UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

Form 10-Q

 

 

 

DYNAMIC MATERIALS CORPORATION
(Exact name of Registrant as Specified in its Charter)

 

 

5405 Spine Road, Boulder, Colorado 80301

(Address of principal executive offices, including zip code)

 

(303) 665-5700

(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  ý    No  o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.    Large accelerated filer o Accelerated filer ý Non-accelerated filer  o

 

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

 

The number of shares of Common Stock outstanding was 11,788,670 as of April 25, 2006.

 

 

CAUTIONARY NOTE ABOUT FORWARD-LOOKING STATEMENTS

 

This quarterly report on Form 10-Q contains “forward-looking statements” within the meaning of section 27A of the Securities Act of 1933 and section 21E of the Securities Exchange Act of 1934. In particular, we direct your attention to Part I Item 1- Financial Statements, Item 2 - Management’s Discussion and Analysis of Financial Condition and Results of Operations and Item 3 - Quantitative and Qualitative Disclosures About Market Risk. We intend the forward-looking statements throughout this quarterly report on Form 10-Q and the information incorporated by reference herein to be covered by the safe harbor provisions for forward-looking statements. Statements contained in this report which are not historical facts are forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from projected results. All projections and statements regarding our expected financial position and operating results, our business strategy, our financing plans and the outcome of any contingencies are forward-looking statements. These statements can sometimes be identified by our use of forward-looking words such as “may”, “believe”, “plan”, “anticipate”, “estimate”, “expect”, “intend” and other phrases of similar meaning. The forward-looking information is based on information available as of the date of this quarterly report and on numerous assumptions and developments that are not within our control. Although we believe that our expectations as expressed in these forward-looking statements are reasonable, we cannot assure you that our expectations will turn out to be correct. Factors that could cause actual results to differ materially include, but are not limited to, the following: the ability to obtain new contracts at attractive prices; the size and timing of customer orders and shipment; fluctuations in customer demand; competitive factors; the timely completion of contracts; any actions which may be taken by SNPE as the controlling shareholder of Dynamic Materials Corporation (“DMC” or the “Company”) with respect to the Company and our businesses; the timing and size of expenditures; the timely receipt of government approvals and permits; the adequacy of local labor supplies at our facilities; current or future limits on manufacturing capacity at our various operations; the availability and cost of funds; and general economic conditions, both domestic and foreign, impacting our business and the business of the end-market users we serve. Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management’s analysis only as of the date hereof. We undertake no obligation to publicly release the results of any revision to these forward-looking statements that may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.

 

2

 

INDEX

 

PART I - FINANCIAL INFORMATION
Item 1 - Condensed Consolidated Financial Statements
			Consolidated Balance Sheets as of March 31, 2006 (unaudited) and December 31, 2005
			Consolidated Statements of Operations for the three months ended March 31, 2006 and 2005 (unaudited)
			Consolidated Statement of Stockholders’ Equity for the three months ended March 31, 2006 (unaudited)
			Consolidated Statements of Cash Flows for the three months ended March 31, 2006 and 2005 (unaudited)
			Notes to Condensed Consolidated Financial Statements (unaudited)
Item 2 - Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3 - Quantitative and Qualitative Disclosures about Market Risk
Item 4 - Controls and Procedures
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings
Item 1A - Risk Factors
Item 2 - Unregistered Sales of Equity Securities and Use of Proceeds
Item 3 - Defaults Upon Senior Securities
Item 4 - Submission of Matters to a Vote of Security Holders
Item 5 - Other Information
Item 6 - Exhibits
Signatures

 

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Part I - FINANCIAL INFORMATION

 

ITEM 1. Condensed Consolidated Financial Statements

 

DYNAMIC MATERIALS CORPORATION & SUBSIDIARY

CONSOLIDATED BALANCE SHEETS

(Dollars in Thousands)

 

		March 31, 2006			December 31, 2005
		(unaudited)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents		$	13,114		$	5,763
Marketable securities		—			1,950
Loan to related party		1,211			—
Accounts receivable, net of allowance for doubtful accounts of $329 and $301, respectively		15,002			15,576
Inventories		12,644			11,869
Prepaid expenses and other		1,820			822
Current portion of other receivables related to discontinued operations		678			—
Current deferred tax assets		597			572
Total current assets		45,066			36,552
PROPERTY, PLANT AND EQUIPMENT		23,205			22,635
Less - Accumulated depreciation		(10,415		)	(10,063		)
Property, plant and equipment, net		12,790			12,572
GOODWILL, net		847			847
DEFERRED TAX ASSETS		1,824			819
OTHER ASSETS, net		79			101
OTHER RECEIVABLES RELATED TO DISCONTINUED OPERATIONS		—			681
ASSETS OF DISCONTINUED OPERATIONS		789			3,739
TOTAL ASSETS		$	61,395		$	55,311

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

 

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DYNAMIC MATERIALS CORPORATION & SUBSIDIARY

CONSOLIDATED BALANCE SHEETS

(Dollars in Thousands, Except Share Data)

 

		March 31,			December 31,
		2006			2005
		(unaudited)
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES:
Accounts payable		$	7,486		$	7,278
Accrued expenses		1,833			1,615
Accrued income taxes		4,109			979
Accrued employee compensation and benefits		2,164			2,508
Customer advances		2,033			1,885
Related party debt		—			45
Current maturities on long-term debt		540			528
Total current liabilities		18,165			14,838
LONG-TERM DEBT		2,185			2,221
DEFERRED TAX LIABILITIES		1,525			195
OTHER LONG-TERM LIABILITIES		231			222
LIABILITIES OF DISCONTINUED OPERATIONS		—			2,880
COMMITMENTS AND CONTINGENT LIABILITIES		—			—
Total liabilities		22,106			20,356
STOCKHOLDERS’ EQUITY:
Preferred stock, $.05 par value; 4,000,000 shares authorized; no issued and outstanding shares		—			—
Common stock, $.05 par value; 15,000,000 shares authorized; 11,782,420 and 11,758,920 shares issued and outstanding, respectively		589			588
Additional paid-in capital		20,241			19,778
Retained earnings		17,834			14,104
Other cumulative comprehensive income		625			485
Total stockholders’ equity		39,289			34,955
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY		$	61,395		$	55,311

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

 

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DYNAMIC MATERIALS CORPORATION & SUBSIDIARY

CONSOLIDATED STATEMENTS OF OPERATIONS

FOR THE THREE MONTHS ENDED MARCH 31, 2006 AND 2005

(Dollars in Thousands, Except Share Data)

(unaudited)

 

		2006			2005
NET SALES		$	25,175		$	17,510
COST OF PRODUCTS SOLD		15,894			12,860
Gross profit		9,281			4,650
COSTS AND EXPENSES:
General and administrative expenses		1,527			809
Selling expenses		1,324			1,126
Total costs and expenses		2,851			1,935
INCOME FROM OPERATIONS OF CONTINUING OPERATIONS		6,430			2,715
OTHER INCOME (EXPENSE):
Other income (expense), net		(6		)	5
Interest expense		(29		)	(86		)
Interest income		123			4
INCOME BEFORE INCOME TAXES AND DISCONTINUED OPERATIONS		6,518			2,638
INCOME TAX PROVISION		2,379			990
INCOME FROM CONTINUING OPERATIONS BEFORE DISCONTINUED OPERATIONS		4,139			1,648
DISCONTINUED OPERATIONS:
Income from discontinued operations, net of tax		1,357			—
Income from discontinued operations		1,357			—
NET INCOME		$	5,496		$	1,648
INCOME PER SHARE - BASIC:
Continuing operations		$	0.35		$	0.15
Discontinued operations		0.12			—
Net income		$	0.47		$	0.15
INCOME PER SHARE - DILUTED:
Continuing operations		$	0.34		$	0.14
Discontinued operations		0.11			—
Net income		$	0.45		$	0.14
WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING -
Basic		11,768,098			10,694,260
Diluted		12,217,547			11,861,100
ANNUAL DIVIDENDS DECLARED PER COMMON SHARE		$	0.15		$	—

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements

 

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DYNAMIC MATERIALS CORPORATION & SUBSIDIARY

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

FOR THE THREE MONTHS ENDED MARCH 31, 2006

(Amounts in Thousands)

(unaudited)

 

		Common Stock					Additional Paid-In			Retained			Other Cumulative Comprehensive						Comprehensive Income
		Shares		Amount			Capital			Earnings			Income			Total			for the Period
Balances, December 31, 2005		11,759		$	588		$	19,778		$	14,104		$	485		$	34,955
Shares issued for stock option exercises		23		1			73			—			—			74
Tax benefit related to stock options		—		—			54			—			—			54
Stock-based compensation		—		—			336			—			—			336
Dividends paid		—		—			—			(1,766		)	—			(1,766		)
Net income		—		—			—			5,496			—			5,496			5,496
Change in cumulative foreign currency translation adjustment		—		—			—			—			140			140			140
Balances, March 31, 2006		11,782		589			20,241			17,834			625			39,289			5,636

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

 

7

 

DYNAMIC MATERIALS CORPORATION & SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE THREE MONTHS ENDED MARCH 31, 2006 AND 2005

(Dollars in Thousands)

(unaudited)

 

		2006			2005
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income		$	5,496		$	1,648
Adjustments to reconcile net income to net cash provided by operating activities -
Income from discontinued operations, net of tax		(1,357		)	—
Depreciation		313			362
Amortization		4			4
Amortization of capitalized debt issuance costs		7			13
Stock-based compensation		336			—
Provision for deferred income taxes		320			(14		)
Tax benefit related to exercise of stock options		—			214
Change in -
Accounts receivable, net		689			852
Inventories		(531		)	(283		)
Prepaid expenses and other		(803		)	(218		)
Accounts payable		120			145
Accrued expenses and other liabilities		1,899			(469		)
Net cash provided by operating activities		6,493			2,254
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of property, plant and equipment		(469		)	(577		)
Sale of marketable securities		1,950			—
Loan to related party		(1,206		)	—
Change in other non-current assets		79			78
Payment received on other receivables related to discontinued operations		3			874
Cash flows provided by investing activities of discontinued operations		2,197			—
Net cash flows provided by investing activities		2,554			375

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

 

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		2006			2005
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayments on bank lines of credit, net		—			(3,041		)
Repayments on related party lines of credit, net		(45		)	(129		)
Payment on SNPE, Inc. term loan		—			(667		)
Payment on industrial development revenue bond		(45		)	(240		)
Payment of dividends		(1,766		)	—
Change in other long-tem liabilities		7			4
Net proceeds from issuance of common stock to employees and directors		74			620
Tax benefit related to exercise of stock options		54			—
Net cash flows used in financing activities		(1,721		)	(3,453		)
EFFECTS OF EXCHANGE RATES ON CASH		25			(57		)
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS		7,351			(881		)
CASH AND CASH EQUIVALENTS, beginning of the period		5,763			2,404
CASH AND CASH EQUIVALENTS, end of the period		$	13,114		$	1,523

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

 

9

 

DYNAMIC MATERIALS CORPORATION & SUBSIDIARY

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

(Dollars in Thousands, Except Share and Per Share Data)

 

(unaudited)

 

1.             BASIS OF PRESENTATION

 

The information included in the Condensed Consolidated Financial Statements is unaudited but includes all normal and recurring adjustments which, in the opinion of management, are necessary for a fair presentation of the interim periods presented. These Condensed Consolidated Financial Statements should be read in conjunction with the financial statements that are included in the Company’s Annual Report filed on Form 10-K for the year ended December 31, 2005.

 

2.             SIGNIFICANT ACCOUNTING POLICIES

 

Principles of Consolidation

 

The Condensed Consolidated Financial Statements include the accounts of the Company and a subsidiary in which it has a greater than 50% interest. All significant intercompany accounts, profits and transactions have been eliminated in consolidation.

 

Foreign Operations and Foreign Exchange Rate Risk

 

The functional currency for the Company’s foreign operations is the applicable local currency for each affiliate company. Assets and liabilities of foreign subsidiaries for which the functional currency is the local currency are translated at exchange rates in effect at period-end, and the statements of operations are translated at the average exchange rates during the period. Exchange rate fluctuations on translating foreign currency financial statements into U.S. dollars that result in unrealized gains or losses are referred to as translation adjustments. Cumulative translation adjustments are recorded as a separate component of stockholders’ equity and are included in other cumulative comprehensive income. Transactions denominated in currencies other than the local currency are recorded based on exchange rates at the time such transactions arise. Subsequent changes in exchange rates result in transaction gains and losses which are reflected in income as unrealized (based on period-end translations) or realized upon settlement of the transactions. Cash flows from the Company’s operations in foreign countries are translated at actual exchange rates when known, or at the average rate for the period. As a result, amounts related to assets and liabilities reported in the consolidated statements of cash flows will not conform with changes in the corresponding balances in the Consolidated Balance Sheets. The effects of exchange rate changes on cash balances held in foreign currencies are reported as a separate line item below cash flows from financing activities.

 

Revenue Recognition

 

Sales of clad metal products and welding services are generally based upon customer specifications set forth in customer purchase orders and require us to provide certifications

 

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relative to metals used, services performed and the results of any non-destructive testing that the customer has requested be performed. Any non-conformance issues are resolved before the product is shipped and billed. Revenue is recognized only when all four of the following criteria have been satisfied: persuasive evidence of an arrangement exists; the price is fixed or determinable; delivery has occurred; and collection is reasonably assured. For contracts that require multiple shipments, revenue is recorded only for the units included in each individual shipment. If, as a contract proceeds toward completion, projected total cost on an individual contract indicates a potential loss, we provide currently for such anticipated loss.

 

Loan to Related Party

 

Nobelclad Europe, S.A. (“Nobelclad”) has a Euro-denominated cash management agreement with SNPE that provides for loans to or from either party of up to approximately $3.4 million, based on the December 31, 2005 exchange rates. Amounts outstanding under this agreement bear interest at EURIBOR plus 1.5% annually. Due to Nobelclad’s excess cash position during the first quarter of 2006, it began advancing cash to Groupe SNPE through this intercompany cash agreement. At March 31, 2006, these advances to Groupe SNPE totaled 1,003 Euros ($1,211). The interest rate earned on these advances exceeded the interest rate that Nobelclad could earn on excess cash and cash equivalents held at its local bank. The agreement allowed Nobelclad to request repayment on the advances at any time. The balance outstanding at March 31, 2006 was subsequently repaid in full.

 

Earnings Per Share

 

Basic earnings per share (“EPS”) is computed by dividing net income by the weighted average number of shares of common stock outstanding during the period. Diluted EPS recognizes the potential dilutive effects of dilutive securities. The following represents a reconciliation of the numerator and denominator used in the calculation of basic and diluted EPS:

 

		For the three months ended March 31, 2006
							Per share
		Net Income			Shares		Amount
Basic earnings per share		$	5,496		11,768,098		$	0.47
Dilutive effect of options to purchase common stock		—			449,449
Dilutive earnings per share		$	5,496		12,217,547		$	0.45

 

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		For the three months ended March 31, 2005
		Net Income			Shares		Per share Amount
Basic earnings per share		$	1,648		10,694,260		$	0.15
Dilutive effect of options to purchase common stock		—			766,840
Dilutive effect of convertible subordinated note, net of tax		12			400,000
Dilutive earnings per share		$	1,660		11,861,100		$	0.14

 

Recent Accounting Pronouncements

 

In December 2004, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment (“SFAS 123R”), which is a revision of Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation (“SFAS 123”). SFAS 123R requires measurement of all employee stock-based compensation awards using a fair-value method and the recording of such expense in the consolidated financial statements. In addition, the adoption of SFAS 123R requires additional accounting related to the income tax effects and disclosure regarding the cash flow effects resulting from share-based payment arrangements. In January 2005, the SEC issued Staff Accounting Bulletin No. 107, which provides supplemental implementation guidance for SFAS 123R. We selected the Black-Scholes option-pricing model as the most appropriate fair-value method for our awards and will recognize compensation cost on a straight-line basis over our awards’ vesting periods. We adopted SFAS 123R in the first quarter of 2006. See Note 3 for further detail.

 

In November 2004, the FASB issued Statement of Financial Accounting Standards No. 151, Inventory Costs (“SFAS 151”), which amends the guidance in Accounting Research Bulletin No. 43, Chapter 4, Inventory Pricing. This statement requires abnormal amounts of idle facility expense, freight, handling costs and wasted material to be excluded from inventory costing and instead included as period expenses. In addition, this standard requires the allocation of fixed production overhead to be based on normal capacity of the production facilities. We adopted the standard on January 1, 2006 and it did not have an impact on our Condensed Consolidated Financial Statements.

 

In May 2005, the FASB issued Statement of Financial Accounting Standards No. 154, Accounting Changes and Error Corrections (“SFAS 154”), which requires the direct effects of voluntary accounting principle changes to be retrospectively applied to prior periods’ financial statements. This Statement does not change the transition provisions of any existing accounting pronouncements, but would apply in the unusual instance that a pronouncement does not include specific transition provisions. SFAS 154 maintains existing guidance with respect to accounting estimate changes and corrections of errors. The Statement was effective on January 1, 2006. Our adoption of this Statement on January 1, 2006 did not have an impact on our Condensed Consolidated Financial Statements.

 

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3.             STOCK-BASED COMPENSATION

 

The Company maintains a stock option plan that provides for grants of both incentive stock options and non-statutory stock options. Incentive stock options are granted at exercise prices that equal the fair market value of the stock at date of grant based upon the closing sales price of the Company’s common stock on that date. Incentive stock options generally vest 25% annually and expire ten years from the date of grant. Non-statutory stock options are generally granted at exercise prices that equal the fair market value of the stock at date of grant. These options vest over periods ranging from one to four years and have expiration dates ten years from the date of grant.

 

Prior to January 1, 2006, the Company accounted for its stock-based compensation plan under the recognition and measurement provisions of Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (“APB 25”) and related interpretations, as permitted by SFAS 123. Accordingly, no stock-based compensation expense was recognized in the Consolidated Statements of Operations for the three months ended March 31, 2005 as the options granted under the Company’s stock option plan had exercise prices equal to the market value of the underlying common stock on the date of grant. Effective January 1, 2006, the Company adopted the fair value recognition provisions of SFAS 123R using the modified prospective transition method. Under that transition method, compensation cost recognized in the three months ended March 31, 2006 includes: (a) compensation cost for all share-based payments granted prior to, but not yet vested as of January 1, 2006, based on the grant date fair value estimated in accordance with the original provisions of SFAS 123, and (b) compensation cost for all share-based payments granted subsequent to January 1, 2006, based on grant date fair value estimated in accordance with SFAS 123R.

 

The fair value for each option was estimated on the date of grant using a Black-Scholes option-pricing model with the following assumptions used for the single grant during the three months ended March 31, 2006: a risk free interest rate of 4.35%; an expected volatility factor of 86.6%; an expected dividend yield of .375%; and an expected life of 4 years. Our computation of expected volatility for the quarter ended March 31, 2006 is based on historical volatility from the past four years, based on the current expected life of outstanding options. Our computation of expected life is based on historical exercise patterns. The interest rate for periods within the contractual life of the award is based on the U.S. Treasury yield curve in effect at the time of grant. The fair value of the options granted during the three months ended March 31, 2006 was $22.30 per underlying share. Each grant is valued as a single award and compensation expense is recognized on a straight-line basis over the vesting period. In accordance with the modified prospective transition method, results for prior periods have not been restated.

 

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As a result of adopting SFAS 123R on January 1, 2006, the Company’s pretax income and net income for the three months ended March 31, 2006 were $336 and $240 lower, respectively, than if it had continued to account for stock-based compensation under APB 25. Basic and diluted earnings per share for the three months ended March 31, 2006 would have been $0.49 and $0.47, respectively, if the Company had not adopted SFAS 123R, compared to reporting basic and diluted earnings per share of $0.47 and $0.45, respectively. The following table sets forth the total stock-based compensation expense included in the Consolidated Statements of Operations:

 

		Three Months Ended March 31, 2006
Cost of products sold		$	11
General and administrative expense		307
Selling expense		18
Stock-based compensation expense before income taxes			336
Income tax benefit		(96		)
Stock-based compensation expense, net of income taxes		$	240

 

Prior to the adoption of SFAS 123R, the Company presented all tax benefits of deductions resulting from the exercise of stock options as operating cash flows in the Consolidated Statements of Cash Flows. SFAS 123R requires the tax benefits resulting from deductions in excess of the compensation cost recognized for those options (“excess tax benefits”) to be classified as financing cash flows. The $54 excess tax benefit classified as a financing cash inflow in the Consolidated Statements of Cash Flows for the three months ended March 31, 2006 would have been classified as an operating cash inflow if the Company had not adopted SFAS 123R.

 

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The following table illustrates the effect on net income and basic and diluted earnings per share if the Company had applied the fair value recognition provisions of SFAS 123R to stock-based compensation for the three months ended March 31, 2005. For purposes of this pro forma disclosure, the value of the options is estimated using a Black-Scholes option-pricing model and amortized to expense over the options’ vesting periods. The following assumptions were used in the options pricing model: a risk free interest rate of 3.6%; an expected volatility factor of 89.4%; an expected dividend yield of 0.0%; and an expected life of 4 years.

 

		Three Months Ended
		March 31, 2005
Net income-as reported		$	1,648
Deduct stock-based compensation expense determined under fair value method, net of related tax effects		(81		)
Pro forma net income		$	1,567
Earnings per share:
Basic-as reported		$	0.15
Basic-pro forma		$	0.15
Diluted-as reported		$	0.14
Diluted-pro forma		$	0.13

 

The following table summarizes the stock options outstanding as of March 31, 2006 as well as activity for the three months then ended:

 

		Options		Weighted Average Exercise Price			Weighted Average Remaining Contractual Term		Aggregate Intrinsic Value
Outstanding at beginning of period		588,426		$	4.77
Granted		20,000		35.21
Exercised		(23,500	)	3.16
Outstanding at end of period		584,926		$	5.88		7.87		$	17,409
Exercisable at end of period		228,672		$	1.94		7.35		$	7,705

 

The intrinsic value of options exercised for the three months ended March 31, 2006 was $713. As of March 31, 2006, there was $1,052 of total unrecognized stock-based compensation cost related to unvested stock options. The cost is expected to be recognized over a weighted average period of 1.09 years.

 

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4.             INVENTORY

 

The components of inventory are as follows at March 31, 2006 and December 31, 2005:

 

		March 31,			December 31,
		2006			2005
		(unaudited)
Raw materials		$	5,565		$	5,767
Work-in-process		6,683			5,878
Supplies		396			224
		$	12,644		$	11,869

 

5.             DEBT

 

Long-term debt consists of the following at March 31, 2006 and December 31, 2005:

 

		March 31,			December 31,
		2006			2005
		(unaudited)
Term loan - French bank		$	1,050		$	1,029
Industrial development revenue bonds		1,675			1,720
		2,725			2,749
Less current maturities		(540		)	(528		)
Long-term debt		$	2,185		$	2,221

 

Loan Covenants and Restrictions

 

The Company’s existing loan agreements include various covenants and restrictions, certain of which relate to the incurrence of additional indebtedness, mortgaging, pledging or disposition of major assets, limits on capital expenditures and maintenance of specified financial ratios. As of March 31, 2006, the Company was in compliance with all financial covenants and other provisions of its debt agreements.

 

6.             BUSINESS SEGMENTS

 

The Company is organized in the following two segments: the Explosive Metalworking segment and AMK Welding. The Explosive Metalworking segment uses explosives to perform metal cladding and shock synthesis. The most significant product of this group is clad metal, which is used in the fabrication of pressure vessels, heat exchangers and transition joints for various industries, including upstream oil and gas, oil refinery, petrochemicals, hydrometallurgy, aluminum production, shipbuilding, power generation, industrial refrigeration and similar industries. AMK Welding utilizes a number of welding technologies to weld components for manufacturers of jet engine and ground-based turbines.

 

The accounting policies of both segments are the same as those described in the summary of significant accounting policies. The Company’s reportable segments are strategic business

 

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units that offer different products and services and are separately managed. Each segment is marketed to different customer types and requires different manufacturing processes and technologies. Segment information is presented for the three months ended March 31, 2006 and 2005 as follows:

 

		Explosive Metalworking Group			AMK Welding			Total
For the three months ended March 31, 2006:
Net sales		$	24,176		$	999		$	25,175
Depreciation and amortization		$	262		$	55		$	317
Segment income from operations of continuing operations		$	6,658		$	108		$	6,766
Unallocated amounts:
Stock-based compensation								(336		)
Other expense								(6		)
Interest income, net								94
Consolidated income before income taxes and discontinued operations								$	6,518

 

		Explosive Metalworking Group			AMK Welding			Total
For the three months ended March 31, 2005:
Net sales		$	16,967		$	543		$	17,510
Depreciation and amortization		$	320		$	46		$	366
Segment income (loss) from operations of continuing operations		$	2,830		$	(115	)	$	2,715
Unallocated amounts:
Other income								5
Interest expense, net								(82		)
Consolidated income before income taxes and discontinued operations								$	2,638

 

During the three months ended March 31, 2006, sales to one customer represented approximately $3,665 (15%) of total net sales. During the three months ended March 31, 2005, sales to no one customer accounted for more than 10% of total net sales.

 

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7.                   COMPREHENSIVE INCOME

 

DMC’s comprehensive income for the three months ended March 31, 2006 and 2005 was as follows:

 

		Three Months Ended March 31,
		2006			2005
Net income for the period		$	5,496		$	1,648
Foreign currency translation adjustment		140			(284		)
Comprehensive income		$	5,636		$	1,364

 

As of March 31, 2006 and December 31, 2005 other cumulative comprehensive income of $625 and $485, respectively, consists entirely of cumulative foreign currency translation adjustment.

 

8.                   DISCONTINUED OPERATIONS

 

On September 17, 2004, DMC completed the divestiture of its Spin Forge division under an agreement that involved subleasing the Spin Forge real estate and leasing the manufacturing equipment and tooling to a third party. Under the master agreement relating to this divestiture transaction, DMC sold all inventory, books and records, intangible personal property, business information and technology, customer contracts, and licenses and permits relating to the Spin Forge business to this third party for a sales price of approximately $1,700. The third party also assumed full responsibility for the Spin Forge business activities and operating expenses. Despite the fact that the Company retained ownership of the equipment and continued to carry a capital lease asset of $2,880 on its books, the Company concluded that the Spin Forge divestiture transaction qualified for treatment as discontinued operations since the Company had completely exited the Spin Forge operating business and has no intent to ever again operate any of the leased assets. To the extent that the third party purchaser of the Spin Forge business does not exercise its option to purchase all or a portion of the leased equipment and tooling when the lease term expires on January 1, 2007, DMC plans to immediately liquidate such equipment.

 

On January 10, 2006, the Company sold its purchase option on the Spin Forge real estate to the property owner for $2,300. The completion of this transaction resulted in a pretax gain of $2,197, which was recorded as discontinued operations in the first quarter of 2006. In connection with the sale of the purchase option, the underlying lease agreement was terminated. Accordingly, the capital lease asset of $2,880 and the related lease obligation of the same amount were removed from the Company’s balance sheet in the first quarter of 2006.

 

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Assets of discontinued operations are comprised of the following:

 

		March 31, 2006			December 31, 2005
		(unaudited)
Leased manufacturing equipment		789			859
Capital lease asset - real estate		—			2,880
Total assets of discontinued operations		$	789		$	3,739

 

The Company is receiving rent of $23 per month on the leased manufacturing equipment through the end of the initial lease term, which expires in December 2006. As part of the September 17, 2004 divestiture of Spin Forge, the Company sold inventory totaling $1,697 and the sale of this inventory was reflected in other receivables. As of March 31, 2006, the unpaid balance of this receivable, which is due no later than January 1, 2007, is $678 and is classified as short-term based on the payment schedule specified in the divestiture agreement. As of December 31, 2005, this receivable totaled $681 and was classified as long-term.

 

Discontinued operations for the three months ended March 31, 2006 is summarized as follows:

 

		Three Months Ended March 31, 2006
Gain on sale of real estate purchase option		$	2,197
Related income tax expense		(840		)
Income from discontinued operations, net of tax		$	1,357

 

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

 

The following discussion should be read in conjunction with our historical consolidated financial statements and notes, as well as the selected historical consolidated financial data that are included in the Company’s Annual Report filed on Form 10-K for the year ended December 31, 2005.

 

Unless stated otherwise, all dollar figures in this discussion are presented in thousands (000’s).

 

Executive Overview

 

Our business is organized into two segments: Explosive Metalworking (which we also refer to as DMC Clad) and AMK Welding. For the three months ended March 31, 2006, Explosive Metalworking accounted for 96% of our net sales and 98% of our income from operations of continuing operations before consideration of stock-based compensation expense, which is not allocated to our business segments.

 

Our first quarter 2006 net sales increased 43.8% compared to the first quarter of 2005, reflecting Explosive Metalworking quarter-to-quarter net sales increases in our U.S.-based and European operations of 50.3% and 27.6%, respectively. Our operating income from continuing operations increased 136.8%, to $6,430 in the first quarter of 2006 from $2,715 in the first quarter of 2005, reflecting a $3,828 improvement in Explosive Metalworking’s operating income and a $223 improvement in AMK Welding’s operating income. Income from continuing operations before discontinued operations increased 151.2%, to $4,139 in the first quarter of 2006 from $1,648 in the first quarter of 2005. Our net income increased to $5,496 in the first quarter of 2006 from $1,648 in the first quarter of 2005. First quarter 2006 net income included $1,357 of income from discontinued operations, net of tax, relating to the sale of the Spin Forge real estate option as further discussed below.

 

Net sales

 

Explosive Metalworking’s net sales are generated principally from sales of clad metal plates and sales of transition joints, which are made from clad plates, to fabricator customers that fabricate industrial equipment for various industries, including upstream oil and gas, oil refinery, petrochemicals, hydrometallurgy, aluminum production, shipbuilding, power generation, industrial refrigeration and similar industries. Demand for our clad metal products in the United States is driven by plant maintenance and retrofit projects at existing chemical processing, petrochemical processing and oil refining facilities, as well as new plants and large plant expansion projects. In contrast to the U.S. market, demand for our clad products in Europe and Asia is more dependent on new construction projects, such as the building of new purified terephthalic acid (“PTA”) plants in different parts of the world, including China, and on sales of electrical transition joints that are used in the aluminum production industry.

 

AMK Welding’s net sales are generated from welding, heat treatment and inspection services that are provided with respect to customer-supplied parts for customers primarily involved in the power generation industry and aircraft engine markets.

 

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A significant portion of our net sales is derived from a relatively small number of customers; therefore, the failure to complete existing contracts on a timely basis, and to receive payment for such services in a timely manner, or to enter into future contracts at projected volumes and profitability levels could adversely affect our ability to meet cash requirements exclusively through operating activities. We attempt to minimize the risk of losing customers or specific contracts by continually improving product quality and delivering product on time.

 

DMC Clad’s business is cyclical since it is linked to its customers’ end-market activity. The construction cycle for new manufacturing capacity in the chemical industry has historically been quite pronounced. It is driven both by world economic demand growth and capacity utilization. As capacity starts to become tight for various chemicals and prices begin to rise, new manufacturing capacity is added in relatively large incremental amounts. Excess capacity drives prices down and capacity utilization drops.

 

Gross profit and cost of products sold

 

Cost of products sold for Explosive Metalworking include the cost of metals and alloys used to manufacture clad metal plates, the cost of explosives, employee compensation and benefits, freight, outside processing costs, depreciation of manufacturing facilities and equipment, manufacturing supplies and other manufacturing overhead expenses.

 

AMK Welding’s cost of products sold consists principally of employee compensation and benefits, welding supplies (wire and gas), depreciation of manufacturing facilities and equipment, outside services and other manufacturing overhead expenses.

 

Discontinued operations

 

In September 2004, we completed the sale of our Spin Forge division. On January 10, 2006, we sold our option rights to purchase the Spin Forge real estate to the property owner for $2,300. We recorded a pre-tax gain of approximately $2,197 on this transaction, which was reported as discontinued operations, net of related taxes, in the first quarter of 2006.

 

Income taxes

 

Our effective income tax rate decreased to 36.5% in the first quarter of 2006 from 37.5% in the first quarter of 2005. Income tax provisions on the earnings of Nobelclad and Nitro Metall AB (“Nitro Metall”) have been provided based upon the respective French and Swedish statutory tax rates. Our first quarter 2006 effective tax rate is higher than the full year 2005 and 2004 effective income tax rates of 33.5% and 30.8%, respectively, as a result of the recognition in 2005 and 2004 of U.S. tax benefits relating to research and development tax credits, extraterritorial income exclusions and foreign tax credits. Going forward, based upon existing tax regulations and current federal, state and foreign statutory tax rates, we expect our effective tax rate on our consolidated pre-tax income to range between 36% and 38%.

 

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Backlog

 

We use backlog as a primary means to measure the immediate outlook for our business. We define “backlog” at any given point in time to consist of all firm, unfulfilled purchase orders and commitments at that time. Generally speaking, we expect to fill most items of backlog within the following 12 months. From experience, most firm purchase orders and commitments are realized. However, since orders may be rescheduled or canceled, and a significant portion of our net sales is derived from a small number of customers, backlog is not necessarily indicative of future sales levels. Moreover, we cannot be sure of when during the future 12-month period we will be able to recognize revenue corresponding to our backlog; nor can we be sure that revenues corresponding to our backlog will not fall into periods beyond the 12-month horizon.

 

Our backlog with respect to the Explosion Metalworking segment was approximately $41,966 at December 31, 2005.

 

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Three Months Ended March 31, 2006 Compared to Three Months Ended March 31, 2005

 

Net sales

 

		Three Months Ended
		March 31,									Percentage
		2006			2005			Change			Change
Net sales		$	25,175		$	17,510		$	7,665		43.8	%

 

Net sales for the first quarter of 2006 increased 43.8% to $25,175 from $17,510 in the first quarter of 2005. Explosive Metalworking sales increased 42.5% to $24,176 in the first three months of 2006 (96% of total sales) from $16,967 in the same period of 2005 (97% of total sales). The Explosive Metalworking sales increase reflects a 50.3% increase in sales by our U.S.-based operations and a 27.6% U.S. dollar sales increase at Nobelclad Europe. The year-to-year increase in worldwide Explosive Metalworking sales is principally attributable to the improved economic condition of the industries that this business segment serves. Our net sales are likely to continue to fluctuate from quarter-to-quarter and, in light of the record results posted in the first quarter of 2006, we expect that our net sales for the second quarter may be somewhat lower than they were in the first quarter.

 

AMK Welding contributed $999 to first quarter 2006 sales (4% of total sales) versus sales of $543 in the first quarter of 2005 (3% of total sales).

 

Gross profit

 

		Three Months Ended
		March 31,									Percentage
		2006			2005			Change			Change
Gross profit		$	9,281		$	4,650		$	4,631		99.6	%
Consolidated gross profit margin rate		36.9		%	26.6		%

 

Gross profit increased by 99.6% to $9,281 for the three months ended March 31, 2006 from $4,650 for the three months ended March 31, 2005. Our first quarter 2006 consolidated gross profit margin rate increased to 36.9% from 26.6% in the first quarter of 2005. The gross profit margin for Explosive Metalworking increased from 27.7% in the first three months of 2005 to 37.4% in the first three months of 2006 and the gross profit margin for AMK Welding increased to 24.9% in the first quarter of 2006 from a negative 7.9% in the first quarter of 2005. The increased gross profit margin rate for Explosive Metalworking reflects gross margin rates of 39.1% and 33.5% in the first quarter of 2006 for our U.S.-based clad operations and Nobelclad Europe, respectively, as compared to gross margin rates of 30.1% and 22.9%, respectively, in 2005. The gross margin improvements for both Explosive Metalworking and AMK Welding relate primarily to the sales increases discussed above and the resultant more favorable absorption of fixed manufacturing overhead expenses. The Explosive Metalworking gross margin increase also reflects favorable changes in product mix and higher average prices in 2006, particularly with respect to our European operations. The gross profit margin typically fluctuates from one quarter to the next for various reasons, including a change in product mix. Our gross margins are likely to continue to fluctuate from quarter-to-quarter and, in light of the record results posted in the first quarter of 2006, we expect that our gross margins for the second quarter and the remainder of the year may be somewhat lower than they were in the first quarter.

 

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General and administrative expenses

 

		Three Months Ended
		March 31,									Percentage
		2006			2005			Change			Change
General & administrative expenses		$	1,527		$	809		$	718		88.8	%
Percentage of net sales		6.1		%	4.6		%

 

General and administrative expenses increased by $718, or 88.8%, to $1,527 in the first quarter of 2006 from $809 in the first quarter of 2005. This increase in general and administrative expenses reflects a $733 increase in our U.S. operations, which was partially offset by a $15 decrease in our European general and administrative expenses. Increases in our U.S. operations, which currently absorb all corporate headquarters expenses, reflect stock-based compensation of $307, an aggregate increase of $152 in audit, tax consulting and investor relations expenses, a $116 increase in accrued incentive compensation expense, and the impact of annual salary adjustments. The 2006 increases in audit, tax advisory, consulting and investor relations expenses relate primarily to continued compliance with the Sarbanes-Oxley Act of 2002, tax planning initiatives and increased investor relations activities. As a percentage of net sales, general and administrative expenses increased to 6.1% in the first quarter of 2006 from 4.6% in the first quarter of 2005.

 

Selling expenses

 

		Three Months Ended
		March 31,									Percentage
		2006			2005			Change			Change
Selling expenses		$	1,324		$	1,126		$	198		17.6	%
Percentage of net sales		5.3		%	6.4		%

 

Selling expenses increased by 17.6% to $1,324 in the first quarter of 2006 from $1,126 in the first quarter of 2005. The $198 increase in selling expenses reflects increases of $175 and $23 for our U.S. operations and European operations, respectively. Increased spending in our U.S. operations reflects $145 for sales commissions on a large export order, the impact of annual salary adjustments and higher travel expenses during the first quarter of 2006. As a result of the significant increase in 2006 net sales, selling expenses as a percentage of net sales decreased to 5.3% in the first quarter of 2006 from 6.4% in the first quarter of 2005.

 

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