Quarterly Report:
May 12, 1999
AMERICAN POWER CONVERSION CORPORATION (APCC)
Quarterly Report (SEC form 10-Q)
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS:
Revenues
Net sales were $277.2 million for the first quarter of 1999, an increase of 26.6% compared to $218.9 million for the same
period in 1998. The increase was attributable to continued strong demand for the Company's uninterruptible power supply
(UPS) and surge protection products, combined with $20.4 million in first
quarter 1999 sales attributable to Silcon A/S ("Silcon") (see "Acquisition" below). First quarter net sales growth was strong
worldwide with the Americas (North and Latin America) growing 14%, EMEA (Europe, Middle East and Africa) growing
46%, and the Asia Pacific region growing 57%. International net sales (excluding Canada) comprised 42% and 35% of total net
sales in the first quarters of 1999 and 1998, respectively.
Cost of Goods Sold
Cost of goods sold was $155.0 million or 55.9% of net sales in the first quarter of 1999 compared to $120.9 million or 55.2%
in the first quarter of 1998. First quarter 1999 gross margin was 44.1% of sales, approximately 70 basis points lower than the
comparable period in 1998. Substantially all of the gross margin decrease was related to product mix as the Company's
high-power UPS business now accounts for a larger percentage of revenue. Total inventory reserves at March 28, 1999 were
$14.4 million compared to $13.3 million at December 31, 1998. The Company's reserve estimate methodology involves
quantifying the total inventory position having potential loss exposure, reduced by an amount reasonably forecasted to be sold,
and adjusting its interim reserve provisioning to cover the net loss exposure.
Operating Expenses
Operating expenses include marketing, selling, general and administrative (SG&A), and research and development (R&D)
expenses.
SG&A expenses were $66.3 million or 23.9 % of net sales for the first quarter of 1999 compared to $55.4 million or 25.3 % of
net sales for the first quarter of 1998. The increase in total spending over last year was due primarily to costs associated with
increased staffing and operating expenses of selling, administrative, and marketing functions, as well as increased advertising
and promotional costs. However, the decrease as a percentage of sales from first quarter 1998 to first quarter 1999 is
attributable to certain fixed SG&A expenses spread over a higher revenue base, as well as the Company's focused efforts to
manage spending. The allowance for doubtful accounts at March 28, 1999 was 8.2% of accounts receivable, compared to 7.9%
at December 31, 1998. The Company continues to experience strong collection performance. Accounts receivable balances
outstanding over 60 days represented 6.6% of total receivables at March 28, 1999, down from 8.6% at December 31, 1998.
Write-offs of uncollectible accounts have historically represented less than 1% of total receivable balances. A majority of
international customer balances are covered by receivables insurance.
R&D expenses were $9.0 million or 3.2% of net sales and $7.7 million or 3.5% of net sales for the first quarters of 1999 and
1998, respectively. The increase in total R&D spending primarily reflects increased numbers of software and hardware
engineers and costs associated with new product development and engineering support.
Other Income, Net and Income Taxes
Other income during the first quarter of 1999 was comprised principally of interest income, which decreased from the
comparable period in 1998 due to lower average cash balances available for investment during 1999, due largely to cash used in
the acquisition of Silcon (see "Acquisition" below).
The Company's effective income tax rates were approximately 29.5% and 30.5% for the quarters ended March 28, 1999 and
March 29, 1998, respectively. The decrease from last year is due to the expected tax savings from an increasing portion of
taxable earnings being generated from the Company's operations in Ireland, a jurisdiction which currently has a lower income
tax rate for manufacturing companies than the present U.S. statutory income tax rate.
LIQUIDITY AND CAPITAL RESOURCES
Working capital at March 28, 1999 was $521.6 million compared to $493.8 million at December 31, 1998. The Company has
been able to increase its working capital position as the result of continued strong operating results and despite internally
financing the capital investment required to expand its operations. The Company's cash position increased to $226.0 million at
March 28, 1999 from $219.9 million at December 31, 1998.
Worldwide inventories were $243.5 million at March 28, 1999 compared to $228.7 million at December 31, 1998. Inventory
levels as a percentage of quarterly sales were 88% in the first quarter of 1999 up from 72% in the fourth quarter of 1998. The
first quarter 1999 inventory build was primarily related to anticipation of increased demand patterns during the second half of
the year which result from typical seasonal factors.
At March 28, 1999, the Company had $50 million available for future borrowings under an unsecured line of credit agreement
at a floating interest rate equal to the bank's cost of funds rate plus .625% and an additional $15 million under an unsecured
line of credit agreement with a second bank at a similar interest rate. No borrowings were outstanding under these facilities at
March 28, 1999. In connection with the 1998 acquisition of a majority interest in Silcon (see "Acquisition" below), the
Company acquired $24.8 million in bank indebtedness with interest rates ranging from 4% to 8%. The Company repaid $12.3
million of this indebtedness during the second half of 1998 and $3.7 million during the first quarter of 1999. The Company had
no significant financial commitments, other than those required in the normal course of business, at March 28, 1999.
Capital investment for the first quarter of 1999 consisted primarily of manufacturing and office equipment, buildings and
improvements, and purchased software applications. The nature and level of capital spending was made to improve
manufacturing capabilities, principally in the U.S. and the Far East, and to support the increased marketing, selling, and
administrative efforts necessitated by the Company's growth. Net capital expenditures were financed from available operating
cash. The Company had no material capital commitments, other than those required in the normal course of business at March
28, 1999.
The Company has agreements with the Industrial Development Authority of Ireland ("IDA") under which the Company
receives grant monies for costs incurred for machinery, equipment, and building improvements for its Galway and Castlebar
facilities equal to 40% and 60%, respectively, of such costs up to a maximum of $13.1 million and $1.3 million, respectively.
Such grant monies are subject to the Company meeting certain employment goals and maintaining operations in Ireland until
termination of the respective agreements. The total cumulative amounts of capital grant claims submitted and received through
March 28, 1999 for the Galway facility were approximately $12.3 million and $8.8 million, respectively. The total cumulative
amount of capital grant claims submitted through March 28, 1999 for the Castlebar facility was $1.2 million; no capital grant
claims had been received for the Castlebar facility. Under separate agreements with the IDA, the Company receives direct
reimbursement of training costs at its Galway and Castlebar facilities for up to $3,000 and $12,500, respectively, per new
employee hired. The total cumulative amounts of training grant claims submitted and received through March 28, 1999 for the
Galway facility were approximately $1.2 million and $1.2 million, respectively. The total cumulative amount of training grant
claims submitted through March 28, 1999 for the Castlebar facility was approximately $1.0 million; no training grant claims
had been received for the Castlebar facility.
During the fourth quarter of 1998, the Company established a manufacturing operation in India. The Company is leasing a
42,000 square foot facility in Bangalore and expects to begin manufacturing selected products at this facility during the second
quarter of 1999. Capital expenditures for the India expansion are being financed from operating cash.
During the first quarter of 1998, the Company established a manufacturing operation in China. The Company is leasing a
50,000 square foot facility in Suzhou and began manufacturing selected products at this facility during the third quarter of
1998. Capital expenditures for the China expansion were financed from operating cash.
The Company's manufacturing operation in the Philippines is operating within a designated economic zone which provides
certain economic incentives, primarily in the form of tax exemptions. In August 1998, the Company purchased a third
manufacturing facility in the Philippines for approximately $750,000, financed from operating cash.
The Company continues to evaluate international manufacturing expansion, including additional locations in the Far East and
South America.
Management believes that current internal cash flows together with available cash, available credit facilities or, if needed, the
proceeds from the sale of additional equity, will be sufficient to support anticipated capital spending and other working capital
requirements for the foreseeable future.
Acquisition of Silcon A/S
Early in the second quarter of 1998, the Company entered into a definitive agreement with the principal management
shareholders of Silcon to acquire stock of Silcon, a Denmark-based manufacturer of three-phase UPSs up to 480 kilo volt-
amps ("kVA"), and the Company commenced a tender offer for Silcon shares. In June 1998, the initial tender offer and
purchase of stock from principal management shareholders was completed enabling the Company to operate Silcon as a
majority-owned subsidiary. During the second half of 1998, the Company increased its ownership percentage to 89%. In
January 1999, the Company attained ownership of more than 90% of the share capital of Silcon through open market purchases
financed from operating cash and commenced a mandatory redemption of the remaining Silcon shares. Through this mandatory
share redemption, the Company anticipates that it will complete its acquisition of the remaining outstanding shares of Silcon
during the second half of 1999. In connection with the mandatory redemption, the Copenhagen Stock Exchange approved the
de-listing of Silcon's shares effective March 1, 1999. The Company's cash outlays associated with the acquisition of $64.4
million during 1998 and $8.2 million during the first quarter of 1999 were financed from operating cash.
The purchase price was allocated to the net tangible and identifiable intangible assets acquired and to acquired in-process R&D
("acquired R&D"). Acquired R&D includes the value of products in the development stage that are not considered to have
reached technological feasibility and that have no alternative future uses. In accordance with applicable accounting rules,
acquired R&D is required to be expensed. Accordingly, $7.6 million of the acquisition cost was expensed in 1998. The
remaining purchase price exceeded the fair value of the tangible net assets acquired by approximately $54 million, consisting of
identifiable intangible assets and goodwill, which is being amortized on a straight-line basis over 15 years. The acquisition has
been accounted for as a purchase and, accordingly, Silcon's results of operations are included in the Company's consolidated
financial statements from the date of acquisition.
Foreign Currency Activity
The Company invoices its customers in Denmark, France, Germany, Great Britain, Switzerland, and Japan in their respective
local currencies. Realized and unrealized transaction gains or losses are included in the results of operations and are measured
based upon the effect of changes in exchange rates on the actual or expected amount of functional currency cash flows.
Transaction gains and losses were not material to the results of operations in the first quarters of 1999 and 1998.
At March 28, 1999 the Company's unhedged foreign currency accounts receivable, by currency, were as follows:
In thousands Foreign Currency US Dollars
German Marks 19,596 $10,887
British Pounds 5,393 8,812
French Francs 40,579 6,729
Swiss Francs 7,458 5,108
Danish Kroner 3,322 486
Japanese Yen 1,693,536 14,352
The Company also had non-trade receivables of 4.2 million Irish Pounds (approximately US$5.8 million), as well as Irish
Pound denominated liabilities of 3.3 million (approximately US$4.7 million). The Company also had short term debt and
liabilities denominated in various European currencies of US$38.5 million, as well as Yen denominated liabilities of
approximately US$.9 million.
The Company continually reviews its foreign exchange exposure and considers various risk management techniques, including
the netting of foreign currency receipts and disbursements, rate protection agreements with customers/vendors and derivatives
arrangements, including foreign exchange contracts. The Company presently does not utilize rate protection agreements or
derivative arrangements.
Recently Issued Accounting Standard
The Financial Accounting Standards Board recently issued Statement of Financial Accounting Standards ("SFAS") No. 133,
Accounting for Derivative Instruments and Hedging Activities, which establishes accounting and reporting standards for
derivative instruments, including certain derivative instruments embedded in other contracts (collectively referred to as
derivatives), and for hedging activities. This Statement is effective for all fiscal quarters of fiscal years beginning after June 15,
1999. The adoption of this Statement is not expected to have a material impact on the Company's consolidated financial
position or results of operations.
Year 2000 Readiness Disclosure Statement
Many computer systems were not designed to handle any dates beyond the year 1999 and, therefore, many companies will be
required to modify their computer hardware and software prior to the year 2000 in order to remain fully operational. During
1998, the Company commenced a year 2000 readiness program to assess the impact of the year 2000 issue on the Company's
operations and address necessary remediation. A year 2000 program director reporting directly to senior management has been
assigned to this project.
Assessment of the Company's Products for Year 2000 Compliance All of the Company's hardware products and accessories are
year 2000 compliant, meaning that they have been tested to verify that where date fields are processed, dates are calculated and
displayed accurately, and that scheduled events such as shutdowns, self-tests, and run-time calibrations, and also the handling
of unscheduled events, such as power failures, are unaffected by the millenium and century change; provided that all other third
party products (e.g., software, firmware, operating systems, and hardware) properly exchange date data with the Company
product and provided also that the Company products are used in accordance with the product documentation. In addition, the
Company's year 2000 compliant products recognize the year 2000 as a leap year. The Company has also tested its software
products and determined that these products are substantially year 2000 compliant, and the Company intends to resolve any
remaining year 2000 issues before the beginning of the fourth quarter of 1999. Periodically updated information about the
Company's software products is available at the Company's Year 2000 Readiness Disclosure Web site (www.APCC.com).
Information on this site is provided to the Company's customers for the sole purpose of assisting in planning for transition to
the year 2000. Such information is the most currently available concerning the behavior of the Company's products in the next
century and is provided "as is" without warranty of any kind. In addition, to the extent the Company's hardware and software
products are combined with the hardware and software products of other companies, there can be no assurance that users of the
Company's products will not experience year 2000 problems as a result of the combination of the Company's hardware and
software products with non-compliant products of other companies. The Company currently does not anticipate material
expenditures to remedy any year 2000 issues with its products and services.
Assessment of the Company's Information Technology ("IT") and Non-IT Systems for Year 2000 Compliance The Company
is currently in the process of evaluating its IT systems for compliance. The Company's Oracle manufacturing and financial
information systems were implemented during 1998. The Company is evaluating the year 2000 compliance of these systems in
accordance with Oracle's recommendations. At December 31, 1998, the Company had completed its initial installation and
testing of software patches available from Oracle. The Company is currently continuing to install and test additional software
patches as they become available from Oracle. The Company does not consider the cost of the new hardware and software for
the Oracle implementations to be related to year 2000 readiness as these system replacements were already planned to satisfy the
demands of expansion of its worldwide operations and were not accelerated due to year 2000 issues. The Company is also
currently in the process of evaluating its non-IT systems for compliance. Additionally, the Company utilizes other
third party software and equipment to distribute its products as well as to operate other aspects of its business. The Company is
reviewing such software and equipment. The Company's review process is expected to be completed before the beginning of the
fourth quarter of 1999. There can be no assurance that such software and equipment is year 2000 compliant, that non-compliant
software and equipment will be made compliant on a timely basis, or that any such non- compliant software and equipment
would not have a material adverse effect on the Company's systems and operations.
Evaluation of Third Parties with which the Company has a Material Relationship, including Key Suppliers, Service Providers,
and Strategic Partners The Company's year 2000 readiness program includes identifying these third parties and determining,
based on receipt of written verification, review of publicly available financial statement disclosures, and other means, that such
third parties are either in compliance or expect to be in compliance prior to January 1, 2000. The Company is currently in the
process of communicating with its significant vendors, service providers, and certain strategic partners. Many enterprises,
including the Company's present and potential customers, may be devoting a substantial portion of their information systems
spending to resolving year 2000 issues, which may result in their spending being diverted from applications such as the
Company's products, over the next two years.
Development of Contingency Plans The Company is currently not in a position to determine what would be its most reasonably
likely worst case year 2000 scenario or any plan for handling such scenario. To date, the Company has not completed a formal
contingency plan for non-compliance, however to the extent that further evaluation of its products, its IT and non-IT systems,
or information obtained from the third parties with which it has a material relationship suggests that there is a significant risk,
contingency plans will be implemented. Such contingency plans may include the development of alternative sources for the
product or service provided by any non-compliant vendor.
It is the Company's policy to expense as incurred all costs associated with year 2000 readiness. The Company has developed a
separate budget for operating and capital expenditures relating year 2000 issues. No IT projects have been deferred due to year
2000 efforts. Although the Company is not yet able to estimate its total incremental cost for year 2000 issues, based on its
preliminary review to date, the Company does not believe that the costs of year 2000 issues will have a material adverse effect
on the Company's business, operating results, or financial condition. Although the Company is taking measures to address the
impact, if any, of year 2000 issues, it cannot predict the outcome or success of its year 2000 readiness program, or whether the
failure of third party systems or equipment to operate properly in the year 2000 will have a material adverse effect upon the
Company's business, operating results, or financial condition, or require the Company to incur unanticipated material expenses
to remedy any year 2000 issue.
The foregoing discussion regarding the Company's year 2000 readiness program's implementation, effectiveness, and cost,
contains forward-looking statements which are based on management's expectations, determined utilizing certain assumptions
of future events, including third party compliance and other factors. However, there can be no guarantee that these expectations
will be realized, and actual results could differ materially from management's expectations. Specific factors that might cause
such material differences include, but are not limited to, the availability and cost of personnel trained in this area and other
similar uncertainties, and the remediation success of the Company's suppliers, service providers, and strategic partners.
Factors That May Affect Future Performance
Statements contained in this document which are not historical facts may constitute forward-looking statements as that term is
defined under the provisions of the "safe harbor" section of the Private Securities Litigation Reform Act of 1995. All
forward-looking statements are subject to risks and uncertainties which could cause actual results to differ from those projected.
The factors that could cause actual results to differ materially include the following: APC's ability to successfully integrate
Silcon's operations; the timely development and acceptance of new products; ramp up and expansion of manufacturing capacity;
general worldwide economic conditions; growth rates in the power protection industry and related industries, including but not
limited to the PC, server, networking and enterprise hardware industries; competitive factors and pricing pressures; changes in
product mix; changes in the
seasonality of demand patterns; inventory risks due to shifts in market demand; the effects of any other possible acquisitions;
component constraints and shortages; risk of nonpayment of accounts receivable; changes in customer order patterns and
product demand related to year 2000 purchasing issues; impact on the Company's business due to internal systems or systems of
suppliers and other third parties adversely affected by year 2000 problems; the uncertainty of the litigation process including
risk of an unexpected, unfavorable result of current litigation; and the risks described from time to time in the Company's
filings with the Securities and Exchange Commission.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company, in the normal course of business, is exposed to market risks relating to fluctuations in foreign currency exchange
rates. The information required under this section related to such risks is included in the Foreign Currency Activity section of
Management's Discussion and Analysis of Financial Condition and Results of Operations in Item 2 of this Report and is
incorporated herein by reference.
Recent Filings: Aug 1998 (Qtrly Rpt) | Nov 1998 (Qtrly Rpt) | Jan 1999 (Qtrly Rpt) | Mar 1999 (Annual Rpt) | May 1999 (Qtrly Rpt)
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