PIONEER POWER SOLUTIONS, INC. - Quarter Report: 2015 June (Form 10-Q)

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

(Mark One)

☒     QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2015

OR

☐   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number: 001-35212

PIONEER POWER SOLUTIONS, INC.

(Exact name of registrant as specified in its charter)

 

 

400 Kelby Street, 9th Floor

Fort Lee, New Jersey 07024

(Address of principal executive offices)

(212) 867-0700

(Registrant’s telephone number, including area code)

 

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

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes ☒ No ☐

 

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

 

 

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

 

The number of shares outstanding of the registrant’s Common Stock, $0.001 par value, as of August 11, 2015 was 7,405,962.

 

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PIONEER POWER SOLUTIONS, INC.

 

Form 10-Q

For the Quarter Ended June 30, 2015

 

TABLE OF CONTENTS

 

 

PART I. FINANCIAL INFORMATION 

 

PART II. OTHER INFORMATION 

 

 

 

 

 

 

 

 

 

 

 

 

 

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PART I - FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

PIONEER POWER SOLUTIONS, INC.

Consolidated Statements of Operations

(In thousands, except per share data)

(Unaudited)

 

 

 

 

 

 

The accompanying notes are an integral part of these consolidated financial statements

 

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PIONEER POWER SOLUTIONS, INC.

Consolidated Statements of Comprehensive (Loss) Income

(In thousands)

(Unaudited)

 

 

 

 

 

The accompanying notes are an integral part of these consolidated financial statements

 

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PIONEER POWER SOLUTIONS, INC.

Consolidated Balance Sheets

(In thousands)

 

 

 

 

 

The accompanying notes are an integral part of these consolidated financial statements

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PIONEER POWER SOLUTIONS, INC.

Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)

 

 

 

 

 

The accompanying notes are an integral part of these consolidated financial statements

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PIONEER POWER SOLUTIONS, INC.

Notes to Unaudited Consolidated Financial Statements

 

1. BASIS OF PRESENTATION

 

Overview

 

Pioneer Power Solutions, Inc. and its wholly owned subsidiaries (referred to herein as the “Company,” “Pioneer,” “we,” “our” and “us”) manufacture, sell and service a broad range of specialty electrical transmission, distribution and on-site power generation equipment for applications in the utility, industrial, commercial and backup power markets. The Company is headquartered in Fort Lee, New Jersey and operates from thirteen additional locations in the U.S., Canada and Mexico for manufacturing, centralized distribution, engineering, sales and administration.

 

We have two reportable segments as defined in our Annual Report on Form 10-K for the year ended December 31, 2014, as filed with the Securities and Exchange Commission (the “SEC”) on April 2, 2015: Transmission and Distribution Solutions (“T&D Solutions”) and Critical Power Solutions.

 

Presentation

 

These unaudited consolidated financial statements include the accounts of the Pioneer Power Solutions, Inc. and its wholly-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation. Certain prior year amounts have been reclassified to conform to the current year presentation.

 

The accompanying unaudited consolidated financial statements of the Company have been prepared pursuant to the rules of the SEC. Certain information and footnote disclosures, normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”), have been condensed or omitted pursuant to those rules and regulations. We believe that the disclosures made are adequate to make the information presented not misleading. In the opinion of management, all adjustments, consisting only of normal recurring adjustments, necessary to fairly state the financial position, results of operations and cash flows with respect to the interim consolidated financial statements have been included. The results of operations for the interim period are not necessarily indicative of the results for the entire fiscal year. The year-end balance sheet data was derived from audited financial statements, but does not include all disclosures required by U.S. GAAP for a year-end balance sheet.

 

These unaudited consolidated financial statements should be read in conjunction with the risk factors and the audited consolidated financial statements and notes thereto of the Company and its subsidiaries included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.

 

All dollar amounts (except share and per share amounts) presented in the tables within the notes to our unaudited consolidated financial statements are stated in thousands of dollars, unless otherwise noted.

 

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

The Company’s significant accounting policies were described in Note 2 to the audited consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014. There have been no significant changes in the Company’s accounting policies during the second quarter of 2015. 

 

Recent Accounting Pronouncements

 

There have been no recent accounting pronouncements not yet adopted by the Company which would have a material impact on the Company’s financial statements.

 

Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity. In April 2014, the FASB issued Accounting Standards Update No. 2014-08 (“ASU 2014-08”) on reporting discontinued operations and disclosures of disposals of components of an entity. The new guidance restricts the presentation of discontinued operations to business circumstances when the disposal of business operations represents a strategic shift that has or will have a major effect on an entity's operations and financial

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results and enhances the related disclosure requirements. The Company adopted ASU 2014-08 on January 1, 2015, as required. There was no material impact on the Consolidated Financial Statements resulting from the adoption.

 

Revenue from Contracts with Customers.  In May 2014, the FASB issued Accounting Standards Update No. 2014-09 (“ASU 2014-09”), which supersedes nearly all existing revenue recognition guidance under U.S. GAAP. The core principle of ASU 2014-09 is to recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration to which an entity expects to be entitled for those goods or services. ASU 2014-09 defines a five step process to achieve this core principle and, in doing so, more judgment and estimates may be required within the revenue recognition process than are required under existing U.S. GAAP.

 

In July 2015, the FASB made a decision to defer the effective date of the new standard for one year and permit early adoption as of the original effective date.  The Company is currently evaluating the impact of its pending adoption of ASU 2014-09 on its consolidated financial statements and has not yet determined the method by which it will adopt the standard in 2018.

 

Simplifying the Measurement of Inventory.     The FASB recently issued ASU 2015-111  as part of its simplification initiative. The amendments require inventory within the scope of the ASU to be measured using the lower of cost and net realizable value. The changes apply to all types of inventory, except those measured using LIFO or the retail inventory method. The new standard takes effect in 2017 for calendar year-end entities.  .  The Company is currently evaluating the impact on its consolidated financial statements.

 

3. ACQUISITIONS

 

Since January 1, 2014, the Company has acquired two businesses in the U.S. These acquisitions have allowed the Company to expand its products and service capabilities and offer its customers a greater breadth of solutions for their electrical power distribution and backup power needs. A summary of the acquisitions is as follows:

 

Each of the acquired businesses has been included in the Company’s results of operations since the date of closing its respective closing.

 

2014 Acquisition

 

On December 2, 2014, the Company acquired voting control of Titan Energy Worldwide, Inc. (“Titan”), a Minneapolis-headquartered provider of sales and service for commercial and industrial-scale onsite power systems, including generators and associated switching equipment. By December 31, 2014, the Company had acquired 100% ownership of Titan.  The Company funded the acquisition through a new term loan provided under its U.S. credit facilities and the issuance of shares of its common stock to former convertible preferred stock holders and note holders of Titan.

 

The following table summarizes the consideration paid for the Titan acquisition and presents the allocation of the amount to the net tangible and identifiable intangible assets based on their estimated fair values as of December 2, 2014 (in thousands):

 

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The Company determined the purchase price allocation based on estimates of the fair values of the tangible and intangible assets acquired and liabilities assumed. Fair value estimates are based on a complex series of judgments about future events and uncertainties and rely heavily on estimates and assumptions. The judgments used to determine the estimated fair value assigned to each class of assets acquired and liabilities assumed, as well as asset lives, can impact the Company’s results of operations. Management utilized recognized valuation techniques, including the income approach and cost approach for the net assets acquired, in addition to relying on asset appraisals.

 

The major classes of intangible assets arising from the acquisition of Titan, their respective amortization periods, and the amount of amortization expense recognized during the six months ended June 30, 2015 are as follows (in thousands):

 

All of the goodwill and intangibles arising out of the Titan acquisition are amortizable for tax purposes.

 

The Company incurred $0.7 million of transaction, due diligence and integration costs during the year ended December 31, 2014 that were reflected in the Company’s results as a period expense. These costs included legal reorganization expenses, professional fees and integration costs and were included in the Company’s other expense in its statements of operations.

 

2015 Acquisition

 

On January 16, 2015, the Company acquired substantially all the assets of Harmonics Holdings Inc. (“Harmonics”), consisting primarily of intellectual property, accounts receivable and machinery and equipment. Harmonics is a Connecticut-based specialty provider of equipment that incorporates a patented technology for the elimination of harmonic currents in power distribution systems. The transaction was accounted for under the purchase method of accounting and the Company funded the cash consideration for the acquisition from available cash on hand.

 

The following table summarizes the consideration paid for the Harmonics acquisition and presents the preliminary allocation of the amount to the net tangible and identifiable intangible assets based on their estimated fair values as of January 16, 2015 (in thousands):

 

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The acquisition resulted in the recognition of goodwill in the Company’s consolidated financial statements because the purchase price exceeded the net tangible asset value and reflects the future earnings and cash flow potential of the acquired business. The Company made an initial allocation of the purchase price at the date of the acquisition, based upon its understanding of the fair value of the acquired tangible assets and assumed liabilities. After additional information is obtained about the intangible assets of the acquired business, the Company anticipates that its final allocation of the purchase price will result in a reduction to goodwill by an amount representing the estimated fair value of the intangible assets identified, which are likely to be intellectual property, customer relationships and non-compete agreements.

 

The Company incurred approximately $13,000 of transaction costs related to the acquisition during the six months ended June 30, 2015 that are reflected in the Company’s statement of operations as a period expense.

 

4. INVENTORIES

 

The components of inventories are summarized below (in thousands):

 

Included in raw materials and finished goods at June 30, 2015 and December 31, 2014 are goods in transit of approximately $0.1 million, respectively.

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5. GOODWILL AND OTHER INTANGIBLE ASSETS

 

Changes in the carrying values of goodwill for the six months ended June 30, 2015, were as follows (in thousands):

 

 

 

Changes in the carrying values of intangible assets for the six months ended June 30, 2015, were as follows (in thousands):

 

 

The components of intangible assets as of June 30, 2015 are summarized below (in thousands):

 

 (a) Includes $1.8 million of trademarks with an indefinite useful life, and $0.3 million of trademarks that will be fully amortized during 2015 as a result of the Company’s decision to cease using them.

 

 

 

 

 

6. OTHER ASSETS

 

In December 2011 and January 2012, the Company made two loans, each in the amount of $300,000, to a developer of a renewable energy project in the U.S. The promissory notes accrue interest at a rate of 4.5% per annum with a final payment of all unpaid principal and interest becoming fully due and payable upon the earlier to occur of (i) the four year anniversary of the issuance date of the promissory notes, or (ii) an event of default. As defined in the promissory notes, an event of default includes, but is not limited to, the following: any bankruptcy, reorganization or similar proceeding involving the borrower, a sale or transfer of substantially all the assets of the borrower, a default by the borrower relating to any indebtedness due to third parties, the incurrence of additional indebtedness by the borrower without the Company’s written consent and failure of the borrower to perform its obligations

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pursuant to its other agreements with the Company, including its purchase order for pad mount transformers.  The full loan balance is outstanding at June 30, 2015.

 

Also included in Other Assets at June 30, 2015 are deferred financing costs of $0.3 million, a note receivable of $0.1 million as compared to deferred financing costs of $0.3 million and a note receivable of $0.2 million at December 31, 2014.

 

7. DEBT

 

Canadian Credit Facilities

 

In June 2013, the Company’s Canadian subsidiary, Pioneer Electrogroup Canada Inc., entered into an amended and restated letter loan agreement with Bank of Montreal (the “Canadian Facilities”) that replaced and superseded all of the Company’s prior financing arrangements with the bank.

 

The Canadian Facilities provide for up to $22.0 million Canadian dollars (“CAD”) (approximately $17.6 million expressed in U.S. dollars) in revolving and term debt. The Canadian facilities consist of a $10.0 million demand revolving credit facility (“Facility A”), a $2.0 million term credit facility (“Facility B”) and a $10.0 million term credit facility (“Facility C”).

 

Borrowings on Facility A are subject to margin criteria and are available in either U.S. or Canadian dollars. Pricing for U.S. Base Rate and Canadian Rate loans is the U.S. Base Rate or Canadian Rate plus 0.50% per annum. Borrowings of U.S. dollar LIBOR-based loans are priced at LIBOR plus 2.00%.  

 

Borrowings under Facility B bear interest at the bank’s prime rate plus 1.00% per annum with principal repayments becoming due on a five year amortization schedule.

 

Borrowings under Facility C are repayable according to a five year principal amortization schedule and bear interest for borrowings in U.S. dollars based on either LIBOR (plus 2.00% to 2.25%) or the U.S. Base Rate (plus 1.00% to 1.25%), depending on the Company’s leverage ratio. Facility C borrowings in Canadian dollars are priced at the Canadian Rate plus 1.00% to 1.25%, depending on the Company’s leverage ratio. On March 27, 2015, the Company elected to prepay in full the Canadian dollar portion of Facility C with $5.0 million Canadian dollars (approximately $4.0 million expressed in U.S. dollars) of cash available on-hand.

 

The Canadian Facilities are guaranteed by the Company and are secured by a first-ranking lien in the amount of $30 million CAD on all of the present and future movable and immovable property of the Company’s Canadian subsidiary. The Canadian Facilities require the Company’s Canadian operations to comply on a consolidated basis with various financial covenants, including maintaining a minimum fixed charge coverage ratio, a maximum funded debt to EBITDA ratio and a limitation on funded debt to capitalization.

 

As of June 30, 2015 the Company had approximately $1.5 million in U.S. dollar equivalents outstanding under the Canadian Facilities and was in compliance with its financial covenant requirements. The Company’s borrowings consisted of $0 outstanding under Facility A, $0.6 million outstanding under Facility B and $0.9 million outstanding under Facility C.

 

In July 2015, the Canadian Facilities were amended to provide for a $2.0 million loan under Facility A, which was used by the Company’s U.S. operations in connection with an acquisition (see Note 12 – Subsequent Events). The loan must be repaid by September 30, 2015. The Company intends to repay the loan using sources of cash including, but not limited to, its cash flow from operations and/or external financing sources, if required.

 

United States Credit Facilities

 

On June 28, 2013, the Company and its wholly-owned U.S. subsidiaries entered into a credit agreement with Bank of Montreal, Chicago Branch (the “U.S. Facility”) consisting of a $10.0 million demand revolving credit facility.

 

On December 2, 2014, the U.S. Facilities were amended in order to provide a $5.0 million term loan facility that was used for the acquisition of Titan. The term loan facility has principal repayments becoming due on a five year amortization schedule.

 

The U.S. Facility, as amended in August 2015, requires the Company to comply with a two-step test of financial covenants. First, the Company must comply with a maximum funded debt to adjusted EBITDA ratio of (a) 5.00x for the quarter ending June 30,

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2015, (b) 7.00x for the quarter ending September 30, 2015, (c) 4.00x for the quarter ending December 31, 2015, (d) 3.25x for the quarter ending March 31, 2016 and (e) 2.75x for the quarter ending June 30, 2016 and all testing periods thereafter. Secondly, if the funded debt to adjusted EBITDA tests above are met, and the Company’s fixed charge coverage ratio is at or above (a) 1.00x for the quarter ending June 30, 2015, (b) 0.50x for the quarter ending September 30, 2015, (c) 1.00x for the quarter ending December 31, 2015, and (d) 1.25x for the quarter ending March 31, 2016 and all testing periods thereafter, then no further compliance tests are required.

 

Alternatively, the Company may comply with the financial covenant requirements of the U.S. Facilities if its U.S. operations comply with various financial covenants, including (a) maintaining a minimum fixed charge coverage ratio of 1.35, (b) limiting funded debt to less than 50% of capitalization, and (c) maintaining a maximum funded debt to adjusted EBITDA ratio of (i) 3.75 for fiscal quarters ending June 30, 2015 and September 30, 2015, and (ii) 3.00 for the fiscal quarters ending on or after December 31, 2015. The U.S. Facilities also restrict the ability of the Company and its U.S. subsidiaries to incur indebtedness, create or incur liens, make investments, make distributions or dividends and enter into merger agreements or agreements for the sale of any or all assets.

 

Borrowings under the demand revolving credit facility bear interest, at the Company’s option, at the bank’s prime rate plus 1.00% per annum on U.S. prime rate loans, or an adjusted LIBOR rate plus 2.25% per annum on Eurodollar loans. Borrowings under the term loan facility bear interest, at the Company’s option, at the bank’s prime rate plus 1.25% per annum on U.S. prime rate loans, or an adjusted LIBOR rate plus 2.50% per annum on Eurodollar loans.

 

In connection with the U.S. Facilities, the Company and its U.S. subsidiaries and the bank entered into a security agreement, pursuant to which the Company granted a security interest in substantially all of its assets in the U.S., including 65% of the shares of Pioneer Electrogroup Canada Inc., to secure the Company’s obligations under the U.S. Facilities.

 

As of June 30, 2015, the Company had $14.1 million of borrowings outstanding under the U.S. Facilities and the Company was in compliance with its financial covenant requirements. The Company’s borrowings consisted of $9.2 million outstanding under its revolving credit facility and $4.9 million outstanding under its term loan facility.

 

Nexus Promissory Note

 

On July 25, 2012, the Company’s Mexican subsidiary, Nexus Magneticos de Mexico, S. de R.L. de C.V. (“Nexus”), entered into a $1.65 million term loan agreement with GE CF Mexico, S.A. de C.V. (“GE Capital Mexico”). The term loan is payable in 60 consecutive monthly installments and bears interest, payable monthly, at a rate of 6.93% per annum. The obligations of Nexus under the term loan are secured by certain machinery and equipment located in Mexico and by a corporate guaranty by the Company. As of June 30, 2015, there was approximately $0.5 million outstanding.

 

Titan Notes Payable

 

In connection with the acquisition of Titan, the Company assumed obligations to repay the remaining holders of unsecured notes. As of June 30, 2015, an aggregate principal amount of $70,000 remained outstanding.

 

 

Long-term debt consists of the following (in thousands):

 

 

 

 

 

 

 

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8. PENSION PLAN

 

The Company’s Canadian subsidiary sponsors a defined benefit pension plan at one of its locations in which a majority of its employees there are members. The subsidiary funds 100% of all contributions to the plan. The benefits, or the rate per year of credit service, are established by the Company and updated at its discretion.

 

The components of the expense the Company incurred under the pension plan are as follows (in thousands):

 

The Company’s policy is to fund the pension plan at or above the minimum level required by law. The Company made $59,000 and $68,000 of contributions to its defined benefit pension plan during the six months ended June 30, 2015 and 2014, respectively. Changes in the discount rate and actual investment returns that are lower than the long-term expected return on plan assets could result in the Company making additional contributions.

 

9. SHAREHOLDERS’ EQUITY

 

Common Stock

 

The Company had 7,405,962 shares of common stock, $0.001 par value per share, outstanding of as of June 30, 2015 and December 31, 2014, respectively. In December 2014, in connection with the acquisition of Titan, the Company issued 233,707 shares of its common stock to Titan’s former convertible preferred stockholders and note holders in exchange for their interests in Titan.

 

Warrants

 

As of June 30, 2015, the Company had warrants outstanding to purchase 50,600 shares of common stock at an exercise price of $7.00 per share. These warrants are scheduled to expire on September 18, 2018 unless exercised earlier. No warrants were exercised during the six months ended June 30, 2015.

 

Stock-Based Compensation

 

A summary of stock option activity under the 2011 Long-Term Incentive Plan as of June 30, 2015, and changes during the six months ended June 30, 2015, are presented below:

 

 

 

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As of June  30, 2015, there were 320,600 shares available for future grants under the Company’s 2011 Long-Term Incentive Plan.

 

Expense for stock-based compensation recorded for the three and six months ended June 30, 2015 was approximately $57,000 and $117,000, respectively, as compared to $63,000 and $100,000 during the three and six months ended June 30, 2014, respectively. At June 30, 2015, the Company had total stock-based compensation expense remaining to be recognized in the statement of operations of approximately $319,000.

 

Foreign Currency Translation

 

Foreign assets and liabilities are translated using the exchange rate in effect at the balance sheet date, and results of operations are translated using an average rate for the period. Translation adjustments are accumulated and reported as a component of accumulated other comprehensive income (loss). The Company had foreign currency translation adjustments resulting in an unrealized loss of $1.2 million for the six months ended June 30, 2015, as compared to an unrealized gain of $0.1 million for the six months ended June 30, 2014.

 

10. BASIC AND DILUTED EARNINGS PER SHARE

 

Basic and diluted earnings per common share are calculated based on the weighted average number of shares outstanding during the period. The Company’s employee and director stock option awards, as well as incremental shares issuable upon exercise of warrants, are not considered in the calculations if the effect would be anti-dilutive. The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share data):

 

 

11. BUSINESS SEGMENT AND GEOGRAPHIC INFORMATION

 

The Company follows ASC 280 ­ Segment Reporting in determining its reportable segments. In December 2014, the Company considered the way its management team, most notably its chief operating decision maker, makes operating decisions and assesses performance and considered which components of the Company’s enterprise have discrete financial information available.  As the Company makes decisions using a products and services group focus, its analysis resulted in two reportable segments: T&D Solutions and Critical Power Solutions. The Critical Power Solutions reportable segment is an aggregation of the Company’s Pioneer Critical Power Inc. and Titan Energy Systems Inc. subsidiaries, and also includes sales and expenses directly and indirectly attributable to the Company’s strategic sales group. The T&D Solutions reportable segment is an aggregation of all other Company subsidiaries, together with sales and expenses attributable to the strategic sales group for its T&D Solutions marketing activities.

 

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The T&D Solutions segment is involved in the design, manufacture and distribution of electrical transformers and switchgear used primarily by utilities, large industrial and commercial operations to manage their electrical power distribution needs. The Critical Power Solutions segment provides power generation equipment, switchgear, related electrical distribution infrastructure and aftermarket field-services primarily to help customers ensure smooth, uninterrupted power to operations during times of emergency.

 

The following tables present information about segment income and loss (in thousands):

 

 

Revenues are attributable to countries based on the location of the Company's customers (in thousands):

 

 

 

 

12. SUBSEQUENT EVENTS

 

On August 1, 2015, Pioneer Custom Electrical Products Inc. completed the purchase of substantially all the assets comprising the business of Pacific Power Integration Systems, Inc. (“Pacific”). Located in Santa Fe Springs, California, Pacific is a manufacturer of low and medium voltage switchgear, primarily serving customers in the oil refining, mass transit and utility sectors. The purchase price of $2.0 million in cash was financed with revolving debt drawn from the Company’s Canadian Facilities, and must be repaid by September 30, 2015 (see Note 7 – Debt).

 

 

 

 

 

 

 

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ITEM 2.MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the accompanying consolidated interim financial statements and related notes included elsewhere in this Quarterly Report on Form 10-Q and with our Annual Report on Form 10-K for the year ended December 31, 2014, which was filed with the Securities and Exchange Commission on April 2, 2015 and is available on the SEC’s website at www.sec.gov.

 

Unless the context requires otherwise, references in this Form 10-Q to the “Company,” “Pioneer,” “we,” “our” and “us” refer to Pioneer Power Solutions, Inc. and its subsidiaries.

 

Special Note Regarding Forward-Looking Statements

 

This Form 10-Q contains “forward-looking statements,” which include information relating to future events, future financial performance, financial projections, strategies, expectations, competitive environment and regulation.  Words such as “may,” “should,” “could,” “would,” “predicts,” “potential,” “continue,” “expects,” “anticipates,” “future,” “intends,” “plans,” “believes,” “estimates,” and similar expressions, as well as statements in future tense, identify forward-looking statements.  Forward-looking statements should not be read as a guarantee of future performance or results and may not be accurate indications of when such performance or results will be achieved.  Forward-looking statements are based on information we have when those statements are made or management’s good faith belief as of that time with respect to future events, and are subject to risks and uncertainties that could cause actual performance or results to differ materially from those expressed in or suggested by the forward-looking statements. Important factors that could cause such differences include, but are not limited to:

 

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The foregoing does not represent an exhaustive list of matters that may be covered by the forward-looking statements contained herein or risk factors that we are faced with that may cause our actual results to differ from those anticipated in our forward-looking statements. Moreover, new risks regularly emerge and it is not possible for us to predict or articulate all risks we face, nor can we assess the impact of all risks on our business or the extent to which any risk, or combination of risks, may cause actual results to differ from those contained in any forward-looking statements. Except to the extent required by applicable laws or rules, we undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise. You should carefully review the risk factors and other cautionary statements in our other reports filed with the SEC for a discussion of the foregoing and other risks that relate to our business and investing in shares of our common stock.

 

Business Overview

 

We manufacture, sell and service a broad range of specialty electrical transmission, distribution and on-site power generation equipment for applications in the utility, industrial, commercial and backup power markets.  Our principal products and services include custom-engineered electrical transformers, switchgear and engine-generator sets and controls, complemented by a national field-service network to maintain and repair power generation assets. We are headquartered in Fort Lee, New Jersey and operate from 14 additional locations in the U.S., Canada and Mexico for manufacturing, service, centralized distribution, engineering, sales and administration.

 

Description of Business Segments

 

In 2014, we realigned our operations into two reportable segments: Transmission & Distribution Solutions (“T&D Solutions”) and Critical Power Solutions (“Critical Power”).

 

 

 

Foreign Currency Exchange Rates

 

Although we report our results in accordance with U.S. GAAP and in U.S. dollars, two of our business units are Canadian operations whose functional currency is the Canadian dollar.  As such, the financial position, results of operations, cash flows and equity of these operations are initially consolidated in Canadian dollars. Their assets and liabilities are then translated from Canadian dollars to U.S. dollars by applying the foreign currency exchange rate in effect at the balance sheet date, while the results of their operations and cash flows are translated to U.S. dollars by applying weighted average foreign currency exchange rates in effect during the reporting period. The resulting translation adjustments are included in other comprehensive income or loss.

 

The following table provides actual end of period exchange rates used to translate the financial position of our Canadian operations at the end of each period reported. The average exchange rates presented below, as provided by the Bank of Canada, are indicative of the weighted average rates we used to translate the revenues and expenses of our Canadian operations into U.S. dollars (rates expressed as the number of U.S. dollars to one Canadian dollar for each period reported):

 

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Critical Accounting Policies

 

There have been no material changes to our critical accounting policies as disclosed in our Annual Report on Form 10-K for the year ended December 31, 2014.

 

RESULTS OF OPERATIONS

 

Overview of First Half Results

 

Selected financial and operating data for our reportable business segments for the most recent reporting period is summarized below. This information, as well as the selected financial data provided in Note 11 – Business Segment and Geographic Information and in our Consolidated Financial Statements and related notes included in this Quarterly Report on Form 10-Q, should be referred to when reading our discussion and analysis of results of operations below.

 

Our summary operating results during the three and six months ended June 30, 2015 and 2014 are as follows (in thousands):

 

 

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Backlog

 

Our backlog is based on firm orders from our customers expected to be delivered in the future, most of which is expected to occur during the next twelve months.  Backlog may vary significantly from reporting period to reporting period due to the timing of customer commitments. The time between receipt of an order and actual delivery, or completion, of our products and services varies from one or more days, in the case of inventoried standard products, to three to nine months, in the case of certain custom engineered equipment solutions, and up to one year or more under our service contracts. 

 

The following table represents the progression of our backlog, by reporting segment, as of the end of the last five quarters (in thousands):

 

 

 

Three and Six Months Ended June 30, 2015 Compared to Three and Six Months Ended June 30, 2014

 

Revenue

 

The following table represents our revenues by reporting segment and major product category for the periods indicated (in thousands, except percentages):

 

 

 

For the three months ended June 30, 2015, our consolidated revenue increased by $5.4 million, or 25.6%, to $26.5 million, up from $21.1 million during the three months ended June 30, 2014. For the six months ended June 30, 2015, our consolidated revenue increased by $13.4 million, or 31.9%, to $55.3 million, up from $42.0 million during the six months ended June 30, 2014.

 

T&D Solutions.  During the three months ended June 30, 2015, our T&D Solutions revenue increased $0.1 million (up 0.3%) as compared to the same quarter of 2014. Revenue from our transformer product lines decreased by $0.4 million (down 2.1%), and was offset by $0.5 million of growth (up 40.4%) in sales of our switchgear equipment solutions. The overall decrease in our transformer sales was driven by our Canadian operations where sales declined $2.7 million (down 22%) mostly as a result of foreign currency translation which negatively impacted revenue by approximately 12%. The remaining 10% year-over-year decrease in our Canadian transformer revenue is attributable to recessionary economic conditions and a general lack of commercial and industrial capital spending, particularly in Canada’s natural resource sector. Partially offsetting this sales performance, our U.S. transformer sales grew $2.3 million (up 31%), primarily as a result of a major new data center-oriented customer in our OEM sales channel, and new customer gains by our corporate selling group.

 

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For the six months ended June 30, 2015, our T&D Solutions revenue increased $4.0 million (up 9.8%) as compared to the first six months of 2014. This increase was comprised of $2.3 million in revenue growth (up 6.0%) from our transformer product categories, together with a $1.6 million increase (up 92.1%) in sales of our T&D switchgear-related revenue. The overall increase in our transformer sales was driven by strong volume in the U.S. (up 40%), led mostly by demand for custom magnetics in our OEM sales channel, together with increased brand label sales and commercial construction activity. This growth was partially offset by continued weakness in Canadian market conditions and the effect of foreign currency translation which precipitated a 14% decrease in Canadian sales, as compared to the same period in 2014. The large increase in our sales of T&D switchgear reflects an increasing market share in the California market and surrounding regions for our Pioneer CEP business unit that was established in August 2013.

 

Critical Power Solutions.  During the three months ended June 30, 2015, the $5.3 million increase in our Critical Power segment revenue was driven by the acquisition of Titan on December 2, 2014, which accounted for $5.4 million of revenue during the three months ended June 30, 2015, as compared to none during the prior year quarter. Titan’s revenue during the quarter included $3.4 million of power generation equipment sales (principally from Generac’s Industrial Power product line), together with $2.0 million of service program revenue attributable to its regional and national account customers. The remaining $0.1 million of segment revenue was attributable to the manufacture, sale and service of switchgear for critical power systems, down from $0.2 million of revenue during the three months ended June 30, 2014.

 

For the six months ended June 30, 2015, our Critical Power Solutions revenue increased to $10.8 million, up $9.4 million (or approximately 700%), due to the acquisition of Titan. Segment revenue consisted of $6.6 million in power generation equipment and $4.1 million in service revenue, a different mix as compared to $1.4 million of revenue during the six months ended June 30, 2014, consisting almost entirely of two significant paralleling switchgear projects.

 

Gross Profit and Gross Margin

 

The following table represents our gross profit by reporting segment for the periods indicated (in thousands, except percentages):

 

 

 

 

For the three months ended June 30, 2015, our gross margin percentage was 18.6% of revenues, compared to 19.9% during the three months ended June 30, 2014. For the six months ended June 30, 2015, our gross margin percentage was 18.7% of revenues, compared to 21.7% during the six months ended June 30, 2014. The decreases in our consolidated gross margin percentages is explained mostly by an unfavorable sales mix shift within our larger T&D Solutions segment, as well as in in our Critical Power Solutions segment, which included lower sales of paralleling switchgear in 2015, as compared to the same periods of 2014.

 

T&D Solutions.  During the three months ended June 30, 2015, the 1.3% decrease in our T&D Solutions gross margin percentage resulted primarily from challenging conditions in Canada where material costs have risen due to appreciation of the U.S. dollar, combined with weak commercial and industrial construction activity which has lowered demand overall, and in particular for our higher-margin, custom-engineered product categories. Increased sales from our U.S. T&D operations partially offset the decline in gross profit from Canada, but most of this sales growth occurred in channels where our gross margin percentage is lower than our overall segment average.

 

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For the six months ended June 30, 2015, the 2.0% decrease in our T&D Solutions gross margin percentage was due mostly to challenging demand and sales mix factors in Canada described above, particularly in our dry-type transformer categories. Higher throughput and sales by our U.S. T&D operations balanced out the decline in gross profit dollars from Canada, but at a lower average gross margin.

 

Critical Power Solutions.  During the three months ended June 30, 2015, the 11.7%  increase in our Critical Power segment gross margin percentage reflects a significant, acquisition-driven mix change towards the sale of engine generators and provision of aftermarket service, as compared to the same period of 2014 when our sales consisted solely of paralleling switchgear, and in an amount too small to be useful for comparison purposes. The gross margin increase also underscores improved performance by our Titan division which expanded its gross margin percentage by 5.7%, as compared to the first quarter of 2015, attributable mostly to its recurring field service business.

 

For the six months ended June 30, 2015, the 13.3% decrease in our Critical Power segment gross margin percentage was due mostly to the timing of the Titan acquisition, together with a lack of major projects completed in 2015 by our original Critical Power business focused on paralleling switchgear. This business represented 100% of segment sales at a 28.3% gross margin during the first six months of 2014, but represented only 2% of segment sales and at a negative gross margin during the six month period ended June 30, 2015. As a result, our blended 15.0% segment gross margin percentage during the six months ended June 30, 2015 mostly reflects our Titan division and the impact being caused by our paralleling switchgear business as it attempts to rebuild its order backlog in size and consistency from quarter to quarter.

 

Operating Expenses

 

The following table represents our operating expenses by reportable segment for the periods indicated (in thousands, except percentages):

 

 

Selling, General and Administrative Expense.  For the three months ended June 30, 2015, consolidated selling, general and administrative expense, before depreciation and amortization, increased by approximately $1.6 million, or 48.3%, to $5.0 million.

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During the six months ended June 30, 2015, consolidated selling, general and administrative expense, before depreciation and amortization, increased by approximately $2.9 million, or 40.5%, to $10.2 million. As a percentage of consolidated revenue, selling, general and administrative expense before depreciation and amortization increased to 18.9%  and 18.3% during the three and six month periods ended June 30, 2015, respectively, as compared to 16.1%  and 17.2% of revenue during the same periods of 2014.

 

The increase in our selling, general and administrative expense is attributable mostly to our Critical Power segment, which accounted for approximately 60% of the overall increase during both the three and six month periods ended June 30, 2015, as compared to 2014, resulting from the acquisition and inclusion of Titan in our 2015 results. T&D segment selling, general and administrative expense increased by $0.6  million (up 24.8%) and $0.9 million (up 15.5%) during the three and six month periods ended June 30, 2015,  respectively, as compared to the same periods of 2014.  The increase in T&D expense mainly reflects $0.3 million of higher salary and benefits expense during both periods due to the expansion of our corporate selling group and switchgear manufacturing operations, as well as higher professional fees, bad debt and freight expense. General corporate selling, general and administrative expense increased $22,000 and $0.4 million during the three and six month periods ended June 30, 2015, respectively, as compared to the same periods of 2014, primarily due to higher headcount, salary and benefits costs and information technology expenses.

 

Depreciation and Amortization Expenses.  Depreciation and amortization expense consists primarily of amortization of definite-lived intangible assets, followed by depreciation of fixed assets (principally IT systems) and excludes amounts included in cost of revenue. Depreciation and amortization expense increased by $0.4 million and $0.8 million during the three and six month periods ended June 30, 2015, respectively, as compared to the same periods of 2014, primarily as a result of amortization of intangible assets associated with the Titan acquisition.

 

Foreign Exchange (Gain) Loss. During the three and six months ended June 30, 2015, approximately 38% and 37%, respectively, of our consolidated operating revenues were denominated in Canadian dollars (as compared to 57% and 54% in the corresponding 2014 periods) and most of our expenses were denominated and disbursed in U.S. dollars. We have not historically engaged in currency hedging activities. Fluctuations in foreign currency exchange rates between the time we initiate and then settle transactions with our customers and suppliers can have an impact on our operating results. For the three month period ended June 30, 2015, we recorded a loss of $79,000 due to currency fluctuations, compared to a loss of $108,000 during the three months ended June 30, 2014. For the six month period ended June 30, 2015, we recognized a foreign currency gain of $92,000, as compared to a loss of $63,000 during the same period of 2014.

 

Operating Income (Loss)

 

The following table represents our operating income or loss by reportable segment for the periods indicated (in thousands):

 

 

T&D Solutions.  T&D segment operating income for the three and six months ended June 30, 2015 declined $0.9 million and $0.8 million, respectively. This decline accelerated in the second quarter of 2015, driven by lower sales and gross profit from our Canadian businesses, particularly in our short-cycle, distribution transformer product lines where the economic downturn and adverse effect of a stronger U.S. dollar has been felt hardest. Operating income from our U.S. business units grew by $0.2 million during the six months ended June 30, 2015, mostly as a result of significantly increased sales, together with operating losses that have been stabilized at our T&D switchgear operation.

 

Critical Power Solutions.  During the three and six months ended June 30, 2015, our Critical Power segment generated an operating loss of $0.6 million and $1.4 million, respectively, as compared to operating losses of $0.3 million and $0.2 million during the same periods of 2014. The largest component of the change in Critical Power’s operating loss includes approximately $0.4 million in non-cash amortization expense per quarter related to intangible assets arising from the Titan acquisition. During the second quarter

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of 2015, Critical Power’s operating loss narrowed by $0.2 million, or approximately 26%, as compared to the immediately preceding quarter.

 

General Corporate Expense. Our general corporate expense consists primarily of executive management, corporate accounting and human resources personnel, office expenses, financing and corporate development activities, payroll and benefits administration, treasury, tax compliance, legal, stock-based compensation and public reporting costs, and costs not specifically allocated to reportable business segments such as our corporate strategic sales group. During the three and six month periods ended June 30, 2015, our general corporate expense increased $17,000 and $0.4 million, respectively, or 34.6%, primarily due to higher staffing and information technology expenses.

 

Non-Operating Expense

 

Interest Expense. For the three and six months ended June 30, 2015, interest expense was approximately $0.2 million and $0.3 million, respectively, as compared to $0.1 million and $0.3 million during the same periods of 2014. The increase in our interest expense was due to higher average borrowings outstanding under our credit facilities during the 2015 period, as compared to 2014.

 

Other Expense. For the three and six months ended June 30, 2015, other non-operating expense was $0.2 million and $0.3 million, respectively, as compared to $0 during the same periods of 2014. The 2015 other expense resulted primarily from acquisition-related transaction and integration expenses.

 

Income Tax (Benefit) Expense.  Our effective income tax rate was 22.3%  and 23.7% for the three and six months ended June 30, 2015, respectively, as compared to 31.7%  and 31.4% during the same periods of 2014 period, as set forth below (dollars in thousands):

 

Historically, most of our taxable income has been derived in Canada where we are subject to lower corporate tax rates relative to our U.S. operations. During the 2015 periods, the decrease in our effective tax rate is primarily as a result of increased losses before income taxes from our U.S. operations (driven in large part by an increase in amortization of acquisition intangibles), and lower taxable income generated in Canada, the combination of which had the effect of reducing our weighted average blended effective tax rate.

 

Net Earnings (Loss)

 

We generated a net loss of $0.8 million and $1.0 million during the three and six months ended June 30, 2015, as compared to net earnings of $0.3 million and $0.9 million for the three and six months ended June 30, 2014. Our net loss per basic and diluted share for the three and six month periods ended June 30, 2015 was $0.11 and $0.14, respectively, as compared to net earnings per basic and diluted share of $0.04 and $0.12 for the three and six month periods ended June 30, 2014. The overall decrease in our net earnings was driven mostly by a lower overall profit contribution from our Canada-based transformer businesses, together with operating losses from our Critical Power Solutions segment caused by a lack of throughput at our paralleling switchgear manufacturing operation and increased expense for the amortization of acquisition-related intangibles.

 

Restructuring and Optimization Actions

 

During the second quarter of 2015, we began evaluating and implementing improvement strategies intended to reorganize, simplify and cut costs from operations, with the objective of returning the Company to more profitable growth. The restructuring and integration plan is being executed in stages, and is expected to be complete by mid-2016. We anticipate that the plan, when finalized, will result in restructuring charges, and that incremental capital expenditures will be required, none of which can be quantified with certainty at this time. At completion, we expect these actions to yield annual fixed cost savings of at least $2.5 million, in addition to

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other operating cost-efficiencies achieved through business closer integration. The plan is expected to primarily affect the following of our reporting units:

 

Titan Northeast. We recently began winding down the Northeast operations of our Titan subsidiary (“Titan Northeast”), which forms a small part of our Critical Power Solutions reporting segment. Titan Northeast is a distinct, project management-oriented division within Titan that is engaged in the procurement, sale and service of backup power systems supplied by major manufacturers. For the six months ended June 30, 2015, Titan Northeast had sales of $1.9 million and generated a  small pretax loss. The decision to cease Titan Northeast operations was indicative of our strategy to focus on higher margin, higher investment return activities that create the most shareholder value.

 

Pioneer CEP. Established in August 2013, Pioneer CEP functions as our switchgear manufacturing business unit within the T&D Solutions reporting segment. Since its formation, Pioneer CEP has experienced significant growth in product range and revenue, yet pretax operating losses have persisted longer than originally anticipated ($0.7 million during the six month period ended June 30, 2015). In July 2015, we instituted a reduction in force designed to provide $0.5 million in annual cost savings. As discussed further in Note 12 – Subsequent Events, on August 1, 2015, Pioneer CEP acquired substantially all the assets of Pacific Power Integration Systems, Inc., also located in Santa Fe Springs, California. Pacific is a manufacturer of low and medium voltage switchgear in classifications and for customers not currently addressed by Pioneer CEP. In connection with the business integration, Pacific’s facility will be closed before the end of December 2015, and its operations consolidated into Pioneer CEP’s location. As a result, our switchgear production flow will be overhauled in stages, certain low value-added activities will be outsourced, and we anticipate achieving greater overall production flexibility and efficiency. We believe that the plant consolidation, together with these and other initiatives, will enable Pioneer CEP to achieve profitability by the second quarter of 2016.

 

Pioneer Critical Power.  Established in March 2013, Pioneer Critical Power Inc. specializes in providing paralleling switchgear, automatic transfer switches and custom controls for engine-generators in highly complex backup power schemes at mission critical facilities. The second business unit within our Critical Power Solutions reporting segment, Titan Energy Systems Inc., also located in Minneapolis, sells commercial and industrial scale engine-generators and provides annual preventative maintenance and monitoring services under contract. In order to more closely align their strategies and drive operational growth, these companies will be consolidated into a single Minneapolis location by the end of 2015. In connection with the consolidation, all switchgear-related procurement and assembly activities will be transferred to our Pioneer CEP facility, given its newly acquired technical capabilities through the Pacific acquisition.

 

Bemag Transformer. We have outlined a strategy to reposition and significantly restructure  the business of our Bemag Transformer business unit, which forms part of our T&D Solutions reporting segment. Due to deteriorating economic conditions in Canada, leading to increased competition and a devaluation of the Canadian dollar to near 10-year lows, Bemag Transformer faces systemic challenges that resulted in a pretax loss of $1.3 million during the six month period ended June 30, 2015. The business will be rationalized and ultimately function as part of Jefferson Electric, Inc., which provides the same product offerings to U.S.-based customers.  We anticipate that the plan will initially and adversely impact the rate of our revenue growth, but that completion of the plan by mid-2016 will curtail the losses from the business, while enhancing already strong financial performance by Jefferson Electric Inc. through integration efficiencies.

 

LIQUIDITY AND CAPITAL RESOURCES

 

General. At June 30, 2015, we had total debt of $16.2 million and no cash and cash equivalents on hand. We have historically met our cash needs through a combination of cash flows from operating activities and bank borrowings under our revolving credit facilities. Our cash requirements are generally for operating activities, debt repayment, capital improvements and acquisitions. We believe that working capital, borrowing capacity available under our credit facilities and funds generated from operations should be sufficient to finance our cash requirements for anticipated operating activities, capital improvements and scheduled principal repayments of long-term debt through at least the next twelve months. In connection with the acquisition of Pacific (see Note 12 – Subsequent Events), our bank has required us to repay $2.0 million of our Canada-based short-term debt by September 30, 2015. We intend to repay the loan using sources of cash including, but not limited to, our cash flow from operations and/or external financing sources, if required.

 

Cash Used in Operating Activities. Cash used in our operating activities was approximately $1.3 million during the six months ended June 30, 2015, compared to cash used in our operating activities of $0.3 million during the six months ended June 30, 2014. The principal elements of cash provided by operating activities during the six months ended June  30, 2015 were approximately $1.8 million of non-cash expenses consisting of depreciation, amortization of intangibles and deferred financing costs and stock-based

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compensation. These sources of cash during the period were offset by a net loss of $1.0 million, $0.9 million of cash used for working capital purposes and $1.0 million related to deferred taxes, pension costs and unrealized gains related to currency translation included in our net earnings.

 

Cash Used in Investing Activities. Cash used in investing activities during the six months ended June 30, 2015 was approximately $0.8 million, as compared to $0.5 million during the six months ended June 30, 2014. During the six months ended June 30, 2015, additions to our property, plant and equipment were $0.6 million, or up $0.1 million as compared to the six months ended June 30, 2014. Our uses of cash in investing activities during the six months ended June 30, 2015 also included $0.1 million for an acquisition and $0.1 million in notes receivable.

 

Cash Provided by (Used in) Financing Activities. Cash used in our financing activities was approximately $1.3 million during the six months ended June 30, 2015, as compared to cash provided of $0.3 million during the six months ended June 30, 2014. During the six months ended June 30, 2015, our net cash used in financing activities included approximately $3.3 million of increased bank overdrafts and borrowings under our revolving credit facilities, offset by principal payments of $4.6 million on our long-term debt and Titan’s remaining short-term financing obligations. During the six months ended June 30, 2014,  our cash provided by financing activities included approximately $1.4 million of increased bank overdrafts and borrowings outstanding under our revolving credit facilities, offset by principal payments of $1.1 million on our long-term debt.

 

Working Capital. As of June 30, 2015, we had net working capital of $4.3 million, compared to net working capital of $9.7 million, including $0 and $3.8 million of cash and equivalents at June 30, 2015 and December 31, 2014, respectively. Our current assets were approximately 1.1 times our current liabilities at June 30, 2015, as compared to 1.4 times as at December 31, 2014. At June 30, 2015 we had $3.8 million of available and unused borrowing capacity from our revolving credit facilities, as compared to $5.4 million at December 31, 2014, without taking into account cash and cash equivalents on hand. However, the availability of this capacity under our revolving credit facilities is subject to restrictions on the use of proceeds and is dependent upon our ability to satisfy certain financial and operating covenants, including financial ratios.

 

Credit Facilities and Long-Term Debt

 

Canadian Credit Facilities

 

Our Canadian subsidiary has maintained credit facilities with Bank of Montreal since October 2009. In June 2013, our Canadian subsidiary entered into an amended and restated letter loan agreement (the “Canadian Facilities”) that replaced and superseded all our prior financing arrangements with the bank.

 

Our Canadian Facilities provide for up to $22.0 million Canadian dollars (“CAD”) ($17.6 million expressed in U.S. dollars) in revolving and term debt. The Canadian Facilities consist of a $10.0 million demand revolving credit facility (“Facility A”), a $2.0 million term credit facility (“Facility B”) and a $10.0 million term credit facility (“Facility C”).

 

Facility A is subject to margin criteria and borrowings bear interest at Bank of Montreal’s prime rate plus 0.50% per annum on amounts borrowed in Canadian dollars, or its U.S. base rate plus 0.50% per annum or LIBOR plus 2.00% per annum on amounts borrowed in U.S. dollars. Borrowings under Facility B bear interest at Bank of Montreal’s prime rate plus 1.00% per annum with principal repayments becoming due on a five year amortization schedule. Borrowings under Facility C are repayable according to a five year principal amortization schedule and bear interest for borrowings in U.S. dollars based on either LIBOR (plus 2.00% to 2.25%) or the U.S. Base Rate (plus 1.00% to 1.25%), depending on our leverage ratio. Facility C borrowings in Canadian dollars are priced at the Canadian Rate plus 1.00% to 1.25%, depending on our leverage ratio. On March 27, 2015, we elected to prepay in full the Canadian dollar portion of Facility C with $5.0 million Canadian dollars (approximately $4.0 million expressed in U.S. dollars) of cash available on-hand.

 

All obligations under the Canadian Facilities are guaranteed by us and are secured by a first-ranking lien in the amount of $30 million CAD on all of the present and future movable and immovable property of our Canadian subsidiary.

 

As of June 30, 2015, we had approximately $1.5 million in U.S. dollar equivalents outstanding under our Canadian Facilities and we were in compliance with our financial covenant requirements. Our borrowings consisted of $0 outstanding under Facility A, $0.6 million outstanding under Facility B and $0.9 million outstanding under Facility C.

 

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In July 2015, in connection with financing the acquisition of Pacific (see Note 12 – Subsequent Events), our Canadian subsidiary borrowed $2.0 million under Facility A in order to make a loan to us, which must be repaid to Bank of Montreal by September 30, 2015.

 

United States Credit Facilities

 

In June 2013, we entered into a credit agreement with Bank of Montreal, Chicago Branch (the “U.S. Facility”), consisting of a $10.0 million demand revolving credit facility that replaced a smaller facility we maintained with another bank.

 

On December 2, 2014, the U.S. Facility was amended in order to provide a $5.0 million term loan that we used for the acquisition of Titan. The term loan has principal repayments becoming due on a five year amortization schedule.

 

Borrowings under the U.S. Facility bear interest, at our option, at the bank’s prime rate plus 1.00% per annum on U.S. prime rate loans, or an adjusted LIBOR rate plus 2.25% per annum on Eurodollar loans.

 

Our obligations under the U.S. Facility are guaranteed by all our wholly-owned U.S. subsidiaries. In addition, we and our wholly-owned U.S. subsidiaries granted a security interest in substantially all of our assets, including 65% of the shares of Pioneer Electrogroup Canada Inc. held by us, to secure our obligations under the U.S. Facility.

 

As of June 30, 2015, we had $14.1 million outstanding under the U.S. Facility and we were in compliance with its financial covenant requirements, as amended in August 2015. Our borrowings consisted of $9.2 million outstanding under the revolving credit facility and $4.9 million outstanding under the term loan facility.

 

Nexus Promissory Note

 

In July 2012, our Mexican subsidiary entered into a $1.7 million term loan agreement with GE Capital Mexico. The term loan is guaranteed by us and is payable in 60 consecutive monthly installments and bears interest, payable monthly, at a rate of 6.93% per annum. As of June 30, 2015,  there was approximately $0.5 million outstanding under this loan.

 

Titan Notes Payable

 

In connection with the acquisition of Titan, we assumed obligations to repay the remaining holders of unsecured notes. As of June 30, 2015, an aggregate principal amount of $70,000 remained outstanding.

 

Capital Lease Obligations

 

As of June 30, 2015, we had an immaterial amount of capital lease obligations outstanding that were assumed in connection with the acquisition of Titan.

 

Capital Expenditures 

 

Our additions to property, plant and equipment were $0.6 million during the six months ended June 30, 2015, as compared to $0.5 million during the six months ended June 30, 2014. Our 2015 capital expenditures included approximately $0.2 million for the implementation of a new ERP system, which project is ongoing, as compared to $0.1 million during the six months ended June 30, 2014. Other than the ERP system deployment, and consolidation plans forming part of our restructuring activities described above, we have no major future capital projects planned, or significant replacement spending anticipated during 2015.

 

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ITEM 4. CONTROLS AND PROCEDURES

 

Management’s Conclusions Regarding Effectiveness of Disclosure Controls and Procedures

 

A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of our annual or interim financial statements will not be prevented or detected on a timely basis. The matters that management identified in our Annual Report on Form 10-K for the year ended December 31, 2014, continued to exist and were still considered material weaknesses in our internal control over financial reporting at June 30, 2015.

 

We conducted an evaluation, under the supervision and participation of management including our chief executive officer and chief financial officer, of the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) and Rule 15d-15(e) of the Securities Exchange Act of 1934, as amended). There are inherent limitations to the effectiveness of any system of disclosure controls and procedures. Accordingly, even effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives. In light of the material weaknesses found in our internal controls over financial reporting previously disclosed in our Annual Report on Form 10-K for the year ended December 31, 2014 that continue to exist, our chief executive officer and chief financial officer have concluded that our disclosure controls and procedures were not effective.

 

Previously Disclosed Material Weaknesses

 

Management previously reported material weaknesses in the Company's internal control over financial reporting in the Annual Report on Form 10-K for the year ended December 31, 2014. The material weaknesses related to entity-level controls including maintaining a sufficient complement of adequately trained personnel, adherence to procedures regarding standard costing and the valuation of inventory at our Bemag Transformer reporting unit, and the financial close and reporting process at our Pioneer Critical Power reporting unit.  

 

While we have taken certain actions to address the material weaknesses identified, additional measures may be necessary as we work to improve the overall effectiveness of our internal controls over financial reporting. Through the actions described in the remediation plan reported in our Annual Report on Form 10-K for the year ended December 31, 2014, we believe that we are addressing the deficiencies that affected our internal control over financial reporting for the year then ended. Until the remediation plan is fully implemented and operating for a sufficient period of time, we will not be able to conclude that the material weaknesses have been remediated. We will continue to monitor and assess our remediation activities to address the material weaknesses discussed above through remediation as soon as practicable.

 

Changes in Internal Control over Financial Reporting

 

Other than changes that have been enacted pursuant to our remediation plan, there were no changes in our internal control over financial reporting during the quarter ended June 30, 2015 that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

 

 

 

 

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PART II – OTHER INFORMATION

 

ITEM 1A. RISK FACTORS

 

There have been no material changes in the Company’s risk factors from those disclosed in the Annual Report on Form 10-K for the year ended December 31, 2014, other than the following:

 

Our business operations are dependent upon our ability to engage in successful collective bargaining with our unionized workforce.

 

Our hourly employees located at our plant in Granby, Quebec, Canada are covered by a collective bargaining agreement with the United Steel Workers of America Local 9414 that expired in May 2015.  We are in the process of negotiating a new collective bargaining agreement with our unionized workforce at this facility which may take several months to complete.  There can be no assurance we will be successful in this effort. If we are unable to renew our collective bargaining agreement, or if additional segments of our workforce become unionized, we may be subject to work interruptions or stoppages. Strikes or labor disputes with our employees may adversely affect our ability to conduct our business.

 

 

ITEM 6. EXHIBITS

 

See the Exhibit Index following the signature page to this Quarterly Report on Form 10-Q for a list of exhibits filed or furnished with this report, which Exhibit Index is incorporated herein by reference.

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

 

 

 

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EXHIBIT INDEX

 

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* Filed herewith.

 

 

 

 

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