes plant operating costs such as utilities, repairs and maintenance, taxes, supplies and depreciation.

 

Operating expenses include all non-manufacturing selling, general and administrative, engineering and other expenses. These include salaries and wages, sales commissions, fringe benefits, professional fees, supplies, maintenance, general business taxes, rent, communications, travel and entertainment, depreciation, advertising and bad debt expenses.

 

Operating expenses in fiscal 2006 were incurred in the following functional areas of our business (as a percent of the total) and are substantially similar in both of our business segments.

 

Selling

   64 %

General and administrative

   30  

Engineering

   6  
    

Total

   100 %
    

 

Restructuring and other charges

 

In comparing fiscal 2006 financial results to fiscal 2005, management believes it is appropriate to highlight the $8.6 million of operating restructuring and other charges incurred in fiscal 2006 and the $6.0 million of non-operating IPO-related charges that occurred in fiscal 2005.

 

Other income (expense), net includes non-operating foreign currency transaction gains (losses), license fees and rental income. Due to our global manufacturing and distribution footprint, which means that most of our operating costs and revenues are incurred and paid in local currencies, we believe that we have a significant natural hedge against the impact on our business of exchange rate fluctuations.

 

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Results of Operations—Fiscal 2006 Compared to Fiscal 2005

 

The following table presents consolidated fiscal year ended March 31, 2006, compared to fiscal year ended March 31, 2005, statement of operations highlights:

 

     Fiscal 2005

    Fiscal 2006

    Increase (Decrease)

 
     In
Millions


    As %
Net Sales


    In
Millions


    As %
Net Sales


    In
Millions


    %

 

Net sales

   $ 1,083.9     100.0 %   $ 1,283.3     100.0 %   $ 199.4     18.4 %

Cost of goods sold

     828.5     76.4       1,006.5     78.4       178.0     21.5  
    


 

 


 

 


     

Gross profit

     255.4     23.6       276.8     21.6       21.4     8.4  

Operating expenses

     179.0     16.5       199.9     15.6       20.9     11.7  

Restructuring and other charges

     —       —         8.6     0.7       8.6     100.0  
    


 

 


 

 


     

Operating earnings

     76.4     7.0       68.3     5.3       (8.1 )   (10.6 )

Interest expense

     23.3     2.1       24.9     1.9       1.6     6.9  

Charges relating to a write-off of deferred financing costs and a prepayment penalty

     6.0     0.6       —       —         (6.0 )   (100.0 )

Other (income) expense, net

     (2.6 )   (0.2 )     (1.4 )   (0.1 )     1.2     (46.2 )
    


 

 


 

 


     

Earnings before income taxes

     49.7     4.6       44.8     3.5       (4.9 )   (9.9 )

Income tax expense

     17.3     1.6       14.1     1.1       (3.2 )   (18.5 )
    


 

 


 

 


     

Net earnings

   $ 32.4     3.0 %   $ 30.7     2.4 %   $ (1.7 )   (5.2 )
    


 

 


 

 


     

 

Overview

 

Fiscal 2006 results include a net sales increase over fiscal 2005 of 18.4% but a 5.2% net earnings decrease due primarily to the unfavorable effect of higher commodity costs of approximately $39 million, increased public company costs of approximately $7 million, partially offset by increased sales volume, price increases to our customers and our cost savings initiatives. We estimate that our price increases realized in fiscal 2006 approximate 2% of net sales. We estimate that the impact of higher lead costs alone, our primary raw material, unfavorably affected our operating earnings by approximately $23 million in fiscal 2006.

 

In comparing fiscal 2006 financial results to fiscal 2005, management believes it is appropriate to highlight the $8.6 million of operating restructuring and other charges incurred in fiscal 2006 and the $6.0 million of non-operating IPO-related charges that occurred in fiscal 2005.

 

Net sales by geographic region were as follows:

 

     Fiscal 2005

    Fiscal 2006

    Increase (Decrease)

 
     In
Millions


   % Total
Sales


    In
Millions


   % Total
Sales


    In
Millions


   %

 

Europe

   $ 568.8    52.5 %   $ 675.4    52.6 %   $ 106.6    18.7 %

Americas

     450.0    41.5       535.9    41.8       85.9    19.1  

Asia

     65.1    6.0       72.0    5.6       6.9    10.6  
    

  

 

  

 

      

Total

   $ 1,083.9    100.0 %   $ 1,283.3    100.0 %   $ 199.4    18.4  
    

  

 

  

 

      

 

All geographic regions experienced solid sales growth in fiscal 2006. The euro, which had strengthened throughout fiscal 2005, weakened by 5% in 2006, having an impact on our Europe business. We believe the Americas business continued to gain market share with particularly strong growth in the motive power segment. Asia’s revenue growth is primarily attributed to continued general business expansion in that region. Further, Europe revenue benefited from the FIAMM and GAZ acquisitions, which increased their net sales by approximately

 

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$64 million in fiscal 2006. After excluding the impact of the FIAMM and GAZ acquisitions and adjusting for the impact of the weaker currencies (primarily the euro) in fiscal 2006, consolidated net sales increased approximately 15% compared to the prior year.

 

Operating earnings by geographic region were as follows:

 

     Fiscal 2005

    Fiscal 2006

    Increase (Decrease)

 
     In
Millions


    As %
Net Sales


    In
Millions


    As %
Net Sales


    In
Millions


    %

 

Europe

   $ 32.1     5.6 %   $ 35.7     5.3 %   $ 3.6     11.2 %

Americas

     38.7     8.6       39.5     7.4       0.8     2.1  

Asia

     5.8     8.9       1.9     2.6       (3.9 )   (67.2 )

Other

     (0.2 )   N/A       (0.2 )   N/A       —       —    
    


 

 


 

 


     

Subtotal

     76.4     7.0       76.9     6.0       0.5     0.7  

Restructuring and other charges

     —       —         8.6     0.7       8.6     100.0  
    


 

 


 

 


     

Total

   $ 76.4     7.0 %   $ 68.3     5.3 %   $ (8.1 )   (10.6 )
    


 

 


 

 


     

 

Adjusting for the unfavorable impact of weaker currencies (primarily the euro), Europe’s operating earnings increased approximately 12% in fiscal 2006, which is less than the net sales growth of approximately 19%. This slower growth in operating earnings was primarily attributable to higher commodity and public company costs, partially offset by sales price increases and cost savings programs.

 

Americas’ operating earnings increased moderately as net sales grew by approximately 19%. The Americas’ operating earnings were also adversely affected by higher commodity and public company costs, which were partially offset by sales price increases and cost savings programs.

 

Asia’s operating earnings were negatively affected by higher commodity costs in fiscal 2006 with virtually no increase in sales prices realized as competitive conditions remain particularly challenging in this region.

 

A discussion of specific fiscal 2006 versus fiscal 2005 operating results follows, including an analysis and discussion of the results of our two business segments.

 

Net Sales

 

     Fiscal 2005

    Fiscal 2006

    Increase

 
     In
Millions


   % Total
Sales


    In
Millions


   % Total
Sales


    In
Millions


   %

 

Reserve Power

   $ 510.5    47.1 %   $ 571.1    44.5  %   $ 60.6    11.9 %

Motive Power

     573.4    52.9       712.2    55.5  %     138.8    24.2  
    

  

 

  

 

      

Total

   $ 1,083.9    100.0 %   $ 1,283.3    100.0  %   $ 199.4    18.4  
    

  

 

  

 

      

 

Net sales increased $199.4 million or 18.4% in fiscal 2006 over fiscal 2005. Weaker European currencies, primarily the euro compared to the U.S. dollar, resulted in a decrease of $28.4 million in fiscal 2006 net sales or 2.6%. The euro exchange rate to the U.S. dollar averaged $1.21 ($/ €) in fiscal 2006 compared to $1.27 ($/ €) in fiscal 2005. Excluding the effect of foreign currency translation, net sales increased 21.0% or $227.8 million in fiscal 2006 over fiscal 2005. Excluding the effect of foreign currency translation, both the Americas region’s net sales (up 18.5%) and Europe region’s net sales (up 24.5%) showed strong growth in fiscal 2006 compared to fiscal 2005. Our Asia sales in fiscal 2006 increased 10.0% operationally (excluding the effect of foreign currency charges) in comparison to fiscal 2005 as a result of steady growth in many areas, partially offset by certain sales lost due to customer pricing.

 

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Strong efforts to pass through higher commodity costs via sales price increases were made in all regions. As described previously, competitive conditions remain challenging in our industry, with only a partial recovery of higher commodity costs experienced in fiscal 2006 from sales price increases. We estimate realized selling price increases of approximately 2% in fiscal 2006, which represents roughly one-half of the commodity cost increases experienced during this year. We remain highly focused on maximizing our pricing actions with the full impact from our two most recent announced price increases (November 2005 of 6% and January 2006, 5-10%), expected to be realized during the first half of fiscal 2007. The time lag in realizing announced price increases in our operating results is caused primarily by the impact of our order backlog. We expect to realize significantly greater price recovery in fiscal 2007 than was experienced in fiscal 2006. In general, more selling price realization has occurred in our motive power business in comparison to our reserve power business during fiscal 2006.

 

Fiscal 2006 net sales growth, excluding the effect of foreign currency translation, in reserve power and motive power was approximately 14.3% and 27.0%, respectively, compared to fiscal 2005.

 

In the Reserve Power segment (excluding the effect of foreign currency translation) when comparing fiscal 2006 sales to fiscal 2005 sales, our Reserve Power segment achieved solid growth in fiscal 2006 primarily due to improving sales trends for both telecom and UPS battery markets and the strong sales of aerospace and defense batteries, coupled with the impact of approximately $4 million of increased sales from the October 2005 GAZ acquisition.

 

The strong growth experienced in our Motive Power segment in the prior year continued into fiscal 2006. Additionally, the segment included the impact of approximately $60 million in sales from the June 1, 2005 FIAMM acquisition and the continued expansion of our Asia motive power business. See Note 3 to the Consolidated Financial Statements in this Form 10-K for descriptions of the FIAMM and GAZ acquisitions.

 

Gross Profit

 

     Fiscal 2005

    Fiscal 2006

    Increase

 
     In
Millions


   As %
Net Sales


    In
Millions


   As %
Net Sales


    In
Millions


   %

 

Gross profit

   $ 255.4    23.6 %   $ 276.8    21.6 %   $ 21.4    8.4 %

 

Gross profit increased $21.4 million or 8.4 % in fiscal 2006 compared to fiscal 2005. Gross profit, excluding the effect of foreign currency translation, increased $26.6 million or 10.4% in fiscal 2006 compared to fiscal 2005. Gross profit margin declined 200 basis points in fiscal 2006 compared to fiscal 2005. The primary cause of the decline in gross profit margin is attributed to higher commodity and energy costs. Pricing recovery to offset higher commodity costs was approximately 2% of net sales and continues to be challenging. Incremental commodity costs in fiscal 2006 compared to the pricing of commodities in the comparable periods of fiscal 2005 were approximately $39 million. Lead represents our principal raw material and approximates 21% of total cost of goods sold for fiscal 2006. Lead costs continue to increase dramatically and, on an LME basis as it affects our income statement, approximated $0.41/lb in fiscal 2006 compared to approximately $0.36/lb in the prior year. We continue to focus on cost savings initiatives to help mitigate the rising cost of commodities. Our sales initiatives will continue to focus on improving product mix to higher margin products and implementing sales price increases to offset commodity cost increases.

 

Operating Expenses

 

     Fiscal 2005

    Fiscal 2006

    Increase

 
     In
Millions


   As %
Net Sales


    In
Millions


   As %
Net Sales


    In
Millions


   %

 

Operating expenses

   $ 179.0    16.5 %   $ 199.9    15.6 %   $ 20.9    11.7 %

 

Operating expenses were increased $20.9 million or 11.7% in fiscal 2006 over fiscal 2005. Excluding the effect of foreign currency translation, operating expenses increased 14.4%. Adjusting for expenses associated

 

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with being a public company of approximately $10 million in fiscal 2006 and $3 million in fiscal 2005, our operating expenses increased $19.0 million or 10.8% on a constant dollar basis, compared to the prior year, partially reflecting the additional operating expenses of the acquired FIAMM and GAZ businesses and increased sales volume. Selling expenses were 64.2% of operating expenses in fiscal 2006, compared to 65.4% in fiscal 2005 as we continued to further reduce our costs in this area.

 

Restructuring and Other Charges—Operating

 

Included in our fiscal 2006 operating results are $8.6 million of highlighted restructuring and other charges that were incurred to cover estimated costs, primarily in Europe, of staff reductions, exiting and moving product lines, closing several ancillary locations, and a non-cash write-off of machinery and equipment based on impairment testing. These were primarily driven by the FIAMM and GAZ acquisitions.

 

Operating Earnings

 

     Fiscal 2005

    Fiscal 2006

    Increase (Decrease)

 
     In
Millions


    As %
Net Sales


    In
Millions


   As %
Net Sales


    In
Millions


    %

 

Reserve power

   $ 36.8     7.2 %   $ 34.5    6.0 %   $ (2.3 )   (6.3 )%

Motive power

     39.8     6.9       42.4    6.0       2.6     6.5  

Other

     (0.2 )   —         —      N/A       0.2     100.0  
    


 

 

  

 


     

Subtotal

     76.4     7.0       76.9    6.0       0.5     0.7  

Restructuring and other charges

     —       —         8.6    0.7       8.6     100.0  
    


 

 

  

 


     

Total

   $ 76.4     7.0 %   $ 68.3    5.3 %   $ (8.1 )   (10.6 )
    


 

 

  

 


     

 

Fiscal 2006 operating earnings of $68.3 million were $8.1 million lower than in fiscal 2005. Excluding the effect of foreign currency translation and the highlighted charges in fiscal 2006, operating earnings increased 0.9%. Our reserve power segment, excluding the effect of foreign currency translation, decreased 7.1%, and our margin declined 122 basis points. Our motive power segment, excluding the effect of foreign currency translation and the highlighted charges, increased 7.3% and our margin declined 94 basis points. As discussed above, our operating earnings were significantly affected by higher commodity costs and increased public company costs, partially offset by selling price increases and our continuing cost savings programs.

 

Interest Expense

 

Fiscal 2006 interest expense of $24.9 million (net of interest income of $0.3 million) increased 7.0% over fiscal 2005. Our average debt outstanding in fiscal 2006 was $417 million compared to $426 million in fiscal 2005. Our average interest rate on borrowings incurred in fiscal 2006 was 5.7% compared to 4.9% in fiscal 2005. Included in fiscal 2006 interest expense are non-cash charges of $1.4 million for deferred financing fees, unchanged from fiscal 2005. The increase in interest expense is due primarily to higher interest rates in fiscal 2006, partially offset by lower average borrowings.

 

Other Charges Non—Operating

 

The highlighted non-operating charges of $6.0 million in fiscal 2005 included a $2.4 million prepayment penalty and a $3.6 million non-cash write-off of deferred financing costs that were associated with the IPO. There were no highlighted non-operating charges in fiscal 2006.

 

Other Income, Net

 

Fiscal 2006 other income of $1.4 million consists primarily of foreign currency transaction gains of $1.3 million. This compares to fiscal 2005 other income of $2.6 million, which consisted primarily of $1.9 million in foreign currency transaction gains. Both years’ transaction gains were primarily associated with certain debt instruments.

 

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Earnings Before Income Taxes

 

Fiscal 2006 earnings before income taxes were $44.8 million, a decrease of $4.9 million compared to fiscal 2005. Excluding the $8.6 million of highlighted restructuring and other charges in fiscal 2006 and the $6.0 million in highlighted IPO-related charges in fiscal 2005, fiscal 2006 earnings before income taxes declined $2.3 million, primarily because of higher commodity and public company costs.

 

Income Tax Expense

 

The fiscal 2006 effective income tax rate was 31.4% compared to 34.9% in fiscal 2005. This rate reduction is primarily due to a change in the mix of earnings among our various legal entities in multiple foreign jurisdictions, which resulted in a higher proportion of our consolidated earnings being in tax jurisdictions with tax rates lower than our previous global averages, and a non-recurring $0.5 million tax benefit recorded in the third quarter of fiscal 2006.

 

Net Earnings

 

Fiscal 2006 net earnings were $30.7 million compared to fiscal 2005 earnings of $32.4 million. The $1.7 million decrease is due primarily to a $21.4 million increase in gross profit, offset by a $20.9 million increase in operating expenses, $8.6 million of fiscal 2006 highlighted charges compared to $6.0 million in fiscal 2005, a $1.6 million increase in interest expense, and a $1.2 million decrease in other income. Also partially offsetting the decrease was a $3.2 million decrease in income tax expense which reflects the reduction of the pre-tax earnings and the effective income tax rate.

 

Results of Operations—Fiscal 2005 Compared to Fiscal 2004

 

The table below presents consolidated fiscal year ended March 31, 2005, compared to fiscal year ended March 31, 2004, statement of operations highlights:

 

     Fiscal 2004

    Fiscal 2005

    Increase (Decrease)

 
     In
Millions


    As %
Net Sales


    In
Millions


    As %
Net Sales


    In
Millions


    %

 

Net sales

   $ 969.1     100.0 %   $ 1,083.9     100.0 %   $ 114.8     11.8 %

Cost of goods sold

     722.8     74.6       828.5     76.4       105.7     14.6  
    


 

 


 

 


     

Gross profit

     246.3     25.4       255.4     23.6       9.1     3.7  

Operating expenses

     171.4     17.7       179.0     16.5       7.6     4.4  

Charges relating to restructuring, bonuses and uncompleted acquisitions

     21.1     2.2       —       —         (21.1 )   (100.0 )
    


 

 


 

 


     

Operating earnings

     53.8     5.6       76.4     7.0       22.6     42.0  

Interest expense

     20.3     2.1       23.3     2.1       3.0     14.8  

Charges relating to a settlement agreement, write-off of deferred financing costs and a prepayment penalty

     31.0     3.2       6.0     0.6       (25.0 )   (80.6 )

Other (income) expense, net

     (5.3 )   (0.5 )     (2.6 )   (0.2 )     2.7     (50.9 )
    


 

 


 

 


     

Earnings before income taxes

     7.8     0.8       49.7     4.6       41.9     537.2  

Income tax expense

     3.0     0.3       17.3     1.6       14.3     476.7  
    


 

 


 

 


     

Net earnings

   $ 4.8     0.5 %   $ 32.4     3.0 %   $ 27.6     575.0  
    


 

 


 

 


     

 

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Overview

 

Fiscal 2005 results included both a net sales increase and a net income increase despite the unfavorable effect of record high level of costs of commodities. We estimate that the impact of higher lead costs alone, our primary raw material, unfavorably affected our operating earnings by approximately $44 million. We partially mitigated this dramatic rise in raw material costs through price increases being passed through to our customers (which was approximately 2% of net sales) and by continuing cost savings programs throughout the Company.

 

In comparing fiscal 2005 results to fiscal 2004 operating results, management believes it is appropriate to highlight charges incurred ($6.0 million of non-operating highlighted charges in 2005 and $21.1 million of operating highlighted charges and $31.0 million of non-operating highlighted charges in fiscal year 2004).

 

Net sales by geographic region were as follows:

 

     Fiscal 2004

    Fiscal 2005

    Increase (Decrease)

 
     In
Millions


   % Total
Sales


    In
Millions


   % Total
Sales


    In
Millions


   %

 

Europe

   $ 511.1    52.7 %   $ 568.8    52.5 %   $ 57.7    11.3 %

Americas

     408.8    42.2       450.0    41.5       41.2    10.1  

Asia

     49.2    5.1       65.1    6.0       15.9    32.3  
    

  

 

  

 

      

Total

   $ 969.1    100.0 %   $ 1,083.9    100.0 %   $ 114.8    11.8  
    

  

 

  

 

      

 

All geographic regions experienced sales growth in fiscal 2005. The euro, which strengthened by approximately 8% in fiscal 2005, had a significant favorable impact on our Europe business. We believe the Americas business continued to gain market share with particularly strong growth in the motive power segment. Asia’s revenue growth is attributed to modest market share gains and general business expansion in that region. After adjusting for the impact of stronger currencies (primarily the euro), consolidated net sales increased approximately 8% compared to the prior year.

 

Operating earnings by geographic region were as follows:

 

     Fiscal 2004

    Fiscal 2005

    Increase (Decrease)

 
     In
Millions


    As %
Net Sales


    In
Millions


    As %
Net Sales


    In
Millions


    %

 

Europe

   $ 36.2     7.1 %   $ 32.1     5.6 %   $ (4.1 )   (11.3 )%

Americas

     34.8     8.5       38.7     8.6       3.9     11.2  

Asia

     4.3     8.7       5.8     8.9       1.5     34.9  

Other

     (0.4 )   N/A       (0.2 )   N/A       0.2     50.0  
    


 

 


 

 


     

Subtotal

     74.9     7.7       76.4     7.0       1.5     2.0  

Restructuring and other charges

     (21.1 )   (2.2 )     —       —         21.1     100.0  
    


 

 


 

 


     

Total

   $ 53.8     5.6 %   $ 76.4     7.0 %   $ 22.6     42.0  
    


 

 


 

 


     

 

Europe’s operating earnings decreased in fiscal 2005 in spite of net sales growth of approximately 4%, after adjusting for the favorable impact of stronger European currencies (primarily the euro). This decrease was primarily attributable to higher commodity costs, partially offset by sales price increases and cost savings programs. America’s operating earnings increased moderately as net sales grew by approximately 10%, with our motive power business continuing to gain additional market share. The America’s operating earnings were also adversely affected by higher commodity costs, which were partially offset by sales price increases and cost savings programs. Asia’s operating earnings increased, as strong growth was experienced in net sales from our continued expansion of business in this region. Asia operating earnings were negatively impacted by higher commodity costs in fiscal 2005 with virtually no increase in sales prices realized as competitive conditions remain particularly challenging in this region.

 

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A discussion of specific fiscal 2005 versus fiscal 2004 operating results follows, including an analysis and discussion of the results of our two business segments.

 

Net Sales

 

     Fiscal 2004

    Fiscal 2005

    Increase

 
     In
Millions


   % Total
Sales


    In
Millions


   % Total
Sales


    In
Millions


   %

 

Reserve Power

   $ 480.0    49.5 %   $ 510.5    47.1 %   $ 30.5    6.4 %

Motive Power

     489.1    50.5       573.4    52.9       84.3    17.2  
    

  

 

  

 

      

Total

   $ 969.1    100.0 %   $ 1,083.9    100.0 %   $ 114.8    11.8  
    

  

 

  

 

      

 

Fiscal 2005 sales, excluding the effect of foreign currency translation, increased 7.6%, or $73.4 million. The remaining fiscal 2005 increase of $41.4 million was attributable to the strong European currencies, primarily the euro compared to the U.S. dollar. The euro exchange rate to the U.S. dollar averaged 1.27 ($ / €) in fiscal 2005 compared to 1.18 ($ / €) in fiscal 2004. Strong efforts to pass through higher commodity costs via sales price increases were made in both the Americas and Europe. As described previously, competitive conditions were challenging in our industry, with only a partial recovery of higher commodity costs experienced in fiscal 2005 from sales price increases. We estimate that approximately 40% of our fiscal 2005 increase in commodity costs was recovered. We estimate realized selling price increases of approximately 2% in fiscal 2005. In general, more selling price realization was experienced in our motive power business in comparison to our reserve power business. Further, competitive conditions in Asia were particularly challenging with virtually no sales price increases realized in fiscal 2005.

 

Fiscal 2005 net sales growth, excluding the effect of foreign currency translation, in reserve power and motive power was approximately 2.2% and 12.8%, respectively, compared to fiscal 2004. While the motive power segment benefited from strong market growth and selling price increases, the reserve power market showed only modest growth with little increase in selling prices. We expanded our Asian motive power business by focusing on both new sales initiatives and increasing manufacturing capabilities in our China plants.

 

Gross Profit

 

     Fiscal 2004

    Fiscal 2005

    Increase

 
     In
Millions


   As %
Net Sales


    In
Millions


   As %
Net Sales


    In
Millions


   %

 

Gross profit

   $ 246.3    25.4 %   $ 255.4    23.6 %   $ 9.1    3.7 %

 

Gross Profit was unfavorably affected by significantly higher raw material costs in fiscal 2005. These costs were somewhat mitigated by the favorable effect of our lead hedging program, cost savings initiatives throughout the world (in both our direct and indirect costs) and sales price increases to our customers. Gross profit, excluding the effect of foreign currency translation, increased 0.2%.

 

Operating Expenses

 

     Fiscal 2004

    Fiscal 2005

    Increase

 
     In
Millions


   As %
Net Sales


    In
Millions


   As %
Net Sales


    In
Millions


   %

 

Operating expenses

   $ 171.3    17.7 %   $ 179.0    16.5 %   $ 7.6    4.4 %

 

Excluding the effect of foreign currency translation, operating expenses increased 0.8%. Eliminating approximately $3.0 million of expenses associated with being a public company, which occurred for the first time in fiscal 2005, our operating expenses would have been comparable to the prior year. Selling expenses were

 

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65.4% of the total operating expenses in fiscal 2005, compared to 66.2% in fiscal 2004. We continue to invest in needed infrastructure that will drive future growth of our business and enable us to meet the new demands of a public company.

 

Restructuring and Other Charges—Operating

 

Restructuring and other charges-operating for fiscal 2004 of $21,147 includes charges for uncompleted acquisitions (primarily legal and professional fees), plant closing costs related to the final settlement of labor matters relating to a North American plant closed in fiscal 2002 and a special bonus paid, including related payroll costs, in connection with the March 17, 2004 recapitalization transaction (see Note 2 to the consolidated financial statements).

 

Operating Earnings

 

     Fiscal 2004

    Fiscal 2005

    Increase (Decrease)

 
     In
Millions


    As %
Net Sales


    In
Millions


    As %
Net Sales


    In
Millions


    %

 

Reserve power

   $ 38.5     8.0 %   $ 36.8     7.2 %   $ (1.7 )   (4.4 )%

Motive power

     36.8     7.5       39.8     6.9       3.0     8.2  

Other

     (0.4 )   —         (0.2 )   —         0.2     (50.0 )
    


 

 


 

 


     

Subtotal

     74.9     7.7       76.4     7.0       1.5     2.0  

Charges relating to restructuring, bonuses and uncompleted acquisitions

     (21.1 )   (2.2 )     —       —         21.1     (100.0 )
    


 

 


 

 


     

Total

   $ 53.8     5.6 %   $ 76.4     7.0 %   $ 22.6     42.0  
    


 

 


 

 


     

 

Fiscal 2005 operating earnings, excluding the effect of foreign currency translation and the highlighted charge in fiscal 2004, increased 0.8%. Our reserve power segment, excluding the effect of foreign currency translation, decreased 6.8%, and our margin declined 0.7 basis points. Our motive power segment, excluding the effect of foreign currency translation, increased 8.1% and our margin declined 0.3 basis points. As discussed above, our operating earnings were significantly affected by higher raw material costs offset by selling price increases and our continuing cost savings programs.

 

Interest Expense

 

Fiscal 2005 interest expense of $23.3 million (net of interest income of $0.03 million) increased 14.8% over fiscal 2004. Our average debt outstanding in fiscal 2005 was $426 million compared to $285 million in fiscal 2004. Our average interest rate incurred in fiscal 2005 was 4.9% compared to 5.0% in fiscal 2004. Included in fiscal 2005 interest expense are non-cash charges of $1.4 million for deferred financing fees, compared to $5.3 million in fiscal 2004. This decrease is due to the elimination of the accretion expense of the Invensys seller notes in fiscal 2005 and lower deferred financing fees.

 

Other Charges

 

Included in our fiscal 2005 operating results are $6.0 million of non-operating highlighted charges that were incurred as a result of our IPO. Included in our fiscal 2004 operating results are $30.9 million of non-operating highlighted charges that were incurred primarily as a result of a Settlement Agreement (see Note 9 to the Consolidated Financial Statements) and the March 2004 recapitalization transaction. See Note 22 to the Consolidated Financial Statements for more details concerning these highlighted charges.

 

Other (Income) Expense, Net

 

Fiscal 2005 other income of $2.6 million consists primarily of non-operating foreign currency transaction gains of $1.9 million. This compares to fiscal 2004 other income of $5.3 million, which consisted primarily of $3.7 million in non-operating foreign currency transaction gains. Both years’ transaction gains were primarily associated with certain debt instruments.

 

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Earnings Before Income Taxes

 

Fiscal 2005 earnings before income taxes were $49.7 million, an increase of $42.0 million compared to fiscal 2004. Eliminating the $6.0 million highlighted charges in fiscal 2005 and $52.1 million in aggregate highlighted charges in fiscal 2004, fiscal 2005 earnings before income taxes declined $4.2 million, primarily because of higher raw material costs.

 

Income Tax Expense

 

The fiscal 2005 effective income tax rate was 34.9% compared to 37.9% in fiscal 2004. This decrease is primarily the result of a higher portion of our pretax earnings in jurisdictions with lower tax rates than in fiscal 2004.

 

Net Earnings

 

Fiscal 2005 net earnings were $32.4 million compared to fiscal 2004 earnings of $4.8 million. Excluding the $6.0 million fiscal 2005 highlighted charges and the $52.1 million fiscal 2004 highlighted charges, fiscal 2005 net earnings decreased $18.5 million or 32.5%. The fiscal 2005 $1.5 million increase in operating earnings (excluding the fiscal 2004 highlighted charges) was offset by the $2.9 million increase in interest expense, the $2.7 million decrease in other income, and the $14.4 million increase in income taxes which reflects the elimination of the tax benefit recorded on the highlighted charges in fiscal 2004.

 

Liquidity and Capital Resources

 

Cash Flow and Financing Activities

 

Cash and cash equivalents at March 31, 2004, 2005, and 2006 were $17.2 million, $21.3 million, and $15.2 million respectfully.

 

Cash provided by operating activities for fiscal 2004, 2005, and 2006 was $39.2 million, $29.4 million, and $42.9 million, respectfully.

 

The $13.5 million improvement in operating cash flow in fiscal 2006 was primarily from three areas. Spending of $12.9 million in fiscal 2006 on our restructuring activities was lower than in fiscal 2005 by $14.2 million. Accrued expenses and other liabilities (excluding the effect from restructuring spending) provided an improvement to cash flow of $26.8 million in fiscal 2006 compared to fiscal 2005, primarily due to substantially higher payments on these liabilities made in fiscal 2005 than in fiscal 2006. These improvements in operating cash flow were partially offset by an increase in cash used for primary working capital of $19.4 million and $8.1 million of miscellaneous other items such as changes in the deferred tax provision.

 

Cash used in investing activities for fiscal 2004, 2005 and 2006 was $27.0 million, $29.0 million and $76.9 million, respectively. Capital expenditures were $28.6 million, $31.8 million and $39.7 million in fiscal 2004, 2005 and 2006, respectively. The increase in capital expenditures in fiscal 2006 was primarily for additional capacity and new products. Additionally, the Company invested $38.1 million in fiscal 2006, primarily for the FIAMM and GAZ acquisitions.

 

Cash provided by (used in) financing activities for fiscal 2004, 2005 and 2006 was $(40.0) million, $1.2 million and $26.3 million respectively. The fiscal 2004 amount reflects the financing transactions related to the Invensys settlement and the recapitalization. The fiscal 2005 amount relates primarily to transactions related to the initial public offering of common stock. The net proceeds from the fiscal 2005 offering were approximately $139.2 million. The net proceeds and $1.7 million of other corporate funds were used to prepay the entire principal and accrued interest and prepayment penalty on our senior second lien term loan ($123.0 million) and to prepay a portion ($17.9 million) of our $380.0 million senior secured term loan B in fiscal 2005. The fiscal 2006 amount relates primarily to the $29.9 million (euro €25.0 million) financing of the FIAMM acquisition.

 

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Table of Contents

In December 2003, we entered into an agreement with Invensys plc under which we paid $94.1 million for the repurchase of seller notes and warrants delivered to Invensys as part of the consideration for the ESG acquisition and in settlement of other matters, primarily termination of a supply agreement. The Invensys settlement transaction was funded by utilizing $43.1 million of short-term investments, $19.0 million of borrowings from an accounts receivable financing facility that was paid off on March 9, 2004, $7.0 million additional tranche B borrowing and a $25.0 million revolving note drawdown.

 

In connection with the recapitalization on March 17, 2004, we refinanced our previously existing credit facilities and entered into a new $480.0 million senior secured credit facility, which consisted of a $380.0 million senior secured term loan B and a $100.0 million senior secured revolving credit facility, and entered into a new $120.0 million senior second lien term loan. We used the proceeds of the combined $500.0 million in term loans to fund a cash payment to our existing stockholders and certain members of our management in the amount of $270.0 million, refinance the majority of our existing debt and pay accrued interest in the total amount of $219.0 million and to pay transaction costs of $11.0 million. No amounts were borrowed under the revolving credit line in conjunction with the cash payment. The purpose of the $270.0 million cash payment was to provide liquidity to our existing stockholders and management. The decision to provide liquidity at such time was driven primarily by the strength of the debt capital markets at the time, as well as the speed and certainty of execution associated with the recapitalization.

 

In August 2004, in order to take advantage of the Company’s lower leverage and resulting lower market borrowing costs after completion of the initial public offering, we amended our senior secured credit agreement and reduced our borrowing rates on the senior secured term loan B by 0.50%. The existing term loans ($361.1 million plus accrued interest) were paid off and simultaneously new term loans of $365.0 million were borrowed.

 

The $365.0 million senior secured term loan B has a 0.25% quarterly principal amortization and matures on March 17, 2011. The $100.0 million senior secured revolving credit facility matures on March 17, 2009. Borrowings under this credit agreement bears interest at a floating rate based, at our option, upon a LIBOR rate plus an applicable percentage or the greater of the federal funds rate plus 0.5% or the prime rate, plus an applicable percentage. The average effective borrowing rate on our total debt for fiscal 2004, 2005 and 2006 were 5.0%, 4.9% and 5.7%, respectively. See Note 12 of the notes to consolidated financial statements for information on our interest rate swap agreements. In March 2005, we amended our senior secured credit agreement to permit the Company’s acquisition of the motive power battery business of FIAMM S.p.A. and the secured financing for such acquisition. Additionally, the amendment revised the senior secured leverage ratio for the Company’s following six quarters. See Note 9 of the notes to the consolidated financial statements for further discussion of this financing.

 

All obligations under the senior secured credit agreement are secured by, among other things, substantially all of our U.S. assets. Our credit agreements contain various covenants which, absent prepayment in full of the indebtedness and other obligations, or the receipt of waivers, would limit our ability to conduct certain specified business transactions, buy or sell assets out of the ordinary course of business, engage in sale and leaseback transactions, pay dividends and take certain other actions.

 

We currently are in compliance with all covenants and conditions under our credit agreements. Since we believe that we will continue to comply with these covenants and conditions, we believe that we have adequate availability of funds to meet our expected cash requirements.

 

In addition to cash flows from operating activities, we had available credit lines of $130.7 million at March 31, 2006 and $125.4 million at March 31, 2005 to cover short-term liquidity requirements. On a long-term basis, our senior secured revolving credit facility is committed through March 2009, as long as we continue to comply with the covenants and conditions of the facility agreement. Included in our available credit lines at March 31, 2006, our senior secured revolving credit facility has availability for borrowing of $98.9 million.

 

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Off-Balance Sheet Arrangements

 

The Company did not have any off-balance sheet arrangements during any of the periods covered by this report.

 

Contractual Obligations and Commercial Commitments

 

At March 31, 2006, we had certain cash obligations, which are due as follows:

 

     Total

   Less than
1 year


   1 to 3
years


   4 to 5
years


   After
5 years


     (in millions)

Short-term debt

   $ 6,571    $ 6,571    $ —      $ —      $ —  

Long-term debt

     392,367      8,225      18,880      363,441      1,821

Capital lease obligations

     3,552      1,367      1,617      563      5

Operating leases

     21,250      7,944      9,546      2,940      820

Pension and profit sharing

     20,908      1,473      3,188      3,634      12,613

Restructuring

     17,773      6,073      2,535      1,502      7,663
    

  

  

  

  

Total

   $ 462,421      31,653      35,766      372,080      22,922
    

  

  

  

  

 

Under our senior secured credit facility, we had outstanding standby letters of credit of $0.3 million, $0.8 million and $1.2 million at March 31, 2004, 2005 and 2006, respectively. The amounts shown in the table above do not include interest charges on these cash obligations.

 

Credit Facilities and Leverage

 

Our focus on working capital management and cash flow from operations is measured by our ability to reduce total debt and reduce our leverage ratios. Shown below are the leverage ratios in connection with our senior secured credit agreement for fiscal 2005 and 2006. Our reduced leverage in fiscal 2005 reflects the use of proceeds from our IPO. Our increased leverage in fiscal 2006 reflects the borrowings to fund the FIAMM and GAZ acquisitions in June 2005 and October 2005, respectively. The total leverage ratio for fiscal 2006 is 3.4 times adjusted EBITDA-non-GAAP as described below. We believe our future operating cash flow, net of capital expenditures, will reduce total debt and our leverage ratios. The following table provides a reconciliation of net earnings to EBITDA-non-GAAP and Adjusted EBITDA-non-GAAP:

 

     Fiscal 2005

    Fiscal 2006

 

Net earnings as reported

   $ 32.4     $ 30.7  

Add back:

                

Depreciation and amortization

     40.2       41.9  

Interest expense

     23.3       24.9  

Income tax expense

     17.3       14.1  
    


 


EBITDA-non GAAP(1)

   $ 113.2     $ 111.6  

Adjustments per credit agreement definitions

     6.0 (2)     5.4 (3)
    


 


Adjusted EBITDA-non-GAAP per credit agreements

   $ 119.2     $ 117.0  
    


 


Senior debt, net(4)

     349.0       384.8  

Total debt, net(4)

     357.7       394.8  

Leverage ratios:

                

Senior debt/adjusted EBITDA ratio(5)

     2.9 X     3.3 X

Maximum ratio permitted

     3.9 X     3.8 X

Total debt/adjusted EBITDA ratio(5)

     3.0 X     3.4 X

Maximum ratio permitted

     5.0 X     4.4 X

Consolidated interest coverage ratio(5)

     5.4 X     4.9 X

Minimum ratio required

     3.1 X     3.2 X

 

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(1) We have included EBITDA and adjusted EBITDA because management uses it as a key measure of our performance. EBITDA is defined as earnings before interest expense, income tax expense, depreciation and amortization. EBITDA is not a measure of financial performance under GAAP and should not be considered an alternative to net earnings or any other measure of performance under GAAP as a measure of performance or to cash flows from operating, investing or financing activities as an indicator of cash flows or as a measure of liquidity. Our calculation of EBITDA may be different from the calculations used by other companies, and therefore comparability may be limited. Certain financial covenants in our senior secured credit facility are based on EBITDA, subject to adjustments, which is shown above. Because we have a significant amount of debt, and because continued availability of credit under our senior secured credit facility is critical to our ability to meet our business plan, we believe that an understanding of the key terms of our credit agreement is important to an investor’s understanding of our financial condition and liquidity risks. Failure to comply with our financial covenants, unless waived by our lenders, would mean we could not borrow any further amounts under our revolving credit facility and would give our lenders the right to demand immediate repayment of all outstanding term and revolving credit loans. We would be unable to continue our operations at current levels if we lost the liquidity provided under our credit agreements. Depreciation and amortization in this table excludes the amortization of deferred financing costs, which is included in interest expense.
(2) The $6.0 million of non-operating expense adjustments in fiscal 2005 were incurred in connection with our IPO, which included a prepayment penalty of $2.4 million and the write-off of deferred financing costs of $3.6 million.
(3) The $5.4 million of operating expense adjustments in fiscal 2006 included primarily $1.4 million for equipment write-offs and fixed asset impairment and a $4.0 million adjustment for restructuring.
(4) Debt includes capital lease obligations and letters of credit issued under the senior secured credit facility and is net of U.S. cash and cash equivalents. Senior debt excludes unsecured debt.
(5) These ratios are included to show compliance with the leverage ratios set forth in our credit facilities. We show both our current ratios and the maximum or minimum ratios permitted or minimum ratio required under our senior secured credit facility.

 

Stockholders’ Equity

 

Stockholders’ equity increased $7.5 million during fiscal 2006, representing net earnings of $30.7 million, a reduction for currency translation adjustments of $24.6 million due primarily to the weakening of the European currencies, $2.2 million decrease due primarily to minimum pension liability, a $1.7 million unrealized gain on derivative instruments and $1.9 million of proceeds from the exercise of stock options. Stockholders’ equity increased $198.3 million during fiscal 2005, reflecting the net proceeds from our IPO of $139.2 million, our net earnings of $32.4 million, currency translation adjustments, primarily due to the strengthening of the European currencies, of $21.7 million, unrealized gain on derivative instruments (interest rate swaps and lead hedges) of $2.7 million, proceeds from the exercise of stock options of $2.4 million, $0.2 million of stock compensation related to stock options issued during the year, offset by $0.3 million due to an increase in the minimum pension liability adjustment.

 

New and Proposed Accounting Pronouncements

 

New Accounting Pronouncements

 

In December 2004, the FASB issued a revision of SFAS No. 123, Share-Based Payment (“SFAS 123(R)”), which supersedes SFAS No. 123 and APB Opinion No. 25. This statement focuses primarily on transactions in which an entity obtains employee services in exchange for share-based payments. The pro forma disclosure previously permitted under SFAS No. 123 will no longer be an alternative to financial statement recognition. Under SFAS 123(R), a public entity generally is required to measure the cost of employee services received in exchange for the award of an equity instrument based on the grant-date fair value of the award, with such cost recognized over the applicable vesting period. In addition, SFAS 123(R) requires an entity to provide certain

 

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disclosures in order to assist in understanding the nature of share-based payment transactions and the effects of those transactions on the financial statements. The Company was required to adopt the provisions of SFAS 123(R) on April 1, 2006. Under SFAS No. 123(R), the Company determined the appropriate fair value model to be used for valuing share-based payments, the amortization method for compensation cost and the transition method to be used at the date of adoption. The permitted transition methods include the prospective, retrospective, or modified-prospective methods. The prospective method only relates to the options that were issued prior to the Company’s initial public offering that have historically been accounted for under the minimum value method. Such options continue to be accounted for under the provisions of APB Opinion No. 25. Under the retrospective option, prior periods may be restated either as of the beginning of the year of adoption or for all periods presented. The modified-prospective method requires that compensation expense be recorded for all unvested stock options at the beginning of the first quarter of adoption of SFAS No. 123(R), while the retrospective method would record compensation expense for all unvested stock options beginning with the first period presented.

 

Unvested options outstanding upon adoption that were accounted for under the minimum value method in accordance with SFAS No. 123 and APB Opinion No. 25, will continue to be accounted for under the minimum value method. All other unvested options outstanding upon adoption will be accounted for under the modified–prospective method. The Company has evaluated the requirements of SFAS 123(R) and will be using the Black-Scholes option-pricing model to value all of its unvested stock options and the modified prospective method in applying the requirements of SFAS No. 123(R). The Company expects to recognize additional compensation expense for 2007 of approximately $0.7 million.

 

In November 2004, the FASB issued SFAS No. 151, Inventory Costs (“SFAS 151”). This statement amends the guidance in ARB No. 43, Chapter 4, “Inventory Pricing”, to clarify accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage). SFAS 151 requires that those items be recognized as current-period charges. In addition, this statement requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities however, in periods of abnormal high production, the amount of fixed overhead allocated to products is decreased so that inventories are not measured above cost. The Company was required to adopt these provisions on April 1, 2006 and has determined there will not be a material impact from SFAS 151 on the consolidated financial statements.

 

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Quarterly Information

 

Fiscal 2005 and 2006 quarterly operating results, and the associated quarterly trends within each of those two fiscal years, are affected by the same economic and business conditions as described in the fiscal 2006 versus fiscal 2005 analyses previously discussed.

 

    Fiscal 2005

    Fiscal 2006

    July 4,
2004
1st Qtr.


  Oct 3, 2004
2nd Qtr.


    Jan 2, 2005
3rd Qtr.


  March 31,
2005
4th Qtr.


    July 3,
2005
1st Qtr.


    Oct 2, 2005
2nd Qtr.


    Jan 1, 2006
3rd Qtr.


    March 31,
2006
4th Qtr.


    (in millions, except per share amounts)

Net sales

  $ 263.3   $ 261.3     $ 273.7   $ 285.6     $ 303.9     $ 304.4     $ 321.8     $ 353.2

Cost of goods sold

    196.6     200.2       213.3     218.4       237.4       240.2       252.2       276.7
   

 


 

 


 


 


 


 

Gross profit

    66.7     61.1       60.4     67.2       66.5       64.2       69.6       76.5

Operating expenses, including amortization

    44.6     41.3       43.8     49.3       48.9       48.3       49.9       52.8

Charges relating to restructuring

    —       —         —       —         —         6.0       2.6       —  
   

 


 

 


 


 


 


 

Operating earnings

    22.1     19.8       16.6     17.9       17.6       9.9       17.1       23.7

Interest expense

    7.4     5.9       5.2     4.8       5.8       6.3       6.4       6.4

Charges relating to a write-off of deferred financing costs and a prepayment penalty

    —       6.0       —       —         —         —         —          

Other (income) expense, net

    0.3     (1.5 )     0.9     (2.4 )     (1.6 )     (0.1 )     (0.2 )     0.5
   

 


 

 


 


 


 


 

Earnings before income taxes

    14.4     9.4       10.5     15.5       13.4       3.7       10.9       16.8

Income tax expense

    5.4     3.0       3.7     5.3       4.6       1.2       3.1       5.1
   

 


 

 


 


 


 


 

Net earnings

  $ 9.0   $ 6.4     $ 6.8   $ 10.2     $ 8.8     $ 2.5     $ 7.8       11.7

Series A convertible preferred stock dividends

    8.2     —         —       —         —         —         —         —  

Net earnings available to common stockholders

  $ 0.8   $ 6.4     $ 6.8   $ 10.2     $ 8.8     $ 2.5     $ 7.8       11.7
   

 


 

 


 


 


 


 

Net earnings per common share

                                                         

Basic

  $ 0.08   $ 0.15     $ 0.15   $ 0.22     $ 0.19     $ 0.05     $ 0.17     $ 0.25

Diluted

    0.08     0.15       0.14     0.22       0.19       0.05       0.17       0.25

Weighted average shares outstanding

                                                         

Basic

    11,014,421     42,648,856       45,954,336     46,047,821       46,166,709       46,214,469       46,249,384       46,278,229

Diluted

    11,516,868     43,211,763       46,681,392     46,776,768       46,366,789       46,900,296       46,949,052       46,941,858

 

Net Sales

 

Quarterly net sales by business segment were as follows:

 

     Fiscal 2005

    Fiscal 2006

 
     1st Qtr.

    2nd Qtr.

    3rd Qtr.

    4th Qtr.

    1st Qtr.

    2nd Qtr.

    3rd Qtr.

    4th Qtr.

 
     (in millions)  

Net sales:

                                                                

Reserve power

   $ 124.8     $ 129.2     $ 128.3     $ 128.2     $ 136.3     $ 140.0     $ 140.8     $ 154.1  

Motive power

     138.5       132.1       145.4       157.4       167.6       164.4       181.0       199.1  
    


 


 


 


 


 


 


 


Total

   $ 263.3     $ 261.3     $ 273.7     $ 285.6     $ 303.9     $ 304.4     $ 321.8     $ 353.2  
    


 


 


 


 


 


 


 


Segment net sales as % total:

                                                                

Reserve power

     47.4 %     49.4 %     46.9 %     44.9 %     44.8 %     46.0 %     43.8 %     43.6 %

Motive power

     52.6       50.6       53.1       55.1       55.2       54.0       56.2       56.4  
    


 


 


 


 


 


 


 


Total

     100.0 %     100.0 %     100.0 %     100.0 %     100.0 %     100.0 %     100.0 %     100.0 %
    


 


 


 


 


 


 


 


 

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Fiscal 2006 net sales on a quarter-to-quarter sequential basis, excluding the effect of foreign currency translation, showed increases of approximately 5.1%, 1.2%, 12.0% and 8.1%. The generally favorable global economic conditions that we experienced in fiscal 2005 continued to favorably impact our sales in fiscal 2006. Historically, a smaller sequential change in the first quarter is typical of our business as our fourth quarter is generally our strongest. Our motive power segment is heavily influenced by growth in the manufacturing sector, and included the results of FIAMM since its acquisition on June 1, 2005. In fiscal 2006, the motive power segment posted solid double-digit year-on-year percentage gains. Our reserve power segment, which is dependant on growth in telecom, UPS and aerospace & defense, and included the results of GAZ since its acquisition on October 11, 2005, posted solid year-on-year percentage gains in the first half of fiscal 2006 and double-digit year-on-year percentage gains in the second half of fiscal 2006.

 

Fiscal 2005 net sales on a quarter-to-quarter sequential basis, excluding the effect of foreign currency translation, showed (decreases) increases of approximately (3.0)%, (1.0)%, 0.1% and 4.9%. The generally favorable global economic conditions that we experienced in the latter part of fiscal 2004 continued to favorably impact our sales in fiscal 2005. Historically, the sequential decline in the first quarter is typical of our business as our fourth quarter is generally our strongest. Our motive power segment saw solid year-on-year gains following our typical quarterly cycle. Our reserve power segment was generally stable throughout fiscal 2005.

 

The change in the mix of reserve power and motive power sales to total sales during the quarterly periods within fiscal 2006 primarily reflects the addition of FIAMM sales to the motive segment in the first quarter of 2006. The mix of reserve power and motive power sales to total sales did not fluctuate significantly during the quarterly periods within fiscal 2005.

 

Operating Earnings

 

Fiscal 2006 operating earnings on a quarter-to-quarter sequential basis, excluding the effect of foreign currency translation and the highlighted charges in charges in the second and third quarters, showed (decreases) increases of approximately (0.1%), (44.9)%, 72.2% and 38.9% on a quarter-to-quarter sequential basis. Our operating earnings were significantly affected by higher commodity and public company costs, and highlighted charges, partially offset by selling price increases and our continuing cost savings programs.

 

Fiscal 2005 operating earnings on a quarter-to-quarter sequential basis, excluding the effect of foreign currency translation and the special charge in fiscal 2004, showed (decreases) increases of approximately (7.1)%, (12.4)%, (19.8)% and 7.1%. Our operating earnings were significantly affected by higher raw material costs offset by selling price increases and our continuing cost savings programs.

 

Other (Income) Expense, Net

 

Fiscal 2006 other income of $1.4 million is primarily attributed to increased foreign currency net transaction gains on certain debt instruments.

 

Fiscal 2005 other income includes approximately $1.9 million of non-operating foreign currency gains attributable to certain debt transactions and other non-operating currency gains and losses. Of the $1.9 million, $1.0 million was attributable to certain debt transactions, which occurred in the second quarter.

 

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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

Market Risks

 

EnerSys’ cash flows and earnings are subject to fluctuations resulting from changes in interest rates, foreign currency exchange rates and raw material costs. We manage our exposure to these market risks through internally established policies and procedures and, when deemed appropriate, through the use of derivative financial instruments. EnerSys’ policy does not allow speculation in derivative instruments for profit or execution of derivative instrument contracts for which there are no underlying exposures. We do not use financial instruments for trading purposes and are not a party to any leveraged derivatives. We monitor our underlying market risk exposures on an ongoing basis and believe that we can modify or adapt our hedging strategies as needed.

 

Interest Rate Risks

 

We are exposed to changes in variable U.S. interest rates on borrowings under our credit agreements. On a selective basis, from time to time, we enter into interest rate swap agreements to reduce the negative impact that increases in interest rates could have on our outstanding variable rate debt. Such agreements effectively convert $203.0 million of the Company’s variable-rate debt to a fixed-rate basis, utilizing the three-month London Interbank Offered Rate, or LIBOR, as a floating rate reference. Fluctuations in LIBOR and fixed rates affect both the Company’s net financial investment position and the amount of cash to be paid or received by it under these agreements. The following commentary provides details for the $203.0 million interest rate swap contracts:

 

In February 2001, we entered into interest rate swap agreements to fix the interest rate on $60.0 million of our floating rate debt through February 22, 2006, at 5.59% per year. In April and May 2004, we amended these agreements to extend the maturity to February 22, 2008, and reduce the fixed rate to 5.16% per year beginning May 24, 2004.

 

In April 2004, we entered into interest rate swap agreements to fix interest rates on an additional $60.0 million of floating rate debt through May 5, 2008. The fixed rates per year began May 5, 2004, and are 2.85% during the first year, 3.15% the second year, 3.95% the third year and 4.75% in the fourth year, which averages 3.68% for the four-year period.

 

In August 2004, we entered into an interest rate swap agreement to fix interest rates on an additional $8.0 million of floating rate debt through May 5, 2008. The fixed rates per year began November 5, 2004, and are 2.85% during the first year, 3.15% the second year, 3.95% the third year and 4.20% in the fourth year, which averages 3.64% for the three and one-half year period.

 

In October 2005, we entered into interest rate swap agreements to fix interest rates on an additional $75.0 million of floating rate debt through December 22, 2010. The fixed rates per year plus an applicable credit spread began December 22, 2005, and are 4.25% during the first year, 4.525% the second year, 4.80% the third year, 5.075% the fourth year, and 5.47% in the fifth year, which averages 4.82% for the five-year period.

 

A 100 basis point increase in interest rates would increase interest expense by approximately $2.0 million.

 

Commodity Cost Risks

 

We have a significant risk in our exposure to certain raw materials, which we estimate were approximately half of total cost of goods sold for fiscal year 2005 and 2006. Our largest single raw material cost is lead, for which the cost remains volatile. To ensure a steady supply of lead and to mitigate against large increases in cost, we enter into contracts with our suppliers for the purchase of lead and forward contracts with financial institutions to hedge the price of lead.

 

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Table of Contents

We had the following contracts at the dates shown below:

 

Date


   $’s Under Contract

   # Pounds Purchased

   Average Cost/Pound

   Approximate % of
Lead Requirements(1)


 
     (in millions)    (in millions)            

March 31, 2006

   $ 17.4    32.8    $ 0.53    7 %

March 31, 2005

     3.7    9.9      0.37    3 %

March 31, 2004

     11.9    38.7      0.31    12 %

(1) Based on the fiscal year lead requirements for the period then ended.

 

We estimate that a 10% increase in our cost of lead (over our estimated cost in fiscal 2006) would increase our annual total cost of goods sold by approximately $21.3 million or 1.7% of net sales.

 

Foreign Currency Exchange Rate Risks

 

The Company manufactures and assembles its products primarily in China, France, Germany, Italy, Mexico, Poland, Spain, the United Kingdom, and the United States. Over half of the Company’s sales and expenses are translated in foreign currencies. The Company’s sales revenue, production costs, profit margins and competitive position are affected by the strength of the currencies in countries where it manufactures or purchases goods relative to the strength of the currencies in countries where the Company’s products are sold. Additionally, as the Company reports its financial statements in the U.S. dollar, our financial results are affected by the strength of the currencies in countries where it has operations relative to the strength of the U.S. dollar. The principal foreign currencies in which the Company conducts business are the euro, British pound, Polish zloty, Mexican peso, Canadian dollar and Chinese renminbi.

 

We quantify and monitor our global foreign currency exposures. On a selective basis we will enter into foreign currency forward contracts and option contracts to reduce the volatility from currency movements that affect the Company. Based primarily on statistical currency correlations on the Company’s exposures in fiscal 2006, we are highly confident that the pretax effect on annual earnings of changes in the principal currencies in which we conduct our business would not be in excess of approximately $6 million in more than one year out of twenty years.

 

Our largest exposure is from the purchase and conversion of U.S. dollar based lead costs into local currencies in Europe, China and Mexico. Additionally, we have currency exposures from intercompany trade transactions. To hedge these exposures we have entered into forward contracts with financial institutions to fix the value at which we will buy or sell certain currencies. Each contract is for a period not extending beyond one year. As of March 31, 2006, March 31, 2005 and March 31, 2004, we had entered into a total of $34.3 million, $0 and $0 forward contracts, with the March 31, 2006 details as follows:

 

Transactions Hedged


   $US Equivalent
(in millions)


   Average Rate
Hedged


Sell Euros for U.S. dollars

   $ 20.6    1.22

Sell UK pounds for U.S. dollars

     5.9    1.76

Buy Polish zloty for Euros

     3.0    4.14

Sell Canadian dollars for U.S. dollars

     4.8    1.18
    

    

Total

   $ 34.3     
    

    

 

Foreign exchange translation adjustments are recorded on the Consolidated Condensed Statements of Comprehensive Income.

 

Based on changes in the timing and amount of interest rate and foreign currency exchange rate movements and our actual exposures and hedges, actual gains and losses in the future may differ from our historical results.

 

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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

 

Contents

 

EnerSys

Consolidated financial statements for fiscal years ended March 31, 2004, 2005 and 2006

 

Management’s Report on Internal Control Over Financial Reporting

   A-46

Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting

   A-47

Report of Independent Registered Public Accounting Firm on Consolidated Financial Statements and Schedule

   A-48

Audited Consolidated Financial Statements

    

Consolidated Balance Sheets

   A-49

Consolidated Statements of Operations

   A-50

Consolidated Statements of Changes in Stockholders’ Equity

   A-51

Consolidated Statements of Cash Flows

   A-52

Notes to Consolidated Financial Statements

   A-53

 

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MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING

 

The management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934. The Company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. The Company’s internal control over financial reporting includes those policies and procedures that: (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the financial statements.

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

Management of the Company assessed the effectiveness of the Company’s internal control over financial reporting as of March 31, 2006, based on the criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment, management concluded that the Company’s internal control over financial reporting was effective as of March 31, 2006.

 

The Company’s independent registered public accounting firm has issued an attestation report on management’s assessment of the Company’s internal control over financial reporting as of March 31, 2006. That report appears in our Annual Report on Form 10-K under the heading Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting.

 

/s/    JOHN D. CRAIG        


  

/s/    MICHAEL T. PHILION        


John D. Craig    Michael T. Philion

Chairman, President and

Chief Executive Officer

  

Executive Vice President-Finance and

Chief Financial Officer

 

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Table of Contents

Report of Independent Registered Public Accounting Firm

On Internal Control over Financial Reporting

 

The Board of Directors and Stockholders

EnerSys

 

We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting, that EnerSys maintained effective internal control over financial reporting as of March 31, 2006, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). EnerSys’ management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the company’s internal control over financial reporting based on our audit.

 

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

 

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

In our opinion, management’s assessment that EnerSys maintained effective internal control over financial reporting as of March 31, 2006, is fairly stated, in all material respects, based on the COSO criteria. Also, in our opinion, EnerSys maintained, in all material respects, effective internal control over financial reporting as of March 31, 2006, based on the COSO criteria.

 

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of EnerSys as of March 31, 2006 and 2005, and the related consolidated statements of operations, changes in stockholders’ equity and cash flows for each of the three years in the period ended March 31, 2006, and our report dated June 9, 2006 expressed an unqualified opinion thereon.

 

/s/ Ernst & Young LLP

 

Philadelphia, Pennsylvania

June 9, 2006

 

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Table of Contents

Report of Independent Registered Public Accounting Firm

On Consolidated Financial Statements and Schedule

 

The Board of Directors and Stockholders

EnerSys

 

We have audited the accompanying consolidated balance sheets of EnerSys as of March 31, 2006 and 2005, and the related consolidated statements of operations, changes in stockholders’ equity, and cash flows for each of the three years in the period ended March 31, 2006. Our audits also included the financial statement schedule listed in the index at Item 15(a). These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.

 

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

 

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of EnerSys at March 31, 2006 and 2005, and the consolidated results of its operations and its cash flows for each of the three years in the period ended March 31, 2006, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.

 

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of EnerSys’ internal control over financial reporting as of March 31, 2006, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated June 9, 2006 expressed an unqualified opinion thereon.

 

/s/ Ernst & Young LLP

 

Philadelphia, Pennsylvania

June 9, 2006

 

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Table of Contents

EnerSys

 

Consolidated Balance Sheets

(In Thousands, Except Share and Per Share Data)

 

     March 31,

 
     2005

   2006

 
Assets                

Current assets:

               

Cash and cash equivalents

   $ 21,341    $ 15,217  

Accounts receivable, net

     254,267      308,625  

Inventories, net

     146,047      179,537  

Deferred taxes

     21,175      20,338  

Prepaid and other current assets

     24,787      23,978  
    

  


Total current assets

     467,617      547,695  

Property, plant, and equipment, net

     279,868      281,744  

Goodwill

     310,679      308,767  

Other intangible assets, net

     75,462      80,831  

Deferred taxes

     25,998      13,843  

Other assets

     35,137      31,068  
    

  


Total assets

   $ 1,194,761    $ 1,263,948  
    

  


Liabilities and stockholders’ equity                

Current liabilities:

               

Short-term debt

   $ 5,711    $ 6,571  

Current portion of long-term debt

     6,634      8,225  

Current portion of capital lease obligations

     1,755      1,367  

Accounts payable

     117,944      157,792  

Accrued expenses

     150,697      159,671  

Deferred taxes

     2,699      2,635  
    

  


Total current liabilities

     285,440      336,261  

Long-term debt

     358,613      384,142  

Capital lease obligations

     2,744      2,185  

Deferred taxes

     69,495      55,357  

Other liabilities

     40,819      40,815  
    

  


Total liabilities

     757,111      818,760  

Stockholders’ equity:

               

Series A Convertible Preferred Stock, $0.01 par value, no shares authorized, issued or outstanding at March 31, 2005 and at March 31, 2006

     —        —    

Common Stock, $0.01 par value, 135,000,000 shares authorized, 46,158,994 shares issued and outstanding at March 31, 2005; 46,560,940 shares issued and outstanding at March 31, 2006

     462      466  

Preferred Stock, $0.01 par value, 1,000,000 shares authorized, no shares issued and outstanding

     —        —    

Additional paid-in capital

     330,229      335,263  

Unearned stock grant compensation

     —        (3,090 )

Retained earnings

     23,544      54,270  

Accumulated other comprehensive income

     83,415      58,279  
    

  


Total stockholders’ equity

     437,650      445,188  
    

  


Total liabilities and stockholders’ equity

   $ 1,194,761    $ 1,263,948  
    

  


 

See accompanying notes.

 

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EnerSys

 

Consolidated Statements of Operations

(In Thousands Except Share and Per Share Data)

 

     Fiscal year ended March 31,

 
     2004

    2005

    2006

 

Net sales

   $ 969,079     $ 1,083,862     $ 1,283,265  

Cost of goods sold

     722,825       828,447       1,006,467  
    


 


 


Gross profit

     246,254       255,415       276,798  

Operating expenses

     171,294       179,015       199,900  

Restructuring and other charges

     21,147       —         8,553  
    


 


 


Operating earnings

     53,813       76,400       68,345  

Interest expense

     20,343       23,275       24,900  

Charges relating to a settlement agreement, write-off of deferred financing costs and a prepayment penalty

     30,974       6,022       —    

Other income, net

     (5,297 )     (2,639 )     (1,358 )
    


 


 


Earnings before income taxes

     7,793       49,742       44,803  

Income tax expense

     2,957       17,359       14,077  
    


 


 


Net earnings

   $ 4,836     $ 32,383     $ 30,726  

Series A convertible preferred stock dividends

     24,689       8,155       —    
    


 


 


Net (loss) earnings available to common shareholders

   $ (19,853 )   $ 24,228     $ 30,726  
    


 


 


Net (loss) earnings per common share:

                        

Basic

   $ (1.80 )   $ 0.67     $ 0.66  
    


 


 


Diluted

   $ (1.80 )   $ 0.65     $ 0.66  
    


 


 


Weighted-average shares of common stock outstanding:

                        

Basic

     11,014,421       36,416,358       46,226,582  
    


 


 


Diluted

     11,014,421       37,046,697       46,788,363  
    


 


 


 

See accompanying notes.

 

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EnerSys

 

Consolidated Statements of Changes in Stockholders’ Equity

(In Thousands)

 

    Series A
Convertible
Preferred
Stock


    Common
Stock


  Paid-in
Capital


    Unearned
Stock
Compensation


    Retained
Earnings
(Deficit)


    Accumulated
Other
Comprehensive
Income (Loss)


    Total
Stockholders’
Equity


 

Balance at March 31, 2003

  $ 7     $ 110   $ 447,133     $ —       $ (8,675 )   $ 27,172     $ 465,747  

Distribution to stockholders

    —         —       (258,367 )     —         —         —         (258,367 )

Cancellation of warrants

    —         —       —         —         (5,000 )     —         (5,000 )

Net earnings

    —         —       —         —         4,836       —         4,836  

Other comprehensive income:

                                                     

Minimum pension liability adjustment, net of tax of $(667)

    —         —       —         —         —         885       885  

Unrealized income on derivative instruments, net of tax of $(581)

    —         —       —         —         —         871       871  

Foreign currency translation adjustment

    —         —       —         —         —         30,330       30,330  
                                                 


Comprehensive income

                                                  36,922  
   


 

 


 


 


 


 


Balance at March 31, 2004

    7       110     188,766       —         (8,839 )     59,258       239,302  

Stock-based compensation

    —         —       210       —         —         —         210  

Converted to common stock at IPO

    (7 )     225     (218 )     —         —         —         —    

Exercise of stock options (including income tax benefits)

    —         2     2,364       —         —         —         2,366  

Net IPO proceeds

    —         125     139,107       —         —         —         139,232  

Net earnings

    —         —       —         —         32,383       —         32,383  

Other comprehensive income:

                                                     

Minimum pension liability adjustment, net of tax of $142

    —         —       —         —         —         (259 )     (259 )

Unrealized income on derivative instruments, net of tax of $(1,810)

    —         —       —         —         —         2,746       2,746  

Foreign currency translation adjustment

    —         —       —         —         —         21,670       21,670  
                                                 


Comprehensive income

                                                  56,540  
   


 

 


 


 


 


 


Balance at March 31, 2005

    —         462     330,229       —         23,544       83,415       437,650  

Stock-based compensation

    —         —       —         381       —         —         381  

Issuance of restricted shares

    —         3     3,468       (3,471 )     —         —         —    

Exercise of stock options (including income tax benefits)

    —         1     1,566       —         —         —         1,567  

Net earnings

    —         —       —         —         30,726       —         30,726  

Other comprehensive income:

                                                     

Minimum pension liability adjustment, net of tax of $58

    —         —       —         —         —         (2,251 )     (2,251 )

Unrealized income on derivative instruments, net of tax of $(991)

    —         —       —         —         —         1,739       1,739  

Foreign currency translation adjustment

    —         —       —         —         —         (24,624 )     (24,624 )
                                                 


Comprehensive income

                                                  5,590  
   


 

 


 


 


 


 


Balance at March 31, 2006

  $ —       $ 466   $ 335,263     $ (3,090 )   $ 54,270     $ 58,279     $ 445,188  
   


 

 


 


 


 


 


 

See accompanying notes.

 

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EnerSys

 

Consolidated Statements of Cash Flows

(In Thousands)

 

     Fiscal year ended March 31

 
     2004

    2005

    2006

 

Cash flows from operating activities

                        

Net earnings

   $ 4,836     $ 32,383     $ 30,726  

Adjustments to reconcile net earnings to net cash provided by operating activities:

                        

Write-off of deferred financing costs

     6,569       3,622       —    

Settlement agreement expense

     24,405       —         —    

Depreciation and amortization

     39,047       41,541       43,270  

Provision for doubtful accounts

     849       (441 )     596  

Provision for deferred taxes

     (6,640 )     9,907       5,518  

Stock compensation expense

     —         210       381  

Accretion of discount on notes payable

     3,341       —         —    

Option agreement gain

     (27 )     —         —    

Loss on disposal and impairment of fixed assets

     45       2,109       2,604  

Changes in assets and liabilities, net of effects of acquisition:

                        

Accounts receivable

     (17,556 )     (13,396 )     (56,017 )

Inventory

     (13,927 )     (8,205 )     (25,757 )

Prepaid expenses and other current assets

     (6,852 )     3,649       2,244  

Other assets

     2,610       (428 )     340  

Accounts payable

     9,533       1,713       42,531  

Accrued expenses

     (11,804 )     (27,717 )     (1,928 )

Other liabilities

     4,763       (15,594 )     (1,636 )
    


 


 


Net cash provided by operating activities

     39,192       29,353       42,872  

Cash flows from investing activities

                        

Capital expenditures

     (28,580 )     (31,828 )     (39,665 )

Purchase of businesses, net of cash acquired

     1,181       (1,168 )     (38,135 )

Proceeds from disposal of property, plant, and equipment

     418       4,005       924  
    


 


 


Net cash used in investing activities

     (26,981 )     (28,991 )     (76,876 )

Cash flows from financing activities

                        

Net increase in short-term debt

     1,401       2,351       1,453  

Proceeds from the issuance of long-term debt

     507,675       365,000       29,979  

Deferred financing costs

     (11,000 )     (1,249 )     (322 )

Payments of long-term debt

     (184,453 )     (502,967 )     (4,110 )

Payments of capital lease obligations, net

     (1,145 )     (1,175 )     (661 )

Exercise of stock options

     —         1,676       1,492  

Excess tax benefits from exercise of stock options

     —         345       74  

Payment under settlement agreement

     (89,100 )     —         —    

Buy back of outstanding stock warrants

     (5,000 )     —         —    

Distribution to stockholders

     (258,367 )     —         —    

Net proceeds from initial public offering

     —         139,232       —    
    


 


 


Net cash (used in) provided by financing activities

     (39,989 )     3,213       27,905  

Effect of exchange rate changes on cash

     689       559       (25 )
    


 


 


Net increase (decrease) in cash

     (27,089 )     4,134       (6,124 )

Cash and cash equivalents at beginning of year

     44,296       17,207       21,341  
    


 


 


Cash and cash equivalents at end of year

   $ 17,207     $ 21,341     $ 15,217  
    


 


 


 

See accompanying notes.

 

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Table of Contents

EnerSys

 

Notes to Consolidated Financial Statements

March 31, 2006

(In Thousands, Except Per Share Data)

 

1. Summary of Significant Accounting Policies

 

Description of Business

 

EnerSys and its predecessor companies have been manufacturers of industrial batteries for over 90 years. Morgan Stanley Capital Partners (currently Metalmark Capital) teamed with the management of Yuasa, Inc. in late 2000 to acquire from Yuasa Corporation (Japan) its reserve power and motive power battery businesses in North and South America. We were incorporated in October 2000 for the purpose of completing the Yuasa, Inc. acquisition from Yuasa Corporation (Japan). The acquired businesses included the Exide, General and Yuasa brands. On January 1, 2001, we changed our name from Yuasa, Inc. to EnerSys to reflect our focus on the energy systems nature of our businesses. In early 2002, we acquired the reserve power and motive power business of the Energy Storage Group (ESG), of Invensys plc (Invensys), whose principal brands were Hawker, PowerSafe and DataSafe.

 

In August 2004, EnerSys completed an initial public offering (IPO) and issued 12,500,000 shares of our common stock at a value of $12.50 per share. The Company’s Registration Statement (SEC File No. 333-115553) for its IPO was declared effective by the Securities and Exchange Commission on July 26, 2004. The Company’s common stock commenced trading on the New York Stock Exchange on July 30, 2004, under the trading symbol “ENS.” At the completion of the offering, we had 45,945,559 shares of common stock outstanding, which included 11,014,421 shares that were outstanding prior to the IPO, 22,431,138 shares of common stock converted from preferred shares, and 12,500,000 new shares issued in the IPO. The net proceeds from the offering were approximately $139,232. The net proceeds and $1,696 of other corporate funds were used to prepay the entire principal and accrued interest and prepayment penalty on our senior second lien term loan ($123,015) and to prepay a portion ($17,913) of our $380,000 senior secured term loan B.

 

Principles of Consolidation

 

The consolidated financial statements include the accounts of the Company and its majority-owned and wholly-owned subsidiaries. All intercompany transactions and balances have been eliminated.

 

Foreign Currency Translation

 

Results of foreign operations are translated into United States dollars using average exchange rates during the period. The assets and liabilities are translated into United States dollars using current rates as of the balance sheet date. Gains or losses resulting from translating the foreign currency financial statements are accumulated as a separate component of accumulated other comprehensive income in stockholders’ equity.

 

Transaction gains and losses resulting from exchange rate changes on transactions denominated in currencies other than the functional currency of the applicable subsidiary are included in other income, net in the year in which the change occurs.

 

Revenue Recognition

 

The Company recognizes revenue when the earnings process is complete. This occurs when we ship in accordance with terms of the underlying agreement, title transfers, collectability is reasonably assured and pricing is fixed and determinable. Shipment terms to our battery product customers are either shipping point or destination and accordingly revenue is recognized when title is transferred to the customer. Amounts invoiced to customers for shipping and handling are classified as revenue. The Company’s revenue recognition policy does not differ significantly between customers or regions of the world.

 

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EnerSys

 

Notes to Consolidated Financial Statements—(Continued)

March 31, 2006

(In Thousands, Except Per Share Data)

 

The Company recognizes revenue from the service of its reserve power and motive power products when the respective services are performed.

 

Accruals are made at the time of sale for sales returns and other allowances based on the Company’s experience.

 

Freight Expense

 

Amounts billed to customers for outbound freight costs are classified as sales in the consolidated income statement. Costs incurred by the Company for outbound freight costs to customers are classified in cost of sales.

 

Warranties

 

Substantially all of the Company’s products are generally warranted for a period of one to twenty years. The Company provides for estimated product warranty expenses when the related products are sold.

 

Cash and Cash Equivalents

 

Cash and cash equivalents include all highly liquid investments with an original maturity of three months or less when purchased.

 

Accounts Receivable

 

Accounts receivable are reported net of an allowance for doubtful accounts of $4,709 and $4,565 at March 31, 2005 and 2006, respectively. The allowance is based on management’s estimate of uncollectible accounts, analysis of historical data and trends, as well as review of all relevant factors concerning the financial capability of its customers. Accounts receivable are considered to be past due based on how payments are received compared to the customer’s credit terms. Accounts are written off when management determines the account is worthless.

 

Inventories

 

Inventories are stated at the lower of cost or market. Cost is determined using the first-in, first-out (FIFO) method. The cost of inventory consists principally of material, labor, and associated overhead.

 

Property, Plant, and Equipment

 

Property, plant, and equipment are recorded at cost and include expenditures that substantially increase the useful lives of the assets. Depreciation is provided using the straight-line method over the estimated useful lives of the assets as follows: 10 to 33 years for buildings and improvements and 3 to 15 years for machinery and equipment.

 

Depreciation expense for the fiscal years ended March 31, 2004, 2005 and 2006 totaled $36,989, $40,102 and $41,466, respectively. Maintenance and repairs are expensed as incurred. Interest on capital projects is capitalized during the construction period and amounted to $194, $208 and $334 for the fiscal years ended March 31, 2004, 2005 and 2006, respectively.

 

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Table of Contents

EnerSys

 

Notes to Consolidated Financial Statements—(Continued)

March 31, 2006

(In Thousands, Except Per Share Data)

 

Intangible Assets

 

Statement of Financial Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible Assets eliminated the amortization of goodwill and indefinite-lived intangible assets and requires a review at least annually for impairment. The Company has determined that trade names and goodwill are indefinite-lived assets, as defined by SFAS No. 142, and therefore not subject to amortization.

 

The Company tests for the impairment of its goodwill and trade names at least annually and whenever events or circumstances occur indicating that a possible impairment has been incurred. The Company utilizes financial projections of its reporting segments, certain cash flow measures, as well as its market capitalization in its determination of the fair value of these assets.

 

Environmental Expenditures

 

In accordance with SFAS No. 5, Accounting for Contingencies and Statement of Position 96-1, Environmental Remediation Liabilities, we record a loss and establish a reserve for the remediation when it is probable that an asset has been impaired or a liability exists and the amount of the liability can be reasonable estimated. Reasonable estimates involve judgments made by management after considering a broad range of information including: notifications, demands or settlements that have been received from a regulatory authority or private party, estimates performed by independent engineering companies and outside counsel, available facts existing and proposed technology, the identification of other potentially responsible parties, their ability to contribute and prior experience. These judgments are reviewed quarterly as more information is received and the amounts reserved are updated as necessary. However, the reserves may materially differ from ultimate actual liabilities if the loss contingency is difficult to estimate or if management’s judgments turn out to be inaccurate. If management believes no best estimate exists, the minimum loss is accrued.

 

Impairment of Long-Lived Assets

 

SFAS No. 144, Accounting for Impairment or Disposal of Long-Lived Assets, requires that companies consider whether indicators of impairment of long-lived assets held for use are present. If such indicators are present, companies determine whether the sum of the estimated undiscounted future cash flows attributable to such assets is less than their carrying amount, and if so, companies recognize an impairment loss based on the excess of the carrying amount of the assets over their fair value. In fiscal 2005, the Company recorded an impairment charge of $1,153, which is included in operating expenses.

 

Financial Instruments

 

The Company’s financial instruments include cash and cash equivalents, accounts receivable, accounts payable, and debt. The Company uses interest rate swap and option agreements to manage risk on a portion of its floating-rate debt. The Company uses lead hedge contracts to manage risk of the cost of lead.

 

Because of short maturities, the carrying amount of cash and cash equivalents, accounts receivable, accounts payable, and short-term debt approximates fair value. The fair value of the Company’s long-term debt, described in Note 9, approximates its carrying value and the fair value of derivative instruments is described in Note 12.

 

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Notes to Consolidated Financial Statements—(Continued)

March 31, 2006

(In Thousands, Except Per Share Data)

 

Income Taxes

 

Deferred tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. These temporary differences are measured using enacted tax rates expected to apply to taxable income in the years in which the temporary differences are expected to be realized.

 

Valuation allowances are recorded to reduce deferred tax assets when it is more likely than not that a tax benefit will not be realized. The provision for income taxes represents income taxes paid or payable for the current year and the change in deferred taxes adjusted for purchase accounting adjustments during the year.

 

Deferred Financing Fees

 

In March 2004, the Company entered into two credit facilities with various portions that will expire in 2009, 2011 and 2012. Deferred financing fees associated with the new credit facilities of $11,000 were incurred and will be amortized over the life of the new credit facilities. Deferred financing fees of $6,569 related to the previously existing credit facility were written off.

 

In August 2004, the Company prepaid the entire $120,000 principal and accrued interest on the senior second lien term loan and prepaid a portion, $17,900, of the $380,000 senior secured term loan B. Deferred financing fees of $3,622, relating to the prepaid $137,900 of debt were written off in August 2004.

 

Deferred financing fees, net of accumulated amortization totaled $7,974 and $6,639 as of March 31, 2005 and 2006, respectively. Amortization expense included in interest expense was $2,012, $1,388 and $1,384 for the fiscal years ended March 31, 2004, 2005 and 2006, respectively.

 

Derivative Financial Instruments

 

The Company has entered into interest rate swap agreements and option agreements to manage risk on a portion of its long-term floating-rate debt. The Company has entered into lead forward purchase contracts to manage risk of the cost of lead. The Company has entered into foreign exchange forward contracts and option contracts to manage risk on foreign currency exposures. The agreements are with major financial institutions, and the Company believes the risk of nonperformance by the counterparties is negligible. The counterparties to certain of these agreements are lenders under the Credit Agreement and liabilities related to these agreements are covered under the security provisions of the Credit Agreement. The Company does not hold or issue derivative financial instruments for trading or speculative purposes. SFAS No. 133, as amended, establishes accounting and reporting standards for derivative instruments and hedging activities. The Company recognizes all derivatives as either assets or liabilities in the accompanying balance sheet and measures those instruments at fair value. Changes in the fair value of those instruments are reported in accumulated other comprehensive income (loss) if they qualify for hedge accounting or in earnings if they do not qualify for hedge accounting. Derivatives qualify for hedge accounting if they are designated as hedge instruments and if the hedge is highly effective in achieving offsetting changes in the fair value of cash flow of the asset or liability hedged. Effectiveness is measured on a regular basis by comparing the overall changes in the expected cash flows on the lead and foreign currency forward contracts with the changes in the expected all-in cash outflow required for the lead and foreign currency purchases. This analysis is performed on the initial purchases each month that cover the quantities hedged. Accordingly, gains and losses from changes in derivative fair value are deferred until the underlying transaction occurs. Interest expense on the debt is adjusted to include the payments made or received under such interest rate

 

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Notes to Consolidated Financial Statements—(Continued)

March 31, 2006

(In Thousands, Except Per Share Data)

 

swap agreements. Inventory and cost of goods sold is adjusted to include the payments made or received under such lead and foreign currency forward contracts. Any deferred gains or losses associated with derivative instruments, which on infrequent occasions may be terminated prior to maturity, are recognized in earnings in the period in which the underlying hedged transaction is recognized. In the event a designated hedged item is sold, extinguished or matures prior to the termination of the related derivative instrument, such instrument would be closed and the resulting gain or loss would be recognized in earnings.

 

Stock-Based Compensation Plans

 

At March 31, 2006, the Company has two stock incentive plans, which are described more fully in Note 16. Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation (“SFAS 123”), encourages entities to record compensation expense for stock-based employee compensation plans at fair value but provides the option of measuring compensation expense using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (“APB 25”). The Company accounts for stock-based compensation in accordance with APB 25.

 

The following table illustrates the effect on net income if the Company had applied the fair value recognition provisions of SFAS 123 to stock-based employee compensation.

 

     Fiscal year ended March 31,

 
     2004

    2005

    2006

 

Net (loss) earnings available to common stockholders, as reported

   $ (19,853 )   $ 24,228     $ 30,726  

Add:

                        

Earned stock grant compensation

     —         —         261  

Other stock-based compensation expense

     —         210       —    

Deduct:

                        

Stock-based employee compensation expense determined under fair-value-based method, net of related tax effects

     (2,542 )     (2,543 )     (1,031 )
    


 


 


As adjusted net (loss) earnings available to common stockholders

   $ (22,395 )   $ 21,895     $ 29,956  
    


 


 


Net (loss) earnings per share:

                        

Basic-as reported

   $ (1.80 )   $ 0.67     $ 0.66  
    


 


 


Diluted-as reported

   $ (1.80 )   $ 0.65     $ 0.66  
    


 


 


Basic-as adjusted

   $ (2.03 )   $ 0.60     $ 0.65  
    


 


 


Diluted-as adjusted

   $ (2.03 )   $ 0.59     $ 0.64  
    


 


 


 

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EnerSys

 

Notes to Consolidated Financial Statements—(Continued)

March 31, 2006

(In Thousands, Except Per Share Data)

 

Accumulated Other Comprehensive Income

 

The components of accumulated other comprehensive income, net of tax, are as follows:

 

     Beginning
Balance


    Before-Tax
Amount


    Tax Benefit
(Expense)


    Net-of-Tax
Amount


    Ending
Balance


 

March 31, 2004

                                        

Minimum pension liabilities

   $ (2,341 )   $ 1,552     $ (667 )   $ 885     $ (1,456 )

Unrealized (loss) income on derivative instruments

     (3,449 )     1,452       (581 )     871       (2,578 )

Foreign currency translation adjustment

     32,962       30,330       —